Insights

Our best ideas are those that we think offer the highest risk-adjusted returns over a 12-month timeframe supported by a higher-than-average level of confidence. They are our most preferred sector exposures.

Additions: Orora (ASX:ORA) and Helloworld (ASX:HLO).

Removals: Ventia Services (ASX:VNT)

Large cap best ideas

Commonwealth Bank (ASX:CBA)

The second largest stock on the ASX by market capitalisation. We view CBA as the highest quality bank and a core portfolio holding for the long term, but the trade-off is it is the most expensive on key valuation metrics (including the lowest dividend yield). Amongst the major banks, CBA has the highest return on equity, lowest cost of equity (reflecting asset and funding mix), and strongest technology. It is currently benefitting from the sugar hit of both the rising rate environment and relatively benign credit environment.

Westpac Banking Corp (ASX:WBC)

We view WBC as having the greatest potential for return on equity improvement amongst the major banks if its business transformation initiatives prove successful. The sources of this improvement include improved loan origination and processing capability, cost reductions (including from divestments and cost-out), rapid leverage to higher rates environment, and reduced regulatory credit risk intensity of non-home loan book. Yield including franking is attractive for income-oriented investors, while the ROE improvement should deliver share price growth.

Wesfarmers (ASX:WES)

WES possesses one of the highest quality retail portfolios in Australia with strong brands including Bunnings, Kmart and Officeworks. The company is run by a highly regarded management team and the balance sheet is healthy. We believe WES’s businesses, which have a strong focus on value, remain well-placed for growth and market share gains in a softening macroeconomic environment.

Macquarie Group (ASX:MQG)

We continue to like MQG’s exposure to long-term structural growth areas such as infrastructure and renewables. The company also stands to benefit from recent market volatility through its trading businesses, while it continues to gain market share in Australian mortgages.

CSL Limited (ASX:CSL)

A key portfolio holding and key sector pick, we believe CSL is poised to break-out this year, a COVID exit trade, offering double-digit recovery in earnings growth as plasma collections increase, new products get approved and influenza vaccine uptake increases around ongoing concerns about respiratory viruses, with shares offering good value trading around its long-term forward multiple of ~30x.

ResMed Inc (ASX:RMD)

While we expect the next few quarters to be volatile as COVID-related demand for ventilators continues to slow and core sleep apnoea volumes gradually lift, nothing changes our medium/longer term view that the company remains well-placed as it builds a unique, patient-centric, connected-care digital platform that addresses the main pinch points across the healthcare value chain.

Transurban (ASX:TCL)

TCL owns a pure play portfolio of toll road concession assets located in Melbourne, Sydney, Brisbane, and North America. This provides exposure to regional population and employment growth and urbanisation. Given very high EBITDA margins, earnings are driven by traffic growth (with recovery from COVID) and toll escalation (roughly 70% by at least CPI and approximately one-quarter at a fixed c.4.25% pa). We think TCL will continue to be attractive to investors given its market cap weighting (important for passive index tracking flows), the high quality of its assets, management team, balance sheet, and growth prospects.

QBE Insurance Group (ASX:QBE)

With strong rate increases still flowing through QBE's insurance book, and further cost-out benefits to come, we expect QBE's earnings profile to improve strongly over the next few years. The stock also has a robust balance sheet and remains relatively inexpensive overall trading on 8x FY24F PE.

Aristocrat Leisure (ASX:ALL)

We have three key reasons for being positive on ALL. They are: (1) long-term organic growth potential. ALL is better capitalised than many of its competitors and has what we regard as a strong platform to continue investment in design and development in both its land-based gaming and digital businesses; (2) strong cash conversion and ROCE. ALL is a capital-light business despite its ongoing investment in Gaming Operations capex and working capital. It has a high level of cash conversion and ROCE; and (3) strong platform for investment. ALL has funding capacity for organic and inorganic investment in online RMG, even after the recent buyback. Its current available liquidity is $3.8bn.

