Unit Industry Analysis Guide

CONSUMER SECTOR FINANCIAL SECTOR INFRASTRUCTURE TMT

CONTENTS

INTRODUCTION

TABLE OF

3 5 12 32 42 50 60 66 72

ENERGY & UTILITIES HEALTHCARE MINING AND MINERALS REAL ESTATE

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INTRODUCTION Welcome to UNIT’s 2020 Industry stry Analysis Guide!

This Guide provides a comprehensive hensive overview of Australia’s 8 major industries ples), Consumer (Discretionary & Staples), tilities, Real Financial Services, Energy & Utilities, Estate, Infrastructure, Mining, TMT, and healthcare.

For each industry, the analysis will consist rket players, of an overview of the main market ion of key followed by a detailed discussion ell as an industry drivers and risks, as well atios explanation of the important ratios ther, each applicable to that industry. Further, depth case industry will also feature an in-depth tioned study - applying the aforementioned he unique concepts - to better illustrate the characteristics of that industry. o enhance The aim of the publication is to otivated UNIT’s mission of educating motivated ng the gap university students and bridging rsity. between workforce and university.

We hope you find this Guide useful in assisting with your studies and future careers. Happy reading!

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ACKNOWLEDGEMENTS

UNIT CHAPTERS:

EDITOR IN CHIEF: Angela Gao DESIGNERS: Anna Ly Ishan Cross Jenny Chen Joshua Capello Julia Tran Maya Mishra Melissa Qiu Ryan Chan Teresa Jiang

AUTHORS: Neve Glowacki Catherine Ge Micheal Zhang Joseph Alam Anna Ly Kieran Labrakis Andrew Kim Ryan Chan Dominic Marino

AUTHORS: Reuben Gliksten Jenny Chen Flora Lee Paarth Rathore Rachel Wang Julia Tran

SOFTWARE: Canva This guide was printed with funding from the University of Sydney Business School. © University Network of Investing & Trading 2020

DISCLAIMER 1. The information in this free guide is provided for the purpose e of education and intended to be of a factual and objective nature only. The University Network for Investing and Trading (“UNIT”) makes no recommendations mendations or opinions about any particular financial product or class thereof. f. d in this guide.

2. UNIT has monitored the quality of the information provided However, UNIT does not make any representations or warranty anty about the accuracy, reliability, currency or completeness of any material al contained in this guide.

3. Whilst UNIT has made the effort to ensure the information n in this guide was accurate and up-to-date at the time of the publication of this guide, you should exercise your own independent skill, judgement and research before relying on it. This guide is not a substitute for independent professional advice and you should obtain any appropriate e professional advice relevant to your particular circumstances.

4. References to other organisations are provided for your convenience.

UNIT makes no endorsements of those organisations or any other associated organisation, product or service.

5. In some cases, the information in this guide may incorporate ncorporate or summarise views, standards or recommendations of third rd parties or comprise material contributed by third parties (“third party material”). Such third party material is assembled in good faith, but does not ot necessarily reflect the views of UNIT, or indicate a commitment to a particular rticular course of action. UNIT makes no representations or warranties about the accuracy, reliability, currency or completeness of any third party material. al.

6. UNIT takes no responsibility for any loss resulting from any y action taken or reliance made by you on any information in this guide (including, uding, without limitation, third party material).

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01

CONSUMER & RETAIL

CONSUMER STAPLES

INTRODUCTION The Consumer Staples industry is made up of three sub-industry groups: Food, Beverage & Tobacco – packaged foods, agricultural products, brewers, distillers, soft drinks and tobacco companies Household & Personal Products – companies producing products like toiletries, vitamins, supplements and other health and household products.

Food & Staples Retailing Industry – companies involved in food distribution and retail.

INDUSTRY DRIVERS Companies in consumer staples provide necessities to customers. The demand for these necessities typically remains unchanged even during recessions. This means that the sector’s performance tends to be relatively stable regardless of the macroeconomy. As a result, drivers such as interest rate which would otherwise have substantial impacts on other industries have minimal effect across staples sector.cc Instead, the main driver of consumer staples are emerging trends that shift consumer preference. Nearly all individuals consume staples in some form or other, and their decisions are based on preference between the different companies competing to provide a sustainable advantage. For example, a major recent shift has been the move away from traditional plastic and the use of bio-friendly production means due to public sentiment. This change would induce the staples industry to adopt a more efficient and eco-friendly means of packaging.

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CONSUMER STAPLES INDUSTRY RISKS Structural Changing consumer preferences – customers have shifted their purchasing habits to include e-commerce and specialty brands such as organic alternatives. The rise of e-commerce and other smaller staples could disrupt existing players in the industry, as it can damage traditional routes to markets and other retailers. This can potentially result in companies adopting excessive price promotions in pursuit of a price leadership strategy, which can harm the brand’s equity.

Cyclical During periods of fundamental shifts in consumer preference, large companies often take a long period of time to remodel their operating structures to take advantage of emerging trends ahead of other participants. There is no guarantee that a consumer staple company will always remain on top of the predicted market trend.

RATIOS Dividend Payout ratio: Businesses in the consumer staples industry are generally mature and efficient with stable growth opportunities. As a result, they generate a surplus of free cash flows, much of which is returned to shareholders through dividends and stock repurchases.

Comparable-store sales: Also called same-store sales, this ratio is used specifically by retailers to express year-overyear growth after adjusting for the opening or closing of store locations. That is, it describes the fundamental operating momentum of the business. Companies who are looking to expand their retail footprints would enjoy increases in same-store sales growth.

Gross profit margin: The well-performing consumer staples businesses attribute their profitability to their brand power, large sales base and efficient operating structure.

Gross margin is what remains after the company covers the direct costs from manufacturing distributing the product (otherwise known as cost of goods sold or COGS). A strong gross margin figure translates to higher earnings and indicates that the stock enjoys pricing power.

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CONSUMER DISCRETIONARY INTRODUCTION The consumer discretionary sector comprises of companies that sell non-essential goods and services. The sector is considered highly cyclical, meaning it will grow and contract in line with the overall economy. The consumer discretionary sector is divided into 2 segments. The first is the manufacturing segment. This includes companies that are involved in the manufacturing of goods, such as household durable goods, textiles and leisure equipment. An example of an ASX listed company in this segment is Breville Group Limited (BRG). The second is the services segment. This includes companies that are involved in the provision of services to consumers, such as hotels and other leisure facilities as well as media and retail services.

ASX listed companies in this segment include Myer Holdings Limited (MYR) and Tabcorp Holdings Limited (TAH).

INDUSTRY DRIVERS The economic cycle is the most important driver of the sector. The stages of the economic cycle are as follows: expansion, peak, contraction, and trough. When the economy is expanding, businesses have stronger earnings and as a result, consumers have more disposable income to spend on discretionary goods and services. During economic contraction, the sector suffers as well.

Consumers forego discretionary purchases and are more likely to save their money for the tough times ahead.

Consumer confidence is another driver of the industry and gives an indication as to the performance of the consumer discretionary sector. When consumer confidence is high, companies in this sector benefit from increased sales. When confidence is low, it leads to weak sales as consumers postpone discretionary spending and save money. An example of a consumer confidence index is the ANZ Roy Morgan Consumer Confidence Index.

Theoretically, an expansionary monetary policy is meant to stimulate spending in the economy. As interest rates are low, consumers have less incentive to save money, and thus are forced to spend money on discretionary items. This is meant to increase activity after an economic contraction.

However, numerous retail players in Australia have suffered from numerous closures due to poor sales, some dubbing it as the “Retail Recession�. This implies that expansionary monetary policy may not be effective as it once was.

Particularly in times of economic contraction, government stimulus packages (fiscal policy) may drive activity in this sector. Monetary benefits are given to consumers to spend funds on discretionary items to stimulate activity in the broader economy. An example of this was seen in 2009, when the Rudd government $950 to each family earning below $80,000. These funds were to be spent on discretionary items to stimulate the discretionary sector as well as the broader economy. However, it appears that the $750 economic stimulus given to social security recipients during 2020 to combat the economic slowdown due to Covid-19 has faded.

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CONSUMER DISCRETIONARY INDUSTRY RISKS As explained above, one of the risks to the industry is the contraction of the economic and falling consumer confidence. When the economy is contracting, consumers will generally have less disposable income, and therefore, this will directly impact the profitability of companies that provide discretionary goods and services to consumers.

As is now apparent, global pandemics, such as Covid-19, are especially bad for companies operating in this sector, particularly those with brick and mortar operating models. Just in 2020 alone, 161 Australian brick and mortar retailers have closed due to poor sales prior to 2020, together with the pandemic. With the imposition of lockdowns, as well as a contracting economy, compared to the same time last year, clothing spending is 58% lower, personal care and beauty spending is 61% lower and spending on recreation is 37% lower.

The Australian consumer discretionary sector is also facing cheaper competition from overseas brands online. This trend is particularly affecting Australian fashion retailers. For example, overseas brands such as Zara and H&M are taking business away from the Australian retailers. In 2017 alone, Australian retailers lost over $700 million in revenue to overseas competitors. Also, every few weeks, overseas brands come up with new offerings and new fashion, compared to Australian brands, which operate on a 4-season offering. This is not attractive to consumers who want constant updates to fashion.

RATIOS The ratios below are used when analyzing companies within the consumer discretionary sector: Inventory Turnover Ratio: This ratio is calculated by dividing net sales revenue by the average inventory over a period. This ratio is especially important for retail business, such as fashion companies. It measures how fast a company can sell its inventory. A higher inventory turnover ratio indicates that a company has a strong sales record and has a lower chance of its stock going out of fashion or becoming obsolete. However, a high inventory turnover ratio could also indicate that the company does not hold enough inventory. On the other hand, a low inventory turnover ratio indicates that the company has weak sales or has too much inventory on hand.

Interest Coverage Ratio: The interest coverage ratio is calculated by dividing EBIT by the total interest expense on the company's outstanding debts. This ratio is used to indicate the longerterm financial health of a company. A lower interest coverage ratio indicates that a company has a higher chance of not being able to service its debt, meaning that a company has a higher prospect of becoming bankrupt. A high interest coverage ratio (usually around 3x or more) indicates that the company has more than enough funds to service its debt obligations and is able to grow without facing financial hardship. It also means that the company is in in better shape to take on more debt in order to fund future expansion projects.

EBIT Margin: This is calculated by dividing a company’s EBIT (Earnings before Interest Expense and Tax expense) by a company’s total sales revenue. This margin considers a company’s operating expenses and accounts for a company’s use of its capital assets to create sales. A company with a higher EBIT margin indicates that its costs are lower and more of its sales revenue is converted into profit.

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GAMING INDUSTRY INTRODUCTION Video game, DVD and music retailing makes up a portion of the consumer discretionary sector in Australia. Two types of video games are predominantly sold in the Australian market, being console-based games played on platforms such as Sony’s PlayStation and Microsoft’s Xbox consoles, and video games played on computers such as Minecraft. The most significant companies in the industry are JB Hi-Fi (ASX: JBH) and EB Games (subsidiary of America’s GameStop Corporation).

In recent years, brick-and-mortar retailing has faced an uphill battle with online retailing. Sony and Microsoft offer digital downloads for their consoles, while most computer games can be accessed online without physical retailers. The same is happening with DVD and music retail, as streaming services such as Netflix, Stan and Spotify have eaten into the market share of Australian retailers.

PROS OF GAMES BOUGHT: ONLINE Quick Cheap Accessible

IN STORE Bonus features Trade-in value Do not take up console storage 9

GAMING INDUSTRY INDUSTRY DRIVERS Discretionary income and consumer preferences As the industry makes up a component of discretionary consumption, an increase in discretionary income and consumer sentiment increases the likelihood of expenditure on video games, DVDs and music.Leisure time and hours workedVideo gaming, film and television and music are all leisurely activities. As such, the industry is driven by the amount of leisure time that households and consumers have to spare to engage in such activities. This is reliant on the average number of weekly hours worked.

Technological advancements Although detrimental to brick-and-mortar stores, increasing internet broadband and technology has an effect in driving the transition of video game and other entertainment sales to online platforms.

Streamlining online transactions and expanding ranges of games available have resulted in increased comfortability of consumers purchasing goods online.

Engagement with younger generations The younger population is a key driver of engagement with the video game industry, albeit through the funding of their family’s household. Demand for the industry is hence driven by trends and preferences of children and young adults. Additionally, there has been rising popularity within younger consumers for vintage formats, such as vinyl records or old gaming consoles, which has seen a rise in demand for niche products.

