Recent changes to the Blended Australian Equities Portfolio & Australian Equities Income Portfolio
Purchased Spark New Zealand Ltd (SPK)
We recently added Spark NZ back to the portfolios following its FY19 result, which showed cost discipline and modest revenue growth, while the company committed to maintaining its 25 cents per share dividend for a prospective yield of 6%. Spark NZ (formerly Telecom NZ) is the incumbent provider of digital communication services in New Zealand including mobile, broadband, entertainment media and cloud services.
Its FY19 result saw modest earnings growth from increased share of mobile revenue and connections through increased uptake of unlimited data plans, growing wireless broadband services and ongoing investment in preparation for the roll out of 5G mobile services. Revenue growth in Mobile (+2.7%), Broadband (+3.0%) and Cloud (+8.1%) offset ongoing decline in traditional voice revenue (-18%), while lower costs (-2.4%) improved gross margin and resulted in a 2.2% increase in net profit. Cost reductions are expected to continue in FY20 and free cash flow conversion to rise above 95%, underpinning the dividend guidance mentioned above.
We view the structure of Spark NZ’s markets more favourably than the communications markets in Australia, which combined with conservative leverage at c.1.2 times EBITDAI provides greater dividend sustainability than some comparable Australian companies.
Recent changes to the Australian Equities Income Portfolio
Purchased National Australia Bank (NAB)
The prospect of further interest rate cuts by the Reserve Bank of Australia has garnished the appeal for higher dividend yielding companies. We have re-introduced National Australia Bank (NAB) after an extended absence in the Australian Income Portfolio. A rejuvenated board and management team and the rebasing of its dividend to more sustainable levels should provide impetus for NAB to deliver more sustainable investment returns. In its most recent quarterly result NAB delivered “slightly higher group margins”, a commendable outcome in the current challenging banking environment. While loan growth is expected to remain at historically low levels, we feel that the regulatory imposts are now adequately recognised, and impairments have remained largely benign.
NAB is trading at 13.5 times FY20 price earnings ratio and a dividend yield of 6%, fully franked. NAB’s action at its 1H19 result to reduce its elevated payout ratio provides confidence that its dividend is now sustainable, providing investors with an attractive dividend yield.
Purchased Skycity Entertainment Group (SKC)
SkyCity Entertainment Group (SKC) is New Zealand’s largest tourism, leisure and entertainment company. It is listed on both the New Zealand (NZX) and Australian (ASX) stock exchanges. SKC is one of three major publicly listed casino operators in Australasia. SkyCity operates integrated entertainment complexes in New Zealand (Auckland, Hamilton & Queenstown) and in Australia (Adelaide).
For the 2019 financial year SKC reported a normalised Net Profit of NZ$173m marginally ahead of consensus estimates. SkyCity Auckland (80% of group turnover) delivered solid top-line trends. The completion of SkyCity Auckland/SkyCity Adelaide capital investment program is expected to deliver an attractive uplift in returns and improve free cashflow.
There is also scope for returns to benefit form management’s greater focus on enhancing portfolio returns via the divestment of its SkyCity Darwin property and sale of its Auckland car parks. These transactions will release significant capital (c.$450 million) with proceeds used to reduce gearing levels.
Overall, valuation multiples look undemanding with SKT trading on c.10 times EV/EBITDA multiple coupled with a 5% dividend yield. A combination of surplus cash due to asset sales saw SKC proceed with an on-market share buy back of up to 5% of issued capital.
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