5 of Our Best Stock Ideas for May 2023
By Shani Jayamanne, Senior Investment Specialist, Morningstar
9 May 2023
The commonly understood way investors make money from stocks is straightforward: buy a stock with the anticipation that its price will rise over time, and if it does, sell it later for a profit. This is known as “going long.”
Finding quality stocks trading at a cheap price can be a challenging and time-consuming task.
You not only need to identify whether a company has a tangible edge over its peers. You also need to assess whether a stock is over- or under-valued.
This is where Morningstar’s Global Best Ideas list can help.
The Global Best Ideas list is compiled by Morningstar’s equity analysts every month. To earn a spot on the list, these stocks have high analyst conviction in their future prospects and are trading at a price significantly below what our analysts calculate them to be worth.
In the current market, buying stocks when they are undervalued gives investor’s a higher margin of safety, therefore reducing portfolio risk.
Additionally, analysts consider the stock’s moat rating. This rating is an indication of the analyst’s expectations for the company to maintain a sustainable competitive advantage. A wide moat rating is awarded to companies that are expected to maintain and grow their earnings for at least the next 20 years, a narrow moat for the next 10 years.
May’s Global Best Idea list has 82 picks that have been chosen from over 1,500 stocks covered by 100 analysts globally.
Here are five of those top picks.
To access the full list, as well as our Premium investment screener to find other stocks that meet your investment criteria, take out a free, four-week trial of Morningstar Investor.^
FINEOS Corp Holdings PLC Chess Depository Interest (ASX: FCL) ★ ★ ★ ★ ★
Analyst Fair Value: $3.40 (50% discount as at 8 May 2023)
Moat rating: Wide
Fineos is a core software vendor to the global life, accident, and health, or LA&H, insurance industry. Customers are primarily large multinationals and midmarket insurers. The firm generates revenue mainly from subscriptions and product implementation services. About 80% of revenue is generated from the U.S., the rest from Asia Pacific and Europe.
Fineos help insurers streamline workflow, save costs, and win new business. Benefits of Fineos’ products to insurers include automating/unifying work processes, centralising data, reducing the time to market for new products, and enabling greater user interface, assisting business wins and client retention. Fineos is currently migrating customers to a cloud-based offering (from on-premise products). This makes it easier to rollout new features and support at lower marginal costs, while also providing more recurring subscription revenue.
Fineos shares are trading at a significant discount to our AUD 3.40 fair value estimate. We think the market underestimates revenue upside from the adoption of cloud software by insurers and the increasing stickiness of Fineos’ insurance customers. We think Fineos is in a good position to win new business supported by longstanding customer relationships and their referrals. Fineos is unprofitable but reinvests to solidify switching costs with its sticky customer base, help new business wins, and maintain its lead over would-be competitors. We anticipate share gains from more product holdings per client, new client adds, and expansions into new regions and adjacent verticals. There are also opportunities for cost efficiencies from client transitions to the cloud, automation of manual functions, and staff hires from emerging economies. We expect Fineos can self-fund its growth from here on.
Westpac Banking Corp (ASX: WBC) ★ ★ ★ ★
Analyst Fair Value: $28 (22% discount as at 8 May 2023)
Moat rating: Wide
Of the big 4 banks, Westpac is the most attractive according to our banking analyst, Nathan Zaia. Wide-moat Westpac trades at a meaningful discount to our AUD 28 fair value estimate. Share price weakness followed disappointing guidance and operating expenses and lost market share in home loans, but we think both will improve over time. We expect margin tailwinds in the short term as the bank benefits from a large customer deposit funding base in a rising cash rate environment. As Australia’s second-largest lender, number two in mortgages and number three in business loans, funding cost advantages should allow the bank to reprice loans and generate better margins as the cash rate is increased.
A large part of the bank’s uplift in costs is tied to customer remediation and uplifting of risk management and culture. We believe a large part of these should phase out over time. While we see the bank’s cost target as ambitious, after divesting several businesses there is an opportunity for management to reshape the cost base. The bank was losing market share, but in recent months this has begun to stabilize. This gives us confidence that there are no serious issues with the bank’s loan approval processes. Westpac continues to sit on surplus capital, is well provisioned, and pays generous fully franked dividends.
