Portfolio Changes - October 2018
The following changes have been made to the Blackmore Capital Australian Equity Income Portfolio.
Sold National Australia Bank (NAB)
While the Interim Royal Commission report did not make any formal recommendations (the Final Report is due in February 2019) the banking sector faces an extended period of regulatory scrutiny and reform. Indeed, the ease in which the retail banks delivered a decade of “positive jaws” (revenue growing faster than costs) is now under systemic threat. The rising cost of compliance measures coupled with the tightening of credit availability will greatly dampen banking revenue and earnings growth. Australian bank valuations still enjoy an “elevated” status compared to global peers based on the simple metrics of price to book, price earnings ratios’ and dividend yields. Dividend yields are higher because of elevated payout ratios (75-85%) compared to global peers (50-70%). Our divestment of NAB is driven by deteriorating industry trends and the belief that its current dividend pay-out ratio is unsustainable. Our preference is to reinvest the proceeds into businesses with more favourable operating trends and sustainable dividends.
Increased Coca-Cola Amatil (CCL)
Coca Cola's 1H18 earnings result highlighted that its Australian beverages division (58% of group EBIT) showed encouraging signs of improving earnings consistency. Reinvestment of cost savings supported a modest uplift in volumes. The New Zealand/Fiji division delivered a strong result in both volume and EBIT uplift. Despite making good progress on efficiency gains, CCL’s Indonesian business delivered a disappointing result that continues to be buffeted by low-price competitor products. Importantly, CCL management reiterated its medium-term earnings per share target of mid-single digit growth. CCL’s valuation remains undemanding trading on an enterprise value/EBITDA multiple of < 9 times, supported by an attractive dividend yield of c.4% and a fundamentally sound balance sheet.
Increased Event Hospitality & Entertainment (EVT)
We added to our position in EVT following its FY18 result, which delivered commendable earnings momentum. Trends in the core Hotels business remained solid, underpinned by both underlying earnings growth and gains on property revaluations. EVT’s balance sheet is in pristine shape with low levels of net debt and significant holdings in property. Valuation metrics remain attractive on both earnings and dividend yield multiples.
Increased QBE Insurance (QBE)
QBE is showing tangible signs of improving the quality and sustainability of its earnings. Under the stewardship of Pat Regan (CEO) a more disciplined approach is being implemented in capital allocation, cost control and pricing. The 1H18 result delivered an improvement in key operating metrics, aided by an uplift in premium rates across its business units. Improvements in underwriting standards, pricing and claims, should underpin the future “risk adjusted” returns of its businesses. With underlying trends showing signs of improvement coupled with the recommencement of a buy-back we have added to our position in QBE.
Increased ASX Ltd (ASX)
We added to the ASX holding following a 12% pull back in its share price since August. It reported 7% earnings growth at the FY18 result which was in line with market expectations, driven by growth in capital raisings, trading and demand for technical services. The cost outlook for FY19 however concerned some investors as ASX’s investment in growth and innovation steps up including Blockchain/Distributed Ledger Technology to replace CHESS in 2 ½ years. ASX continues to be a monopoly business with “sovereign asset” characteristics and we would be somewhat more concerned if the company were not investing early to protect this position. It has a strong record of growing earnings and dividends and its balance sheet retains considerable latency and is net cash excluding the retention of member funds. ASX’s earnings also stand to benefit from any increases in interest rates and market volatility.
Increased BHP Billiton (BHP) and Woodside Petroleum (WPL)
BHP offers a broad exposure to tier 1 energy and bulk commodity production and is at a relatively early stage in realising the benefits of greater capital discipline and improving operational efficiencies. Its assets are benefiting from China’s efforts to increase efficiency and reduce the environmental cost of industrial production by using higher grade inputs. Under new Chairman Ken Mackenzie it is also rationalising its asset base and plans to undertake capital management with the disposal of US onshore energy assets.
Woodside has improved returns to shareholders over recent years and has achieved considerable operational improvement at its operated assets. With appropriate capital discipline and balance sheet strength global energy companies have proved to be a strong source of equity income while offering portfolios a hedge against unanticipated strong rises in energy prices, which can have a pervasive effect on industrial company earnings. Woodside is alone in Australia’s larger energy companies in demonstrating these attributes