But lets get back on track. I hope you find the following 'stimulating'.
MARKETS
Once again some eye opening reading from the team at +Daily Reckoning Australia via +Greg Canavan
As far as we're concerned, the most interesting thing to
happen this week is the fact that the Commonwealth Bank (CBA) now has a
market capitalisation equal to that of BHP. Or at least we thought it did after
glancing at this article. Which just goes to show you shouldn't believe
everything you read.
Because BHP is dual listed (in London and Sydney) it has two
separate market caps that combine to produce a total capitalisation of around
$190 billion (around $115 billion in Sydney and $75 billion in London). CBA on
the other hand has a market capitalisation of around $113 billion.
Although we can't find the article now, we did read a few
weeks ago thatCBA's market cap is larger
than the combined capitalisation of all the banks in Germany. If it's true it's
another warning sign to go with Murray's far more scientific signal.
We like crazy warning signs like this. It's the sort of
thing you can look back on in years and laugh about. Like, 'Yeah, can you
believe the Commonwealth Bank was once worth more than all of Germany's listed
banks combined?'
Even though the market values the two companies only
slightly differently now (see below), it values CBA much higher, and BHP much
lower, than it did a few years ago.
That's interesting in itself. Both companies benefitted from China's growth, although BHP received
the benefit first and CBA later as the proceeds from Australia's raw materials
sales flowed through into higher national incomes and a continuing demand for
debt.
At the heart of this 'benefit' is iron ore...a bubble which popped in 2011/12,
reinflated in late 2012, and is currently giving off ominous hissing sounds.
The market knows this, which is why it has marked down the value of BHP and other
iron ore miners recently.
But it doesn't see any link to the banks. While BHP trades
around $36, well below its high of $50 reached in 2008 and 2011, CBA is at
record highs around $70.
Is it justified? Let's do some comparing...
BHP mines raw materials from around the globe. It focuses on
mining very large, low cost deposits of iron ore, coal, oil, gas, copper, and
to a lesser extent nickel and aluminium. It's capital intensive and its
profitability (which is basically the productiveness of its capital) is
dependent on the vagaries of global commodity prices.
The CBA mines 'customers'. Its aim is to provide services to
those customers, either by providing debt, insurance or investment management.
The CBA is also a highly capital intensive business, but it relies on a
leveraged balance sheet to generate returns to shareholders (the providers of
'equity' capital).
On 31 December, 2012, BHP had equity capital of US$67
billion. According to consensus forecasts for 2013, the company should generate
a profit of US$14.1 billion on that equity. A simplistic calculation of BHP's
return on equity then, is about 21%.
That's a pretty decent return for such a large company. It's
why the market values BHP's equity at a premium. That is, the market value of
$190 billion (or about US$186 billion) is 2.78 times the value of shareholder
equity. In other words, BHP trades at 2.78x 'book value'.
Turning to the CBA, it had $42.8 billion in shareholder
equity at 31 December. According to estimates, it should generate a profit of
$7.37 billion in 2013, for a 17.2% return on equity. Although not as high as
BHP's, that's a decent level of profitability too. Because of this the market
values CBA at 2.64x book value.
So, breaking it down, the market values BHP at 2.78x equity
value because it generates a strong return on that equity of 21%. It values CBA
at 2.64x equity based on its return of 17.2%.
Does that tell us anything? Well, simplistically, it says
that by buying at current prices and assuming forecast rates of profitability,
the implied return you're getting from BHP and CBA is 7.55% (21/2.78) and 6.52%
(17.2/2.64) respectively.
In other words, BHP is cheaper than CBA. But it doesn't take
into account franking credits and as you know, one of the reasons the banks are
in favour is because of their dividends and franking credits.
Adjusting for that, there's probably not much difference
between the two companies from a valuation perspective. That is, they're as
equally as expensive as each other. The implied return is poor based on the
risks, and it assumes high rates of profitability that we don't think will
persist into the future.
Both companies have played the China card, and both have
done well. But that is in the past. We think a far more turbulent future for
the Middle Kingdom awaits. And because of this, we would ask for much higher
'implied returns' to compensate for that risk. Right now the market doesn't
agree. But when it does, you'll see much lower share prices.
Greg Canavan
for The Daily Reckoning Australia
REAL ESTATE
Modest property
growth forecast for capital cities in 2013
Australia's property market is in recovery mode but there
are still some hurdles ahead, a new report reveals.
The latest RP Data Capital Markets Report revealed "a
broad-based recovery'' in capital city dwelling values.
While values had dropped continue reading...
New laws to speed up
sales in Australian property markets
New laws in Australia and overseas may potentially boost
local housing markets, with Chinese investors given more incentive to look down
under for their next property purchase.
This month, the Chinese government announced a proposal to
step up the enforcement of capital gains tax on home sale profits and also continue reading...
You'll get burnt on
luxury apartments, Moss warns
Macquarie Real Estate founder Bill Moss has sounded warning
bells for the owners of luxury apartments or lifestyle properties, saying he
questions how those who own such assets as investments can cover their
expenses.
"Anyone holding a luxury piece of real estate should
think very carefully about renting," says the real estate veteran, who
built the Macquarie real estate empire into a $23 billion-platform before he
left the investment bank in early 2007.
"The reality today, where the world is in its economic
cycle, (is that) people continue reading...
SME
Is the NBN good for
all small businesses?
I’m a strong advocate of the need for Australian households, businesses, not-for-profits and government bodies to have widespread access to super-fast broadband. And I can’t wait for the NBN to be rolled out to my home and office.
However, as much as there will be many positives from this
type of service, there will also be costs and a fair degree of pain for some
parts of Australia’s small business sector.
A few years ago continue reading...
National Small
Business Summit to address key issues
The 2013 National Small Business Summit will focus on
driving policy and building relationships that benefit small business
owners.
The Council
of Small Business of Australia (COSBOA) will host a discussion with
industry representatives, senior politicians and bureaucrats about key issues
facing small businesses in the run-up to the Federal election.
“We need to make sure that continue reading...
Local venture capital
industry 'dead', says entrepreneur Matt Barrie
Internet entrepreneur and Freelancer.com chief executive
Matt Barrie has declared the venture capital industry in Australia dead, and
fears the brain drain to the US will accelerate.
Mr Barrie said funding from venture capital firms for
technology start-ups has been in drastic decline over the past three years,
showing signs that continue reading...
Until next time dear readers...
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