Waste in the Howard Years - Really?

I was reading a blog the other day (one particular site that is popular with the Left wing political junkies) and one of the commentators was stating that the Howard years were alot more wasteful than first thought. The reason he claimed that was due to the fact that Howard retired $96 billion in debt by selling off assets worth $240 billion. Hence a wastage of  $144 billion. Is that really true?

Well firstly, lets look at the asset sales. From the www.finance.gov.au website, we can find all asset sales from when Howard was in power (Dec 1996- Jan 2007). This includes three IPO's (Telstra 1,2 and 3) and 20 trade sales of government companies and assets (the airports etc). In Nominal terms, this works out to be 56 billion. However, if you apply real measures to the asset sales (by using 1996 June CPI as the base year, and use the June CPI for subsequent years to calculate the deflator), you do get the total real revenues from asset sales to be $240 billion (most of it came from the Telstra 1 IPO that generated 131.7 billion in real terms, due to the low inflation rate in 1997).

However, it is incorrect to state that as $240 billion is more than $96 billion there is waste. The Left commentator was comparing revenue (from the income statement) with debt level (which is a balance sheet item). What he should be doing is then calculating the real value of the debt repayments each year and then comparing with the incomings.

Using statistics from the MYFE in the budget papers in 2011/2012 (which lists historical net debt levels since 1996) and using the difference in debt levels from year to year as the repayment figure, I calculate debt repayments of 141 billion (in nominal terms) between 1997 and 2007. Applying the real measures, using the same CPI's and base year as previous, I calculate debt repayments of $318 billion.

So really, no major wastage from the Howard years. Just goes to show, be careful what you read on the internet.

ASG Group - Cash Cloud?

Was reading the IT section of the Financial Review the other day and noticed there was an article showcasing the ASG Group. This is an IT services business that is investing heavily in "Cloud computing", which is the new thing in delivering IT services to the masses.

A few things stood out in the article, especially the statement from the CEO that investors don't understand the IT industry in Australia. This was in response to the ASG Share price reducing from $0.85 to $0.76 in a day in response to the latest financial report (share price it is now at $0.66....22% drop in a week). The danger is that I think they understand it very well.

How having worked in the IT biz for a while, especially in Australia, it concerns me that ASG Group believe they are the leader in "cloud". I would say that Fujitsu is very much the leader in Australia who have also recently opened up a new data centre in Perth and is aggressively looking for customers to fill it. ASG, being based in Perth, is on the receiving end of some "Japanese whale" competition which is going to put a downer on future profits.
I think this shows up in last year results as well. Without a 5 million "Deferred Consideration Adjustment" (i.e a reduction in the deferred cost of acquisition) that added to the profit, the earnings per share would have halved in 2012 (which is probably the real reason why the share price has tanked a bit)

Also, having looked at the latest Finance figures, it appears that ASG Group are in desperate need of financing. They have employed an overdraft (at 9%) and pretty much all their cash (they have $12,000 in the bank now) instead of using conventional debt funding to fund their investment into cloud which scares me a bit. Can they get conventional debt? Their debt to equity ratio is pretty good so I wouldn't have thought it wouldn't be a problem to get some, and would definitely help them grow their profits. Using up cash (when it is king) seems odd. Equity is out unless they are prepared to take a hit to the share price (and at a cost of equity of 14%) is expensive. Would be looking for some clarification on why cash was used for funding before throwing too much money at this company.

And there is more outgoings to come.They need to find at least $24 million this year to pay off their acquisition payment and current liability debt. So if they aren't tapping the debt or equity markets in the future, I would be extremely surprised.

So, has this company been oversold on the market? I would say no. That said, possibilities of growth are there. It just all depends on how patriotic our companies and government departments are. Do they care if Fujitsu, IBM, HP and CSC (who are the major IT managed service companies in Australia) are foreign owned? If they do, ASG Group could be ahead of the pack.

Note: This is not a recommendation to invest/not invest in ASG Group. If you are thinking of investing, please see your financial advisor.

Market Risk Premium of ASX : 5.13%

About time to do another estimate of the Market Risk Premium of the ASX.

Using the ASX200 index as my proxy for the market, I have downloaded daily prices of the index from yahoo finance. Dates used are from 1 Jan 2009 to yesterday (approx 2.5 years worth of data)

Using this data, I calculated the logarithmic returns for each day and found the average return (which turns out to be 0.02% (go team!). However, this is the average daily return and so we want to annualise it (by multiplying it by the number of trading days per year (which is 256). This gives us an average annual return of 5.6%.

However, this does not take into account dividends (which I did not include in my previous post...doh!). Using the RBA figures for dividend yield since 2009, we have an average dividend yield of 4.38%.

Thus total market return = 9.98% (not too bad).

