Independent Bank Group Seeing Improved Deposit Costs And Okay Loan Growth In A Challenging Period

In a challenging environment, a bank with a respectable core deposit franchise and a good underwriting track record is not a bad call, and Independent Bank Group (IBTX) has rebounded sharply since calling off its merger of equals with Texas Capital Bancshares (TCBI) back in May – outperforming regional banking peers by more than 30%. While there are nits to pick with respect to Independent’s standalone performance since its last acquisition (Guaranty in 2018), I nevertheless believe this is a good lender with meaningful growth prospects in Texas and Colorado.

M&A has long been core to the IBTX growth story, and I see no reason to expect that to change. With deal activity picking up, including the recent PNC (PNC) acquisition of BBVA’s (BBVA) U.S. operations, I would expect IBTX to be back on the hunt. As the shares are relatively fairly valued on an “as is” basis, and I do have some concerns about execution where organic growth is concerned, I do believe accretive deals are important to driving further rerating here.

 

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Independent Bank Group Seeing Improved Deposit Costs And Okay Loan Growth In A Challenging Period

Schneider Electric Leveraged To Multiple Secular Growth Drivers

Reluctant as I was to get off the Schneider Electric (OTCPK:SBGSY) (SCHN.PA) a little while ago, I still have this crazy notion that valuation ought to matter. Since my last update, Schneider has modestly underperformed its industrial peer group, including Eaton (ETN), but the shares have still outperformed companies like ABB (ABB) and Rockwell (ROK), not to mention the S&P 500 as a whole.

I still love the secular growth stories at Schneider, and I still believe that management maybe still doesn’t get full credit for the improvements they’ve made – I say “maybe” because although the shares have done well, there still seems to be a stubborn “show me” attitude with more than a few analysts. In any case, I love Schneider’s leverage to automation (factory and elsewhere), greener buildings, data growth, and so on. A growth story in a growth market can still work, but I’d really prefer to buy in at a lower valuation than what’s available today.

 

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Schneider Electric Leveraged To Multiple Secular Growth Drivers

Carpenter Technology Is Just A Passenger Now As The Aero Cycle Sorts Itself Out

Businesses with high fixed costs do well when demand is strong and driving healthy volumes, but the other side of the cycle can take a painful bite out of margins, and that’s what Carpenter Technologies (CRS) is seeing today. Aerospace demand hasn’t exactly evaporated, but it’s been hit hard by steep declines in flight hours (which drive demand for replacement/maintenance parts) and slashed production schedules, and there’s really not much else to pick up the slack and keep those forges and production lines full.

Given how tied Carpenter is to the outlook for aerospace, I’m not surprised that the shares have traded higher recently on the good news on COVID-19 vaccine efficacy. Even with that in hand, though, it’s going to be a few quarters before revenue stabilizes, and a while longer until there’s meaningful growth and operating leverage.

When I last wrote about Carpenter, I saw upside to the mid-to-high $20s, and I’d still stand by that today (maybe even up to $30). I do believe the business is unlikely to get much worse from here, but I don’t have a lot of love for these shares beyond a trading opportunity. Specialty alloys sounds like it should be a more impressive business than it is, and while I do see some potential in the company’s soft magnetics and additive manufacturing efforts, I think sustained differentiation and truly impressive full-cycle ROICs are unlikely.

 

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Carpenter Technology Is Just A Passenger Now As The Aero Cycle Sorts Itself Out

Fortive Still Checks A Lot Of The Popular Multi-Industrial Boxes

Fresh off its spin-off of Vontier (VNT), Fortive (FTV) has seen no lull in investor enthusiasm for this newly-streamlined multi-industrial. It certainly doesn’t hurt that Fortive checks a lot of the most popular boxes for institutional investors in the industrial space - not only is it more leveraged to automation than commonly appreciated (with exposure in sensors, asset tracking/monitoring, and motional control), but the company’s aggressive moves toward software (particularly SaaS) and healthcare have certainly not gone unrewarded.

I like the secular growth story Fortive offers, as I believe the company is well-placed to leverage growing automation in manufacturing and logistics, growing remote monitoring across a range of industries, and growth digitalization in industries/markets like real estate and construction. I also see a clean balance sheet that will facilitate management resuming M&A relatively quickly.

What I don’t see, though, is a lot of undervaluation. The market is happy to pay for growth now, and the Street especially loves the above-average growth and above-average margin setup for Fortive, but the shares already trade at a pretty high relative premium to other high-quality names.