INDUSTRY RISKS Structural Mobile gaming applications – not included in the industry, more accessible and cheap, declining life cycle, presence of international online retailers

Cyclical Dependence on consumer sentiment and preferences

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CASE STUDY WESFARMERS Wesfarmers Limited (WES) is a diversified business operating in supermarkets, department stores, home improvement and office supplies, resources, chemicals, energy & fertilisers and industrials & safety products. Major businesses include full ownership of Bunnings, Kmart, Officeworks, Target, Australian Vinyls and have an ownership interest in Coles.

Over the last 6 months, Wesfarmers has actually benefited from an increase in sales revenue across its major brands. With the imposition of lockdowns and more and more aussies working from home, sales for Officeworks have grown by 27.8% over the last 6 months (Jan-June 2020). This is compared to an 11.5% growth in sales from July to Dec 2020. Bunnings has also increased sales by 19.2% this year, compared to 5.8% growth from July to Dec 2020, as many begin to do home projects themselves instead of getting tradespeople. Across all retail businesses, online sales growth has increased by 89% since the start of the year. This means that so far, during the pandemic, Wesfarmers business segments have increased in sales and profitability.

Wesfarmers has also taken various actions to strengthen the group’s balance sheet, including the sale of a 5.2% interest in Coles on 31 March 2020 and extending their debt facilities to $5.3 billion from $2.0 billion, which was priced well below the group’s current overall cost of debt. These actions would allow Wesfarmers to respond to a range of economic scenarios as the pandemic continues, and support their investment opportunities.

However, the Victorian strict stage 4 lockdown imposed since early August, and to last 6 weeks, may impact Wesfarmers. Approximately 17% of sales comes from stores in metro Melbourne. However, due to the strength of its online sales operations, it is not expected that this lockdown will affect its profitability too much. The retail businesses of the Wesfarmers Group will continue with online sales operations, including home delivery and click and collect options. However, only time will tell if the surge in their major business segments will continue during the lockdown, as some believe that consumers have already stocked up on home office equipment and other items. However, perishable items, sourced from Coles will continue to be of demand during this pandemic.

Currently, Westfarmers’ P/E ratio is 26.68x, which is significantly above the industry average of 17.7x in multiline retail.

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FINANCIAL SECTOR INTRODUCTION FINANCIAL SECTOR

The financial sector is a section of the economy made up of firms and institutions that provide financial services to commercial and retail customers. A large portion of this sector generates revenue from mortgages and loans, which gain value as interest rates drop. The health of the economy depends, in large part, to the strength of its financial sector. The stronger it is, the healthier the economy. A weak financial sector typically means the economy is weakening.

DIFFERENT SECTORS WITHIN THE INDUSTRY Retail Banks Superannuation Investment companies

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RETAIL BANKS INTRODUCTION Retail banks are the parties that interact with everyday consumers and provide general financial services. These firms are often referred to as the “personal bank” as they offer services that are personalised to the everyday consumer including checking and savings accounts, credit cards, mortgages services, foreign currency and remittance services.

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ECONOMIES OF SCALE Historically, Australia’s larger retail banks have benefitted from their distribution network effects and shared overhead for IT, infrastructure, and other services. Across the globe, larger institutions also tend to have greater cost-to-asset and cost-to-income ratio efficiency. Banks that have succeeded in reaching higher levels of productivity have taken digital sales capabilities to their advantage. Developing cutting-edge digital sales mechanisms requires sophisticated digital marketing and stage optimization understanding. Leading banks continue to use first and third-party data and an agile operating model to achieve economies of scale.

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DRIVERS OF RETAIL BANKING 02

DIGITALISED PROCESSES Since the 2008 GFC, the relationship between deposit growth and number of branches has weakened across Australia, North America, and the UK. Increasingly, the number of branches has contracted whereas digital sales have increased steadily (refer to BCG’s Retail-Banking Excellence Consumer survey to see the increased number of digital customers globally). The rate of branch contraction can be traced to increasing customer willingness to purchase banking products online. While customer willingness to purchase products via digital channels increases, the bigger banks are in the race to catch up to companies like Amazon, Google and PayPal.

UNBUNDLING SERVICES “Open Banking regulations” reg are becoming the retail banking trend around the world. This term refers to the fragmenting of traditional t retail a as set and liability gathering gathe asset in marketsalso a new new business opportunity for retail banks. Over the years, ye banks have sought to become more mor “vertical,” that is, offering services to consumers c from top to bottom. Now, Now many new en ntrants strive for a “horizontal” entrants a ap pp prroach, dominating domina ati t ng one specific approach, llucrative lu ucrrat ativ tiv ive area.

Account aggregation and back-office enablement are some examples of areas that retail banks are placing greater focus on. This “horizontal” approach through a fragmented value chain will allow retail banks to realise more gains. This trend has been a particularly key driver for retail banks.

Incumbents are increasingly feeling the pressure to reconsider their business offerings upon facing competition amongst many other unbundled singleproviders of financial services.

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RISKS UNEMPLOYMENT, INFLATION & LIQUIDITY RISK With 2020’s highly uncertain year full of disastrous events ranging from the 20192020 raging bushfire season to the unprecedented COVID-19 outbreak, Australia’s economic performance has further failed to stimulate the spending causing businesses to retrench many employees. Retail banks take a hit from high unemployment and low inflation as borrowers (consumers) pay lenders (banks) less money than the original worth when borrowed. If this persists, retail banks may face a serious liquidity risk where they are unable to meet their financial obligations.

STRUCTURAL & SYSTEMIC RISK Systemic risks are those risks faced by the entire banking industry that may cause the entire system to collapse.

An incident where this systemic risk occurred was in the 2008 Lehman Brothers’ collapse causing a large massive sell-off in the banking sector.

This risk occurs when the default of failure of one financial institution can cause a domino effect. A repeat of this incident could be a risk for retail banks as Australia and the world enters an epidemic impacting the entire finance and banking sector.

CASH RATE & CREDIT RISK The continual cuts to the cash rate has had significant impacts on many aspects of the retail bank industry. Since late 2019, the cash rate has been on a steady decline from 1.5% to the current 0.25% record low (refer to Trading Economics RBA Cash Rate Graph below). While this has been a monetary incentive for consumers to spend, this has not triggered expenditure, causing retail banks to lose a significant portion of income from lending, leaving them with significant levels of credit and home loan defaults. This leaves retail banks with less money to be able to hand out to some consumers in the form of loans and income from interest payments.

Consumers who are unable to obtain loans will not spend and this cycle continues. Hence, with the instability of the business cycle, it is not just consumers and businesses that have been negatively affected but also retail banks.

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KEY SECTOR RATIOS NET INTEREST MARGIN A profitability ratio in regards to earning assets measured by calculating net interest income (difference between interest income generated and interest expenses over the interest-earning assets.

The majority of retail banks earn their income from interest (collecting interest on loans) and also incur their expenses from interest (interest paid out for customer deposits). Therefore the greater this ratio is, the more profitable the firm is in terms of interest-earning assets.

ANZ: 1.72% NAB: 1.73% CBA: 1.98% Wespac: 2.01% COST TO INCOME RATIO

ANZ: 47.15% NAB: 41.59% CBA: 48.40% Wespac: 48.78%

RETURN ON ASSETS RATIO ROA measures the firm’s profitability, equal to the year’s earnings divided by its total assets. Return on assets essentially shows how much profit a company is making on the total assets used in its operations. The greater the ROA, the better the firm is performing overall.

Another profitability ratio representing how efficiently the bank is able to run. There is an inverse relationship between cost-to-income ratio and the retail bank’s profitability where the lower the ratio, the more profitable the bank. Changes in the ratio indicates areas of issue for the bank for example if the ratio increases from period to period, the costs are rising at a higher rate than income.

ANZ: 0.62% NAB: 0.92% CBA: 0.61% Wespac: 0.78%

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WESTPAC: MODERN WORLD, BANK & PROBLEMS

INTRODUCTION

ECONOMIES OF SCALE

Westpac is the first bank in Australia being established in 1817 as the “Bank of New South Wales.” Today the firm is recognised as one of the big four Australian banks providing a broad range of consumer, business banking and wealth management services via its branch and online businesses. Moving into the modern banking environment and increasingly digital financial market, Westpac aims to continue providing great service to the community helping “people to prosper and grow.”

Westpac helps customers better facilitate outcomes of the range of financial products and services out in the market through its efficient range of open data systems. The firm considers that open data will enhance customers to make more informed decisions and achieve targeted service offerings. This process will overall promote the innovation and efficiencies in the financial system.

Collectively, these initiatives achieved through Westpac’s long-standing economies of scale both promote the customer experience while continuing to boost financial markets competition.

Although Westpac performs well compared to its smaller competitors, it has the highest costto-income ratio at 48.78% relative to the big 4 bank competitors. As technology continues to c change the competitive landscape retail banks llike li ike k Westpac will need to continue to drive cru cr uc u c crucial technological innovations in the fina anc n financial system to lift their productivity.

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WESTPAC: MODERN WORLD, BANK & PROBLEMS BUNDLED SERVICES Although unbundling services are trends for the industry, this seems to be only truly beneficial to new entrants where they are able to utilise online platforms and resources to gain customer bases. Larger retail banks like the big four: ANZ, CBA, NAB and Westpac are still aiming to achieve the “vertical” approach as it aligns with their common goal of helping everyday Australians learn about their financial position and better gauge their financial abilities to assist them prosper and grow.

As these everyday consumers require assistance from all areas of personal finances and banks like Westpac can offer the entire customer experience, the unbundling of services have not been targeted over recent years. Westpac’s operations have still very much been centred around: consumer sales and services, business specialist services and institutional offerings to corporate customers as they have been over the past.

CONCLUSION In the future, Westpac aims to leverage their 2020 Sustainability Strategy to make significant reforms to their current business and create positive impact for other stakeholders. Through meaningful economic, social and environmental changes Westpac aims to work towards allowing people to better understand their financial position, recover from financial hardship especially in the aftermath of COVID-19, invest in Australian infrastructure, tackle social issues and to cultivate an inclusive, innovative culture.

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SUPERANNUATION INTRODUCTION The Superannuation system is Australia’s pool of retirement income saved up. There are three pillars that make up the pension system:

A means-tested age pension Compulsory super contributions Voluntary savings

Currently, the Superannuation Guarantee scheme has a compulsory 9.5% rate that employers must contribute from an employee’s gross income.

Australia’s implementation of such a system has fostered one of the largest pension systems in the world.

TYPES OF SUPER FUNDS There are several types of superannuation funds:

Corporate or public sector funds Industry super funds Retail super funds Self-managed super funds

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DRIVERS Investment returns are the main driver of industry revenue. Given more than half of the superannuation assets are invested in equity investments (divided among the domestic sharemarket, foreign share market, and unlisted equity), the All-Ordinaries Index is a strong indicator of the industries performance. As such, a stronger performance in the All-Ordinaries Index is usually correlated with higher returns for the industry.

TOTAL EMPLOYEES IN THE LABOUR FORCE While super fund contributions are not considered direct revenue for the industry, these contributions provide more assets and a higher scale of investments for the industry.Currently, the rate in which employers contribute to the super funds is 9.5% of an employees gross salary to a super fund of the employee’s choice. A greater labour force increases the contributions to the superannuation funds more assets and higher investment scale

10-YEAR BOND RATE A large proportion of superannuation savings is invested in interest-bearing assets such as cash, and short-term and long-term debt securities. A higher 10year bond rate typically increases returns generated from interest-bearing assets, positively affecting industry revenue. The 10-year bond rate is expected to fall in 2019-20, potentially threatening the industry.

AVERAGE WEEKLY EARNINGS Given the super fund contribution rate is a proportion of employees gross income, a higher average weekly earnings will influence the overall super fund contributions.

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RISKS CYCLICAL

STRUCTURAL

01 EARLY RELEASE SCHEME Subsequent to the COVID-19 pandemic, the Australian government has implemented the Early Release Scheme of which allowed eligible individuals to access up to $10,000 of their superannuation before 30 June 2020 and an additional $10,000 in the September 2020 quarter.

Consequently, superannuation funds were required to increase their cash allocations.

Furthermore, with $27.5bn of redemptions being paid out by superannuation as of July 5th, the scheme will continue to impact the performance of the industry as it reduces the scale of investments.

