Friday, July 30, 2010

A Scary GDP Number

A quick look at the GDP data today is not encouraging.

GDP was up 2.4% in the quarter. That is not a great start.

Then you look closer and see that 1.1%  - almost half - was inventory rebuilding. Real demand-led GDP, then, was something more like 1.3% and who knows what percentage of that could be tied to government-related stimulus and so on.

Why does that matter? Generally we need to see demand growing above 2% before companies need to add workers.So, if this is the sort of economic growth we can expect, we are going to have persistent unemployment (and persistent low interest rates) for some time. That is not as bad as inflation, nor as bad as deflation, but it is a dark-grey "muddle through" that will not be very exciting and will make stock-picking a real challenge.

We will, of course, see what happens in the second half of the year, but I would be worried about seeing a round of earnings guidance declines either in August or with the third quarter earnings cycle. I just do not see how 1%-ish demand growth can support the guidance we have been hearing from companies this quarter, and exports are not strong enough to take up all that slack.

Uncertain times, my friends...

Old Dominion - Sometimes The Best Is Not Good Enough

I am a little late getting this analysis of Old Dominion (Nasdaq: ODFL) up, but I hope it is better late than never. ODFL is a stock I owned (profitably) years ago and still like to follow - I think it is hands down the best less-than-truckload (LTL) carrier out there. Nevertheless, being the best in your business does not necessarily mean the stock is worth buying.

It was a solid second quarter for ODFL. Revenue rose 16.5% to 368M, and handily beat the estimate of $359 million. This revenue was produced by a nice increase in tonnage (up over 13%), offset by a decline in fuel-adjusted pricing (down about 1%). That weak pricing environment is one of the big worries in this space - although ODFL has not matched smaller rivals in taking bad pricing just to keep the trucks running, they have not been able to escape it all together.

Where ODFL really shined this quarter was in its cost control. The company's operating ratio (basically the opposite of operating margin) improved more than 400 bp to 89.1%. Lower non-cash charges (mainly depreciation) helped a lot, but the company also saw quite a bit of improvement by holding down wage growth and compensation costs.

Management was a bit cautious about the second half of this year, and given the economic news that has come out this week that seems reasonable. I am not sure that LTL carriers like Old Dominion are any better "tells" on the economy than truckload carriers like Knight (NYSE: KNX) or Heartland Express (Nasdaq: HTLD), but it stands to reason that LTL would be tied more closely to the tenor of small business (since they cannot afford to send out whole truckloads at a time). Either way, I would not be surprised to see continued pricing weakness this year, though weakness in tonnage would definitely be a bad sign for the economy.

Trying to value Old Dominion and assess its future is pretty tricky. The company has spent most of the last decade building up its business. It takes somewhere around 250 - 300 service centers to operate a national LTL business, and Old Dominion started the year with about 210. So even though ODFL will always have to spend on new equipment (trucks, trailers, etc.), the big build-out is close to an end. That means cash flow leverage.

Also, even though ODFL is a rather efficient operator in the LTL space, they are not the top in all metrics. Rival Con-Way (NYSE: CNW) seems to produce considerably more revenue per service center than ODFL (about 2.5 to 1). Now, ODFL is ahead of the likes of Arkansas Best (Nasdaq: ABFS) and there may be idiosyncrasies with Con-Way that make a straight-up comparison misleading, but it still seems to me that ODFL can (and should) get more leverage out of their infrastructure. If they do that ... more cash flow.

So, all of that being said, I still run into a wall when it comes to evaluating ODFL on a cash flow basis. Even allowing for significant free cash flow leverage (free cash flow margin moving from a historical level of -3% to 6% over five years, with above-trend growth in the five years after that as well), I get a DCF-derived price that is about 10% below today's level. Turning to an alternative methodology, forward EV/EBITDA valuation, I get a target of $45.50 (using a 7x forward multiple). That is certainly better, but still not enough to excite me.

All in all then, Old Dominion is a good company that is priced like one. I might be interested if it pulled back 10-20%, but there is just not enough potential here to get me to buy.

Financial Edge: The Biggest Corporate Image Catastrophes

It is a dubious testament to the well-greased PR machine of the corporate world that the general public tends to accept all manner of corporate malfeasance and blundering with barely a second look. But despite spending millions of dollars on PR, some companies still manage to muddy their reputations with tone-deaf responses to trouble. Let's look at some of the most egregious PR offenders of recent days.

1. BP
BP's (NYSE:BP) handling of the well explosion and subsequent oil spill in the Gulf of Mexico is going to go down as a classic case of horrible corporate public relations. Even though BP tried to stop the leak as soon as physically possible, tone-deaf comments from the now-former CEO quickly led to a thundering backlash. Much as Exxon Mobil (NYSE:XOM) never completely out-ran the legacy of the Valdez oil spill, it's likely that BP will always be stained by how it handled this accident. (For more insight on how much this type of disaster can cost, see The Most Expensive Oil Spills.)

2. Goldman Sachs
When the Blues Brothers told people they were on a mission from God, it became a classic line of cinema. When the CEO of Goldman Sachs (NYSE:GS) said words to basically the same effect, he became People's Exhibit A for the hubris of Wall Street. Later, when the public learned that Goldman was allegedly misleading some of its customers, paying huge bonuses and essentially lecturing the government on how things ought to be, the public said "enough". Truth be told, Goldman did not do anything new or anything that its peers have not done - it was just clumsy enough to do it in front of microphones at precisely the time when the public wanted contrition and modesty. (Find out more about why Goldman came under fire in The Goldman Sachs Accusation Explained.)

For the full column:

Praxair's Success Not Just Hot Air

I have been somewhat obsessed with trying to figure out the real tenor of the economy during this earnings season. Specialty chemical companies like Albemarle (NYSE:ALB) have been strong, coal companies like Peabody (NYSE:BTU) have been reasonably positive and industrials like Dover (NYSE:DOV) have had pretty solid guidance. In fact, the only major notes of caution have been from steel companies like Nucor (NYSE:NUE). 

Industrial gas provider Praxair (NYSE:PX) goes solidly in the camp of "good news for the economic recovery". Although industrial gas companies sign customers to long-term contracts and do not tend to be quite as cyclical as you might immediately think, the volume growth that this company is seeing is nevertheless a pretty strong testament to growing economic activity around the world. 

To read the full piece, please go to:

Another Solid Performance From PRAA

Portfolio Recovery Associates (Nasdaq: PRAA) is my second-longest held position, and the company has never really given me a good business-related reason to think about selling. The accounting here is admittedly a bit "advanced" and the stock probably is not right for everyone, but it is a business (debt collection) I really happen to like.

Revenue rose 31% this quarter to $93M - about 10% ahead of the hurdle laid out by the analysts. Net income, though, climbed 67% (to $19.5M), and the company's EPS of $1.14 handily beat the estimate of $0.93. Cash collections jumped 42% to $128M, while the company spent $87M on new paper (with a face value of $1.67B).

For the quarter, call center collections (the largest segment; about 42% of all collections) were up 9%, while the company's internal legal collections (an area of growth that the company is focusing on) were up 167% to $11M. For the quarter, 40.1% of cash collections were applied to amortization - down slightly from 40.3% last year, and still pretty high relative to the levels of a few years ago.

Looking out a bit, I do not see any reason to think that PRAA is going to be hurting for product. Major card issuers like US Bancorp (NYSE: USB), Wells Fargo (NYSE: WFC), Capital One (NYSE: COF), and JP Morgan (NYSE: JPM) have a lot of bad credit card paper on their books and they are eventually going to get rid of it - and it stands to reason that if the market leaders have this issue, so too does almost everyone else. So even though we keep reading about declining bad debt charge-offs, that needs to be seen in the context that the absolute levels are still quite high.

On top of that, management says that the purchasing environment is still relatively attractive. This, frankly, is my biggest fear - if the company cannot buy enough charged-off collections at a good price, the future growth of the company gets dicey.

Elsewhere, though, the company's dynamic scoring process still seems to be paying off in terms of enhanced productivity, and the expansion into more bankruptcy business should help. Bankruptcy business is not as lucrative in terms of the ratio of collections to purchase price, but it takes less work to get the money and it offers an annuity-like stream of cashflow.

There is a little external risk here as well. It seems like some states are looking to crack down harder on debt collection. I do not see this being a huge risk to PRAA, though. States generally acknowledge that businesses must be allowed to collect on bad debts, and it is really only the abusive collectors that are at risk. PRAA wisely chooses to avoid that route, so I think more regulation could actually force some companies out of business and reduce PRAA's competition for purchasing charged-off receivables.

