The Australian economy began to recover since May after restrictions across various states were lifted in a phased manner after witnessing a steep contraction during the first half of 2020. In addition, fiscal and monetary policies have provided significant support during these unprecedented times, accelerating the healing process.
As Victoria recorded new COVID-19 cases, there has been a reinstatement of containment measures which is affecting recovery. Considering the current conditions, the RBA has put forward a baseline scenario, wherein restrictions in Victoria remain in place for six weeks and are gradually lifted. In other parts of the country, restrictions are assumed to be gradually lifted. However, the baseline scenario does not consider any relief from restrictions on international departures and arrival until mid-2021.
As per the above scenario, the Reserve Bank of Australia recently revised the GDP growth forecast for the year ended June 2021. The revised GDP growth for the period is estimated at 4%, as compared to the previous forecast of 7% growth. For the year ended December 2021, GDP is expected to grow at a rate of 5%, against the previously forecasted growth rate of 6%.
Output and Inflation Forecasts (Source: RBA)
Underlying Assumptions for the Forecasts: During the second half of 2020, GDP is expected to grow modestly, driven by household consumption. This assumption is, however, dependent entirely on how the households and businesses decide to utilise their savings. The RBA expects a recovery in household consumption, income and saving, based on the unwinding of restrictions across the majority of the states. With regards to business investment, a recovery in non-mining investment is uncertain. On the flip side, mining investment is expected to rise over the next year, led by work on iron ore and coal projects. Public consumption is expected to rise as a result of the government’s investment initiatives across transport infrastructure projects, health, aged care, etc. Service exports, which form a key driver of trade, are expected to recover after international trade restrictions are eased. As per the latest monetary policy, the RBA expects these restrictions to be eased around mid-2021, a delay of 2 quarters from the earlier assumption.
Inflation and Retail Price Trends: In the June quarter, CPI declined by 2%, owing majorly to the free availability of childcare and some pre-school services. After a rebound in fuel prices from their May low and a return of childcare and pre-school prices to normal levels, the RBA expects CPI Inflation to increase sharply in the September quarter. During the June quarter, some retail prices witnessed a strong increase. Prices for personal hygiene and cleaning products increased after demand spiked due to rising health concerns. Lockdown and remote working increased the demand and price for furniture and household appliances. During the first half of the quarter, food prices also rose sharply after demand increased sharply due to uncertainty regarding the lifting of social distancing restrictions and fear of shortage. By the end of the quarter, prices began to fall as consumers become accustomed to the new normal. After reporting a rise of 16.9% in May 2020, retail turnover increased by 2.7% in June 2020, on the back of a large month-on-month rise in sales in the cafes, restaurants and takeaway food services and clothing, footwear and personal accessory retailing. Online sales represented 9.7% of the total retail sales in June.
Commodity Prices: The resource sector, which is a major contributor to economic growth and GDP, has also seen an accelerated recovery. A pick-up in global demand for oil has led to a rise in oil prices lately. This is expected to support revenues of Australian LNG exporters who sell through long-term contracts linked to oil prices at a 1-2 quarter lag. Increased demand for iron ore from China and subdued supply from Brazil significantly increased the prices for Australian iron ore. Lifting of restrictions across countries has supported a recovery in base metal prices and industrial activity. Notably, copper which is a key input in industrial processes has recovered sharply. In addition, gold prices have continued to increase during this tough period due to increased investor preference for safe assets.
Risks: The RBA expects employment and hours worked to rise slightly over the second half of the year in most of the country. However, restrictions in Victoria and job losses are likely to offset this growth. Headline inflation is expected to rebound in the second half, after a sharp fall in 1H 2020. According to the RBA, further outbreaks of COVID infections and added restrictions are the key risks to economic recovery. Any such event is expected to weigh heavily on household and business confidence. Uncertainty of demand can compel the businesses to cut down on investment plans, which, in turn, can delay recovery in non-mining investment. Last but not the least, the stress around geopolitical tensions, including US-China trade and technology tensions is spreading across other parts of the world, which can derail the global recovery.
The recovery in prices for various consumer goods, easing of social distancing restrictions, rise in outdoor activities, increased mining investment, and favorable movements in commodity prices, has boosted the optimism around economic recovery. However, these factors are threatened by several risk factors, discussed in the above section, which can delay the recovery process. Considering the above factors, let us have a look at a few stocks, which possess a decent foundation and the required capabilities to weather out the negative impacts of COVID-19.
