The 2017 Australian Value Creators Report

Sectors in Australia DivergeANALYSIS OF ASX 200 COMPANY PERFORMANCE

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OCTOBER 2018 | The Boston Consulting Group

SECTORS IN AUSTRALIA DIVERGE

ANALYSIS OF ASX 200 COMPANY PERFORMANCE

DAMIEN WODAK

DANIEL SELIKOWITZ

JAMES LITTLE

The 2017 Australian Value Creators Report

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CONTENTS

4 EXECUTIVE SUMMARY

7 AUSTRALIA WAS OUTPACED BY THE US AND JAPAN

12 RETURNS BY SECTOR DIVERGE

16 THE TOP PERFORMING COMPANIES AND HOW THEY CREATE VALUE

22 APPENDIX

25 FOR FURTHER READING

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THE ASX 200 PERFORMED at the lower end of our global peer group from 2012 to 2017. The ASX 200 delivered a five-year Total

Shareholder Return (TSR) of 10.2%, on par with Europe (10.2%), but behind the US (15.8%) and Japan (17.3%).

Sectors in Australia DivergeTSR differed significantly more by sector in Australia than in the in-ternational peer group, with lower returns in the Banking and Mining sectors playing a large role in the underperformance. Regulation of banks, and a drop in commodity prices during the period lowered re-turns for companies in these two sectors, which together make up al-most a half of the ASX 200 by market capitalisation.

Healthcare companies performed at the top end of the ASX 200, reap-ing high returns due to increased demand from ageing and growing populations, as well as a falling Australian dollar that amplified inter-national earnings.

The Top Performing Value CreatorsThe threshold for top quartile five-year TSR from 2012 to 2017 in the ASX 200 was 23.2%, 8 percentage points above the median of 15.2%. To illustrate how companies with different levels of maturity and from different industries have outperformed the market, at the end of this year’s report we profile six companies from the top quartile: Domino’s Pizza, Fisher & Paykel Healthcare, Xero, Qantas, SEEK, and Fairfax Media.

PREFACE

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EXECUTIVE SUMMARY

Each year our Value Creators Reports analyse company returns across the world to build an understanding of what drives top

performance. In the Australian Value Creators Report we look at how returns in the Australian market compared to global peers. We then look more closely at how different sectors drove this performance, and what individual companies have done to outperform the market. As the Value Creators Reports focus on long-term, sustained value creation, we predominantly look at returns over a five-year time horizon.

From 2012 to 2017 the Australian market performed at the lower end of our global peer group. The S&P/ASX 200 (ASX 200)1 delivered a five-year Total Shareholder Return (TSR) of 10.2%. This was on par with Europe (10.2%), but behind the United States (US) (15.8%) and Japan (17.3%). The difference between Australia and the US and Ja-pan was even greater at the end of the five years. The ASX 200 deliv-ered a one-year TSR in 2017 of 11.8% while the US and Japan deliv-ered one-year TSRs of 21.8% and 20.1% respectively.

TSR differed significantly more by sector in Australia than in the in-ternational peer group.2 Across the five largest sectors in Australia, the range in TSRs was 13 percentage points, compared to 4 in the US, 3 in Europe, and 9 in Japan. The drivers of TSR performance in Aus-tralia were also different compared with other peers. The ASX 200’s five-year TSR was primarily delivered by profit growth, more so than in the other developed markets where expectation of future growth played a larger role.

• Healthcare was once again the top performing sector of the five largest sectors in Australia, with a five-year TSR of 18.6%.3 Strong revenue growth was the main driver of returns, in part due to the falling Australian dollar which amplified revenue growth in international markets. Healthcare’s one-year performance in 2017 was particularly strong at 26.3%.

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• Industrials came next with a five-year TSR of 14.9%, and a one-year TSR of 18.2%.

• Banks, with a five-year TSR of 10.4%, performed closest to the ASX 200 benchmark. Banks produced steady profit growth, but their five-year TSR was lowered by increased capital holding requirements. One-year returns for Banks in 2017 were low, at 2.1%.

• Consumer Staples came next with a low five-year TSR of 7.2%, despite a stronger one-year TSR of 20.2% in 2017. The low five-year returns were partially driven by intense competition from local and global players during the period.

