Zions: Looking More Interesting As The Scene Shifts From Recovery To Growth

 

I shifted from bullish to neutral on Zions Bancorporation (ZION) with the bank’s fourth quarter 2020 earnings mostly because I saw more exciting opportunities elsewhere, and until this second quarter report, the performance basically tracked the regional bank average. Even with the outperformance since earnings, the outperformance versus that index is only about three points. Given the “coiled springs” I see in some of Zions’ earnings drivers, I’m thinking it may time to be more bullish again.

Zions is very asset-sensitive, one of the most rate-sensitive banks I follow, and that means a lot is riding on higher interest rates down the road. Beyond that, though, Zions seems to be doing well with turning Paycheck Protection Program customers into long-term clients, and I like the opportunity Zions has to leverage an upgraded and refreshed IT infrastructure at a time when many regional rivals of similar size are still using older, less capable systems. With a double-digit annualized return potential, I think this is a name to consider.

 

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Zions: Looking More Interesting As The Scene Shifts From Recovery To Growth

Alfa Laval: Impressive Order Growth, Benefitting From Rotation To Longer-Cycle Names

 

In what has been a strong quarter for multi-industrials, the breadth and depth of Alfa Laval’s (OTCPK:ALFVY) end-market improvements still stand out. There are some softer spots here and there, but core markets like food/beverage and HVAC-R remain very strong, while marine, process industries, and oil/gas are already coming back.

Alfa shares have jumped almost another 40% since my last update in early April, handily trouncing other industrial names over that period. While I think Alfa was and is a quality multi-industrial that institutions wanted to find excuses to own (and beat-and-raise quarters provide that), I also think Alfa is benefiting from a shift away from shorter-cycle markets toward longer-cycle stocks. It’s going to take significant additional upgrades to Street estimates to justify today’s price over the long term, but in the short term this is a hot hand in the multi-industrial space.

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Alfa Laval: Impressive Order Growth, Benefitting From Rotation To Longer-Cycle Names

Sika Leveraging Stronger Construction Markets, And Well-Placed To Leverage Green Urbanization For Years To Come

 

As a global leader in specialty chemicals used in construction, Sika (OTCPK:SXYAY) (SIK.S) is an invaluable bellwether for the state of global construction activity, and the company is most definitely seeing strong activity across its global footprint. Cost inflation is an issue, but it is one that management believes they have in hand and that will be relatively well-contained from this point on. Longer term, the company remains incomparably well-placed to leverage opportunities in greener construction on top of the ongoing trend in urbanization.

Sika shares are up modestly since my recent update, and the shares continue to remain quite pricey by conventional means. I’m not going to make an “ignore the valuation and just buy” call, but I will note that few companies in any industry have the long runway of global growth potential that Sika has, not to mention healthy margin leverage, so there is definitely a credible argument for scarcity value here on top of the above-average growth.

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Sika Leveraging Stronger Construction Markets, And Well-Placed To Leverage Green Urbanization For Years To Come

Gorman-Rupp: Recovery Leverage With A Possible Water Infrastructure Kicker

 

“Not flashy, but they get the job done” is a phrase I’ve heard more than a few times when doing due diligence on Gorman-Rupp (GRC). That phrase could just as well apply to the entire company and its management team – Gorman-Rupp won’t overawe you with any of its performance metrics, but a 20-year annualized return of around 11% (with dividends reinvested) isn’t bad next to 8.6% or so return of the S&P 500. While revenue growth hasn’t been all that stellar, free cash flow margins have crept up over time to a level (in the 12%’s recently) that compares quite well with many industrials.

With a lot of leverage to municipal water, Gorman-Rupp is a potential play on a water infrastructure replacement and build-out cycle in the U.S., if you believe such a cycle is likely to occur. Beyond that, there are opportunities for the company to leverage growth in areas like agriculture and construction and expand core technology into adjacent non-water markets. Still, I think investors shouldn’t let their imagination get too wild with this one – I regard Gorman-Rupp as an “is what it is” type of company and stock likely to continue generating long-term total returns in the high single-digits.

 

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Gorman-Rupp: Recovery Leverage With A Possible Water Infrastructure Kicker

RenaissanceRe Still Getting Little Love Despite Better Near-Term Results And A Sound Long-Term Strategy

 

Relative to P&C insurers, reinsurance companies still aren’t getting all that much love, and that’s certainly the case for RenaissanceRe (RNR) (“RenRe”), as these shares have fallen around 5% or so since my last update, meaningfully underperforming the 10% or so gains in the P&C sector. I don’t believe the underperformance is really due to specific execution problems with RenRe, but rather a more general concern that the returns in the broader property catastrophe (or prop-cat) market are inevitably going to head lower over due to excess capital chasing business and pushing down returns.

I don’t disagree with the basic idea that prop-cat is an increasingly less attractive business. Still, when it comes to RenRe, I think that overlooks the opportunities that management has to generate fee revenue from managing third-party vehicles (basically managing some of that excess capital, for a fee) and to generate better returns from a growing non-cat and casualty & specialty reinsurance business. If RenRe can grow future core earnings at a roughly 4.5% rate, the shares still looking meaningfully undervalued today.

 

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RenaissanceRe Still Getting Little Love Despite Better Near-Term Results And A Sound Long-Term Strategy

Dover: Delivering A Lot More Than Just Cyclical Leverage

 

Is Dover (DOV) a short-cycle industrial, driven largely by factors like industrial production, or is it a true "market-plus" growth compounder with exposure to fundamentally attractive end-markets? Bears will say the former, bulls the latter, and I'm more of the mind of "both … but more of a compounder". While short-cycle end-market recoveries are undoubtedly helping Dover right now, the business is already beyond pre-pandemic levels and there's a good argument that this business can continue to outperform with a diverse range of leading niche businesses.