Mineral Resources (ASX:MIN)

MIN is a founder-led business and top tier miner and crusher that has grown consistently despite barely issuing a share over the last decade. Also helping our investment view is that MIN’s diversification leaves it far more capable of tolerating volatility in lithium markets than its peers in the sector. We see MIN’s lithium / iron ore market exposures as an ideal combination to benefit from the China re-opening increase in demand during 1H’CY23. We also see MIN as well placed to grow into its valuation, even if we see unexpected metal price volatility, given the magnitude of organic growth in the pipeline.

South32 (ASX:S32)

S32 has transformed its portfolio by divesting South African thermal coal and acquiring an interest in Chile copper, substantially boosting group earnings quality, as well as S32's risk and ESG profile. Unlike its peers amongst ASX-listed large-cap miners, S32 is not exposed to iron ore. Instead offering a highly diversified portfolio of base metals and metallurgical coal (with most of these metals enjoying solid price strength). We see attractive long-term value potential in S32 from de-risking of its growth portfolio, the potential for further portfolio changes, and an earnings-linked dividend policy.

Santos (ASX:STO)

The resilience of STO's growth profile and diversified earnings base see it well placed to outperform against the backdrop of a broader sector recovery. While pre-FEED, we see Dorado as likely to provide attractive growth for STO, while its recent acquisition increasing its stake in Darwin LNG has increased our confidence in Barossa's development. PNG growth meanwhile remains a riskier proposition, with the government adamant it will keep a larger share of economic rents while operator Exxon has significantly deferred growth plans across its global portfolio.

Goodman Group (ASX:GMG)

GMG represents c.27% of the ASX A-REIT index and is one of the few offshore earners in the A-REIT space. GMG rarely screens cheap against domestic peers, but within the context of its offshore peers, it consistently delivers higher returns at lower levels of leverage and at a comparable price to book ratio. Growth in Assets Under Management and development completions are a key determinant of value and an AUM of A$80bn (US$50m) is comparatively modest in a global context, whilst A$7bn (US$5.5n) of completions pa we see as likely sustainable. With continued increases in interest rates and persistent inflation (most notably construction costs), risks abound the REIT sector. This drives our preference for beds and sheds, reflecting the strength of those underlying operating markets. Given the duration risk from higher rates, we prefer more active managers who can grow AUM and add value from an active buy, build, manage strategy. To this end, strong balance sheets are also key to navigate any deterioration in book values.

Seek (ASX:SEK)

Of the classifieds players, we continue to see SEEK as the one with the most relative upside, a view that had previously been based on sustained listings growth. However, whilst the tailwinds that had driven elevated job ads in prior periods appear to be abating to a degree, we note businesses are continuing to look to grow headcount in the coming months and vacancy rates remain elevated. Candidates are returning to the platform with applications per job ad now approaching pre-COVID levels (on improved migration levels and labour mobility), suggesting SEEK has additional flexibility to pull the dynamic pricing lever – helping to drive yield growth into FY24.

Telstra (ASX:TLS)

After a major turnaround, TLS has emerged in good shape with strong earnings momentum and a strong balance sheet. In late CY22 shareholders voted on Telstra's legal restructure, which opens the door for value to be released from the separation of TLS’s infrastructure and core mobile business. TLS currently trades on ~8x EV/EBITDA. However, some of TLS’s high quality long life assets like InfraCo are worth substantially more, in our view. We don’t think this is in the price so see it as value generating for TLS shareholders. This, free option, combined with progressive price rises underpins positive earnings momentum and means TLS remains well placed for the year ahead.

