Thursday, October 27, 2016

Weak Orders, Low Visibility, And A Lack Of Dynamism Hurting ABB

ABB (NYSE:ABB) shares are faring poorly after third quarter earnings, as not only did the company miss on revenue, operating earnings, and orders, management's market commentary suggested no short-term turnaround was in sight. ABB may also still be suffering something of a hangover from its Capital Markets Day, an event that basically ended up with the message of "more of the same, only better!"

I still believe that ABB is undervalued, but it's a harder case to make when orders are weak and management's strategic plan doesn't seem to offer much that hasn't already been tried. I believe there are solid reasons to expect better growth from ABB's business units than the market currently anticipates, but it's going to be a frustrating wait if ABB can't or won't do something a little more dynamic in the meantime. I continue to believe that the shares are undervalued and that fair value lies from $22.50 to $24.

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Weak Orders, Low Visibility, And A Lack Of Dynamism Hurting ABB

Weakness In Spain And The U.S. Continues To Weigh On BBVA

While Spain's BBVA (NYSE:BBVA) has looked undervalued for a while on the basis of what the company could earn in a long-term recovery scenario, it has been a value trap for a while as weakness in its Spanish and American businesses sap the momentum. The shares are down slightly from when I last wrote on them, slightly underperforming Santander (NYSE:SAN) and underperforming Canada's Bank of Nova Scotia (NYSE:BNS), which also has a large Latin American business, by a more significant amount.

Spain's real estate market seems to be improving and BBVA's Latin American markets should see growth improve in 2017, but the prospects for better rates, spreads and loan demand in Spain and the U.S. aren't great, and the bank's growth is likely to continue to depend heavily on Mexico. I've trimmed back my long-term assumptions again, reducing my long-term earnings growth target to 7-8%. With that, the fair value declines to around $7.25 and BBVA looks more like an "okay" prospect than a compelling pick.

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Weakness In Spain And The U.S. Continues To Weigh On BBVA

Cemex Needs A New Set Of Drivers

I liked Cemex (NYSE:CX) back in February, and the 70% move in the shares since then has certainly been gratifying. While Cemex's management has continued to make progress with its deleveraging efforts (including selling assets) and has remained committed to its "value before volume" philosophy, the company has also benefited from easing forex pressures and improving demand in many operating areas.

The question for me now is what takes Cemex to that next level. The shares are above my prior fair values, but not enough has changed in my views about the company or its markets for me to significantly change my estimates and expectations. While I do think better days could be ahead for Cemex in terms of both pricing and volume in the U.S., Mexico and Latin America, it looks like a lot of that is in the price today.

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Cemex Needs A New Set Of Drivers

Meggitt Going Through A Transition, But The Valuation Seems To Anticipate The Recovery

Aerospace cycles are tricky, as investors in stocks like Honeywell (NYSE:HON), Rockwell Collins (NYSE:COL), and Safran (OTCPK:SAFRY) can attest, but Meggitt (OTCPK:MEGGY) has had more challenges than most. Margins are on a four-year slide, and investors are rightly concerned as to whether a wave of fleet retirements will sap demand for lucrative spare parts and whether recent M&A transactions will generate acceptable returns on the capital invested.

I think Meggitt is growing through a transitional period, as new original equipment programs ramp up, but I believe the business can return to a more normal margin/FCF footing in the coming years. That said, the shares already seem to anticipate such a recovery and M&A is really the only driver I can see that would drive significantly better results in the near term.

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Meggitt Going Through A Transition, But The Valuation Seems To Anticipate The Recovery

MTN Group Bouncing From Problem To Problem

Shares of pan-African mobile services provider MTN Group (OTCPK:MTNOY) are down less than 10% from the last time I wrote about the company. And yet, since that time, the company has reached a settlement with the government of Nigeria on a large fine, appointed a new CEO, and begun to make some significant changes to its long-term strategic plans. It's also worth noting that the iShares MSCI South Africa Index (NYSEARCA:EZA) is up more than 15% over the same time period, so MTN Group is definitely getting left behind.

The reasons are many and ought to trouble MTN Group's shareholders. Nigeria's economy remains a mess, the company's competitiveness in South Africa is still less than ideal, the company still has a significant leadership vacuum, and there are new allegations of serious financial malfeasance in Nigeria.

I've significantly cut back my expectations for MTN Group from a modeling perspective, as I believe the company will have to spend more on capex to drive growth, and I have also chosen to model MTN Nigeria separately (and with a significantly larger discount rate). After these changes, my fair value of around $10.50/ADR still leaves meaningful upside for a company leveraged to significant potential growth in subs and ARPU over the next decade and beyond, but "potential" is a dangerous word in investing and investors should approach MTN Group aware of the risks and challenges.

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MTN Group Bouncing From Problem To Problem

GenMark Has Put A Lot Of Doubts To Rest, But There's Still More Work To Do

I've been bullish on GenMark (NASDAQ:GNMK) for a while, but that hasn't always (or even often) been a particularly easy or rewarding position to hold. The shares bounced between $9 and $14 for the first year or so after my first piece on this small diagnostics company and slid down to below $5 in the following year before starting a climb this year that peaked at over $13.

The reason for the quick turnaround in sentiment isn't hard to find - the company finally got its CE Mark for its new ePlex system, and with that laid to rest most of the lingering concerns about system reliability. The company still needs to submit its application to the FDA and actually launch the device, but the company's path to $500 million-plus in sales now looks more "when" than "if" than it has in a very long time.

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GenMark Has Put A Lot Of Doubts To Rest, But There's Still More Work To Do

Tuesday, October 25, 2016

Can Natural Grocers Become A Quality Growth Company Again?