I was too early in going "neutral" from "bullish" on Dover back in March of this year, and I likewise didn't really appreciate the company's leverage to growth opportunities like HVAC-R and bioproduction, as those have been significant drivers this year. The almost-20% outperformance over the broader industrial group in that short span makes that a painful miss, and the market is definitely liking what it's seeing from Dover today.

I can't really make the argument that Dover is undervalued today, other than that I think the odds favor beat-and-raise quarters and an improving long-term outlook for revenue and margins. Said differently, good companies "find a way", but the stocks of even the best companies can overshoot.

 

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Dover: Delivering A Lot More Than Just Cyclical Leverage

W. R. Berkley Reaping A Red-Hot P&C Market

 

All good things must eventually come to an end, including a P&C market that’s as hot as anything I’ve seen in my investment career. That, and a robust valuation, are really the only explanations I can come up with for W. R. Berkley’s (WRB) lackluster performance since my last update – the shares are up about 10%, narrowly underperforming the broader P&C market and underperforming the S&P 500 by a couple percentage points.

I don’t think the hard P&C markets are going to soften overnight, but pricing does seem to be trending down, and a combination of mediocre investment yields and rising inflation is not a good one for P&C insurers. I continue to believe that W. R. Berkley is one of the best-run insurance companies out there, and that the company will reap the benefits of business they’re writing today for a while, but it’s tough to call this an undervalued stock.

 

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W. R. Berkley Reaping A Red-Hot P&C Market

BancorpSouth - Messy Earnings And Deal Execution Concerns Weighing On Shares

 

While underlying operating trends appear to be improving, BancorpSouth (BXS) has been a noticeable laggard so far this year. Some of this could be due to concerns about a resurgence of COVID-19 across much of the bank’s core footprint, but I believe a lot of this is due to concerns about the pending merger with Cadence (CADE) – a far larger combination that BancorpSouth has attempted to date. This isn’t necessarily a BXS-specific issue, though, as bank acquirers have generally been underperforming in the market.

I do appreciate the larger risks that go with larger deals, and Cadence does bring a risker loan book with it (considerable presence in energy and hospitality). That said, I think the worst is over for those riskier categories, and I think the expansion of BancorpSouth’s middle-market and corporate banking capabilities will serve the bank well over time, and I likewise see good opportunities on the funding and operating cost side.

This is a “show me” story that could continue to generate lackluster near-term returns until post-deal synergies start appearing (and/or the Street gets more confident on the deal), but I believe BancorpSouth shares are likely trading below underlying fair value.

 

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BancorpSouth - Messy Earnings And Deal Execution Concerns Weighing On Shares

East West Bancorp Undervalued On Above-Average Loan Growth And Core Earnings Growth Potential

 

Trying to figure out why any particular stock underperforms over the short term can be an exercise in utter frustration. Sure, sometimes there are obvious drivers (earnings misses, clear deterioration in market fundamentals, et al), but other times there’s no easy go-to explanation. Such would seem to be the case for East West Bancorp (EWBC) - the business is performing well and I don’t see many fundamental issues in the bank’s served markets.

I continue to believe that East West offers attractive long-term upside, as this affinity-based bank continues to grow its high-quality loan book and leverage an attractive deposit base, as well as growth in U.S.-China trade. I do think the company will encounter more loan competition as it grows (and targets larger customers / loan amounts), but that risk seems more than reflected in the share price, and this looks to me like a relatively rare bank stock that offers high single-digit long-term core growth (or better) at a reasonable valuation.

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East West Bancorp Undervalued On Above-Average Loan Growth And Core Earnings Growth Potential

Regions Financial Continues To Put The Pieces In Place For Better Longer-Term Performance

 

There are certainly things to like about Regions Financial (RF), including a generally conservative underwriting culture, very low deposit costs due to a high-quality, sticky deposit base, and management’s decision to hedge away some of the bank’s rate risk. Even with those positives, I thought the shares were fully and fairly valued back in February, and the stock has modestly underperformed its regional bank peers since then, with the shares basically flat.

I’m more bullish on the shares largely due to that lackluster relative performance, but investors have a lot of banks to choose from in the Southeast, some even more undervalued than Regions. I do like the acquisition of EnerBank and management’s decision to invest in upgraded IT capabilities, as well as management’s decision to start rolling back some of its hedges. On the negative side, I do have some concerns that low vaccination rates across Regions’ footprint could represent a threat to recovering business activity in the region, hurting the outlook for loan demand recovery.

 

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Regions Financial Continues To Put The Pieces In Place For Better Longer-Term Performance

J.B. Hunt Delivering Stronger Results Through Challenging Times

 

There is definitely such a thing as being “too busy”, and the combination of intense demand, labor and asset shortages, the ongoing pandemic, and so on has made day-to-day operations quite challenging for J.B. Hunt (NASDAQ:JBHT). I believe the company is managing this chaos well, and I do believe the company will start seeing smoother results in the coming quarters, possibly setting the stage for a period of “over-earning” as the company reaps the benefit of higher pricing.

I thought J.B. Hunt was a potential “buy the dip” opportunity back in October of 2020, but I wasn’t completely sold on the story then. Since then, the shares have only modestly outperformed the S&P 500 and the industrial stock sector, though it has outperformed the Dow Jones Transportation by a nice 10-point margin. I do think there is beat-and-raise potential in the second half, but I think the longer-term return potential is more average now.

 

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J.B. Hunt Delivering Stronger Results Through Challenging Times

Volvo Managing Surging Orders And Supply Challenges Well, But The Market May Already Have Moved On

 

Cyclical industries can be difficult to model in the best of times, and the last year and a half has been anything but that. With pent-up demand coming out of the pandemic and ongoing growth in e-commerce, orders for heavy-duty trucks should climb into 2022, leading to a revenue peak at some point in 2022 and 2023. Meanwhile, construction orders are generally improving everywhere outside of China and could get another boost from an infrastructure plan in the U.S., if that passes.

