The Wrap: Budget, Amazon, TV And CTP

This story features BABY BUNTING GROUP LIMITED, and other companies. For more info SHARE ANALYSIS: BBN

Weekly Broker Wrap: Budget previews; Baby Bunting; Amazon; TV advertising; Queensland CTP review; Synlait Milk.

-Reinstatement of GP rebate indexation most likely measure to be announced at the Commonwealth budget
-Opportunity envisaged in Baby Bunting as it outgrows competition
-UBS suspects market slightly over-reacting to prospect of Amazon
-Macquarie expects TV advertising to decline -3.3% in FY17
-Are profit risks overplayed in Queensland's CTP review?
-Bell Potter initiates coverage on Synlait Milk
 

By Eva Brocklehurst

Commonwealth Budget

Morgan Stanley believes reinstatement of GP rebate indexation is the most probable measure to be announced at the upcoming Commonwealth budget. Given no clear majority, many prior savings measures proposed by the government have failed to pass the Senate.

The broker believes the short-term political agenda overrides long-term necessity of cost containment and the likelihood that drastic measures will be announced at the budget and the "Mediscare" campaign of the 2016 Federal election is likely to have laid to rest any significant reductions to healthcare expenditure in the near term.

Morgan Stanley suspects measures to arrest lower participation in private health insurance may include an increase to the Medicare levy surcharge, which could be used to fund GP indexation. The broker also envisages a possibility the government could consider lowering the threshold for lifetime cover to 25 from 30 years of age, although this may increase the bill for the 30% rebate.

UBS, too, expects indexation will be reapplied to GPs but the increase is likely to be applied from 2018 and be conditional upon delivery of efficiencies such as better chronic care. The broker expects the proposed bulk bill incentive cuts will probably be abandoned and the government will look elsewhere for savings to fund the increases to the Medicare Benefits Schedule.

A material reform package for the Pharmaceutical Benefits Scheme is expected and likely to save $1.8bn over the five-year forward estimates. UBS expects the savings to be used to fund new high-cost PBS drugs but this will tilt revenue away from distribution to community pharmacy. The broker expects a benign budget on aged care and private health reform is also considered unlikely, given ongoing reviews.

The budget is expected to be critical to the macro economic outlook and Morgan Stanley's focus will be on whether the government materially ramps up its commitments to infrastructure expenditure. The broker also believes the focus will shift from the underlying cash deficit towards net capital investment and operating balance, whereby the latter can be used to chart a course back to surplus on recurrent revenue and expenditure.

Any housing affordability package will also be relevant for markets, given the importance of the sector to household balance sheets. The broker notes speculation has focused on the potential for a government-backed, community housing scheme and the potential to relaunch a concessional saving scheme for first-home buyers.

Baby Bunting

Baby Bunting ((BBN)) has forced a competitor to close on two occasions, having opened a new store nearby. As well, Morgan Stanley notes the company's scale has afforded an opportunity to advertise and point consumers away from the competition in order to quickly establish its stores. The industry remains highly fragmented and there are few major competitors with one of the largest, Baby Bounce, shrinking to 13 stores from 21 in December 2015.

The broker believes there is a long tail of independent stores that will be pushed out over time, while department stores appear to have reduced exposure to baby hard goods. The broker expects 23% growth in earnings per share for FY18 and FY19 and considers the stock a buying opportunity, with an Overweight rating and $3.30 target.

Amazon And Retail

UBS has surveyed the market's view on the entry of Amazon to Australia. Respondents expect Amazon to enter non-food segments in FY19 and grocery in FY20. A -7.0% negative impact is expected for electronics sales on a 3-5 year view followed by -6.5% for sports/leisure and -6.4% for fashion/department stores. Food is expected to experience a more modest -2.6% impact.

The most negatively impacted stocks are expected to be JB Hi-Fi ((JBH)), Myer ((MYR)) and Harvey Norman ((HVN)). Bapcor ((BAP)) and Woolworths ((WOW)) are expected to be the least impacted of the listed retailers.

The overall view is that the market has somewhat over-reacted to the prospect in the case of Harvey Norman and Bapcor and under-reacted for Woolworths and Myer, in terms of relative multiples. The broker acknowledges its analysis is limited in that it does not take into account company-specific factors or the trajectory of the impact.

Australian TV

Macquarie observes Ten Network ((TEN)) continues to face challenges, having factored into its latest guidance an operating earnings (EBITDA) loss of -$25-30m for FY17, amid continued weakness in the TV advertising market.

Macquarie estimates the TV advertising market will decline by -2.0% in the June half for a full year decline of -3.3%. On the rating side, Nine Entertainment ((NEC)) has sustained an improvement off a low base primarily at the expense of Seven West Media ((SWM)). The broker notes the government is considering placing restrictions on gambling advertising during sports programming, which according to press estimates represents around $120-150m per annum to operators in free-to-air TV.

In the event of a broad based reduction on all advertising during sporting events, Macquarie would estimate the net impact to be around -$20m across the industry, biased to Seven and Nine as they have heavily invested in sports content.

The broker also notes scope exists for cuts to license fees is part of the federal budget, with the cuts of most benefit to Nine and Seven. Macquarie retains a Outperform rating for Nine and a Neutral rating for Seven. Operating losses make it difficult to envisage an investment case for Ten and the broker retains a Neutral rating.

Queensland CTP

There are 19 recommendations from the Queensland review of the CTP insurance scheme which may further pressure profits, Ord Minnett observes. The scheme became incrementally more affordable each year for the past 15 years but insurer profit margins remained elevated. This is a key class for Suncorp ((SUN)) as the broker estimates it provides up to 20% of its general insurance business profits.

The committee is giving license, it appears, to further pressure on assumptions underlying the regulatory ceiling price for the scheme, although there are no suggestions of immediate changes to the scheme to address one of Suncorp's key competitive advantages, its strong exposure to the dealer channel.

Credit Suisse believes the profit risks are overplayed, noting the committee has acknowledged that it would be too difficult to implement a profit claw-back mechanism. While the issue of higher insurance profits in the scheme is considered a matter of priority the broker expects this will be addressed via the lowering of base claim assumptions in the near term.

In reducing the profit margin to, for example, 10%, Credit Suisse estimates that this puts around -2% of Suncorp's group net profit at risk. The broker is expecting an almost identical uplift in NSW CTP profitability in coming years so the net impact is considered negligible at the underlying insurance margin line. The broker also highlights that the majority of the Queensland CTP "elevated profit" has been coming through in reserve releases for Suncorp, not in the underlying insurance margin.

Synlait Milk

Synlait Milk ((SM1)) is New Zealand's fourth-largest milk processor accounting for around 4% of milk intake. The company supplies dairy ingredients, infant formula products and lactoferrin. The company is the exclusive supplier of infant formula for a2 Milk ((A2M)) in China, Australia and New Zealand.

Bell Potter takes a favourable view on the stock and initiates with a Buy rating and $4.38 target. The view is underpinned by exposure to growing demand for infant formula in China, in particular a2 Milk branded products.

The company also has exposure to the benefits of capital expenditure that is targeted using a greater proportion of the available milk supply in value-added products. Bell Potter also notes valuation metrics are undemanding relative to its dairy and infant formula peers.

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