Markets

This ASX-listed “prop-tech” firm has become a case study in earnings quality

Mon 11 Dec 23, 2:08pm (AEDT)
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Source: iStock

Key Points

  • Investors currently prioritise companies with strong balance sheets, pricing power and quality earnings
  • Earnings quality is a measure of how reliable a company's earnings are for assessing its performance
  • REA Group is ranked the highest for earnings quality among ASX 100 companies

Balance sheet strength. Low levels of debt. Pricing power. These are some of the key things we’ve heard from investors this year, amid the elevated inflation and the new paradigm of “higher for longer” interest rates. These terms all fall under a broader umbrella: Quality. 

The investment styles of Growth and Value are often cited by investors and commentators seeking to pigeonhole different approaches. Do you seek out companies chasing revenue growth at (almost) any cost? Or do you concentrate on buying good companies at reasonable prices? 

As an investment style, Quality has a foot in both camps – which is perhaps why its appeal is so widespread. And its attractiveness comes to the fore in times such as these.

Earnings quality is a measure of how reliable a company’s earnings are for assessing its current and future performance. Earlier this year, Perpetual Asset Management’s Anthony Aboud spoke about some trends that were occurring inside companies and outlined a few tips on spotting companies with earnings quality. Among them were:

  • Look for cash flow conversion – in other words, how much of the company’s cash flow progresses through to earnings

  • Watch for how much is excluded from earnings using measures such as earnings before interest, tax, depreciation and amortisation (EBITDA).

  • Watch for movement in “deferred consideration” – this is particularly useful in cases where companies have made acquisitions during the reporting period.

Every six months, MarketMeter crunches data sourced from institutional investors on some of Australia’s largest listed companies. In the following, I outline the 10 companies that scored the highest ratings for Earnings Quality, both from the ASX 100 and ASX 101-200. This includes commentary from inside one of the category’s top-performing companies.

Top 10 ASX 100 companies for Earnings Quality

The list appears in order based on the results of the most recent MarketMeter research.

Rank

Ticker

Company

Index

GICS Sector

1

REA

REA Group

S&P/ASX 100

Communication services

2

TLC

The Lottery Corporation

S&P/ASX 50

Consumer discretionary

3

CAR

Carsales.com

S&P/ASX 100

Communication services

4

BHP

BHP Group

S&P/ASX 20

Materials

5

XRO

Xero Limited

S&P/ASX 50

Information technology

6

MQG

Macquarie Group

S&P/ASX 20

Financials

7

CBA

Commonwealth Bank

S&P/ASX 20

Financials

8

SDF

Steadfast Group

S&P/ASX 100

Financials

9

WTC

Wisetech Global

S&P/ASX 100

Information Technology

10

CSL

CSL Limited

S&P/ASX 20

Health care


Top 10 ASX 101-200 companies for Earnings Quality

The list appears in order based on the results of the most recent MarketMeter research.

Rank

Ticker

Company

Index

GICS Sector

1

CMM

Capricorn Metals

S&P/ASX 200

Materials

2

CNU

Chorus Limited

S&P/ASX 200

Communications Services

3

NWL

Netwealth Group

S&P/ASX 200

Financials

4

PDN

Paladin Energy

S&P/ASX 200

Energy

5

DRR

Deterra Royalties

S&P/ASX 200

Materials

6

BLD

Boral Limited

S&P/ASX 200

Materials

7

KAR

Karoon Energy

S&P/ASX 200

Energy

8

WAF

West African Resources

S&P/ASX 200

Materials

9

SPK

Spark New Zealand

S&P/ASX 200

Communication services

10

DHG

Domain Holdings Australia

S&P/ASX 200

Communication services


I spoke with an insider at the top-ranked ASX 100 firm in terms of Earnings Quality, REA Group, for some insights into how the company has fared amid the more difficult economic environment. The spokesperson also provided some commentary on the firm’s expectations for the property sector in 2024.

What actions have you taken in the past 18+ months amid high inflation and rate rises? How are these reflected in your earnings?

"We have focused on delivering our strategy by providing additional value for our customers, driving higher yields across our business and prudently managing costs whilst not short-terming the business.

"This meant that while we went through one of the most challenging cyclical downturns we have ever experienced, with national listings declining by 12%, we delivered a resilient outcome with group revenues increasing by 1% and EBITDA declining by just 3% in FY23."

What's your base case for how 2024 will look?

"We believe we are in a more normalised property environment, with strong demand supported by near-record employment and immigration, and increasing supply with the return to peak prices improving seller confidence.

"It is worth noting, however, that any further increase in rates from current levels could hurt sentiment. Irrespective of what happens with volumes in the market, we will continue to focus on the things that we can control to drive performance in FY24 and beyond."

Where will residential property prices be this time next year?

"We expect that price growth will be slower in 2024 than in 2023. In saying that, we are anticipating that persistent strong demand for housing, limited new housing construction, and an expectation that total listing volumes will remain low will likely lead to further price gains. We forecast property prices to increase between 1% and 4% in 2024."

This article was originally published on Livewire Markets.

Written By

Glenn Freeman

Content Editor

Glenn is a Content Editor at Livewire Markets and Market Index. Glenn has almost 20 years’ experience in financial services writing and editing. Glenn’s journalistic experience also spans energy and automotive, in both Australia and abroad – including the Middle East – where he edited an oil and gas publication in the United Arab Emirates.

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