Volvo (OTCPK:VLVLY) is managing the cyclical uncertainties and more recent supply challenges well, and I believe the restructuring efforts made since Martin Lundstedt took over the CEO role in 2015 will continue to pay benefits. I also like the tech story here, as Volvo is well-placed to be a leader in truck electrification. Although I don’t think the shares are expensive, I do have concerns that the market is already pricing in the next peak and these shares carry above-average risk.

 

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Volvo Managing Surging Orders And Supply Challenges Well, But The Market May Already Have Moved On

ABB Delivering A Powerful One-Two Punch With Recovering End-Markets And Self-Improvement

 

I’d like to be smug about all of the sell-analysts that have had to scramble to justify their “sell” or “underperform” calls at much lower prices six months ago, but even I thought the rally in ABB (ABB) wasn’t likely to continue at the same pace. I really should have listened to the advice I so often give when discussing turnarounds – properly done, turnarounds of good companies can go a lot farther than even the bulls think.

So here we are about 30% later, with ABB posting another beat-and-raise quarter and seeing strength pretty much across all of its businesses. Over that time only Eaton (ETN) has outperformed these shares, with other automation and electrification names like Schneider (OTCPK:SBGSY), Rockwell (ROK), YASKAWA (OTCPK:YASKY), and Siemens (OTCPK:SIEGY) further behind. Of course, pull out to a longer-term view (like the last five years), and Eaton, Rockwell, and Schneider are well ahead.

I continue to love ABB’s leverage to important long-term trends like automation/robotics and electrification, and CEO Bjorn Rosengren is doing exactly what I hoped he’d do when he came over from Sandvik (OTCPK:SDVKY) to lead the turnaround. There could still be upside here to my 4% long-term revenue growth target and low-to-mid FCF margins, and a lot of key markets have yet to fully recover, but investors shouldn’t expect this recent share price appreciation pace to continue.

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ABB Delivering A Powerful One-Two Punch With Recovering End-Markets And Self-Improvement

Allegion Leveraging Exceptional Resi Strength, As Non-Resi Starts To Come Back

 

The non-residential construction market isn’t fully back yet, but it’s definitely coming back stronger than I expected at this point, and while new starts are relatively easy to measure, it’s been much stronger (and harder-to-measure) aftermarket demand that has helped Allegion (ALLE), not to mention a residential construction market that has been on fire.

Writing on Allegion back in September of 2020 I said that Allegion needed stronger-than-expected end-markets in North America to outperform, and that’s exactly what has happened. That has propelled the shares almost 40% higher since that prior update, though that’s only a little better than the average industrial has done over that time. The valuation remains robust, and while investors are showing a lot of love for longer-cycle plays, I think it may be challenging for Allegion to outperform the expectations imbedded in the price now, as two good quarters haven’t produced much further pop in the shares.

 

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Allegion Leveraging Exceptional Resi Strength, As Non-Resi Starts To Come Back

Graco: More Vulnerable To Sector Rotation And Slowing Comps Than End-Market Conditions

 

Every once in a while even great companies can go on sale, so with a definite shift in sentiment away from shorter-cycle industrials I thought it was time to take another look at Graco (GGG) in the hope that maybe the Street had moved on and left a better valuation in play. Yeah … no.

Graco has underperformed the broader industrial space since my last update (by about 10%) despite two very strong quarters, but that’s not enough to put the stock into value range. The business is performing very well and there could be more upside to my raised 2021 and 2022 revenue estimates (where I’m looking for growth of about 19% and 6.5%, respectively), but that doesn’t exactly put Graco into bargain territory. Should this short-cycle fade continue, though, it may be possible to get in with a decent long-term expected total return, so I’d suggest at least keeping this name on a watchlist.

 

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Graco: More Vulnerable To Sector Rotation And Slowing Comps Than End-Market Conditions

Nidec: Building An Electrifying Growth Story

 

The last six months or so haven’t been as kind to Nidec (OTCPK:NJDCY) (6594.T), as the shares of this leading Japanese motor company have slid about 15%, underperforming the broader industrial space. There’s always guesswork in figuring out why stocks sell off, but I think concerns about near-term weakness in autos and small precision motors, as well as a patent fight with Seagate (NASDAQ:STX), could be at least part of the problem, though the share weren’t all that cheap when I last wrote about the stock.

“Ignore the valuation and just buy” isn’t my preferred investment style, and Nidec remains quite pricey by almost any valuation approach. On the other hand, the company is still in the early days of what could be a game-changing ramp in motors for electric vehicles – not just cars, but also smaller vehicles (like electric bikes) – to say nothing of ongoing growth in the appliance and household market, as well as industrial robotics. With that in mind, this is as close as I get to a “ignore the valuation and buy” call, as I do think Nidec is a rare differentiated growth story.

 

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Nidec: Building An Electrifying Growth Story

Texas Capital Bancshares Making Smart Moves, But The Street Anticipates The Improvements

 

When I last wrote about Texas Capital Bancshares (TCBI), I wrote that while I was intrigued by the transformation potential at this Texas bank, I wasn't as comfortable with the valuation. The shares shot up about 50% shortly thereafter on Street enthusiasm for CEO Holmes' initial strategic moves, but have trailed off since then - ending up more or less flat with where they were when I last wrote, and underperforming the larger group of regional banks by about 10%.

I really like what I've been hearing from the company, and not just because it has largely matched the changes I outlined in that prior piece. I agree with the overall philosophy to reduce the bank's focus on more volatile businesses and instead prioritize growing its middle-market Texas commercial lending business, and I believe this move could generate long-term core earnings growth in the double-digits. The "but" is that a lot of that is already in the share price; I'm a big advocate of the idea that successful turnarounds can go much further than you initially think, but it's going to take time to turn around and reposition TCBI.