• Mining/Materials’ five-year TSR of 5.3% was the lowest of the sectors, held down by a drop in global commodity prices in 2013 and 2014 and resulting negative returns. As prices rebounded over 2016 and 2017 returns were much higher, and in 2017 Mining/Materials delivered a one-year TSR of 22.9%, the second consecu-tive year of strong one-year returns.

The 2017 threshold for top quartile five-year TSR in the ASX 200 was 23.2%4 which remains relatively consistent with the last two years (25.2% in 2016, 21.5% in 2015). In 2017 three sectors were not repre-sented in the top quartile: Telecommunication Services, Energy and Banks. This is both an increase and a change from last year when only Banks and Insurance missed out on the top quartile.

Maintaining top quartile performance from one five-year period to the next is rare and hard to achieve. To illustrate how companies with different levels of maturity and from different industries have outper-formed the market, at the end of this year’s report we profile six com-panies from the top quartile.

Domino’s Pizza drove average yearly revenue growth of 32% despite intense industry competition, and used its control over end-to-end economics to protect margins. Fisher & Paykel Healthcare lever-aged a leading R&D approach and market leading products to drive double digit profit growth and expectations of similar future growth. SEEK grew profit locally by continuing to innovate and develop its platform, and invested in international growth assets. Xero proved over the period that it could grow steadily in Australia and the UK, and that the business has a pathway to profitability. Qantas drove sig-nificant margin advantage versus competitors, generated modest over-all revenue growth with higher growth outside the legacy business, and returned excess cash to shareholders. Fairfax accelerated growth of Domain in digital, and shrunk costs and capital associated with its legacy business.

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NOTESThe analysis in this report uses a cut-off date of 31 December 2017, unless noted otherwise. Economic indicators are based on calendar years and company financials from public announcements use Australian financial years, unless noted otherwise.Where we refer to a region’s TSR throughout this report, we refer to the performance of the following indices:

• Australia = ASX 200 • US = S&P 500 • Japan = S&P TOPIX • Europe = S&P EUR • Emerging Markets = S&P Emerging LargeMidCap • All TSRs are calculated based on Total Gross Return.

1. The S&P/ASX 200 Index is recognised as the investable benchmark for the Australian equity market, as it addresses the needs of investment managers to benchmark against a portfolio characterised by sufficient size and liquidity. It is comprised of 200 stocks selected by the S&P Australian Index Committee. It is a capitalisation index, meaning that it represents the sum of the market capitalisations of the companies making up the index. Changes in the value of the index reflect changes in the aggregate capitalisation of index constituents as their share prices change. The weight assigned to each company in the index is proportional to that company’s capitalisation. It is also an accumulation index, which assumes that dividends are reinvested, and measures both growth and dividend income.2. In previous versions of the Australian Value Creators Report we published results for the 11 Global Industry Classification Standard (GICS®) sectors. This year we have split out Financials into its three GICS® industry groups – Diversified Financials, Insurance, and Banks – and therefore have 13 sectors in total. Last year we reported that no sector missed out on the top quartile because companies from Diversified Financials were represented. Banks and Insurance were not represented. 3. Sector returns use capitalisation indices. 4. The top quartile is drawn from only those companies in the ASX 200 that have been listed for at least five years. This included 161 companies in 2017.

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AUSTRALIA WAS OUTPACED BY THE US

AND JAPAN

I n the five-year period to 31 December 2017 the ASX 200 delivered returns of

10.2%; on par with Europe (10.2%), but well behind the US (15.8%) and Japan (17.3%). Australia’s five-year returns are best ex-plained through a sector lens. Overall returns were uninspiring, but the underperformance was predominantly driven by a few large sectors that experienced identifiable head-winds. The spread of TSRs across the five largest sectors in Australia was 13 percentage points, much wider than for international peers. The spread in the US was 4 percentage points, in Europe 3, and in Japan 9.

When comparing median company TSRs, which are not affected by market capitalisa-tion weights, Australia fared much better. ASX 200 median TSR was 15.2%, compared to a median TSR of 19.0% in Japan, 15.8% in the US, 13.7% in Europe, and 10.2% in Emerging Markets. Globally, median TSR in BCG’s inter-national company peer set (2,452 companies) was 15.6%. This means that most of ASX 200 companies performed better than the ASX 200 index, which is heavily weighted by large and lower performing sectors.