Qantas Airways (ASX:QAN)

QAN is now our preferred pick of our travel stocks under coverage given it has the most near-term earnings momentum. Looking across travel companies globally, airlines are now in the sweet spot given demand is massively exceeding supply. QAN is trading at a material discount compared to pre-COVID multiples, despite having structurally higher earnings, a much stronger balance sheet, a better domestic market position, a higher returning International business and more diversification (stronger Loyalty/Freight earnings). The strong pent-up demand to travel post-COVID should result in a healthy demand environment for some time, underpinning further EBITDA growth over FY24/25. QAN’s balance sheet strength positions it extremely well for its upcoming EBITaccretive fleet reinvestment and further capital management initiatives (recently announced a A$500m on-market share buyback at its 1H23 result). There is also likely upside to our forecasts and consensus if QAN achieves its FY24 strategic targets.

Morgans clients can download our full list of Best Ideas, including our mid-cap and small-cap key stock picks.

A Comprehensive Guide

As reporting season approaches for companies with a June or December year-end, investors brace themselves for a flurry of activity on the stock market. August marks the time when most companies listed on the ASX unveil their earnings results. This period often brings heightened share price volatility and an influx of information for investors to digest. In our analysis of The Month Ahead for August, we've handpicked three stocks that warrant close attention during reporting season:

Hello World Travel Limited

Helloworld Travel (HLO) is a leading Australian & New Zealand travel distribution company, comprising retail leisure travel and business travel networks, travel broker networks, destination management services (inbound), air ticket consolidation, tourism transport operations, wholesale travel services, online operations and event-based freight operations. It has over 2,000 members across its travel agency networks in Australia and New Zealand. We think Helloworld has managed the COVID travel downturn and recovery extremely well. Recent bolt-on acquisitions, the ETG acquisition (and synergies), the scaling of its event-based freight operations and structural cost out means that Helloworld has more than offset the lost earnings from selling its Corporate business to Corporate Travel Management. Post all of this, its balance sheet is still strong with plenty of cash and no debt and it retains some of its shares in Corporate Travel Management. This position will allow it to fund further M&A and/or capital management. We think Helloworld is materially undervalued, especially when we back out its investment in Corporate Travel Management from its enterprise value.

The result

We are expecting a beat. Helloworld’s FY23 EBITDA guidance of A$38-42m still looks conservative despite two upgrades this financial year. If there isn’t a third one coming, we think the company will easily beat the top end of its guidance range when it reports in August. Guidance assumes a weaker 4Q vs 3Q, despite the 4Q being the seasonally stronger period. Its EBITDA margin will be a highlight. In line with seasonal trends, Helloworld should report strong operating cashflow in the 2H. FY24 is shaping up to be a big year for Helloworld. Not only will travel markets continue to recover post COVID, it will also benefit from all the rockstars coming to town (Taylor Swift and P!nk etc). The proposed acquisition of Express Group Travel (ETG) and the synergy benefits appear highly EPS accretive. None of the recently announced acquisitions are in consensus estimates, so large upgrades are expected when they complete.

CSL Limited

CSL (CSL) is a leading global speciality pharmaceutical company and vaccine manufacturer. Despite unfavourable Seqirus seasonality and Behring margin headwinds, CSL’s recent reaffirmation of its FY23 guidance net profit implies a solid second half in FY23, with declining plasma costs, ongoing demand across both Behring and Seqirus, along with full Vifor contribution. The fundamental outlook remains ‘really strong’.

The result

We think CSL’s result will reassure investors and remind them of the compelling fundamental attributes of the growth story. The result itself was pre-announced and so shouldn’t serve up many surprises. CSL is targeting the upper end of its guidance for constant currency growth of 28-30% in revenue and 13-18% in net income (net profit after tax before amortisation or ‘NPATA’). Currency headwinds are expected to shave US$230-250m off statutory NPATA, but this should be well understood by investors. Looking forward to FY24, CSL is targeting constant currency NPATA growth of a further 13-18%. Behring margins are expected to improve modestly. Cost per litre is expected to improve, but elevated donor fees and labour require other levers to pull (like operating efficiencies; yield improvement; new products; and pricing) to get margins back to pre-COVID levels over the medium term. Seqirus profit is skewed to the second half, with strong seasonal influenza vaccine uptake and shift to differentiated products, while Vifor remains on track, with integration going well, synergies on target and loss of EU patent exclusivity for IV iron Ferinject (c5% of group revenue) well known and in FY24 guidance.

