Weekly Reports | Nov 22 2019
Weekly Broker Wrap: Australian banks; Australian casinos; China; Costa Group; private hospitals; and private health insurance.
-Australian bank boards edge towards reining in management rewards
-Despite cautious outlook lack of supply discipline among Chinese steel makers evident
-Extended drought likely to jeopardise Costa Group's water levels
-Incrementally positive trends continue for Ramsay Health Care
-Margin headwinds continue to build for private health insurers
By Eva Brocklehurst
Boards on Australian banks have moved to appease investors by reducing the performance rewards for management. Poor structures, accountability and criteria have been directly linked to serious issues in the sector since the GFC.
After a serious of record-breaking first-strikes against remuneration reports among the major banks both National Australia Bank ((NAB)) and Westpac ((WBC)) CEOs have received no short-term award.
Citi considers 2018 was the low point for sector remuneration. Inappropriate remuneration structures was central to the conduct issues identified by the Hayne Royal Commission.
The findings have forced APRA (Australian Prudential Regulatory Authority) to address the issues, although Citi notes there has been open resistance two key proposals such as (1) 50% of variable remuneration should be based on non-financial measures and (2) 60% should be deferred for at least seven years.
The broker asserts remuneration structures need reforming and better transparency and less board discretion is the only way forward. Yet Citi is cautious about the willingness to correct scorecards via board discretion and notes a lack of transparency still prevails.
Citi remains cautious about the outlook for the Australian casino industry as around $4bn of total expenditure is being deployed to projects that are delivering returns below the cost of capital.
Moreover, following a very challenging FY19, the outlook for the Australian VIP market remains tough. Citi forecasts a return to growth in FY21 with Crown Resorts ((CWN)) more leveraged to a potential recovery.
The domestic consumer is likely to be the driver of Australian casinos, accounting to 50-60% of earnings and valuation and a recovery is underway following fiscal and monetary stimulus, in the broker's view. On a relative basis, Citi prefers Crown Resorts over Star Entertainment (SGR)) given relatively superior asset quality and an undemanding valuation.
Almost all industry participants Morgan Stanley met on a trip to China were fairly bearish, particularly on the property market. An economic slowdown has been widely acknowledged but little mention was made of trade tensions.
Views regarding demand centred on low growth. The main risk is a slowdown in property starts. High property prices and a shift to rural buyers are making sales more difficult, while developers have financing difficulties and need to keep building and selling to generate cash, hence the elevated level of new starts.
Despite the cautious outlook for demand, the broker encountered a lack of supply discipline in the steel industry. Although total capacity is still falling, effective capacity could increase over 2019-21, as idle capacity is used in swaps. Moreover, Tangshan-based steelmakers were finding ways to increase capacity at existing plants.
The mills are sustaining lower iron ore inventory versus the usual 20-40 days, not wishing to buy in a falling market. Near-term demand has the potential to turn out better than the steel mills expect and, hence, Morgan Stanley suspects a re-stocking cycle may be on the way.
Tangshan steelmakers generally expect the iron ore price to fall to US$70-75/t by the end of the year, although Morgan Stanley suspects a US$90/t price is more likely.
Macquarie also spent time in Tangshan, the biggest steel city in China, and agrees the sector appears strong at present given the fall in inventory, although few believe the situation will last. The broker agrees feedback was generally cautious about demand. The broker notes policy makers are expected to lower the GDP target to 6.0% next year, allowing activity to moderate.
This is not expected to create significant issues in employment, and conditions are supported by increased fiscal expenditure, finance support to industry and a more flexible exchange rate. Nevertheless, in the long run, structural change in Chinese demographics suggests to Macquarie a further slowdown in growth is inevitable.
Credit Suisse believes Costa Group ((CGC)) is at a critical juncture. An extension of drought into the next rainy season jeopardises yields for 12-18 months. A -10% reduction in citrus yield equates to -$26m in revenue and, the broker notes, competitive advantages only count for so much when volumes are in decline.
The price per million litres of water is increasing at 9% per month and average spot prices hit $940/ML recently. The Bureau of Meteorology outlook is for a 20-30% chance of median rainfall and an 80% chance of temperatures in excess of the median until February 2020.
However, the company's 2020 guidance is underpinned by a moderate improvement in water levels and, if the drought continues into the first quarter of 2020, this implies a severe deterioration in dam levels, Credit Suisse points out. Moreover, the broker is sceptical a crop portfolio can be diversified in such a way or to such an extent that production volatility from weather extremes can be avoided.