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The Australian economy continued to grow steadily, but uncertainity re-mainsThe Australian economy produced consistent levels of GDP growth of around 2.5% annual-ly for the last five years. Results in Q3 of 2017 saw Australia break the developed world re-cord for the longest stretch of consecutive quarters without a technical recession. At the time of writing, this record stands at 107 quarters, an impressive feat in the face of nu-merous hurdles over the past 26 years. The Australian economy has weathered the Asian financial crisis, the dotcom bubble, the global financial crisis, and a dive in commodity pric-es. Looking into the near future, GDP growth is expected to increase slightly to just over 3% annually for the next three years.

Despite projected growth, uncertainty re-mains for the Australian economy, particular-ly with respect to local and international de-mand. International demand for commodities is a major dependency. As an example, recent decisions by Chinese authorities to cut steel production for environmental reasons could drive increased volatility in the prices for iron ore and coking coal. An increase in interna-tional trade protectionism also has the poten-tial to reduce demand.

Local Australian consumption is similarly dif-ficult to forecast. Household debt is high, wage growth and inflation are low, and prop-erty market growth ground to a halt at the end of 2017. Household spending has contin-ued to grow at a faster rate than wages. This behaviour reflects an expectation that slack wage growth will pick up in the future. None-theless, if low wage growth persists, there is a risk consumption growth may fall, particular-ly if households become concerned about their ability to service growing debt.

Divergent sector dynamics in Austra-lia underpinned low performance versus peersIn Australia low returns were driven by a number sectors: Banks (10.4%), Consumer Staples (7.2%), Mining/Materials (5.3%), Tele-communication Services (3.0%) and Energy (0.6%). The spread of TSRs across the five largest sectors in Australia was 13 percentage points, compared to 4 percentage points in

the US, 3 in Europe, and 9 in Japan.

Europe had similar five-year performance to Australia (10.2%), but returns were consistent-ly slow across all the major industries. Results in Europe were also relatively consistent by geography, with lower results across all the major economies other than the Nordics (Sweden, Denmark, Norway and Finland all had five-year TSRs of 15% or more).

The US, while strong overall, had a particular-ly high one-year TSR in 2017 of 21.8%. The S&P 500 benefited over the five years from exceptional strength in the large technology companies Alphabet, Amazon, Apple, Face-book and Netflix (see The 2018 Value Cre-ators Rankings, BCG report, July 2018). Multi-ples also expanded across the board due to a particularly low official cash rate, and the tax reform passed at the end of 2017 which raised the 2018 earnings outlook for many companies. Beyond this, there is ongoing de-bate whether recent growth is due to Trump or owes itself to momentum from Obama.

Strong returns in Japan over a five-year (17.3%) and one-year (20.1%) time horizon were driven by a wider Japanese economic rebound and a subsequent revaluation of Jap-anese stocks, which have previously been looked on less favourably by investors.

Emerging Markets had impressive results in 2017, delivering a one-year TSR of 30.7%. The five-year TSR of 9.5% was similar to Australia due to poor returns from 2013 to 2015. Re-turns by sector in Emerging Markets had large variations. Information Technology with a five-year TSR of 21.8%, and Consumer Dis-cretionary with 14.8%, stood head and shoul-ders above the rest. Energy, Materials and Telco languished with TSRs ranging between 2.3% and 4.2%.

Profit growth was the strongest driver of ASX 200 TSRBCG’s TSR disaggregation model analyses the drivers of market performance. The model disaggregates TSR into:

i. Profit growthii. Change in valuation multipleiii. Cash flow contribution

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Total shareholder return (TSR) measures the combination of share price gains and dividend yield for a company’s stock over a given period of time. It is the most compre-hensive metric for measuring a company’s shareholder value creation performance.

Each year in the Value Creators series, we apply BCG’s TSR disaggregation model to a sample of companies1 from five major indices: the US S&P 500, Japan’s S&P TOPIX, Europe’s S&P 350, the ASX 200 and the S&P Emerging Markets LargeMidCap.

The model breaks down TSR into:

• Profit growth = growth in EBITDA, except for Diversified Financials, Banks and Insurance which use growth in after-tax profit.

• Multiple change = change in EV/EBITDA, except for Diversified Finan-cials and Banks which use change in P/E, and Insurance which uses change in P/B.

• Cash flow = free cash flow to equity holders, measured as dividend yield and change in shares outstanding.

