Results: QBE, James Hardie and Coronado Resources
QBE: 1H-20 Result (+6.76% on the day of announcement) - our view: POSITIVE
QBE’s result was largely pre-announced although, at the margin, all the revenue and profit numbers were slightly better.
The company’s headline result was significantly impacted by large coronavirus related charges as pre-announced (circa $600m) as well as the impact of de-risking its investment portfolio post-coronavirus.
Year to year, insurers exhibit swings in profitability, particularly in years where there are large events with pronounced impact (floods, hurricanes, or a global pandemic).
However, over the long term when assessing whether to invest in an insurer, a casual observer should ask four key questions:
1. Are insurance premiums rising, and is the insurer retaining its customers?
Its result indicates YES (see the chart below)
2. Is the insurer taking on the right risks - the right people doing the right things?
Its recent performance indicates YES.
3. Is the insurance company keeping a reasonable amount of risk given the size of their balance sheet, and selling the rest to others?
Its result indicates YES – however, we feel they may be too conservative at this point.
4. Are long term interest rates rising or expected to rise?
Our view is YES, we have already begun to see long term interest rates creep higher in recent weeks.
While headline underwriting profitability and investment performance was weak, underlying performance absent the impact of COVID-19 was promising. The company continues to see accelerated pricing momentum (rising premiums), particularly in North America and International divisions and despite selected suspensions of rate increases in Australia. It also remains well capitalised and will pay a small final dividend.
QBE is a core holding in the portfolio, with strong underlying conditions, and a valuation that skews to the upside from current levels. We continue to see that QBE will benefit from the turnaround that has been instituted over the past few years and will be a strong beneficiary from a rising interest rate environment.
James Hardie: June Quarter Result (+6.8% on the day of announcement) - our view: POSITIVE.
James Hardie’s result told three main stories: that of the strength in the US housing market, the resilience of its earnings and a positive growth outlook.
Activity has benefited from the strong recovery of the US housing market (which was very strong pre-COVID). This has been driven by low-interest rates (cheap, long term fixed loans), a move away from dense urban housing towards suburban areas, tight housing inventories and preferences changing towards higher quality building products (with HardieBoard and associated products being seen as the premium in majority of US markets).
The company showed stronger cash flow, only a small decline in revenue and flat profits relative to last year, which was good considering the far-reaching impact of COVID. This resilience came largely from North America markets (by far James Hardie’s largest market), where new-build activity was strong. On the other hand, activity in Europe and Asia was patchy although volumes in Australia were steady.
Earnings were resilient as the company was able to expand its profit margins through cost savings and efficiencies, including better manufacturing throughput, savings on raw input costs and reduced head office and marketing expenses.
The company has signalled strong momentum for the current quarter (ending June) and has pulled forward the planned commissioning of two new factories – which we see as a good sign of the confidence it has in the outlook. The company also issued guidance for profits, which many companies have not in the current environment, which again reflects confidence.
James Hardie has been a strong performing investment in the Australian Equities Portfolio, having returned over 60% since purchased in the selloff we saw during February/March sell-off.
Coronado Resources: 1H-20 result (-1.2% on day of announcement) - our view: NEUTRAL
Coronado now represents only a very small part of Australian Equities portfolios.
The company had a poor result, as foreshadowed. Metallurgical coal prices have weakened considerably since COVID, which has had a material impact the profitability of coal producers.
This impact has been pronounced for Coronado, as it is a higher cost producer of metallurgical coal. General price weakness also leads to changes in relative prices of different coal qualities, which further impacts profitability.
The company thus made only a marginal operating profit for the half ($35m vs $405m in the first half of 2019). Given this poor profitability, the company now has too much debt for its current level of profits.
While the company noted it is exploring options, including non-core asset sales, sale and leaseback arrangements, it will likely have to raise capital in the near term.
We will assess any proposals that are put forward, particularly considering the strong discount that may be attached.