Weekly Report
Here’s your weekly update of news, analysis and research. The full reports can be read on the stock pages.
NEW ZEALAND REFINING (NZR:NZ): Remove from Portfolio – Downgrade to HOLD
NZR shares dipped after delivering a weak operational update for May and June 2019. NZR reported
$32.2m in processing fees for the period, this was down -35.7% from the previous two-month period
(March and April 2019), largely due to weaker gross refinery margins (GRM) and lower refinery throughput volumes. Gross refining margins were significant weaker in the May/June period at
US$4.36 per barrel due to gasoline and naphtha cracks coming under pressure. This was well below
the previous two-month period and four-year historical average, with an uncertain outlook around a
recovery to more attractive levels. In light of recent events, we have changed our recommendation
on NZR to a HOLD on the basis that GRM are more likely to remain weaker (compared to recent
historical levels) offsetting any increase in throughput volumes from last year’s maintenance works.
Also, we have lost confidence in our view on USD strength, with the exchange rate expected to
remain rangebound around current levels. A strengthening USD vs the NZD was one of the catalysts
driving our BUY recommendation in the past, and we have decided to exit our holding in what has
been a poor performing NZR.
A2 MILK (:NZ / A2M:AX) BUY (High-Risk): Taking Some Profits
A2 Milk shares continue to soar, breaking into new all-time highs as investor sentiment continues to
remain positive for the milk marketing company. A2 Milk delivered a strong third quarter result which
was largely in line with market’s high expectations as group revenue for 9 months to 31 March 2019
was $938m, up +42% on the same corresponding period last year. China also announced their plant
to cut their reliance on imports of infant formula, down to 40% (from approximately 53%) which
could limit A2 Milk’s long-term growth opportunity. A2 Milk currently has a 6% market share in China
across its large cities so it is not a massive issue. While there might be plenty of room for A2 Milk to
grow over the medium-term to double or even triple current sales volumes, it does create a more
competitive environment against other international suppliers. Given the share price run (A2 is now
trading at 42x earnings), we would suggest investors to take profit, although leave our
recommendation unchanged as A2 continues to deliver. A2 are a well-run business that has executed
well delivering tremendous growth, and while there are risks of competition & regulation we still see
the stock as best in class.
AUCKLAND AIRPORT (AIA:NZ / AIA:AX) HOLD: Sky High Valuation
Shares in AIA continue to surge to all-time highs, as it gains attraction from investors seeking a reliable
dividend in a volatile and low interest rate environment.
No major company specific news has been released recently to warrant the recent surge, although
for the financial year to date total passenger numbers for the first 11 months (to 31 May 2019) was
19m, up +2.9% from the same corresponding period last year – which has been largely in line with
expectations that tourism boom peak has passed, with growth now expected to slow down to more
moderate rates. We see AIA as a key beneficiary of the growing tourism industry albeit at a more
moderate rate over the medium-term. However, we still see AIA as very expensive especially given
the recent run, trading on a valuation of 41x earnings and a dividend yield of 2.4% which is now far
from attractive. Especially over the medium-term we see very limited upside potential to justify its
current expensive valuation given the inability to raise charges against airlines, slower passenger
growth, as well as the significant infrastructure spend being planned which is likely to be funded by
taking on more debt – with the possibility of an equity raise to fund expansion around the corner, if
expansion cannot be funded from free cash-flow.
Accordingly, we believe there are better value investments with better medium-term potential to
focus on a risk/reward basis.
WOODSIDE PETROLEUM (WPL:AX) BUY: Cyclical Dip
Shares in WPL fell after releasing a weak second quarter result for the 2019 financial year. Revenue
for the quarter was $738m, down -32% from last year due major maintenance work at its Pluto LNG
plant took longer than expected. This lowered production by -22%, and WPL also experienced weaker
LNG pricing due to pricing lag. Accordingly, WPL guided 2019 full year production to be on the lower
end of its previous guidance range of 88MMboe to 94MMboe. At the same time WPL has made good
progress on a number of developments including the near completion and within budget of its
Greater Enfield Project as well as being awarded a joint venture Senegal drilling contract. WPL
remains our preferred energy sector pick, with most of its exposure in LNG which is expected to see
increased demand that will create a supply shortfall in 2020. WPL offers a healthy 5.8% dividend yield
in an expensive market and the recent pull back creates an attractive entry point as the negativity is
largely one-off/short term in nature. Fundamentally we continue maintain our positive view.
NETFLIX (NFLX.NASDAQ): HOLD: Subscriber Flop
Netflix shares sunk after delivering a rare subscriber growth miss for the 2019 second quarter. The
world’s largest paid online streaming service provider added only 2.7m subscribers, well below
market and management expectations as subscriber numbers fell in the US by 130,000, while
international subscriber growth was also slower than expected. Netflix believes competition was not
a factor for the miss since there wasn’t a material change in the competitive landscape during the
quarter, and more due to the second quarters content slate which drove less growth than
anticipated, a strong first quarter pulling growth away from the second quarter, and negative impact
on subscriber growth due to price increases. Despite weak subscriber growth, revenue and earnings
were both strong for the quarter beating market expectations and NFLX announced upbeat third
quarter guidance. Looming in November is the launch of Disney+, seen as a formidable entrant into
the streaming market, and original programming from Apple, as well as other content providers
entering the streaming market. The current result highlights there is no guarantee Netflix has the
pricing power needed to raise prices without bleeding users, with competition intensifiying further
over the horizon this will become extremely difficult. Looking forward Netflix will likely struggle to lift
its earnings to levels the market is anticipating as the industry becomes more competitive as this will
either limit subscriber growth or weaken margins for Netflix as they increase costs to create and
deliver more content while being forced to keep prices flat. The question is whether Netflix can
continue living up to its high expectations with original content and a high-quality viewing
experience, and essentially defend its place in the market.