The model uses the combination of revenue (sales) growth and change in margins as an indicator of a company’s improvement in fundamental value. It then uses the change in the company’s valua-tion multiple to determine the impact of investor expectations on TSR. Together, these two factors determine the change in a company’s market capitalisation and the capital gain or loss to investors. Finally, the model tracks the distribution of free cash flow to investors and debt holders in the form of dividends, share repurchases, and repayments of debt to determine the contribution of free cash flow payouts to a company’s TSR. Management levers for each key element are summarised in the diagram below.

NOTE 1. We excluded companies with non-meaningful multiple changes, volatile results and less than five years of financials.

UNDERSTANDING THE DRIVERS OF TSR

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See Understanding the drivers of TSR on page 9 for a more detailed explanation.

This disaggregation allows us to understand what drove Australia’s TSR performance rela-tive to other markets.

Australia’s five-year performance was under-pinned by strong profit growth. Profit growth was similar in overall contribution to the US (contributing around 6 percentage points of TSR for both countries). Cash flow and valua-tion multiple were both notably small con-tributors in Australia.

Profit growth in Australia was mainly driven by revenue growth rather than change in profit margin. While this was also the case for the global peer group, median percentage growth in revenue was higher for the ASX 200 than for any of the global peers.

The low cash flow contribution in Australia is primarily the result of equity issuance. Divi-dend payments were actually high compared to peers, as expected given Australia’s favour-able dividend imputation policy.

The low change in valuation multiple is best explained at a sector level. Banks and Min-ing/Materials, the two largest sectors in the ASX 200, both had low contributions to TSR from change in valuation multiple, at –3% and 14% respectively. Multiple change for Banks was negative because investors revised profit growth expectations downwards in the face of new capital holding requirements. Negative multiple growth in Mining/Materials was due to dampened profit growth expecta-tions driven by lower commodity prices, as well as a shift toward returning value to shareholders rather than investing for growth. Multiple change was also particularly low in Telecommunication Services and Energy. More detail on sector TSR break-down fol-lows in the next chapter.

In Japan and the US, contribution to TSR was more evenly spread across the three drivers. Companies capitalised on growth opportuni-ties in the last five years to produce strong profit growth. Investors showed confidence in the earnings outlook, reflected in strong mul-tiple growth, particularly in the US.

Europe and Emerging Markets had similar overall TSRs to Australia but markedly differ-ent contributions from each of the drivers. In

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Europe, the three drivers had a similar influ-ence on returns. In Emerging Markets, profit growth dwarfed the other drivers and the out-

look for future growth was relatively un-changed as reflected in a small change in val-uation multiple.

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To understand Australia’s perfor-mance, we split the ASX 200 into 13

sectors based on the Global Industry Classifi-cation Standard (GICS®).5 In this section, first we look at how each sector contributed to overall ASX 200 returns, and then we analyse the drivers of performance for the five largest sectors: Healthcare, Industrials, Banks, Consumer Staples and Mining/Materials. We

applied our TSR disaggregation tool to these sectors and looked at sector-level dynamics.

The performance of the remaining sectors (Energy, Telecommunication Services, Con-sumer Discretionary, Utilities, Real Estate, Di-versified Financials, Insurance, and IT) is pre-sented in the Appendix.

RETURNS BY SECTOR DIVERGE

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A small number of sectors lowered overall ASX 200 performanceASX 200 five-year TSR was lowered by weak returns in five sectors: Banks, Consumer Sta-ples, Mining/Materials, Telecommunication Services and Energy. As Banks and Mining/Materials represent almost 50% of the ASX 200 by market capitalisation, they have a strong effect on overall returns. Consumer Staples, Energy and Telecommunication Ser-vices are all smaller in size but delivered TSRs well below the ASX 200 TSR of 10.2%.

What drove TSR in the five largest Australian sectors?Our analysis showed that the main drivers of five-year TSR varied significantly by sector, reflecting the different market dynamics that affected each sector during that time.

HealthcareHealthcare continued to lead the other sec-tors, with a five-year TSR of 18.6% and a one-year TSR of 26.3%. The primary contributor to this outperformance was profit growth, with change in valuation multiple making up most of the remainder. Strong profit growth was almost entirely driven by revenue

growth, which came off the back of market leading healthcare products, and increased demand for healthcare from ageing and grow-ing populations.