The last year hasn't been good for the wholesale/retail side of the "healthy eating" trend, but Natural Grocers by Vitamin Cottage ("Natural Grocers") (NYSE:NGVC) has done far worse than most. Shareholders in Whole Foods (NASDAQ:WFM) and United Natural Foods (NASDAQ:UNFI) are looking back at double-digit share price declines over the past year, but Natural Grocers is down 50% over that time and down about 40% since my last update on the retailer.

At this point, the company has to improve its comps if only to achieve some fixed cost leverage. It would also seem to be a good idea to slow down new store openings to a point where it can self-fund, but then that would eliminate a lot of the near-term growth potential given that the comps are pretty weak. Complicating matters further, new marketing initiatives should help stimulate those comps, but of course these initiatives cost money and have their own impacts on margins.

It's tempting to erase this company from my notes and spreadsheets and move on. There's more and more competition in the healthy eating space, and I have to wonder how much of Natural Grocers' past growth was boosted by the windfall of higher energy prices in markets like Texas and Colorado. The potential for this stock to come back is there, but it's hard for me to be excited about the shares unless and until traffic growth starts making a meaningful contribution to comps again.

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Can Natural Grocers Become A Quality Growth Company Again?

MSA Safety A Solid Niche Business, But Valuation Is Puzzling

I like little niche businesses that have solid underlying growth drivers, relatively limited competition, and aren't widely followed. MSA Safety (NYSE:MSA) broadly qualifies, as it is a strong player in worker safety markets like self-contained breathing apparatuses, gas detection, head protection, and fall protection, and enjoys solid market share in many of these markets despite competing with the likes of 3M (NYSE:MMM) and Honeywell (NYSE:HON).

As far as growth drivers, ongoing product innovation can continue to drive sales growth in developed markets like the U.S., while emerging markets like China and Brazil begin to adopt more stringent standards for worker protection.

The "but" is valuation. I get that niche businesses will often trade at premiums, and I can understand how the market may be incorporating a premium to account for the possibility that a company like 3M would acquire MSA Safety. Even so, I just cannot connect the dots here on valuation enough to get bullish.

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MSA Safety A Solid Niche Business, But Valuation Is Puzzling

With Fortress Transportation, It's About The Finish Not The Start

Fortress Transportation and Infrastructure Investors LLC (NYSE:FTAI) continues to be an exercise in patience and frustration for shareholders. The idea here is sound, invest attractively-priced capital into a variety of infrastructure projects that throw off cash flows that can be returned to shareholders later on as dividends. While that sounds great and companies like Brookfield Infrastructure Partners (NYSE:BIP), Macquarie Infrastructure (NYSE:MIC) and numerous midstream energy companies have used this basic outline successfully, companies have to actually invest and acquire assets for the model to work.

I will immediately acknowledge that it's important for FTAI management to acquire the right assets and not just acquire whatever assets it can right now. Still, expectations for distributable cash flow have plunged over the last 18 months as the company has been much slower to expand the assets under management than expected. I believe these shares are still undervalued on the basis of what the company has done with its aviation leasing business and what it is in process with at Jefferson and Repauno, but this is really only suitable for aggressive investors who have the patience to sit tight during this protracted ramp-up period.

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With Fortress Transportation, It's About The Finish Not The Start

Quality Concerns Front-And-Center At DBS Group

It's a lot easier to lose a reputation than to gain it, and DBS Group (OTCPK:DBSDY) has investors worrying about whether they're about to see a flashback to the bad old days of unexpectedly high bad loans at this leading Singapore bank. With a major recent bankruptcy from a debtor that wasn't even flagged as a problem, concerns about credit quality, balance sheet quality, and even management quality are back in investors' minds. And if that weren't enough, China isn't exactly the picture of health and DBS is running out of levers to pull to keep its peer-high net interest margin strong.

I suppose the fact that the ADRs are only down about 6% since my last update is actually sort of good news given how sentiment has turned (the average sell-side target price is 15% lower than back in March). I still believe this is a good bank, but the sort of provisioning and credit losses that the bank reports over the next couple of years will show whether that belief is well-founded. I've cut my expectations to what looks like a low bar (roughly 2% growth over the next five years, and about 6% growth over the long term), but anyone who remembers back to our own banking crisis will know how badly wrong those projections can go if credit quality really falls away.

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Quality Concerns Front-And-Center At DBS Group

Credicorp Still A Leader In A Growing, Under-Served Market


Peru isn't on the radar of many investors, perhaps in part because it is still a smaller, mining-dominated economy and also because there aren't many liquid ADRs to follow. Whatever the case, Credicorp (NYSE:BAP) continues to look like a rare asset - a responsible, well-run Peruvian bank with good market share and yet still good growth potential given the size of the under-served Peruvian market.

These shares have done alright since my last favorable write-up, climbing almost 20% as the company has continued to do a solid job growing its business. Although I do believe Credicorp's ROE is likely to shrink in the future as the Peruvian economy matures and rivals like the Peruvian operations of BBVA (NYSE:BBVA) and Bank of Nova Scotia (NYSE:BNS) compete harder for business, I'm still looking for long-term earnings growth of over 10% on an annualized basis, supporting a fair value of over $160/share today.

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Credicorp Still A Leader In A Growing, Under-Served Market

Monday, October 24, 2016

Fifth Third Has Done Well In The Market, But Conditions Are Still Tough

Fifth Third (NASDAQ:FITB) has been a relatively strong name this year within the group of banks I follow closely, with the shares outperforming the likes of BB&T (NYSE:BBT), U.S. Bancorp (NYSE:USB), Wells Fargo (NYSE:WFC), and PNC (NYSE:PNC) since my last update on this Cincinnati bank. While this probably sounds like sour grapes, I wonder if this has been part of a "flight from quality" as names like Comerica (NYSE:CMA) and Regions (NYSE:RF) have also been doing better in part on less fear about energy credits and more optimism regarding the opportunities down the road from cost cuts and higher rates.