PRAA has been on a pretty good tear lately and my old target of $74 does not offer much upside at all. I have not yet run the numbers on a new price target, but I cannot imagine that I will raise it enough that it would be a good idea to recommend others get in at these prices.

That, in turn, is going to lead to some deep thinking for myself - do I go ahead and cash in these shares (and pay the capital gains) and move into a more undervalued-idea, or do I sit tight and accept a lower expected return than I normally take? I always hate selling the stock of companies that are doing well (and have pretty much always done well), so it is not going to be a simple decision.

Disclosure - I own shares of JP Morgan and PRAA.

Sanofi Has To Do Something

The problems facing French drug giant Sanofi-Aventis (NYSE:SNY) these days are nothing out of the ordinary for the big-cap pharmaceutical sector. The company is facing some major generics competition and has very little in the way of potential blockbusters to immediately replace that revenue. On top of that, Wall Street's growth addiction has left the shares languishing.

The question now, though, is what Sanofi's management is going to do about it. Whatever decisions they make are going to have a tremendous influence on whether shareholders can wait patiently for this stock to recover.

To read the full piece:

Quest Software (Insert Monty Python Joke Here)

When I decided to push a sizable chunk of my cash into the market a few months ago, I basically walked right into a buzzsaw (thank you, Monsanto (NYSE: MON)!). One of the stocks I picked up then that *has* worked is Quest Software (Nasdaq: QSFT) and last night's earnings report has me feeling a bit happier than usual going into the weekend.

Revenue in the second quarter rose about 13% to $186M. That is not an eye-popping result, but it was almost 10% better than the average guess on the Street. Quest also produced about 350 basis points of operating margin improvement (non-GAAP), and a four-cent beat on EPS.

Digging a bit into the details, license revenue jumped 25% from last year, and I am glad to see this. License revenue growth has been a bit sluggish of late, and it is hard for me to see how the stock goes higher without a revival in this line-item.

Service revenue rose 6% year over year, while maintenance revenue rose 4%. I would like to see a better performance here, but I am not going to worry about it just yet.

The company's Windows business, its largest segment, was also its best grower. Although the database business did show the same magnitude of growth, at least it is growing again. The company's virtualization business did pretty well this period, but at about 10% of the total revenue base it does not really move the needle yet.

Along with earnings, the company announced the acquisition of Surgient - a company that specializes in the deployment and management of secure cloud infrastructure platforms. Given that this is basically "tools for cloud", it makes sense that Quest would be interested. As the IT world moves more and more towards the cloud approach, Quest is going to need to have tools available if it wants to maintain its growth prospects.

All in all, not much changes with this quarter, other than that I feel a little more comfortable with the "return to growth" scenario that motivated my initial purchase of the shares. The risks here are likewise still the same - that large vendors like Microsoft (Nasdaq: MSFT), IBM (NYSE: IBM), and Oracle (Nasdaq: ORCL) will squeeze Quest out of the market by incorporating more free tools into their products, and/or that others like BMC (NYSE: BMC) and CA (NYSE: CA) will basically just out-compete Quest.

Of course, counter-balancing that is the possibility of Quest getting a "if you can't beat them, buy them" bid.

I am still long Quest and I still think the shares are worth upwards of $26 a share. Please note, though, that my history in software stocks is gruesome - I bought Quest mostly as an experiment in a new way of approaching and analyzing the sector, so we will see how that works out.

Disclosure - I own shares of Monsanto and Quest Software

Thursday, July 29, 2010

Profit From Teva's Travails

Without question, I have made more money by investing in stocks beaten down by over-heated worries than any other way. This comes to mind when I look at Teva (Nasdaq:TEVA), the world's largest generic pharmaceuticals company. While Teva management seems to be addressing these concerns as directly as they can, the stock's valuation suggests that investors might still have room to profit from Wall Street's lingering doubts. 

The Quarter That Was
Teva's June quarter certainly did not provide any particular causes for concern. Revenue rose 12% to $3.8 billion, as the company saw high-teens growth in the North American business. Teva's largest single product, the MS drug Copaxone, saw revenue grow 13% to a bit under $800 million, as strong North American sales offset weaker European results. 

The profit side of the ledger was likewise solid and mostly uneventful. Gross margin ticked up a bit, but the company saw good leverage on the sales and marketing lines. Some of this improvement was a result of synergies from acquisitions (including Barr), but some as well came from the end of payments to Sanofi-Aventis (NYSE:SNY) relating to Copaxone. The end result, then, was 22% operating income growth and 30% EPS growth. 

To read the complete column, please click through to:

Silicon Labs Gets A Bit Interesting

I realize that the only way I am ever going to own Silicon Labs (Nasdaq: SLAB) again is if I buy the stock on a sell-off because of growth worries. Well, maybe that is what we have now after the second quarter earnings report and guidance.

SLAB had an okay second quarter; revenue was up 6% sequentially and up 29% from last year's level. Less exciting, though, was the fact that the company's revenue was pretty much in line with the average analyst guess - let's face it, people want "beat and raise" these days. The company saw good strength in microcontrollers, tuners for TVs, and audio chips, but the broadcast business was soft and there was weakness in set-top boxes and voice-over-DSL.

SLAB did do alright on profitability, though. Gross margins ticked up 150bp and the company delivered good EPS growth relative to expectations.

The big problem for SLAB was guidance. The company actually lowered its third quarter guidance to a point below the prior guess. That is tantamount to a cardinal sin these days. Weakness is coming from a sharper fall in FM tuners and bad prospects for the European telecomm sector. All in all, these are not fatal issues and underlying themes like SLAB gaining share in MCUs by integrating peripherals with its MCU core are still intact.

So, when I run a valuation analysis I get a price target of $48.50 - about 18% below today's price. That is not good enough to move me to "buy", but it is pretty close; close enough, certainly for "watch this very carefully". I already own (and still prefer) Microsemi (Nasdaq: MSCC) mostly because the expectations and valuations on MSCC are relatively so soft. I could also get behind taking a look at names like Linear Tech (Nasdaq: LLTC) or Analog Devices (NYSE: ADI) on a relative outperformance/relative value basis.

And not to be left out, ON Semiconductor (Nasdaq: ONNN) is still one of my all-around favorite semiconductor names in general. When I bought MSCC a few months ago, it was a veritable coin flip between MSCC and ONNN.

Back to SLAB ... this is a name that I could see trying to own through a whole semiconductor cycle, even though a lot of people would argue that it is silly to hold a name that you *know* is going to have wild ups and downs. My problem with that is that I have tried to guess the cycles before and I have been wrong (like most analysts have been trying to guess the cycles on a name like Intel (Nasdaq: INTC). Much as it hurts to own a stock during a 20% or 30% pullback, it is arguably even more maddening to sell a stock and see it jump another 25%.

All in all, SLAB is really close to a price that is really interesting. But with so many ideas to choose from, I am not jumping on "close" today.

Disclosure - I own shares of MSCC

Thermo Fisher Gets Cool Reception

The movements of stocks immediately after earnings releases can be so visceral and idiosyncratic that sometimes investors are better off ignoring the noise. Such would seem to be the case for life sciences company Thermo Fisher (NYSE: TMO). Although the stock sold off sharply after earnings, the outlook for this company was not all that bad, and Wall Street's overreaction may give patient investors an interesting long-term opportunity.

The Quarter That Was
Thermo Fisher is never going to be confused with the likes of Illumina (Nasdaq: ILMN) or Luminex (Nasdaq: LMNX) - Luminex is a more diversified, slower-growing play on global life sciences technology. To that point, sales rose more than 6% this quarter, with organic growth a bit below 5%. While Thermo was hurt by weakness in the healthcare and biopharma sectors, and difficult year-over-year comps caused by the H1N1 flu outbreak last year, the industrial side of the business did well. (Learn more about the healthcare sector; see Investing In The Healthcare Sector.)

For the complete piece, please go to:

Wednesday, July 28, 2010

Has Fluor Built Its Foundation?

Last week, we heard from Nucor (NYSE:NUE) and Steel Dynamics (Nasdaq:STLD), and both companies were pretty cautious about business conditions in the second half of 2010. Since both companies are leveraged to commercial construction, that is relevant. The engineering and construction industry, though, looks as though it might be building a base and perhaps getting ready to rebound.

Analysts seem relatively confident that capital spending is going to resume in the energy market, mining projects continue to go forward, and there is a general assumption that we are seeing the worst in the government-funded infrastructure business (so it will start to get better).