Strong profit growth was amplified by a fall-ing Australian dollar; around half of the sec-tor’s income is international, with North America, Europe and the UK as the largest international markets. Over the five years, the Australian dollar devalued on average 6% each year against the US dollar, 4% against the Euro and 2% against the Pound.

IndustrialsIndustrials delivered a five-year TSR of 14.9% and one-year TSR of 18.2%, outperforming the ASX 200 benchmark over both periods. The majority of outperformance came from change in valuation multiple, followed by cash flow contribution.

Industrials represents a broad range of com-pany types, including transportation, com-mercial and professional services, manufac-turing, and construction. As a result different market dynamics have affected results for in-dividual companies.

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BanksBanks, the largest sector by market capitalisa-tion in the ASX 200, matched the benchmark with a five-year TSR of 10.4%. The sector’s one-year TSR was 2.1%, well below the benchmark. Five-year TSR was driven mainly by profit growth and cash flow. P/E multiple change was negative.

Banks had a turbulent five years. All four of Australia’s big banks delivered annualised re-turns of around 25% just over two years into the five-year period. In the latter half of 2015 however, P/E multiples and ROE declined sig-nificantly as the result of revised capital hold-ing requirements. Despite recovering some-what in 2016 and 2017, share prices suffered again after the mid-2017 announcement of a bank levy and additional regulation.

During the five-year period, average ROE across the big four banks dropped 1.5 per-centage points.6 One of the big four banks es-timates that its ROE would be roughly 3 per-centage points higher today without the additional regulations introduced during the period.7 All else being equal, 3 percentage points in ROE is equivalent to roughly 2 per-centage points of five-year TSR.

In this new context of lower ROEs, banks need to focus on capital efficiency and costs. Banks have sought capital efficiency through divesting non-core, low return assets. Sam Stewart, head of BCG’s ANZ Financial Institu-tions practice, identifies three ways to reduce costs: “Banks need to radically simplify their products, services and processes, digitise their operations, and pursue low-cost organic growth.”

Consumer StaplesFor Consumer Staples, the five-year TSR of 7.2% was below the benchmark while the one-year TSR of 20.2% was much higher. Aus-tralia’s Consumer Staples sector is dominated by two retail companies, Wesfarmers and Woolworths, which make up 75% of the sec-tor’s market capitalisation. Grocery accounts for roughly 50% of the combined profit for both companies. Grocery revenues and mar-gins for both companies came under pressure over the five-year period with heated compe-tition between the two incumbents and inter-national players. Aldi continued to grow its market share and contribute to price compe-tition. Aldi’s small stores, simple range and extensive use of private label minimise its costs, and enable it to offer low prices with-out compromising on value for money.

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Nonetheless, the Australian retailers bounced back in the latter half of 2016 and 2017. The local companies lowered their prices and fo-cused on operational efficiency to partially off-set the impact on margin. They drove TSR by returning value to shareholders.

Mining/MaterialsMining/Materials’ five-year returns of 5.3% were marked by a dip in commodity prices in 2014 and 2015. Average returns for the sector over that two-year period were -14%. One-year returns in 2017 were much higher at 22.9%, which was the second consecutive year above 20%.

The two major miners, Rio Tinto and BHP, make up 67% of Australia’s Mining/Materials sector by market capitalisation, and contrib-ute significantly to returns. During 2015 reve-nues for both companies contracted dramati-cally as commodity prices dropped. Costs fell more slowly than revenue, compressing EBIT-DA margins. Both companies delivered nega-tive double-digit returns in 2015 as a result. As prices rebounded in 2016 and 2017, they posted average annual returns above 30% over the two years. The companies drove TSR by returning cash to shareholders, reducing capital expenditure in 2017 to roughly half what it had been in 2014.

Alex Koch, head of BCG’s ANZ Industrial Good practice, identifies three key success factors for the future: “mining companies need to have a relentless focus on digitisation and technology, a clear sustainability strategy to deal with increasing community and gov-ernment interest, and continued focus on op-erating cost and capital allocation discipline.”

NOTES5. In previous versions of the Australian Value Creators Report we published results for the 11 Global Industry Classification Standard (GICS®) sectors. This year we have split out Financials into its three GICS® industry groups – Diversified Financials, Insurance, and Banks – and therefore have 13 sectors in total.6. ROE as reported on a cash basis from annual reports of the majors.7. 2017 Full Year Result bluenotes interview with ANZ CEO Shayne Elliott.