I struggle to make the valuation really work now. Even assuming that Fifth Third is on the higher end of the range in terms of ROE improvements over the next five to 10 years, I still don't see it being up there with the likes of U.S. Bancorp or Wells Fargo. I think Fifth Third is more likely to generate mid single-digit earnings growth, and that supports a fair value around $21 to $23.

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Fifth Third Has Done Well In The Market, But Conditions Are Still Tough

Another Potential Masterstroke For Arch Capital

About as close as I'll probably ever get to gushing over a company is when I talk about Arch Capital (NASDAQ:ACGL). I have followed this insurance company for a long time now (selling the shares a long, long time ago deserves an entry for me in the Great Moments In Idiocy hall of fame), and have always been impressed by the company's keen focus on disciplined, profitable underwriting and unrelenting pursuit of good returns on shareholder capital. That's not always so easy to do in the insurance business, as the ongoing price erosion in property & casualty and reinsurance shows.

Arch Capital has generally avoided M&A, arguing that there are few companies out there with the cultural and quality fit worth buying, and those that are out there tend to be expensive. Arch Capital found a big exception in August, though, when it agreed to acquire United Guaranty from AIG (NYSE:AIG) and vault itself to the top of the list in mortgage insurance. This deal substantially improves the long-term prospects for earnings growth and good returns on equity, and while I don't think Arch Capital is particularly cheap (a familiar problem), it's worth keeping a careful eye on in case a sell-off creates an opportunity.

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Another Potential Masterstroke For Arch Capital

Both Brazil, And Steel, Appear To Be Improving For Gerdau

Picking winning Brazilian stocks hasn't been too hard this year, what with the iShares Brazil Index (NYSEARCA:EWZ) up about 80% year to date as the country's currency has strengthened and sentiment has improved that the economic situation has bottomed out. For steel company Gerdau (NYSE:GGB), things have been even better since my last update, as the ADRs have risen almost 75% since that April piece (with the local shares up about 55%), beating Mexico's Ternium (NYSE:TX) (up about 25%) and fellow Brazilian CSN (NYSE:SID) (up about 55%).

I see a more balanced risk-reward trade-off today. On the positive side, I do believe Brazil will recover from here and stronger demand in sectors like autos, appliances, and construction should be good for domestic steel demand, not to mention the prospects for long-term infrastructure investment. On the negative side, Gerdau is enmeshed in litigation tied to corruption and taxes, the Brazilian recovery could be prolonged, and management hasn't always been a good steward of shareholder capital.

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Both Brazil, And Steel, Appear To Be Improving For Gerdau

Thursday, October 20, 2016

Dover Still Searching For Traction

I want to give Dover (NYSE:DOV) management a break and the benefit of the doubt. It's easy to lose count of the number of times it has guided to lower expectations and it's easy to criticize DOV for having a poor handle on its business. On the other hand, "I don't know" are some of the hardest words to say in the English language and I scarcely believe that many on Wall Street would applaud management for admitting to low visibility on the business outlook, let alone criticize it any less than it will for being wrong.

Still, business is not healthy here. Perhaps the company is navigating through the worst of it and the next couple of quarters will see results, bookings, and guidance firm up. Likewise, it's worth noting that in a field full of expensive industrial stocks, 3% to 4% growth over the long term is enough to support Dover's share price today. While I'm not bullish on the company, I think I'm going to start paying more attention with an eye toward whether investor fatigue is creating an opportunity (or whether this collection of businesses really is that bad).

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Dover Still Searching For Traction

U.S. Bancorp Paddling Around Waiting For The Wave To Come

The first image I often get of U.S. Bancorp (NYSE:USB) is an old man snoozing in a leather armchair, but that's really not fair to this well-run bank. As decidedly "meh" as second quarter results were, it takes a lot of effort to do this well in the given banking environment and I think the better analogy is a surfer floating and paddling around while waiting for a good wave to come in.

I think the wave will come in time, and when it does, U.S. Bancorp should be able to generate mid-teens ROEs and mid single-digit earnings growth (with EPS growth likely to be in the high single digits due to buybacks). I also believe the company has the capital to get more aggressive with M&A and add a few more bricks to the walls of what is already a strong banking fortress. Today's opportunity is okay; I think the shares should be able to generate high single-digit to maybe low-double digit total annual returns, but these shares don't look dramatically undervalued.

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U.S. Bancorp Paddling Around Waiting For The Wave To Come

BB&T Executing While The Industry Watches Time Pass

Another quarter has gone by, and nothing has really changed for the better (or worse) for the broader banking industry. I believe this "muddle-through" environment favors banks with strong execution capabilities, and that includes the likes of BB&T (NYSE:BBT), PNC (NYSE:PNC), and U.S. Bancorp (NYSE:USB), but it doesn't make for the most dynamic stock calls in the near term. Instead, riskier names like Comerica (NYSE:CMA), Regions (NYSE:RF), and Zions (NASDAQ:ZION) have been the names catching the bids over the past couple of months.

BB&T is what it is, and I believe it remains a reasonable buy-and-hold prospect. I see more long-term potential here than with U.S. Bancorp or PNC on the basis of ROE moving toward 10% over the next five years and then into the 12%s down the line, with acquisitions and synergy helping to drive double-digit earnings growth in the coming years. With that, I think BB&T can be bought into the low $40s.

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BB&T Executing While The Industry Watches Time Pass

Materion Past The Worst

Back in April, I thought that Materion (NYSE:MTRN) shares looked a little too cheap and the stock and the shares have since climbed almost 20%. There really aren't many good comps for Materion, so the performance of companies like Eastman Chemical (NYSE:EMN) or Johnson Matthey (OTCPK:JMPLD) isn't all that instructive, nor is the performance of specialty steel, nickel, and titanium alloy companies like Carpenter (NYSE:CRS) or Allegheny (NYSE:ATI). Basically, this is a case where the cheese stands alone, though connector companies like TE Connectivity (NYSE:TEL) and Amphenol (NYSE:APH) do tend to travel in similar directions and have some shared end-market exposures.