Kogan.com Ltd (ASX: KGN) ★ ★ ★ ★ ★
Analyst Fair Value: $10.70 (59% discount as at 8 May 2023)
Moat rating: None
Kogan’s business strategy is broadly based on low-price leadership. However, as the competitive outlook intensifies from both Amazon and omnichannel retailers, Kogan is adjusting by launching a new online marketplace and building its product offerings in bulkier goods. Compared with new entrants and most traditional retailers, while replicable we believe Kogan is far ahead on its supply chain, operational automation, IT, and sourcing capabilities. It outsources delivery and uses third-party logistics providers for warehousing, but has built a proprietary least-cost routing system that automatically calculates the best carrier depending on the article ordered.
Kogan shares trade at a significant discount to our intrinsic valuation. We attribute share price weakness to a material decline in sales and earnings from boomtime levels. We expect revenue growth to reignite as consumer spending growth moves back to online. We also anticipate margin expansion in the second half of fiscal 2023, as marketing and warehouse expenses are scaled back and discounting to clear excess inventory stops. There are early signs of improvement with a return to an adjusted EBITDA profit in March quarter 2023. We also expect Kogan First to underpin customer loyalty and generate a recurring revenue stream.
Lendlease Group (ASX:LLC) ★ ★ ★ ★ ★
Analyst Fair Value: $14.45 (46% discount as at 8 May 2023)
Moat rating: None
Lendlease is a diversified global property developer, landlord, property manager, fund manager, and builder on a range of development projects, funds, and completed properties around the world. Interests have included include apartments, offices, retail property, aged care facilities, retirement and military accommodation, roads, and rail tunnels.
Lendlease’s first-half fiscal 2023 result was underwhelming but continued the group’s recovery. First-half core operating profit was AUD 105 million (AUD 15.2 cents per security) versus AUD 28 million in the previous corresponding period. Lendlease securities are below net tangible assets of AUD 8.09, which seems too pessimistic considering that the group targets about half its EBITDA from development and construction, which is largely ignored in the NTA calculation. The share price appears to factor in a dilutive equity raising, but we think that’s unlikely. Management categorically denied it plans to raise capital in December 2022, and again at an investment conference in April 2023. Gearing remains modest and Lendlease has capital recycling options to fund its development pipeline, such as selling interests in military housing, retirement and residential communities. Management says the group remains on track to achieve its fiscal 2024 target of more than AUD 8 billion of development completions. The target looks reasonable, given development work in progress of AUD 18 billion plus new projects including the One Circular Quay hotel and residential tower in Sydney and the La Cienega office and residential precinct in Los Angeles. Downside risks look more than priced in, and we see substantial upside if Lendlease approximates its targets late in 2025, let alone meets its targets in 2024.
Alibaba Group Holding Ltd ADR (NYSE: BABA) ★ ★ ★ ★ ★
Analyst Fair Value: $177.00 (53% discount as at 8 May 2023)
Moat rating: Wide
With Alibaba establishing six major business groups to be independently managed by its own CEO and board with the flexibility to raise external capital and seek an IPO (except for the Taobao Tmall business group that will remain wholly owned under Alibaba Group), the unprofitable businesses will no longer be considered as value destructive to Alibaba Group. Thus, we think investors are more inclined to value Alibaba using a sum-of-the-parts valuation. Assuming a 20% holding discount of all five business segments, we think Alibaba’s current value would be USD 172 per ADS (HKD 166 per share) as of March 30, under a sum-of-the-parts valuation, in line with our fair value estimate, based on a discounted cash flow model of the consolidated business, of USD 177 per ADS (HKD 171 per share). We think its current market capitalization ascribes zero value to all the other five businesses, its 33% stake in Ant Group and all the strategic investments booked on the balance sheet. We believe Alibaba is significantly undervalued.
This article has been prepared by Morningstar Australasia Pty Ltd (AFSL: 240892). The information is general in nature and does not consider the financial situation of any individual. For more information refer to our Financial Services Guide at www.morningstar.com.au/s/fsg.pdf. You should consider the advice in light of these matters and if applicable, the relevant Product Disclosure Statement before making any decision to invest. Past performance does not necessarily indicate a financial product’s future performance. To obtain advice tailored to your situation, contact a professional financial adviser.
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