In this briefing:
- Last Week in GER Research: Softbank, TPG Telecom, Cstone Pharma, Ebang and Facebook
- Oil Majors Results: The Main Take-Aways. We Are Positive on Hess, Valero and Chevron
- Mizuho Financial Group (8411 JP): Under Pressure
- SMFG (8316 JP): On Target But Drifting Off Radar
- Japan Fortnightly Update: Drip, Drip, Drip…
1. Last Week in GER Research: Softbank, TPG Telecom, Cstone Pharma, Ebang and Facebook
In this version of the GER weekly research wrap, we dig into the debt tender for Softbank Group (9984 JP) and assess the merger between TPG Telecom Ltd (TPM AU) and VHA. On the IPO front, we initiate on CStone Pharma (CSTONE HK) while we update on Ebang (EBANG HK) . Finally, we dig into the beat at Facebook Inc A (FB US) and assess whether there are further legs for the investment case. We also provide a list of upcoming catalysts for upcoming event-driven ideas.
More details can be found below.
Best of luck for the new week – Rickin, Venkat and Arun
2. Oil Majors Results: The Main Take-Aways. We Are Positive on Hess, Valero and Chevron
A number of the largest oil companies in the U.S. and Europe reported results last week including Exxon Mobil (XOM US) , Chevron Corp (CVX US) and Royal Dutch Shell (RDSA LN), all showing strong share price performance on the back of their results and outlook statements.
We look at the main topics of interest that came out of the results so far and what this means for the oil and gas sector. The areas in focus were the strong cash flow generation and capex plans, reserve replacement, new LNG projects, IMO impact for the refining sector and digitalisation. The upstream areas that got the most focus were the US onshore (specifically the Permian), US Gulf of Mexico, Guyana, Brazil and Venezuela. This follows on from our note 2019 Energy Market Themes & Stocks with Exposure: Focus on Oil, Refining, LNG, M&A & Renewables.
3. Mizuho Financial Group (8411 JP): Under Pressure
Results for the nine months to end-December 2018, reported on 31 January 2019 by Mizuho Financial Group (8411 JP), or MHFG for short, reveal the continuing pressure on management to stabilize revenues and profitability. MHFG reported consolidated recurring profits for the nine months to end-December 2018 of ¥547.56 billion (down 15.0% YoY) and net profits of ¥409.92 billion (down 13.8% YoY) on higher revenues of ¥2.858 trillion (+6.9% YoY). Core earnings dropped into the red as net interest and fee income is now insufficient to cover overhead expenses, while the group is running out of surplus loan-loss reserves to write back to profit to keep the megabank in the black. On a quarterly basis, results were much worse: 3QFY3/2019 was the worst quarterly performance reported by the megabank group since 2Q FY3/2014, with recurring profits falling 62.2% YoY to ¥80.64 billion while net profits fell 68.2% to just ¥50.56 billion.
Mizuho, which significantly outperformed both of its rival megabanks Mitsubishi Ufj Financial Group (8306 JP) and Sumitomo Mitsui Financial Group (8316 JP) in share price performance terms throughout CY2018 (largely through having lower foreign ownership than the other two), is nominally the cheapest of the three megabanks on standard valuation methods; however, the difference between all three at present is marginal. We expect that all three megabank groups will continue to see further downward pressure on domestic margins, while their overseas operations (especially in Asia) remain vulnerable to any further increases in US$ interest rates. In the absence of any significant catalysts to prompt foreign investors to actively buy the shares, we expect all three megabanks to disappoint in terms of share price performance in CY2019.
4. SMFG (8316 JP): On Target But Drifting Off Radar
Consolidated results for the nine months to end-December 2018, announced by SMFG (8306 JP) on 31 January 2019, represented 91% of management’s full-year target of ¥700 billion for consolidated net profits. Nevertheless, 3Q results (October-December 2018) were well down year-on-year, with rising funding costs and higher credit costs offsetting much of the positives from the earlier deconsolidation of its two retail banking subsidiaries. Full-year guidance remains unchanged. SMFG is now poised to exceed its ¥700 billion FY3/2019 consolidated net profit target, although probably not by much.
The megabanks are always a ‘crowded trade’ for foreign investors when it comes to exposure to the Japanese banking sector: the choice usually coming down to either MUFG or SMFG. Mizuho, which significantly outperformed both MUFG and SMFG throughout CY2018, is nominally the cheapest of the three megabanks on standard valuation methods; however, the difference between all three at present is marginal. We expect that all three megabank groups will continue to see further downward pressure on domestic margins, while their overseas operations (especially in Asia) remain vulnerable to any further increases in US$ interest rates. In the absence of any significant catalysts to prompt foreign investors to actively buy the shares, we expect all three megabanks to disappoint in terms of share price performance in CY2019.