The good news for Materion is that business seems to be recovering, as revenue has logged two consecutive sequential improvements and should do so again in the third and fourth quarters. Margins have held up reasonably well through this downturn and free cash flow has remained positive. While I do believe that improving conditions in smartphones, aerospace, satellites, and telecom infrastructure should help the company post better growth over the next three to five years, it's important to remember that Materion has never been a champion in terms of reported return on invested capital or FCF generation. The shares do look a little undervalued, though, and improving momentum in its core addressed markets could still leave a little room for further appreciation.

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Materion Past The Worst

Underlying Value And Housing Growth Support Weyerhaeuser

Weyerhaeuser (NYSE:WY) is a good example of a stock where it can be challenging to nail down the fair value. Cash flow doesn't necessarily account for the underlying value of the timberland and can miss the cyclicality of the housing cycles, but sum-of-the-parts net asset valuations can require a lot of work to find reasonable inputs/comparables for timberland valuation. Be that as it may, I think Weyerhaeuser offers decent value today on the strength of its extensive timberland assets and the improvements the company has made not only toward streamlining and focusing the business, but also in improving operating margins in the manufacturing operations.

It's been a while since I've updated my coverage on this company, but I think $30 to $35 a share is a reasonable (albeit wide) range for Weyerhaeuser shares, with $35 as the "sweet spot" on the basis of my sum-of-the-parts valuation. A trade war with Canada over lumber is a looming issue, but one that shouldn't hurt Weyerhaeuser, and I like the company's leverage to increasing housing activity albeit with some caution on what would be a potential oversupply of lumber into the market in the coming years.

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Underlying Value And Housing Growth Support Weyerhaeuser

Excellence And Opportunity Boosting Ternium

Ternium (NYSE:TX) has done alright since my last update on this Mexican steel company, with the shares up more than 20% since April and getting into my $20-$24 fair value range. Of course, one of the ironies and frustrations for value investors is that worse companies tend to do better in commodity rallies, and while Ternium is up 20% and Steel Dynamics (NASDAQ:STLD) is up about 10%, Gerdau (NYSE:GGB) is up more than 75%, ArcelorMittal (NYSE:MT) is up more than 35% and Grupo Simec (NYSEMKT:SIM) is up about 30% over the same time period.

On the plus side, I think Ternium remains one of the best-run steel companies in Latin America (if not overall), and the company is leveraged to positive trends like low-cost slab supply and growing auto and appliance production in Mexico, not to mention recoveries in Argentina and Brazil. On the negative side, I don't see quite the same upside in the shares anymore and there are risks that discontent in the U.S. over NAFTA could lead to more sweeping changes down the road.

I still believe that Ternium is an excellent company, but I tend to be more demanding and conservative with my required returns for commodity companies. I think there are credible arguments for holding (and maybe buying) these shares given the strong margins and growth potential, but the overall expected returns aren't quite as robust as I'd like to really make this is a committed buy call.

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Excellence And Opportunity Boosting Ternium

Wednesday, October 19, 2016

Alaska Air Undervalued On Uncertainty

It's been a while since I've written on Alaska Air Group (NYSE:ALK) and a lot has changed since then. A company praised and valued for going its own way and sticking to a different plan than many of its rivals is trying to go down the familiar route of growth through M&A. With that, the company is taking on risks tied to the deal approval process, integrating the two businesses, mixing up its fleet, and possibly wrecking the things that made merger target Virgin America (NASDAQ:VA) distinct and popular.

I do think there are valid concerns regarding the Virgin America deal, not to mention ongoing concerns about competitive capacity increases and pressures on yields. Outside of Virgin America, none of these concerns are new, though, and I think management here has earned the benefit of the doubt. I'm taking a cautious view on valuation given the present uncertainties, but Alaska Air still looks at least 10% undervalued on that basis, with more upside that can be driven by solid execution on synergy targets and/or less onerous conditions for deal approval.

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Alaska Air Undervalued On Uncertainty

Carpenter Technology Waiting For Orders To Drive Utilization

Like Universal Stainless (NASDAQ:USAP), I thought back in February that Carpenter Technology (NYSE:CRS) was an interesting high-risk way to play improving sentiment about aerospace (or aerospace components) with maybe an "at least it won't get worse" kicker from energy. Like USAP, Carpenter has rewarded that viewpoint, with the shares up almost 50% from the time of my last article.

I'm not as bullish on Carpenter now, though. I do believe that the comments coming from major engine suppliers like General Electric (NYSE:GE) and United Technologies (NYSE:UTX) bode well for deliveries over the next three to five years, but I'm still concerned that overall aircraft deliveries will disappoint (especially in widebodies) and that recoveries in markets like energy will be slower than the bulls hope.

Carpenter does have a lot of self-improvement potential (which could enhance its appeal as a takeout candidate) going into an upturn, but I worry that there is too much capacity in specialty alloys for the company to get back to double-digit ROICs. With that, I suppose there could still be some trading appeal here, but my fundamental view is less bullish.

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Carpenter Technology Waiting For Orders To Drive Utilization

Universal Stainless & Alloy Products May Be Bottoming, But The Future Remains Murky

When I last wrote about Universal Stainless & Alloy Products (NASDAQ:USAP), I thought this struggling specialty alloys company had some speculative appeal but only for aggressive risk-seeking investors. The shares have since risen about 30%, on par with fellow alloys company Carpenter (NYSE:CRS), better than Haynes (NASDAQ:HAYN) (up 15%), and worse than Allegheny Technologies (NYSE:ATI) (up 56%). I believe these gains have been fueled by optimism that the "perfect storm" of weakness in aerospace, power gen, oil/gas, and heavy equipment has largely bottomed and that sales and margins should improve from here.

