Emma Wall: Hello, and welcome to Morningstar. I'm Emma Wall and I'm joined today by Killik & Co's Rachel Winter to give her three stock picks.
Hi, Rachel.
Rachel Winter: Good morning, Emma.
Wall: So, what's the first company you would like to highlight today?
Winter: The first one is Spotify, which joined the stock exchange fairly recently, back in April. It's the world's largest music streaming platform. It's more popular than both Apple Music and Amazon Music. Growth rates are very impressive. And it's got a huge reach among millennials, so those under the age of 34. More than two-thirds of Spotify subscribers are below that age and that's a target that advertisers are particularly keen to reach. So, we think that really gives some value to Spotify.
And I think it's quite interesting to compare the value of Spotify as a company to the value of Netflix. So, if we look at Spotify, as of December 2017, the company had 86 million nonpaying subscribers, so those can listen to Spotify and they can be targeted by adverts. And then it also has 71 million paying subscribers. So, they pay a monthly subscription. And Spotify has a market cap of about $29 billion. Then we look at Netflix; they haven't got that many more subscribers. They have got about 118 million, but their market cap is $157 billion. So, I am questioning whether those valuations should be so different and whether Spotify should in fact be worth more.
Wall: Now, there has been quite a lot of consolidation within the tech sector. Do you think that Spotify is either a target for acquisition or indeed maybe looking to acquire some of its smaller rivals within the space?
Winter: Difficult to say. There have been some rumours that perhaps Amazon or Apple might want to acquire them. But very early days. I mean, they only joined the stock exchange back in April. On the other hand, I think, perhaps some people might be getting a bit tired of getting all of their tech from the same companies. They are perhaps a little bit tired of some of those big brand names. And I think some people, particularly the millennials, are quite keen to be supporting a newer more innovative company and that's why some people are keen to use Spotify.
Wall: And what's the second stock you would like to pick today?
Winter: Second stock is the world's largest chemicals company. It's called BASF. It's a German business. It's been going for decades. It's very old, established. It has a good stable dividend of about 3.6%. But we think there are three reasons why this company could grow.
The first one is that demand for chemicals tends to be quite highly correlated with industrialisation. So, as we see developing economies becoming more developed, we think there will be more demand for chemicals. So, that would be good for BASF.
The second is that they have done very well from working on bespoke products and bespoke chemicals for a particular client. So, one example is, they made that cushion insole that goes into those Adidas Boost trainers. So, they did very well from that and they have got a number of similar projects on the go.
And the third is that they are actually quite involved in oil and gas. So, about 5% of their revenue comes from oil and gas. They are a very low-cost producer. So, at the moment, with the oil price around $75 per barrel, that particular division of the company will be doing very well indeed.
Wall: Our analysts here at Morningstar expressed some concern that should there be consolidation within this sector that BASF maybe left at a disadvantage to some of its larger rivals. What do you say to those concerns?
Winter: I think it's true that the larger rivals perhaps are more well-placed. So, over the last couple of years they have been cutting their costs quite significantly and they do have perhaps a lower cost per barrel. But all the same, BASF, it does still have a cost per barrel of production that is much lower than the current price to oil can be sold for. So, I still think they will be making a lot of profit from producing oil at the moment.
Wall: And what's the third stock pick today?
Winter: The very last one is quite relevant to the last question, it is a large integrated oil company. So, it's Total. It's a French company. It's the fourth largest oil company in the world. And at the moment, we like it because its cost of production is so low. So, over the last two years, it's been very successful at cutting costs out of the business and at the moment, its breakeven cost per barrel of oil is about $27. So, at the moment, with oil at $75, they are making a huge amount of money. And actually, they forecast their future profits and their future dividends on oil being about $55 per barrel. So, as long as it stays above that, the company will be doing very well. And at the moment, as I said, with oil at $75, the company is doing very well indeed.
Wall: Rachel, thank you very much. This is Emma Wall for Morningstar. Thank you for watching.