 

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Texas Capital Bancshares Making Smart Moves, But The Street Anticipates The Improvements

M&T Bank Battered And Bruised As Pre-Provision Earnings Disappoint

 

It’s been a rough and disappointing road for M&T Bank (MTB) since this large Northeastern bank announced its acquisition of People’s United (PBCT). Down more than 15% since then, the shares have lagged bank indices by a wide margin, as investors have sold off the shares on concerns about weaker near-term spreads and higher expenses, as well as no real prospects for higher capital returns to shareholders until the People’s United deal is done.

M&T Bank has a history of volatile quarterly results, and that leads me towards being a little more calm about a bad quarter here and there (and the second quarter certainly was poor). Moreover, while many management teams try to excuse higher expenses as “investments” into the business, with M&T I’m actually inclined to believe them, and I believe the higher expenses today can drive better revenue down the road.

Though this is a harder stock to like for the near term, I think value-oriented investors should take a look. Not only will the People’s United deal create some attractive operating synergies, M&T has some under-appreciated opportunities to gain share in its core operating region and leverage higher rates in the future.

 

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M&T Bank Battered And Bruised As Pre-Provision Earnings Disappoint

Hancock Whitney Performing Well As The Economy Starts To Reopen

 

I liked Hancock Whitney (NASDAQ:HWC) (“Hancock”) back in February of this year, seeing not only self-improvement potential in a bank that had admittedly underperformed heading into the pandemic, but also a “get better or get bought” safety net under the story. Since then, the company has performed quite well through the ongoing operating challenges all banks are facing, delivering two more quarters with meaningful pre-provision profit beats and operating leverage.

These shares are up another 18% or so from my last write-up, handily beating the near-flat performance of the larger regional banking index (KBW National Regional Bank Index). Even with that outperformance, I still see further upside here, as the Street not only isn’t giving credit to the ongoing operating leverage improvements and better-than-average loan growth, but also the possibility that these improvements are just the beginning and Hancock could achieve higher longer-term ROEs and ROTCEs.

 

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Hancock Whitney Performing Well As The Economy Starts To Reopen

Pinnacle Financial Partners Still Early In An Impressive Growth Story

 

Pinnacle Financial Partners' (PNFP) ("Pinnacle") differentiated, service-driven growth model continues to produce results, and the Street continues to take notice. These shares have risen another 25% or so since my last write-up, outperforming the average regional bank by a healthy margin (around 17% or so), and coming in more or less in the middle of my group of other high-growth banks including Bank OZK (OZK), East West (EWBC), First Republic (FRC), Signature Bank (SBNY), and SVB Financial (SIVB) (Signature and First Republic have done a little better, SVB a little worse, and Bank OZK and East-West are further behind).

I continue to be impressed by Pinnacle's ability to enter competitive banking markets organically, luring away proven revenue-producers from larger banks to build the commercial lending franchise. I've also liked the progress on remixing the deposit costs lower, though maintaining that as rates rise will be a challenge. M&A may be a risk to sentiment in the short-term, but I like the company's plan and while this is not the cheapest stock out there, for the growth I believe Pinnacle can achieve, the price is still pretty interesting.

 

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Pinnacle Financial Partners Still Early In An Impressive Growth Story

 

Leveraged To Both A Recovery And Self-Improvement, Citizens Financial Continues To Outperform

 

My bullish call on Citizens Financial (NYSE:CFG) hasn’t been among my more popular calls, but it continues to work, as the shares are up better than 15% since my last update, continuing to outperform regional bank peers as Citizens offers more upside than most to both normalization of the economy and ongoing self-improvement efforts (efforts that seem to go at least partially underappreciated by some investors).

I don’t like Citizens as much as I used to, but that’s due only to the share price outperformance. I still think investors could get a nearly 10% long-term annualized return here, and that’s still pretty appealing, particularly as I do see avenues for beat-and-raise performance relative to my numbers. While weaker-than-expected loan growth and worse-than-expected deposit retention are both risks over the next year or two, this is a name worth considering.

 

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Leveraged To Both A Recovery And Self-Improvement, Citizens Financial Continues To Outperform

Robust Valuation Leaves Neogen Little Room For Error After Mixed Results

 

Neogen (NEOG) has never traded in line with normal valuation metrics, and it may well never do so – or at least not over a reasonable investment horizon. The reality is that there’s scarcity value in the growth markets of food safety and animal safety, and investors have long been willing to pay up for exposure to these markets (you can see pretty robust multiples at others like IDEXX (IDXX) and Zoetis (ZTS) too). Still, I do believe that valuation matters, and these shares have lagged both the S&P and some of these food and animal safety peers this year (and since my last update).

Were I the sole owner of Neogen, I’d probably have few real concerns now, though the move towards larger M&A does carry some risk, and there’s a “predictable unpredictability” to demand-drivers like pathogen outbreaks (like aflatoxin outbreaks or the recent ASF outbreak). As a publicly-traded company, though, it’s a hard valuation call to make. About the best I can do is argue that, relative to the norms of the sector, Neogen’s valuation isn’t out of line, but this just doesn’t work for me as a GARP-type of investment candidate.

 

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Robust Valuation Leaves Neogen Little Room For Error After Mixed Results

Synovus Setting The Table, But The Street Wants To Eat Now

 

This has been a more challenging quarter for Southeastern banks, with First Horizon (FHN), Synovus (SNV), and Truist (TFC) all coming up a little short where growth is concerned. I don’t believe there’s anything fundamentally wrong with any of these companies, but growth expectations were probably established at too high of a level and the readjustment of expectations has been painful.