Interestingly, Fluor's (NYSE:FLR) stock tracks those steelmakers relatively closely, so who should we believe? Are the engineering companies (and steel) simply building a base for a second half rally, or are we looking at a sluggish environment for the next six months?

To read the full column, please go to:

Illumina A Bright Spot In Its Industry

Sometimes a theme can be completely valid, and yet most investors make no money from it. Investing in bleeding edge life sciences research is a good case in point. There is no question that researchers are gaining insights every day that have already led to changes in how the medical community approaches disease and how healthcare companies approach research into new drugs.

What is more questionable is whether individual investors have profited from it all. If you invested in Affymetrix (Nasdaq:AFFX), Caliper (Nasdaq:CALP) or Helicos (Nasdaq:HLCS), you might have a very different perspective on the industry. But, if you have invested in Illumina (Nasdaq:ILMN), you have done quite well over the last five years. And looking at the second quarter, it looks like those who have stuck by Illumina thus far still have a good reason to hang on.

For the complete piece:

Recovery? Specialty Chemicals Lead The Way

Although consumers are not necessarily feeling much better yet, the recovery in the industrial side of the economy seems to be real. Over the last week or so, we have seen several large industrial concerns report strong earnings and cautiously optimistic guidance. Turning to one of the basic feed stocks of industry, specialty chemicals, we see a similar trend at work. Let's take a look at some of the top-performing
companies in this sector.

Albemarle (NYSE:ALB) is mostly a niche producer of specialty chemicals, but do not be fooled into thinking that "niche" is somehow a bad word. Albemarle is a leading producer of refinery catalysts, fire retardants and pharmaceutical inputs and those can be lucrative segments.

For the complete article, please go to:

Arch Capital - A Weak Market Will Take Its Toll Eventually

I do not doubt that Berkshire Hathaway (NYSE:BRK.A) investors will take issue with me, but I think Arch Capital (Nasdaq:ACGL) might just be the best reinsurance company in the business. Unfortunately, even the best player in an industry only has so much room to maneuver if industry conditions stay bad enough for long enough. 

All that being said, this is clearly a case of "be careful what you wish for" - Arch Capital could certainly use a harder market (that is, a market where rates are climbing), but those come at a cost. Harder markets usually come around because of large accident payouts, and there is always the risk that your company is one of those caught making the payments.  

For the full piece, please go to:

Tuesday, July 27, 2010

Weird Insurance Bets Worth Millions

Prior to the meltdowns in credit default swaps, mortgage bonds and various derivatives, most people regarded insurance as a fairly sedate business. The actuarial analysis that goes into predicting when people will die, crash their cars or have a fire requires exceptional statistical skills, but most people's eyes glaze over at the thought. So why not take a little look at the wilder side of insurance? (Learn all the essentials of this industry in our Insurance Tutorial.)

Specialty Lines - A Quiet Name for a Wilder Segment
 Some of the most interesting (and amusing) policies in the insurance world are grouped under what the industry calls "specialty lines". While terms like life insurance, car insurance, and flood insurance pretty much mean exactly what they sound like, specialty lines is more like industry code for "a large disorganized jumble of weird, idiosyncratic and yet still lucrative insurance policies".

Sell 'em for Parts
One of the most famous sub-categories of specialty lines insurance is body part insurance. Plenty of people have heard the stories of singers like Bruce Springsteen or Celine Dion ensuring their voices (or vocal chords) or actresses like Heidi Klum, Tina Turner and Betty Grable insuring their legs. Sometimes the performer takes the initiative, while in other cases it may be a company doing so - in the case of Heidi Klum, Braun - now part of Procter & Gamble (NYSE:PG) - took out the policy when Ms. Klum signed on as a celebrity promoter.

To read the full column:

A Tale Of 3 Banks

Three notable banks - U.S. Bancorp (NYSE:USB), Wells Fargo (NYSE:WFC) and M&T Bank (NYSE:MTB) - all reported earnings last Wednesday. As has been the case throughout this earnings season, there were a lot of moving parts in all of these reports, but a few trends seem to be common across the sector. Banks are seeing improvement in net interest income, minimal loan growth, and tentatively improving credit quality. 

The Tale of Tables 
To simplify some of the comparisons, I am providing some of the reported financial information in the following tables. Please note that there is "wiggle room" in bank financial reports, and not all analysts will adjust the numbers in the same way, so there could be a bit of variability in the numbers, but I applied the same formulas in all cases, so the comparisons should remain valid.  

For the full piece, please click below:

Monday, July 26, 2010

How Cool Is Ingersoll Rand?

Last week was more or less a week of good news on the industrial side of the North American economy. Companies like General Electric (NYSE: GE), Honeywell (NYSE: HON), Caterpillar (NYSE: CAT), and Dover (NYSE: DOV) all reported earnings that were generally strong and encouraging. 

Among that group was Ingersoll Rand (NYSE: IR), whose earnings and guidance were likewise solid and above expectations. I do wonder, though, whether this is really good news in the grand scheme of things. After all, Ingersoll Rand has a reputation for being a later-cycle company. So, if Ingersoll Rand is starting to see stronger business, does that mean we have already seen the best of what has been a weak recovery?

For the full piece, please go to:

Femsa - Better Than It Looks

Mexican beverage and c-store company Femsa (NYSE: FMX) has never had the easiest or cleanest financial reports, but this quarter was a little worse even by that dubious standard. Because of the company's decision to sell its beer operations to Heineken, there are all sorts of charges, expenses, and tax ramifications.

Sorting through all of that, though, it was actually a pretty solid quarter.

Revenue was down ... but it actually was not. If you strip out the Cerveza business, revenue rose 8%. The Coca-Cola Femsa (NYSE: KOF) side showed about 4% revenue growth, while the Oxxo c-store business grew the top-line by 16%. Of that, same-store sales growth was above 5%. Oxxo certainly is not getting a boost from the fact that so many of its stores are in states where drug violence has been especially bad, but it is not as though the Mexican people are hiding in their homes all day.

Margins did all right across the board, and the company posted EBITDA growth of about 7%. Expenses were definitely hurt by the Heineken deal, though, so results are not nearly as stagnant as they seem at first glance.

The next big question for Femsa is how they use their cash. A dividend or buyback is not out of the question, but of course I would rather see the company reinvest it into the business.

Femsa has been a very good stock for me over the years, and I am in no rush to sell now. I accept and expect that the company will never get its full due - not unless it splits itself in two and loses that "conglomerate discount". But that does not mean I cannot continue to expect, and get, solid gains from the stock. The growth profile here is not quite what it once was (there is room to grow Oxxo further, but not as much as before), but it is still certainly good enough given current valuation.

Disclosure - I own shares of Femsa

Dover Does Diversification

As a former equity research analyst, I do not usually have much sympathy for my peers. A notable exception, though, is when I look at companies like Dover (NYSE: DOV) - I really do not envy the analysts who have to try to monitor the myriad markets in which this industrial and technological conglomerate operates.

Fortunately, though, everything seems to be working out right now. With tendrils reaching into so many corners of the economy, Dover could still prove to be a solid play on the overall economic recovery that will come sooner or later. 

For the full piece:

FinancialEdge - 10 Investing Tips From Heavy Metal

Do you love pyrotechnics, seemingly unlimited lung capacity and amplifiers that go to 11? If so, you may also find that beneath the long hair and studded leather, there is sage investment advice within heavy metal.

10. "Master of Puppets" Metallica (1986)
"Master of puppets, I'm pulling your strings 
Twisting your mind and smashing your dreams."

Lesson: Think for Yourself
Ultimately, you are the one who will profit or lose by your decisions. Make sure then that your investment decisions come from a well-reasoned, rational place and not emotion or superficial analysis. It is easy to be swept up in the currents and eddies of the market, but once you give into the group-think, you are truly vulnerable.

For the full column:

Big OIl Looks To Prevent Another Oil Catastrophe

Give the energy industry titans a little credit - they learn slowly, but they do learn. Late Wednesday, four major international energy companies announced a joint venture aimed at developing and preparing equipment to handle future oil spills in the Gulf of Mexico (and perhaps in other offshore locations as well).

As it stands now, the agreement includes Exxon Mobil (NYSE:XOM), Royal Dutch Shell (NYSE:RDS), Chevron (NYSE:CVX) and ConocoPhillips (NYSE:COP). Each company will contribute $250 million to the venture, which will be called Marine Well Containment Company and established as a non-profit entity.