I think USAP could be 10% to 20% undervalued today, and that's assuming the company doesn't regain prior peak sales until 2023 and prior peak gross margins until 2021 (the difference being a mix shift toward higher-margin products). On the other hand, I don't think the company is exactly out of the woods with respect to its debt position and there is ample capacity in the specialty alloy market. Add in wobbliness in aerospace order books and persistent low energy prices, and this remains a stock that's really only suitable for the risk-seeking investor.

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Universal Stainless & Alloy Products May Be Bottoming, But The Future Remains Murky

Healthy Spreads And Steady Operations Helping Braskem

Brazilian shares have had a good run since the spring, and Braskem (NYSE:BAK) has gone along for the ride with the shares climbing another third since my last piece, taking the shares up 70% over the past year. Brazil's economy is still in tough shape, but weak oil prices and healthy international demand for polyethylene and polypropylene have kept the company's financials in good shape.

There are a lot of unknowns that investors have to make their peace with if they're going to own Braskem. The company announced earlier this month that they were having settlement discussions with the U.S. Department of Justice and the SEC regarding the company's involvement in a widespread bribery and corruption probe in Brazil, but the magnitude of any settlement (in the U.S. and Brazil) is still unknown.

What's more, Brazil's economy seems to be stabilizing, but the path of the recovery is uncertain and Braskem's chemicals are tied to demand for fundamental products like construction materials, appliances, cars, packaged foods and so on. In addition to all of that, there is the regular unpredictably of the currency markets, energy markets, and basic chemical markets.

I believe Braskem is still undervalued on an EV/EBITDA basis, but it's a more challenging call. Braskem should benefit from increased production in Mexico, healthy fundamentals in the U.S., and the Brazilian recovery, but basic chemical companies don't often lend themselves to being long-term buy-and-hold stocks.

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Healthy Spreads And Steady Operations Helping Braskem

Tuesday, October 18, 2016

Louisiana-Pacific Riding The Rising Tide

Back in February, I thought Louisiana-Pacific (NYSE:LPX) had upside into the high teens on improving housing numbers and stronger OSB pricing, and the shares are up close to 25% (to just under $19) since then as housing has been healthy and OSB prices have improved. Better still, the industry has remained responsible and restrained with respect to capacity, raising the possibility of even better pricing in the next year or two.

Lousiana-Pacific is closing its profitability gap with Norbord (NYSE:OSB) and Weyerhaeuser (NYSE:WY) in OSB, but also looking to expand its siding business as SmartSide continues to gain share in the market. It's important to remember that this is a cyclical stock (currently in the good part of its cycle), though, and that these good times won't last forever. There's still some upside to fair value based upon a full-cycle EBITDA estimate (and the possibility that more restrained competition will support a higher full-cycle number), but more of the upside in the shares now rests on the Street getting fired up about the housing/building material cycle and indulging in magical "it's different this time" thinking.

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Louisiana-Pacific Riding The Rising Tide

Innospec In A Lull, But A Big Deal Can Drive Value

I liked Innospec (NASDAQ:IOSP) as a value play back in April, as I thought the Street was too caught up in the weakness in the Oilfield Services business and overlooking the long-term potential in the core Fuel Specialties and Performance Chemicals businesses, as well as the possibilities for value-creating M&A and an eventual recovery in the oil business. I didn't expect the stock to be this strong, though, with the shares up almost 40% since that last piece.

Innospec was doing pretty well on its own through August as margins were holding up better than analysts expected. The big jump came with the second quarter earnings, though, as the company announced the $200 million acquisition of Huntsman's (NYSE:HUN) European surfactant business. Although this business looks more commoditized than Innospec's Performance Chemicals business, there are opportunities here for cross-selling and margin improvement and this gives Innospec a European foothold that could prove more valuable in the years to come.

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Innospec In A Lull, But A Big Deal Can Drive Value

S&W Continues To Plant Seeds For Future Growth

The ag sector has shown a little life since the last time I wrote on S&W Seed (NASDAQ:SANW), but this small grower of alfalfa seeds has done better than most with better than 15% improvement in the share price since the time of that late March piece. While the company's growth in recent quarters has been hampered by low inventories (caused by disappointing yields due to weather), the company has shown good discipline with its seed pricing and sourcing, as well as its corporate costs.

The rebound in the share price has taken some of the easy money off the table, but the company has made multiple moves that should improve the stability and growth potential of the business over time. Diversifying into new crops seems like a risk worth taking, but the key for the company, in my view, remains its ability to improve seed prices and push adoption of higher-value seeds by emphasizing the yield and value advantages of its hybrids.

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S&W Continues To Plant Seeds For Future Growth

Sunday, October 16, 2016

Qualcomm Seems Frustratingly Reactive

A little over a year ago, I thought Qualcomm's (NASDAQ:QCOM) valuation was potentially interesting, but I couldn't really recommend the shares due to margin erosion and what I saw as a lack of management initiative to make meaningful changes to grow the business. The shares are basically flat since then, due in part to ongoing worries about market share, pricing, and volume in handsets, as well as a lack of movement on the M&A front.

Really very little has changed regarding my outlook and feelings about Qualcomm. I think management's targets and goals for growth outside of handsets are exceedingly ambitious, and I think the royalty issues could linger on as a perpetual concern. I do find the prospect of major M&A to be interesting (most likely NXP (NASDAQ:NXPI)), though I stand by my comment last year that Nvidia (NASDAQ:NVDA) would have been a better long-term idea. While there is some value here, quite a bit of skepticism, and opportunities to do better, Broadcom (NASDAQ:AVGO) offers similar value and what I believe is a higher-quality business and management team.

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Qualcomm Seems Frustratingly Reactive

Execution And Opportunity Continue To Drive Broadcom

Broadcom's (NASDAQ:AVGO) recent stock market performance hasn't been all that special. Since my last update on this leading chip company, the shares have done a little better than the NASDAQ, but have lagged the SOX pretty meaningfully, not to mention lagging other notables like Qualcomm (NASDAQ:QCOM), Texas Instruments (NYSE:TXN), and Intel (NASDAQ:INTC).