Synovus shares are more or less flat since I last wrote about the stock. At that time, I said I liked the stock up into the mid-$40s and the shares exceeded that for a time (approaching $50) before concerns about spreads and near-term loan growth started weighing more heavily. While I am a little concerned about the lack of near-term growth/momentum, I still believe that management is making good decisions for the longer-term performance of the bank, and I think the shares are more attractive now.

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Synovus Setting The Table, But The Street Wants To Eat Now

SKF Leveraging The Short-Cycle Recovery, But Short Cycle No Longer In Favor

 

In the year or so since my last write-up on Sweden’s SKF (OTCPK:SKFRY), the shares of this leading manufacturing of bearings, seals, and related products have had a mixed performance. While the shares have outperformed the S&P 500, the performance versus other industrials has been more mixed, with SKF outperforming the larger industrial group until late April, a time since when many shorter-cycle names have made less headway as investors have rotated to longer-cycle names.

Relative to my last update, I like the stronger guidance for long-term margins and I like the recovery we’ve seen in most industrial and auto end markets. I still don’t like the adjusted earnings shenanigans whereby SKF tries to pass off recurring manufacturing restructuring costs as “one-time” costs to ignore, but that’s an “is what it is” situation. I do still see some value in these shares, but I think beat-and-raise quarters are going to be harder to achieve and I think more bearish sentiment towards short-cycle names is likewise a headwind to consider.

 

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SKF Leveraging The Short-Cycle Recovery, But Short Cycle No Longer In Favor

Mueller Industries Riding High On Hot Housing And Copper Prices

 

Mueller Industries (MLI) may be a case-in-point as to how difficult it can be for investors to make money from long-term investments in commodity or commodity-like businesses. Management here has done a lot of good things, including a relentless drive to lower production costs, and that has led to better margins and pretty attractive returns on assets and invested capital… and yet, the long-term annualized return from the shares is around 7% to 8%, well below that of the S&P 500.

There are a lot of things that make Mueller a difficult call today. I think the U.S. housing market can stay fairly strong for a while, but I’m not so sure about copper prices, and this is historically a stock where you want to buy after a 25%-plus sell-off, not as the shares reach new all-time highs. I can argue for upside toward $50 and investors with more bullish outlooks on copper prices may want to consider the name, but for GARP or value investors, this is a name to consider at the next multiyear low.

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Mueller Industries Riding High On Hot Housing And Copper Prices

Commerce Bancshares: Overcapitalized With Lackluster Growth And High Valuation; Shares Aren't Compelling

 

Where quality is concerned, it’s hard to beat Commerce Bancshares (CBSH) – conservatively run and with a strong mix of non-spread income sources, Commerce is a strong “all weather” regional bank that has generated impressive above-average returns over the long term. On the other hand, Commerce has more capital on hand than it can use and the growth is not very impressive, as there’s little Commerce can do to drive loan growth in the present environment.

I’ve been concerned about Commerce’s valuation for some time, and the shares have underperformed over the last year and since my last update on the company, as investors have shifted toward names with higher risk and better growth prospects. It remains difficult to make a valuation argument for Commerce, and while I do think the underlying long-term results will be good, that already seems anticipated by today’s share price.

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Commerce Bancshares: Overcapitalized With Lackluster Growth And High Valuation; Shares Aren't Compelling

With Fading Older Models And Chip Shortages, Geely Is Having A Challenging 2021

 

This hasn’t been an easy year so far for Geely Auto (OTCPK:GELYF) (OTCPK:GELYY), as the company has been hit by the well-published shortage in auto semiconductors, a softening Chinese auto sector, and a faster fall-off in sales of older models. The shares have rebounded some since my last update, but the year-to-date performance has still been pretty disappointing, with the roughly 12% decline lagging XPeng (XPEV), BYD (OTCPK:BYDDY) and Great Wall (OTCPK:GWLLY), while outperforming Tesla (TSLA) and Nio (NIO).

I do believe better days are in store for Geely. The company’s newer products continue to outsell the overall Chinese auto market, particularly the Lynk & Co. (“Lynk”) brand, and the company has multiple upcoming new launches that should reenergize sales volumes. I’d also note the well-received launch of the first model under the all-EV Zeekr (or “ZEEKR”) brand. While the Chinese auto market is intensely competitive and the corporate structure of Geely isn’t the best for shareholders, I still believe there are decent return prospects here and this remains a name to consider for investors who want exposure to the Chinese auto market at a reasonable valuation.

 

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With Fading Older Models And Chip Shortages, Geely Is Having A Challenging 2021

Eprioc Riding High As A Best-In-Class Play On Mining Capex

 

Writing on Epiroc (OTCPK:EPIRF) (OTCPK:EPOKY) in August of 2020, I thought that the shares already anticipated a mining capex recovery, “unless you believe miners are suddenly going to open the taps on capital spending,” and that’s exactly what has happened since. Strong metal prices have driven a strong early capex cycle for mining companies, with strength in key Epiroc markets like copper, gold, and iron, and the emergence of greenfield mining projects – the first such moves in about seven years. Beyond this near-term capex cycle, Epiroc is also well-leveraged to important trends in mining like automation and electrification.

I still believe that Epiroc has a serious claim to being the best mining company out there, but I don’t think it’s so good that it can support limitless rerating. Given the valuation and the recent share price moves, I’m more interested in names like FLSmidth (OTCPK:FLIDY) and Weir (OTCPK:WEGRY) now, but I’m not willing to step in front of present-day momentum in mining and risk getting run over by a short call with Epiroc.

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Eprioc Riding High As A Best-In-Class Play On Mining Capex

Komatsu Leveraged To Improving Mining Demand, But Long-Term Strategic Positioning Is Iffy

 

It’s been a mixed-to-down year so far for many companies leveraged to the construction and mining equipment market, even though mining equipment orders are picking up nicely. Some of this is a “sell the news” reaction as many stocks ran in 2020 in anticipation, but there have also been growing concerns about the health of the Chinese market.