For the full column:

Of course ... by taking this step, these companies guarantee that the next major disaster will be something completely different and will leave them flat-footed. 

Nucor Not In The Clear

After a few years as an equity analyst, you get a little jaded about management guidance. Some managers are perpetual optimists who always promise and never deliver. Others are more like perpetual Eeyore's and never see anything good happening. 

And then there is the management of Nucor (NYSE:NUE). In all of the years I have paid attention to this company, I have never known management to be anything less than forthcoming and straight-shooting, if somewhat conservative. So when the CEO of Nucor expresses concern about the near-term (six to 12 months) outlook for the economy and steel markets, I tend to listen. 

For the complete piece:

ABB Is Better Than You Think

We all know that the stock market is a discounting mechanism; what happened yesterday is only important if it changes the views about how tomorrow is going to be. With that in mind, investors should not worry about ABB's (NYSE:ABB) relatively mediocre second quarter. As the global economy recovers and resumes its growth, this international player in power infrastructure and automation should have plenty of business to pay off investor patience. 

The Quarter that Was
The global economy is not doing this company any favors. Credit is more expensive (and harder to come by) and that is an issue for the utility sector, while those same credit conditions and worries about near-term economic conditions are keeping a lid on factory expansions. 

To read the complete piece, click below:

Saturday, July 24, 2010

ICUI - Solid Second Quarter, But A Little Creepy

ICU Medical (Nasdaq: ICUI) was one of the first stocks I picked up to cover during my last go-around as a sell-side analyst. It is a stock I have paid attention to for years, and likely will continue to do so ... or at least as long as present management is in place. Given all that, I was not that surprised to see the company report solid second quarter results.

Revenue jumped 29% this quarter to $68.9 million. Now, here is an eerie/creepy/uncanny detail - I have not updated my model on ICUI since I left the sell side on March 1 of this year (so, about 5 months ago). And yet, my modeled revenue number for this quarter (back from February, the last time I updated it) was $68.4 million.

Anyways ...

The company's key CLAVE product group had a strong result, as did the custom tubing business. Critical care was not so strong on the top-line, but it looks as though ICUI did a good job of turning around the margin performance. Overall gross margin improved by almost 500bp, and getting the critical care business from Hospira (NYSE: HSP) - who treated this business like it was a plague carrier - should give ICUI a great deal more control over margins and inventories in the future.

International sales are growing a lot faster than domestic sales for ICUI, and overseas markets like Europe are a major unexploited opportunity. On top of that, the company's direct sales and domestic distributor efforts are paying off, as sales through these channels more than doubled again this quarter.

ICU Medical is a business that is far more volatile than it "should" be - due in no small part to the up/down large-scale ordering patterns of Hospira, one of its largest sales channels. The company is working hard to reduce Hospira's influence, though, and that should pay off in the future. In the meantime, I still wish that the company spent more on R&D - they really do need to add more products with double-digit growth prospects, and the have plenty of cash to spare for such efforts.

I have a fair value of about $42 per share on ICUI. That means I cannot say you should buy this stock today - 12% appreciation potential just does not cut it for a stock with this kind of volatility. It is a business and management that I really like, though, so it will probably always have a place on my watch list.

FCFS - No Flash, Just Cash

Another solid quarter from the real pawn star, First Cash Financial Services (Nasdaq: FCFS).

Revenue rose 19% from last year and profitability improved - leading to income from continuing ops rising 22% and EPS climbing 20%. Management also raised guidance again for the remainder of the year (management guidance tends to be slightly conservative, historically one the order of 0.01-0.03 per share per quarter).

Same-store revenue was up 12% this quarter, with 14% growth in Mexico and 10% growth in the U.S.. Pawn receivables (which you can think of as "inventory" for future revenue) rose 16%, with a 26% jump in Mexico. Suffice it to say, then, that the near-term growth prospects for FCFS are looking quite solid.

While FCFS generates the vast majority of its business from traditional pawn shop operations, they still do have a limited payday lending / short-term loan business. Revenue from this rose 14%, and represented about 15% of the total revenue base. The company also said that credit losses from this business were starting to decline, though the absolute levels are still pretty high.

Mexico provided 52% of the revenue this quarter and that is really one of the key themes of this whole story. US pawn operations are still growing and are certainly still profitable, but the future (at least for FCFS) is south of the border. The company still has plenty of opportunities for expanding its store count in Mexico, but I would still like to see the company start considering other markets as well - say, perhaps, Brazil.

FCFS's financial reports are in some respects bank-like and that can make cash flow forecasting a bit more volatile. Nevertheless, I think fair value for these shares is about $30. I am basing that on 10% forward revenue growth - a figure that seems conservative given how well the company is doing.

Disclosure - I own shares of First Cash Financial

3M - Do You Believe?

3M (NYSE: MMM) has been a pretty good stock for me over the last five or so years, giving me an incremental 25%+ return relative to the S&P 500. What attracted me to the stock initially, and what remains a centerpiece of my thesis, is the nebula of doubt that seems to hover around this stock - although the stock is now a consensus "buy" by the analysts, a lot of people seem to just be waiting for 3M to slide back to its old self and be a serial underperformer again.

3M's second quarter results were pretty solid, as the company pre-announced that they would be.

Revenue was up 18% yoy and up about 6% sequentially. All of the company's operating segments grew - with Display/Graphics and Electro/Comm each growing more than 30% and Consumer/Office and Health Care both growing less than 6%. Overseas growth was robust in Lat-Am and China.

The one point of concern? Pricing was down about 0.6% as the company acknowledged cutting prices in some cases to maintain market share. I am not really sure what, if anything, to make of this - a sign of oncoming deflation? A sign of competitors getting desperate? A sign of 3M falling behind in product positioning? Or a sign that 3M's cost structure is getting better and the company can afford to cut prices?

Although I am a little nervous about whether the company can keep pricing in Display/Graphics from falling off, none of this really worries me today. That is mostly because of the company's market share in films - they are far ahead of the likes of Tyco (NYSE: TYC) and Nitto-Denko.

Profitability was pretty good as well. Gross margins were flat (not bad considering rising input costs) and operating margin ticked up a bit. Importantly, all of the company's units posted operating margins above 20%. In other words, there really are not any "problem children" in the mix right now.

The big debate on 3M is whether or not the "new 3M" is real and sustainable. Company management has put out bold targets - moving organic revenue growth from a traditional level of 3-4% to 7-8% a year. For a company of 3M's size, that is no simple feat. Management seems serious, though, and has moved to change company culture (much as I hate that term/concept) and invest in both R&D and advertisting.

If the skeptics are right, we are probably close to seeing peak margins from 3M, and the company will then start to suffer from flagging growth and sagging margins - a one-two punch that will not be pleasant. On the other hand, if the believers are right, this is just the beginning of a new, more dynamic, 3M.

Right now, I am a cautious believer. I do believe that 3M has restructured itself and has a very real chance of boosting both margins and cash flow, but top-line growth as well (in the 6% range, perhaps). The company has footholds in numerous attractive growth markets and I would frankly like to see them spend even more on R&D.

Assuming roughly 6% top-line growth for the next five years and a gradual improvement in cash flow margins, I think the shares are worth $100. A bad-case scenario, 4% revenue growth and a decline back to the 10-yr average cash flow margin, puts a down-side valuation of about $75 for the shares.

$100 is not enough, perhaps, to recommend purchase, but it is enough for me to stay on board as a shareholder.

Disclosure - I own shares of 3M.

Friday, July 23, 2010

Europe's So-Called Stress Test

So, all of that build up and all of that press ... and for this?

The results of the European banking stress tests are in ... and 84 of 91 passed. Whoop-dee-doo.

I mean, really, if 92% of the banks passed, and the only failures are an already-nationalized German bank, five unlisted Spanish banks, and a Greek bank, what was the point?

Are European banks in better shape than people think? Yeah, probably. I own Societe Generale (Nasdaq: SCGLY) and I happen to think the market is undervaluing that one (though I acknowledge the risk they have with sovereign debt exposure), and Santander (NYSE: STD) certainly seems in good shape.

But to only flunk 7 banks makes me think the whole thing was a stage-managed put-on designed to create phony confidence in the health of the European banking sector. Do not misunderstand; I think there are several high-quality banks in Europe these days (I would add Unicredito to that list, as well perhaps as Danske and a couple of others), but I expected a bit more "stress" from this test.

I dunno ... maybe it is late on Friday and I am just cranky. But consider me unimpressed by these results.