I'm not worried. Sure, as a Broadcom shareholder I'd love to see the stock performing better, but the company's financial reports have been positive and I believe there are strong tailwinds for both the wireless and wired businesses. Uncertainty around M&A is a risk factor, as are general market/economic conditions and competition, but I believe Broadcom has the quality to be a long-term holding and the valuation today isn't bad.

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Execution And Opportunity Continue To Drive Broadcom

Monday, October 10, 2016

Qorvo Still A Few Ducks Short Of A Nice Row

For a chip company like Qorvo (NASDAQ:QRVO), there's an ongoing need to pair attractive revenue growth with strong margins as both loom large in chip stock valuation. Recently Qorvo has done well shoring up the prospects for the first half, as content wins with Apple (NASDAQ:AAPL) and ongoing share growth with Chinese handset makers are making a good case for mobile revenue growth. What's more, wireless infrastructure seems to be rebounding nicely off a recent bottom.

But Qorvo still doesn't have all of its ducks in a row. Gross margin has disappointed recently and management's guidance was not particularly encouraging - dredging up past margin concerns and limited the enthusiasm over share-driven revenue growth. Healthy margins can justify a fair value in the $60s today, but I don't consider management execution to be a given here like I do with Broadcom (NASDAQ:AVGO), and there are risks that rivals like Skyworks (NASDAQ:SWKS) and Qualcomm (NASDAQ:QCOM) will ultimately squeeze a little harder in the future.

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Qorvo Still A Few Ducks Short Of A Nice Row

Consistent Excellence Continues To Drive Stryker Higher

Institutional investors don't like surprises (at least the negative ones), and they adore above-average growth. That puts Stryker (NYSE:SYK) right in their sweet spot, and it goes a long way toward explaining why the shares often trade at a premium. These shares are up another 15% from the time of my last update, and the company's growth rate continues to impress. While Stryker does not look undervalued today, it seldom does, and ongoing high-end execution should be able to at least maintain the valuation multiples.

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Consistent Excellence Continues To Drive Stryker Higher

NuVasive Has Restored Its Growth Cred And Has Been Well-Rewarded

While I did say that I thought NuVasive (NASDAQ:NUVA) was undervalued when I last wrote about this growing spinal care specialist, I didn't think a 40%-plus run in six months was on its way. But with ongoing share growth, margin improvements, incremental M&A, and clear signs that the company's comprehensive strategy is working in the market, investors have gotten back on board in a big way.

I don't want to be a wet blanket, but I do wonder if the excitement has gotten a little overheated. My expectations for 2020 have gone up close to 10% (and are still below management's targets) and the company could be set up to gain even more share in the deformity market and in the degenerative market with a move toward bundled payments. Still, I'm hesitant to stretch my valuation assumptions beyond what has historically worked for growth med-tech.

There's a pretty clear pattern with this stock - investors get excited, there's a notable pullback, a flattish period, another run, and then another pullback. The shares are still up almost 300% over the last five years, though, so that's volatility that I think many investors can learn to live with. I want a better risk/reward trade-off before I put my own money here, but NuVasive is definitely making hay today by exploiting a lack of innovation at entrenched rivals like Johnson & Johnson (NYSE:JNJ) and Medtronic (NYSE:MDT).

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NuVasive Has Restored Its Growth Cred And Has Been Well-Rewarded

Thursday, October 6, 2016

Ciena Starting To See Some Rewards

Having written that Ciena (NASDAQ:CIEN) shares looked like an interesting trade earlier this year, I'm pleased to see the 25% move since late March - a performance that doubled the NASDAQ over that time, not to mention it outperformed comps like Infinera (NASDAQ:INFN), Cisco (NASDAQ:CSCO) and Nokia (NYSE:NOK). Better still, at least some of this outperformance is supported by actual improvements in the underlying business, with the last quarter (the company's fiscal third quarter) showing an acceleration in revenue back to double-digit growth along with meaningful improvements in non-GAAP margins.

Looking ahead, Ciena should really start to reap the benefits from Verizon's (NYSE:VZ) 100G optical metro build-out in calendar 2017, and web-scale customers continue to sign up for the company's Wavecenter datacenter interconnect. On the "but" side, Nokia and Huawei seem to have really stepped up their competitive efforts in Europe, and I remain concerned about the feast-then-famine nature of the business. In terms of buy-and-hold long-term value, Ciena isn't nearly so appealing anymore, but valuation and sentiment on these shares have historically been very tied to near-term earnings momentum, so more aggressive investors may want to let this one continue to play out in their portfolios.

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Ciena Starting To See Some Rewards

Alnylam Crushed On A Surprising Late-Stage Failure

What biotech investors giveth, they can quickly taketh away.

Before Wednesday evening, Alnylam Pharmaceuticals (NASDAQ:ALNY) was, I think, the most highly-valued biotech with no product approvals at around $6 billion in market cap. A huge chunk of that is going to evaporate today (October 6, 2016), as the company stunned investors Wednesday evening with the announcement that it was ending development of its Phase III candidate revusiran.

Alnylam management, never shy to issue a press release or host a conference call, hemmed and hawed about the precise reason(s) why the data monitoring committee recommended stopping the study, and that's likely going to lead to widespread concern about the company's pipeline and technology - concern that isn't helped by a recent run of trial setbacks. Once the dust settles, Alnylam is likely to be meaningfully undervalued relative to the potential of patisiran, fitusiran, and earlier-stage assets, but this stock will be deep in the doghouse and very much back to a "show me" status with investors.