In any case, Komatsu (OTCPK:KMTUY) has been one of the weaker plays, with the shares down about 5% so far this year and down about 18% since my last update on the company. Not only has management guided to lower operating profits and more pressure on the Chinese business since that last article, but analysts seem increasingly worried about Komatsu’s strategic positioning in both the construction and mining markets, and its vulnerability to Chinese competition. 

I’ve expressed my own concerns about Komatsu’s long-term strategic positioning before – I believe the company has stayed focused on high-end construction equipment in Asia for too long, and I believe the company overcommitted to soft rock mining (coal, in particular) and underinvested in hard rock equipment (most relevant to copper, iron, and gold). While I do still see Komatsu having room to outperform as a trade, particularly if the initial guidance for FY’22 proves conservative, I don’t like this as a long-term holding.

 

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Komatsu Leveraged To Improving Mining Demand, But Long-Term Strategic Positioning Is Iffy

Weaker Near-Term Results Shouldn't Damage Autoliv's 'Slow And Steady' Credentials

 

Autoliv (ALV) is an unusual auto supplier in that it is neither leveraged to the two dominant growth trends in passenger vehicles - electrification and advanced driver assistance (or ADAS) - nor is it particularly vulnerable to them. Electrical vehicles will still need seatbelts and airbags, and that leaves Autoliv as more of a "slow and steady' name in the auto parts space.

Second quarter results and guidance were both disappointing, but the impact of semiconductor shortages and the likelihood that other suppliers will report similar results mitigates some of the disappointment. The bigger questions I have revolve around ongoing market share gains and whether Autoliv can consistently generate low double-digit operating margins and mid-single-digit FCF margins.

I don't love Autoliv and I think there are higher-return options to consider in the auto supplier space, but I see a lot less execution risk here than for many of those other names, and with a reasonable valuation, this could be a name that works for some investors.

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Weaker Near-Term Results Shouldn't Damage Autoliv's 'Slow And Steady' Credentials

Terumo Deserves A Closer Look Ahead Of New Revenue And Margin Opportunities

 

Japan’s Terumo (OTCPK:TRUMY) (4543.T) has never been a particularly flashy company, but the performance of this large and diversified med-tech has been consistently good, and that performance has been rewarded with the market roughly doubling the stock’s multiples over the past decade, driving a double-digit annualized return.

Although I can’t say that I find Terumo conventionally cheap, there are some positive drivers worth watching. A recent agreement with CSL (OTCPK:CSLLY) will see the company enter the attractive plasma collection market, new product launches should drive good revenue growth, and management is committed to growing its diabetes business at a time when many players have deprioritized it. On top of that, there could be underappreciated margin leverage here, as well as more leverage to foreign investment.

All in all, I don’t think that Terumo is particularly cheap, but I do think investors can likely expect a high single-digit annualized return, with some upside if those drivers really come through.

 

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Terumo Deserves A Closer Look Ahead Of New Revenue And Margin Opportunities

Alps Alpine Has A Lot To Prove To Rebuild Investor Sentiment

 

The performance of Alps Alpine (OTCPK:APELY) (6770.T) has been pretty awful since my last update, as the shares have been hit hard by both weakness in auto build-rates and weaker margin guidance from management. Establishing sustainable profitability, particularly in the higher-margin camera actuator business, has proven to be a challenge beyond management so far, and guidance for this current fiscal year doesn’t suggest an immediate improvement.

Buying beaten-up stocks means buying in when things still look pretty ugly, and that is the case here. While I do think auto build-rates will improve from here, whether or not Alps Alpine can develop the auto infotainment products needed to be a real player in future models is very much an open question, as is management’s ability to significantly improve auto electrical component margins from here. Likewise, it remains to be seen if Alps can reach some sort of equilibrium between market share and margins in the actuator business, or whether this will remain an unpredictable and volatile business.

Alps Alpine has not earned any benefit of the doubt, and my recommendation here is really based on “if you believe they can do X, then…”. Despite the disappointments of the last fiscal year, the company didn’t finish too far off my revenue and EBITDA assumptions, and future revenue growth of 2% to 4% with FCF margins around 3% can support a meaningfully higher share price than today’s price.

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Alps Alpine Has A Lot To Prove To Rebuild Investor Sentiment

Columbus McKinnon's Recent Slide Creates A New Window Of Opportunity

 

Shorter-cycle industrial companies leveraged to the ongoing manufacturing recovery haven't really been in favor lately, and Columbus McKinnon (CMCO) shares have slid about 10% since my last update. That comes despite a late May earnings report that was pretty good, not to mention ongoing opportunities to leverage the company's capabilities into more advanced material handling and intelligent motion markets, as well as the recent Dorner acquisition.

Columbus McKinnon isn't a particularly sexy stock, and given the recent concerns that the industrial recovery is already peaking, I can understand why some investors may be looking elsewhere. I believe that's a mistake, though, as Columbus McKinnon is making investments into product development that many of its rivals aren't, and I believe the company is looking at mid-single-digit long-term revenue growth and improving margins as it grows market share, improves its go-to-market strategy, and leverages product/market expansion opportunities.

 

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Columbus McKinnon's Recent Slide Creates A New Window Of Opportunity

Ciena Offers Attractive Upside Ahead Of A Reacceleration In Network Spending

 

Optical networking equipment vendor Ciena (NYSE:CIEN) has had a rough go of it over the last year, due in no small part to a slowdown in spending across its customer base (and large service providers like AT&T (NYSE:T) and Verizon (NYSE:VZ) in particular). This sort of cyclicality has long been a part of the model, but always manages to surprise and disappoint the Street when it reappears. Fortunately, Ciena is on the tail end of the slowdown, and looks poised to deliver improving revenue growth and margins over the next couple of years.