Orora

Orora (ORA) is a global packaging manufacturer. We see it as a solid, defensive business with a healthy balance sheet and an experienced management team. We think the valuation looks attractive and have confidence in management’s ability to maintain pricing discipline and extract further business optimisation gains in North America. Lower commodity prices, such as of aluminium and soda ash, should also help Australasian margins. We think some key catalysts include value-accretive acquisitions and the AGM trading update in October.

The result

Orora rarely disappoints! It has a good track record of exceeding expectations with the last four EBIT results beating consensus forecasts by an average of 5%. This has mostly been driven by benefits from business optimisation initiatives in North America. For FY23, we forecast Australasia EBIT to be down 1% vs management’s guidance for earnings to be broadly in line with FY22. We estimate North America EBIT (in USD) to rise by 11%, compared with management’s guidance for ‘higher earnings’. We think Orora is unlikely to provide quantitative earnings guidance for the year ahead. In line with previous years, we expect management simply to say that FY24 earnings will be higher than in FY23.

Morgans clients receive exclusive insights such as access to the latest stock and sector coverage featured in the Month Ahead. Contact us today to begin your journey with Morgans.

• As attention turns to the August reporting season, earnings estimates appear to be on much shakier ground this time around. Soft trading updates from retailers in May/June have reinforced the view that the economy has reached a weaker period after months of enduring elevated inflation and higher interest rates.
• Quantity and quality of earnings will come into focus as the macro takes a back seat to company fundamentals. Key themes to watch include FY24 earnings trends, higher interest costs, cyclical signposts (consumer demand, industrial margins), small cap performance, short selling and positioning in resources.
• Morgans analysts preview the results for 145 stocks under coverage that report in August and call out likely surprise and disappoint candidates from page 9.
• Key tactical trades (page 2) include Resmed, Flight Centre, Orora, QBE, Medibank, and Lovisa among many others.

Watch

EPS erosion and not a collapse

FY24 EPS growth for ASX200 Industrials has slipped from 12% growth to c6% since February, and while this is a momentum headwind, this rate is only marginally below the 7% 20-year average EPS growth rate for ASX Industrials.

Corporate profit growth isn’t bad in a long-term Australian context. It just isn’t nearly as compelling as it has been through recent – post-pandemic – history. However, we explain why we think there will be some dividend restraint in August.

Much like the past few reporting periods, company outlook will be closely watched and we think the wide divergence of corporate performance will provide opportunities for tactical investors. We look for companies that are less prone to earnings erosion.

These include those with a growing earnings profile, strong cash flow profile and trading at reasonable valuations.

Balance sheets back in focus

As demand slows, the rapid rise in interest rates after a drawn-out period anchored at zero has renewed the focus on balance sheets and gearing. The decision to fix or hedge borrowing may buy companies some time but debt obligations can no longer be ignored with business lending costs rising from 1.5% in January 2022 to 5.2% in May 2023 (RBA, APRA).

Recent company updates have already called out higher interest costs as an earnings headwind in FY24: GNC, ORI, CKF, REITs. We expect financing costs to come under scrutiny. We think the most at risk include Amcor, Aurizon, Costa Group, Cromwell, Cleanaway, Domino’s Pizza, Star Entertainment Group and Wagners.

Key tactical calls around August results of interest

Morgans analysts identify key tactical calls around August results, where stock price reactions are flagged to surprise or disappoint. Insurers (QBE, Suncorp, Medibank and NIB) all enjoy momentum from higher investment yields, price rises and benign claims.

Rebounding travel demand supports for Qantas and Flight Centre where we see upside risk to FY24 expectations.

Consumer stocks have been under pressure, but we think results for the likes of Super Retail, Lovisa and Domino’s can re-ignite market interest. Watch also for potential weakness in a cross-section of larger names including Amcor, ARB Corp, Treasury Wines, Transurban and APA Group.

