Portfolio Review

4/1/2013


Kroger added to buy lists,
Varian Medical added to Long-Term Buy List

Kroger ($33; KR), one of the nation's largest retailers, is being added to the Buy List and Long-Term Buy List. The company operates more than 2,400 supermarkets and multidepartment stores in 31 states, with leading positions in the Midwest, South, and West. Chains include Kroger, Ralphs, Fred Meyer, Fry's, and QFC.

An emphasis on customer service and prudent expansion has fueled steady revenue growth, with 37 consecutive quarters of same-store sales growth. Earnings stalled in the four years ended January 2011, but per-share earnings have shown at least 9% year-to-year growth for five consecutive quarters.

Helped by an extra week, January-quarter earnings per share excluding items jumped 22% on a 13% sales gain. Adjusted for the extra week, same-store sales rose 3.7%. The company provided better-than-expected guidance for the year ending January 2014, predicting 8% to 11% growth in per-share profits on same-store sales growth of 2.5% to 3.5%.

While the stock has rallied on the upbeat guidance, Kroger seems reasonably valued at 12 times expected fiscal 2014 earnings. The stock earns a 98 Overall score in Quadrix, helped by high marks for Value (86) and Earnings Estimates (87). The company raised its dividend 30% in late 2012, and a double-digit increase is expected this year. Kroger, yielding 1.8%, is a Buy and a Long-Term Buy.


Varian Medical ($72; VAR) is being added to the Long-Term Buy List. A leading maker of cancer-therapy and X-ray products, the company is positioned for steady growth, reflecting market-share gains, product launches, and expansion in emerging markets. Varian is also a key supplier of software for managing cancer clinics and radiotherapy centers. Varian earns a Quadrix Overall score of 85, with a 92 in Quality and 89 in Financial Strength.

For fiscal 2013 ending September, per-share earnings are expected to climb 10% on a 5% sales gain. To fund growth initiatives, Varian will draw on its substantial operating cash flow, which over the past 12 months has surged 32% to $511 million. At the end of December, the company had roughly $600 million in net cash on its balance sheet, or about $5.40 per share. Using estimated year-ahead earnings, the forward P/E ratio is a modest 16 and the cash-adjusted P/E falls to 15.

Downgrades

EMC ($24; EMC) is being dropped from the Buy List but retained as a Long-Term Buy, as the stock no longer ranks among our favorite year-ahead picks. The stock's Overall Quadrix score has dropped to 78, with poor marks for Momentum and Performance. Profit estimates for the March and June quarters have dipped over the past two months, reflecting fears of rising competition and slowing demand in the market for data-storage systems.

Despite seemingly upbeat guidance from majority-owned VMware ($79: VMW) in mid-March, shares of both EMC and VMware have been under steady selling pressure in recent weeks. EMC appears cheap at 13 times expected 2013 earnings, and we expect the stock to provide attractive three-year returns — even if profit estimates need to come down a bit more. But the stock could be range-bound until EMC can demonstrate that its growth prospects remain intact. EMC remains a Long-Term Buy but is being dropped from the Buy List.


Oracle ($32; ORCL) is being dropped from the Long-Term Buy List. The stock has eroded steadily since March 20, when the database giant reported disappointing February-quarter results. While the company blamed the shortfall on poor execution by its sales force, saying it saw no changes in the broader environment for tech demand, we are worried that Oracle's competitive position is being undercut by smaller rivals with new database technology.

Oracle is trying to match these rivals, many of which deliver data services via the internet rather than software running on customers' computers. But any attempt to compete on price is likely to crimp Oracle's profit margins, which until recently had been its best attribute. Year-to-year sales growth has been less than 4% for six consecutive quarters. Oracle is being dropped from the Long-Term Buy List, and its grade on our Monitored List is being dropped to B (average).

Stock reviews

American Express ($67; AXP) has rallied 17% so far this year to reach all-time highs. The stock, helped by Amex's announcement of a 15% dividend increase and a share-repurchase authorization for 150 million shares, still seems attractively valued at 14 times expected 2013 earnings. The Quadrix Value score has dipped to 64, down from 75 on Dec. 31. The Momentum score has dropped to 47, partly because some unusual items hurt December-quarter cash flow. While the Overall score has dropped to 68, Amex remains a Buy and Long-Term Buy based on its reasonable valuation and underlying operating momentum.


Our patience with Microsoft ($28; MSFT) is wearing a bit thin. The stock has been trading mostly sideways for three years, and it has underperformed so far this year amid diminishing expectations for personal-computer sales. New products in tablet computers and mobile phones have failed to get much traction, and the new Windows 8 operating system has drawn mixed reviews. Despite a Value score of 78, the Quadrix Overall score has slumped to 69 because of poor scores for Momentum, Earnings Estimates, and Performance. The stock has shown improved price action in recent weeks, and a push above the recent high of $28.35 could trigger a move back into the low $30s. For now, Microsoft remains a Long-Term Buy based on its modest valuation and 3.3% dividend yield.


Nike ($59; NKE) rallied after the company reported February-quarter earnings of $0.73 per share from continuing operations, up 20% and 9% above the consensus. Revenue rose 9%, with gains in all regions except China and Japan. Futures orders for delivery from March through July rose 6%. Nike projected mid-single-digit sales growth for the May quarter, versus the 2% consensus, and growth in the high-single-digits "or slightly above" for the fiscal year ending May 2014. Nike's news boosted the shares of several shoe retailers, including Foot Locker ($34; FL). Foot Locker, yielding 2.4%, is a Focus List Buy and a Long-Term Buy. While Nike delivered an encouraging quarter, the stock is rated B (average) because of its premium valuation and middling Overall Quadrix score of 60.


Wal-Mart Stores' ($75; WMT) Overall Quadrix score is 58, lowest among our recommended stocks, because of below-average scores for Momentum, Earnings Estimates, and Performance. But profit estimates have dipped only modestly since the retail giant posted January-quarter results, and expectations of 6% to 7% growth in per-share profits this year could prove conservative if the U.S. economy continues to improve. The stock has traded mostly sideways since mid-2012 but recently has shown signs of life, moving to a five-month high. While not among our favorite names, Wal-Mart remains a Long-Term Buy based on its modest valuation and reliable growth.


Rank Changes

Kroger ($33; KR) is being added to the Buy List and Long-Term Buy List. Varian Medical ($72; VAR) is being added to the Long-Term Buy List. EMC ($24; EMC) is being dropped from the Buy List but remains a Long-Term Buy. Oracle ($32; ORCL) is being dropped from the Long-Term Buy List.


Current Hotline

Stock Spotlight

Individual Stock Reports

ISRs make stock research easy!

Perhaps the most valuable two page reports available anywhere.

All the data you would normally have to plow through years of 10-K filings, earnings reports, and reams of market data to assemble — yours all in one concise report.

ISRs contain our proprietary Quadrix scores — find out how we rate all the stocks in the S&P 500.

Visit us at individualstockreports.com