When looking for growth opportunities in the equity market, a common approach is to look for sectoral growth themes expected to provide a tailwind to revenues for years to come. However, in many instances, the “new age” sectors with the brightest growth narratives are populated by companies that are not yet well established enough to be free cash flow positive. They are also still dependent on debt and equity markets to fund their expansion, with investors hoping for the best in the future.
Ultimately you are relying on the competence of a particular company’s management team to execute on the corporate strategy and deliver a viable business that produces growth in earnings per share and positive free cash flow.
In this wire, we identify four opportunities with the best of both worlds, and that are:
- Exposed to sound sectoral growth themes, as well as having
- Management teams that can execute on their strategies with minimal risk.
We have deliberately focused on companies that are not particularly well known in Australia. Most are China-related and are already free cash flow positive with strong (net cash) balance sheets.
There is one exception, which is an early-stage small cap ASX-listed company which, by its nature, should be regarded as speculative. The themes and stocks are as follows:
The growing affluence of China’s middle class is driving not only luxury goods consumption but also tourism. It is estimated that between 2009 and 2030, China will add 850 million people to its middle class, meaning the middle class will grow from 12% to 73% of the population during that time.
This increased wealth will create varied consumption demands, including a surge in outbound tourism. China plans to build more than 40 new airports and expand 100 existing airports over the next five years to cater for the increased traffic flow.
TravelSky Technology (696.HK) is the dominant provider of travel booking services to China’s air travel and tourism industries. Its clients include airlines, airports, air travel suppliers, travel agencies, individual and corporate travel consumers, and cargo services.
The aviation information technology (AIT) services offered by TravelSky are provided to 38 commercial airlines in China and more than 350 foreign and regional commercial airlines. The AIT services comprise electronic travel distribution services (including Inventory Control System services and Computer Reservation System services) and Airport Passenger Processing services.
These include product services for supporting aviation alliances, solutions for developing e-tickets and e-commerce, data services for supporting decision-making of commercial airlines, as well as information management systems to improve ground operational efficiency.
TravelSky has strong cash flow and a stable dividend policy. Its dominant position in China’s aviation technology industry is supported by Chinese government policy. TravelSky currently trades on a 12-month forward PE ratio of 18.1x with an expected 3-year EPS CAGR of 17.8% based on consensus forecasts, giving a PEG ratio of 1.02.
Its current free cash flow yield is 4.2% and it has a net cash position on its balance sheet. With its dominant market position and high barriers to entry, TravelSky looks well positioned for future growth.
The electrification of transport is coming and some car companies are better positioned to deal with it than others. One company with a good head start is Geely Automobiles (175.HK).
Geely is a Chinese multinational automotive manufacturing company with strength in electric vehicles (EVs). It sells passenger vehicles under the Geely Auto, Lotus, Lynk & Co, Proton and Volvo brands. Total Chinese EV sales have increased from 482,000 in 2016 to 804,000 in 2017, according to official Chinese statistics.
Geely trades on a 12-month forward PE ratio of 10.1x with an expected 3-year EPS CAGR of 27.6% based on consensus forecasts, giving a very low PEG ratio of 0.37. Geely has a free cash flow yield of 5.2% and generates a return on equity above 30%, with net cash on its balance sheet.
Geely is better positioned than most of its peers given its strong EV technology capabilities, new product launches, and connectivity-content capabilities.
Momo Inc (MOMO.NAS) operates as a mobile-based social networking platform in China. Momo allows users to establish and expand their social relationships based on locations and interests, combined with its live video applications. The company also offers games, which are designed with various themes, cultural characteristics, and features to appeal to various segments of the game-player community, which include paid emoticons, mobile marketing services and live video.
Momo has a total user base of approximately 100 million people and has the potential to grow it significantly, enhanced by its superior live video streaming capability. In February 2018, Momo acquired Tantan, further strengthening its dominant position in the dating social networking market in China.
Tantan is the Chinese version of the Tinder dating platform. Significant synergies are expected to be realised, such as increased traffic, joint advertising, and sharing of technologies. Tantan’s active monthly user base of over 20 million is complementary to Momo’s, given that the user pool tends to be younger on Tantan.
Because of the expected synergies, a better monetization of Tantan, and continued content enrichment, Momo should be able to continue to grow its user base and broaden its revenue streams.
Momo trades on a 12-month forward PE ratio of 18.2x with an expected 3-year EPS CAGR of 29.0% based on consensus forecasts, giving a PEG ratio of 0.63. Momo has a free cash flow yield of 4.2%, generates a return on equity above 35%, and has net cash on its balance sheet.
Altech Chemicals’ (ATC.ASX) objective is to be the world’s first pure-play, high-purity alumina (HPA) producer. The market for all grades of HPA is expected to quadruple in size by 2025, growing from 33ktpa to 122ktpa, according to Petra Capital. Demand for HPA is being driven by strong growth in light-emitting diodes (LEDs) and lithium-ion battery separators.
Altech is a small cap Australian company still at the pre-project stage and therefore should be considered speculative. However, it has been reaching significant milestones recently, including an offtake agreement with Mitsubishi and a financing facility with Germany’s KfW IPEX-Bank. Altech is closing the funding gap as it nears a fully financed project in a material leveraged to growth in LEDs and lithium-ion batteries.
As always, whichever stocks you choose, a diversified approach to investing should be taken to avoid overconcentration of risk.
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Responsible for identifying domestic and international equity investment opportunities. 25 years of financial markets experience as an equity strategist, economist, analyst, portfolio manager and consultant.