Figure 1: Tactical opportunities - Morgans reporting season surprise candidates

Morgans clients receive access to detailed market analysis and insights, provided by our award-winning research team. Begin your journey with Morgans today to view the exclusive coverage.

• Morgans research analysts re-set their sector views, strategies and best ideas as unfolding forces challenge investors.
• Our targeted approach in equities currently favours stocks with defensive attributes, pricing power and commodities-linked revenues.
• We currently favour high quality defensive exposures in staples, healthcare, telco and financials along with select materials/energy exposure.

Patience required in Equities

The combination of slowing economic growth and central banks still focused on above-target inflation will remain a challenging backdrop for equities. The recession now taking hold across advanced economies means some short-term weakness is in store. We’re looking for a brightening in the US economic outlook to provide a more decisive trigger to improve the broader market appetite for risk assets including equities.

Poor investor sentiment and elevated cash levels should ensure any pullback in asset prices will be relatively short-lived, so it’s important for investors to remain nimble. The inflection point for risk assets may be difficult to time, so investors should have a strategy for managing staged exposure, in our view.

After a promising start to the year, China's economic growth has recently slowed down, falling short of expectations as shown by recent weakness in key economic data. The central government had anticipated a post-COVID recovery in consumer spending that could drive growth to the c5% GDP growth target. However, due to concerns about housing market stability, this recovery faltered.

To address the issue, key interest rates were reduced to encourage banks to lend and kick-start a recovery in the real estate sector, which accounts for more than a quarter of China's economy. At this stage, stimulus looks set to be fairly modest, so the near-term outlook still depends primarily on the extent of second round effects on consumer confidence and spending.

We think tactical opportunities will emerge as key economies work through the challenges posed by stubbornly resilient inflation. We think investors will do well tilting toward value and quality.

In this update, Morgans sector analysts have made few changes, but have downgraded their rating on the Energy sector to Overweight (from Strongly Overweight).

ASX Small Industrials - valuation dispersion: The significant valuation spread between small caps vs large highlights the level of risk aversion in current markets.

Morgans clients receive access to detailed market analysis and insights, provided by our award-winning research team. Begin your journey with Morgans today to view the exclusive coverage.

Our best ideas are those that we think offer the highest risk-adjusted returns over a 12-month timeframe supported by a higher-than-average level of confidence. They are our most preferred sector exposures.

Additions: Goodman Group (ASX:GMG) and Inghams (ASX:ING).

Removals: Nufarm (ASX:NUF) and Strandline (ASX:STA).

Large cap best ideas

Commonwealth Bank (ASX:CBA)

The second largest stock on the ASX by market capitalisation. We view CBA as the highest quality bank and a core portfolio holding for the long term, but the trade-off is it is the most expensive on key valuation metrics (including the lowest dividend yield). Amongst the major banks, CBA has the highest return on equity, lowest cost of equity (reflecting asset and funding mix), and strongest technology. It is currently benefitting from the sugar hit of both the rising rate environment and relatively benign credit environment.

Westpac Banking Corp (ASX:WBC)

We view WBC as having the greatest potential for return on equity improvement amongst the major banks if its business transformation initiatives prove successful. The sources of this improvement include improved loan origination and processing capability, cost reductions (including from divestments and cost-out), rapid leverage to higher rates environment, and reduced regulatory credit risk intensity of non-home loan book. Yield including franking is attractive for income-oriented investors, while the ROE improvement should deliver share price growth.

Wesfarmers (ASX:WES)

WES possesses one of the highest quality retail portfolios in Australia with strong brands including Bunnings, Kmart and Officeworks. The company is run by a highly regarded management team and the balance sheet is healthy. We believe WES’s businesses, which have a strong focus on value, remain well-placed for growth and market share gains in a softening macroeconomic environment.

