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Signum Research

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Joaquín Sánchez

Joaquin Sanchez, CFA

Signum Perspectives


We are publishing our top picks for 2018, which include companies we expect will maintain solid short and medium-term fundamentals. The sample consists of a mixture of companies from the consumer, mining, housing, telecommunications, and industrial sectors.

Based on an historic IPyC EV/EBITDA multiple of more than 9.3x, at current levels, the equity market is relatively expensive. However, we believe the sample reflects adequate stock picking in the current environment.

As one of the main short-term risks is an unfavorable outcome to the NAFTA re-negotiation, we have split our sample into two groups based on companies’ exposure to that variable.

The first group includes defensive companies that could react favorably to a pessimistic scenario. The second includes companies with solid fundamentals and attractive valuations, but relatively greater exposure to market volatility.

MEGA (Q418 T.P: MXN$90.0, RETURN: 17.1%)

Megacable video subscribers resumed growth in Q217, boding well for the second half of 2017. We also expect ongoing healthy growth rates in internet and telephone connections for the rest of the year. Based on those assumptions, we forecast revenue, EBITDA, and earnings growth of 2%, 12% and 19%, respectively, in 2017 on a non-comparable basis (excluding the CFE contract) and 10%, 9% and 9%, respectively, in 2018. At 2018 estimated EV/EBITDA and P/E multiples of 7.9x and 12.2x, we view Megacable as fairly valued. The main risk facing the company is greater competition, macroeconomic weakness, and/or exchange rate volatility.

BBAJIO (Q418 T.P: MXN$42.0, RETURN: 15.1%)

The SME segment is relatively underserved, representing 72% of jobs and 52% of GDP, but receiving only 25% of total financing, making the potential for penetration high. Banbajío trades at 1.95x. Est 2017 ROE is 17%, but according to our regression analysis, on a P/BV-ROE basis, the company trades at a multiple of 2.15x, implying an undervaluation of 10%. We believe that Banco del Bajío is designing the right strategy to maintain margins in a lower interest rate environment. The company is seeking to increase volume, drive non-interest income, and optimize funding. The funding side of the operation is worth mentioning: demand deposits have been solid while time deposits have been decreasing. This is the result of an aggressive executive incentive program to capture low cost funds and the bank’s strong negotiating power with clients. We expect net profit growth of +70% in 2017 compared to +18% YoY for Banregio. Bajío is currently in an expansion phase and generating efficiencies that should yield attractive earnings growth rates in the medium term.

GFNORTE (Q418 T.P: MXN$140.0, RETURN: 14.3%)

We maintain our investment thesis for Banorte based on high profitability and diversification with attractive loan portfolio growth rates that should produce solid results. The group has high internal placement potential: AFORE XXI has ~12 million clients, only 600 k of which are shared with the bank. Recent technological advances in association with IBM/Watson, should enable Banorte to capture those clients. The products per client ratio is 1.8x, and we expect it to reach 2.2x by 2020. This would imply growth rates of around 20% for consumer loans, premium and fee revenues. Solid efficiencies have also been generated, which along with higher profitability, should enable Banorte to achieve its plan 2020 objectives, including net profit of MXN$35 billion, and a ROE of 20% by 2020. The group trades at a premium to its peers, but the company’s excellent fundamentals justify this.

ALSEA (Q418 T.P: MXN$76.0, RETURN: 18.8%)

Alsea is a company with high growth potential and leading brands in the sector whose digital platforms provide impetus. Growth is in tandem with a higher return. We expect even higher margins next year when the Alsea Operations Center is opened, which should translate into greater efficiency levels.

LIVEPOL (Q418 T.P: MXN$187.0, RETURN: 15.3%)

The inclusion of Suburbia should give operations a strong boost. The acquisition gives Livepol new locations and consequently the possibility of faster growth. Although Suburbia will put pressure on the Ebitda margin, it should be driven by economies of scale and a more efficient operation. Relative exchange rate stability this year should relieve pressure on merchandise prices, so same-store sales growth could be stronger.

FEMSA (Q418 T.P: MXN$193.0, RETURN: 8.7%)

Femsa’s business diversification generates higher growth potential; the retail division in particular is being driven by OXXO. The OXXO operation continues to growth with good efficiency levels, and once the health division is included (in 2018) results should improve. The company’s presence in difference regions enables it to offset market lows, thereby achieving profitability margin stability.