03 HIGH REVENUE VOLATILITY Since the Global Financial Crisis, the superannuation funds industry has become increasingly more volatile as the industry is greatly exposed to the performance of equity markets, interest rates, and property yields. Furthermore, the COVID-19 pandemic has further exacerbated the volatility of the industry's revenues.

02 HIGH COMPETITION (INTERNAL) Competition in the superannuation industry has increased significantly over the past 5 years. As a result, there has been a distinct price competition between industry and retail superannuation funds.

Recently, superannuation firms have been involved in mergers to increase their scale of investments, which, in turn, reduces the costs that are passed onto their customers, and thus allow the superannuation funds to remain more competitive. Additionally, It has been difficult for retail super funds to compete with industry super funds given they have lower expense ratios. This is a consequence of industry funds promoting themselves as not-for-profit and thus lower costs. Another consequence of high competition is the rapidly increasing investment in overseas assets with 72% of Australian superfunds intending to ramp up their investments offshore.

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KEY RATIOS

WAGES/REVENUE RATIO

INDUSTRY VALUE ADDED/REVENUE Industry Value Added (IVA) represents the value added by an industry to the intermediate inputs used by the industry. IVA is the measure of the contribution by businesses, in the selected industry, to gross domestic product.

Thus, IVA/Revenue reflects the industry value that has been added by the superannuation industry per unit of revenue that has been earnt.

REVENUE PER EMPLOYEE Revenue per Employee is calculated as a company’s total revenue divided by its current number of employees. It is an important ratio that roughly measures how much money each employee generates for the firm.

Wages/ Revenue ratio determines the value of its workforce as a function of its revenue. It indicates how well the industry’s employees are performing. When a wages to revenue ratio is higher, it means that the industry’s employees are performing poorly. On the other hand, when a lower wages to revenue ratio falls, it indicates greater efficiency and higher profits.

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AUSTRALIANSUPER INTRODUCTION AustralianSuper is an industry super fund and the largest super fund in Australia by total assets under management.

AustralianSuper was formed in 2006, following the merger of Australian Retirement Fund and Superannuation Trust of Australia. The merger combined 1.2 million members from over 65,000 employers, and the combined firm had over $20 billion in assets at the time. It has since grown to service over 2.2 million members, managing over $170 billion in assets. The fund operates out of its Melbourne head office.

In September 2012, AustralianSuper announced the set-up of an in-house investment management team to manage up to 30% of the fund's assets over the subsequent five years. As at 30 June 2019, the internal investment team managed approximately 40% of the fund's total assets.

This figure is expected to rise to 50% by June 2021 to provide cost savings for the fund's members.

FINANCIAL PERFORMANCE AustralianSuper has recorded significant asset growth over the past five years. Fund assets are expected to increase at an annualised 13.0% over the five years through 2019-20, to $175.0 billion, despite volatility in the current year due to the COVID-19 outbreak. AustralianSuper's strong growth over the past five years has primarily stemmed from a rising member base contributing to its assets under administration. Furthermore, the fund recorded significant inflows after the Financial Services Royal Commission, as many members had transferred their superannuation from retail funds following the intense scrutiny placed on the major banks and other financial services providers.

A significant proportion of asset growth has also been due to the strong investment performance of the fund, which has outperformed the overall industry over the past five years.

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INTRODUCTION The managed funds industry in Australia encompasses the array of financial services that pool together the money of individual investors and invest this combined capital into a professionally managed investment portfolio.

This portfolio is usually based around a certain objective, such as growth or income, and includes a range of different asset classes and market sectors. Australia’s managed funds industry is the largest in the Asia-Pacific region and the sixth-largest in the world, according to a study done by the Investment Company Institute.

5 KEY ASSET CLASSES There are 5 key asset classes that managed funds can be categorised into: Australian Equities International Equities Property Fixed Interest Investments Cash

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"ALTERNATIVE" ASSET CLASSES Furthermore, managed funds may also choose to invest into “alternative” asset classes. These include markets like infrastructure or agriculture. Often, managed funds will utilise an array of these asset classes and combine them together into a “Diversified Fund” or a “Balanced Fund”, allowing investments to be spread over an array of industries and asset classes, minimising risk and allowing greater choice for investors.

These are the main types of managed funds:

EDUCATION SAVINGS PLANS Investment products designed to be used for saving for the future education expenses of children.

GEARED INVESTMENT FUNDS Rather than borrowing to invest, the fund borrows on your behalf which means you don't have to increase your personal borrowing.

INDEX FUNDS Fund investing in all or part of a market in order to replicate the performance of the relevant index.

MANAGED ACCOUNTS Accounts linked to a broad range of managed funds while joining the flexibility of owing direct equities.

SUSTAINABLE INVESTMENT FUNDS An investment approach designed to maximise investment returns by analysing sustainable investment opportunities.

ETHICAL INVESTMENT FUNDS Integrate personal values with investment decisions while keeping track on individual investment goals.

HEDGE FUNDS Managed funds investing in a broad range of assets while profiting from both rising and falling markets.

INVESTMENT BONDS Tax paid investments on a long-term basis, with a minimum holding of 10 years.

PROPERTY TRUSTS Access investments in listed and unlisted property trusts owned directly or by a securitised offering.

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WHAT DRIVES THE INDUSTRY? PART 1.

Since 1992, the investment management industry has grown rapidly, with a compound annual growth rate of approximately ten per cent. Total funds under management have more than doubled over the past decade and increased more than ten-fold since 1992. This has been the result of a number of key drivers for growth:

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INNOVATION A rapid increase in the sophistication of technology has resulted in the development of cutting-edge investment products which increase the appeal of funds to investors. This, combined with the efficiency of Australia’s financial system and a worldclass regulatory environment, has directly resulted in the growth of the managed funds industry in Australia.

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SUPERANNUATION Australia’s pension funds industry has been rapidly expanding since the introduction of mandatory superannuation in 1992. Along with retail superfunds, this includes a unique 598,000 strong investment community of self managed super funds, including over 1.1 million members and worth $747 billion. This expansion in the size, sophistication and number of superfunds and self managed funds has contributed to the growth of the managed funds industry.

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WHAT DRIVES THE INDUSTRY? PART 2.

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GLOBALISATION As Australia has become more and more globalised, this has resulted in growing opportunity for the managed funds industry. For instance, the past decade has been characterised by the increasing presence of leading global financial institutions. This has resulted in the development and growth of a worldclass investment management industry from which the investors can access a deep talent pool of investment managers, product manufacturers and distributors, and service providers.

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GDP GROWTH Australia’s GDP has naturally grown at a consistent rate of approximately 3.3% per annum since 1992, comparing favourably when measured against the UK (2.1), the US (2.5%) and Japan (0.8%).

Currently, Australian GDP is the fifth largest in Asia.

This has resulted in the development of a mature, large and expanding financial market, an increase in consumer discretionary income, as well as an increase in total assets available.

Furthermore, solid economic growth has helped fortify Australia’s financial, capital and commodity markets, thus resulting in a wide range of investment opportunities for the investment sector. These factors compound in the overall growth of the managed funds industry.

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RISKS TO THE INDUSTRY

FINANCIAL TECHNOLOGIES CYBER SECURITIES The focus on cyber threats and cybersecurity for all industries remains strong in Australia and across the globe, with increased scrutiny coming from regulators, business counter-parties and investors. National and foreign regulators are creating new regulations to address the issue, but this may result in potentially overlapping, confusing and conflicting rules. This confusion and uncertainty may result in a potential risk that funds must consider in their operations.

A rapid increase in the sophistication of technology has resulted in the development of cutting-edge investment products which increase the appeal of funds to investors. This, combined with the efficiency of Australia’s financial system and a world-class regulatory environment, has directly resulted in the growth of the managed funds industry in Australia.

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RISKS TO THE INDUSTRY INCREASED REGULATION Increased regulatory scrutiny of the investment management industry is a significant risk to the sector. As governments and regulatory bodies increase regulatory requirements, this results in the potential for an increased risk of litigation, creating a heightened exposure for managed funds. Furthermore, increased regulation will also result in additional compliance costs which will decrease the profitability of the industry.

LIQUIDITY RISK A structural risk inherent to the managed funds industry is the potential for the misalignment of liquidity, which was a major factor of the 2008 financial crisis. Managed funds must ensure that their asset allocation is accurate and secure, as any error in calculating liquidity will leave investors exceptionally vulnerable to further liquidity shocks, especially in the current low-rate environment.

FOCUS ON CLIENT EXPERIENCE As technology and digital experiences have improved dramatically, consumers are beginning to focus less on services and products offered, and more on the overall on customer experience. Many customers expect a faster and more efficient onboarding process. In order to adapt, investment managers must leverage their advanced technologies in order to meet customer expectations and reduce operational friction.

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RATIOS

EXPENSE RATIO

RETURN ON ASSETS RATIO

Measures the amount of a fund's assets that are used for administrative and other operating expenses. This is very important to investors because a high expense ratio entails high fund operating and management fees, which can have a large impact on net profitability for the investor.

Measures the per-dollar profit a company earns on its assets. A high return-on-assets ratio is important to investors as it essentially captures the overall return generated from the investment and therefore the performance of the managed fund.

ACCOUNTS PAYABLE TURNOVER RATIO

ASSET TURNOVER RATIO

Evaluates how quickly a company is able to pay off its creditors. A high accounts payable turnover ratio means that the company is relatively liquid and is able to pay off its debt efficiently and effectively.

Measures the efficiency of a company's use of its assets in relation to revenue. A high asset turnover means that the company is productive and is efficiently using their assets to generate revenue.

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VANGUARD AUSTRALIA Vanguard Australia is a managed fund that specifically deals in ETFs, or Exchange Traded Funds. An ETF allows investors access to a range of shares from a variety of prominent or promising entities.

Vanguard is Australia’s largest ETF and therefore allows investors to split their money across a diverse portfolio and reduce risk.

By nature of their portfolio structure, Vanguard is able to naturally hedge itself against sector declines; if one company crashes, the rest of the fund can offset the losses. This makes Vanguard an attractive bet for the current economic climate, as it allows some form of reliability in a time of mass uncertainty. However, this also means that investors can't take advantage of the upside of COVID-19 volatility and cash in off of massive share price surges.

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CONCLUSION The managed funds industry has been increasingly growing over the past decades, as Australian GDP continues to increase and overall national economic performance is strong. However, mounting technological pressures and regulatory scrutiny has resulted in uncertainty in profitability and has caused investment management firms to seek innovative growth solutions. This need for adaptation and change will only continue to become more relevant over the coming years.

However, managed funds that are able to adapt to the changing technological landscape, keep client relationships at the forefront of their business model, and effectively manage their asset allocations, may see rapid growth in the coming years from successful adjustment. Although there is growing risk and uncertainty in the managed funds industry, there are definite opportunities for growth for firms that adopt a flexible and holistic approach.

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INFRASTRUCTURE Infrastructure is among the most important sectors in the Australian economy, contributing more than 10% in gross value added, and accounting for a substantial share of employment.

Australia ranks as a world leader in infrastructure development, driving innovation and scale, although a rapid increase in population coupled with significant changes in the mobility landscape are forcing the infrastructure sector to dig deep.

There are two main sectors in the infrastructure industry: 1. Railways 2. Roads

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Infrastructure investment in Australia has been predominantly driven by Rail development, targeted to both passenger lines to aid in the management of a rapidly growing population. It has also targeted freight ase Australia’s productive capacity and support stronger efficiency for transport, which intends to increase Australian businesses. the Berejiklian Bere Be rejijijikl re klia kl ian ia n government gove go vern ve rnme rn ment me nt has has pledged pled pl edge ed ged ge d to continue its support for state In NSW alone from 2020 onwards, the y allocating $3.2billion until until t l 2024 202 024 4 for for the the upgrades upgr up grad gr ades ad es of of Transport NSW’s rail infrastructure development, by on over the same time period to accelerate accelera ate the the construction con onst stru st ru uct ctio ion of Metro io passenger train fleet, and $6.4billion e city via additional transport channels. This will connect con onne nect ne ct with with itth the the new West, connecting the west to the pre rese senc se nce nc e in the the city cit iy Metro railway servicing the North West, whilst also supporting Sydney’s new light rail presence Busi Bu s nesss District si Dis istr tric ic ct and Parramatta, which expresses the government’s masterplan to extend the Centrall Business outside the 2000 postcode.

