Update No. 20 – 14/08/11

Well, what a fascinating week that was, for those who were watching the market from day to day, you would have noticed some highly unusual behaviour.  The market moved from substantial losses to gains in a single day and vice-versa, depending on a variety of factors.  Interestingly, the Australian market was one of the strongest of the international markets and closed the week up slightly.  Markets like this certainly test the resolve of some people, if your sphincter is still twitching, stock-market investing may not be for you…

Reporting Season:

One of the results I was most interested to see this season was JB Hi-Fi (JBH), I think this is about the 3rd time in the last month I’ve mentioned this business.  They are getting near the valuation point where I would give them serious consideration for investment, in fact if it wasn’t for a particularly swift upturn in price, I probably wouldn’t be mentioning them now as they’d be one of the funds holdings.  This week their price hit a low of $13.35 just after announcement, this was despite what I would describe as a pretty sound result.  I think by the end of the week the market started to realise what brighter prospects JBH has (relative to the broader market), its closing price Friday was nearly 15% above its opening price Monday, which was a much better weekly performance than the overall market.

I usually look to pay less than 50% of my intrinsic valuation, but for larger, well-run businesses, such as JBH, with particularly good economics, I will consider lower margins of safety.  JBH are a growth stock on the verge of becoming a mature business, their P/E ratio has quite properly been declining to reflect this fact, but the current price in the market of about 12x would indicate it is likely to only manage a couple of percentage points of growth in EPS in future years.  Whilst I appreciate the difficult retail conditions currently being experienced are not likely to abate in the immediate future, I am quite sure the current market price for JBH is incorrectly estimating likely future earnings.

One of my main reasons for believing this is the ability JBH have over the next few years with their ongoing roll-out of new stores to continue to grow EPS. Underlying EPS grew this year despite flat same-store sales in mature stores.  This would indicate with the pace of the roll-out of stores over the coming years, even with flat mature stores sales (I do not believe mature stores will continue to present no sales growth), there is likely to be solid growth in EPS over the next few years, as new stores are introduced and immature stores mature.  I also appreciate that the quality of the stores they are introducing is declining, the really cracking ‘tier 1’ store roll-out is substantially complete.

So bearing in mind this is subject to new information coming to light and all the usual caveats, I would say this; I would be surprised by FY2015 if JBH didn’t earn somewhere approaching $2 per share.  Coming of the normalised $1.25 per share just announced, this essentially implies about 12.5% per annum growth over the next 4 years.  This may prove to be ambitious, but at that price, even if we assume a similar P/E to now (say 12.5x) this would imply a $25 share price.  Assuming JBH payout about 2/3 in dividends (by FY2015 I would be surprised if this payout figure were not in the 70%+ range); they will also pay out about $4.42 in dividends.

To the mathematically inclined, this $29.42 in (theoretical) 2015 value ($25 SP + $4.42 in dividends) could be purchased at a closing price on Friday for $15.90 (or earlier in the week as noted above for $13.35).  Assuming the purchase played out exactly as I described above, the buyer at $15.90 on Friday afternoon would generate a 16.63% gain per annum over 4 years (18.47% if we include the franking credits attached to the dividends as we should).  The buyers who picked the 12-month low of $13.35 this week would have a 21.84%/23.76% annualised 5-year gain situation under the same circumstance, so you can see why a low entry price is so beneficial.  I believe the possibility presented above is approximately in the middle of the range of possible outcomes, with a superior return approximately as likely as an inferior return.

Please bear in mind this is not a forecast for JBH, just one man’s view of how things could play out, as I have said many times before, do your own research and seek professional advice.  Here’s hoping for a more sedate week ahead – Tony Hansen 14/08/11

P.S. I had intended to give an analysis of Computershare’s (CPU) result, but don’t want to drone on and on and bore regular readers (it was a pretty mediocre result, but the business is getting to the price where I will start to pay closer attention over the coming months & sharpen up my analysis).

Results Table
  April 1 2011 July 1 2011 Current Price Current Period Since Inception
EGP Fund No1 1.00000 1.08396 1.05233 (2.92%) 5.23%
S&PASX200TR 35632.05 34200.68 31005.98 (9.34%) (12.98%)
EGP20 1000.00 883.67 784.22 (11.25) (21.58%)

EGP Fund No. 1 Pty Ltd. Down by 2.92%, leading the benchmark by 6.42% since July 1st. Since inception, EGP Fund No. 1 Pty Ltd is Up by 5.23%, leading the benchmark by 18.15% all-time (April 1st2011).

EGP 20.  The EGP20 index is Down by 11.25%, lagging the benchmark by 1.91% since July 1st.  Since inception the EGP20 is Down by 21.58%, lagging the benchmark by 8.59% all-time (since April 1st2011).

S&PASX200TR  The benchmark index is Down by 9.34% since July 1st. The benchmark is Down 12.98% all-time (since April 1st2011).