Macquarie Group (ASX:MQG)

We continue to like MQG’s exposure to long-term structural growth areas such as infrastructure and renewables. The company also stands to benefit from recent market volatility through its trading businesses, while it continues to gain market share in Australian mortgages.

CSL Limited (ASX:CSL)

A key portfolio holding and key sector pick, we believe CSL is poised to break-out this year, a COVID exit trade, offering double-digit recovery in earnings growth as plasma collections increase, new products get approved and influenza vaccine uptake increases around ongoing concerns about respiratory viruses, with shares offering good value trading around its long-term forward multiple of ~30x.

ResMed Inc (ASX:RMD)

While we expect the next few quarters to be volatile as COVID-related demand for ventilators continues to slow and core sleep apnoea volumes gradually lift, nothing changes our medium/longer term view that the company remains well-placed as it builds a unique, patient-centric, connected-care digital platform that addresses the main pinch points across the healthcare value chain.

Transurban (ASX:TCL)

TCL owns a pure play portfolio of toll road concession assets located in Melbourne, Sydney, Brisbane, and North America. This provides exposure to regional population and employment growth and urbanisation. Given very high EBITDA margins, earnings are driven by traffic growth (with recovery from COVID) and toll escalation (roughly 70% by at least CPI and approximately one-quarter at a fixed c.4.25% pa). We think TCL will continue to be attractive to investors given its market cap weighting (important for passive index tracking flows), the high quality of its assets, management team, balance sheet, and growth prospects.

QBE Insurance Group (ASX:QBE)

With strong rate increases still flowing through QBE's insurance book, and further cost-out benefits to come, we expect QBE's earnings profile to improve strongly over the next few years. The stock also has a robust balance sheet and remains relatively inexpensive overall trading on 8x FY24F PE.

Aristocrat Leisure (ASX:ALL)

We have three key reasons for being positive on ALL. They are: (1) long-term organic growth potential. ALL is better capitalised than many of its competitors and has what we regard as a strong platform to continue investment in design and development in both its land-based gaming and digital businesses; (2) strong cash conversion and ROCE. ALL is a capital-light business despite its ongoing investment in Gaming Operations capex and working capital. It has a high level of cash conversion and ROCE; and (3) strong platform for investment. ALL has funding capacity for organic and inorganic investment in online RMG, even after the recent buyback. Its current available liquidity is $3.8bn.

Mineral Resources (ASX:MIN)

MIN is a founder-led business and top tier miner and crusher that has grown consistently despite barely issuing a share over the last decade. Also helping our investment view is that MIN’s diversification leaves it far more capable of tolerating volatility in lithium markets than its peers in the sector. We see MIN’s lithium / iron ore market exposures as an ideal combination to benefit from the China re-opening increase in demand during 1H’CY23. We also see MIN as well placed to grow into its valuation, even if we see unexpected metal price volatility, given the magnitude of organic growth in the pipeline.

South32 (ASX:S32)

S32 has transformed its portfolio by divesting South African thermal coal and acquiring an interest in Chile copper, substantially boosting group earnings quality, as well as S32's risk and ESG profile. Unlike its peers amongst ASX-listed large-cap miners, S32 is not exposed to iron ore. Instead offering a highly diversified portfolio of base metals and metallurgical coal (with most of these metals enjoying solid price strength). We see attractive long-term value potential in S32 from de-risking of its growth portfolio, the potential for further portfolio changes, and an earnings-linked dividend policy.

Santos (ASX:STO)

The resilience of STO's growth profile and diversified earnings base see it well placed to outperform against the backdrop of a broader sector recovery. While pre-FEED, we see Dorado as likely to provide attractive growth for STO, while its recent acquisition increasing its stake in Darwin LNG has increased our confidence in Barossa's development. PNG growth meanwhile remains a riskier proposition, with the government adamant it will keep a larger share of economic rents while operator Exxon has significantly deferred growth plans across its global portfolio.