Mar aryb ybor orou ough ou gh h track tra rack ck Nationwide, rail transport projectss such as the new Metro, Cross River Rail, and Maryborough Pet and the he e upgrades in Brisbane, Metronet project development and the Forest-Field Airport Link in Peth con nst s ructio ion on Melbourne Metro Tunnels reflect a new paradigm in Australian infrastructure investment and construction ensuri ring ng people peo e pl ple and and – placing stronger importance off future proofing transportation networks, and ensuring efffi f cien ent. t.. businesses are reliably connected with each other in a way which is fast, accessible and efficient.

In Australia, the two largest st ASX listed construction firms, Lend Lease and CIMIC C group, grou gr oup p, n rail construction: are the dominant players in

Currently, Lend Lease is involved olved in lbourne the construction of the Melbourne Metro, valued at $11billion, as well as Victorian Regional Rail Link, Greta Freight train support facility construction and Martin Place Metro.

cons co nstr trruc ucti t on ti CIMIC and their construction Contra r ctors, a re subsidiary, CPB Contractors, are have e Australia’s rail specialists and have of of directed the construction $675m m), ) tthe he Canberra Light Rail ($ ($675m), d the Syd y ne yd n y North West Rail Link and Sydney Projec cts, cts Metro City and Southwest Projects, hip under a Public Private Partnersh Partnership $1..375billli lion o .

(PPP) valued at over $1.375billion.

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Rail is largely resistant to private ownership and is largely operated and owned by state and territory governments. Rail infrastructure remains a significant public budgetary burden due to the drastic outlay of expenditure before any revenue begins to be accrued. The limited transparency or reliability of usage projections discourages privatisation/long term asset leases, where these concerns are predominantly held for passenger rail projects – It is extremely difficult to project public usage patterns at constant transport costs for firms to deem acquisition financially liable. This is key for Australia’s future in national high speed rail connections. The mammoth cost and extended time frame for construction, projected to be above 50 years, has discouraged private investment and forced the public sector to focus on improving current rail infrastructure, whilst making concentrated, isolated improvements in capital cities to ensure Australia’s rail infrastructure is aligned with current/future technologies and population demands.

Population Growth Key drivers of the rail sector under broader infrastructure development, much like the rest of the sectors, is centred around population growth.

Australia’s relatively small habitable areas have created congested capital cities with a concentration of people which will serve as an aggregate supply barrier to future productive capacity. Rail is being driven forward as the most viable solution to alleviate capital city population concerns and allow for efficient, quick connections between spacious rural areas, scheduled for future real estate ‘redevelopment’ with current city centres, vital for current employment, entertainment and quality education.

The Perth MetroRail and Metronet rail infrastructure project intends to connect the Western capital to Southern Western Australia to help disperse the population. This is in accordance with the University of QA’s Australian Urban Design Research plan, which forecasts Perth’s population to grow to 6,000,000 by 2060, and Australia’s population to double to

53,000,000 by 2100. Current living is incompatible with prospective public and social concerns, and progressive rail development, using the most appropriate technology, will ensure future high quality of life whilst providing integral economic opportunities for now and the future.

A Deloitte Access Economics Value of Rail report states public rail passenger demands will increase by 19% by 2026. Expanding populations thus also leads to stronger resource and freight demands, which is expected to grow by 26% over the same period. This is especially true as the government will search to exploit its comparative advantage in resource exports, utilising existing freight infrastructure as an intermediary to transport commodities internationally. Currently, more than 70% of current rail is being utilised in freight applications, moving more than 1.3 billion tonnes for material per year. Past sustained economic growth in Australia have induced rapid growth in freight task, and both Australia’s 2050 roadmap under the 2010 Intergenerational report and COVID resurrection are reliant on consumption and export growth, which depend on rail to execute.

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Key Projects o je c t s ived d 75% 75 5% more more From 2000-2015, roads have received rnments. Heavy funding by state and federal governments. rnment roads rail has now surpassed government ly through expenditure from 2018-2020, largely regional Victoria rail improvements ments alongside psland lines the Murray Basin and Gippsland Australia’s food bowl Construction of the Moorebank ank Intermodal he Moorebank Terminal (NSW) between the nd Port Botany, South West industrial centre and in an effort to alleviate urban congestion and ctivity improve national freight connectivity Development of the Inland Rail Project, a freight corridor connecting all three major eastern cost cities. he emergence Informed by population growth, the w infrastructure of Western Sydney as the new development ‘hotspot’ in NSW has facilitated accelerated rail infrastructure, predominately edominately to accompany the new Badgerys Creek ‘Western Sydney Airport’, constructed under er a CIMIC and Lend Lease Group Joint venture. Fuelled by the Integrated Future Transport Strategy tegy for NSW, 50% of the top 10 regional infrastructure ucture projects are concentrated in rail. Private and d public sector infrastructure investment in the he west has catalysed real estate, commercial and mmercial community development opportunities. unities. This will provide unrecognised economic benefits, whilst alleviating Sydney congestion, paired aired with the creation of regional CBD areas in Parramatta, Liverpool and Blacktown.

However, it is important that rail infrastructure nfrastructure is strategically constructed and meticulously culously

planned – in July 2020, Treasurer Frydenberg announced Australia Australia’ss population growth is expected to slow to 0.6%, comparable to rates during 1917 – the height of WWI. “Population “Pop “P opul op ulat ul atio at ion io n growth grow gr owth ow th has been integral to 29 years off con consecutive onse secu cuti cu tive ve economic eco cono nomi no mic mi c growth”, grow gr owth”, and equally, ow devellopme ment me nt.. A slowing nt slow sl owin ow ing in g population p pulation po infrastructure development.

Austr trral alia ia’s ia ’s National Nat a io ona nall Rail may concede that Australia’s $100 $1 00b 00 b in n rail rai al Industry Plan, contributing $100b ma ay be overove verrinvestment through to 2030, may d to demanding dem eman andi an ding di ng estimated or better allocated and emerging emerg me erg gin ing g sectors such as healthcare and the Rail Rail sector secto ec cto torr services, serving a risk to the holistically.

e-Comm e-Commerce merce & Accesssibility Accessibility Similar to population expansion, expa ans n ion, n stronger stronge er demand in e-commerce and rrapid apid ap id changes cha hang nges ng es in in consumer behaviour will drive Australia’s Austra alia’ a’ss freight a’ freigh gh ht rail infrastructure programs, in n an an effort effo ef fort fo rt to to support economic productivity productivitty and d national n ti na tion on nal a supply chains. These supply suppl plly chains ch cha hain ns are ns are re inextricably intertwined with Australia’s economic ec conom mic c competitiveness and aggregate aggrega ate su upp ply ly a n nd supply and determine the efficiency with which whic wh ich h Australian Aust Au stra st rali a ian goods/services are exported to overseas ove vers rsea rs eass ea markets and equally, how international interna nati tion o al goods on goo oods oo ds a re e are imported - vital for domestic c businesses e and es and consumers. Ultimately, consumers are re more more e empowered in how they consume throu ugh e ugh through e-commerce platforms. Between n 2011 2011 and and 2031, 203 0311, the the he total domestic freight task 80 0%, largely bec ecau au use 80%, because 80% of Australians shop online ne and and 10% 10% of of all all goods and services and driven by online e retail– re etailill– An industry which will grow to $35.2 billion biillion o in on 2021.

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e-Commerce merce & Accessibility lity cont.

Governments have responded to future futu fu ture tu re capacity cap apac acit ac ity it y ndustry Plan, in constraints with its National Rail Industry e Australia, to close liaison with Infrastructure ensure the nation exploits the economic ficient transport opportunity presented by more efficient methods, which can contribute up to 14.5% of y supply chain GDP, whilst alleviating major city y 2031. congestion, a $53 billion leakage by

Technology ology Rail infrastructure development is leading the shift to the future through its integration of technology – reducing costs, ts, increasing efficiency and developing reliability. ty. Metro North West’s utilisation of automated trains, ains, unmanned platforms and quick peak hour services have been effective in driving Australian an rail forward, whilst presenting the possibilities for the national freight and passenger network. North rth West Metro has also been a driver by embodying mbodying the successes of new rail infrastructure ure in Australia, giving confidence for future investment stment and the implementations of new technologies. gies.

Similarly, rail infrastructure improvement mprovement is constantly locked in the discourse urse of policy makers and developers through the hopes for ‘bullet trains’ to connect Australia’ss major capital cities. The attractiveness of such a project is that it could create significant employment opportunities and economic stimulus lus in the short to medium term, whilst reaping the e longer-term

benefits of faster transit in a more environmentally conscious manner. These benefits also extend away from major cities toward rural townships, by increasing local populations and strengthening regional popu po pula pu lati la tion ti onss on economies. econ ec onom on omie om ies. ie s. However, How owev ever ev er, despite er desp de pite the limited feasibility of fastt railil due due u to to two two dominant domi do m na mi n nt factors - The Extended project proje ect construction con onst stru st ruct ru ctio ct ion io n time, projected to take a minimum 45 y years, limited e rs ea rs,, th the e lilimi m te mi ted usable population of Australia and and the the proposal’s pro ropo posa po s l’ls sa e.H o everr, Fast ow Fastt sheer cost ($114b for a complete However, improvementts to existing exi xist sttin ing g rail has kickstarted improvements esta t bl b ishm men nt of of networks. This has been via the establishment Agency y, which whi h ch aims aiims to o the National Faster Rail Agency, railil, whilst whililstt also wh als lso ls o deliver propositions for faster rail, strong ger infrastructure inf nfra rast ra stru ruct ctur ure ur e aiding the development of stronger in the sector.

Population e-Com mmerce e-Commerce Technology

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n rail rail innovation inn nnov ovat ov atio at ion io n over over the the last las astt decade, and the sudden resurgence of rail The decades of underinvestment in e Morrison and nd d various varrio ious us state sta tate te governments gov over ernm er nmen nm ents en ts has has plunged plu lunged the sector into a infrastructure investment under the killed labour nationwide to partake in in design, des esig ign, ig n, engineering, eng ngin inee in eeri ee ring ri ng,, procurement ng p ocurement pr real risk that there is insufficient skilled specially regarded as the ‘dark art’ in construction, constructi tiion on, due due to its its notorious not otorious and construction phases. Rail is especially mand for specialised labour. Resources also extend d to lland and an d – th ther re is difficulty in construction and demand there rt projects in urban areas. Deloitte Access Economics, ‘the ‘th the e Value Valu Va lue lu e of Rail’ Rai ail’l’ decreasing space for new transport stralia need to continue “constantly upgrading and d re refr fres fr eshi hing hi ng g” railill professes that not only will Australia refreshing” e efficient use of existing infrastructure”. infrastructure, but also make “more

Risks around technological development pment are focussed on the emergence of automated transport trransp spor orrt systems syst sy s em ms nse structural change in the way freight and passengers passenger errs move. move mo ve. Rail ve R il can Ra an which have the capacity for immense nts by increasing its efficiency, reducing costs and maximising maximi maxi m si sing n safety ng safetty benefit from exciting developments ystems. However, adaptation costs and duration times are are key key – a slow slo low w through intelligent autonomous systems. y may see road transport favoured and jeopardise the the successes suc cce c sses of of response to emerging technology omated systems are also certain to increase passenger public public c transport tra tr ansp sp port ort Australia’s rail sector. Equally, automated red stresses on new and existing infrastructure. demand, which may place unfactored

resourc ces to to fulfill fulf fu lfililll these lf thes th ese es e Basic economic theory rules there are unlimited desires, but only a limited set of resources re investment moving forward is the Federal and state sta ate government’s gove ern nme ent n ’s desires. A risk to rail infrastructure astructure projects. In NSW alone, the Metro City and Southwest Southwesst project pro pr ojec ectt ec contribution to nation building infrastructure $4.

4.3b 3bilillilon cost 3b cos ostt will cost up to $12.5 billion, and in early February, the state government announced a $4.3billion tro project under construction. Whilst rail is vital to o future economic econ ec o om on mic blowout on the central CBD metro nt levels, putting 200,000 people in active work and d contributing cont co ntri ribu buting u ng $26 $26 progress and current employment structure developments may appear more pressing. As more businesses busiine essses billion to the economy, other infrastructure els and employment from home becomes more prevalent, preval alen al e t, the he Federal Feder eral al shift to online concentrated models ve improvements to the National Broadband Network Netw work and d stronger str t on tr nger ger government has highlighted active re ece ently l healthcare systems with strongerr capabilities as immediate priorities. The Government has recently imp mprrove mp rove expanded its Australian Regional Connectivity Program to $53million in 2020 alone, aiming to improve ucture, whilst unprecedented aged care reforms, costing billions, billion ns, is is at local telecommunications infrastructure, hus, it is an active risk that the $100 billion pledged until until 2030 203 030 0 iss all alll the th he the forefront of national politics. Thus, o boost its infrastructure and services efficiency. funding Australia rail will receive to

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Net debt-to-equity: infrastructure assets are usually confidently funded by financial institutions because they generate cash flows which reliably fund interest repayments on construction debt. However, because there are stronger concerns that infrastructure firms are accumulating excessive debt to undertake construction in a competitive development industry, the net-debt-to-equity (gearing ratio) will be important in reflecting a firms debt to equity position.

