Event Core:
The Australian government recently publicised an $800 million grants program to stimulate collaboration on large scale manufacturing projects. Eligible projects are expected to claim sizable funding, which may amount to one-third of total project costs with grant caps between $20 million and $200 million.
Key Macro Indicators:
Capex is trending upwards: Total private new capital expenditure into manufacturing manifested an upward trend since March 2015 and widened by 13.0% PcP in March 2021 quarter. Significant capex contributing venues in the manufacturing segment were New South Wales, Victoria and Queensland.
Robust National Accounts: Amidst easing containment restrictions in Australia, GDP stood resilient and surged by 1.1% PcP in March 2021 quarter. Australia's terms of trade improved 15.4% PcP with GDP contribution being +4.0% with favourable export prices.
Household expenditure signalled recovery: Surged 1.2% PcP in March 2021, while remaining down by 1.5% against December 2019 quarter levels (pre-pandemic period).
Figure 1: Upward Trendline of Private New Capex in Manufacturing:
Source: Australian Bureau of Statistics, Analysis by Kalkine Group
Medical Products:
Capex Scenario: For the March 2021 quarter, capital expenditure in equipment and machinery for the healthcare and social assistance sector declined by 4.6% QoQ and by 10.2% PcP due to diversion in fund flow towards COVID-19 treatment and vaccination infrastructure.
The reasoning for Boosting Medical Products Manufacturing: In 2019, US exports of medical supplies and equipment to Australia clocked US$1.4 billion. Circa 80% of Australia's demand for medical devices and diagnostics is satisfied by imports, and almost entire medical products and technologies manufactured in Australia are exported.
Government Support: To explore demand-side opportunities, the government invests $36 million in the health products portal to expedite access to new therapies. The government aims to invest $29.9 million in build the capacity and preparedness of the National Medical Stockpile to access personal protective equipment.
Resources Technology and Critical Minerals Processing:
Overview of Constrictive Developments: Resource and energy industry exports are estimated to register $310 billion in FY21, a robust appraisal in the context of COVID-19 discrepancies. Iron ore earnings soared by around 50%, marking an all-time high on the back of uninterrupted production and a significant price surge. As a result, base metal prices have recovered to pre-pandemic levels.
Capex Statistics: Capex in mining activities inclined by 4.12% on QoQ and 0.7% on a PcP basis. Electricity, Gas, Water, and Waste industry capex rose by 2.3% on a QoQ basis but nosedived by 9.7% on a PcP basis.
Industry Vision: Global mining equipment is estimated to spawn US$165.8 billion in revenue by 2027. In June 2020, the government expanded the 'exploring for the future program' for four years with $125 million in funding to streamline industry exploration and investment activities.
Potential for Lithium-ion Metals: Spot spodumene prices have surged by 58% and stood at US$640/tonne for December 2020 to May 2021. Australia's lithium production is expected to clock 213,000 tonnes LCE in FY21, and export earnings are estimated to clock 1.4 million tonnes. Demand from auto manufacturers remains robust and expected to surge dramatically.
Figure 2: Quarterly Capex Movements in Mining Activities:
Source: Australian Bureau of Statistics, Analysis by Kalkine Group
Food and Beverage:
Brief Overview: In 2019-20, the food and beverage industry yielded $28.4 billion in gross value added amidst 14,400 businesses and delivering 229,000 employment positions. In 2018-19, food and beverage manufacturing registered $112.7 billion in total income. Being the single largest manufacturing sector, the food and beverage industry accounts for 27.9% of aggregate manufacturing turnover.
Takeaways from Agriculture, Fishery and Forestry Sector: Inputs feeding Australia's food and beverage industry arise from the country's agricultural, fishery and forestry sectors. The gross value of crops declined by 5% and stood at $28 billion, primarily driven by unpropitious YoY results from wheat (down 20%), vegetables (down by 4%) and cotton (down by 78%), and predominantly supported by 9% uptick in fruit & nuts, stable barley and 1% uptick in canola values.