Disclosure - I own shares of Societe Generale

Microsemi - Solids Results From An Overlooked Company

Microsemi (Nasdaq: MSCC) is a relatively little-known semiconductor stock that I think value-oriented investors that want tech exposure should consider. That is particularly true given yesterday's earnings report.

Microsemi's revenue rose 15% on a sequential basis, and 27% annually, to $136M - beating the estimate by $6M. Defense and homeland security was about 40% of end-user sales, commercial aerospace and satellite was 20%, medical was 6%, LCD TVs were 7%, mobile was 16% and industrial was 11%.

Defense was definitely a star performer this quarter. Sales were up 24% sequentially, and even though that is inflated by an acquisition, over shipment growth seems to be really solid here right now. Industrial did well, and the company is optimistic about seeing better results from energy (esp. alternative energy) and semiconductor equipment (sort of ironic, is it not? seeing a chip company profit from the equipment that makes more chips...).

MSCC management also continues to be really excited about power-over-ethernet products. I am a little skeptical of this market (I remember people being really excited about it in 2000, too), but I suppose that if Cisco (Nasdaq: CSCO) thinks it really is a major market, I should give them both the benefit of the doubt.

Last and least, medical - medical did not do very well this quarter, but I am cautiously hopeful that the ICD market (a significant end-user market for MSCC chips) will improve with Boston Scientific (NYSE: BSX) back underway and looking to compete more aggressively with St. Jude (NYSE: STJ) and Medtronic (NYSE: MDT).

Along the way, gross margins improved meaningfully (100 bp sequentially, over 600bp annually) and earnings improved nicely by both GAAP and non-GAAP metrics. GAAP operating margin was about 10% - down from about 12.5% in the prior quarter -- due in large part to the costs of the company's acquisition of White Electronics.

Guidance was also pretty optimistic, and this is a company that tends toward the conservative. This outlook has no doubt been brightened by upcoming business like the body scanners they are putting in airports (which could be worth something like $15M - $25M next year), as well as Cisco's power-over-ethernet products. Just last week, in fact, MSCC announced a $22M contract for chips that are going to be used in military GPS applications (like precision-guided munitions and so on).

I am a little nervous about the industrial side, given everything we have been hearing from industrial companies this earnings season, but I figure there is definitely some slack in the medical side that could improve. What's more, I do not really see defense, space, or aerospace (especially military-oriented) spending falling off any time soon - and I have to think that a lot of the specialty applications like advanced sensors and aircraft are going to be solid markets for a while.

All in all, this is a sort of below-the-radar stock that I like. High-reliability chips (one of MSCC's specialty) are a tough market to crack into, so MSCC does not have quite the same margin worries of a Linear Tech (Nasdaq: LLTC) or Maxim (Nasdaq: MXIM). By the same token, though, the break-out growth prospects of a stock like Silicon Labs (Nasdaq: SLAB) really are not there either.

Things are going a bit better than I expected here and I probably do not need to tinker with price target all that much. So, although I am going to dig a bit deeper this weekend, for now I will continue to suggest that these shares are worth at least $21.

Disclosure - I own shares of Microsemi

Thursday, July 22, 2010

BB&T - Good, Bad, Awful All In One

BB&T (NYSE: BBT) put up a quarter for the second quarter that is tricky to figure out. There was good news and bad news, often the same news, and a lot of things to consider.

Revenue rose 6% (sequentially) this quarter, a strong result by this quarter's standards. Net interest income rose more than 3% - better than US Bancorp (NYSE: USB), Wells Fargo (NYSE: WFC), and PNC (NYSE: PNC). Net interest margin was 4.1%, which was likewise quite strong on a comparative basis. Loan growth was quite modest - down just a bit on an average balance basis and up slightly on a period-ending basis.

And for some people, that is all the good news there is.

Most news accounts are going to say that BBT missed earnings by $0.04, but that is not quite true. Strip out security gains and what-not and you get earnings per share more like $0.14 or $0.15 per share - far below that Wall Street guess of $0.34.

Why were earnings so weak? A big part of it was the company's decision to sell $628M in bad loans. These were "troubled assets" (polite speak for craptastic loans gone bad) that the company was looking to sell, but doing so forced them to run the losses through the income statement. On top of that, the higher costs of managing foreclosed property and integrating Colonial added to the expense ratio. Consequently, efficiency and returns on assets and equity were poor.

Loan loss reserves as a percentage of loans were 2.7% - on the low side for similar banks, while charge-offs were 2.5% (which was on the high side). Non-performing loans stayed flat quarter on quarter, as did NPLs as a percentage of loans. That stands in contrast to companies like USB and M&T Bank (NYSE:MTB) where non-performing loans dropped quarter on quarter.

Considering how things look in the economy, I like the fact that BBT management continues to be so conservative. USB management's feelings about the economy are such that they are not releasing reserves yet, and that seems reasonable. So when I see that BBT carries a rather high Tier 1 common ratio, I feel pretty good about it - why stretch your balance sheet and leverage yourself to go out and make mortgage loans when rates are at historic loans? Makes no sense to me.

All in all, I have to lower my target on BBT to $35.50, predicated on ROE going back to 14% over time. That is not an exciting amount of appreciation potential, but it is enough for me when we are talking about a well-run and conservative bank.

If I did not own BBT, what would I buy? JPMorgan (NYSE: JPM), which I always already own, also looks very cheap - maybe one of the cheapest domestic banks I know. Wells Fargo also looks appealing, and maybe Bank of America (NYSE: BAC) too, but BAC and JPM are very different businesses than BBT. Among more similar banks, like PNC, Suntrust (NYSE: STI), or Regions (NYSE: RF), I would much rather own BBT.

Disclosure - I own shares of BBT and JPM

BB&T - Bad For My Beta

Nothing quite as annoying as owning a stock that is down more than 2% on a day when the markets are racing up more than 2%. That takes the wind out of your relative performance sails pretty quickly!

I will be back later today with a more detailed write-up of BB&T's (NYSE: BBT) earnings. For now, suffice it to say that I thought the earnings were better than the market seems to think. A lot of the banks that are jumping up today are doing so because of reserve releases and other sorts of tinkering with credit estimations. To be very cynical about it, bank executives are saying "we do not think things are so bad ... so, voila, our earnings are better!". BBT, though, plays by much more conservative rules.

Now, I am not saying they were great earnings - they were not. But they were not as bad as the stock's reaction would suggest.

Again, more on this later.

Disclosure - I own shares of BBT

Steel Dynamics Pitted, But Not Rusting

So, how is the economy doing, exactly? Alcoa (NYSE:AA) or CSX (NYSE:CSX) earnings may have you feeling optimistic, while earnings from major banks cast a pall over that scenario. In that context, maybe Steel Dynamics (Nasdaq:STLD) earnings are a perfect metaphor - they were good, but not great, and guidance was a little murky. 

The Quarter That Was
Steel Dynamics reported 5% sequential growth in revenue (to $1.63 billion) and earnings per share of $0.22. Both of these metrics were slightly below the average Wall Street analyst estimate; enough to be a mild disappointment, but nothing to panic about. 

For the full piece, please go to:

VMWare's Vaporous Valuation

A large percentage of investors call themselves GARP (that is, "growth at a reasonable price") investors, but there is a big difference between those who focus on the "-arp" and those who focus on the "guh". Fast-growing software company VMware (NYSE:VMW) highlights this dichotomy, as there is no question about the torrid growth here (and the potential for more), but quite a fertile field to argue about just how reasonable the price is right now.  

The Quarter that Was
Forget the "yeah ... but" quarters you have seen from other companies in this earnings cycle, VMware delivered pretty much anything a growth investor could want. Revenue jumped 48% from last year, as the company saw strong renewals in enterprise license agreements and balanced growth across both the license and service segments.

For the full piece:

Peabody Looking To Stoke Up Profits

Oh what a fun earnings season we are having. One day you see positive news from transportation, the next day you see iffy news from a basic metals or materials company, and then the next day you see a bank report a shrinking loan book.

What, then, to make of the earnings of coal giant Peabody Energy (NYSE:BTU)? There is no question that Peabody had a solid quarter and management was relatively positive on near-term guidance. Moreover, near-term trends are looking good in the coal market. But does this mean the economy is getting better, or are their unique factors at work in the coal business?

For the full piece, please go to:

Stryker Needs A Growth Resurfacing

Stryker (NYSE:SYK) used to be on the glory stocks of the medical technology sector. Every year, they churned out 20% earnings growth no matter what, and a lot of money was lost betting that the trend would end. Nowadays, though, that seems like a distant memory and the prime question about Stryker is whether they can recapture growth and leadership in their markets. 