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Fortive Still Checks A Lot Of The Popular Multi-Industrial Boxes

Trane Has A Head Of Steam On Strong Resi Demand And Multiple Commercial HVAC Drivers

In a market that remains more focused on growth than value, strong HVAC names like Carrier (CARR) and Trane (TT) have continued to outperform, though another name I like in the space, Japan's Daikin (OTCPK:DKILY), hasn't done too badly either. Improved prospects for a COVID-19 vaccine haven't dented the air quality angle to the HVAC story, nor have investors moved off of the green retrofit story.

While I like the long-term secular story behind HVAC and Trane, including increased global urbanization, increased focus on energy efficiency and building automation, and air quality, the valuations across the sector do still concern me, and the shares are within 10% of even the most bullish sell-side fair value targets. I continue to like this as a secular/trend call, but the valuation makes it harder to recommend at these levels.

 

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Trane Has A Head Of Steam On Strong Resi Demand And Multiple Commercial HVAC Drivers

Texas Capital's Upside Tied Largely To Self-Improvement

There's a lot not to like about Texas Capital Bancshares (TCBI) right now, and before the announcement of the new CEO, that was reflected in a weak relative performance track record over the last two years. Texas Capital has basically been an asset-sensitive spread lender that struggled to generate attractive efficiency ratios and ROA/ROE/ROTCE during the good times, and the company's strengths have largely been in lower-return businesses. On top of that, the bank has seen a noticeable talent drain over recent years, and the dissolution of the proposed merger with Independent Bank Group (IBTX) was yet another body-blow to sentiment.

Now, though, things are looking a little better for banks. Rates aren't likely to improve anytime soon, and loan demand and credit quality are likely to remain headwinds a little while longer, but it looks as though the bear-case scenarios are off the table with respect to credit losses. More specific to Texas Capital, there's a new CEO in place, and hiring the former head of JPMorgan's (JPM) Corporate Client Banking business has certainly helped sentiment.

Valuation and upside now really depend upon what this new CEO can achieve in terms of restructuring, repositioning, and just generally improving the bank. On an "is what it is" basis, I'd argue that Texas capital is now pretty fairly valued. On the basis of what it could become, though, I can see double-digit upside from here.

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Texas Capital's Upside Tied Largely To Self-Improvement

COVID-19 Worries Overshadowing Real Progress At Rexel

Rexel (OTCPK:RXEEY) (RXL.PA) is far from the only company to have sold off recently on renewed fears of what a resurgence in COVID-19 cases in Europe (and ongoing growth in the U.S.) will mean for the expected economic recovery. Still, with better than expected results and significant potential from both internal transformation (digital efforts namely) and external drivers like onshoring, automation, and green retrofits, I believe the recent pullback has created a more attractive opportunity in the shares.

Distribution is a difficult business, and investors should never expect Rexel to produce the sort of margins that its suppliers (ABB (ABB), Eaton (ETN), et al) do, but I believe the efforts underway here will lead to consistent FCF margins in the 3%’s and EBITDA margins moving towards the high single digits over the next five years. That, in turn, supports a low-to-mid-teens total annualized return from current levels, making this a pretty attractive option in my view.

Rexel’s ADRs are not particularly liquid, and that may be an issue for some investors, though buying the local shares is an option with many brokers these days.

 

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 COVID-19 Worries Overshadowing Real Progress At Rexel

Keyence Riding High As Automation Demand Is Set To Improve

Japan’s Keyence (OTCPK:KYCCF) is a remarkable company in many respects. In addition to strong positions in key enabling technology areas like machine vision, sensors, and control systems, Keyence has an exceptional margin structure, with outsourced manufacturing, an intense focus on innovation, and a strong marketing effort driving margins that are rarely seen outside of software in the industrial machinery space.

There are downsides and concerns to consider, though. Keyence offers precious little information to investors about its own operations, and most of what I know about the company comes from talking to and following its competitors. Keyence also seems to generate a remarkable level of sales growth for a company with such low R&D spending (around 3% of revenue), and that leads me to wonder if rivals like Cognex (CGNX) will ultimately out-innovate the company.

Valuation has never been simple when it comes to Keyence, and that’s even more true now after a strong run that has seen Keyence leave rivals like Cognex and Emerson (EMR) even further behind. Keyence is a rare asset with respect to metrics like margins and ROIC, and top-tier companies deserve a premium. Likewise, automation demand should continue to outgrow underlying industrial output. Still, with the company already trading at a 2x premium to more normal valuation standards, how much upside can investors really expect?