Goodman Group (ASX:GMG) - New Addition

GMG represents c.27% of the ASX A-REIT index and is one of the few offshore earners in the A-REIT space. GMG rarely screens cheap against domestic peers, but within the context of its offshore peers, it consistently delivers higher returns at lower levels of leverage and at a comparable price to book ratio. Growth in Assets Under Management and development completions are a key determinant of value and an AUM of A$80bn (US$50m) is comparatively modest in a global context, whilst A$7bn (US$5.5n) of completions pa we see as likely sustainable. With continued increases in interest rates and persistent inflation (most notably construction costs), risks abound the REIT sector. This drives our preference for beds and sheds, reflecting the strength of those underlying operating markets. Given the duration risk from higher rates, we prefer more active managers who can grow AUM and add value from an active buy, build, manage strategy. To this end, strong balance sheets are also key to navigate any deterioration in book values.

Seek (ASX:SEK)

Of the classifieds players, we continue to see SEEK as the one with the most relative upside, a view that had previously been based on sustained listings growth. However, whilst the tailwinds that had driven elevated job ads in prior periods appear to be abating to a degree, we note businesses are continuing to look to grow headcount in the coming months and vacancy rates remain elevated. Candidates are returning to the platform with applications per job ad now approaching pre-COVID levels (on improved migration levels and labour mobility), suggesting SEEK has additional flexibility to pull the dynamic pricing lever – helping to drive yield growth into FY24.

Telstra (ASX:TLS)

After a major turnaround, TLS has emerged in good shape with strong earnings momentum and a strong balance sheet. In late CY22 shareholders voted on Telstra's legal restructure, which opens the door for value to be released from the separation of TLS’s infrastructure and core mobile business. TLS currently trades on ~8x EV/EBITDA. However, some of TLS’s high quality long life assets like InfraCo are worth substantially more, in our view. We don’t think this is in the price so see it as value generating for TLS shareholders. This, free option, combined with progressive price rises underpins positive earnings momentum and means TLS remains well placed for the year ahead.

Qantas Airways (ASX:QAN)

QAN is now our preferred pick of our travel stocks under coverage given it has the most near-term earnings momentum. Looking across travel companies globally, airlines are now in the sweet spot given demand is massively exceeding supply. QAN is trading at a material discount compared to pre-COVID multiples, despite having structurally higher earnings, a much stronger balance sheet, a better domestic market position, a higher returning International business and more diversification (stronger Loyalty/Freight earnings). The strong pent-up demand to travel post-COVID should result in a healthy demand environment for some time, underpinning further EBITDA growth over FY24/25. QAN’s balance sheet strength positions it extremely well for its upcoming EBIT-accretive fleet reinvestment and further capital management initiatives (recently announced a A$500m on-market share buyback at its 1H23 result). There is also likely upside to our forecasts and consensus if QAN achieves its FY24 strategic targets.

Morgans clients can download our full list of Best Ideas, including our mid-cap and small-cap key stock picks.

Investing in Strong Leadership

When it comes to equity investment, the prowess of leadership can be a defining factor in a company's success. Visionary leaders inspire, unite, and drive businesses towards achieving enduring shareholder value. In the Month Ahead for July 2023, we spotlight four companies distinguished by their exceptional leadership.

Endeavour Group

Endeavour Group (EDV) is Australia’s largest retail liquor and hospitality business with a retail network of around 1,700 stores across two key brands – Dan Murphy’s and BWS – and operates a portfolio of around 350 licensed venues providing a range of hospitality services including food and beverage, gaming and accommodation.

EDV has strong market positions with ~40% share in the retail liquor sector (vs #2 Coles with ~14% share) and ~9% share in hotels (vs #2 Australian Venue Co. with ~4% share). We believe the share price weakness over the past 12 months reflects the market’s concern around the potential for tighter poker machines regulation, increased capex due to higher hotels acquisitions and whether management can achieve their 15% return on investment by year two, and the extent to which consumers will keep spending in hotels as cost-of-living pressures increase.