The Quarter that Was
June was not a very encouraging quarter for Stryker fans. Revenue was up 7% overall and that was just shy of analysts' average guess. The trouble, though, was in the details. The MedSurg business showed 15.9% increase in sales as hospitals played catch up on the purchase of equipment like hospital beds; purchases that were postponed during the 2008-2009 troubles. The company's core orthopedics business, though, was only up a bit more than 1%, and hips, knees, and spinal care were all very weak. In fact, I believe this is the weakest result Stryker has produced here since they bought Howemedica from Pfizer (NYSE:PFE) in 1998.  

For the full column, please go to:

Full disclosure - Johnson & Johnson (NYSE: JNJ) is also a major orthopedics competitor. Per Investopedia policy, I am not allowed to mention any names I own in my own accounts. 
Full disclosure (pt 2) - I own shares of Johnson & Johnson.  

Wednesday, July 21, 2010

Building A Portfolio Around Brazil's Building

The next six years are going to busy ones for Brazil. The World Cup is coming in 2014, with the Olympics following two years after. Suffice to say, like virtually every country that has hosted one of those events (let alone both in succession), Brazil has a great deal of infrastructure to build in the intervening years. Brazil is also a large country with a sizable population and a growing economy; all of which takes money to support in its own right.  

If You Build It, They Will ComeIn order to support the demands of these two major sporting events, Brazil is looking at wide-ranging projects including upgrading roads and power grids, building hotels, improving airports, and generally just adding "more" to country. Even granting that the sporting events will be concentrated in or near major cities, there will need to be infrastructure stretching into the hinterlands to bring in supplies. All told, the bill just for Rio's Olympics is looking like it will be at least $14 billion.  

For the full piece, please go to:

Hello Iraq, Spain, Bahrain, and the Baltics

I am noticing that some of my visitors to this little blog are coming from some pretty far-flung locations. I would love to know how you found this site. Are you Americans working abroad? Are you local investors who are simply interested in American stocks and financial markets?

Inquiring minds (namely mine) would love to know - please feel free to comment or send an email (tuonela.fool

Linear Technology - Rodney Dangerfield In Semiconductor Form

I used to own Linear Technology (Nasdaq: LLTC) and today is sort of a microcosm as to why I eventually sold at a small profit (much smaller than it should have been) - the company just cannot catch a break.

Revenue was up 18% sequentially due in part to strong "iX" demand at Apple (Nasdaq: AAPL), as LLTC provides AAPL with battery charge chips and DC converters for the iPhone and iPad. Gross margins climbed 50bp to 78.4%, operating margins also rose, and operating profits jumped almost 26% sequentially. On top of all that, the company raised its guidance for the back half of the year.

And yet, the stock is still down.

Linear has always been hounded over the "certainty" that their high margins will eventually dissolve under competition. Never mind the fact that they are an innovative leader in the high-performance analog market, have a small army of researchers, and almost always manage to stay ahead of the game. Never mind the fact that Linear has always been smart about balancing the trade-offs of growth and profitability. Nope, apparently less innovative growth-at-any-cost companies are going to beat them.

I mean, honestly, it gets a little depressing. Even Craig Berger, an analyst I respect a lot at FBR, has them at an Underperform ... even while praising them as an exceptionally well-run company.

Okay, I get that Linear's plays in markets that can be low-growth *and* volatile (autos, industrial). But c'mon ... they sell 7,000 products to 15,000+ customers and they were good enough to earn the blessing of St. Steven of Jobs.

Oh well, I should practice what I preach I suppose. I mean, I do not own LLTC anymore and my only semi holding is Microsemi (Nasdaq: MSCC), though I would happily add ON Semi (Nasdaq: ONNN) as well. I can also relate to people who would rather own Analog Devices (NYSE: ADI) or Marvel (Nasdaq: MRVL). But even still ... LLTC feels like a company and a stock that struggles to get its due.

Disclosure - I own shares of Microsemi

Bank of New York Marking Time

Custody banks like Bank of New York Mellon (NYSE: BK) do not generally get all that much attention. These "banks' banks" operate huge businesses involving trillions of dollars, but they take only tiny percentages of these awesome amounts and generally run themselves quite conservatively. As a result, the average investors' default response is to scrunch up their faces at the blizzard of numbers they report, sigh at the generally modest growth and move on to other ideas. 

That could be a mistake, however. While custody banks are not operating the most exciting businesses in the world, they are gatekeepers and toll collectors in the massive financial services industry and an integral part of an industry that seems poised for worldwide growth. So, while regular banks like Wells Fargo (NYSE: WFC) and TCF Financial (NYSE: TCB) worry about loans and deposit share in their home markets, and Morgan Stanley (NYSE: MS) battles for hegemony in trading and asset management, BNY quietly services hundreds of banks and asset managers across the world. 

For the full piece, please go to:

Tuesday, July 20, 2010

Well... This One Turned Out To Be True!

Along with earnings, mid-major energy company Apache (NYSE: APA) announced a deal to acquire some of BP's (NYSE: BP) global assets. Apache is acquiring estimated proven reserves of 385M boe (a bit below my 400M - 500M estimate) for a total consideration of $7B - a somewhat better price than I had assumed.

The acquisitions make a lot of sense at first look - Apache is getting all of BP's business in the Permian Basin (W. Texas / New Mexico) and Egypt's Western Desert, plus an upstream natural gas business in western Canada.

To pay for this, Apache will be launching a joint cash/debt offering soon.

Seems like a no-brainer to me for Apache. They have operations in the Permian and Egypt already, so there should (or at least could) be some relatively simple synergies to be had there. Moreover, at well below $20/boe, the price is certainly favorable for Apache. Seeing this price, I can understand why BP did not want to throw in their Alaskan operations - I know BP needs the money (and likely needs to raise more than this $7 billion), but management cannot sell off too many of their assets for that kind of price.

I suspect that part of the reason for the favorable price was the fact that these properties are not producing all that much - 83K/boe per day according to Apache. So, that will add about 13% or so to production near-term, and you have to think that Apache (and its reputation for squeezing out every drop) will be able to boost that, as well as deliver on the unexplored acreage.

All in all, a good (if not great) deal for Apache and a necessary deal for BP. Reminds me of why Apache is always one of my go-to energy stocks.

Here was my original post on the rumored get-together: 

A Quick Review Of Zions Earnings

Zions Bancorp (Nasdaq: ZION) produced a scary quarter for June. Not scary in so much as the results were poor (though they were not very good at all), but scary because there are so many different ways to look at them. Depending on what you see as "core" and what adjustments you think are necessary, you can get a very large range of outcomes. I am a sucker for clean statements and easy reporting, so that is not a positive in my book.

Revenue for the quarter was anything from up 1% sequentially to down 7% depending upon how you want to look at it. I will not go into all of the forensic accounting here (unless somebody asks me to), but I think the most accurate peg is "down mid-single digits". Within that, core net interest income fell about 2%.

Expenses were problematic for Zions, particularly those related to REO (that is, bank-owned foreclosed properties). The company did reported lower provisioning for bad debts (lower by almost $40M), but charge-offs were about 30M higher and the NPA (non-performing assets) is still a way-too-high 7%. All in all, net losses were about 12% higher than the first quarter, and the company is unsure if it will make a profit at all this year.

Continuing a theme, loan performance was weak - down about 2% sequentially, with a larger drop in commercial real estate lending. I like the fact that Zions confirmed something I had been thinking for a little while now - namely, that banks are competing more aggressively for high-quality loans. See, banks have been saying that loan demand is weak, but that does not sync with what business owners are saying. So, I happen to believe that Zions came closer to scratching the truth - demand is weak among good borrowers.

I happen to think that there is still a risk that Zions could need more capital, particularly if there is another soft patch in markets like California, Washington, and Texas. Still, for a bank that was seen as a sure-fire goner in the worst of the crisis, I think Zions deserves some credit for hanging in there.

Would I buy Zions shares? No thanks. Even if I estimate that the bank can return to 14% ROEs (and I think that is a *big* "if"), the stock is worth about $25. That is a lot of risk to take for a roughly one-third gain. Given that I think future ROEs will be more in the range of 12%, I am even less interested.

Regional banks are getting thumped right and left today; Zions, Marshall & Ilsley (NYSE: MI), Fifth Third (Nasdaq: FITB), Regions (NYSE: RF), and so on. If I were looking to buy a bank in Zion's neighborhood, I would be more inclined to go big (Bank of America (NYSE: BAC), Wells Fargo (NYSE: WFC), US Bancorp (NYSE: USB)) or maybe even smaller (Umpqua (Nasdaq: UMPQ)).

