Still focusing on Vocus
We last spoke about Vocus Communications Limited (ASX: VOC) at the end of October and it’s rallied nicely since. The firm in November held its investor day in New Zealand and provided some material which we thought was interesting.
Our thesis for investing in Vocus stems from the high incremental profit margins it earns on its dark fibre assets. This part of the business seems to be tracking fairly well with buildings on the network up from circa 3,300 at June 30 to >3,500 by end September 2015. We expect there’s plenty more to come with the company reporting 20,000 ‘near-net’ buildings yet to convert over.
Vocus also announced that it is entering into a joint venture with Nextgen to build a new submarine cable from Perth to Singapore. In a nutshell, submarine cables connect Australia to the internet and our increasing demand for data is taking up significant capacity on other cables in operation.
The project is set to cost US$120m-$130m which isn’t cheap but it expects to generate solid returns on capital invested (an internal rate of return of 25 per cent).
A simple test for the quality of a company is to consider whether it can invest capital at high returns into its operations with low levels of leverage. We’ve been able to identify this quality in Vocus and coupling this with an attractive share price and bright prospects, it’s easy to see why it became a holding in the Montgomery portfolios.
Many past market darlings have fallen in recent months and we at Montgomery have been fortunate enough to avoid these catastrophes thus far. For those investors seeking opportunities, applying the quality lens would perhaps help distinguish them from the value traps.
Scott Shuttleworth is an analyst at Montgomery Investment Management. To invest with Montgomery domestically and globally, find out more.
This post was contributed by a representative of Montgomery Investment Management Pty Limited (AFSL No. 354564). The principal purpose of this post is to provide factual information and not provide financial product advice. Additionally, the information provided is not intended to provide any recommendation or opinion about any financial product. Any commentary and statements of opinion however may contain general advice only that is prepared without taking into account your personal objectives, financial circumstances or needs. Because of this, before acting on any of the information provided, you should always consider its appropriateness in light of your personal objectives, financial circumstances and needs and should consider seeking independent advice from a financial advisor if necessary before making any decisions. This post specifically excludes personal advice.
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Daniel
:
Hi Scott and Roger,
I have a couple of questions and would appreciate your opinions please.
1. Do you see any reasons why MTU is trading at a discount to the theoretical merged price with VOC?
2. What is the chance of the merger not going ahead?
3. Is there a case of going long MTU and shorting VOC and pocket the difference?
Scott Shuttleworth
:
Hi Daniel
i) I’d say it’s the differential created by the risk that the merger does not go ahead, whether by M2 shareholder vote or external disruption.
ii) Most likely the above.
iii) Possibly, however there is an industry dedicated to this sort of investment style and I’d say most people (including myself) would not be in a place to have an edge over them – hence it’s not something we’d consider and it’s most definitely not in our mandate.
All the best!
mike
:
With your funds as holders in both VOC and MTU, as of a couple of months ago, how do you feel about their combined debt?
I believe you had concerns previously about MTU gearing levels to the point of thinking them no longer meeting your investment grade. I see the less indebted but smaller VOC providing only a little relief post merger, but as part of a quality organisation in a growing sector interest cover shouldn’t an issue.
Roger Montgomery
:
We watch these issues closely Mike.
Richard
:
Hi Roger. Do you think VOC is currently overpriced. Its rated b4 by skaffold and 66% over valued however I know skaffold doesn’t line up sometimes. thanks Richard.
Roger Montgomery
:
The reason we sometimes don’t ‘line up’ is because we use different discounts rates and our own forecast for earnings and returns on equity rather than consensus analysts.