1. Coca-Cola Amatil Limited (Recommendation: Buy, Potential Upside: Low Double-Digit)
(M-cap: A$ 6.13 Billion, Annual Dividend Yield: 5.55%)
Resilient Performance Amid COVID-19 Pandemic: Coca-Cola Amatil Limited (ASX: CCL) manufactures, distributes, and markets beverages. During FY19, the company witnessed a strong trading revenue growth from continuing operations of 6.7% and a growth of 31.9% in EBIT to $603.4 million. On 23 July 2020, the company updated the market regarding its 1HFY19, FY19, and FY18 segment financial results, indicating changes to its segment reporting stemming from the Alcohol & Coffee business integration across each geographic segment. As per the modification, the Australian Alcohol & Coffee business was merged into the existing Australia segment, whereas New Zealand and Fijian-based Alcohol businesses amalgamated into the existing New Zealand & Fiji segment. The company also stated that the changes to segment reporting will be reflected in the forthcoming results of 1HFY20, to be declared on 20 August 2020.
Outlook: The company believes that its strong balance sheet, ample liquidity, robust cashflows as well as solid credit ratings place it in a decent financial and operational position to trade through the uncertain period and emerge as a stronger and better business. It is to be noted that due to the adverse impact of COVID-19, the company is predicting non-cash impairments for 1HFY20 to be in the ambit of $160-190 million. However, the company has seen strong growth in the grocery channel as consumers stocked up essentials. CCL is maintaining a conservative balance sheet with the flexibility to fund future growth opportunities.
In a recent trading update, the company stated that it has witnessed improvements in the month of June 2020 reflecting ease from the COVID-19 restrictions in all of its markets. In Indonesia, trading in 2QFY20 has witnessed a decline of around 23% in volume on the pcp, which reflects an improvement on the May 2020 and April 2020 decline rate. The company’s business has demonstrated resilience and the ability to partially mitigate the adverse impact of the disruptions through its flexible routes to market, diverse channels, disciplined financial management and the strength of its brands.
Key Risks: The company is mainly exposed to beverage industry risk, which arises from the fundamental shifts in the beverage and macroeconomic landscape. These include changing consumer trends, increasing margin pressure as manufacturer margins are squeezed by major retailers, a fragmented and price competitive trading environment, digital disruption to supply chain, etc. Moreover, termination of agreements with key brand partners like The Coca-Cola Company or unfavourable renewal terms can adversely impact the company’s profitability.
Valuation Methodology: EV/EBITDA Multiple Based Relative Valuation (Illustrative)
EV/EBITDA Multiple Based Relative Valuation (Source: Refinitiv, Thomson Reuters)
Note: All forecasted figures and peers have been taken from Thomson Reuters, NTM-Next Twelve Months
A-VIX vs CCL (Source: Refinitiv, Thomson Reuters)
Stock Recommendation: In the last six months, the stock has corrected by 29.36% on ASX and is currently trading below the average of its 52-week trading range of $7.77 - $13.18. The company ended the March 2020 quarter with ample liquidity, robust cashflows. In addition, the Group also possesses strong credit ratings. The stock price has witnessed stable movements in the last few months, depicting the resilience of the business. The healthy balance sheet, ample liquidity and solid credit rating provide a decent operational and financial position to CCL. The above factors are expected to drive the stock price, going forward. We have valued the stock using the EV/EBITDA multiple based illustrative relative valuation method and arrived at a target price of low double-digit upside (in percentage terms). Hence, we give a “Buy” recommendation on the stock at the current market price of $8.65, up 2.125% on 10th August 2020.
2. Whitehaven Coal Limited (Recommendation: Buy, Potential Upside: Low Double-Digit)
(M-cap: A$ 1.41 Billion, Annual Dividend Yield: 10.58%)
Record Production in June Quarter: Whitehaven Coal Limited (ASX: WHC) is engaged in the development and operation of coal mines in New South Wales. During the quarter ended 30th June 2020, the company reported record managed ROM coal production of 8.2Mt, up 17% on pcp, in line with the guidance despite several challenges. Managed saleable coal production also stood at record levels of 6.2Mt, representing a rise of 29% on pcp. FY20 managed ROM coal production and managed coal sales met the guidance and stood at 20.6Mt and 17.5 Mt, respectively.
Outlook: Amid the uncertain global environment, the company is focused on optimizing existing operations and ensuring disciplined capital management. Its Vickery Project is now in the final stages of the evaluation process, with a decision expected in the coming weeks. The company expects to provide FY21 ROM coal production and sales along with other relevant forecasts, in the FY20 results release on 26th August 2020.
Despite the impact of COVID-19 on the global demand for coal and softening of prices, the company has demonstrated resilience with a record performance in the June quarter. Its operations largely remained unaffected by the pandemic, with no known cases of COVID-19. As at 30th June 2020, the company had US$78.34 million in forward A$/US$ exchange contracts for equity coal sales of ~1.2Mt, at an average exchange rate of 1 AUD = 0.64350 USD. Therefore, as industrial activity slowly picks pace, the company will be able to redeem its strengths in full capacity for the benefits of shareholders.