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THE TOP PERFORMING COMPANIES AND HOW THEY CREATE VALUE

To understand how Australia’s leading companies have created share-

holder value over time, we analysed compa-nies that had been listed on the ASX 200 for

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at least five years in 2017. In this section we focus on ASX 200 median and top quartile returns rather than returns of the ASX 200 index. This is so that we can identify those companies that outperformed the majority of peers.

Top-quartile threshold was relatively unchanged from 2016The threshold for top quartile five-year TSR performance in 2017 was 23.2%. This remains relatively consistent with the last two years (25.2% in 2016, 21.5% in 2015), but well be-

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low the peak of 41.2% in 2007.

The level of outperformance required to achieve top quartile TSR has been reasonably constant since 2014, at between 7 and 9 per-centage points per year above the median TSR. In 2017, the ASX 200 median TSR was 15.2% per year; top quartile firms outper-formed by at least 8 percentage points per year.

A less diversified set of companies made up the ASX 200 top quartile than last yearIn 2015 and 2016 all sectors apart from two financial sectors, Insurance and Banks, had at least one top quartile performer. This year three sectors missed the top quartile: Tele-communications, Energy and Banks.

The performance of individual companies within sectors varies widely, showing that company-level performance does matter when it comes to TSR. Consumer Staples, Mining/Materials and Insurance all produced top-quartile performers despite sector medi-an returns below the ASX 200 median. None-theless, for the three sectors that missed the top quartile, industry trends proved too strong to overcome.

For Telecommunications, the lack of top per-formers was due to low or negative returns for most companies in the sector in the latter half of 2016 and in 2017. As recently as 2015, every company in the sector made our top quartile list. The volatility in the sector over the last five years was primarily driven by large swings in valuation multiple. EV/EBIT-DA multiples increased significantly to late 2015, and then took a dive at the end of the year. The readjustment came as investors re-considered the effect of industry consolida-tion and the rollout of the National Broad-band Network on industry profitability. Low margins in broadband caused a ripple effect in mobile with more intense competition from industry players seeking to gain share of the mobile profit.

The absence of Banks from the top quartile continues from previous years. In the last 10 years, the only top quartile list to feature a

bank was in 2013 when the Commonwealth Bank of Australia ranked 39th. Energy has only had one representative in the top quar-tile in the last two years, a symptom of soft oil and coal prices during the past five years.

Information technology was the most over-represented sector in the top quartile, with 63% of companies in the sector making the top quartile. The sector represents an ar-ray of high-growth tech and software compa-nies, and their revenue growth was the domi-nant driver of outperformance.

Range of returns varied by sectorConsumer Discretionary had the largest range of the sectors, with 64 percentage points between the top and bottom perform-ers. Some of the variation is explained by the increasing importance of digital commerce, and the different degrees to which companies could capitalise on it successfully. Companies such as Dominos, Fairfax (with Domain) and Webjet made successful digital plays and per-formed well. Other companies struggled as customers shifted online. Examples include Seven West Media, Southern Cross Media, and Super Retail Group.

Mining/Materials had the second largest range between top and bottom performers at 59 percentage points. Information technology came next, with 54 percentage points be-tween the top and bottom – largely due to outperformance at the top end of the sector.

At the other end of the spectrum, Utilities had the smallest range of variation in returns at 8 percentage points. This reflects the high-ly regulated, mature nature of the sector. Banks had the second lowest range at 10 per-centage points, unsurprising for an industry heavily affected by external market factors.

How top performing companies create valueMaintaining top-quartile performance for consecutive five-year periods is hard to sus-tain (see “How Top Value Creators Outpace the Market – for Decades”, a BCG report, July 2017). Only 26 of the companies from last year’s top-quartile list of 40 remain in the top quartile this year. Only four companies have

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been in our list for five years in a row: Magel-lan Financial Group, Northern Star Resources Limited, Domino’s Pizza Enterprises Limited and REA Group Limited.

The likelihood that a company can beat the market by a wide margin year-in and year-out is low. For companies in high growth indus-tries, the value creation priority is to ‘beat the fade’. High-growth companies need to signifi-cantly outperform expectations, because capi-tal markets look forward and continually cap-italise expected future earnings into today’s stock price. At the other extreme, companies in mature industries often focus on driving value creation by improving efficiency, allo-cating capital prudently and returning cash to shareholders rather than investing it in low-return growth opportunities. These com-panies may also focus on growth opportuni-ties outside the legacy business.