However most firms prefer to use ‘net debt to net debt plus equity’ ratio, which shows the % of assets funded by debt borrowings – above 30% is a concerning metric

Interest cover: this ratio is important in indicating debt accumulation, by reflecting how many times a business can pay its interest costs with operating cash flow. The higher the number, the stronger the firm’s debt position.

Profit margins: a ratio vital to any effective business or industry – profits in rail development tend to be high, but not as high as other sectors due to costly and constant maintenance services, however benefits from is monopolistic pricing power over users, especially passengers..

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Roads are essential to the layperson’s livelihoods. They connect suburban, urban and rural areas and serve as the driver of commerce. It is no surprise that roads are frequently of discussion in the financial industry.

As a key component of the infrastructure sector, business involvement in roads can be broadly divided into three groups, which are: 1. Companies involved in the construction of roads and bridges (e.g. State of NSW, CIMIC) 2. Companies who maintain the efficiency roads, including operating tolls on private roads (e.g.

Transurban) 3. Companies who use the road primarily for the purpose of freight transport (e.g. Linfox, Toll Holdings)

There are 877,000 kilometres of road in the Australian road network More than 500,000 Australians have full-time employment relating exclusively to the use of roads Road infrastructure is used for 87% of in-house transport, accounting for $83b to GDP (BITRE, 2016)

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Public Sector Involvement Government investment is a key driver for demand for road and bridge construction.

Sources include large grants from Federal Road Projects, such as the National Highway Upgrade Program and Western Sydney Infrastructure Plan, and similar grants from state and territory funds. Deterioration of existing roads will require maintenance, repair and alteration work – this is funded significantly by local governments. In general, large-scale, multi-year projects have given the industry stability in its life cycle.

Housing g uctio tion tio Construction ge h ha a high PRoad construction and usage has gro ow wth. As the correlation with population growth. s, urban urrb ban sprawl is Australian population grows, es d expected, which creates demand for How we ever, this is also construction of new roads. However, ypess of housing contingent on the types b preferences; since there has been a recent -den nssity apartments trend in demand for high-density consstruction, road instead of new home construction, construction demand may y dwindle.Population dw win ndle.Population growth will also increase the he demand d de emand for road freight transport by increasing freight ing fr reight volumes.

Higher volume usage of road oad freight fre eight transport has also increased the demand dem ma and for road maintenance as heavy vehicles hicle ess cause more damage to road networks.

Private Spending Private investment into road construction and maintenance has increased under BOOT (build, own, operate, transfer) schemes between the government and corporations, also known as public-private partnerships (PPP). Investment is highly correlated with major public projects, such as WestConnex in Sydney and the West Gate Tunnel Project in Victoria. oll road d operator opera operato is Transurban,, which A key toll as been en a d driv for private involvement, olvement, with has driver key y acquisitions a acq such as the Cross ss City C Tunnel, nel, el, M7 Airport Link and Queensland Motorw M orwa rways Motorways over the past decade. Investment in o operatio op operation is largely reliant liant on o traffic foreca cas asts, and a forecasts, is affected by y increasing incre congestio on on non-toll congestion roads.

Cosstt of Cost o e Oil O Crude Crude oilil is used us as fuel for vehicles which ch h use us the road, d, and as a such affects both demand for toll roads and the profit margins of the freight transportation on industry. indu Fuel price is a doubleedged sword d for toll tol roads – while low crude oil price can potentially otential increase usage of toll roads, high fuel may ma encourage motorists to seek toll roads as they afford a shorter journey.

Nonetheless, high crude oil prices may affect demand for public transport and other major markets of toll roads, thereby impacting imp the road industry.

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04

TMT

INTRODUCTION The TMT sector mostly encompasses companies that depend on research and development, patents and other intellectual property. It can be broken down into subsectors namely: technology (software, hardware,, semiconductors), media and telecommunications.

Software companies produce computer and mobile apps that allow services to be conducted on the physical device. The industry generally relates to the software that is traded between software producers and software consumers. Key players in this industry include Microsoft, Adobe and SAP rank.

Hardware includes companies that manufacture the physical device, for example, computer makers (IMB, Dell, HP), or makers of server systems, mobile device handsets, tablets or hard drives.

Telecommunications subsectors cover companies related to the creation of infrastructure which allow communication to be possible on a global scale, whether it be through phone, cables or wirelessly.

These include telephone operators, satellite or cable companies, and internet service providers.

The semiconductor industry group develops and manufactures integrated circuits and microchips which are used in various technology applications.

Key players include Intel, AMD, Texas Instruments and Nvidia.

Media companies are those that develop and distribute multimedia either online, on TV or in print; including social media companies, TV networks and production studios.

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KEY DRIVERS OF GROWTH There has been a mass advancement in the sophistication of digital technologies over the past few decades, marked by the rapid growth of the TMT sector.

As of today, Australia’s broader tech sector employs nearly 600,000 people and contributes over $122 billion to the Australian economy annually, which represents roughly 6.6% of GDP.

NBN & 5G Due to natural improvements in the telecom industry, such as the NBN and 5G, information transfer is becoming easier and easier. With the NBN at near completion, 5G wireless networks are being rolled out throughout the country.

This innovation is groundbreaking for the TMT industry, as it will provide consumers with greater bandwidth.

This will allow companies the opportunity to reach consumers with heavy data products and content. Innovations like this have continued to drive growth for the TMT sector, providing the industry with new opportunities for development and greater access to markets.

AI & MACHINE LEARNING Artificial intelligence is another innovation that is growing in sophistication and being leveraged by leading companies across Australia in order to achieve growth.

Although AI and machine learning has been an opportunity only accessible by leading global firms, as technology improves and innovation continues, AI is gradually being brought to the everyday business.

A number of companies have recently begun to develop AI as a service. Soon, it is highly likely that small to medium businesses will have access to AI on a subscription basis. The industrialisation of AI will allow businesses across the TMT sector to achieve the benefits of driving innovation and have the opportunity to grow their market share.

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INCREASE IN HOUSEHOLD INCOME There has been a general trend in the increase in household disposable income over the past decade. Australia’s GDP has naturally grown at a consistent rate of approximately 3.3% per annum since 1992, which has resulted in the development of a larger consumer market with higher levels of discretionary incomes. This has prompted consumers to be more willing to spend on products such as technology and media consumption, which have historically been considered as ‘luxury’ items.

Despite the recent COVID-19 pandemic which has restricted the financial freedom of households across the nation in the short-term, this general increase in household income is likely to continue and push for greater growth in the TMT sector.

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RISKS TO INDUSTRY As the TMT sector is an extremely dynamic and ever-changing industry, there are extremely relevant risks and challenges to the industry.

01

MERGERS BETWEEN SECTORS Over the past few years, there has been a noticeable shift of media laws in Australia that have resulted in mergers among large media companies, such as the integration of Nine and Fairfax. Convergence is not just occurring between companies, but also between sectors.

Telecommunication ecommunication companies are now penetrating into the traditional raditional media industry, evinced nced by examples such as Optus and Telstra’s entrance into the sports streaming sector.

The merging of companies and sectors has the potential to result in a monumental shift in the TMT landscape, with reduced diversity industry due and a shrinking g indu ust stry ry d ue tto o th the e dominance companies d do omi mina mi min nanc nanc nce e of o llarger arge ar gerr co comp mp pan a iess an and d voices. v vo oic ic ces. ess.

02

ACCESS TO CAPITAL The TMT market has significantly matured over the past few years.

This means that access to capital and funding in order to finance the operations of businesses is becoming increasingly hard to bec come by. Although this does not significantly affect affec the operations of established businesses, larger and establishe this means that it is harder for the smaller firms to break into in adequate market as they lack the adeq funding to do so. This means that if businesses in the TMT sector do not adjust to this challenge and agile, become more ag gille, tthey hey y will struggle growth and stru st rugg ru ggle gg le to le to see se ee th the e gr g owth ow t a th nd d may ssuccess su c e cc esss th tthat hatt tthey hey he y ma ay ha have ave ve iin n th tthe he past. pa past asstt.

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03

CYBER RISK AND SECURITY MANAGEMENT As technological advances continue to grow and develop, cybersecurity is becoming an increasingly crucial risk for business to navigate.

Especially following the 2018 Facebook Scandal, consumers are extremely wary of privacy and data concerns and do not wish to be taken advantage of by companies in the TMT sector.

Furthermore, if companies are particularly vulnerable to external attacks and security concerns, their credibility in the eyes of the public will decline. Therefore, if businesses in the TMT industry do not effectively adjust their business models to adapt to this growing concern, they will face risk of substantial failure in the future.

2018 Facebook Scandal Impact

87 $120b

million users affected

decline in company value

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RATIOS There are a number of ratios which aid in analysing the performance of stocks in the technology, media and telecom sector.

As a consequence of the industry-wide trend of mergers and consolidation of media and telecom companies, the industry has experienced significant growth over recent years through the development of equipment for purposes such as IT and communications. Hence, important ratios include P/E ratios, churn rates and average revenue per user.

ARPU

P/E RATIO Price-Earnings Ratio is used for measuring the value of companies and whether they are over or under valued

Average revenue per user measures the per user average revenue a company generates within a set period, to measure the company’s growth in relation to its subscriber base

WACC CHURN RATE

Weighted average cost of capital reflects the capacity of a company to generate value

Industry specific metric which measures the number of subscribers that withdraw from their subscriptions

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SECTOR-SPECIFIC RATIOS TECHNOLOGY

PROFITABILITY

LEVERAGE

LIQUIDITY

Although tech companies may not make profit currently, profitability ratios are used as strong indicators of future profitability of the company.

P/E Ratio = Current share price ÷ earnings per share = the amount that investors are willing to pay for a company share, relative to the company’s earnings.

Ratios which measure the long term solvency of a company are important as technology companies often use outside investments or issue debt in order to acquire other companies or funds for research and development. If a ratio is too high, a stakeholder may analyse this and determine that the company will become insolvent before turning a profit and making profit.

These ratios are used to calculate how well a company can pay their short-term obligations. It is particularly important that the liquidity of technology companies be assessed, since many do not generate revenue or profit. Examples may include: Current ratio = Current assets ÷ current liabilities Cash ratio = (cash + marketable securities) ÷ current liabilities)

TELECOMMUNICATIONS Subscriber growth measures how many new customers a company adds over a certain period.

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CASE STUDY: XERO Xero Limited (ASX: XRO) is a business and accounting software provider for small business owners, accountants and bookkeepers. The softwareas-a-service provider is one of five ASX tech darlings collectively known as ‘WAAAX’. Alongside its WAAAX stablemates, the Xero share price has seen phenomenal growth in the past few years, after first listing on the ASX in 2012. Indeed, Xero is quickly becoming the platform of choice for small and medium-sized businesses across the globe, with more than 2,300 employees and 1.8 million subscribers worldwide today.

Offering a unique and flexible SaaS, Xero is exposed to international growth. Indeed, In FY20 total subscribers rose by 26% to 2.285 million.

In particular, Australian subscribers increased by 26% to 914,000, UK subscribers rose by 32% to 613,000, and North American subscribers increased by 24% to 241,000.

In addition, Xero has quickly revitalised its key financial metrics, becoming cashflow positive recently. In FY20 Xero’s net profit went from a loss of $27.1 million last year to a profit of $3.3 million this year.

Free cash flow climbed 320% to $27.1 million during that period.

