Equity Structured Products and Warrants This material has been produced by RBS sales and trading staff and should not be considered independent. The Round Up 25 October 2010Issue No. 433 The Round Up is a comprehensive daily note produced by the RBS Warrants team providing an overview of market movements along with quality ideas for warrant traders and investors. Daily Monitor Global Market Action Scoreboard, commentary Aussie Market Action SPI Comment, Events & Dividends Telstra Corp. (TLSKZD) MINI Trading Buy – TLS unde rperforms global peers Santos (STOKZD) MINI Trading Buy –Things can only get better Origin Energy (ORGKZC) MINI Trading Buy – Cashflow set to surgeAustralian Strategy Monthly Market Review - August 2010
The US markets were mixed on Friday with the NASDAQ and S&P500 finishing in the black while weakness in some ofthe larger DOW components saw it finish slightly in the red. Volumes were light after some heavier trading in the pastfortnight. So far 85% of companies have suprised on the upside with their earnings which has seen the marketconsolidate and hold its stong September gains.
Movers - Biadu Inc, the Chinese search engine, added 4.6% and coupled with earlier strength in Google and Intel to seethe NASDAQ move to a 17% rally since late August. Verizon Communications fell 1.3% after stating new customers maylag and American Express fell 3.1% despite reporting rising profit. Growth proxies were generally weaker with CAT,Boeing and GE all shedding 0.2% to 0.7%. United Kingdom and Europe Commentary
UK - The FTSE was weaker on Friday as investors awaited the findings of the G20 meeting. Miners were the biggestpoint takers as the price of base metals fell in the face of a stronger $US while energy plays were able to limit the falls ascrude rallied. Vedanta shed 1.9% after Merrill's downgraded the stock to HOLD while BHP, ENRC and Lonmin fell 0.5%to 2.2% but BG lead the oil majors higher after receiving environmental approval for its Queensland Coal Seem Gas
project with STO. Reckitt Benckiser fell 4.6% after announcing its CFO would depart in March next year while TUI Traveladded 3.2% after shedding 11% on Thursday as its CFO announced 2008 sales numbers were overstated.
MINI Trading Buy: Telstra Corporation (TLSKZD) - Telstra underperforms global peers
Telstra's share price has significantly underperformed its global peers in recent weeks. It is now trading at alarger than usual discount to its international peer group on both a PE multiple and dividend yield basis. BuyTLSKZD MINI and play up to RBS Research Target Price of $3.06.
Source: IRESS
Telstra share price underperforms peers Our recent marketing trip to Asia highlighted to us that Telstra is starting to come back onto the radar screen for globaltelecoms investors following its recent underperformance relative to global peers. Telstra's share price has fallen 8% overthe last 2 months vs the FTSE World Telecom Index which is up 11% over the same period (eg Vodafone up 10% and BTup 9%).
Telstra PE multiple of 10.0x is below MSCI world Telecom index on 12.1x The PE multiple for the MSCI world Telecom services index has tracked up to 12.1x in recent weeks and is close to its 5-yr average of 12.7x (based on IBES 12m forward earnings estimates). Telstra, on the other hand, trades on a PE of 10.2x(below its 5yr average of 12.6x) and at a 15% discount to the MSCI index. Telstra's dividend yield of 10.6% is well abovethe MSCI Telecoms index on 5.6%, with the gap having increased in the last couple of months (although there are some
risk factors specific to Telstra that explain the size of this differential).
Limited visibility over key rerating catalysts Whilst Telstra's trading multiples look increasingly attractive vs global peers, there is still limited visibility over the keycatalysts for a rerating, including: 1) clearer evidence that the strategy to cut prices and increase spend is deliveringsustained customer growth and revenue growth; and 2) Parliamentary and regulatory approval of the NBN which isrequired to deliver greater certainty around payments to Telstra to decommission its copper network.