Either way, I would leave Zions alone for now.

How About Santander & BB&T?

Ok, I know there is plenty of real news right now and I probably should not be spending my time on idle speculation. I also know rumors are a dime a dozen, and I really do not want to be involved in starting any myself. But I find myself wondering whether Spain's Santander (NYSE: STD) would think of having a go at BB&T (NYSE: BBT).

First, let me start by saying that I own BB&T, so I certainly have a personal financial interest in this notion.

I think it is pretty clear that Santander is not finished acquiring assets, and it is equally clear that they want to expand their U.S. operations. The company has been trying to find a way to reach a deal with Buffalo-based M&T Bank (NYSE: MTB), in part by acquiring Allied Irish Bank's (NYSE: AIB) stake in MTB. That said, MTB does not appear to want to sell out to Santander beyond AIB's stake. So we have an impasse there.

But what about BB&T? Although BB&T has large operations in Georgia (one of the sinkholes in the credit crisis) and a large commercial real estate portfolio, BBT has thus far done pretty well throughout the crisis and the bank has a well-earned reputation for both sound and conservative management. BBT management is also on record saying that they will need to make transformational M&A maneuvers in the coming years, and I do not believe the Colonial deal was what they meant.

BBT would give Santander access to a faster-growing area of the country (faster than the Mid-Atlantic), a large deposit base, and a profitable insurance business. The Southeast is also an area seeing significant Hispanic immigration and that might be synergistic for Santander given their operations in Mexico and Latin America.

It also does not hurt that BBT is undervalued right now and could be a cheaper "get" than MTB.

Of course, Santander has ample options - including simply standing pat and growing organically. If Santander wants to grow in the Southeast, Suntrust (NYSE: STI) is an option as well, and so to Regions Financial (NYSE: RF). And who knows? Maybe they go to Texas for Texas Capital Bancshares (Nasdaq: TCBI), or the western US for Zions (Nasdaq: ZION) or the upper midwest for TCF (NYSE: TCB). So on and so on - which is why I do not like speculating on these things; you can do it all day and get nowhere.

Still, I find the idea of a Santander-BBT link-up to be intriguing. I am a fan of both banks and have thought about purchasing Santander relatively recently. If I was not already over-exposed to finance, I probably would have by now. Nevertheless, time will tell ...

Disclosure - I own shares of BBT

Halliburton Sets A High Bar

Halliburton (NYSE:HAL) generally chooses to go first among the major energy services companies reporting earnings, and they get to set the pace for the others. With Monday's earnings announcement, Halliburton has set a very high bar indeed. 

The Quarter that Was
Halliburton reported 17% sequential revenue growth for the company's second quarter, and total revenues of $4.4 billion. The star performer was the North American business, as revenue here grew 24%, largely due to the ongoing strength in pressure pumping and horizontal drilling related to exploiting shale gas. What makes this result even more impressive is the fact that it comes close to doubling the 13% sequential increase in North American land rigs - in other words, overall activity (at least as measured by rig count) was higher, but Halliburton surpassed that pace by a wide margin. (For more, see Oil And Gas Industry Primer.)

To read the complete column, please click on:

Bank of America and Citigroup - Credit Now Giveth

Continuing what is likely to be *the* theme of big bank earnings season, Citigroup (NYSE:C) and Bank of America (NYSE:BAC) both reported "yeah, but" quarters on Friday. As in, "yeah ... they beat the analyst guesses, but they only did so because of big reserve releases." When you look a little deeper at the ongoing run-rate in the businesses, there are still ample reasons to be cautious and concerned. 

The Quarters that Were
In many respects, Citi and B of A had very similar quarters. The operating revenue were down in the double digits for both Citi and B of A. Both companies exceeded the average analyst estimate, but did so almost solely on the back of releases of loan loss reserves (in other words, the companies are now estimating lower future loan losses, so that gets recognized as income). Interestingly, both companies had similar net reserve releases - Citi reported $1.5 billion, while B of A reported $1.45 billion. 

For the full piece, please go to:

Johnson & Johnson - The Hits Keep On Comin'

Day by day (or rather, quarter by quarter) it is getting harder to hang in there with Johnson & Johnson (NYSE: JNJ). I own this one in a retirement account and I have owned it for a while now - during which time it has faithfully spun off dividends, but done little else for me. At some point, I am going to have to consider swapping this out for Abbott Labs (NYSE: ABT) or Roche (Nasdaq: RHHBY) if things do not turn around.

This quarter was textbook mediocre.

Sales growth was sub-1% and the $15.3B total was almost $400M below the average guess (though that's pretty close given the scale). Pharma was okay - up 1% to $5.6B. Consumer was not - down almost 7% in constant currency. Devices was in the middle - up 4% (I say "in the middle" because I expected more of devices and less of pharma). What bothers me about devices, though, is that nothing looked very good - Ethicon and DePuy did not look good, and clinical diagnostics was pretty iffy too.

Going down the line, earnings quality was not so hot - gross margins were down and the company needed a lower tax rate to pick up some incremental earnings power. All in all, EPS of 1.21 was in-line.

Along with these earnings, the company also cut guidance by about $0.15 due to for-ex and the recalls in the Consumer business. Okay, a few pennies here or there in the for-ex pot does not bother me, but I am frankly surprised at the magnitude of the revision due to the recall. I guess that the company is going to have to write down a lot more inventory than I thought and the cost of getting those plants back in order is likewise steeper than I surmised. Of course, some of this could also be due to anticipated revenue/margins decline from the perception hit that the business is taking.

All in all, this is another frustrating and lackluster report.

What makes matters worse is that there is no quick fix. JNJ is so large that it is like moving a supertanker. So even though I like the acquisition of Micrus Endovascular (Nasdaq: MEND), that is not going to single-handedly reverse the fortunes of the device segment. Likewise, unless the company can come up with a true new blockbuster drug, the Pharma business is not going to change quickly.

All that said, I would like to see the company get more active. They should be signing early-stage partnerships and in-licensing biotech compounds (I would especially like to see them get involved in siRNA drugs). They should also be aggressively pursuing early stage medical technology companies and bringing prospectively high-growth technologies in house (this is the model that Medtronic has used quite successfully). None of that would help today, or even next year, but it would make investors feel a bit better about the future.

I hold JNJ largely because it seemed like valuation was baking in pretty much pathetically flat performance, and I thought the company would be able to surpass that. Perhaps I was wrong - maybe 1% growth is all that this company can do under present management. I do not really believe that (yet), but I have to at least incorporate that into my scenario analysis.

I just do not know. I am going to continue to hold JNJ for the time being, but I have to say that I am looking more and more at supplementing or replacing it with names like Abbott, Roche, Bard (NYSE: BCR), Becton Dickinson (NYSE: BDX) and so on. I am doing this to make money, afterall.

Disclosure - I own shares of JNJ.

Whirlpool Whirring

Solid results this morning from appliance-maker Whirlpool (NYSE: WHR).

Overall revenue was up almost 9% to $4.5 billion, slightly beating the average guess on Wall Street. Adjusted  earnings, though, came in at $3.09, well ahead of the guess of $2.17 a share, and the company bumped its full-year guidance by $1, or about 12%.

There was good and bad here.

- Sales to Asia up 43%; sales to Latin America up 24%; unit shipments to Brazil look to be up about 10% this year
- North American sales up 6% and the company pushed guidance to the high end of its prior range.
- Internal profitability and cash flow generation is improving significantly

- Sales to Europe were down 6%; consistent with Electrolux, but not good news
- Minimal overall revenue upside guidance (the company is doing well on profits, but overall demand is iffy in North America and weak in Europe).

I find it interesting that Whirlpool is widely under-covered; most of the major brokers do not cover them. That could mean that the company is still slightly below the radar of some institutions. I mean, after all, this is an American manufacturing company and American manufacturing is supposed to be doomed, right?

I like the company's overseas prospects; it is a given to me that Brazil, India, and China are going to continue to develop, and their growing middle classes are going to want the sorts of things that Whirlpool makes. Surely there will be competition (China's Haier is already a major competitor), but Whirlpool can be fourth or fifth in China in ten years and still be doing alright.

I need to do a more robust analysis on this stock. I like the long-term thesis, the valuation seems interesting at first blush, the company is serious about internal efficiency, and the company is doing okay in a pretty tough time for its two largest markets (North America and Europe). All that is at least worth a closer look.

