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The Experts

Paul Rickard
+ About Paul Rickard

Paul Rickard has more than 25 years’ experience in financial services and banking, including 20 years with the Commonwealth Bank Group in senior leadership roles. Paul was the founding Managing Director and CEO of CommSec, and was named Australian ‘Stockbroker of the Year’ in 2005.

In 2012, Paul teamed up with Peter Switzer to launch the Switzer Super Report, a newsletter and website for the trustees of SMSFs. A regular commentator in the media, investment advisor and company director, he is also a Non-Executive Director of Tyro Payments Ltd and Property Exchange Australia Ltd.

Follow Paul on Twitter @PaulRickard17

TPG - executing on strategy, but out of favour

Thursday, March 23, 2017

By Paul Rickard

Listed telco TPG Telecom delivered a very solid first-half result on Tuesday that beat expectations, but that wasn’t enough for brokers Ord Minnett or Credit Suisse, who immediately downgraded TPG to “lighten” and “underperform” respectively. While the telco business is a tough game at the moment, the downgrades and negativity about the sector are a reminder about how quickly market sentiment changes, and potentially, creates opportunities for contrarian investors. 

Notwithstanding the broker downgrades, the share market was a bit more positive, with TPG’s shares closing yesterday at $6.79, up 2.6% since the result was announced. But the share price is still down more than 47% on the high of $12.93 achieved just last July!

TPG Telecom (TPM) - March 2016-March 2016 


Source: Nabtrade

TPG’s share price woes aren’t unique, with other telcos under pressure due to concerns about pressure on margins. The ASX telecommunications sector, which is largely Telstra plus Vocus and TPG, had a horrid start to 2017. After being the worst performing sector on the ASX in 2016 with a return of minus 7.1%, it is already down another 6.9% (including dividends) this year.

So, is there any light at the end of the tunnel for TPG, and is it a “contrarian” buy?

First half result

TPG reported underlying EBITDA growth of 13% to $417.6m for the first half. This was achieved on revenue growth of 7% to $1,235m.

Each of TPG’s three Australian divisions grew revenue and increased EBITDA. The consumer business, which is largely a broadband business under the TPG brand, increased EBITDA by 8%, while iiNet, which TPG acquired in late 2015 and is mainly broadband and fixed voice, grew EBITDA by 26% to $141.7m. The corporate division, which includes the old AAPT business and provides data/internet and voice services to corporate customers, grew EBITDA by 8%.  

Highlights of the result included:

  • The contribution from iiNet (organic EBITDA up by $14.7m);
  • Group broadband subscribers growing in total to 1.9m (up 69,000 on 31/1/16 and 43,000 on 31/7/16). There are now 388,000 subscribers on the NBN, up 112,000 over the last 6 months;
  • TPG’s new FTTB (fibre to the basement) service, which attracted 24,000 customers;
  • Broadband ARPU (average revenue per user) remaining relatively stable. For example, TPG  ARPU for NBN fell from $67.40 to $67.10 compared to the corresponding half in 2016, while iiNet ARPU for NBN rose from $70.90 to $72.80 over this period; and
  • Strong sales of on-net data and internet services driving growth in the Corporate Division.

The company re-affirmed guidance of underlying EBITDA for the full year of $820m to $830m.

The Brokers

The Brokers see potential upside in the stock, with the current consensus target price at $7.89 representing a 16.1% premium to the current share price. However, their recommendations are quite varied, with three buys, three sells and two neutrals. According to FNArena, individual recommendations and target prices from the major brokers are as follows:

Many brokers think that the guidance is conservative, and although it will be more challenging to extract synergies and cost reductions from the iiNet business in the second half, TPG should come in at the top side of the range.

Another upside are spectrum auctions and a decision on mobile roaming by the ACCC, which brokers say may be a catalyst for TPG to build a mobile business. Currently, TPG has a small mobile business, effectively reselling and rebadging services from Optus (and moving to Vodafone). While this could be a long-term opportunity, the brokers are worried about the capital expenditure to develop and roll-out a metro centric mobile business. TPG has also recently acquired spectrum in Singapore and plans to build a network in that market.

The major concern for the brokers is the potential for a margin crunch, as broadband subscribers are migrated off TPG’s and iiNet’s ADSL networks to the NBN. With Telstra, Optus, Vodafone and TPG becoming retailers and NBN the monopoly wholesale supplier, brokers fear that ARPU will decrease as the four major providers and new entrants compete for subscribers. While the wholesale margin will also not be available on customers who switch to the NBN (TPG’s new FTTB service will compete head on with the NBN), there will be an opportunity to “upsell” customers to a higher margin plan that provides higher download speeds. 

My view

The risk with margin crunch is real and it is unlikely that the market is going to stop worrying about this in the short term. It is not really “new news” and I am not sure why the market wasn’t concerned when the share price got close to $13.00, but “group think” prevails and the telco sector is on the nose. Time will tell how this plays out.

That said, TPG is executing well and the almost halving of the share price is an incredible re-assessment of value for a company that is meeting its targets.

TPG is reasonably priced, trading on a forecast multiple of 14.0 times FY17 earnings and 14.3 times FY18 earnings (the brokers are forecasting earnings to fall marginally in FY18). But I am a believer in management track record and TPG boasts a strong record. Although growth has been partly driven by acquisition, the following charts are quite impressive. 

