Mark Lister: Steer clear of penny dreadfuls on NZX

Better to choose a high-quality company than go for the cheapest There are ways to find out if a company is solid and is likely to give good dividends. Photo / Brett Phibbs

Opinion

For some reason many new share investors head straight to the lowest shelf and look for the lowest quality shares that cost 5c. This is unfortunate because the New Zealand market has many high-quality businesses and funds that have performed well and are far less risky investments.

There is also a lot of talk about how the NZX is shrinking and has a scarcity of good investment options. Although we do have a small market, there are a good number of world-class companies available to investors on our local bourse.

As with any investment, quality is often a key determinant of returns. One of the key indicators to look for when coming to pick good quality companies is a track record of steady growth in earnings per share. A quality company should be growing its earnings over time, and this earnings growth should translate to steady growth in dividend per share.

A strong balance sheet is also an attribute of a stable, conservatively managed business. It is a simple, but little-considered, fact that companies with no debt do not go bankrupt. Some companies that have defensive businesses and high cash flows can tolerate higher levels of debt, but always look for rock solid finances.

Excessive competition puts pressure on margins and undermines profitability, so look for companies with strong market positions and an element of pricing power. Good businesses will often have the wood on their competitors either because they have an unrivalled brand, distribution network or product. They may also have high levels of pricing power, and this ability to increase prices is indicative of a company with a strong market position.

Companies that are defensive are generally higher quality companies. Defensive businesses are those that provide goods and services for which there is a reliable and growing demand. Companies that provide these sort of core services include banks, utilities, oil companies, healthcare companies and producers of food and personal hygiene products.

Lastly, although arguably most important of all, quality companies have quality management. The experience, vision, leadership skills and integrity of a strong management team can have a huge impact on the performance of a company.

The following is a listof stocks by the returns they have delivered over the past decade, using figures that we calculate ourselves for the 10 years ended March 31, 2011. These figures take into account dividends and capital growth in share prices and are adjusted for share splits, rights issues and so on. This list is not exhaustive and is obviously limited by space.

This list is not any sort of quality ranking, but it does show how well some of our companies have done over the past decade.

Freight-forwarding company Mainfreight tops the list. It has returned 29 per cent a year over the decade, or a total return of 1216 per cent. In 2003 Mainfreight published a book on its first 25 years. It was a great read and it talked a lot about the 100-year vision for the company. In the years since, it has made rapid progress, cementing its local market position and expanding its operations around the world. Company leadership is top-flight and it has a strong focus on the long term.

TrustPower comes next with a 10-year gain of 22.6 per cent a year. The Tauranga-based generator and retailer of electricity has carved out a defensive niche in it sector. Its strong renewables focus has been a point of difference, as has its ability to manage its retail operation better than any rival while maintaining its premium customer service offering.

Ryman Healthcare is not far behind with 22.2 per cent a year. One of our market's biggest success stories, Ryman is a leading company in the aged care sector. It recently announced it will be expanding into Australia and locally will be increasing its build rate from 450 to 550 units and beds a year to meet rising demand for its services. Ryman has also grown its dividend handsomely. Investors astute enough to buy Ryman shares 10 years ago are enjoying an income from dividends of over 18 per cent a year on their original cost.

There aren't many big development or infrastructure projects in this country that happen without Fletcher Building. This strong market share in construction and building materials has helped it deliver a return to shareholders of 20.7 per cent since 2001. The company continues to expand overseas.

A company that many people perhaps will not have heard of is Ebos, a healthcare distributor. It has returned 17.1 per cent a year and is another stock that has delivered strong dividend growth. It has a strong market position here and is expanding in Australia. Port of Tauranga has returned 15.5 per cent a year and continues to go from strength to strength. Strong demand for logs from Asia is boosting export volumes and revenues, but this company is much more than a short-term story. It has built a strategically important position, has valuable land assets, good transport links and room to grow.

Auckland International Airport comes next with a return of 12.6 per cent a year. The airport is New Zealand's key contact point with the outside world. Management continues its focus on developing the airport's property precinct and improving the overall service offering and efficiency.

Carpet maker Cavalier comes next with a return of 11.8 per cent a year. Cavalier clearly operates in a tough sector and faces strong competition, and has to cope with demand for its carpets moving up and down with the economic cycle. Despite all of this the company has done well and delivered excellent growth and dividends for shareholders.

Express package company Freightways has delivered a solid 10.6 per cent a year over the decade. It is a well-managed company with strong brands such as New Zealand Couriers and Post Haste Couriers. It continues to expand its market position and has expanded into Australia in the information management sector.

Property for Industry is one of the best-performed listed property vehicles with a return of 9.4 per cent a year. It has delivered consistent increases in its dividend over the years and has always impressed with its astute management of its portfolio of industrial properties.

No list of high-quality stocks in this country could exclude Fisher & Paykel Healthcare. It produces world-class products such as heated humidification products including respiratory humidifiers, breathing circuits, infant resuscitators and infant warmers. It is a leader in products for the treatment of obstructive sleep apnoea. It has returned 7.9 per cent a year over the decade. Given 98 per cent of sales are overseas, the strong NZ dollar has impacted on results.

Tourism New Zealand ran an advertising campaign many years ago with the catch phrase "Don't leave home till you've seen the country". The same principle can be said to apply to our share market. There are many high-quality businesses listed on our market that are run by people with vision, dedication and integrity.

By the way, these companies tend to be found on the top shelf, not the bottom shelf.

-

Mark Lister is head of private wealth research at Craigs Investment Partners. His disclosure statement is available free of charge under his profile on www.craigsip.com. This column is general in nature and should not be regarded as specific investment advice. Craigs Investment Partners invests in all of the companies mentioned on behalf of its clients.