Key Risks: The company’s future prospects are threatened by volatility in coal prices which can impact the financial performance. Any adverse fluctuations in the US$/A$ exchange rate can impact the financial position as the company’s sales a predominantly denominated in US dollars. In addition, adverse weather conditions or natural disasters may impact coal mining operations, delaying production and deliveries.
Valuation Methodology: EV/EBITDA Multiple Based Relative Valuation (Illustrative)
EV/EBITDA Multiple Based Relative Valuation (Source: Refinitiv, Thomson Reuters)
Note: All forecasted figures and peers have been taken from Thomson Reuters, NTM-Next Twelve Months
A-VIX vs WHC (Source: Refinitiv, Thomson Reuters)
Stock Recommendation: In the last three months, the stock has corrected by 22.38% on ASX and is currently trading close to its 52-week low of $1.315. Despite the challenging market conditions and unfavorable demand and price trends, the company has demonstrated a robust performance in the June quarter. WHC’s robust performance and ongoing developments across the platform are expected to be the key catalysts driving the stock, going forward. We have valued the stock using the EV/EBITDA multiple based illustrative relative valuation method and arrived at a target price of low double-digit upside (in percentage terms). Hence, we give a “Buy” recommendation on the stock at the current market price of $1.4, up 2.19% on 10th August 2020.
3. GrainCorp Limited (Recommendation: Speculative Buy, Potential Upside: Low Double-Digit)
(M-cap: A$ 890.25 Million, Annual Dividend Yield: NA)
Substantial Turnaround in 1HFY20: GrainCorp Limited (ASX: GNC) offers a diverse range of products and services across the food and beverage supply chain. During the half-year ended 31st March 2020, the company reported improved financial performance, with underlying EBITDA amounting to $183 million, up from $27 million in pcp. Underlying NPAT came in at $55 million, up from a loss of $48 million. Apart from this substantial turnaround, the company also had a robust balance sheet at the end of the period, with zero core debt.
Outlook: The company has maintained resilience through COVID-19 and is building momentum for a larger winter crop in FY21. It has carried out widespread winter planting supported by favourable soil moisture levels across large parts of eastern Australia, which seems to be well-positioned to benefit in FY21. Although the summer crop is small, the company expects higher grain exports in the second half.
The Australian Bureau of Agricultural and Resource Economics and Sciences (ABARES) expects farm production to witness a strong increase by 2020/21, on the back of a strong recovery in production of winter crops, such as wheat and canola. In the above-mentioned scenario, the company’s resilience and careful planning are expected to yield positive returns in the near future.
Key Risks: Grain production can be impacted by weather conditions, which can impact the company’s volumes. The company is mostly exposed to climate variability risk in eastern Australia. Failure to comply with laws and regulations in countries where the company operates is another threat to performance. Moreover, any disruptions in rail transportation services may adversely impact the company’s operations and financial results.
Valuation Methodology: P/E Multiple Based Relative Valuation (Illustrative)
P/E Multiple Based Relative Valuation (Source: Refinitiv, Thomson Reuters)
Note: All forecasted figures and peers have been taken from Thomson Reuters, NTM-Next Twelve Months
A-VIX vs GNC (Source: Refinitiv, Thomson Reuters)
Stock Recommendation: In the last one month, the stock has corrected by 5.58% on ASX and is currently trading below the average of its 52-week trading range of $2.81 - $6.47. The stock of the company has witnessed a decent trajectory after the market fallout in March 2020. Going forward, the company’s decent capabilities, optimistic crop outlook, and a robust balance sheet will be the key performance drivers. We have valued the stock using the P/E multiple based illustrative relative valuation method and arrived at a target price of low double-digit upside (in percentage terms). Hence, we give a “Speculative Buy” recommendation on the stock at the current market price of $3.85, down 1.028% on 10th August 2020.
4. Harvey Norman Holdings Limited (Recommendation: Hold, Potential Upside: Low Double-Digit)
(M-cap: A$ 4.95 Billion, Annual Dividend Yield: 8.31%)
Retail Trading Update: Harvey Norman Holdings Limited (ASX: HVN) is primarily involved in the operation of integrated retail, franchise, property, and digital enterprise business. The company recently released a retail trading update for its stores, wherein it stated that total sales to 31st May 2020 increased by 7.4% in comparison to the prior corresponding period. This came on the back of the company’s products, which serve the essential needs of customers. Despite store closures due to COVID-19 containment measures, the company continued to generate sales via the online channel. During 1HFY20 ended 31st December 2019, the company reported a record offshore retail revenue of $1.15 billion.
Outlook: Going forward, the company expects its products to continue to serve its loyal customers while navigating through uncertain times. On 29th June 2020, the company paid a fully franked special dividend of 6 cents per share. The company expects to release FY20 full year results on 28th August 2020. The company also notified that the unaudited preliminary accounts for the period 1 July 2019 to 31 May 2020 indicate an increase of ~20% in profit before tax and non-controlling interests on pcp, excluding AASB16 Leases net impact and net property revaluation adjustments.