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05

ENERGY & UTILITIES INTRODUCTION The Energy and Utilities sector is responsible for the production and distribution of essential services such as energy, water, and natural gas across Australia. Broadly speaking, the utilities sector is made up of three key industries:

ELECTRIC UTILITIES INDUSTRY

GAS UTILITIES INDUSTRY

WATER UTILITIES INDUSTRY

(including electricity generation, distribution, retail)

(including gas generation, transmission, processing)

(including water supply and wastewater technology)

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DRIVERS The Australian Energy & Utilities sector is encountering an unprecedented period of transformation, facing issues such as resource scarcity, urban densification, growing consumer expectations and emerging technologies. The key drivers of the Energy and Utilities industry include the following:

01

Heavy regulation of the industry means that policy changes such as the Australian Energy Regulator (AER) price determinations, significantly affect industry revenue

02

Increasing environmental concerns, which can lead to policies favouring renewable energy generation industries

03

New technologies challenging the traditional role of the grid, particularly the adoption of small-scale solar panels

The energy and utilities sector are marked by certain key characteristics. Crucially, incumbents operate as natural regional monopolies given the capital intensiveness of the industry: extensive investments required to construct the assets make it prohibitively expensive for a new company to enter. Due to its monopolistic nature and the need for reliable supply of essential services to households and businesses, the sector is thus heavily regulated by the government. A regulator such as the Australian Energy Regulator (AER) makes revenue determinations that allows the utility to earn fair and commercial rate of return on investment, while removing monopolistic pricing.

INDUSTRY APPEAL TO INVESTORS Utilities are stable investments that provide a regular and predictable dividend to shareholders, making them a popular long-term buy-and-hold option amongst investors. Utility rates are either regulated or contractually guaranteed, leading to reliable earnings that enable these companies to pay above-average yields on their dividends. Predictable profitability and income generation therefore makes utility stocks lower-risk options for investors. Investors may invest in utility company shares, industry sector ETFs, and in utility bonds or other debt securities.

Stable dividends coupled with lower price volatility relative to the overall equity markets means that the sector tends to do well as a defensive play against economic downturns. Contrarily, investors can find higher-yielding alternatives to utilities as the economy improves and interest rates rise.

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ELECTRICITY The

industry

integrated

dominated

energy

generation adjacent

is

asset

coal

by

vertically

companies: operators

mines

or

have

most

also

own

access

Electricity generation using fossil fuels is highly carbon intensive. The likely long-term

effect

of

environmental

to

concerns over fossil fuel use is reduced

nearby gas reserves. Major players include

demand for electricity from the grid. A

AGL Energy, Origin Energy, EnergyAustralia

drop

and Stanwell Corporation. Market features

enabling

that have emerged over the past five years,

themselves from the grid remains a

such as fluctuating input costs, regulatory

long-term threat to fossil fuel based

changes and a transition towards renewable

energy generators and retailers.

in

solar

power

households

storage to

costs

remove

energy, are projected to continue affecting the industry's performance.

Over the past five years, federal political difficulty has led to several failed attempts to regulate the industry. These attempts include the carbon tax, the Finkel Review clean energy target and the National Energy Guarantee. The government’s failure to legislate a long-term energy policy has created uncertainty in the industry, undermining investment in new-generation assets.

RENEWABLES Australia has received significant pressure from various stakeholders to slim the heavy carbon footprint brought by a commoditycentric economy and this has reflected the imposition of a 2030 target to achieve a 26% reduction in carbon emission levels to those levels observed in 2005. This came with Australia’s ratification of the Paris Agreement in 2016 and has reflected significant private sector investment in the advancement and innovation of renewable energies since then with 18.4 gigawatts of large-scale renewable projects in NSW representing $24.7bn alone.

These are mainly in ventures for solar energy, hydro-electricity energy and wind energy.

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GAS SUPPLY Industry firms either retail gas to consumers

Gas retailing is dominated by three

and businesses or distribute natural gas to

major players, AGL Energy Limited,

end

Origin

users

via

gas

distribution

mains

(regulation prevents firms from both retailing

Energy

Limited

and

EnergyAustralia Holdings Limited.

and distributing gas).

Gas-fired

power

stations

also

Increasing domestic gas prices have

considerably less carbon-intensive than fossil

underpinned industry growth over the

fuel electricity generation, making them a

past five years, however the big three

comparatively

gas retailers have faced mounting

more

are

attractive

fossil

fuel

energy source for investors.

competition from small retailers.

WATER SUPPLY Factors such as capital expenditure by the government, population growth rates, the gross

value

pricing,

of

water

farm

production,

availability,

and

water

seasonal

rainfall patterns are forecast to continue influencing the Water Supply industry.

Forms of external competition comes from users collecting, storing and treating their own water, typically through methods like household slowed

water

tanks.

demand

consumption,

there

Whilst

growth is

only

this

has

for

water

a

limited

potential for users to cut themselves off from the industry altogether.

The industry has substantially invested in

Capital expenditure by state and local

expanding capacity over the past decade in

governments can be used as a proxy

response

for investment in new water supply

Investment

to

erratic in

climatic

capacity

conditions.

expansion

has

storage, treatment and infrastructure.

contributed to higher water usage charges,

Capital expenditure by state and local

which have boosted industry profitability

governments

over the past five years.

increase in 2019-20.

is

anticipated

to

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RISKS STRUCTURAL TECHNOLOGY RISK

Utilities are a mature sector. This situation limits growth in revenue and earnings, making rapid increases in share prices are unlikely. Utility shares thus pay high dividends as one way to reward their investors. Moreover, Australia's shift from manufacturing to service-based industries has limited demand for electricity.

Technological advancements pose a long-term risk for electricity utilities in particular. Disruptive technologies such as improved rooftop solar and battery storage may reduce demand for centrally generated electricity, which would reduce the value of transmission and distribution assets. Regulators may suggest less investment in the grid, therefore disrupting the reliable earnings profile from these assets.

Failure to compete against renewable generators has driven some enterprises, such as Engie, which closed its Hazelwood power station in March 2017, out of the industry

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CYCLICAL INTEREST RATE RISK Changes in interest rates can affect how investors view utility stocks. Rising interest rates can lead to underperformance for the sector due to income-seeking investors shifting to higher-yielding investments and away from stocks with lower income growth such as utilities.

Utilities companies are capital intensive and more heavily indebted. High debt loads make utilities hypersensitive to changes in the market interest rates.

Should rates rise, the company must offer higher yields to attract bond investors, driving up their costs. To meet these infrastructure needs, utility companies often float debt products that, in turn, increase their debt loads.

REGULATORY RISK Utility investments are sensitive to changes in the rate-making and regulatory process. For instance, new AER revenue determinations have influenced the industry's revenue performance. Prior to 2014-15, the AER allowed industry firms to invest heavily in infrastructure. However, the AER has reduced the MAR (maximum allowable revenue) for several players over the past five years, due to a scale back in capital expenditure, thereby reducing industry revenue.

Revenue determinations set by the AER have dictated industry revenue growth

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RATIOS Utility infrastructure is costly to build and maintain. Utility companies with stronger financial profiles tend to have the flexibility to invest in expansion projects and make acquisitions that grow their earnings at an above-average rate. The extra fiscal strength also gives them more power to increase dividends. Several key ratios exist in evaluating utility companies:

1. INVESTMENT GRADE BOND RATINGS Companies with higher, “investment-grade” bond ratings can borrow money at lower interest rates and on better terms. This is important to utility companies, as they routinely need to borrow money to help fund capital outlays and expansion projects. Investors should therefore seek out companies with high bond ratings who can easily finance their operations, which helps them grow their earnings and dividends.

2. LOW LEVERAGE RATIO Too much debt limits the ability of a utilities company to grow. Investors should look for utilities with conservative leverage metrics for the sector. Three notable leverage ratios are debt-toEBITDA (debt in relation to income), debt-to-capital (debt in relation to total value) and debt-toequity.

01

Debt-to-EBITDA measures a company's ability to pay off its incurred debt.

Good targets for the sector is a debt-to-EBITDA ratio of less than 4.5 times.

02

The debt-to-capital ratio is a measurement of a company's financial leverage. It is one of the more meaningful debt ratios because it focuses on the relationship of debt liabilities as a component of a company's total capital base. Typically, if a company has a high debt-to-capital ratio compared to its peers, then it may have a higher default risk due to the effect the debt has on its operations.

Good targets for the sector is a debt-to-capital value of less than 60%.

03

The D/E ratio is an important metric for evaluating the overall financial health of a company. Capital-intensive industries such as utilities have relatively higher D/E ratios.

Therefore, D/E ratios should be considered in comparison to similar companies within this industry. High (D/E) ratios can impact credit ratings, making it difficult to borrow funds. This ultimately increases a company’s costs of operations.

Generally, ratios of 0.5 and below are considered excellent, while ratios above 2.0 are viewed more unfavorably.

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3. CONSERVATIVE DIVIDEND PAYOUT RATIO The dividend payout ratio is the percentage of a company's profits that it pays out to investors via its dividends. Utilities traditionally have higher dividend payout ratios than companies in other sectors. However, utilities with below-average payout ratios for the sector retain more cash to reinvest in expansion projects or clean energy. To finance growth, these companies thus do not need to borrow as much (lowering their credit rating), or issue as many new shares (diluting existing investors’ shares of profits).

IDEAL INVESTOR

OTHER INDUSTRY CHARACTERISTICS

An ideal investor for the energy and utilities sector is someone who: Desires high current income from investments in the form of qualified dividends Wants income to grow over the long-term Understands that utility shares normally do not appreciate rapidly when the stock market is rising; and prefers defensive investments that hold up better during downturns

Energy use per capita in Australia is declining due to improved energy efficiency, lower household demand, and contractions in heavy manufacturing activity. Although per capita use is declining, Australia's net energy consumption is expected to rise. However, this growth is expected to be threatened by the slowdown in Australia's manufacturing sector due to the COVID-19 outbreak

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Origin energy is an Australian listed public energy company, known as an integrated energy company.

This means it is actively involved in energy sales as Australia’s leading retailer, supplying households and businesses with electricity, natural gas and LPG energy sources.

Diversifying further, Origin also provide renewable energy services derived via wind, largely through its energy acquisition of the Victorian Stockyard Hill Wind Farm, as well as solar energy – both as Australia’s second largest solar panel installers, but also through its agreement to purchase 680 megawatts of solar power from the NSW Moree solar farm and Darling Downs farm in Queensland.

Origin also is involved in Gas exploration and production, positioning itself as a leading national producer and international exporter, whilst also producing its own energy using its own sources to then be channelled into sales.

Similar to almost every single economic sector, the catalytic nature of COVID-19 has had a negative effect on the S&P/ASX200 Energy sector, where it has experienced -36.8% year to date returns, and -3.5% returns over the last quarter. This decline, across both the integrated gas and energy markets, has been due to fewer business purchases, lower domestic prices and decreased demand. Total electricity demand contracted by approximately 12% cumulatively and almost 20% amongst Australian businesses. Thus, despite growing residential electricity demand due to the conditions of COVID induced lockdowns by 5%, damages to demand, which are yet to recover to pre-COVID levels, are driving decreased investor confidence and weary consumer sentiment based on the future of renewable.

Shifting to a share price focus, the COVID impacts continue – since a high share price on the ASX during mid-January, Origin lost 128% of its value and reached a 10-year low in March. Following this downturn there has been a 50% bounce back from March-August, reflecting a positive outlook premised on growth.

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A key reason why the current economic environment has been projected onto Origin through poor stock performance, in accordance with a published Morgan’s Wealth Management report, are weak oil prices and growing debt levels amongst customers. Further, present downside risk to dividend yields, derived from Origin’s cautious approach to capital management in order to preserve a strong BBB credit rating, may have facilitated stronger stock declines and the absence of a complete share rebound. Maintenance of a reliable credit rating is integral to Origin’s operations, centred around energy infrastructure investment and debt accumulation to channel funds into the purchasing of renewably derived electricity.

However, in contrast to key competitors such as AGL Energy, Credit Suisse have thrown support behind Origin as the ‘brokers preference’, due to a lower degree of market volatility via less exposure to fluctuating wholesale prices.

Irrespective of share market movements, the price to earnings ratio is a great indication of investor and business expectations – Origin’s FY20 P/E is 7.06x, closely aligned with the oil and gas industry average - which is 7.6x. Such close P/E ratio’s suggests to existing and future shareholders that Origin will experience future performance similar to industry players. This is not positive. Origin and the Energy Industry’s P/E is well below the Australian market average (13.3x) and experienced a fall from 13.5x in February 2020. These dire figures are exacerbated by the cautious and pessimistic current nature of the market. When combined with a significant net debt level, 65% of market capitalisation, and a -10.9x PEG (price based on expected growth), informed by the reality that Origin Energy earnings are unlikely to increase, the future of Origin Energy appears to be the following – high renewable energy investment backed by little shareholder confidence and stagnant share/market growth.

