Equities

We recap some of the profit reporting season highlights from this week including A2 Milk, Domino’s Pizza, Select Harvests, Lovisa Holdings, Catapult Group, Integrated Research and Pacific Smiles Group. Full reports are available below via links.

A2 Milk (A2M)

A2M reported FY19 underlying NPAT 3% below our forecast at $288.0m. Revenue of NZ$1,305m was up +41% YOY. Operating EBITDA of NZ$413.7m was up +46%. Operating NPAT of NZ$288.0m was up +47% YOY. Operating cashflow of NZ$289.1 was up +25% YOY. Net Cash of $464.8m was up 37% YOY and reflected the additional investment in SM1 shares through the period.

A2M anticipate revenue growth in FY20, though no quantum given. A2M anticipate EBITDA margins in FY20 at a level consistent with 2H19 at 28.2%, this is materially below consensus of 32%, with gross margins steady. In isolation, the downshift in EBITDA margin would represent a 12% downgrade to consensus.

We have updated our forecasts to reflect softer margin expectations and a slightly softer FY19 result. The net effect is downgrades to our bottom of market NPAT forecasts of 4% in FY20e and 2% in FY21e. Our target price remains broadly unchanged at A$12.50ps (prev. A$12.40ps). We also retain our sell rating. Despite the correction in the share price, A2M continues to trade at a material premium to global IMF peers (~45%) and domestic China facing FMCG and IMF entities (~65%). We expect FY20e to begin demonstrating a structural shift in the path to market for A2M IMF product and a downward shift in margin delta to sales growth. With consensus downgrades looming and a structural change in margin delta to revenue growth occurring, we see A2M’s premium rating as excessive, particularly in light of the recent share price gains in anticipation of earnings upgrades.

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Domino’s Pizza (DMP)

DMP announced underlying FY19 EBIT of $220.8m, 7.2% up on pcp, although 2.8% short of guidance (bottom end range) & BPe $227.2m. Underlying NPAT was $141.2m (vs BPe $142.9m), 6.0% up on pcp. Same store sales (SSS) increased +3.6% (cycling 4.3%). Notwithstanding the miss, underlying themes remain positive. Two factors weighed on the headline result miss: 1) short-term margin compression in ANZ primarily due to a higher mix of corporate stores whilst under-performing Franchisees are removed; and 2) increased short-term Franchise incentives in France which has resulted in improved sales momentum in 4Q19/1H20-to-date and stronger store unit economics. On the other hand, Japan was the key highlight, where SSS accelerated to a +8.4% growth with constant currency EBITDA lifting 32.1% vs pcp. Initiatives under new leadership combined with an upgraded digital platform, has been well received, with sales growth coming from new customers. Similarly, Europe remains strong, with early turnaround signs in France. Overall, SSS growth is showing positive momentum across all regions. Following a stronger 4Q19 vs 3Q19, positive momentum has continued with group SSS in the first 7 weeks of 1H20 increasing +4.7% (cycling +4.4%).

We have reduced our ANZ margin estimates and increased our capex assumptions. Including the result miss, the net effect is our FY20/FY21/FY22 EPS decrease by 6.6%/7.5%/7.2% and our 12-mth PT reduces from $53.50 to $52.30. Notwithstanding our earnings revisions, we believe DMP has significant long-term growth prospects, with Europe, Japan and acquisitions the major drivers. We retain our Buy rating.

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Select Harvests (SHV)

SHV have announced a positive FY19 crop update with both higher volumes and realised selling prices (season to date) than previously incorporated in our assumptions. SHV have now processed ~95% of the crop and have raised 2019 crop production guidance from 20,750t to 22,200-22,500t. If achieved \this would equate to a yield in excess of 20% above industry benchmarks. Furthermore, at 1H19 SHV utilised an almond price estimate of A$8.50/Kg and have today announced that ~80% of the crop has now been sold within a range of A$8.60-8.70/Kg. Data points we monitor continue to demonstrate the current crop exiting Australian ports at ~A$9.40/Kg and product exiting US ports at an implied ~A$9.10/Kg. In light of port pricing trends, weakness in the AUDUSD and recent US crop downgrades, the lead indicators for pricing in FY20e are encouraging. In terms of water costs, while no direct inference was made, we note that inflows into the SMDB has seen system storage lift from 31% to 45% in recent months. Allocation markets for the 2019/20 season continue to trade at ~$600/ML, well above 2018-19 levels.