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Alnylam Crushed On A Surprising Late-Stage Failure

Weak Yields And Sentiment Weigh Heavily On SLC Agricola

While Cosan Ltd. (NYSE:CZZ) and Cresud (NASDAQ:CRESY) have shot up since the latter part of January, SLC Agricola (OTCPK:SLCJY) has performed more like Adecoagro (NYSE:AGRO) in going nowhere fast. Investors are no longer mad about buying up hard asset plays like farmland, and SLC Agricola has also seen historically bad weather whack its crop yields. Add in the fact that these ADRs weren't particularly liquid even in the best of times and you have a pretty uninspiring set-up for the shares.

Value remains a point of frustration with me. I can tell you that an independent appraisal values the company about 25% more than the market does even if you just look at land values and debt (and give no value to other company-owned assets or any potential appreciation through development). Likewise, a discounted cash flow analysis - typically a pretty ungenerous valuation approach for farming companies - suggests undervaluation of around a third.

It's tempting to think that this year's bad weather won't repeat again next year and that SLC Agricola's proven ability to generate above-average yields and develop its land will be better valued by the market in the future, but the illiquidity of the shares and uncontrollability of the business are both significant factors to consider.

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Weak Yields And Sentiment Weigh Heavily On SLC Agricola

Cresud May Be Undervalued, But Value-Creation Is Complicated

As was the case with Adecoagro (NYSE:AGRO), Cosan (NYSE:CZZ), and SLC Agricola (OTCPK:SLCJY), my last look at Cresud (NASDAQ:CRESY) came near a time of "peak panic" in the markets regarding the outlook for stocks in general and particularly companies exposed to shaky economies like Brazil and Argentina. While I thought that Cresud looked undervalued back in January, I also thought that all of the hassles regarding management's dealings with IDBD (through IRSA (NYSE:IRS), of which Cresud owns about 64%) weren't worth the trouble.

That was a mistake, as the shares have shot up more than 80% since then. Investors have, I think, gotten more comfortable that Cresud management is not going to plunder this company (or IRSA) to support IDBD (now operated as Clal Insurance and Discount Investment Corp.), but also more comfortable with the direction of Argentina's economy and the prospect that reforms to economic and agricultural policies will underpin stronger land values in the future.

I clearly undervalued IRSA when I last wrote about Cresud, in part because I was expecting more money to be diverted toward IDBD. Correcting that mistake and updating the valuation estimates for Cresud's farmland leads to a big boost in my fair value (to about $21.25). That still leaves meaningful upside, not to mention the long-term potential for higher land values and value creation through land development, but investors should note that consolidating the Israeli operations has made the reporting more complicated and speculation on land development is an inherently risky business.

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Cresud May Be Undervalued, But Value-Creation Is Complicated

Wednesday, October 5, 2016

Despite A Setback From Its OUS Distributors, K2M Continues To Leverage Innovation To Grow

K2M (NASDAQ:KTWO) is up about about 15% from when I last wrote about the company, but it hasn't been a smooth path. The shares were hammered in early May when the company lowered guidance due to business setbacks with two distributors that make up more than half of its international sales. Despite this blow, K2M has shown in the meantime that its innovative portfolio of products for complex/deformity, minimally invasive, and degenerative spine surgery can drive worthwhile growth in the U.S. market.

I continue to believe that K2M can and will grab share from Medtronic (NYSE:MDT) and Johnson & Johnson (NYSE:JNJ) in the complex/deformity market segment on the basis of innovation, and that the company will have success in pulling through into the minimally invasive and degenerative markets. I'm looking for low double-digit revenue growth over the next decade and for FCF margins to ultimately reach the low-to-mid teens. Factoring in the near-term setback to revenue growth (and its impact on margins and cash flow) and dilution from a recent convertible bond offering, my fair value drops to around $20, making K2M an okay idea for new money and at least deserving of a spot on the watchlists of investors interested in growth med-tech.

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Despite A Setback From Its OUS Distributors, K2M Continues To Leverage Innovation To Grow

AGT Food And Ingredients Still Catching Up

Toiling in relative obscurity hasn't really hurt Canada's AGT Food and Ingredients (OTCPK:AGXXF) (AGT.TO), as this leading processor of lentils and other pulses has seen its shares climb more than 40% over the past year and 150% over the past three years. I've been a fan of this company for some time now given its efforts to add capacity in higher-margin businesses like good ingredient production, but I thought the valuation was getting a little steep back in April, and the shares are more or less flat since that last update (though with a 15% dive in the interim).

At this point, I'm still ambivalent about these shares. I like AGT's efforts to build out its higher-margin ingredients lines, and I think a strong Canadian pulse crop bodes well for next year, but this company has never been good about generating free cash flow and management's periodic comments about the business lead me to wonder if there's really a solid long-term plan in place. I think a price in the high 30s (in Canadian dollars; the Canadian shares are much more liquid and I'd recommend investors buy these if possible) is appropriate today and I'd need another dive into the low C$30s to really get excited about buying shares.

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AGT Food And Ingredients Still Catching Up

Synergy Pharmaceuticals Getting Closer To 'Go Time'

Synergy Pharmaceuticals (NASDAQ:SGYP) has inched a little higher since I last reviewed the company, climbing a little less than 10% over a time when biotechs in general have declined (as measured by the iShares Biotechnology Index (NASDAQ:IBB) and SPDR Biotech ETF (NYSEARCA:XBI)). On the other hand, Synergy's closest comp, Ironwood (NASDAQ:IRWD) has risen close to 40%.

Synergy remains an interesting biotech opportunity to me, but I think the company has a lot of work to do to reassure the Street that it can really compete on its own in the market and gain real share once its lead drug plecanatide hits the market. Without a large partner (Ironwood has Allergan (NYSE:AGN) and Nektar (NASDAQ:NKTR) has AstraZeneca (NYSE:AZN) selling its OIC drug Movantik), I think a lot of investors fear that Synergy will never manage to break through and could find it in a situation like XenoPort did with its restless leg drug. I believe there are some key differences between those situations, though, and while I do worry that Synergy's plecanatide sales may ramp more slowly than its bullish analysts' forecast, I think these shares are worth more than $9 on the potential of plecanatide.