And while the opportunities for mobile networks in Singapore and/or Australia are likely to require capital and may take some years to show fruition, David Teoh and his team at TPG are very competent operators.

A contrarian buy.

ImportantThis 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.

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Super charging the housing market

Thursday, March 16, 2017

By Paul Rickard 

I have argued for some years that young people should be able to access part of their super to help fund the deposit on their first home (see articles in Switzer Daily here and here). And just when I thought the “housing affordability” debate was getting a little weary and needing to catch breath, Treasurer Scott Morrison reignited it by floating the idea that accessing super early could help.

Of course, the super industry put vested interests to one side and came out strongly against the idea. Sally Loane, the CEO of the Financial Services Council, which is a lobby group for the retail super funds, said that “we do not support diluting people’s retirement nest eggs to solve a housing affordability issue”. The Association of Super Funds of Australia urged the government to “tread warily”.

But retirement “liveability” doesn’t just depend on a person’s super savings, it depends almost as much on whether the person is a homeowner or a renter. While accessing super early is not the panacea to housing affordability - new supply is probably the major issue - there is no ‘in principle’ reason why a compulsory system of saving like super can’t work “hand in glove” to help participants address their other retirement challenge.

Moreover, I am a big fan of making super more relevant to the young - one of the biggest and least talked about issues confronting the super industry.

Making super more relevant

Without a purpose, super doesn’t have a lot of value. For a 25-year old who faces the prospect of retirement in 50 years’ time in 2067 at age 70 or 75, super adequacy is a problem that is in the “never never”. Retirement is just so far out. There are far more pressing priorities, like finding a place to live, finding a partner, building a career and the myriad of life challenges.  

With capital city house prices, in particular Sydney and Melbourne, now at such high levels, the deposit gap is a huge challenge for many young Australians. Raising the 20% deposit of $80,000 on a home worth $400,000 (well below the median house price in those cities) is no small ask – and if part of a super balance can help here, this will give super an immediate purpose. There is a reason now to make contributions.

Secondly, it will encourage young Australians to think about their super – how the funds are invested, what returns they are getting, how many super accounts they have. The fact that there are 28 million super accounts - roughly two accounts for every working Australian - chewing up fees and costs shows how irrelevant super is to many people. 

Finally, it will put pressure on the high fees charged by our super managers. More interest by superannuants means more scrutiny on the super managers and ultimately, downward pressure on fees. Further, young adults might start to question the absurd proposition of life insurance that many are forced to take and pay for – despite not having a dependent in sight. 

How would early access to super work?

There are several models about how early access to super might work - here are my thoughts. Importantly, it is not open slather, and it is capped.  

Firstly, the amount a young adult (under 35) could withdraw would be capped – say a lifetime limit of $50,000. And they wouldn’t be able to withdraw their entire super – the amount taken for a deposit would be no more than 50% of their super balance.

Next, the amount withdrawn would be paid directly by the super fund to the property vendor. Finally, and importantly, the super fund would take out a charge on the property – let’s call it a ‘super caveat’ or ‘second mortgage’, such that if the property was sold, the super monies would be returned in full to the super fund before any monies from the sale were repaid to the member.

What are the arguments against?

Setting aside the argument that it is not the purpose of the super system (which to me sounds like one generation paternalistically lecturing the next generation), the other arguments raised are that it will crush a person’s super savings in retirement and it could inflate an already hot property market.  

The former is put out by the super industry lobby, who of course abhor anything that might upset the super fee gravy train. They have produced some pretty horrific numbers that assume that the funds will be lost forever to the super system – usually for 40 years - and ignore the fact that the average mortgage turns over every four years and Australians move home every seven years. Under my model, if the house was sold or mortgage discharged, the super fund would be repaid in full.

And will accessing super really inflate a booming housing market? Well, if any of the scare-mongers had bothered to look behind the numbers, they probably would have come to the conclusion that whatever pressure there will be, it is some way down the track and not that impactful.

According to APRA¹, the average superannuation balance for a person aged from 25 to 34 is $16,191. If they hold two accounts, this puts the balance at $32,000. A 50% cap would see $16,000 available for the deposit – not much more than the First Home Owners’ Scheme and a long way short of the $80,000 deposit needed.

And if they started from scratch and say earned $100,000 per year and their employer contributed $9,500 into super, after contributions tax of 15% and earnings of 7% pa, it would take around seven years to get to a balance of $80,000.

Any impact on the property market is going to be relatively minor and some way (years) down the track.  

Give young adults a go

Let’s give young adults a hand by allowing them to access part of their super as a deposit for their first home. At the same time, let’s give them a reason to value the super system. The arguments that it is inconsistent with the purpose of the super system or that it will inflame the property market don’t really stack up.

¹  Australian Prudential Regulation Authority Annual Superannuation Bulletin June 2016

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Product Road Test - Investing in Urban Renewal through URB

Tuesday, March 14, 2017

While I don’t particularly like the name, I think an investment in the URB Investments IPO is worth considering. And I want to disclose up front our interest in promoting the idea - Switzer Financial Group may earn a selling fee of 1.5% on the value of successful applications placed through us.

With this out of the way, let’s move onto the investment opportunity.