Key Risks and Challenges:
ABS data on exploration spending suggest recovering capex in mining but at a marginal pace followed by downfall in COVID-19. Australia holds an undiversified portfolio of trade partners in the resources and energy industry, resulting in high systematic risks. Global competition remains significant in Lithium production in consequence of EV evolution. Discrepancies in labour supply may hinder labour-intensive operations, for instance, meat processing, fruit picking and shearing. Amidst COVID-19 uncertainties, possibilities of fund flow diversion from medical product manufacturing investments to COVID-19 infrastructure may hold.
Figure 3: Key Risks and Challenges:
Source: Analysis by Kalkine Group
Outlook
In FY21, Australian veterinary pharmaceutical manufacturing is estimated to clock $852 million in revenue and assuming a 5.4% annual growth rate. The Australian Bureau of Statistics estimated ~$36.94 billion in new capital expenditure in the mining industry, a 1.5% increase from previous estimates. A strong demand-pull in spodumene by FY22, complemented by price surge, may clock $2.0 billion in revenues, and by FY23, export earnings for lithium hydroxide are forecasted to increase to $2.5 billion. For FY22, the gross value of agriculture production is expected to descend from the record high to a still magnificent level of $65 billion. The gross value of exports is forecasted to heighten to $49.7 billion. Considering the development, we have figured out 4 stocks on ASX that are set to see the momentum.
(1) ALS Limited (Recommendation: Buy, Potential Upside: Low Double-Digit)
(M-cap: A$ 5.95 billion, Annual Dividend Yield: 1.87%)
Robust Growth Amidst COVID-19 Turmoil: ALS Limited (ASX: ALQ) is engaged in providing professional technical testing services to global minerals, life science, energy and industrial sectors. For FY21, revenue stood at ~$1,761 million, down by 5.2% YoY, primarily driven by a 2.1% decline in organic revenue amidst COVID-19 circumstances and negative impact of forex negative to the extent of 4.9%. EBIT margins improved by 62 bps and stood at 17.1%, while EBIT declined by 1.4% PcP.
On the balance sheet front in FY21, net debt reduced by $186 million and leverage ratio declined from 2.1x in March 2020 to 1.6x as of March 2021 with intact total liquidity of ~$650 million. EBITDA margins stood resilient and expanded with hub and spoke model in place, corporate cost reduction strategies and alignment of the cost base in line with client demands. Cash generation stood at 102%, consequent to high receivables turnover.
Outlook: Investment in capacity growth to facilitate growth demand in life sciences and geochemistry. Expectations for investment in greenfield operations including Australia (food), India (Pharmaceuticals) and the USA (Food). Accretive acquisition opportunities in life science, most in the pharmaceutical and food markets.
Valuation Methodology: EV/Sales Value Multiple Based Relative Valuation (Illustrative)
A-VIX vs ALQ (Source: REFINITIV)
Stock Recommendation: Over the last month, the stock of ALQ went down by ~2.379%. The stock made a 52-weeks' low and high of $6.655 and $13.320, respectively. The stock outperformed the market volatility index. We have valued the stock using the EV/Sales multiple based illustrative relative valuation method and arrived at a target price of low double-digit (in percentage terms). Moreover, we believe that the company can trade at a slight premium compared to its peer median, considering robust margins and a strong liquidity position. For this purpose, we have taken peers like Future First Technologies Ltd (ASX: FFT), Smartgroup Corporation Ltd (ASX: SIQ), IPH Ltd (ASX: IPH), to name a few. Considering the growth opportunities in the food & pharma space, investment capacity build-up, and valuation, we give a 'Buy' rating on the stock at the closing price of $12.310, down by 0.244% as of 12 July 2021.