Monday, July 19, 2010

Bye Bye NBTY

Even the wildest rollercoaster rides come to an end, and nutritional supplement maker NBTY's (NYSE:NTY) ride is at an end. Before the open Thursday, NTY announced that the company had accepted a $3.5 billion all-cash buyout offer from private equity giant Carlyle Group. 

If you have never paid much attention to NBTY before, pull up a long term chart and count the number of 50% retracements over the past 20 years - I think I counted seven. I have followed this stock for at least 15 of those years, and owned it once along the way. Throughout that run, I was always surprised that the company could never carve out a steady and stable growth trajectory. 

To read the full piece, please go to:

Novartis On The Right Track

It has taken longer than some analysts predicted, but it looks like Novartis' (NYSE:NVS) strategy is finally paying off. It was not that long ago that Novartis looked like a just another floundering drug company with a weak pipeline. When the Sandoz acquisition failed to immediately produce results, more people wrote off the company and sold the stock. Now, though, Novartis looks like one of the more dynamic names in big-cap pharma. 

The Quarter That Was 
Novartis produced a very good June quarter. Sales were up 12% to nearly $12 billion, as pharmaceutical sales rose 8% and Sandoz (the company's generics business) saw revenue rise 13%. Oncology and cardiology drugs make more than half of the company's pharmaceutical revenue base, and these were up 11% and 8%, respectively, as major contributors like Diovan and Gleevec continue to grow.

For the complete piece, go to:

The High Cost Of Being Google

The senior leadership of public companies have two primary responsibilities. The first is obvious: to run the business as best they can for the benefit of shareholders, employees and other stakeholders. The second obligation is not often discussed openly: to manage the company's relationship with the Street. I do not believe there is any question that Google (Nasdaq:GOOG) succeeds on the first metric, but this second quarter puts the second metric into question.

Fortunately for shareholders, though, running the business is vastly more important in the long run. Companies may court unwanted volatility and undervaluation by not sufficiently managing the Street, but it is ultimately the stone cold fundamentals that matter and Google has little to fear there.

For the full article:

Sunday, July 18, 2010

Stocks I'm Looking At - Is Impax Impossible?

Impax Labs (Nasdaq: IPXL) could be the best of stocks ... or the worst of stocks. Or both. And therein lies the problem - this stock has such volatile prospects, it is exceedingly hard to figure out what constitutes a fair price.

What They Do
On the surface, this starts off looking like an interesting and straight-forward idea. Impax is largely a generics company, but one that develops some its own compounds as well. So far, so good - Teva (Nasdaq: TEVA) does that too and it is probable that more generics will look to blur that line.

What makes Impax stand out is their specialization in controlled release formulations. CR drugs are trickier than regular formulations, and pharmaceutical companies used to rely upon CR formulations to both extend patent protection and stave off generic competition. More recently, though, CR formulations are not so scary or difficult for generics (due in part to the efforts of those like Impax) but they are a major opportunity as CR formulations are often more desirable for the user.

Impax offers generic versions of Adderall, Tricor, Flomax, and Effexor - all major drugs in their day.

Also, the company recently signed a deal with Endo Pharmaceuticals (Nasdaq: ENDP) that ended some litigation; Impax will launch a generic of Opana ER in 2013, and Endo gets the rights to develop Impax's CR version of carbidopa/levidopa for Parkinson's.

The Problem
The biggest issue with Impax is the very nature of the generics business model. Generic companies race to be "first to file" with their compounds so as to secure the 180-day exclusivity period, but that requires going up against Big Pharma and challenging their patents. That is not only expensive, it is hit-or-miss; not all challenges succeed (and not all fail).

Even when these challenges are successful, there is only that 180-day window to enjoy exclusivity; after which the generics company finds still more generics coming in to compete with them.

So, you have uncertainty from whether the company will in fact be first to file, uncertainty in whether the patent challenge will succeed, and uncertainty in the timing of rival introductions. And that's all after the company successfully develops a bioequivalent drug; something that does not always happen on schedule.

The Result
Because of the uncertainties of the filing race, the patent battles, and the vagaries of "authorized generics", the revenue and profit projections for a company like Impax go all over the place. It's feast, then famine, then feast again, then some more famine. On and on, ad infinitum -- or at least until the company grows to a point where there is a consistent base of business that smoothes the volatility  (though even Teva's profits are still quite volatile).

In this particular case, analysts are expecting the company to double their revenues from 2009, but then face a 25%+ drop next year. When I've looked at some longer-term models/guess from analysts, it continues in that sort of up/down/up/down pattern for years to come. 

Ultimately, that leaves me looking at more traditional valuation metrics like EV/EBITDA. There, Impax looks pretty cheap (3.3 times trailing EBITDA) consdiering the company's past success in developing CR drugs. So, in principle, you're paying less than 4x EBITDA for a company that has a recognized niche in the large-and-growing generics market. On the other hand, you are buying all-but-guaranteed volatility along the way.

It's a puzzling mix for me ... but one that is at least worth a closer look. The real trick, I suppose, is whether I can find enough reasons to trust that the company's technological edge will endure an provide long-term success as an investment.

Stocks I'm Looking At - Craftmade

I have not been as regular with these pieces as I had originally hoped, so apologies for that.

Craftmade (CRFT.PK) is a stock that I have watched off an on for a very long time, but it slid off my radar during the post-housing bubble implosion. Now I come back and find that it is not even a regular listed stock anymore (note the "PK" that comes with the ticker these days).

Even though this company and stock has gotten knocked around a bit, it looks interesting to me. Still, there is a particular concern I have that I will get to later.

What They Do
First things first - Craftmade is largely in the business of designing home furnishings like ceiling fans, lighting, and patio furniture. All in all, patio furniture was close to 60% of sales in the last 10-K.

Craftmade runs an "asset light model"; the company handles design and distribution, and relies upon Chinese and Mexican manufacturers for that step. Lowe's (NYSE: LOW) is far and away the biggest customer, but the company also lists Bed, Bath, and Beyond (Nasdaq: BBBY), Costco (Nasdaq: COST), and Wal-Mart (NYSE: WMT) as customers. Notably, Home Depot (NYSE: HD) is NOT a customer ... presumably they have some sort of exclusive relationship with one of Craftmade's rivals.

Where They Are At Today

Unfortunately, while the housing crash has been bad news for the company, it is not as though things were great before then. Sales growth has been pretty erratic throughout the last ten years, and I tend to like companies with a much steadier progression.

Still, this is a real business trading for less than book value, even though accounts receivable are 140% of the company's equity.

What really intrigued me about this stock was that the valuation is baking in very little progress or improvement in the business. The company has historically turned about 7% of its sales into free cash flow. If you assume 6% revenue growth for the next five years (the 10-yr avg is about 6.5%), and a free cash flow yield moving from 0% this year to 5% in five years (so, still below the long-term average), 5% free cash flow growth for five years after that, tapering down to 3% and then 1.5%, and discount it at 13%, you get a price target of $10.75.

That is quite attractive relative to today's $5.76 share price, right?

Here is where things get weird.

The Shadow of Litex
The company is being actively pursued by Litex Industries - a private competitor. The history of this is sort of typical - Litex came in with a lowball offer ($3.25/sh), created a lot of publicity, and got rebuffed. Then Litex tried a $5.75/sh hostile tender. That did not work either.

Toward the end of the tender, apparently Litex quietly approached the company and said they might offer more than $7/sh. Craftmade said "no", but offered a confidentially agreement as a precondition to some further negotiations. Litex did not take that offer, and then made a verbal offer for $7.50/sh, which the company also refused.

This is where it gets interesting - apparently Craftmade said they would consider $8.75/sh. Since then, Litex apparently has talked about offering $8/sh, but has not sat down with Craftmade and attempted to meet their requirements.

The Final Question
Okay, I apologize for that digression, but it raises my biggest concern - my model suggests the stock is worth almost $11/sh, but the company is willing to sell for $8.75. Does this mean my estimates are too opimtistic, or is this a case where the board at CRFT would settle for less for the certainty of a deal?

After all, CRFT's business is not consistent, and the company does not produce reliably great ROIC. Moreover, if anything goes wrong in the Lowe's relationship, the company is in deep trouble.

So, I suppose it is back to the drawing board here on valuation. I still think this opportunity is intriguing (even notwithstanding the irritation of a possibly insincere or opportunistic would-be acquirer). But when the board of a company is indicating that the company is worth about 20% less than you initially thought it was, that is certainly reason for pause and reflection.