URB Investments Limited

URB Investments Limited is an investment company that will be listed on the ASX. Its aim is to capture long term value by investing in a diversified portfolio of equity securities and direct property assets that have exposure to urban renewal and regeneration.

Through an IPO (Initial Public Offer), the company is seeking to raise gross proceeds of between $75m and $300m by issuing shares at a price of $1.10.

Urban Renewal

Urban renewal and regeneration is the transformation of existing urban areas to accommodate much denser and generally mixed use environments. It can generate a number of benefits including new infrastructure, better use of existing infrastructure, increased productivity, additional expenditure and new employment opportunities.

URB will invest in assets that have exposure to population growth, population density, major infrastructure investment, housing growth, new employment, revitalisation of town centres, re-zoning and use of land changes, education services, healthcare services and tourism growth.

The Investment Portfolio

The company will develop a portfolio of equity securities and direct property assets, with the equity portfolio to comprise at least 50% of the investment portfolio. The equity component will comprise a diversified portfolio of 20 to 40 securities listed on the ASX that have exposure to urban renewal and regeneration.These will be combined with investments in direct property.

Initially, URB will own a 49.9% interest in three properties which have a combined value of $59m. These assets, all located in Sydney, are:

  • Kingsgrove Property, purchased for $15.9m. This is a logistics/industrial property, currently leased to a single manufacturing company until August 2017. In close proximity to Sydney Airport and Port Botany, URB says that the property has the potential to benefit from sub-division into smaller industrial lots, or re-zoning from industrial to residential;
  • Prestons Property, purchased for $20.0m. This is a 69,422 sqm undeveloped block of land zoned for industrial use in south-west Sydney, close to the junction of the M5 and M7 tollways. The plan is to construct a logistics warehouse and distribution centre for a pre-committed logistics tenant;
  • Penrith Property, purchased for $23.1m. This is a 6,400 sqm property that is close to Penrith railway station and town centre which is used for office and retail with 22 existing leases. URB believes that Penrith is set to undergo a shift in land use by virtue of infrastructure projects in the next 5 years, and the property will benefit from active management of the tenancy (increased income) and possible change to a mixed use site (residential, retail and commercial).

The remaining 50.1% of each property will be owned by Washington H Soul Pattinson and Company Limited (Soul Pattinson). A trust will be used to hold the assets, with Soul Pattinson and URB having pre-emptive rights over each other’s units. Pitt Street Real Estate Partners Pty Ltd (PSRE), the real estate advisory division of Soul Pattinson, will manage the properties. The current intention is that the properties will be sold within 5 years.

The Investment Manager

URB has appointed Contact Asset Management to manage the Investment Portfolio in accordance with URB’s investment strategy. Contact is led by Tom Millner and Will Culbert, and currently manages the BKI Investment Company (ASX: BKI), a listed investment company that has grown to approximately $1bn in size.  Contact says that BKI’s total shareholder return (inclusive of dividends and franking credits) over the 13 years to 31 January 2017 is 11.3% pa.

Robert Millner, a Director of Soul Pattinson, is the Chairman of Contact.

Contact will be paid a management fee of 0.50% pa (plus GST). In addition, it will be entitled to a performance fee of 15% of the out- performance above a 12 month increase in the NTA per unit of 8%. For example, if the NTA grows by 10%, Contact will receive a fee of 0.3% of the funds under management (15% of (10% - 8%)).

PSRE, which is led by Hugh Williams and Mike Hercus, will be also paid fees for managing the property assets (paid at the unit trust level). Under a co-investment agreement, URB will have the right to invest on an equal basis with Soul Pattinson in direct property assets originated by PSRE. URB can also source property assets itself, but must give Soul Pattinson the opportunity to invest in these properties in the same proportion and same terms.


The Product Disclosure Statement (PDS) describes a number of risks. In addition to the normal market, people and performance risks that go with any managed investment, two specific risks to call out are that this is a new company with no operating or performance history, which will be investing part of its funds in direct properties. These in turn have their own illiquidity, valuation and development risks.

The PDS says that the objective of the Company is to create “long term value” for investors, and provides this explicit advice: “Investors are strongly advised to regard any investment in the Company as a long-term proposition (7 years or more).”

Details of the Offer

The Company is seeking to raise a minimum of $75m and a maximum of $300m in gross proceeds by the issue of shares at $1.10. A minimum of 68.2m shares will be issued, increasing to 272.7m shares if the full amount is subscribed.

For every share subscribed, the Company will also issue one “free” option which is exercisable into one fully paid ordinary share at $1.10 up until 7 April 2018.

On listing, the NTA (net tangible asset) value per share is expected to be approximately $1.065. The difference to the subscription price effectively represents the costs of the offer (broker selling fees, legals, ASX costs), less a deferred tax asset.

Offer dates and key details are set out below.


In regards to dividends, the Company is making no specific forecast as to the amount. However, it says that its long-term target is offer investors sustainable and growing fully franked dividends and a yield that is competitive within the listed investment company industry. It will aim to pay out between 50% and 70% of net operating profit as ordinary fully franked dividends, and will consider declaring special dividends when it receives special investment gains or income.