 

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Keyence Riding High As Automation Demand Is Set To Improve

Execution, Opportunity, And Scarcity Value All Propelling Lattice Semiconductor

Lattice Semiconductor (LSCC) remains a case-in-point as to why I recommend investors not worry about valuation quite as much when they already own a growth company that is executing well – when growth investors lock onto a name, they can propel the valuation to and beyond levels that seem well out of proportion to the underlying operational story.

That’s not meant as sour grapes with respect to Lattice, though of course I wish I’d bought shares at literally any price over the last few years. I see significant growth potential in the company’s low-power FPGA target market, and that opportunity is matched by what I believe has been good execution from this management team. The issue for me is that the shares already trade at over 50x 2021 EPS and 12x 2021 revenue. Even allowing for beat-and-raise opportunity, I just don’t know how to reconcile that valuation, particularly with the shares already trading at more than 100% of management’s prior estimate of its 2022 served addressable market.

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Execution, Opportunity, And Scarcity Value All Propelling Lattice Semiconductor

Neurocrine Biosciences Hit By Multiple Setbacks

I never expected 2020 to be a strong year for Neurocrine Biosciences (NBIX), but the nearly 10% year-to-date decline is worse than expected, and it seems like the cursed year that is 2020 is starting to hit Neurocrine as well, with weaker than expected Ingrezza sales and some modest near-term setbacks in the pipeline.

The prospect of minimal Ingrezza growth through the second or third quarter of 2021 is definitely a headwind for the shares, as is the lack of strong near-term pipeline catalysts. I’ve said it before and I’m saying it again – the company’s lack of internal pipeline productivity is an issue, though one that has had an intermittent impact on valuation (it’s a handy go-to bear argument). Only about one-quarter of my valuation comes from the pipeline, though, and I still believe there’s more value here than the Street recognizes.

Unless Neurocine becomes a “vaccine stock” (a stock where sentiment is driven more by Street optimism that COVID-19 vaccines will quickly improve the situation in 2021), these shares could remain out of favor for a little while longer. Though I’m bullish on crinecerfont, that’s not a 2021 catalyst, and likewise with much of the pipeline. Still, with fair value in the $140s and Ingrezza issues that I believe are temporary, not fundamental, I believe these share are well worth consideration from patient investors.

 

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Neurocrine Biosciences Hit By Multiple Setbacks

Alnylam Seeing A Rebound In Onpattro And Encouraging Early-Stage Hypertension Data

Trading in Alnylam Pharmaceuticals (ALNY) shares has been choppy since my last update, and all year frankly, with a small decline in the share price since that last update in late September. Since then, the company has reported another good quarter of Onpattro sales, as the healthcare community learns more about how to work around the COVID-19 pandemic, as well as further positive data on multiple programs, including the early-stage ALN-AGT program in hypertension.

While a pause in a Phase III study of fitusiran (managed/controlled by partner Sanofi (SNY)) is a negative development, updates on Oxlumo and ALN-AGT have been more positive, leading to a small net improvement in my estimated fair value, taking the fair value to a little over $160. Two more Alnylam compounds should receive FDA approval before year-end, and 2021 is set to see multiple significant clinical developments, including the initiation of a study for a compound that works outside the liver. Given a high-quality pipeline, the potential to expand its technology into new treatment areas, and solid growth potential in its approved compounds, I continue to believe that Alnylam is a biotech stock worth owning at these levels.

 

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Alnylam Seeing A Rebound In Onpattro And Encouraging Early-Stage Hypertension Data

(Exclusive) AerCap's Valuation Is Now Post-Panic, But Still Offers Upside As Air Travel Slowly Recovers

Investors who bought AerCap (AER) shares below $12 in mid-March are already sitting on impressive gains, but I believe there is still meaningful upside available as the Street shifts from panic-level valuations to a more measured assessment of AerCap’s long-term value. There are still plenty of unknowns with respect to the path back to normalized air traffic levels and the financial health of airlines, but I see little risk of AerCap finding itself irreparably squeezed on liquidity, and this crisis should actually improve the prospects for the leasing industry over the next decade.

Across a range of valuation approaches (excess returns, discounted cash flow, price/book), I believe AerCap shares are undervalued below $50.