CADU (Q418 T.P: MXN $14.5, RETURN: 41.9%)

CADU is the most profitable company of the sector in terms of the EBITDA margin. We believe the margin is sustainable in the medium term given the new sales mix, the aim of which is for 30% of total revenues to come from the medium-residential segment in the medium term. We forecast that management’s low double-digit revenue and EBITDA growth guide could be achieved, and even surpassed, based on the recent Q217 trend. The company maintains a dividend policy. We expect the dividend yield to surpass 5.0% based on current prices and end-2018 results. Infonavit’s new loan offer, which is an increase of more than 70% compared to the previous policy, should translate into more dynamic inventory turnover. CADU is a leading player in Quintana Roo, with a market share of more than 50%. Furthermore, the potential 2018 subsidy offer as a result of the change of administration, could significantly boost sales vs. previous years. The main risks are higher-than-expected interest rates and softer residential demand for the reasons mentioned above.

PE&OLES (Q418 T.P: MXN$546.0, RETURN: 16.1%)

The share price is strongly correlated with precious metal prices, representing more than 50% of Q217 revenues. Over the last month, gold has risen +5.18% and the share price +5.67%. Geopolitical tensions could continue to drive demand for precious metals, which are a safe haven for investors. We estimate YoY revenue growth of +22.0% and EBITDA margin growth of 28.4% towards the end of 2018. The risk is price variations in Peñoles’ main metals (gold, silver, zinc, lead, and copper), although they should be offset by derivatives.

AUTLAN (Q418 T.P: MXN $23.5, RETURN: 44.3%)

Steel companies are awaiting the results of investigations by the Trump administration into Chinese steel imports that could result in antidumping quotas that would favor Autlan exports. The company has lowered debt to a Net Debt/EBITDA ratio of 0.9x, down from 2.6x last year. As a result of operations working at full capacity, EBITDA has grown +189% YoY to US$1.6 billion. Despite the relative stability of steel prices and Autlan’s main product (ferroalloys) price volatility is something to watch.

MEXCHEM (Q418 T.P: MXN$63.2, RETURN: 28.9%)

We expect strong profitability and less exposure to volatility. Thanks to its ethylene cracker, the company has surpassed our expectations in terms of EBITDA generation. It has also lowered its exposure to raw material price volatility, and is currently in a better PVC and Fluoride price cycle. Despite greater debt, we view the Netafim acquisition as positive. The fact both companies complement each other should translate into a rapid and less costly merger. Netafim also adds significant value in terms of smart technology. Although the transaction could lead to a Debt/EBITDA ratio of higher than 3.0x in the short term, Fitch would consider raising its debt outlook to stable from negative if Mexichem manages to reduce the ratio to 2.5x over the next 12 to 24 months following the transaction, which we believe is feasible given projected cash flows. The main risks are: i) currency fluctuation in countries where the company operates; ii) ethane and oil price sensitivity; iii) the slow integration of new acquisitions; iv) anti-dumping issues in the Fluoride segment (refrigerant gases), mainly in North America due to Chinese imports. Excluding dividends, upside potential is 30.2%.

NEMAK (Q418 T.P: MXN$20.0, RETURN: 31.7%)

The company created a new global organization to drive operations and new business growth: structural components and components for electric vehicles. To date it has won contracts amounting to US$280 million in those lines (6.4% of UDM revenues), and plans to reach US$1 billion by 2022-2023. The assumptions we used to value the company were: i) a YoY decrease in North American volume for another six straight months, partially offset by positive growth in Europe and the rest of the world; ii) an EBITDA per equivalent unit target of US$17 through 2023-2024 (currently US$15.28); iii) a perpetuity of 1.2%, WACC of 9.6% (beta 1); and iv) an EV/EBITDA implied forward multiple of 4.9x (vs 5x for the industry) and a forward P/E of 12x (vs 9x for the industry). The main risks include: i) uncertainty over NAFTA; ii) a lag in the price of aluminum; iii) client concentration; iv) contract cancellations or delays (lower North American volume); v) a delay in US environmental policies, and vi) a deterioration in the debt schedule. In our view, the discount the share is trading at is unwarranted. At the current price, the dividend yield is 6.2% (4.8% for the next 12 months). The expected return including dividends is 31.6%.

RASSINI (Q418 T.P: MXN $109.7, RETURN: 32.2%)

Given the growing penetration of the brakes market, the division offers a higher growth rate than springs and the industry as a whole. Light trucks should also underpin growth. Last year, the company began supplying electric car components and in 2018 will add a new technology to its portfolio to reduce vehicle weight. Debt is low with the financial flexibility to grow. Rassini has only a small amount of debt (US$29 million as at Q217) which is a net debt/EBITDA ratio of 0.2x and interest coverage of 12.1x. The main risks are: i) exchange rate fluctuation; ii) the end of the North American expansion cycle; iii) uncertainty surrounding NAFTA (to which it is highly exposed, as exports are strong); and iv) liquidity levels and capitalization. Excluding dividends, the expected return is 31.3%.

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