Lock in gains on MER; switch from RRHI to DNL

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Chrystal Austin
5 years ago
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Lock in gains on MER; switch from RRHI to DNL Since we last wrote our COLing the Shots report, the market rallied to as high as 8,605.15, but eventually corrected to its current level of 8,343.23.

1 Lock in gains on MER; switch from RRHI to DNL Since we last wrote our COLing the Shots report, the market rallied to as high as 8,605.15, but eventually corrected to its current level of 8, We think that the recent sell-off was largely due to profit taking as the PSEi is still up 22.0% for the year to date period. Moreover, the recently concluded nine months earnings season did not warrant any change in investors view as sector specific issues were the same. Finally, although the government announced better than expected third quarter GDP growth of 6.9%, the picture wasn t perfect as consumer spending growth slowed to 4.5%, the slowest pace of growth since the fourth quarter of Private sector construction spending growth also slowed down significantly to 0.6% from 5.1% in 2Q17 and 13.0% in 1Q17. Despite the less than perfect third quarter GDP results, we think there is no need to turn cautious on the economy and the stock market as Budget Secretary Benjamin Diokno recently said that he is hopeful that the 2018 national budget will be approved by the first week of December, together with package one of the tax reform program. Recall that the passage of the tax reform program is crucial for the government to meet its goal of increasing infrastructure spending in 2018, and maintain the increasing contribution of government spending to Philippines GDP growth. The reduction in personal income tax resulting from the passage of the tax reform program is also expected to give disposable income a significant boost, allowing consumer spending growth to rebound in 2018 after posting a weak third quarter reading. A monthly publication by COL which provides insights on investments opportunities based on global and local developments that could affect the market. COLing the Shots aim to provide timely and relevant information and analysis as well as a model portfolio for successful investing. We are recommending some changes in our COLing the Shots stock pick list. First, we are recommending investors to lock in gains on MER. Aside from the stronger than expected growth in sales volume, MER s strong performance recently was triggered by its inclusion in the MSCI global index. Note that passive funds tracking the MSCI global index have until the end of November to comply with the rebalanced index. MER s share price could correct in December, once the deadline is over, giving retail investors an opportunity to buy back MER shares at a cheaper price. Meanwhile, we are recommending investors to lock in gains on RRHI and switch to DNL. Although we are confident that RRHI stands to benefit from the passage of the tax reform program, we prefer DNL. DNL reported better than expected third quarter earnings which we believe is sustainable since it was driven by the first full period contribution of its Ventura partnership. Moreover, for 2018, we forecast DNL s EPS to grow by 17%, much faster than our 9% EPS growth forecast for RRHI. Finally, DNL is trading at 23.2X 2018E P/E, only slightly higher than RRHI s 2018E P/E of 22.0X. This is despite DNL s more attractive growth outlook. APRIL LYNN TAN, CFA VP & HEAD OF RESEARCH april.tan@colfinancial.com Disclaimer: All content provided in COL Reports are meant to be read in the COL Financial website. Accuracy and completeness of content cannot be guaranteed if reports are viewed outside of the COL Financial website as these may be subject to tampering or unauthorized alterations.

2 Investors lock in gains on absence of new catalysts Since we last wrote our COLing the Shots report, the market rallied to as high as 8,605.15, but eventually corrected to its current level of 8, We think that the recent sell-off was largely due to profit taking. Even at its current level, the PSEi is still up 22.0% for the year to date period making it very tempting for investors to lock in gains. Moreover, the recently concluded nine months earnings season did not warrant any change in investors view towards listed companies and the stock market. While there were a lot of company specific developments, sector specific issues were the same. The banking, property and gaming sectors continued to perform well, while cement sector continued to disappoint. Finally, although the government announced better than expected third quarter GDP growth of 6.9%, this was largely driven by a pick-up in government spending (+8.3%) and the resilience of the manufacturing sector (+9.4%). The picture wasn t perfect as consumer spending growth slowed to 4.5%, the slowest pace of growth since the fourth quarter of Private sector construction spending growth also slowed down significantly to 0.6% from 5.1% in 2Q17 and 13.0% in 1Q17. Despite the less than perfect third quarter GDP results, we think there is no need to turn cautious on the economy and the stock market. On November 22, Budget Secretary Benjamin Diokno said that he is hopeful that the 2018 national budget will be approved by the first week of December, together with package one of the tax reform program. Recall that the passage of the tax reform program is crucial for the government to meet its goal of increasing infrastructure spending in 2018, and maintain the increasing contribution of government spending to the Philippines GDP growth. The reduction in personal income tax resulting from the passage of the tax reform program is also expected to give disposable income a significant boost, allowing consumer spending growth to rebound in 2018 after posting a weak third quarter reading. Lock in gains on MER; switch from RRHI to DNL Although we are maintaining our general view towards the stock market, we are recommending some changes in our COLing the Shots stock pick list. First, we are recommending investors to lock in gains on MER. Aside from the stronger than expected growth in sales volume, MER s strong performance recently was triggered by its inclusion in the MSCI global index. Note that passive funds tracking the MSCI global index are buying share of MER and have until the end of November to comply with the rebalanced index. MER s share price could correct in December, once the deadline to fully comply with the rebalanced MSCI index is over. This could give retail investors an opportunity to buy back MER shares at a cheaper price. COL Financial Group, Inc. 2