 

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(Exclusive) AerCap's Valuation Is Now Post-Panic, But Still Offers Upside As Air Travel Slowly Recovers

BBVA, PNC Strike A Win-Win Deal For BBVA's US Operations

It was no secret that PNC Financial (PNC) intended to put its large excess capital position to work through whole bank M&A, and it was likewise no secret that BBVA (BBVA) management was willing to listen to offers for its U.S. subsidiary. Those two realities intersected on Monday with the announcement that the companies had reached an agreement whereby PNC will acquire the U.S. branch banking assets of BBVA (BBVA USA) in an $11.6 billion deal that should close at some point in 2021.

I do believe this is a win-win opportunity for both banks, though moreso for PNC. BBVA is getting a good price on an asset that it frankly wasn’t running to its full potential, and management can deploy that capital toward dividends/buybacks or its own M&A activities. For PNC, the deal makes it a truly national bank with strong footholds in markets like Houston and Denver, as well as growth opportunities in states like Arizona and California, and likewise provides some meaningful self-improvement opportunities that past deals suggest management will achieve.

I liked PNC before, and I still like it now. I thought BBVA was undervalued when I last wrote about the company, and while the BBVA USA sale is a good value-creation opportunity, core underlying performance has been less impressive.

 

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BBVA, PNC Strike A Win-Win Deal For BBVA's US Operations

Another Strong Collection Quarter For PRA Group, But Trends Remain Hard To Read

Maybe it’s looking a gift horse in the mouth, but PRA Group’s (PRAA) strong third-quarter results came with some caveats - namely the question of whether underlying collection performance on receivables has fundamentally improved and when (and how much) supply will improve for the company. Given all of the unusual factors playing into 2020 results, it’s all but impossible to gauge underlying collections performance, and while charge-offs should accelerate in 2021, “should” only gets you so far.

I though PRA Group shares were pretty fairly valued back when I last wrote on the shares, and the shares are down about 15% since then. I can see two opposing potential drivers (apart from just profit-taking) - bank reports on reserves and charge-offs have been pretty mild (suggesting weaker forward supply), while gridlock in Washington has halted meaningful progress on further stimulus (hurting debtors’ ability to pay). While I acknowledge some pretty substantial unknowns in the model, I do believe that fair value remains in the low-to-mid-$40s, making PRA Group undervalued enough to consider today.

 

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Another Strong Collection Quarter For PRA Group, But Trends Remain Hard To Read

Aptose Shares Look Undervalued Ahead Of Value-Driving Efficacy Data

It’s tough to hold early-stage biotechs through all the ups and downs of the market, and Aptose Biosciences (APTO) shareholders have had their patience tested lately, as the shares have fallen about 6% since early August (my last update) and were down roughly 25% from a recent plateau around $6 before a positive post-earnings bump. You could spend a lot of time debating and speculating on why the stock sold off (including funds repositioning ahead of the election), but the reality is that this is just sometimes what happens with early-stage biotechs.

As things stand now going into the American Society of Hematology meetings in early December (virtual meetings this year, of course), I see no reason to shift my view that Aptose has an intriguing, high-potential, but still very high-risk primary asset in CG-806 and an arguably unappreciated, but very high-risk asset in APTO-253. While there are preliminary signs of efficacy for CG-806, I believe it will take clear formal responses (partial responses or, ideally, complete responses) to really bring the spotlight onto this promising hematology asset.

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Aptose Shares Look Undervalued Ahead Of Value-Driving Efficacy Data

ITT Posting Better Margins As It Moves Past The Trough

Although I still think that there is more risk to growth for industrial companies in 2021 than is reflected in valuations, there’s been a relatively good tenor of companies guiding that the second quarter was indeed the trough. That was true for ITT (ITT), and I likewise think it’s important to note that decremental margins have been better than expected, as this company has done quite well with its expense reduction efforts. Prolonged weakness in end-markets like aerospace and oil/gas is certainly a threat, but I likewise see a still-underappreciated opportunity to gain share in auto brake pads.

I bought ITT shares close to the price of my last update on the company, and I can’t complain about the performance since then – up over 20% since my last update, beating industrial peers by around five points. I’m a little concerned that worries about weakness in aero, oil/gas, and process industries is going to loom larger, as ITT is likely to undergrow peers/rivals like Dover (DOV) over the next few quarters, but the valuation is still fairly good (particularly on a relative basis). With that, I’m content to continue owning these shares, and I still think it’s an above-average idea in the industry sector.