Risk reward equation seems to be improving. Hold maintained We believe that value may be starting to emerge in Telstra at current levels, particularly when compared to global peers.Consensus earnings forecasts have been reduced to a level where they are starting to look relatively conservative andthe balance of risk/reward may be starting to shift to the upside. However, we expect the market to want clearer evidenceof success with the turnaround strategy and more certainty over NBN before rerating the stock. RBS Research retain a
Hold rating and A$3.06 price target (10% discount to A$3.40 DCF valuation).
Security ExPrc Stop Loss CP ConvFac Delta Description
MINI Trading Buy: Santos (STO.AX): $29.5Bn CSG Projects get the go ahead
STO has delivered a 3Q result that was largely in line with our expectations. The delays to
Kipper were a mild disappointment, but the Santos story remains firmly about GLNG in thenear term. With the environmental approval now received a deal with Kogas is just around thecorner.
Source: IRESS Production of 12.9mmboe in line with our 12.8mmboe forecast No major variances, although condensates production (especially Bonaparte) was a little bit ahead. Sales revenue ofA$535m was also a touch ahead of our A$522m forecast, with a slightly higher realised crude price (A$83/bbl vs RBSA$80/bbl) and average gas price. The only change to guidance metrics was a lowering of capex by A$300m to A$2bn,largely on the back of GLNG FID delays.
Kipper delays drive a small downgrade in FY11F... Another six-month delay in Kipper (technical design issues) has knocked about 1mmboe off our FY11 production forecast
(see Table 1) and trimmed NPAT slightly. Our FY10 forecasts have increased slightly (+5%) after factoring in today'squarterly. We are now looking for 50mbbls (guidance 49-52). The net change to our valuation has been a 5c fall toA$15.75 ps.
Buy maintained, we think STO is great value and has some positive potential catalystsRightly or wrongly, the market's sole focus right now is STO's GLNG project and sentiment has been hit hard since someelements of the Total deal surprised the market (stock off 12% since then). Looking forward, we believe things can onlyget better from here. Post Federal environmental approvals, a pre FID deal with Kogas is still a possibility and we thinkthe final capex number should give the market some comfort (RBS A$20bn). An equity raising could be on the horizon,but the recent upsizing of the hybrid has reduced equity needs further. We have pencilled in A$1.5bn, but the finalnumber will depend on what S&P's magic box spits out. At current levels, STO is our top pick in the energy sector. RBS MINIs over STO
Security ExPrc Stop Loss CP ConvFac Delta Description
MINI Trading Buy: Origin Energy (ORGKZC) – Cashflow set to surge ORG's FY10 earnings fell a little short of our forecasts, but, importantly, FY11 is on track to be a bigyear on the earnings front. With cashflows set to surge over the coming years, on our estimates, we
think the market is underestimating ORG's financial flexibility and optionality. Buy maintained.Buy maintained with RBS Target Price of $18.25
Source: IRESS
Underlying NPAT of A$585m was behind our A$611m forecast EBITDA of A$1,304m (incl associates) was the main variance to RBS Research numbers (A$1,321m forecast) but D&A(variance of A$9m) and minorities (variance of A$9m) also impacted. Operationally, the generation and E&P contributionswere lower than we expected with retail offsetting. Management has suggested it would have hit its 15% growth target ifnot for the overseas exploration write-downs, although RBS Research had these in the numbers already. OPCF ofA$789m was a little below RBS Research’s expectations (A$840m), but the 25c dividend was in line.
ORG has guided for 15% NPAT growth in FY11 FY11 guidance has been set at +35% EBITDAF growth and +15% NPAT growth in FY11. Importantly, the guidance nowincludes a reasonably aggressive A$170m exploration programme and RBS Research have pushed up forecasts for
exploration write-offs to about A$65m (from A$40m). This has been the sole driver of RBS Research’s earningsdowngrade. Importantly, the valuation impact is negligible.
APLNG - is consolidation lurking? Today ORG appeared the most open to collaborating with another project proponent since the Conoco deal was struckalmost two years ago and we continue to believe that any news on that front would be well received by the market. Likeall investors, we would like to see an off-take arrangement done before we get too excited about the project, but, in ourview, an investor is not paying a dime for any LNG upside.