(2) Carbon Revolution Limited (Recommendation: Speculative Buy, Potential Upside: Low Double-Digit)
(M-cap: A$ 236.66 million, Annual Dividend Yield: 0.00%)
Cost Saving Programs in Place to Achieve Positive Cash Flows: Carbon Revolution Limited (ASX: CBR) is a Geelong-based global technology company involved in auto ancillaries, specifically carbon fibre wheels. In FY20, total revenue increased to $38.9 million, up 158% PcP, consequent to increased wheel sales volume to 13,942. Gross margins improved with favourable product mix impact and increased sales volume. Operating cash outflow increased to $30.9 million in FY20 relative to $19.9 million outflow in FY19 due to increased working capital to satisfy business growth.
In H1FY21, revenue declined by 14.1% PcP and stood at $17.2 million due to a drop in the sales volume of wheels. Loss after tax decreased by 85% PcP to $14.8 million relative to $98.6 million in H1FY20. The cash balance, as of 31 December 2020, stood at $15.4 million. The interim results were significantly impacted by COVID-19 containment restrictions, which reduced production and sales, affecting gross margins.
Outlook: Despite COVID-19 discrepancies, the company made considerable progress in industrialisation and the commercialisation of new fascia technologies. CBR explores cost-saving measures with its investments in industrialised equipment. With the global demand of EV segments, CBR expects to underpin strong sales growth in FY21.
Valuation Methodology: EV/Sales Value Multiple Based Relative Valuation (Illustrative)
A-VIX vs CBR (Source: REFINITIV)
Stock Recommendation: Over the last month, the stock of CBR went down by ~12.214%. The stock made a 52-weeks' low and high of $1.060 and $3.048, respectively. The stock underperformed the market volatility index. We have valued the stock using the EV/Sales multiple based illustrative relative valuation method and arrived at a target price of low double-digit (in percentage terms). However, we believe that the company can trade at a slight discount compared to its peer's average, considering COVID-19 related impact and losses incurred. For this purpose, we have taken peers like GUD Holdings Ltd (ASX: GUD), ARB Corp Ltd (ASX: ARB), Betmakers Technology Group Ltd (ASX: BET), to name a few. Considering the positive earnings outlook, developing revenue drivers and cost-saving strategies, we give a 'Speculative Buy' rating on the stock at the closing price of $1.160, up by 0.869% as of 12 July 2021.
(3) Contact Energy Limited (Recommendation: Hold, Potential Upside: Low Double-Digit)
(M-cap: A$ 8.04 billion, Annual Dividend Yield: 4.17%)
Improving Fundamentals and Phasing-out From Uncertainties: Contact Energy Limited (ASX: CEN) is an integrated and diversified energy firm focusing on generating electricity and gas in New Zealand. In FY20, EBITDAF declined by 13% and stood at NZ$451 million due to rising costs of thermal generation, transmission constraints and reduction in fixed priced sales. Operating free cash flows per share and underlying profits declined by 15% and 27%, respectively.
In H1FY21, operating results witnessed recovery with operating free cash flows up by 31% (NZ$157 million) and EBITDAF up by 11% (NZ$246 million). Amidst uncertainties, CEN's active channel management, coupled with robust asset availability, resulted in higher wholesale prices and a prudent commodity risk management system. Generation costs were driven up by NZ$2 million (NZ$0.4/MWh) inconsequence of higher thermal fuel costs, partially offset by reduced transmission costs.
Recent Business Update: On 6 April 2021, CEN announced 100% stakes acquisition in Western Energy Services (WES), a contract drilling service provider in Taupo, NZ. Present credit facilities financed the deal, and the purchase price remains undisclosed.
Outlook: For FY21, CEN estimates total cash spend of NZ$250–265 million and generation of geothermal volumes of ~3,050 GWh. The estimated range for other operating costs and project capex stands at NZ$190–205 million and NZ$55–60 million, respectively.