 

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ITT Posting Better Margins As It Moves Past The Trough

Rockwell Automation Knocked Back A Bit On Less Robust Outperformance

As one of the top-two discrete automation vendors in North America (alongside Siemens (OTCPK:SIEGY)), Rockwell (ROK) remains well-placed to take advantage of ongoing automation adoption in factories, as well as newer trends like industrial IoT, hybrid automation, and the automation of logistics and warehouse facilities. It remains to be seen if reshoring will hold the same appeal with a new administration taking over in Washington, but brighter prospects for an effective COVID-19 vaccine should at least reduce some of the risks to the 2021/2022 economic outlook.

I thought Rockwell’s valuation was high in my last update, and the shares have since underperformed by about 10% (relative to multi-industrial peers), though the long-term (three-year or five-year) track record is still quite favorable. While I don’t object to a “best of breed” premium for Rockwell, and markets like autos, food/beverage, and life sciences should be strong in 2021, the prospective return still isn’t all that compelling to me.

 

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Rockwell Automation Knocked Back A Bit On Less Robust Outperformance

Eaton Still Standing Out On Execution And Strong Electrical Drivers

Eaton (NYSE:ETN) has been one of my favorite industrials for a while, and I can't say I regret those calls, as the shares have done quite well relative to other industrials (not to mention the S&P) over the last three months, 12 months, and three years. I've been particularly impressed by the company's execution on costs/efficiency; an effort that began a few years prior to COVID-19 but has continued to deliver better-than-expected results, even with the challenges of the pandemic and integrating a large deal.

Looking ahead, the valuation isn't the clear-cut bargain I wish it were, but the relative valuation is still fairly attractive. While I think it will take a few years for aerospace and oil/gas to fully recover, I don't see either market getting worse from here, and Eaton should also benefit from improvements in light vehicle and heavy vehicle production. Best of all is the leverage to electrical products, which gives Eaton exposure to a growing residential construction market, strong data center demand, healthy utility spending, and future investments in manufacturing and logistics automation, as well as green building retrofits.

 

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 Eaton Still Standing Out On Execution And Strong Electrical Drivers

BRF SA Executing Well In Processed Foods, But Seeing Ongoing Challenges Outside Brazil

Processed foods remain the best long-term driver for BRF SA (BRFS), as the company continues to see good demand and margins, especially in Brazil, for these value-added products. At the same time, management is starting to realize some of the benefits of the efficiency improvement efforts that make up a big part of the turnaround program. While pricing could become more challenging in Brazil in the near term, the longer-term outlook for the company’s processed food efforts remains healthy in my view.

When I last wrote about BRF, after second quarter earnings, I thought the undervaluation in the share price was offset in the short term by risks from rising cost pressures (grain/production in particular) and ongoing challenges in the OneFoods (halal) business. Since then, the shares have drifted lower, even including a solid post-earnings run, but the valuation remains attractive from a longer-term perspective.

 

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BRF SA Executing Well In Processed Foods, But Seeing Ongoing Challenges Outside Brazil

BorgWarner's Long-Term Appeal Remains Intact Despite Growing Near-Term Concerns

Between internal combustion engines, hybrids, and all-electric vehicles, BorgWarner (NYSE:BWA) has an attractive and comprehensive portfolio of solutions, and I expect BorgWarner to remain one of the key suppliers to the industry through this extended transition period. There are certainly short-term risks from COVID-19 and longer-term risks tied to uncertainties in how much OEMs will in-source (and the margins they will be willing to allow to suppliers), but I remain of the opinion that BorgWarner will maintain strong content growth, allowing the company to outgrow underlying production volumes across the next decade.

When I last wrote about BorgWarner, I had some concerns that the rally might have gone a little too far too fast, and the shares have since pulled back about 15%. I've taken advantage of this pullback to add shares in my own account, and I believe the shares are once again priced to offer an attractive double-digit long-term total annualized return. I don't ignore or dismiss the above-average risks here, but I believe the current price undervalues the quality of the company and its ability to leverage not only hybrid/EV content growth, but also growth from more conventional powertrains that will still be in production for some time.