3 Meanwhile, there were three companies in our COLing the Shots stock pick list that delivered weaker than expected results, namely RRHI, SCC and MBT. RRHI reported a 4.2% increase in core profits for the third quarter of Results were below expected largely due to the weak performance of its supermarket and department store segments. Although we are confident that RRHI s performance will recover next year as it stands to benefit from the passage of the tax reform program, we recommend investors to lock in gains on RRHI and switch to DNL instead. Note that DNL reported better than expected third quarter results largely driven by the rebound in sales volume of its high margin specialty products (+7.2%) after it fell by 4.6% in the second quarter. We believe that the recovery in sales volume of its high margin specialty products is sustainable. One of the main reasons why sales recovered was the first full period contribution of its partnership with Ventura which in turn allowed export revenues to jump by 74% y/y to Php4.96 Bil during 9M17. As discussed in our previous reports, the growth potential of the Ventura partnership is significant as DNL would now be able to tap other markets in Asia. During the first nine months of 2017, DNL already sold high margin products to customers located in China, HK, Japan and Indonesia. For 2018, we forecast DNL s EPS to grow by 17%, much faster than our 9% EPS growth forecast for RRHI. DNL is also trading at 23.2X 2018E P/E, only slightly higher than RRHI s 2018E P/E of 22.0X. This is despite DNL s more attractive growth outlook. For the said reasons, we are recommending investors to lock in gains on RRHI and switch to DNL instead. Another company that reported weaker than expected profits was SCC. SCC s 9M17 profits grew by 20.9% to Php11.5 Bil. Despite the strong growth, the year to date number accounted for only 66.8% of our full year forecast. Results disappointed as SCC s coal mining business suffered from weaker than expected selling prices, lower grade of coal and more expensive operations of its new coal mine. Nevertheless, we think the negative reaction of SCC s share price to its disappointing third quarter earnings results was too significant. According to management, the lower than expected selling price was only due to the three month lag in its selling price compared to market price. As of this writing, the market price of coal remains elevated, implying that SCC s average selling price should recover in the fourth quarter. Management also said that the lower grade of coal that was mined in 3Q17 was a one off and this should improve going forward. Only the higher cost to operate the new mine is permanent. However, the impact on SCC s bottomline is much less than the 25% drop in its share price during the past few months. Consequently, we are keeping SCC in our COLing the Shots stock pick list. COL Financial Group, Inc. 3

4 Exhibit 1: Coal Price Source: Bloomberg Ironically, the share price of MBT did not drop despite the fact that the bank reported weaker than expected 9M17 earnings as the bank booked Php5.9 Bil worth of provisions, up 26% y/y. In fact, MBT s share price even rallied. The said reaction is most likely due to the fact that investors were already anticipating the bank to book provisions to cover the estimated Php900 Mil to Php2.5 Bil worth of losses related to the fraud reported earlier during the year. During the third quarter of 2017, MBT booked Php3.4 Bil worth of provisions. Consequently, when the bad news materialized, there was no more bad news left to be disclosed, fueling a relief rally on the stock. Exhibit 2: COLing the Shots stock picks Sector Stock Price FV Buy Below Buy Date Buy Price Power/Mining SCC /30/ Properties MEG /9/ ALI /24/ Banks MBT /21/ Consumer DNL /23/ Gaming BLOOM /24/ Conglomerates AC COL Financial Group, Inc. 4

5 IMPORTANT RATING DEFINITIONS BUY Stocks that have a BUY rating have attractive fundamentals and valuations based on our analysis. We expect the share price to outperform the market in the next six to 12 months. HOLD Stocks that have a HOLD rating have either 1) attractive fundamentals but expensive valuations 2) attractive valuations but near-term earnings outlook might be poor or vulnerable to numerous risks. Given the said factors, the share price of the stock may perform merely in line or underperform in the market in the next six to twelve months. SELL We dislike both the valuations and fundamentals of stocks with a SELL rating. We expect the share price to underperform in the next six to12 months. IMPORTANT DISCLAIMER Securities recommended, offered or sold by COL Financial Group, Inc. are subject to investment risks, including the possible loss of the principal amount invested. Although information has been obtained from and is based upon sources we believe to be reliable, we do not guarantee its accuracy and said information may be incomplete or condensed. All opinions and estimates constitute the judgment of COL s Equity Research Department as of the date of the report and are subject to change without prior notice. This report is for informational purposes only and is not intended as an offer or solicitation for the purchase or sale of a security. COL Financial and/ or its employees not involved in the preparation of this report may have investments in securities of derivatives of the companies mentioned in this report and may trade them in ways different from those discussed in this report. COL RESEARCH TEAM APRIL LYNN TAN, CFA VP & HEAD OF RESEARCH april.tan@colfinancial.com CHARLES WILLIAM ANG, CFA GEORGE CHING RICHARD LAÑEDA, CFA DEPUTY HEAD OF RESEARCH SENIOR RESEARCH MANAGER SENIOR RESEARCH MANAGER charles.ang@colfinancial.com george.ching@colfinancial.com richard.laneda@colfinancial.com FRANCES ROLFA NICOLAS ANDY DELA CRUZ JUSTIN RICHMOND CHENG RESEARCH ANALYST RESEARCH ANALYST RESEARCH ANALYST rolfa.nicolas@colfinancial.com andy.delacruz@colfinancial.com justin.cheng@colfinancial.com KYLE JEMMRIC VELASCO JOHN MARTIN LUCIANO ADRIAN ALEXANDER YU RESEARCH ANALYST RESEARCH ANALYST RESEARCH ANALYST kyle.velasco@colfinancial.com john.luciano@colfinancial.com adrian.yu@colfinancial.com COL FINANCIAL GROUP, INC D EAST TOWER, PHILIPPINE STOCK EXCHANGE CENTRE, EXCHANGE ROAD, ORTIGAS CENTER, PASIG CITY PHILIPPINES 1605 TEL NO FAX NO WEBSITE: COL Financial Group, Inc. 5

Riding the liquidity driven rally

Riding the liquidity driven rally The PSEi has rallied 4.2% since we last came out with our COLing the Shots repot. The strength of the market s rally surprised us given the absence of positive macro developments.