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06

HEALTHCARE SECTOR

DRUGS

INTRODUCTION The healthcare sector consists of businesses that provide medical services, manufacture medical equipment or drugs, provide medical insurance, or otherwise facilitate the provision of healthcare to patients. In Australia, the healthcare industry is the largest employing industry where in 2019, there were close to 1.7 million people employed, which is projected to increase to more than 1.9 million by 2024. This sector encompasses two main industry groups: The first includes companies who manufacture health care equipment and who supply or provide health care related services. These companies are also owners and operators of health care products, providers of basic health-care services, and owners and operators of health care facilities and organisations.

Examples of these types of companies include Johnson and Johnson and General Electric.

MEDICAL EQUIPMENT

MANAGED HEALTHCARE

Healthcare Facilities

The second group includes companies primarily involved in the research, development, production and marketing of pharmaceuticals and biotechnology products. Examples of these include Osprey Medical and EMVision Medical devices.

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BREAKDOWN OF SECTORS DRUGS AND PHARMACEUTICALS The pharmaceutical industry discovers, develops, produces, and markets drugs or pharmaceutical drugs for use as medications to be administered to patients, with the aim to cure them, vaccinate them, or alleviate the symptoms. Pharmaceutical companies may deal in generic or brand medications and medical devices.

Major Players in the sector Major players in the Australian market include Biogen Australia Pfizer Australia Pty Ltd. International players include Johnson & Johnson and Roche.c MEDICAL EQUIPMENT The medical equipment and device manufacturing industry (often referred to as the medtech industry or medical devices industry) designs and manufactures a wide range of medical products that diagnose, monitor, and treat diseases and conditions that affect humans.

Australia's healthcare industry is sophisticated and receptive to new product. There is consistent demand for a full range of medical devices, particularly those intended to treat and manage age-related diseases.

Imported devices are usually innovative and costeffective, as the Australian market is motivated to control costs.

Despite Australia's sophisticated healthcare system, the medical device market is experiencing slow growth. Medical device companies exporting to Australia will face fierce competition from manufacturers from the US, the UK, and Japan that already have a strong hold on the market. Also, the relatively weak Australian dollar will make it difficult for some companies to remain profitable while meeting the price expectations of Australian buyers.

Major Players in the sector Major players in the industry include Resmed and Cochlear. International players include Phillips Healthcare and GE Healthcare.c

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BREAKDOWN OF SECTORS MANAGED HEALTHARE Managed care is any method of organizing health care providers to achieve the dual goals of controlling health care costs and managing quality of care. These entities can include health insurance plans and typically have contracts with health care providers and medical facilities to provide care for members at reduced costs. Its main purpose as a health care delivery system is to manage cost, utilisation and quality.

Major Players in the sector In the context of Australia, future prospects are not too bright. There exists obvious risks with increasing prevalence of ‘managed care’, such as whereby insurers seek to influence clinical practice, for example by referring patients for surgery to facilities the health insurer owns and to post-hospitalisation services such as rehab units the insurer also owns.

HEALTHCARE FACILITIES Healthcare facilities consist of companies that provide healthcare services to individual or groups of patients, most notably through hospitals, home healthcare providers and nursing homes. Most specifically, Australian hospitals are divided into public and private, with private hospitals further broken down into private acute and psychiatric hospitals and freestanding day hospital facilities. Driven by increase in R&D and public sector funding, the healthcare facilities sub-industry is looking to invest more in virtual care technologies or scale the capabilities of their existing facilities rather than expanding their physical footprint.

Major Players in the sector Main players in the industry include private hospitals (e.g. North Shore Private Hospital), nursing homes (e.g.

Arcare Aged Care), or free-standing day hospital facilities (e.g. Laser Clinics Australia).

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What drives the industry? .Healthcare is Australia’s biggest employer and it is continuing to grow in size, accounting for 13.7% of the entire workforce. The key drivers of the healthcare industry include: Growing and Ageing Population Indeed, population projections for Australia suggest that there will be 4 million people aged between 65-84 years by 2022, which will require more robust and adaptable healthcare services to better service their needs across the Australian community.

Government Funding and Infrastructure Investments in Healthcare Worldwide, governments are increasingly committed to R&D investment in healthcare facilities. For example, the Australian Government has committed to investing in critical infrastructure to support lifesaving health and medical research, building on its $605 million investment to support the provision of vital infrastructure through the Medical Research Future Fund 10 year plan.

Many investors are drawn to the healthcare industry because it is considered to be a ‘defensive’ play during general economic or market downturns. Indeed, they are usually less cyclical than retail or automotive markets. This is because investors believe consumers will continue buying healthcare products even during uncertain times, as it is more of a ‘necessity’ than a discretionary ‘want’ amongst the general population.

Private Health Insurance Membership & Household Disposable Income With rises in household disposal income and certain incentives, more Australian households are investing in private health insurance membership schemes, alleviating strains on the public health sector.

Innovation in Care Models This driver is particularly important for future growth of the industry, as many healthcare providers and technology companies have made innovations such as Remote Care, 3D Printing, Retail CLinics and Precision Medicine.

Economically,, healthcare markets are marked by a few distinct factors. Government intervention in healthcare markets and activities is pervasive, in part due to some of these economic factors. Demand for healthcare services is highly price inelastic. Consumers and producers face inherent uncertainties regarding needs, outcomes, and the costs of services. Patients, providers, and other industry players possess widely asymmetric information and principal-agent problems are ubiquitous. Major barriers to entry exist in the form of professional licensure, regulation, intellectual property protections, specialized expertise, research and development costs, and natural economies of scale. Consumption (or non-consumption) and production of medical services can involve significant externalities, particularly regarding infectious disease. Transactions costs are high in both the provision of care and the coordination of care.

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Ratios Several key ratios exist when analysing healthcare stocks.

1. Firstly, given the fact that many hospitals and medical practices need to wait substantial periods of time to obtain financial reimbursement from insurance or government subsidies, the cash flow coverage ratio becomes important for healthcare stocks.

2. Secondly, since healthcare companies have significant capital expenditures/ outlay due to R&D and pharmaceutical development activities, the long term debt-tocapitalisation ratio becomes an important leverage ratio indicative of how leveraged a company is relative to its total financial assets. Usually a debt-to-capitalisation ratio of less than 1 is favourable, however this depends on the specific companyspecific information as well as general industry and macroeconomic conditions.

3. Finally, operating margin is also important as it shows the profit margins fundamental to its future growth potential.

4. Revenue per bed- this is an example of a very specific ratio for this industry this is good stuff that we want

In Summary

CASH FLOW SUMMARY RATIO

LONG TERM DEBT-TOCAPITALISATION RATIO

OPERATING MARGIN

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CASE STUDY: CSL Despite COVID-induced downturns in the stock market, the S&P/ASX 200 Health Care Sector finished the March quarter in positive territory, rising by 2.1%.

CSL (CSL:ASX): CSL Limited is a global specialty biotechnology company that researches, develops, manufactures, and markets products to treat and prevent serious human medical conditions.

FY19 Historic P/E: 50.3x FY20 Forward P/E: 40.2x “Benefited from a shortage of immunoglobulin in Western markets, particularly the US, as demand for the product has soared as its applications widen and doctors understand its uses better”.

“Not directly engaged in the search for a coronavirus vaccine, but has offered to help governments around the world by lending its expertise, technologies and facilities to support the vaccine”.

Was one of the least volatile stocks in the ASX200 during 2019

USD

$10B

Earnings and Revenue History from ASX CSL Income Statement March 16th 2020

$0

2014

2015

2016 2017 2018 Earnings Revenue

2019

2020

In Conclusion The healthcare sector consists of all businesses involved in the provision and coordination of medical and related goods and services. The sector has seen recent stability in an economic downturn and has many different sectors that increase the stability of an investment with a promising future.

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MINING & MINERALS

07

Introduction Three main categories of the mining industry are precious metals and gemstones, industrial and base metal mining and nonmetal mining The mining industry consists of junior miners, which are smaller companies engaged in the exploration of new mining deposits, and major mining companies such as Rio Tinto (RIO) and BHP Billiton (BHP) Many junior mining companies that make large discoveries are eventually acquired by a major mining company that has a large portfolio of claims and thus able to finance large-scale mining operations.

Compared to major mining companies, junior mining companies are usually riskier ventures and are subjected to more volatility.

Overall, high barriers of entry exist in the form of high capital requirements, rights to develop a resource, regulations, natural economies of scale and capacity to market commodities to major export markets.

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DRIVERS

1) GLOBAL COMMODITY PRICES World Price of Iron Ore Mining companies are reliant on iron ore sales, meaning that iron ore prices exert a significant influence on the viability and profitability of the mining industry. Indeed, as iron ore prices increase, revenue will also increase. Although recent global iron ore prices have fluctuated with a general upward trend, the world price of iron is projected to decline in 2019-20.

World price of steaming coal As black coal mining is one key activity within the industry, the world price of steaming coal drives the industry’s performance. As steaming coal price increase, this increases industry revenue. The world price of steaming coal is projected to decrease in 2019-20.

World price of natural gas The revenue for the mining industry is largely contributed by sales from natural gas. As the extracted volume of natural gas increases, this supply increase results in natural gas prices increasing. If natural gas prices decrease, this can reduce revenue, hindering industry growth. The world price of natural gas is anticipated to decrease in 2019-20.

However, Provided that a mine is fully operating, an increase in the market price of a material generally does not increase a mining company’s production costs. These increased market prices contribute directly towards the mining company's bottom line net profits. As the market price of materials increase, the company share prices often also increase exponentially.

2) CAPITAL INVESTMENT Mining is an industry which requires capital expenditure through investments in mining and energy projects for purposes such as infrastructure. This means that as capital expenditure increases, revenue and growth also increase. In 2019-20, actual capital expenditure in mining was projected to increase.

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3) EXCHANGE RATES US dollars per Australian dollar Usually, prices of mining industry commodities and products are recorded in US dollars. Hence the exchange rate influences the amount of AUD revenue earned by local producers. If the Australian dollar is weaker, prices become more competitive, positively affecting domestic miners. The Australian dollar is expected to depreciate against the US dollar in 2019-20.

4)GROWTH OF EMERGING ECONOMIES

5)OPERATIONAL COST EFFICIENCY

GDP of mainland China As the industry heavily relies on exports, the economic growth of Australia’s major trading partners, especially countries like China, and Japan, is a key factor which influences the industry’s growth.

Downturn in China’s GDP growth adversely impacts the mining industry, considering how they are Australia’s largest trading partner. As the Chinese demand for materials decreases, this threatens future mining projects by companies

Operational cost efficiency is intrinsic for a mining company to remain profitable. As large capital expenditures are required by mining companies to set up mines, this process demands meticulous planning and careful cost management.

RISKS Mining companies face political, geological and price risks.

Generally, companies prefer working in countries with stable political systems as otherwise, sudden changes in the political environment such as nationalisation can drastically alter the regulatory conditions which affect the company’s mining claims and ownership of foreign property.

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As most of the oil and gas wells have either already been or are in the process of being tapped out, there is also an inherent geological risk in finding lucrative locations to stake claims. This difficulty in mining extraction means it is also possible to yield less amounts of material compared to what was estimated. Although this risk is applicable to both major and junior companies, having some deposits come up empty is more financially devastating to a junior due to their smaller portfolio of claims and lack of a capital cushion to fund further exploration.

Furthermore, companies are exposed to price risk, where fluctuations in the prices of commodities can result in lower profits or financial losses.

Investing in junior mining companies is ideal for risk capital, as they have the potential for a lot of appreciation. Major mining stocks however, are comparatively lower-risk and more stable while still offering decent appreciation

According to KPMG’s Australian Mining Risk Forecast 2019/2020, specific risks that are most prominent risks within the Australian mining industry include:

1) Stakeholder expectations Society, and therefore stakeholders, have grown to have greater expectations for companies to act ethically. If a mining company ignores these ideals, such as the developing anti-coal sentiment hindering Australian mines’ ability to create new coal mines, their company’s reputation could be seriously impacted.

2) Ability to maintain productivity and control operating costs While operating costs will naturally grow over time, mining companies need to compensate for this by cutting costs or making other processes more efficient. Companies must be careful in doing this with the risk of significantly depleting productivity in exchange for reduced costs.

