Better-than-expected profits and good growth in dividends were features of the recent companies reporting season, with many companies in Djerriwarrh’s portfolio among those posting positive results. Portfolio Manager Brett McNeill looks at some of the themes and what lies ahead.
The recent company results reporting season was very positive for Djerriwarrh’s portfolio with most companies delivering profits above market expectations.
A major theme was balance sheet strength. For example, supermarket operator Coles, automotive accessories supplier ARB Corporation, and equity market operator ASX reported positive net cash positions that place them in a good position to fund future growth and dividends.
Although profits generally were higher, operating cash flows were mixed, reflecting COVID disruptions and supply chain issues among other factors. Cash flow is a good pointer to the quality of a company and its prospects but the gap between profit and cash flow is usually only an issue if it persists over time.
We also saw companies signaling a need to invest further in their businesses for future growth. Platform provider Netwealth Group reported an impressive lift in funds under management and revenue but also a rapid rise in expenses as it boosted its technology and investment teams, with this growth likely to continue. Pallets and containers provider Brambles delivered a decent profit result but said its free cash flow would be negative as it invests to improve its supply chain and enhance its competitive position. Although the market can react negatively to some of this guidance, we like to see companies invest in their businesses to deliver growth over the long term.
We also like companies whose profit recognition and guidance are conservative. It suggests a strong business, trustworthy management and lower earnings risk over time as we saw with healthcare companies CSL and Cochlear.
The COVID impact and the associated disruption to supply chains was a big theme, but inflation looms larger. However, our portfolio favours companies that have a strong competitive position and the market power to pass on cost increases to their customers – for example, global packaging company Amcor and Brambles.
Volatile consumer spending patterns were also evident, reflecting COVID lockdowns and their subsequent easing. Electronics and homewares retailer JB Hi-Fi benefited from the working-from-home environment and reported a lower-than-expected drop-off in sales after lockdowns eased.
Some companies, such as toll roads operator Transurban and Auckland Airport, are yet to fully recover from the impact of lockdowns, but we expect that to happen quickly as economies begin to open up more.
Two newer stocks in the portfolio that stood out were digital property settlements platform Pexa, which reported results ahead of prospectus forecasts, and liquor retailer and pubs operator Endeavour Group, which delivered a better-than-expected result despite the widespread impact of COVID on the hospitality sector.
One of the overall highlights was Computershare. The low interest rate environment has been difficult for them, but Computershare delivered a good result and improved its profit guidance for the year. They should benefit from rising interest rates over the long term.
The trend in dividends was positive. Amongst the key holdings in the portfolio, ASX’s dividend per share was up four per cent, and Equity Trustees was up nine per cent.
Dividends from the resources sector were a standout, reflecting higher prices for iron ore and oil. BHP’s dividend rose 49 per cent, Rio Tinto was up 87 per cent, Santos lifted 97 per cent, and Woodside Petroleum increased by 255 per cent.
These high dividends from resources stocks are not expected to be sustainable as commodity prices are expected to revert to a more reasonable level that reflects the cost of production rather than supply shortages.
In general, dividend payout ratios remained sensible and appropriate. Companies that delivered sustainable dividends included Commonwealth Bank, property group Mirvac and Pinnacle Investment Management Group.
Quality industrial companies are well positioned to grow profits and dividends because of the strength of their business, strong balance sheets, and sustainable dividend payout ratios ‒ for example, supermarket operators Woolworths and Coles, and conglomerate Wesfarmers. The major banks are positioned to deliver dividend growth albeit at more modest levels. High-quality growth-oriented companies, such as CSL, Cochlear, REA Group, and Carsales.com.au are also poised to deliver higher dividends over the long term.
Outlook for the year
Rising interest rates in the US, potential interest rate hikes in Australia, inflation, the war in Ukraine and the ongoing COVID pandemic are all factors affecting our market. There are always more immediate macro-economic factors influencing markets, whether they be financial or geo-political.
Whilst these can be very disruptive, markets generally have the resilience to handle them to generate good long-term returns. However, heightened short term market volatility is good for our option writing activities which allows us to provide an enhanced fully franked yield in excess of the S&P/ASX 200 Index.
We don’t change our portfolio in response to short term market rotations. We focus on fundamental bottom-up company analysis to ensure we’re in strong companies with great long-term prospects.
Our portfolio includes high-quality companies that have strong market positions, good management, strong balance sheets, and solid growth prospects, so their profits and dividends tend to be more resilient over the long term.