We have updated our forecasts to reflect higher FY19e production levels, higher realised AUD almond prices and higher water costs in FY20-21e. The net effect is upgrades to NPAT of +18% in FY19e and +2% in FY21e. Our target price (which NPV based) lifts to $8.70ps (prev. $8.35ps) reflecting these changes.

There is no change to our Buy rating. We see SHV as having greater operating leverage to elevated almond prices in this cycle than the last, with production at its peak (FY24-26e) forecast to exceed FY15 levels (the previous peak in almond prices when SHV generated EBITDA of $100m) by ~65%. In the near term we see Californian supply issues and a lower AUD supporting higher realised almond prices.

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Lovisa Holdings (LOV)

LOV announced underlying FY19 EBIT of $52.5m, up 2.8% on pcp and 1.3% ahead vs our $51.8m est. FY19 gross margin edged up to 80.5% (vs FY18 at 80.0%). FY19 revenue of $250.3m (vs BPe $249.5m) was up 15.3% on pcp driven by 64 net new stores, partially offset by -0.5% like-for-like (LFL) sales growth. At end-FY19 there were 19 stores trading in the USA, implying 11 openings in 2H19. LOV noted a further 9 stores have opened so far in 1H20, suggesting an accelerating profile. In the UK / France, store rollout tracked a slower pace in 2H19 (UK 2 & France 1) although this was in line with our store assumptions. Total group store count at 30 June was 390, ahead vs BPe 384, mostly due to openings in Franchise territories and Malaysia.

Moreover, after tracking negative (-1.8%) in 1H19, LFL sales returned to positive growth in 2H19, with FY19 finishing -0.5%. Entering 1H20, LFL sales further strengthened (albeit against easier comps), and has returned to within LOV’s 3-5% target range. Gross margin edged up 50bps to 80.5%. Looking forward (in FY20/FY21) we allow for a moderation in gross margin off current highs as FX hedges roll forward. CODB/sales increased from 53% to 56% (in line vs BPe 56%) as investment into the growth of the business continued. We forecast CODB/sales will remain at current levels in FY20 before beginning to taper down in FY21/22 as scale benefits start to flow.

There are no material forecast changes in FY20-FY22, although higher store opening assumptions increase our LT forecasts. Given LOV’s growing exposure to markets that offer significant long-term store rollout prospects, and the company’s reducing reliance on its mature Australian footprint, our blended valuation now reflects a 75%/25% split (previously 50%/50%) to our DCF/SOTP. These factors, along with model roll-forward, increases our PT to $15.00 (previously $12.75). Based on LOV’s strong operating attributes and significant global store rollout prospects, we retain our Buy rating.

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Catapult Group (CAT)

CAT reported a strong FY19 result with an EBITDA of $4.1m which was comfortably ahead of our forecast of $2.9m and was the first positive reported EBITDA of the company. The company achieved its revenue and EBITDA guidance in the core Elite business (revenue of $86.9m vs guidance of $86-88m and underlying EBITDA of $12.7m vs guidance of $11-13m) though fell just short of its ARR target with growth of 18% to $63.6m vs guidance of >20% growth. The company also fell short of its guidance in Prosumer with growth in unit sales of 47% versus guidance of >150%. Operating cash flow was negative and year end cash was $11.7m though this had already improved to $21.5m by mid-August.

Catapult did not provide FY20 guidance but said it expects “continued strong revenue growth, with a further reduction in operating expense growth”. In the result presentation the company noted that the incremental revenue in FY19 generated a 32% EBITDA margin and, with slowing expense growth, the incremental revenue in FY20 to generate can be expected to generate a much higher EBITDA margin.