Buy maintained, ORG's balance sheet about to go to work ORG's major capex programme is taking a breather and the company will have very substantial cashflow over the comingyears. Throw in an under-geared balance sheet and we believe the market is under-estimating the opportunities ahead.The NSW energy sell-down and APLNG are the obvious candidates, but we wouldn't be surprised to see some accretive
acquisition from left field that could create shareholder value.BUY ORGKZC for 1-for-1 upside towards RBS Target Price of $18.25
RBS MINIs over ORG Security ExPrc Stop Loss CP ConvFac Delta Description
RBS Round Up Corner: Monthly Market Review - September 2010
September was a good month for equities with the S&P/ASX 200 up over 4%. The ongoing
surge in the AUD was a key feature, particularly during the past two weeks. With expectationsof a sustained period of currency strength, there was increased focus at month-end on theearnings implications of an AUD at parity.
Australia's performance vs the worldIn local currency, the All Ordinaries (+4.5%) underperformed the US S&P 500 (+8.8%), the World MSCI ex AustraliaIndex (+9.0%) and the regional MSCI ex Japan Index (+11.6%).
The best- and worst-performing sectorsThe best performers for the month were Industrials (+6.7%), Materials (+6.3%) and Utilities (+5.9%). The worstperformers were elecommunication Services (-4.4%), Property (-1.1%) and Health Care (+0.7%).
The top-five and bottom-five performing S&P/ASX 200 stocksThe top-five performers from the S&P/ASX 200 (price) Index for the month were Sundance Resources (+72.4%), LynasCorporation (+39.3%), Carnarvon Petroleum (+29.9%), Virgin Blue (+26.1%) and Ausenco (+25.7%). The bottom-fiveperformers were PaperlinX (-20.7%), TPG Telecom (-13.1%), iSoft Group (-10.7%), Carsales.com (-10.6%) and Santos (-9.8%).
Consensus earnings revisionsThe top-five upgrades were Intoll Group (+26.8%), Spark Infrastructure (+13.9%), Map Group (+11.6%), Duet (+4.3%)and Commonwealth Property Office Fund (+2.4%). The topfive downgrades were Macquarie Group (-16.3%), Paladin
Energy (-15.0%), Aquarius Platinum (-9.0%), Ten Network Holdings (-8.6%) and AWE (-5.5%).
Strong balance sheets to drive investment and acquisitionsOver the past couple of years, we have consistently highlighted the strength of corporate Australia’s balance sheet.Reporting season again supported this, as evident in the charts below.
We forecast net debt will decline in absolute terms over the next few years. However, as shown in the chart below, M&Aactivity has been quite muted in Australia over the past 12 months.
But this conservative approach has created some unique expansion opportunitiesDue to the capital raising/preservation policies, corporate Australia is now well placed to expand over the next 6-18months. We believe corporate thinking might go along the following lines: Despite some setbacks, the worst of the global financial crisis looks to have passed. The Asian economies (Australia inparticular) look to be strong. We don’t expect a double-dip in the US, although growth may be slow.
The balance sheet is strong as a result of the conservative capital policies adopted. Debt markets are freeing up, making funding increasingly available on improving terms. Asset values are generally still well off their highs and/or a number of key growth projects (eg, PNG LNG) areapproaching investment phase. Private equity is also likely to be looking to divest assets acquired in the last cycle.
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Security – refers to the code ascribed to the warrant, ExDate – refers to the date on which the warrant expires or is reset, ExPrc – refers to the exercise price, or second
instalment payment, CP – tells you whether the warrant is a call or a put, ConvFac – the conversion factor of the warrant which tells you how many warrants you need to
exercise in order to take possession of 1 share, Delta – tells you how much the warrant will move for a 1c move in the underlying security, Description – Tells you the typeof warrant.
All charts taken from IRESS unless indicated otherwise