To demonstrate different approaches to value creation, we looked more closely at six com-panies in the top quartile: Domino’s Pizza, Fisher & Paykel Healthcare, SEEK, Xero, Qan-tas, and Fairfax Media.

Domino’s Pizza, Fisher & Paykel Healthcare and SEEK are all companies that began 2013

with high growth expectations; each had an EV/EBITDA multiple above 12x. Each signifi-cantly outperformed these growth expecta-tions to ‘beat the fade’. Growth in internation-al markets was a common theme across all three, and compounded by a weakening Aus-tralian dollar over the five years.

Domino’s enjoyed a surge in the home-deliv-ery market, but not without intense competi-tion from aggregators such as Deliveroo, Menulog and Uber Eats. Domino’s expanded its menu to stay relevant, and used its control over end-to-end economics to push growth and protect margins. Over the past five years Domino’s revenue grew at 32% each year on average. Looking ahead for the company, de-bate continues around how heightened com-petition will affect revenue growth, and how the Fair Work’s review of wages and the Aus-tralian Parliamentary inquiry into franchising may impact margin.

Fisher & Paykel Healthcare not only outper-formed on profit growth, but also built expec-tations of significant future growth. The com-pany developed a leading R&D approach, using proven capability to produce differenti-ated, popular products. The company deliv-ered 13% year-on-year revenue growth over

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the last two years, and the market expects this strong growth trend to continue.

Similarly, SEEK grew both profit and multi-ple. Profit growth was underpinned by solid revenue growth in Australia and growth from international expansion. SEEK’s EBITDA margin decreased during the period as man-agement prioritised growth over improved margins. Internationally, SEEK expanded into Asia and South America over the five-year

period, investing heavily in overseas assets. In the local Australian market, SEEK experi-enced organic revenue growth despite strong competition from global players such as In-deed.com and LinkedIn. SEEK’s domestic growth has been driven by continuing to in-novate and develop its platform.

Xero began the five-year period still in its early stages of revenue growth. Given Xero’s high-growth nature, its share price is depen-dent on expectations that stretch well into the future and are highly sensitive to chang-ing assumptions for long-run growth and profitability. Xero’s TSR over the five years to December 2017 was driven by higher investor confidence in long-term customer numbers,

revenue per customer, and profitability. Over the period, Xero proved that it could grow steadily in Australia and the UK, and that the business has a pathway to profitability by de-livering a positive EBITDA for the first time in the half-year ending September 2017.

Qantas sits on the other side of the growth maturity spectrum, entering 2013 with an EV/EBITDA multiple of 4x. During the five fol-lowing years the company launched a bold

turnaround effort, driving significant margin advantage versus competitors with a smaller workforce, simplified fleet, consolidated maintenance centres and reduced operation-al costs. The company returned the addition-al cash from improved margins to sharehold-ers by increasing dividend payouts and share buy-backs. Qantas generated modest overall revenue growth by growing outside the lega-cy business in Qantas Loyalty and Jetstar. For more detail see “The Comeback Kids: Lessons from Successful Turnarounds” a BCG report, November 2017.

Fairfax entered 2013 with its core business of print media in steady decline and an EV/EBITDA multiple of 5x. Facing deteriorating

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margins and revenues, Fairfax accelerated growth of Domain in digital. In 2013 Domain represented around 30% of Fairfax’s enter-prise value. By the end of 2017 it represented around 70% – even after 40% was spun off in late 2017. At the end of 2017 Domain’s EV/EBITDA multiple was nearly 4 times that of the legacy business (Fairfax was at 5x EBIT-DA and Domain at 18x EBITDA). As well as growing Domain, Fairfax shrunk property, plant and equipment associated with the leg-acy business by 70%, or almost $400m over the five-year period to return cash to share-holders. At the time of writing, Nine Enter-tainment and Fairfax had entered into a Scheme of Arrangement to merge the two companies, with the proposed transaction to be implemented by Nine acquiring all Fairfax shares. For coverage of a US media turn-around, see “Gannet: A TSR Turnaround in the Making”, a BCG article, July 2014.