Valuation Methodology: EV/Sales Value Multiple Based Relative Valuation (Illustrative)
A-VIX vs CEN (Source: REFINITIV)
Stock Recommendation: Over the last month, the stock of CEN went up by ~1.414%. The stock made a 52-weeks' low and high of $5.300 and $10.560, respectively. The stock outperformed the market volatility index. We have valued the stock using the EV/Sales multiple based illustrative relative valuation method and arrived at a target price of low double-digit (in percentage terms). Moreover, we believe that the company can trade at a slight premium compared to its peer median, considering robust fundamental recovery in H1FY21. For this purpose, we have taken peers like Origin Energy Ltd (ASX: ORG), Spark Infrastructure Group (ASX: SKI), AusNet Services Ltd (ASX: AST), to name a few. Considering the cost-saving strategies, prudent commodity price management, recent acquisition activity, and valuation, we give a 'Hold' rating on the stock at the closing price of $7.700, down by 2.409% as of 12 July 2021.
(4) United Malt Group Limited (Recommendation: Hold, Potential Upside: Low Double-Digit)
(M-cap: A$ 1.34 billion, Annual Dividend Yield: 0.00%)
Approaching Pre-COVID Levels: United Malt Group Limited (ASX: UMG) operates in the distillery business and is involved in producing, distributing, and warehousing malt. During FY20, revenue declined by a modest 2.1% and stood at ~$1.3 billion, and underlying EBITDA declined by 11.1% and stood at $156.1 million. The significant operational downgrade was warranted by changing the product mix to low margin products and lower sales volumes. However, despite EBITDA shortfalls, operating cash flows improved to $101.7 million from $93.0 million in FY19.
In H1FY21, revenue declined by 11% and stood at $590 million, and EBITDA declined by 32.3% and stood at $52.7 million. Unfavourable currency fluctuations and COVID-19 impact were the major deterioration factors. In addition, COVID-19 related costs, processing costs and container disruptions contributed $1.8 million, $6.9 million and a $2.2 million increase in operating expenses. In contrast, operating cash flows improved significantly to $22.8 million with cash conversion of 43% due to favourable interest expenses and better working capital management.
Outlook: Expectations for H2FY21 remains conservative while expecting volume recovery. Corporate costs are estimated to be $12 million, which includes high insurance costs. Net Debt/EBITDA metric is expected to be range-bound 2.0x - 2.5x in FY21. Capex for FY21 is expected to stick around $120 million. UMG is focused on optimising the core by expanding Scottish distilleries, penetration in the Mexican market, and developing Victoria's warehousing & distribution centre.
Valuation Methodology: EV/Sales Multiple Based Relative Valuation (Illustrative)
A-VIX vs UMG (Source: REFINITIV)
Stock Recommendation: Over the last month, the stock of UMG went down by ~0.448%. The stock made a 52-weeks' low and high of $3.530 and $4.970, respectively. As a result, the stock overperformed the market volatility index. We have valued the stock using the EV/Sales multiple based illustrative relative valuation method and arrived at a target price of low double-digit (in percentage terms). Moreover, we believe that the company can trade at a slight premium compared to its peer median, considering steady recovery to reach pre-COVID levels, high operating cash flows despite market turmoil and expansion strategies. For this purpose, we have taken peers such as Australian Vintage Ltd (ASX: AVGDA), Lark Distilling Co Ltd (ASX: LRK), Treasury Wine Estates Ltd (ASX: TWE), to name a few. Considering the positive long-term prospects, expansion strategies in Victoria, penetration into the Mexican market, and valuation, we give a 'Hold' rating on the stock at the closing price of $4.440, down by ~1.334% as on 12 July 2021.
Comparative Price Chart (Source: REFINITIV)
Note 1: The reference data in this report has been partly sourced from REFINITIV.
Note 2: Investment decisions should be made depending on investors’ appetite on upside potential, risks, holding duration, and any previous holdings. Investors can consider exiting from the stock of the Target Price mentioned as per the Valuation has been achieved and subject to factors discussed above.
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