My View

This is a relatively unique and interesting investment opportunity that may suit long term investors who feel they have enough invested in banks, Telstra and the resource companies and want something a little more targeted. The urban renewal theme will certainly resonate for city dwellers. It is, however, not going to be the first stock into a portfolio, nor is it going to be a stock that you “bet the house on”.

A long-term time horizon will be required.

The Company is very closely associated with the Soul Pattinson group. Soul Pattinson has committed to subscribe for a minimum of 10% of the shares being offered, is the co-owner of the direct properties (50.1%), is the owner of the property management and advisory company PSRE and owns 20% of the Investment Manager, Contact. Investors need to be comfortable with the related party issues and fee arrangements.

But unquestionably, the association with Soul Pattinson is also a strength. Worth considering.

As always, please read and review the PDS thoroughly before making any investment decision, and if in any doubt, seek appropriate professional advice.

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.

URB provides an opportunity to invest in the rapidly growing theme of Urban Renewal and Regeneration. Invest directly alongside Soul Pattinson, one of Australia’s oldest and most respected investment groups. Click here to download a Prospectus and invest online.

Switzer Financial Group AFSL 286 531 may earn a selling fee of up to 1.5% on all successful applications placed through us.

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Housing affordability is bad news for investors

Thursday, March 09, 2017

By Paul Rickard

The latest buzz words for politicians are “housing affordability”. Whether it is NSW Premier Gladys Berejiklian making a bizarre statement at the start of her premiership that she wanted to ensure that “every average hardworking person in this state can aspire to own their own home”, or the Victorian Premier Daniel Andrew’s showbag of promises to put “homebuyers first” including cutting stamp duty for first home buyers and imposing a vacancy tax, politicians from all sides now have housing affordability at the top of their agenda. According to The Australian, Treasurer Scott Morrison is framing a budget that is aimed at boosting the Government’s stocks in middle Australia and has vowed to address housing affordability.

I am all for “housing affordability” too. I have children and grandchildren, and probably like most people, wonder how my offspring will save the monies to own a home in Sydney or Melbourne, or for that matter, in any of our capital cities. Wanting houses to be more affordable for first home buyers and the young is a bit like “world peace”. We all support the idea. However, because Governments like to tinker with price levers, rather than deal with the underlying problem of housing supply, they generally muck things up. And this is exactly what is going to happen if the Victorian Premier gets his way.

Moreover, investors are going to be hurt by some of Andrew’s changes. And, because we haven’t heard the end of the negative gearing/capital gains tax discount debate, it is inevitable that there will be more changes to come.

Andrew’s showbag of promises

Premier Andrews has announced six initiatives in the name of “housing affordability”. Firstly, abolishing stamp duty for first home buyers for purchases under $600,000 from 1 July. There will also be a concession on a sliding scale for homes between $600,000 and $750,000. The exemption and concession will apply to both new and established homes.

25,000 Victorians are expected to “benefit” by saving around $16,000 in stamp duty. Many economist and realtors argue that the “benefit” will be fleeting or negligible because first home buyers will suddenly have an extra $16,000 for the deposit and with the multiplier, this will lead to a surge in prices in this price bracket. In other words, the cut in stamp duty will be more than eaten up by the increase in housing prices.

For first home buyers purchasing a new home in regional Victoria, the first homeowners grant will be doubled from $10,000 to $20,000. This will be available to first home buyers building a new home valued up $750,000, and is expected to “benefit” 6,000 first home buyers.

More crazily, the Government will pilot a $50m scheme, HomeVic, where it will co-purchase homes with first home buyers who can’t save a big enough deposit, taking an equity share of up to 25% in these properties. 

To pay for these initiatives, the Andrews Government is introducing a tax on vacant residential properties. Under the guise of encouraging owners to make their property available for purchase or rent and thereby allowing Melbourne’s housing stock to be used efficiently, this tax will apply from 1 January 18 to vacant properties located in the inner and middle suburbs of Melbourne. The tax of 1% will be assessed on the capital improved value of the property. For example, if the property has a capital improved value of $500,000, the applicable tax will be $5,000.

Subject to some exemptions for holiday homes and deceased estates, a property will be classified as “vacant” if it is unoccupied for more than six months within a calendar year. And who will determine if it is vacant? The State Revenue Office says that it will be a “self-reporting system” with liability resting with the property owner, who will be expected to inform the State Revenue Office when their property triggers the tax.

The Government is also killing off a stamp duty concession that applies to off the plan purchases. From 1 July 2017, the off the plan stamp duty concession will only be available for those who qualify for the principal place of residence or first home buyer stamp duty concession. 

For an investor buying off the plan in Victoria, they currently pay stamp duty on the land value, rather than on the full contract price (that is, the land value and the cost of any construction or refurbishment which occurs after the contract date.). This concession saves them thousands of dollars. From 1 July, they will pay stamp duty on the full value. 

On the positive side of the ledger, the Victorian Government has announced that it will make up to 100,000 lots of land available within the next 2 years in key growth corridors. Planning of 17 new suburbs is underway, with the Government “slashing the time it takes for land to be shovel-ready”. The map below shows the suburbs.

This release of land sounds good, but the proof will be in the delivery. And whether it is actually an acceleration in the supply of land is hard to say, because there is no data on what the Government has achieved over the last few years.  

