AGL Energy (AGL) and Boral (BOR) delivered better-than-expected earnings reports last week. AGL’s underlying profit for the first half rose by 24.2%, while Boral’s rose by 23%, compared to the corresponding period in 2015. Both companies are in our model portfolios (growth and income), and in this article, we look at how you might want to play them going forward.
AGL Energy
AGL has been one of the better performing stocks over the last 12 months. Apart from company factors, it has benefitted from the switch to more defensive sectors like utilities, where the annuity characteristics become highly prized, particularly as government bond rates tumble. For the year to the end of January, the utilities sector (in price terms) rose by 11.5% compared to the broader S&P/ASX 200, which fell by 10.4%.
For AGL, it is up from $14.88 a year ago to $18.20 on Friday, an increase of 22.3%. It is up a little bit this calendar year, and on Wednesday last week, it very briefly touched $19.65.
[1]Source: Yahoo!7 Finance, 15 February 2016
AGL’s underlying profit for the half year rose by 24% to $375m. It benefitted from higher electricity generation volumes, higher wholesale electricity prices and a lift in margin from the consumer market through disciplined price management. Savings in opex also assisted.
It is working hard to improve its balance sheet through a programme of reducing working capital, reducing sustaining capital expenditure and a targeted asset sale program.
AGL reconfirmed guidance for the full year, saying that underlying profit should now be “in the upper half” of the range of $650m to $720m. The interim dividend was raised by 2 cents to 32 cents per share.
While AGL presently makes most of its money out of power generation, it is undertaking a long-term transformation program from power producer and distributor to energy services provider.
It plans to be at the forefront of what it calls “new energy” – the provision of services to consumers producing their own roof top solar, with things like metering services and energy storage, electrical vehicle services, and other initiatives in the renewables industry. It will close its coal-fired power stations by 2050, with Liddell in the Hunter Valley to close by 2022. Further, it won’t commission any new station or extend the life of any existing asset. It is also exiting coal seam gas, with these results including an impairment of almost $800m to cover this.
Transformation of this nature obviously carries considerable risk, and although it is over a multi year/decade time horizon, is likely to be a drag on earnings in the short to medium term. The New Energy Business division lost $8m in this half.
According to FN Arena, the Brokers are reasonably positive on AGL, with sentiment at +0.4 (scale -1.0 is most negative, +1.0 is most positive). While there were two downgrades following the result, with Credit Suisse going from outperform to neutral and UBS from buy to neutral, it was largely on the back of AGL trading in line with valuation (albeit pretty briefly on Wednesday). Overall, the brokers have a consensus target price of $19.52 on AGL.
For a utility stock, AGL is not cheap, trading on a multiple of 16.9 times FY16 earnings and 15.1 times FY17 earnings. Full year fully franked dividends of 68 cents per share are expected, placing it on a yield of 3.7%.
If the market continues to trade skittishly, utility stocks aren’t going to get sold off. However, if the market starts to rally, stocks like AGL will lag in any upswing. It is fairly fully priced and there is execution risk in regard to its long-term transformation. Take profits in strength.
Boral
Boral shares rose from $5.14 the day prior to the announcement of its half-year result, to close on Friday at $5.61. It is, however, still a long way from its 52-week high of $6.90 in August.
[2]
Source: Yahoo!7 Finance, 15 February 2016
Earnings for the half-year were marginally better than expected, with underling net profit after tax up 23% to $137m.
The interim dividend was increased from 8.5 cents to 11.0 cents per share.
The market liked the margin expansion from operational and cost efficiencies in its largest division, the construction materials and cement business in Australia, as well as the improved contribution from Boral’s 50% gypsum joint venture.
The company also painted a reasonably optimistic outlook, pointing to the pick-up in major road and infrastructure spending in Australia.
It said: “we expect a continued strong result (for FY2016) with marginally higher underlying earnings from construction materials and cement; marginally higher reported earnings from building products; underlying growth from the gypsum JV; and earnings from Boral USA to strengthen in line with market recovery”.
Boral is turnaround story, with chief executive Mike Kane executing a ‘’Fix, Execute and Transform” program that started in 2013. This has seen a streamlining of the organization, divestment of assets, cost reductions and a reduction in capital spending.
[3]With the “Fix” part of the strategy on track and progress being made on improving efficiency, the challenge going forward will be to transform the company such that it really is positioned for growth.
The Boral team also needs to continue to lift its ROFE (Return on Funds Employed), which although improving, still stand at a poor 8.6%.
[4]The Brokers are relatively upbeat on Boral, with a sentiment ranking of +0.6. According to FN Arena, the consensus target price is $6.17. Boral is trading on a multiple of 16.4 times FY16 earnings, and 14.6 times FY17 earnings, with a prospective fully franked dividend yield of 3.9%.
Boral doesn’t stand out as a “screaming buy”. Pricing is ok, but not fabulous. Rather, it is a bit of a bet on the infrastructure cycle in Australia of roads, highways, bridges and subdivisions, ongoing market recovery of the housing market in the USA, and on the chief executive, Mike Kane, delivering on his program. Buy in weakness.
Important: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Consider the appropriateness of the information in regards to your circumstances.