Three steps to superior resultsThese six companies demonstrate a variety of ways to create value. Regardless of the path-way a company takes, the same best-practice approaches apply to achieving superior re-sults. BCG experience shows that value cre-ators typically do three things to consistently deliver superior results.

• First, they focus explicitly on the goal of outperforming peers on TSR, normally over three-to-five years.

• Second, they make use of all of the TSR drivers – revenue growth, maintenance or expansions of profit margins, generation and allocation of free cash flow, and the management-controlled factors affecting multiple. They reassess the priority assigned to each one as the market changes.

• Third, they recognise the need to continu-ally re-examine and periodically realign their business, financial, and investor strategies and priorities as part of the ongoing corporate strategy process.

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APPENDIX: TSR BY SECTOR

The Boston Consulting Group | 23

The 2017 Australian Value Creators Report is produced by BCG’s Corpo-rate Development Practice.

Damien Wodakis a Partner and Managing Director in BCG’s Melbourne office and leads the firm’s Corporate Develop-ment Practice Area in Australia and New Zealand.

Daniel Selikowitzis a Principal in BCG’s Sydney office and a core member of the firm’s Corporate Development Practice Area.

James Little is a Consultant in BCG’s Melbourne office and a core member of the firm’s Corporate Development Prac-tice Area.

About BCG’s Corporate Development Practice AreaBCG’s Corporate Development Practice helps clients with a range of issues on senior management's agenda through our Center for Val-ue Acceleration, our Transaction Center and our Center for CFO Ex-cellence.

We assist clients with value accel-eration, on topics including corpo-rate portfolio and growth strategy, capital allocation, TSR strategy, shareholder activism, and restruc-turing/TURN & transformation ac-celeration.

We support clients with corporate transactions, including mergers and acquisitions, post-merger inte-grations, carve-outs, initial public offerings, spin-offs, joint ventures and alliances.

We support CFOs and the finance function across a range of topics, including CFO on-boarding, digital & financial transformation, perfor-mance management, and finance process improvement.

ABOUT THE AUTHORS

24 | SECTORS IN AUSTRALIA DIVERGE

AcknowledgmentsThe authors would like to acknowl-edge the contributions of Simon Murphy, Sam Stewart, Grant Mc-Cabe, Alexander Koch, Simon Pitt, Eliza Spring, Hady Farag, Marissa Lynch and Rebecca Diepenheim to the writing and production of this report.

For Further ContactFor further information about the report or about BCG please contact:

AustraliaDamien WodakPartner and Managing Director,Corporate Development Leader,Australia and New ZealandBCG Melbourne+61 3 9656 1000wodak.damien@bcg.com

NOTE TO THE READER

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FOR FURTHER READING

The 2018 Value Creators RankingsA BCG report, July 2018

How Top Value Creators Outpace the Market – for DecadesA BCG report, July 2017

The Comeback Kids: Lessons from Successful Turnarounds A BCG report, November 2017

Gannet: A TSR Turnaround in the MakingA BCG article, July 2014

The 2018 Value Creators RankingsA report by the Boston Consulting Group, July 2018

The 2016 Australian Value Creators Report: Shareholder Value Creation through

Persistent UncertaintyA report by the Boston Consulting Group, March 2017

The 2018 TMT Value Creators Report: Hardwiring Digital TransformationA report by the Boston Consulting Group, February 2018

How Top Value Creators Outpace the Market – for DecadesA report by the Boston Consulting Group, July 2017

Four Ways Banks Can Radically Reduce CostsA report by the Boston Consulting Group, June 2018

Value Creation and Corporate ReinventionA report by the Boston Consulting Group, December 2017

Creating Value from Disruption (While Others Disappear)A report by the Boston Consulting Group, September 2017

The 2017 M&A Report: The Technology TakeoverA report by the Boston Consulting Group, September 2017

Creating Superior Value Through Spin-OffsAn article by the Boston Consulting Group, February 2016

Winning Moves in the Age of Shareholder ActivismA focus by the Boston Consulting Group, August 2015

26 | SECTORS IN AUSTRALIA DIVERGE

© The Boston Consulting Group, Inc. 2018. All rights reserved.

For information or permission to reprint, please contact BCG at:E-mail: ANZMarketingMailbox@bcg.comFax: +61 2 9323 5600 Mail: BCG Marketing The Boston Consulting Group Pty Limited Level 41, 161 Castlereagh St Sydney NSW 2000 Australia

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