We have upgraded our FY20 and FY21 EBITDA forecasts by 37% and 13%. We still expect the company to report a net loss in FY20 but this has narrowed to $5.5m. We also continue to forecast a maiden net profit in FY21 but this has now increased to $3.8m. Note we forecast EBITDA growth in FY20 of >200% and this is driven by the high margin attached to incremental revenue.

We have updated each valuation we use in the determination of our price target for the earnings changes as well as the time creep. Following the strong result we have also increased the multiple we apply in the EV/Revenue valuation from 2.5x to 3.5x and reduced the WACC in the DCF from 13.4% to 12.5%. The net result is a 33% increase in our price target to $2.00 which is a 38% premium to the share price so we maintain the Buy.

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Integrated Research (IRI)

IRI reported a FY19 NPAT of $21.9m (up 14%) which was slightly ahead of our forecast of $21.7m and at the top end of the guidance range of $21-22m. The result was boosted by a currency benefit fur in constant currency NPAT was still up a strong 12%. Operating cash flow was flat but there was much less debtor factoring ($5m in FY19 vs $14m in FY18) so the underlying cash flow was strong. The final dividend increased by 7% to 3.75c fully franked which was ahead of our forecast of 3.5c.

IRI did not provide FY20 guidance but it does not provide forward guidance. The company said it is “well placed to deliver sustainable growth with execution focus” which suggests continued growth in FY20. IRI did highlight that the UC renewal pipeline is higher than FY19 which suggests a rebound in UC revenue this year after a decline in FY19.

We continue to forecast low double digit EPS growth in FY20 where the drop in growth relative to last year is largely due to the lack of any forecast forex gain. We then forecast higher low to mid-teens EPS growth in FY21 which is more consistent with the growth in FY19 and will be partly driven by the launch of the company’s cloud-based platform in 2HFY20.

We have updated each valuation we use in the determination of our price target for the modest earnings changes as well as market movements and the time creep. There are no changes in the key assumptions we apply which are a 30% discount in the relative valuations and a 10.9% WACC and 4.0% TGR in the DCF. The net result is no change in our price target of $3.50 which is a 25% premium to the share price so we maintain the Buy recommendation. In our view a forward PE ratio of c.20x is too cheap for a global software company with a strong market position and outlook.

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Pacific Smiles Group (PSQ)

PSQ reported an underlying NPAT of $8.9m (down 3.5% y/y) was 7.5% above our forecast of $8.3m and the beat was driven by lower D&A and interest expense. FY19 revenue of $122.2m (up 16.9% y/y) was 2% above our forecast. FY19 EBITDA of $22.8m was broadly in line with BPe and grew 6% above pcp (modestly ahead of guidance of 5%). Operating cash flow was strong (up 20% y/y) to $21m. PSQ had net debt position of $10m.

PSQ has guided to high single digit growth in SCPFG in FY20 (YTD tracking at +12.2%) and growth in underlying EBITDA of 6-12% over FY19. New centre target of 7-10 centres for FY20 (suggests modestly slower pace of roll out vs. historical 10 centres per year). Dividend payout ratio reaffirmed at 70-100% of NPAT.

We have upgraded our EPS forecasts in FY20 and FY21 by ~15% and 18% respectively. The upgrades have been driven by single digit percentage increases in our revenue forecasts and EBITDA. We forecast FY20 EBITDA growth of 9.8% over FY19 underlying EBITDA, which is around the mid-point of guidance and same centre patient fees growth in FY20 at +9%, which is at the top end of guidance.

Our price target has lifted to $1.47 (was $1.40) following changes to our EPS forecasts, market movements affecting our relative valuation multiples and rolling forward of our DCF model. Although margin expansion is still a couple of years away, new CEO has taken a step in the right direction. This coupled with strong FY20 guidance makes us more optimistic on PSQ’s re-rating prospects. We are switching to a Buy on valuation.

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