Up around 25% since my last update for Seeking Alpha, Ciena has lagged the NASDAQ, as well as other comps like Infinera (NASDAQ:INFN) and Cisco (NASDAQ:CSCO), and suppliers like NeoPhotonics (NYSE:NPTN). I expect revenue to reaccelerate by close to 10% next fiscal year, though, and rise again at a mid-to-high single-digit rate the year after, with around 150bp of operating margin improvement. Longer term, I think Ciena can generate mid-single-digit revenue growth that can support a double-digit annualized return from here.

 

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Ciena Offers Attractive Upside Ahead Of A Reacceleration In Network Spending

First Horizon Undervalued, But Really Needs To Show Differentiated Growth To Re-Rate

 

I said that First Horizon (FHN) was a "show me" story back in February of this year (after fourth quarter results), and unfortunately the company really hasn't come through with any substantial evidence of differentiated growth - upside has largely come from areas like reserve releases, which is common in the sector these days. While the long-term story, including synergies from the Iberiabank deal, attractive fee-generating businesses, and an attractive geographical footprint, is still in place, "potential" isn't going to move the shares.

Up about 15% since my last update, First Horizon has basically tracked the regional bank index since then. That's good enough, I suppose, but I want to see reasons to raise estimates on the back of differentiated (positively differentiated) performance. Even so, 4% core growth can still support a fair value close to $20, as can the mid-14%'s ROTCE I expect for 2022. If First Horizon can make that turn and live up to its potential, this could be a big winner, but investors should also recognize the risk that the bank never does differentiate itself from a growth or return perspective.

 

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First Horizon Undervalued, But Really Needs To Show Differentiated Growth To Re-Rate

Sandvik Dogged By Short-Cycle Concerns As Mining Recovers Strongly

 

I was lukewarm on Sandvik (OTCPK:SDVKY) when I last wrote about the stock in October of 2020, and the shares have basically tracked the performance of the broader industrial space since then, as abundant signs of strength in the mining operations have been offset by disappointments and concerns in the tool business. While Sandvik has outperformed other industrial peers like Kennametal (KMT) and SKF (OTCPK:SKFRY), as well as some mining players like Komatsu (OTCPK:KMTUY) and Weir (OTCPK:WEGRY), Epiroc (OTCPK:EPOKY), at least, has done noticeably better.

While I think underlying demand conditions for the tools business is better than the bears fear, I am concerned about a pretty dicey history of margin performance here (relative to expectations) stretching back before the pandemic. With mining, I think the issue is more whether Sandvik can meet all the demand they are seeing without hurting margins.

The market seems to be cooling on shorter-cycle names, and that’s a sentiment risk for these shares. From a fundamental view, though, the valuation isn’t too bad, with double-digit near-term return potential and a long-term annualized return potential in the high single-digits. If Sandvik can start showing better results from the Manufacturing and Machining business (or SMS), outperformance is possible.

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Sandvik Dogged By Short-Cycle Concerns As Mining Recovers Strongly

Truist Seeing Some Short-Term Pressures, But The Long-Term Opportunity Is Attractive

 

This hasn’t been a good year so far for Truist (TFC), with the shares lagging the large bank average and most of its peers. While I don’t think there’s a single issue to point to, I get the sense that analysts and investors are frustrated by the lack of a big near-term “pop” from the SunTrust deal and the reality that there’s not a lot the company can do to drive better results until rates and loan demand recover.

I understand the short-term frustrations with Truist, but I think that overlooks the long-term opportunities from the company’s diversified revenue base (including the large insurance business), its leverage to “Main Street” lending growth, and the above-average growth potential of its geographic footprint. I believe that patience will be rewarded, and that long-term core earnings growth in the mid-single-digits can support a double-digit annualized return from here – making this a relatively attractive option in the large bank sector.

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Truist Seeing Some Short-Term Pressures, But The Long-Term Opportunity Is Attractive

U.S. Bancorp's Leverage To A Spending Recovery Starting To Emerge

 

I was bullish when I last wrote on U.S. Bancorp (USB) shares, and since the stock has outperformed its large bank peer group by a little more than 1,000bp – not bad for a roughly half-year performance. With the economy coming back to life, I believe U.S. Bancorp is finally getting some credit not only for its revenue growth leverage to consumer and business spending, but the operating leverage those high-margin payments businesses can generate.

With the standout year-to-date performance (Wells Fargo (WFC) is one of the relatively few to have meaningfully outperformed U.S. Bancorp), I can’t say that the upside I saw earlier this year is still there, and the potential returns seem more on par with other high-quality large banks. That said, if U.S. Bancorp can leverage more growth out of its fintech investments (and/or more operating leverage), there could still be some upside here.

 

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U.S. Bancorp's Leverage To A Spending Recovery Starting To Emerge

First Republic Remains A Top-Notch Growth Bank Stock

 

When the biggest bearish argument you can come up with is "I'm not sure how long the bank can continue to grow earnings at a double-digit clip", you know you're looking at a pretty good bank. Such is the case with First Republic (FRC), and I continue to believe this high net worth-focused lender as a long run of exceptional growth ahead of it, as the company continues to benefit from a strong networking effect and very strong underwriting.

Valuation is difficult. By conventional approaches, First Republic looks quite expensive, but then this is not a conventional bank. While metrics like ROTCE can help separate winners and losers when growth rates are similar, First Republic's growth is well beyond "exceptional" and conventional metrics just don't work as well here. Bank investors have historically been willing to pay robust premiums for banks with outsized revenue, earnings, and tangible book growth, and I believe First Republic is well-placed to continue doing just that.

 

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First Republic Remains A Top-Notch Growth Bank Stock

PNC Financial's Core Operations Still Under Some Pressure, But The Future Is Bright

 

There was no reason to think that second quarter results would show a big operational shift for banks, and that has been the case so far, with banks still seeing pressure from flat spreads and weak loan demand, partly offset by reserve releases driven by better-than-feared credit quality evolution. So too with PNC Financial (PNC), where core net interest income was okay relative to expectations, but where core growth was still pretty soft.