 

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BorgWarner's Long-Term Appeal Remains Intact Despite Growing Near-Term Concerns

Lexicon Has Cleaned Up Its Balance Sheet To Take Another Run At A Meaningful Commercial Product

In a relatively short period of time Lexicon Pharmaceuticals (NASDAQ:LXRX) management has restructured the company around what is effectively a single-asset development strategy. I won't call the LX9211 development program a "hail Mary" play, but pain drug development is notoriously difficult, and if LX9211 doesn't work, Lexicon won't have the resources to leverage whatever else may be on the shelf. Management also still believes they can find a path forward for sotagliflozin in Type 1 diabetes, but I consider that a long shot with even worse odds than pain drug development.

My risk-adjusted fair value for Lexicon works out to a fair value of $2.50 per share. While that is clearly well above today's price, investors need to remember that LX9211 drives all of that value and pain drug development has historically offered poor outcomes, with even the drugs that make it through clinical development often falling short of revenue expectations.

 

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Lexicon Has Cleaned Up Its Balance Sheet To Take Another Run At A Meaningful Commercial Product

Reduced Consumer Activity Continues To Pummel FEMSA

It stands to reason that if people aren’t leaving their homes, and if they have less money to spend (and/or feel less confident in their economic prospects), store-based retailers aren’t going to do well. That’s a very simplified synopsis of what’s going on at FEMSA (FMX), but it’s basically accurate – consumer activity remains extremely weak on both reduced mobility and greater economic pressure in Mexico during the COVID-19 crisis, and FEMSA’s OXXO stores are suffering from a significant reduction in traffic. While there was a little upside from Coca-Cola FEMSA (KOF) and the pharmacy business in the quarter, it wasn’t enough to drive a good set of results.

FEMSA has been through downturns before, and while the specifics of this downturn are clearly different, I believe the company will recover as it has in the past. With a weak economic outlook for Mexico, though, evidence that FEMSA isn’t as defensive as once thought, and concerns about capital allocation decisions, it will take time for FEMSA to come back into favor. Given what I believe is mid-teens annualized total return potential from here, though, I’m content to wait.

 

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Reduced Consumer Activity Continues To Pummel FEMSA

A Small Q3 Pothole Creates A Pullback Opportunity With Valeo

The third quarter saw French auto supplier Valeo (OTCPK:VLEEY) (FR.FR) come up short on underlying production outperformance, the first such underperformance since the first quarter of 2018, and the market certainly didn’t like it. While a negative reaction is perhaps understandable, particularly given Valeo’s recent run of outperformance, I think it’s short-sighted in light of upgraded guidance for the fourth quarter and ongoing evidence of meaningful content wins in areas like 48V and ADAS.

I continue to like Valeo’s globally diverse business and its balanced leverage to traditional internal combustion powertrains (which will be with us a while longer), intermediate “light hybrid” solutions, and future fully-electric powertrains, as well as increasingly sophisticated ADAS systems. I also like the valuation, as the shares appear meaningfully undervalued on mid-single-digit revenue growth, modest long-term improvement in FCF margins, and near-term EBITDA margins in the 12%’s.

 

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A Small Q3 Pothole Creates A Pullback Opportunity With Valeo

Amid COVID-19 Pressures, Accuray Looks Toward The Start Of Its China Ramp

Over the years there has been a dominant theme Accuray (ARAY) – just wait a little longer and the business will start ramping up. Whether it was the latest system innovation, new clinical studies, a change in reimbursement, supplanting aged rival systems, or the China opportunity, there’s always been something just on the horizon that was going to drive revenue inflection. For the last seven years, though, revenue has been stuck in a $50 million band between $369 million and $419 million, while rival Varian (VAR) has seen core oncology system growth of around 5%/year, and the shares have continued to glide down.

I’ve said before that I believe current Accuray management has done more to improve the business than is reflected in the share price, and I still believe that. But with the company on the cusp of revenue recognition from its Type A license backlog in China, I don’t expect much patience from the Street if this doesn’t finally light the fuse on a more meaningful and lasting revenue ramp (and operating leverage).

I continue to model Accuray on the assumption of revenue acceleration from virtually no growth over the last six years (below 1%/year) to around 6% on an annualized basis. That level of growth should put the company on a path to double-digit FCF margins down the line, and it should likewise support a near-term fair value in the mid-to-high single-digits. Even so, this is a company that has been a serial disappointment, and while it may be different this time, that’s typically not a winning strategy in investing.