We then need to calculate the risk free rate. Using the RBA website again to download the average 10 year Bond rate since 2009, we have a risk free rate of 4.85%

So the market risk premium of the ASX = 9.98 - 4.85 = 5.13%

Qantas Troubles

Been running the numbers of the latest Qantas report...some troubling things for current/future investors

Apart from the losses, which are bad enough, there are some questions on the Balance Sheet. Current Ratio has dropped to 0.7 and Debt/Equity has hit over 2 for the first time in a while (2.4). This has got to put some pressure on the credit rating. Wouldn't surprise me if the credit agencies start sharpening the pencils.

The old sell and lease back trick was performed (in the cash flow statement) to create 258 million of cash through the Financing section. Not a great sign. Cash flow from Investing activities (usually an indicator of future revenue growth) also decreased.

Back on the Income Statement, operating costs grew at 9.5%, but revenues grew at only 5.6%.

All up, it seems there might be some pressure on financing in the future. Could explain why Joyce has deferred spending on new capital for a couple of years. Maybe the banks said "No more debt for you"

Crownies

Been studying fixed interest securities lately (it was one of my weaker areas of Finance, as confirmed by my pathetic performance in that section of the CFA exam).

Anyway, I noticed Crown is going to issue some subordinated notes soon. These notes are a form of fixed interest security (the fixed rate being the BBSW (or Australian risk free rate) + 5% or so depending on the book build). Sounds pretty good? It isn't a bad yield at the moment.

Problem is the securities have a maturity of 60 years...which is a long time for a note. Also the coupon payment can be deferred, both at Crown's discretion (optional deferred) or when certain criterior are fulfilled (mandatory deferred)

For the optional deferment, there is a dividend stopper in place which stops crown paying dividends/buying back shares from the ordinary shareholders until the deferred interest is paid. However, there is no obligation for Crown to pay the interest until maturity...a long way away.

For the mandatory deferment, no dividend stopper in place. So there is a risk that buybacks/dividends could be paid, but interest deferred if Interest Cover ratio goes under 2.5 (currently 7) and/or  Leverage ratio exceeds 5 (currently 2). So remote. Also mandated that the deferred interest be paid at most 5 years after event, also good.

Then there is a call provision (which is an option by Crown to buy the notes back at their face value) in 2018, but it is unlikely that it will be exercised (if Crown believes it can get a reduction in the margin it might think about it…if equities remain depressed this could come into play)


The maturity is the big danger…sure 5% yield over the risk free rate looks ok now, but 10 years from now, when equities are back and returning potentially 7-8% over the risk free rate, it might be a different story (got to factor in the opportunity costs after all). There is a step up provision in the margin in 2038, but it’s only 1% increase. That is why Packer is locking in the margin now, he is assuming that cost of equity will increase significantly in the future (which is probably true)

So to buy or not to buy. Couple of good points, couple of bad. Best to check your own circumstances and talk to a Financial advisor as always.

NOTE: This is not financial advice and should not be a recommendation to invest/not invest in these debt securities.

Aussie, Aussie,Aussie....you know the rest

After Australia's pretty ordinary performance at the London Olympic Games, I have been trying to analyse just how bad we went.

I have created myself a forecasting model to try and predict how many medals we should have got, based on the Team Size, the fact that we are not China, the US or Russia and how many medals we won in the previous games (in Beijing). Based on this formula, the Total Medal Tally should have been:-

1. US                103 Medals
2. China              91 Medals
3. Russia             82 Medals
4. GB                  47 Medals
5. Australia          40 Medals
6. Germany          37 Medals
7. France             34 Medals
8. Japan               24 Medals
9. Italy                  24 Medals
10. South Korea   24 Medals

This is pretty close to the actual medal tally (in brakets difference from predicted)
1. US                  104 Medals (+1)
2. China                87 Medals (-4)
3. Russia               82 Medals (0)
4. GB                   65 Medals (+18)
5. Germany           44 Medals (+7)   
6. Japan                38 Medals (+14)
7. Australia           35 Medals (-5)
8. France              34 Medals (0)
9. Italy                  28 Medals (+4)
10. South Korea   28 Medals (+4)

So all up, a bit disappointing for Australia with 5 less medals than predicted based on our team size and previous performance.Team GB outperformed as did Germany and Japan and they zoomed right past.

Reserve Bank Prediction - Hold at 3.5%

The Goatameter is reporting some upturn in the economic conditions over the last month. Therefore there will be less incentive for the Reserve to do anything to rates today. Though who knows with this board. I was wrong last month. I predicted a cut, but the board adopted a wait and see approach.
Which goes back to the basic conservativism of the board. If you look back to all the decisions made by the board since 1990, if you predicted "No change" for every monthly board meeting, you would have been right the majority of the time. Out of 264 board meetings, there has only been a change to rates 60 times. So if you predicted "No change" you would have been right around 77% of the time (though only running at 60% since March). That's equal to my Goatameter's run so far (which is also 60% since March, but a lot more time consuming to calculate)
The wonders of forecasting. As my favourite forecaster implies (J Scott Armstrong if you must know), you can have the most complicated model in the world, but sometimes, the simple methods work the best.