Bad news for investors

Clearly, the new vacancy tax will be an impost on some apartment investors, while the cancellation of the concession on stamp duty for “off the plan” purchases will increase transaction costs. Both initiatives can’t be good for investors.

The worrying thing about a new tax like the vacancy tax is that while the initial rate of 1% doesn’t look prohibitive, the history of property taxes in Australia is that cash-starved, lazy state governments have a habit of increasing them. If the property market turns down and the stamp duty gravy train ends, the rate of 1% could be increased without too much political pain to 2%, or 3%, or 4% ...

And if investors aren’t concerned about the changes in Victoria, notwithstanding the high chance that some of them will be copied by other states, they should be concerned about the “housing affordability” debate and the pressure on Governments, both Federal and State, to be seen to be taking action. The negative gearing debate hasn’t gone away, and there must be almost an even money chance that there will be some change to the capital gains tax regime. While interest rates stay low, this is a much bigger issue for investors than negative gearing.

Invest carefully.

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Baying for blood at WorleyParsons

Thursday, March 02, 2017

By Paul Rickard

Engineering and professional services company WorleyParsons rarely gets much media focus. It operates in 42 countries in the unfashionable resources and energy industries, employs 23,200 people globally and earns more than 75% of its revenue outside Australia. 

It has also reported falling earnings in every financial period since 2013. First half underlying NPAT in FY17 was just $57.1m, compared with $155.1m back in 2013. 


But all this is about to change, following WorleyParsons Board's extraordinary decision not to disclose to the market a potential takeover bid made last November. Shareholders will be baying for blood.

Dar’s takeover bid 

The Dar Group, a privately owned professional services firm based in Dubai, which employs 18,000 people and has a footprint in 58 countries, lobbed an all cash bid on 14 November to acquire all of the shares in WorleyParsons at $11.80 per share. The takeover was to be executed via a scheme of arrangement, which requires 75% of shareholders to vote in favour and hence needs the explicit support of the Board to get up.

WorleyParsons said nothing at the time. In their statement to the ASX almost four months later on 27 February, they describe the bid as a “highly conditional, indicative proposal”. They did, however, conduct a ”thorough assessment of the proposal” and went to the effort of engaging both Merrill Lynch and UBS as financial advisers and Herbert Smith Freehills as legal adviser. They concluded that “the proposal materially undervalued the company”.

Fast forward to Monday February 20. WorleyParsons announces its first half financial results, which show underlying net profit after tax down by 22.7% to $57.1m following a fall in revenue of 30.3% to $2,166m. The report is weaker than expected, leading both Macquarie and Credit Suisse to downgrade their ratings (Deutsche goes the other way, upgrading from sell to neutral). The market caned WorleyParsons stock, closing on the day at $8.60, down some 12.8% on the previous session’s close.

Over the next few days, the stock touches a low of $7.75. It closes on Monday at $8.07.

WorleyParsons (WOR) - 28 Aug to 28 Feb (source: ASX)


On Monday evening, Dar Group announces that it has acquired from the institutional market 13.35% of WorleyParsons shares. It doesn’t disclose a price, but market talk is that it paid $10.35 per share. Dar also confirms that it submitted a proposal back in November to acquire all the shares. It goes on to say that it “looks forward to being a supportive shareholder” and that it “has no present intention of initiating discussion with Worley Parsons (for) a change of control transaction”.

The market soars when WorleyParsons shares open for trade on Tuesday, before closing at $10.65 - up some 32% on the previous day. Yesterday, WorleyParsons eased back to close at $10.22.

Continuous disclosure

Under the law, public companies are required to meet disclosure obligations. Listed companies, such as WorleyParsons are subject to further requirements under ASX Listing Rule 3.1, which says that:

“once an entity becomes aware of any information that a reasonable person would expect to have a material effect on the price of their securities, it must immediately tell the ASX that information”.

There is a carve out if the information is in one of five categories, including “an incomplete proposal or negotiation”, provided that it is confidential and a reasonable person would not expect that information to be disclosed.  

While the “reasonable person” test for disclosure is intended to be judged from the perspective of an independent and judicious bystander, the ASX interprets this very narrowly to say that if the information is in one of these five categories, it won’t usually need to be disclosed.

This is no doubt the defence that the Board is relying on. The proposal hadn’t won the endorsement of the Board, so was therefore incomplete. No disclosure required.

However, other listed companies have chosen to disclose incomplete proposals. For example, Tatts Group chose to disclose that it had received an offer from Pacific Consortium, saying that “it has received an unsolicited, confidential, non-binding, indicative and conditional proposal from four financial investors to acquire 100% of Tatts for a combination of cash and scrip consideration”. Asciano disclosed on 1 July 2015 that it had received on 26 June a “confidential, indicative, non-binding and conditional proposal from Brookfield Infrastructure Group (Brookfield) to acquire Asciano”.

And what’s the harm in disclosure? Can’t the market be left to judge how material it is?

Sure, there has to be some threshold as to whether to disclose, but by the appointment of two financial advisers and lawyers, the Board or WorleyParsons certainly thought that Dar was bona fide with their offer. 

Those poor shareholders who sold out around $8.00 following WorleyParsons less than impressive financial result, only to see Dar pay $10.35 a few days later, would surely have liked to have known that Dar had attempted to buy the whole company a few months earlier. A class action against looms.