 

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Amid COVID-19 Pressures, Accuray Looks Toward The Start Of Its China Ramp

Messy Initial Results Should Not Obscure The Long-Term Value At First Horizon

Investors like clean beat-and-raise quarters, and they didn’t get that from First Horizon (FHN) this quarter. The first couple of quarters after large mergers are often messy, so no real surprise there, but the underlying guidance for weaker core net interest margin wasn’t welcome in a quarter where “stabilization” has been the overall theme. Likewise, First Horizon’s credit quality remains a negative talking point and the core profitability is still not impressive.

None of this should really be a surprise, but the Street wants what it wants, and stocks get sold off when it doesn’t get it. On a core basis, nothing has changed for me with respect to modeling, my bullish drivers, or my bearish concerns. First Horizon management has a lot to prove – they have to prove they’ve learned their lessons on credit/underwriting quality and they must prove that this newly-enlarged bank can be more than a middle-of-the-road performer where profitability is concerned. My position is that they will prove this over time, and that the shares can deliver a mid-teens annualized return from here, but investors are going to have to be patient with this one.

 

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Messy Initial Results Should Not Obscure The Long-Term Value At First Horizon

Marvell Adds A Premier Silicon Photonics Asset To Its Data Center Arsenal

Having already built an impressive data center portfolio, in part through acquisitions, that included processors, storage, security, and Ethernet components, Marvell (MRVL) decided to go one large step further, announcing the acquisition of Inphi (IPHI) and its high-speed optical interconnect assets in a deal worth close to $8.7 billion. Marvell is paying around $8.7B to expand its served addressable market by about $3 billion a year, but adding Inphi should also create meaningful cost, development, and revenue synergies over time. Moreover, it takes a premier asset off the board, preventing another rival from acquiring it, and I wouldn’t dismiss the possibility of end-market growth exceeding current expectations.

I can’t fault Marvell’s ambition, but it wasn’t the company’s ambition or execution that concerned me coming out of the analyst day. Obviously, 5G infrastructure and data center offer very attractive multiyear growth opportunities, but there’s an increasingly high bar in terms of growth and margin performance to drive further re-rating.

 

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Marvell Adds A Premier Silicon Photonics Asset To Its Data Center Arsenal

The Gap Between Veeco's Improving Outlook And Market Perception Is Too Wide

There are valid reasons to be skeptical of Veeco Instruments (VECO) – the company has lost market share over the years in most of its businesses and the growth opportunities could be dismissed by casual observers as a “hodgepodge” of small niche applications. The thing is that multiple $100M/year “niches” add up to something meaningful for a company with around $450 million in revenue, and the market may well be underestimating the company’s ability to gain and hold share in meaningful tool markets like EUV mask blanks, LSA, microLED, compound semis and hard drives.

I started warming up to these shares last quarter, and with the underperformance since I’ve taken a small position. I think these shares should be trading closer to $15 today on the basis of pretty solid opportunities in EUV mask blanks, 5G RF filters and hard drives, and I see upside to $20 on improving, but certainly “at-risk”, results in areas like LSA, VCSEL and microLED production, and compound semis.

 

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The Gap Between Veeco's Improving Outlook And Market Perception Is Too Wide

MSC Industrial Does A Little Better On Margins, But End-Market Pressures Remain

Another quarter is in the books, and really not that much has changed at MSC Industrial (MSM). Management once again did a little better on margins, but end-market conditions remain challenging and MSC continues to underperform companies like Fastenal (FAST) in the manufacturing vertical (though this is an apples-to-oranges comparison). And once again management is looking to sell the Street on a “it’ll be different next time” strategic plan that is supposed to deliver above-market revenue growth and improving margins – something investors have heard several times in the past only to see the company under-execute and under-perform.

Valuation is where things get tricky. I’m looking for long-term revenue growth of around 3.5% and even lower free cash flow growth, as I don’t believe management will execute fully on this new plan and I believe the core distribution operations will see ongoing margin pressure. On the other hand, MSC is leveraged to a still-nascent recovery in manufacturing and those expectations still support a long-term total annualized return of around 9% to 10% a year. MSC Industrial management has a long way to go to re-earn the benefit of the doubt, but I can see some trading appeal here.

 

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MSC Industrial Does A Little Better On Margins, But End-Market Pressures Remain

3M Delivers Familiar "First In, First Out" Performance And Still Offers Some Value

I’ve written a lot in the past about how 3M’s (MMM) business mix and operational strategy leads it to being among the first to enter into downturns, but also among the first to emerge, and that would seem to be holding true again, as 3M returned to organic growth in the third quarter. Looking ahead a bit, I would expect to see further improvement in key end-markets like autos, general manufacturing, and electronics, but the resurgence of COVID-19 cases in Europe and the ongoing growth in cases in the U.S. does certainly create some risks.

