Morningstar Magazine - February/March 2018 - 26

Dispatches

slight rises in price during December include
BT Group and Shire. Shire's shares rose
even as analyst Karen Andersen reduced her fair
value estimate based on competitor Roche's
ROG:CH positive data for Hemlibra in
hemophilia A, as well as the failure of Shire's
Hunter syndrome drug in phase 3 trials.

Bridget Weishaar lowered her fair value estimate
for the shares to SEK 203 per share from
SEK 218 per share. This reduction is based on the
firm's near-term pressures resulting from the
impact of high inventory levels, continued traffic
weakness, and further discounting pressure. Even
so, shares currently trade at nearly a 17% discount.

New additions to the list include Orange ORA:FR
(communication services), Hennes & Mauritz HM
B:SE (consumer cyclical), Elekta EKTA B:SE
(healthcare), and SSE SSE:GB (utilities). Of these
names, both Elekta and H&M specifically
represent some of the cheapest European names
on an uncertainty-adjusted, price/fair value
basis; both currently trade at over a 15% discount
to respective fair values.

H&M is a global retailer of affordable fashion
merchandise. The company operates more than
4,500 stores globally, but its presence is
predominantly on the European continent. Over
the next five years, Weishaar sees H&M generating
7% compound annual revenue growth (below her
prior 8% estimate) and 5% compound annual
operating income growth (below her prior 7%
estimate). She also thinks new store openings will
be 10% annually. Revenue growth, Weishaar adds,
will also be aided by comparable sales, which she
sees recovering to flat on average versus this
year's 2% expected decline. However, she thinks
the operating margin will decline to 11.4% in 2021,
from 14.7% on average over the last three years, as
she now considers investment needs for IT,
new brands, e-commerce, and sustainability as
ongoing investments.

Wide-moat-rated Elekta develops, manufactures,
and distributes treatment planning systems for
neurosurgery and radiotherapy, including
stereotactic radiosurgery and brachytherapy. The
company's platforms and software are used in
more than 6,000 hospitals globally. Both Elekta and
close competitor Varian Medical Systems VAR
stand to enjoy strong sales momentum over the
next decade, buoyed by growing demand for
radiotherapy, or RT. We believe that RT adoption
still has room to increase. Even though RT is highly
effective in treating certain cancers at a relatively
low cost, its penetration rates have long been
hindered by its side effects and sizable upfront
costs. The latest advances in technology, which
allow for higher dosage and more precise delivery
of radiation, as well as growing awareness
of the benefits of radiotherapy, could significantly
expand the marketplace.
We raised Elekta's fair value estimate in July to
SEK 93 per share from SEK 90, mostly on the heels
of stronger cash flows. At current prices,
shares trade at about a 27% discount to our fair
value estimate. While it may take some time
to return to this growth given the mired state of its
U.S. operations, Elekta's favorable geographic
mix, strong positioning in software, and currently
smaller share support a slightly higher-thanindustry forecast of 7% to 8% growth per year.
As for narrow-moat-rated H&M, the other new
addition to our list of undervalued names, analyst

Morningstar February/March 2018

Alex Morozov, CFA, is director of equity research, Europe,
with Morningstar.

Large-Cap Stocks to
Watch in 2018
AUSTRALIA h N EW ZEAL AND

Australia
Australian companies in the mining and materials
sectors were among the best performers in
the S&P/ASK index in 2017. Even after these gains,
a rise in commodity prices at the tail end of last
year, including crude oil at two-and-a-halfyear highs and a surging copper price, is some
cause for optimism on mining and energy stocks.
But that's not the whole story.
Morningstar adopts a long-term outlook, beyond
the current "overwhelmingly positive commentary"
on China's infrastructure outlook that is supported
by the mining majors, according to Morningstar

senior equity analyst Mathew Hodge. "Major iron
ore miners such as BHP Billiton BHP:AU, Rio Tinto
RIO:AU, and Fortescue FMG:AU all expect [China's
Belt and Road Initiative] to drive further growth in
steel demand in China, and support growing
demand for iron ore," Hodge says. However, "the
likely spend is small in context of China's already
heady spending on fixed asset investment."
Hodge believes the recent uptick in commodity
demand and prices is "just a cyclical upturn driven
by China's 2016 stimulus. Long term, structural
headwinds remain, and China's steel consumption
is likely to decline in the next decade."
Australia's big four banks weighed on the S&P/
ASX200 in December, with Westpac WBC:AU the
worst performer (down 0.6%), followed by
National Australia Bank NAB:AU (down 0.3%), and
Commonwealth Bank of Australia CBA: AU
and Australia and New Zealand Banking Group
ANZ:AU (both down 0.2%). Peter Warnes,
Morningstar's head of equities research, believes
banks will struggle in 2018 as the Royal
Commission takes a toll on their earnings.
Warnes is considerably more optimistic on the
outlook for healthcare companies, with Ramsay
Health Care RHC:AU, Healthscope HSO:AU
and Sonic Healthcare SHL:AU among his favored
companies for 2018.
"Healthcare is one of the industries that will do well.
And on a global scale, we have CSL CSL:AU,
Cochlear COH:AU, and ResMed RMD:AU, which
are leaders in their industry with 35% to 40% of the
global market," Warnes says. Though he points to
their elevated current prices, "if we get a
correction, then put those on your shopping list."
"Stocks that are already a good value in that
space are Ramsay Health Care, Healthscope, and,
to a lesser degree, Sonic Healthcare" says
Warnes. Ramsay is a global hospital group with
223 hospitals across Australia, the United Kingdom,
France, Indonesia, and Malaysia. Morningstar
considers it to have a narrow moat. "The
scale of Ramsay's operations in the Australian
context underpins, in our opinion, a sustainable
competitive advantage that drives both cost
advantage and a reasonable level of pricing power

Table of Contents for the Digital Edition of Morningstar Magazine - February/March 2018