BIL: Further Upside Yet To ComeYesterday afternoon, in our...

BIL: Further Upside Yet To Come

Yesterday afternoon, in our Quarterly Strategy update, we highlighted Macquarie Research Equities (MRE) view on the market for the next quarter, stressing that MRE’s recommended portfolio remains overweight international growth stocks, including large resources (BHP, Rio Tinto, Woodside Petroleum), resource services (WorleyParsons) and, more particularly, industrials such as Brambles, Rinker, CSL and Aristocrat.

With an international bias in mind, we highlight that Brambles is MRE’s top pick in the transport sector and has performed well over the last quarter, up 26% in the past 4 months. Looking forward, MRE believe the stock offers further upside (price target of $11.50) as a result of positive surprises from asset sales and further capital management initiatives over the next 1–2 years as Recall is sold. MRE reiterate there is still significant upside to both CHEP Americas earnings and to their valuation. MRE reiterate that Brambles remains their No.1 pick in the sector.

More Detail on CHEP
CHEP Americas was the highlight of the 1H06 result yet it still lags the RoW in terms of margins and ROIC. The increasing focus on best practice across the group, accelerating US growth (towards a more optimal pool size), improved asset control and additional TMP contracts highlights the long term potential (+$200m EBITA over the next three years). Importantly, MRE note that management appears intent on growing the customer base (in an orderly way) not just lifting price as lumber prices rise. This is high quality growth with a focus on the long-term positioning of the business.

Post the capital return (estimated at A$3.3bn) and remaining asset sales (A$3bn) MRE estimate that the residual CHEP and Recall businesses are currently trading on an FY07 PE of 21.4x, but EV/EBITDA of only 9.4x. Thus MRE reiterate their outperform recommendation and one-year price target of
$11.50ps.

More Asset Sales To Come
MRE can also envisage more optimistic asset sale scenarios – particularly in Australia. For example, Cleanaway Australia could potentially be sold on around 10x EV/EBITDA (compared to MRE’s base case of 8.5x). Not only are these assets suited for significant gearing, but there are a number of players with synergies, so competition should be high. Therefore the underlying FY07 EBITDA multiple could be closer to 9x for CHEP and Recall.

Outlook for Brambles
MRE has a 12-month price target on Brambles of $11.50. MRE believe further share price appreciation is possible as additional assets are sold and the company distributes +$2.8bn cash. CHEP will also deliver further cost savings and revenue enhancements. In Europe ABP will be successful. In the US further refinement of the cost base will occur, highlighting scale advantage.

Brambles remains MRE’s top pick in the sector. MRE’s investment thesis continues to be based on the long-term strength of the CHEP business and its ability to deliver sustainable above average ROIC through scale and efficiencies. Near term (ie June), there is also the potential for positive surprise from asset sales. Beyond this MRE think there can be further capital management (over the next 1–2 years) as Recall is sold (currently deemed core).