According to the recent retail trends, the demand for household goods such as furniture, consumer electronics, appliances, etc., has been favorable, despite an uncertain economic environment. As the consumers stayed at home during lockdowns, the demand for such goods has witnessed a rise. Moreover, after conditions stabilize and the economy opens, the demand for such goods is expected to remain intact. Henceforth, the above trends are expected to positively impact the company’s retail business.
Key Risks: The company may witness a decline of retail margin or lose market share as a result of stiff competition in the industry. Inability of service providers to meet their obligations towards the company can impact performance. In addition, the business runs the risk of breach of terms and conditions by franchisees which can cause damage to the brand name.
Valuation Methodology: P/CF Multiple Based Relative Valuation (Illustrative)
P/CF Multiple Based Relative Valuation (Source: Refinitiv, Thomson Reuters)
Note: All forecasted figures and peers have been taken from Thomson Reuters, NTM-Next Twelve Months
A-VIX vs HVN (Source: Refinitiv, Thomson Reuters)
Stock Recommendation: In the last three months, the stock gave positive returns of 42.22% on ASX. After witnessing a sharp fall led by COVID-19, the stock price has demonstrated a decent trend, backed by continued demand for consumer essentials. The strength of the business and positive retail trends will be the key catalysts driving the stock, going forward. We have valued the stock using the Price to Cash Flow multiple based illustrative relative valuation method and arrived at a target price of low double-digit upside (in percentage terms). Hence, we give a “Hold” recommendation on the stock at the current market price of $4.07, up 2.519% on 10th August 2020.
5. OZ Minerals Limited (Recommendation: Hold, Potential Upside: Single Digit)
(M-cap: A$ 4.53 Billion, Annual Dividend Yield: 1.65%)
Solid Production Performance: OZ Minerals Limited (ASX: OZL) is engaged in the mining and processing of ore containing copper, gold, and silver; sales of concentrate; exploration and the development of mining projects. The company recently reported the second quarter results for the period ended 30th June 2020. Despite several restrictions due to COVID-19, OZL delivered solid production. Gold and copper production for the quarter stood at 68,740 ounces and 24,577 tonnes, respectively. As a result of a strong first half performance, the company upgraded FY20 production guidance and reduced the guidance range for C1 Cash Costs and All-in Sustaining Costs.
Outlook: For FY20, the company expects copper production in the range of 88,000 – 105,000 tonnes. Gold production is estimated between 227,000 – 249,000 ounces. C1 Cash Costs for the year are expected to fall in the range of 10 – 25 US cents/lb and AISC is estimated between 70 – 85 US cents/lb. A strong performance at the Carrapateena Province has boosted the confidence to partially release deferred funding from COVID-19 review. The company expects to release its H1FY20 results on 19th August 2020.
As economies eased containment measures and industrial activity began to recover, base metal prices have started to witness favorable trends. Copper, which forms a key input in various industrial processes, has recovered from its falls earlier in the year. Moreover, gold, being a safe haven during these unprecedented times, has also witnessed an increase in price. The above trends in conjunction with OZL’s robust ongoing performance, are likely to work in favor of the business and its stakeholders.
Key Risks: The business is exposed to the risk of climate change which can disrupt mine production, logistics, and water supply. Political uncertainty, trade protectionism, and changes in relations between countries can impact the Company’s ability to access resources and markets. Moreover, operating only one material asset lacks the advantages of diversification. Hence, major operational failures can cost a lot for the company.
Valuation Methodology: P/CF Multiple Based Relative Valuation (Illustrative)
P/CF Multiple Based Relative Valuation (Source: Refinitiv, Thomson Reuters)
Note: All forecasted figures and peers have been taken from Thomson Reuters, NTM-Next Twelve Months
A-VIX vs OZL (Source: Refinitiv, Thomson Reuters)
Stock Recommendation: In the last six months, the stock gave returns of 36.90% on ASX and is currently trading close to its 52-week high of $14.22. At the end of the first half, the company had a robust financial position with $15 million in net cash and ample liquidity with a revolving credit facility of $480 million. The stock has depicted a remarkable performance, as seen in the sharp rise in price, May onwards. This is attributable to the company’s strong production performance and a consequent guidance upgrade. Considering the company’s position in the market and the relevance of the mining sector for the overall economy, we see further potential in the stock. We have valued the stock using the P/CF multiple based illustrative relative valuation method and arrived at a target price of single-digit upside (in percentage terms). Hence, we give a “Hold” rating on the stock at the current market price of $13.89, down 0.43% on 10th August 2020.
Comparative Price Chart (Source: Refinitiv, Thomson Reuters)
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