Exploration is essential for future growth and stability of the industry to replace mining reserves that are rapidly depleting. As more reserves are exhausted, mineral quality and availability in domestic locations will eventually reduce, which may lead to some Australian centred organisations to commence activities in foreign jurisdictions for the first time, Venturing out of familiar jurisdictions may expose some organisations to new risks, especially political and social, driven by the 3) Access to key talent jurisdiction they are operating in.

Recent low numbers of enrolments in mining engineering courses pose a risk to the important task of acquiring talent and retaining them for future roles within the sector. To address the risk, companies may need to rely on “digital” talent as an avenue to ensure that companies can carry out the vital control and maintenance for their technologies and data analysis.

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RATIOS Several key ratios exist when analysing mining stocks: Quick ratio Measures a company’s liquidity and financial how well a company is able to deal with solvency its current short-term financial obligations with liquid assets (assets that can be quickly converted into cash) Calculated by dividing the total current assets minus inventory by the company's total short-term obligations Often referred to as the "acid test ratio" because it is considered such a strong fundamental indicator of a company's basic financial health or soundness Important for evaluating mining companies because of the substantial capital expenditures and financing necessary for mining operations. Analysts and creditors prefer to see quick ratio values higher than 1, which is the minimum acceptable value Operating profit margin Strong indicator of the company’s future growth and revenue As a primary profitability ratio, analysts use this to determine the effectiveness of companies in managing their costs Calculated by dividing total revenue by total company expenses, excluding taxes and interest Important because mining companies often have to adjust their production levels, which requires significant changes in their total operational costs Return on equity (ROE) Shows the profit levels a company can generate from equity and return to stockholders The average ROEs in the mining industry ranges between 5% and 9%, with better performing companies producing ROEs closer to 15% or more Calculated by dividing net income by stockholder’s equity The return on common equity ratio (ROCE) results from the exclusion of preferred stock equity and preferred stock dividends in these calculations

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CASE STUDY BHP Group Limited (BHP), formerly known as BHP Billiton Ltd, is an Australian company engaged in the exploration, processing and production of mineral and energy resources, its revenue predominantly sourced from its iron ore and coal. With a current market capitalisation of approximately $101B, BHP is the third largest company in Australia and falls within the ASX 200 GICS Materials sector.

P/E Ratio = 14.27 EPS = 1.87 Australian iron ore accounted for 38.5% of company revenue in 2018-19. This percentage is expected to remain largely stable in the current year, as the company continues to derive a high proportion of revenue from their iron ore, oil and gas projects. BHP is anticipated to derive approximately 70% of its total revenue from its Australian operations in 2019-20.

It would not be recommended to invest heavily in the Materials sector, which has been adversely affected by the COVID-19 social distancing regulations that have restricted the amount of work that can be completed.

CONCLUSION The mining industry is expected to increasingly focus on their output and productivity over the next five years As the COVID-19 pandemic eventually stops, global economic conditions are projected to remain stable over the next five years, increasing the demand of resources globally

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08

REAL ESTATEc

DID YOU KNOW? REITs encounter risk when interest rates increase, leading to decreased demand for REITs. If interest rates are rising, investors generally will select safe-haven options like treasuries as they are government-guaranteed with most paying a fixed return. Consequently, when rates rise, REITs will be sold off and the bond market rallies as investment capital funds flow into bonds.

INTRODUCTION olds A Real Estate Investment Trust (or REIT) is a trust that holds om and manages real estate portfolios with pooled funds from investors. REITs construct property portfolios, and earn income on asset holdings through leasing, capex and development opportunities.c REITs offer investors a way to access investments in large commercial/property ot be investment opportunities which they would otherwise not able to access due to sheer scale required for such n investments. Typically, REITs tend to be more value than growth-oriented, as growth in the value of a REIT is tied to olio the underlying growth in the value of the property portfolio that the trust holds. REITs have an ability to pass taxdeferred income to investors: if all the trust’s income for the ay year is distributed to investors, the trust itself does not pay tax, so REITs will generally distribute all of their income to investors each year.c Within the REITs sector, there are specialist sub sector REITs which construct portfolios of real estate in particular industries, including commercial, retail and residential.

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Commercial REITs Introduction Commercial REITs can be further categorised into office and hotel REITs. These investment trusts invest specifically into office buildings, hotel or resort properties to earn rental income and other management fees from tenants that usually have signed long-term leases.

Drivers 1. Employment and Job Market- The better the economy is performing, the better commercial REITs will perform as there will be increased consumer confidence and investor certainty in the commercial property market. This is a significant impact on the commercial REITs as an increase in job opportunities and therefore th employees, will lead to increased demand for office spaces.

2. Vacan Vacancy rates- the number of individuals uptaking rental space space. This is a major risk or opportunity for investors where few vacancies v can lead to business bankruptcies. Vacancy rates will impact rental demand and the rent that landlords can charg charge. Where vacancy is low, rent is high and conversely where vacancy is high, rent is lower.c 3. Locat Location and Grade Quality- the economic performance of the area ar in which the commercial REIT is located is extremely impor important. For example, investors desiring higher returns on invest investments may not consider rural locations as the rate of growt growth is considerably slower. Another consideration to the qualit quality of the REITs is the property facilities available, proximity to transport tran and CBD locations.cc 4. Supp Supply and Construction- when new construction of comm commercial property occurs, this increases the supply of buildi buildings leading to an overall decrease in value of property, assum assuming demand remains the same. If supply and const construction of commercial exceeds the demand, there will be a gen general negative impact on the value of commercial REITs.

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Cyclical Risks Economic risk Office and hotel REITs are typically structural investments with tenants signing leases of 5-10 years. Income for these commercial spaces are generally predictable for these years. For many companies, office space is a necessary expense, so even during economic troughs office rent will be the last to be cut. There is however still a degree of cyclicality for commercial REITs. The demand for office space and therefore landlords’ pricing power is still largely dependent on employment growth and the economic health. The economic sensitivity of office real estate companies will also depend on the structure of the tenant base. Office REITs with tenants generally operating in cyclical industries tend to be more sensitive to recessions than office REITs with the majority of tenants operating in recession-resistant businesses.

Oversupply risk In commercial real estate, there tends to be a general trend of oversupply risk and this is especially during periods of strong economic growth and low borrowing costs. For example, if there is demand for 1,000 square feet of office space in a given market and there is exactly 1,000 square feet of inventory, properties should be full and landlords will have pricing power. Conversely, if there is 1,000 square feet of office space demanded and due to local property developments, supply increases to 2,000 square feet, there will be widespread unoccupied spaces.

Despite this, oversupply is generally less concerning for commercial REIT due to high construction costs.

Structural Risks Tech-related Risk As workplaces become increasingly reliant on technology, the opportunities that technology has brought to organisations and individuals has undoubtedly increased.

This has led to the phenomenon of remote work across all industries leading to the reduced demand for office spaces and buildings. Vacancy rates have increased from 3.9% to 5.6% across Sydney offices during the COVID-19 pandemic. This has demonstrated to many workplaces how technology can positively impact the lives of employees (allowing them to work from home), but with the commercial property consideration, has left offices empty for months.

Revolutionising Risk Flexible workspaces, services and technologies have changed the way traditional offices operate.

Modern commercial real estate companies like WeWork have revolutionised work today. This is where real estate spaces are transformed into smaller co-working spaces and areas that are more innovative and distinctive. These new, collaborative spaces have reduced the need for companies to obtain larger office spaces and rather resort to coworking spaces, a more cost-effective and flexible option. This structural change will again impact commercial REITs in the long-term.

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Retail REITs Introduction

Drivers 1. Consumer sentiment index - consumer sentiment impacts retail sales and thus retail demand. This trend is thus responsible for generating demand for retail operators, and consequently boosting demand for retail property.cc 2. Business confidence index - affects businesses’ decisions to invest in different locations or expand in pre-existing operations. High business confidence results in an increased tenant demand for retail space, with the inverse occurring as a result of reduced business confidence.

3. Demand from retail trade - retail sales drive demand for property space, as sales volumes impact retailer’s capacity to pay more expensive rents. Inversely, diminished sales volumes cause retailers to seek cheaper retail properties, thus affecting occupancy rates and property income.

Retail is a category within the commercial REIT sector - it refers to establishments that build and develop shopping and entertainment properties. Approximately 24% of REIT investments are in shopping malls and freestanding retail.c The retail sector provides services that include renting, leasing, managing, developing, buying and selling retail real estate. The industry has experienced strong growth in Australia, due to increased demand from overseas investors which has boosted property value.c However, significant challenges exist within the industry - most notably the digitalisation of shopping. Retail real estate owners have nevertheless attempted to adapt, increasing a focus on occupying properties with stores that have an omnichannel strategy to drive sales in brick-and-mortar locations as well as online referred to as “click-and-mortar” stores.

Risks Demand from online shopping Increasingly strong competition for traditional bricks-and-mortar retailers. Increased online sales reduces demand for physical retail space, resulting in downsizing and closure of stores. The projected strong increase of online shopping threatens industry demand.

Consumer spending and economic downturn Retail sales are extremely vulnerable to fluctuations in discretionary spending. The next 2-3 years are projected to have slow wage growth and rising employment, contributing to cautious consumer sentiment that will negatively impact the industry in the mid and long-term.

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Industrial REITs Introduction Industrial REITs own and manage properties that are used for manufacturing, storing and distributing goods. This includes factories, warehouses, mines and farms. They are often located close to transportation hubs (e.g railroads and seaports) but outside of the central business district due to requirements for large space.cIndustrial REITS owning strategicallylocated properties with access to transit routes are more likely to attract desirable tenants as these locations enable a more efficient supply chain for manufacturers

Risks Economic risks The demand for industrial facilities, in particular, distribution centers, are largely dependent on how well the economy is performing. During recessions, a decrease in the consumer confidence can slow down purchase volumes, thereby drastically lowering the need for distribution space Capital expenditure risks The profitability of industrial REITs can be affected by their capital expenditure costs as industrial REITs are responsible for all property repairs. They will have to pay for unforeseen structural problems, install new equipment/systems to retain tenants or make alterations to properties due to changes in safety regulations and compliance requirements.c Capital expenditure could surpass the forecasted expenditure of industrial REITs, which contributes towards reduced property valuations and lower distributions

Drivers 1. Technology - following advancements in technology, there has been an increasing demand for industrial facilities (e.g warehouses for the storage of products) due to the growing popularity of e-commerce. This is because e-commerce requires three times more warehouse space compared to traditional retail outlets.

2. Business confidence index - forecasts the economic conditions of an industry, which helps companies decide whether to expand or scale down their operations. A high business confidence index represents a more optimistic outlook of the industry, which encourages more investment by companies to develop properties.

3. Total merchandise imports and exports merchandise trading influences the demand for industrial properties as they are required for purposes of manufacturing and distributing goods.

4. Business inventories - refers to the amount of property held in stock by a company, which influences the demand for industrial properties, as an increase in business inventories means companies require more space for storage purposes

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REIT Ratios

These are a few ratios you can look at when analysing REITs:c Adjusted Funds from Operations measure of financial performance that is based on funds from operations (FFO). It takes into consideration the recurring capital expenditure costs that are required to maintain the quality of REIT properties.

Funds from Operations (FFO) determines the cash flow from business operations, which is calculated by adding depreciation and amortization to the net income and then subtracting any gains on sales.

NTA or NAV (Net Tangible Assets or Net Asset Value) NTA is calculated as the company’s total assets minus all intangible assets while NAV is calculated as the company’s total assets minus its liabilities.

Capitalisation Rate rate of return on a REIT based on the property’s expected income, which is calculated by dividing the property’s net operating income by its current market value.

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Case Study Abacus Property Group (ASX:ABP) is one of the leading Australian firms in the Real Estate sector. Over the years Abacus Property Group has redefined the ways of doing business in Real Estate industry.c In 2019, ABP achieved a return on equity of 6.7%. This means that for each A$1 of shareholders’ equity, Abacus made A$0.07 in profit. In comparison against the industry average, Abacus Group’s ROE is roughly in line with the REITs industry average of 7.7%. Although slightly below industry average, it has successfully built a sustainable competitive advantage in the Real Estate industry by leveraging its impressive track record to obtain favourable supplier terms.c Furthermore, whilst Abacus does have some debt (with debt to equity ratio of 0.27), it is rather modest considering the usually high level of leverage REITS has. Indeed, the careful use of debt to boost returns is often very good for shareholders, however it may reduce the company’s ability to take advantage of future opportunities.

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