I’m not bothered that this quarter’s results here weren’t outstanding, and they don’t change my view that this is a high-quality bank for the long term. With BBVA’s (BBVA) Compass in hand, PNC has some attractive growth opportunities – both in terms of expanding its footprint in higher-growth markets and in improving the operations at Compass. As the economy continues to recover, I expect this middle market-driven bank to benefit, I expect healthy growth for some time to come.

PNC isn’t a bargain basement stock, but I do think the valuation is reasonable, and I think long-term investors can reasonably expect an annualized long-term total return in the very high single-digits from here.

 

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PNC Financial's Core Operations Still Under Some Pressure, But The Future Is Bright

AngioDynamics: Focusing On Three Credible Growth Drivers And Targeting Growth Acceleration

 

After enjoying a strong run from the fall of 2020 through to the spring of this year, AngioDynamics (ANGO) shares have flattened out. I would attribute at least some of this to a more cautious market towards smaller med-tech, but also some level of “wait and see” on the part of investors regarding management’s ability to drive a sustained improvement in the business on the back of its thrombectomy, atherectomy, and oncology electroporation technologies.

AngioDynamics’ spotty execution history and higher investor expectations were significant factors in my neutral stance on AngioDynamics back in April, and the shares haven’t done much since then. I liked the better-than-expected fiscal fourth quarter results and the improved guidance for fiscal 2022, and I still see a path to a fair value close to $30, but this remains a riskier-than-average execution-driven story with not all that much following on the Street.

 

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AngioDynamics: Focusing On Three Credible Growth Drivers And Targeting Growth Acceleration

Fastenal Seeing Better Results, But The Market Seems Less Interested In Short-Cycle Stories Now

 

Despite strengthening economic conditions, shorter-cycle industrials haven’t really been performing all that well, and Fastenal (NASDAQ:FAST) has been no exception. This industrial distributor did a little better than expected in the second quarter, and continued to show progress on long-term business-building initiatives, but it wasn’t thesis-changing outperformance and investors seem ready to call it a day with earlier-cycle plays.

Modest year-to-date underperformance versus the S&P 500 and the broader industrial sector certainly has to be kept in context – over the long term Fastenal has been a great stock, and there’s nothing wrong with the business. Valuation remains problematic for me, though, and unless you expect significant beat-and-raise quarters in the near-future or are a more value-insensitive investor who believes in just buying quality and holding through thick and thin, I don’t see much appeal right now.

 

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Fastenal Seeing Better Results, But The Market Seems Less Interested In Short-Cycle Stories Now

Strong Semiconductor Demand Boosting Yaskawa Electric Beyond The Rising Industrial Tide

 

YASKAWA Electric's (OTCPK:YASKY) (6506.T) fiscal first quarter update earlier this month was a piece of welcome news for the industrial automation sector, as YASKAWA not only performed meaningfully better than expected, but management also upgraded its order, revenue, and profit guidance for the year. It remains to be seen whether industrial order momentum will peak around midyear as management now believes, but customers across a range of industries are definitely willing to make capital investments again.

I wasn't all that impressed with YASKAWA's value back in October of 2020, and though the ADRs have kept pace with the S&P 500 and the broader industrial sector since then, the shares have underperformed the likes of ABB (ABB) and Rockwell (ROK). While I do see the possibility of further upside to YASKAWA's recently-raised guidance, I see this as a momentum/cycle play and not much of a long-term value at these levels.

 

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Strong Semiconductor Demand Boosting Yaskawa Electric Beyond The Rising Industrial Tide

Business Is Improving For MSC Industrial, But The Street Isn't So Impressed

 

One of the frustrating realities of the market for many investors is that stocks can often move in anticipation of underlying shifts in the fundamentals - the "buy the rumor, sell the news" saying that investors will hear from time to time. In the case of shorter-cycle companies/stocks like MSC Industrial (MSM), industrial end-demand is indeed improving nicely, but the shares have underperformed as the market is starting to look past the short-cycle recovery story.

As I've said in the past, the cycle is going to do what the cycle is going to do, and I believe more of MSC Industrial's performance potential rests on management's ability to execute on new programs meant to increase share, drive sales growth, and improve margins. Given the many and varied disappointments of the past, some skepticism is still in order, though recent results have looked a little better.

I would say that MSC Industrial is still more of a hold today. I don't think the cycle has run its course, and I don't think the shares are overpriced, but I also don't have a lot of confidence in a bull story that rests on management execution given past execution issues. The dividend yield isn't bad, though, so investors looking for income-generating options in the manufacturing sector may find this name a little more attractive.

 

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Business Is Improving For MSC Industrial, But The Street Isn't So Impressed

Lundbeck Really Needs Clinical Wins And Post-Pandemic Re-Acceleration

 

I called H. Lundbeck (OTCPK:HLUYY) (LUN.CO) (“Lundbeck”) a high-risk/high-reward proposition in my last update on the company, and since then it is the risks that have materialized. Although first quarter results weren’t bad, and revenue should improve in the second half of the year on post-pandemic normalization, the company didn’t get the big clinical win it needed with its Rexulti label extension efforts in Alzheimer’s-associated agitation.

I do believe that a resumption of more normal in-person sales calls and patient appointments will help the business, but 2021 looks like another tough year for sentiment unless the high-risk Rexulti study in borderline personality disorder delivers an unexpected win and/or Vyepti really picks up momentum. Expectations are low, and I do see some value here, but it will difficult for undervaluation to translate into stock outperformance without some sentiment-shifting good news.

 

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Lundbeck Really Needs Clinical Wins And Post-Pandemic Re-Acceleration