Baying for blood

It is hard not to get the sense that the Board of WorleyParsons is a little long in the tooth. The Chairman, John Grill, who was CEO until 2012, has been a director of WorleyParsons and its predecessors since 1971. The Deputy Chairman and Lead Independent Director, Ron McNeilly, has been there since 2002. Another Non- Executive Director, Erich Fraunschiel, has served since 2003.

If WorleyParsons had been a star performer, like for example Ramsay Health Care, then the tenure of the directors might be seen as a plus. But it hasn’t. It has been a dog (WorleyParsons hit $50 in late 2007!). And to that, you add the decision not to disclose.

And like many Boards before them, they decided that “the proposal was not in the best interests of shareholders”, citing all the marvelous things the company is doing to create shareholder value, like the cost reduction program.

Let the market decide. Disclose.

And, it’s time for Board renewal. Blood needs to flow.

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Not wowed by Woolworths

Thursday, February 23, 2017

By Paul Rickard

I am always a little bit amazed by the number of people who want to buy shares in Woolworths. Maybe it is because it is a former market darling that fell on hard times as the supermarket wars heated up, or perhaps it is the idea of finding a turnaround story and backing it.

And judging by the market’s reaction to Woolworths' first-half result yesterday, it also thinks it has found a turnaround story. For the first time in 30 quarters (see table below), Woolworths' comparable store sales growth in food of 3.1% trounced rival Coles, which reported sales growth of just 1.0% for the second quarter. The market celebrated the better-than-expected victory, sending Woolworths shares up by $1.13 or 4.43% to close at $26.63.

Support for Woolworths has been building now for some weeks, as has a general re-rating of the consumer staples sector, which is dominated by the big three - Wesfarmers, Woolworths and Coca Cola Amatil. One of the worst performing sectors in calendar 2015 and 2016 (in 2016, the consumer staples sector returned 4.8% vs the broader market’s 11.8%), it is now almost starring in 2017, with a return of 6.8% this year compared to the market’s 2.9%.

Short positions are being closed, which is also lending support. According to the latest ASIC figures, open short positions in Woolworths are down to 67.2m shares, or 5.22% of Woolworth’s total share capital. While this is still high (Wesfarmers, for example, has 12.9m shares or 1.14% of its shares sold short), this is well down from circa 9.0% in mid-2016. Effectively, 49m shares sold short worth some $1.2bn have been covered.

But where to now for Woolworths. Is it in buy territory? Let’s start with yesterday’s half year report.

Sales momentum in first half

The market liked the sales momentum in supermarkets (see below), and the performance of the Endeavour Drinks group (Dan Murphy’s, BWS and other brands), which grew comparable store sales by 2.9% in the second quarter. Big W remains a problem child, with same-store sales declining by 6.7% compared to the corresponding quarter in 2016.

WES vs WOW comparable store sales - change on corresponding quarter 

*Adjusted for the timing of Easter

Financially, EBIT from continuing operations of $1,301m was down by $156m or 14.5% compared to the first half of 2016.

Somewhat surprisingly, Woolworths actually increased its gross margin in food, from 27.38% to 27.88%. It said that “material improvements in stock loss and better buying” offset its “investment in price” (price discounting). That said, its cost of doing business increased from 22.20% to 23.54%, meaning that the key EBIT to sales ratio fell from 5.18% to just 4.34%. It wasn’t that long ago that this metric was nearer 8%!

And this is the problem for Woolworths. It is hard to see any margin improvement. Coles, Aldi, IGA and Costco aren’t going away, and while the supermarket war isn’t (yet) exploding, it is not over either. Pricing pressures are likely to remain.

Sure, Woolworths can potentially fix Big W, but in an environment of 2% to 3% sales growth in supermarkets, unless the margin can lift, profit growth is going to be measured. 

Price metrics

Earnings per share from continuing operations in the first half were 61.3c. With the second half traditionally a little weaker for sales as the first half includes Christmas, this means that Woolworths will likely earn around 115c in FY17. This puts it on a PE of 23.2 times earnings. Projecting ahead to FY18 and forecast earnings of 125c per share, the multiple is 21.3 times.

Woolworths will pay a dividend of 34c per share for the first half, and target a payout ratio of 70% for the full year. Woolworths' shareholders can therefore expect a full-year dividend of around 80c, putting it on a yield of 3.0%. Interesting, but hardly exciting.

The brokers currently have a target price for Woolworths of $24.29. While there may be a couple of broker upgrades to valuation following the half-year result, it is currently trading at an 8.8% premium to the consensus valuation.

My view

I don’t think that the supermarket wars are over and find it very difficult to believe that Woolworths will be able to increase margin in its key supermarket business. A multiple of 23-21 times forward earnings is expensive compared to the market, and the sector (Wesfarmers is trading on a multiple of 16.3 times FY17 earnings and 16.2 times FY18 earnings). 

Sure, there are more shorts to cover and this might provide some support to the price. However, it looks very fully priced.


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.

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Health insurance premiums should be falling, not rising

Thursday, February 16, 2017

By Paul Rickard

New Health Minister Greg Hunt was quick to champion last Friday that the average increase in health insurance premiums of 4.84% was the “lowest increase in a decade”. And he is right - the 4.84%, to take effect from 1 April, looks positively modest compared to 5.59% in CY16, 6.18% in CY15 and 6.2% in CY14.