We see these concerns as valid but believe them to be more than reflected in the current share price. Using a sum-of-the-parts valuation, if we apply a multiple for the Retail division that is broadly in line with where Woolworths (WOW) and Coles Group (COL) are currently trading, at EDV’s current share price we estimate the market is valuing the Hotels division at 4x EBITDA.

Finding a direct comparison in the listed space for hotels is not easy but we note that the likes of Aristocrat Leisure (ALL), Tabcorp (TAH), Star Entertainment Group (SGR) and Sky City Entertainment Group (SKC) are all trading on EV/EBITDA multiples of 6.5–12.0x. Therefore, we think the balance of risks for EDV from here is weighted to the upside.

Goodman Group

Goodman Group (GMG) is an integrated property group with operations throughout Australia, New Zealand, Asia, Europe, the United Kingdom, North America and Brazil. GMG is the largest industrial property group listed on the Australian Securities Exchange (ASX) and one of the largest listed specialist investment managers of industrial property and business space globally.  

With continued increases in interest rates and persistent inflation (most notably construction costs), risks surround the REIT sector. Therefore, when buying shares in real estate companies (or trusts), it is important to seek out businesses that can push rents up to combat these headwinds - companies with actual pricing power.

This has driven our preference for industrial property ('sheds'), given the strength of those underlying operating markets. Given real estate's sensitivity to higher interest rates, we prefer those active managers who can grow Assets Under Management (AUM) and add value from an active buy, build, manage strategy. To this end, strong balance sheets are also key to navigating any decline in book values.

With these preferences in mind, we see a buying opportunity in industrial property giant Goodman Group (GMG), as a high-quality, founder-led group with a robust balance sheet and real pricing power.

GQG Partners

GQG Partners (GQG) is a global asset management boutique, that manages over US$95bn in funds across four primary equity strategies. The business has a philosophy of client alignment (fee structure and staff ownership), highly effective distribution, and scalable strategies that have enabled rapid funds under management (FUM) growth since being founded in 2016.

Against structural industry pressure on management fees, GQG's relatively recent inception has allowed its founders (CIO Rajiv Jain and CEO Tim Carver) to create a sustainable model suitable to the current industry backdrop.  

GQG's long-term investment performance has been solid (outperforming its strategy benchmarks) and the group’s investment style has seen this delivered with less volatility and through various market conditions. This outperformance has resulted in GQG continuing to attract fund flow (US$5.9bn in 2023 to May) whilst most domestically listed peers are seeing outflows.

The group has exceptional global distribution which it expects to leverage over time through additional teams or funds. Whilst key man risk (Rajiv Jain as CIO) is high in GQG, we think the valuation and dividend of around 9% outweigh the risk. GQG has delivered strong results against a tough market backdrop - with some market performance, we think the stock can perform well.

Corporate Travel Management

After hitting a recent high of $21.62 in mid-April, shares in Corporate Travel Management (CTD) have fallen to under $18.00. We note that the entire travel sector has been sold off in the last couple of weeks despite some generally positive updates, albeit they might not have included the earnings upgrades the bulls had hoped.

CTD is the world’s fifth-largest corporate travel management company. This founder-led business successfully managed the COVID travel downturn without raising new equity to restore its balance sheet, unlike many of its peers. Throughout COVID, its balance sheet remained strong and it has no debt.

It was one of the first travel companies to declare a dividend. Following two attractive acquisitions made during COVID, material new client wins and structural cost savings and automation benefits from its technology, CTD will come out of COVID as a much larger business. Pre-COVID, CTD had a strong track record of reporting double-digit earnings growth and industry-leading margins and we expect that this will continue in the future.

We think the current weakness represents a great buying opportunity for patient investors. When travel demand eventually recovers, we think CTD’s share price will be materially higher than it is today. Based on our forecasts, CTD is trading on an FY24 (full recovery year) PE of only 16.5x, the cheapest it has been in some time (pre-COVID it traded on 25x).

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