3M has continued to lag industrial names I liked better a quarter ago, including Parker Hannifin (PH) and Eaton (ETN), but the relative valuation is starting to look more interesting. As I’ve said before, I think 3M management needs to take a more comprehensive look at its business mix and strategic priorities, but long-term FCF growth in the mid-single-digits can still support a total annualized return of around 8%, which I believe stacks up pretty well to likely market returns over the next few years.

 

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3M Delivers Familiar "First In, First Out" Performance And Still Offers Some Value

ABB Delivers Surprisingly Good Margins, But End-Market Weakness Still Significant

You wouldn't necessarily know it by the share price reaction, but ABB (NYSE:ABB) had a surprisingly good quarter with underlying margin outperformance of nearly 300bp. It's certainly fair to wonder how much of that the company can retain as demand recovers, and orders were not impressive, but the solid profitability in Electrical Products (or EP) and Robotics & Discrete Automation (or RDA) is still a good starting point for the recovery.

I'm looking forward to ABB's November 19 Capital Markets Day, and particularly with respect to management commentary on further expense/margin initiatives, the software strategy, and potential non-strategic disposals. As far as valuation goes, I think the long-term return potential (in the low high-single-digits) is more acceptable than spectacular, but in an expensive sector, and with many still in the doubters camp where the long-term turnaround is concerned, I'm still relatively bullish on ABB shares.

 

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ABB Delivers Surprisingly Good Margins, But End-Market Weakness Still Significant

FirstCash Struggling Through A Different Kind Of Downturn

Past cycles have shown FirstCash (FCFS) to be a relatively solid countercyclical performer, but every downturn has its own unique aspects, and this downturn has created some real challenges. Pawn loan demand has deteriorated more than expected, with U.S. demand impacted by higher levels of government support, and Mexico’s economy is in tough shape. With that, the shares have noticeably underperformed.

FirstCash has had significant pullbacks in the past, though, and I believe this is still a long-term buying opportunity. The retail operations have held up relatively well, with good execution, and there is evidence of an upturn in pawn loan demand that I expect to continue/accelerate in 2021. Longer term, while new fintech alternatives will be a competitive factor, FirstCash’s core pawn lending services will still be needed by under-banked customers in both the U.S. and Latin America and I expect a double-digit annualized return from these levels.

 

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FirstCash Struggling Through A Different Kind Of Downturn

Texas Instruments Is Off And Running On The Latest Upcycle

I expected Texas Instruments (TXN) to have a good third quarter, and felt even better about that when STMicro (STM) and NXP Semiconductors (NXPI) previewed good auto results and PC shipment data continued to come in strong, but I didn’t quite expect the level of performance TI actually produced. Kudos to management, and it may well be the case that the company’s decision to maintain high utilization rates (building inventory) has helped goose a cyclical recovery in the sector.

As far as valuation and stock performance goes, my view on TI last quarter was that it was a decent enough hold but not my favorite idea. With the post-earnings sell-off, TI’s performance has been basically inline with the SOX, while names I preferred more (STMicro, Renesas (OTCPK:RNECY)) have done better. TI is trading at a roughly 20% premium to the analog sector versus a long-term trailing average of a 10% premium. While I do expect that TI will see several quarters of growth in this up-cycle, as well as long-term growth in excess of the underlying markets, I have some concerns that the run over the last six months anticipated some of this.

 

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Texas Instruments Is Off And Running On The Latest Upcycle

Signs Of Stabilization Boosting Comerica

Comerica (CMA) isn't the cheapest-looking bank I follow, but it may well be seriously in the running for least-liked, as analysts have continued to fret about this bank's exceptional rate sensitivity (a liability with rates near zero) and elevated credit risk. The shares have outperformed a bit lately, though, as investors seem more willing to bet on eventual recovery stories. With Comerica's third quarter results pointing toward some signs of stability in spreads and credit, more of that valuation gap could shrink.

Comerica is undervalued, but there are a lot of banks I can say that about, and many of have better near-term outlooks, better long-term growth stories, stronger fundamentals, or some combination of the three. I would expect Comerica to do a little better than the average bank, but unless there's a catalyst for a steeper rate curve sooner than everyone expects, I can't see why I should pick this name over a host of undervalued alternatives.

 

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Signs Of Stabilization Boosting Comerica