But the stock market celebrated the outcome for the listed insurers Medibank Private and nib, the first and fourth ranked insurers by number of policyholders, who together cover 36% of the market. Both companies rose by more than 2% following the announcement.

While Medibank’s average premium increase of 4.60% and nib’s 4.48% are below the industry average, what does the stock market know that the Minister or his Department doesn’t appear to understand?

(Minister for Health Greg Hunt. Source: AAP).

Very simply, the health insurers are becoming more profitable as margins increase. And I am not talking about the efforts of the insurers to lower their administrative expenses such as marketing and paying claims. The gross margin, that is the difference between premium revenue and health claims paid, is improving. Look no further than nib’s full year profit statement last August, which shows that since 2013, nib’s margin and the average gross margin across the industry have been rising. They are getting towards multi-decade highs!

Source: nib Investor Briefing

Market leader Medibank increased its gross margin from 14.2% in FY15 to a phenomenal 16.6% in FY16. This meant that gross profit from its health insurance business increased by 22% or $185m, from $842m to $1,026m. And this occurred in an environment where it continued to lose customers and market share.

Medibank is now being rewarded with an increase in premiums of 4.60%, following an average increase of 5.64% the previous year.

Now, to be fair to Medibank and nib, the insurers work hard to manage claims expenses, and some of the initiatives they have taken, such as service quality guarantees from the private hospitals, are helping to reduce costs. However, the only justification cited for the increase in premiums is that health costs are rising, when it is blatantly obvious that the insurers are also becoming more profitable.

Take one measure of profitability - return on equity. nib reported that for FY16, its return on equity (ROE) rose by 11.7% to a very healthy 25.8%. Medibank’s ROE for FY16 was around 26.4%.

With such fantastic ROEs, shareholders have been handsomely rewarded. Shares in Medibank today sit at $2.82 - a 41% increase on its December 14 IPO price of $2.00. nib has done even better, with its shares trebling in price over the last five years.

NIB Holdings (NHF) - 5-year chart

Source: Yahoo!7 Finance, 16 February 2017

While shareholders are rejoicing in the short term, the longer term problem is that as health insurance premiums soar, policyholder lapse rates increase. And this is made worse by the fact that the people who abandon health insurance are typically the “most profitable” customers, the people who claim the least amount. The young and the healthy.  

Short term profit considerations are winning at the expense of the industry’s longer term viability. It is in the industry’s best interests to keep a lid on premiums.

If the Minister was being briefed appropriately, he would be saying to the insurers “no further increases”. And even if he was being advised that the increase in margin was ”temporary”, he should have waited until Medibank and nib had posted their profit results for the December half to get the latest picture on profitability before approving the premium increases. For the Minister’s information, Medibank reports tomorrow (Friday) while nib reports on Monday.

My guess is that these will show further evidence to support the thesis that premiums should be falling, rather than rising.

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The Switzer Dividend Growth Fund

Friday, February 10, 2017

By Paul Rickard

Let me declare upfront – I have a personal and financial interest in the success of the Switzer Dividend Growth Fund. I am a Director and in effect a part owner of the responsible entity, Switzer Asset Management. So, no question that I am conflicted.

With that disclosure out the way, here is my road test of the Switzer Dividend Growth Fund.

The Switzer Dividend Growth Fund

The Switzer Dividend Growth Fund aims to provide investors with tax effective income and long-term capital growth by investing in a core portfolio of blue-chip Australian shares. The portfolio will be managed to deliver capital returns in line with the market, while providing investors with an attractive income stream paid quarterly.

It will invest in a portfolio of quality, high-yielding Australian shares with an emphasis on companies that are paying fully franked dividends and which have the ability to grow these dividends over time. Typically, this will be approximately 30 to 50 stocks drawn from within the largest 200 companies, which have:

  • sound balance sheets;
  • desirable dividend streams and the capability to grow dividends while maintaining a sustainable payout ratio;
  • dividends that are fully franked or close to fully franked;
  • moderate to low volatility; and
  • strong secondary market liquidity on the ASX.

The Fund is somewhat unique in that it is one of the first funds in Australia to explicitly adopt the ‘dividend growth’ mantra, a very popular and fast growing investment category in the USA. It will also be quoted and traded on the ASX.

Investment Management

Switzer Asset Management will manage the Fund and has appointed an Investment Committee comprising Peter Switzer, Charlie Aitken, George Boubouras and yours truly to do this. The Investment Committee will be supported by the investment management team at Contango Funds Management.

While Switzer Asset Management has limited funds management experience per se, having been recently re-configured, the Investment Committee members have considerable equities market experience and expertise. Further, Contango, led by MD and Chief Investment Officer George Boubouras, is the investment manager of two very successful listed investment companies, Contango Microcap (CTN) and Contango Income Generator (CIE), as well as the manager of several institutional equity mandates.

ASX Quotation

Following a path that has been pioneered by Magellan and others, the former with the spectacularly successful Magellan Global Equities Fund (ASX Code MGE), the Switzer Dividend Growth Fund will be quoted on the ASX under the stock code SWTZ. This means that investors can buy or sell units on the ASX through a stockbroker or share trading account, with settlement through the CHESS system. Investors will also be able to see the prices at which other investors are prepared to exchange Units.