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Synergy Pharmaceuticals Getting Closer To 'Go Time'

IRSA Has Some Value And Argentine Leverage, But A Lot Of Headaches Too

As I've gotten older, one of the things I really feel I have learned is that investors ought to demand rich rewards for complexity and risk. Simply put, there are a lot of ways to make a buck out there, and if you're being asked to put up with a lot, there should be commensurate excess returns.

With that, I struggle to be more positive on Argentina's IRSA (NYSE:IRS). I'm not worried anymore that the company's ventures into Israel are going to kill the company through a debt overdose, but I do worry about a potential squandering of shareholder resources and a diversion of management attention away from more profitable traditional pursuits. These shares could be undervalued, and I likewise believe that an ongoing recovery in Argentina and a potential realization of value from the landbank could drive even more value, but honestly... it just looks like too much of a hassle to be worth the risk.

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IRSA Has Some Value And Argentine Leverage, But A Lot Of Headaches Too

Cosan Buoyed By Better Operating Results And Optimism On Brazil

If you really hate your brain and want to punish it, dig deep into Cosan Ltd (NYSE:CZZ). While this Brazilian-American conglomerate has a lot of positives going for it, including a strong position in ethanol and sugar production, fuel distribution, and rail in Brazil, it also has a complex holding company structure, a lot of debt, and a lot of moving parts to factor into any sort of valuation analysis.

My last update on Cosan took place right around the period of peak pessimism on Brazil, with both the stock market and currency around five-year lows. Since then, not only has Cosan seen stronger markets for ethanol and sugar, but more optimism about a recovery in Brazil and a stronger currency. The shares have soared more than 100% since my last update and yet I still think there could be upside left.

Adjusting for the company's capex plans, the recapitalization of Rumo, and the exchange rate, my fair value rises to around $11, suggesting meaningful upside is still possible. Keep in mind, though, that what the currency markets give they can also take back and Cosan is a high-beta play on Brazil, not to mention a complicated company in its own right.

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Cosan Buoyed By Better Operating Results And Optimism On Brazil

Tuesday, October 4, 2016

Adecoagro's Valuation Looks A Little Too Sour

When I last wrote about Adecoagro (NYSE:AGRO), I thought the company was in place to benefit from an improved political and economic situation in Argentina and its low-cost position in ethanol in Brazil, but I thought the valuation was less than compelling, and particularly next to Cosan (NYSE:CZZ) and SLC Agricola (OTCPK:SLCJY). Since that last article, Adecoagro shares have basically been flat while Cosan has soared, SLC Agricola has gone up a bit (around 16%), and another Argentine farming/farmland play, Cresud (NASDAQ:CRESY), has been quite strong.

At this point, I'm more bullish on Adecoagro again. While low global grain prices are a concern, prices have been quite healthy in the sugar and ethanol business. What's more, the company continues to periodically sell farmland well in excess of appraised value, and the economic reforms underway in Argentina make further appreciation a credible driver. With a fair value around $13.50 to $14.50, Adecoagro isn't shockingly cheap, but I think it is worth the elevated level of risk that goes with an emerging market commodity play.

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Adecoagro's Valuation Looks A Little Too Sour

Amid Multiple Market Worries, AerCap Holdings Seems Too Cheap

It wasn't so long ago that many companies were getting into the aircraft leasing space and Wall Street was cheering them along. After all, emerging market demand was supposedly going to have customers rushing to airports and buying tickets hand over fist to travel, and airlines were going to enjoy a prolonged period of blemish-free prosperity. Along the way, established operators like AerCap (NYSE:AER), Fly Leasing (NYSE:FLY), and Aircastle (NYSE:AYR) enjoyed a solid run as the likely beneficiaries of more airlines turning to leasing and an attractive spread between lease rates and debt costs.

And then along came reality.

Weaker economic conditions in Latin America, China, and Russia have certainly had an impact on emerging market air travel demand and there are now valid concerns about the impact of a glut of widebody aircraft. What's more, the low oil prices that once looked like a boon for airlines and air travel have become a challenge in their own right as they reduce the value of more modern, more fuel-efficient aircraft for lessees.

With all that, AerCap is off about 25% from its 2015 peak and has been trading below book value for some time. There are certainly valid concerns remaining in the leasing industry - will long-term air travel demand growth projections of around 5% hold up, will higher debt costs materialize and shrink margins, will the company continue to be able to successfully turn over its fleet? Even so, I believe that AerCap could liquidate its fleet for 20% to 40% more than today's share price, and I think that underpins a value call for risk-tolerant investors.

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Amid Multiple Market Worries, AerCap Holdings Seems Too Cheap

Monday, October 3, 2016

DigitalGlobe Still Trying To Find The Right Model

It's been a while since I've written about DigitalGlobe (NYSE:DGI), but in the meantime, a lot of the concerns I had about this satellite imagery and analytics company back in early 2015 have proven to be valid. Namely, DigitalGlobe was too aggressive in stoking expectations for a significant ramp in commercial revenue and arguably a little too cavalier in talking down the threat posed by small-sat competitors.

As old optimism and expectations were washed out, DGI shares slid almost non-stop from the time of my last article to a low early this year of under $12 (a roughly two-thirds fall). Since that time, though, management has gotten a lot better about shifting toward an "under-promise/over-deliver" model with the Street, commercial revenue has improved, and the company has had some notable success expanding its business with friendly foreign governments.

There are still numerous relevant operating threats for DigitalGlobe, and the true ultimate size of the commercial opportunity is a key unknown. That said, management has done a good job of improving margins despite a lower revenue trajectory and mid single-digit FCF growth from 2015 onward can support a fair value close to $30.

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DigitalGlobe Still Trying To Find The Right Model