5. Japan Fortnightly Update: Drip, Drip, Drip…
DRIP, DRIP, DRIP – We ‘lead’ this fortnight’s update with our All-Market Composite Results & Revision Score. Calculated daily, the score is a ‘real-time’ measure of the state of, and the outlook for, listed Japanese corporations. As the scoring methodology includes earnings momentum ‘factors’, the data series can be a useful leading indicator of forward earnings. The correlation with the market over the last four years is 0.578, with the indicator leading more often than lagging. Since peaking on 16th November 2017, the Results & Revisions Score has fallen by 62% and has now returned to the level of May 2017. In the last ten years, the score has only been lower than at present one-third of the time – mostly during the fiscal year ended March 2017 when the total market value averaged ¥550t, close to the December 2018 low. If we are to repeat the relatively-mild cyclical downturn of 2016, the Results & Revision Score will turn negative in May of this year, and the 25th December 2018 low will be retested.
Source: Japan Analytics
PAST THE PEAK – Our earnings indicator peaked 14 months ago, two months ahead of the market’s high point on 26th January 2018. It now appears that aggregate reported earnings, as well as aggregate company forecasts for the current year, are now turning decisively lower after nine quarters of uninterrupted growth. Forecast Net Income for the current year is now 7% below the high point in trailing-twelve-month (TTM) Net Income from this cycle, which was reached two months ago. Operating Income is, as usual, ‘lagging’ and forecasts are still marginally ahead of TTM. The TTM all-market price-earnings ratio reached 11.5 times on Christmas Day, which will prove to be the cycle low point. We expect the return to median levels, to be achieved more through lower ‘E’ as opposed to a higher ‘P’. Mr Market is currently implying that Japanese corporate profits are due to fall by 23% on average from the cycle peak, or by 30% if we are to revisit the December low-point.
THE FIRST CUT – 23% of listed companies reported their most recent quarterly earnings results in the last two weeks. For these companies, TTM revenues grew by 5.1% year-on-year, but only by 0.5% quarter-on-quarter, the lowest qoq growth rate in over a year. TTM Operating Income is now 0.8% lower than the TTM total of one year ago and declined by 4.4% qoq. Operating margins fell by 49bps year-on-year. Current forecasts for this group of companies imply 3.1% yoy top line growth, but only 0.3% compared to the quarter just declared. For Operating Income, the rates are -2.0% and 0.6%, reflecting the normal TTM-to-forecast ‘lag’. Corporate Japan’s profits are now rolling over and will be in a ‘recession’ by the fiscal year-end.
INTERREGNUM – Our bear market rally has paused to look at and digest the earnings-announcement news flow and will likely be trendless for the next few weeks as ‘good’ reactions offset ‘bad’. In due course, we expect the preponderance of negative momentum to tip the scales.
TORAKU @110 – The Toraku advance-decline indicator has continued to recover and is within ten points of the overbought zone, which has only been breached once since the market peak of January 2018. This signal is ‘amber’ and could be ‘red’ by the end of next week.
OUTLOOK & RECOMMENDATIONS
- We continue to recommend an underweight position in Japan in global portfolios.
- The equity market decline at the end of last year was well in advance of the underlying trends in the economy and corporate profits; the recent 10% rally has corrected that imbalance. Nevertheless, the global cycle has turned down sharply, and many economies will be in a recession by the end of this quarter. We expect Japanese corporate earnings to follow suit.
- Although some of the coming decline in aggregate earnings has been well-discounted, our Results & Revision Score has yet to turn negative. Accordingly, we expect the market to retest the December 2018 low, probably in May when the FY2020 forecasts are announced and our score starts ‘seeing red’.
- In the near term and despite the rally in the more cyclical sectors, we continue to favour undervalued domestically-orientated companies in the Information Technology, Internet, Media, and Telecommunications sectors. We would avoid or short Banks and Non-Bank Finance.
In the DETAIL section below, we will review Sector performance over the last two weeks, and, in addition to our regular roundup of results, revisions and stock performance including brief comments on Anritsu (6754 JP), Alps Alpine (6770 JP), SanBio (4592 JP), Lixil (5938 JP) (yes, again), Fanuc (6954 JP), Mizuho Financial Group (8411 JP) , and Cyberagent (4751 JP).
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