In addition to publishing an end of day NAV (net asset value) per unit, Switzer Asset Management will also publish an indicative NAV throughout the trading day in real time. With the Fund providing support as a market maker, investors should be able to trade their units (sell their units or buy more units) at a price that is very close to the underlying NAV. No premiums or discounts.

Other features

Distributions will be paid quarterly, in January, April, July and October. A distribution re-investment plan will also be available.

Although the PDS makes no forecast about distributions, given the style of the fund, investors should expect a distribution a little higher than the current ASX 200 yield. This probably means around 4.5% to 5.0% pa, franked to around 80%.


The investment management fee is 0.89% pa, including GST. There are no performance or other fees.

This fee is about middle of the range. Lower than many active equity funds, but more than some of the broad-based listed investment companies and of course, more than ETFs that passively track an index.

Who will it suit?

The Fund will be well suited for equity investors who desire tax effective income, including SMSFs. The quarterly distribution should be popular with these investors.

Further, because the Fund will be managed with the aim of delivering capital returns in line with the market, the Switzer Dividend Growth Fund should also be able to be used as part of a “core” equity holding for those investors using a “core and satellite” investment approach, or who want to complement individual stock holdings.

How to invest

The initial offer opened on Monday, 30 January and will close on Friday, 17 February. Quotation and listing on the ASX is scheduled for Friday 24 February. Thereafter, investors will be able to purchase units on the ASX through their stockbroker or share trading account.

To take part in the initial offer, investors will need to review the Product Disclosure Statement (PDS) and completion an application online or on paper. This, and more details, are available here. The minimum application is $2,500.

Click here to invest.

As always, please review the PDS carefully, and if you need assistance, please consult your financial adviser or other investment professional.

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.

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New NAB offer should suit yield seekers

Thursday, February 09, 2017

By Paul Rickard

Yield starved retail investors are set to embrace the return of ASX listed bank subordinated notes. Yesterday, the National Australia Bank launched the first retail offer in some years with an issue that is set to raise at least $750m.

Investors are being offered a note that pays interest quarterly at a fixed margin of 2.2% over the 90-day bank bill rate. With the 90-day bank bill rate around 1.75%, this means an interest rate of 3.95% for the first 90 days. Thereafter, the interest rate will be reset each quarter based on the then current 90-day bank bill rate. For example, if the bank bill rate rises to 2.5%, investors will receive 4.7% for the quarter, if it falls to 1.0%, investors will receive 3.2% for that quarter. 

NAB Subordinated Notes 2 will be quoted on the ASX and trade under stock code NABPE. They will be NAB’s first Basel III compliant retail Tier 2 instrument. Holders of NABHB (an earlier issue of subordinated notes made in 2012 which is not Basel III compliant) will be invited to re-invest into the new notes.

Subordinated Notes vs Capital Notes

Subordinated notes differ to the more familiar bank hybrid or capital notes issues, such as NAB Capital Notes, Westpac Capital Notes, Commonwealth Bank PERLS, etc., and pay a lower effective interest rate. The main differences are:

  • unlike bank hybrids, which are perpetual, they have a fixed term. In this case, the term is 11.5 years;
  • in the event of a wind-up, they are ranked higher than bank hybrids. Because they are Tier 2 capital instruments, they rank ahead of all Tier 1 capital instruments such as bank hybrids or ordinary shares;
  • the interest payment is not discretionary, and is cumulative. It is, however, still subject to a general solvency condition;
  • there is no mandatory conversion into ordinary shares which could happen with hybrid issues if the bank breaches a capital ratio. However, there is a non-viability trigger event condition, where APRA may require the conversion of the notes into ordinary shares if NAB gets into severe financial difficulty.

The 2.2% margin on these notes compares to the circa 3.8% margin that bank hybrids are trading at. At the other end of the risk scale, the major banks are paying retail investors around 2.0% on 90-day term deposits, a margin of 0.25% over the 90-day bank bill rate. While term deposits are effectively government guaranteed, there is considerable re-investment risk as the rate must be re-negotiated every rollover.

Offer Details

The notes have a fixed term of 11.5 years and mature on 20 September 2028. In addition, NAB has the right to redeem the notes after 6.5 years on 20 September 2023 at par, and thereafter on each quarterly interest date. This option is only available to NAB - noteholders cannot request that the notes be redeemed early. Other details are set out in the table below.

How to invest

In addition to a broker firm offer (brokers nominated include Morgans, Macquarie and JB Were), NAB shareholders and holders of National Income Securities or NAB Capital Notes can invest through the security-holder offer. There is no general public offer. 

A re-investment offer is being made to holders of NAB’s existing subordinated notes, NABHB. While participation is voluntary, NAB has indicated that it will most likely exercise its right to redeem these notes early on 19 June 2017.

The offer is due to open on Thursday 16 February.

Bottom Line

While secondary market bank hybrids arguably represent better value (3.8% compared to 2.2% for not that material a difference in risk profile), considerations such as brokerage and thin markets also need to be taken into account. Further, with many investors being so cashed up and the banks really squeezing cash deposit rates, this issue will find broad appeal.

ImportantThis 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.
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