Portfolio Review

3/3/2014


Two new Buys

SanDisk ($76; SNDK) makes flash memory used in computers and mobile devices. Growth in demand for the devices, as well as their rising complexity, should drive profits higher in coming quarters. Over the last 12 months, sales rose 22%, per-share profits more than doubled, and operating cash flow per share jumped more than 350%. While such torrid expansion won't continue, consensus estimates project growth in per-share profits of 9% this year and 5% next year, targets that sound overly conservative.

Profit margins have trended sharply higher over the last year, and a migration toward higher-margin products suggests more expansion is in store. Since posting stronger-than-expected earnings for the December quarter, the shares have rallied 5% to a new all-time high. Despite the stock's strength, at 14 times trailing earnings it trades at a 32% discount to the median technology stock in the S&P 1500 Index and 14% below its own three-year average P/E ratio. SanDisk is being initiated as a Buy.


Dow Chemical ($47; DOW) earns Quadrix scores of 79 for Value and 97 Overall, while both sector-specific ranks exceed 95. The largest U.S. chemical company by revenue, Dow posted strong December-quarter results, reflecting cost-cutting efforts, and raised its profit expectations. Sales rose 3% for the quarter. Improved global demand should key 3% to 5% year-ahead sales growth. Cash from operations surged 92% in 2013, and investor activists have begun to pressure management to return more cash to shareholders.

In January, Dow raised its quarterly dividend 15% to $0.37 per share, payable April 30, and tripled its share-repurchase program to $4.5 billion. The buyback authorization equates to 8% of outstanding shares at current prices, and Dow expects to complete the program this year. The consensus projects profit growth of 18% this year and next year, with estimates for both years up at least 4% over the last 30 days. Dow is being upgraded to a Buy and a Long-Term Buy.

Pay TV review

DirecTV ($75; DTV) said December-quarter earnings per share slipped 1% to $1.53, exceeding the consensus by $0.25. Year-ago results benefited from a lower tax rate and DirecTV divesting a portion of its stake in the Game Show Network. Sales advanced 7% to $8.59 billion, with the U.S. business growing 6%, versus 10% for Latin America. Within the U.S., net subscriber additions slipped 10% to 93,000, while average revenue per subscriber rose 6% to more than $111 per month. Shares rallied on the results.

The U.S. Senate Judiciary Committee plans to examine Comcast's ($51; CMCSa) proposed $45 billion acquisition of Time Warner Cable ($137; TWC) at a hearing March 26. Comcast isn't waiting for the federal review to line up funding for the deal, issuing $2.2 billion of bonds. And pay-TV rivals aren't waiting to express their disapproval. "If you're in the video content or distribution or broadband business and your name isn't Comcast or Time Warner, the news is not positive," said DISH Network ($57; DISH) Chairman Charlie Ergen.

DirecTV CEO Michael White said the Comcast deal would create "unprecedented media concentration in one company." The leverage that Comcast would gain to combat programming costs would not necessarily improve the negotiating power for other pay-TV companies, said White. He added that DirecTV will consider a variety of strategic options, which could possibly include bundling its TV product with Google's ($1,220; GOOG) nascent internet service. Google launched Google Fiber in Kansas City last year and plans to expand into two more cities in 2014. Google said it will explore adding an additional 34 U.S. cities.

In other news, Comcast also agreed to give Netflix ($453; NFLX) direct access to its broadband network to boost internet speeds for the online streaming service. Terms were not disclosed, though one analyst predicted Comcast could collect annual fees of $25 million to $50 million. Both DirecTV and Google are Focus List Buys and Long-Term Buys. Comcast is a Buy and a Long-Term Buy.

Health-care update

Express Scripts ($74; ESRX) earned $1.12 per share in the December quarter excluding special items, up 7% and in line with the consensus. Revenue slipped 6% to $25.78 billion, hurt by a decline in medical claims. Express Scripts gave 2014 per-share-profit guidance of $4.88 to $5.00, implying 13% to 15% growth, versus the $4.93 consensus at the time of the announcement. Management expects stock buybacks and higher profit margins to more than offset continued weakness in claim volumes. Express Scripts is a Buy and a Long-Term Buy.


Shares of Cigna ($78; CI) and other health insurers bounced Feb. 24 after the U.S. released preliminary 2015 reimbursement rates for Medicare Advantage. Analysts estimate that the proposed cuts are about 4%, less than the anticipated decline of 6% to 7%. The final rates will be announced in April. In other news, Vice President Joe Biden said enrollment in the new government-run health plans could reach 5 million or 6 million participants by the March 31 deadline, short of the White House's initial target of 7 million. As of Feb. 1, about 3.3 million people had signed up. Cigna is a Long-Term Buy.

Earnings roll call

In the January quarter, Macy's ($56; M) grew per-share profits 13% to $2.31 excluding special items, ahead of the consensus estimate of $2.17. Although total revenue dipped 2% to $9.20 billion, same-store sales climbed 1.4%. Macy's said harsh weather forced temporary closures at 244 of its roughly 850 stores in January. The sluggish environment seeped into February, but business has improved since Valentine's Day. Management reiterated its prior guidance for fiscal 2015 ending January, which calls for per-share-earnings growth of 10% to 13% and same-store sales growth of 2.5% to 3%. Macy's shares surged on the results and retain their Buy and Long-Term Buy rating.


Quanta Services ($34; PWR) shares rallied 8% after the company reported December-quarter results and projected strong growth for 2014. Earnings per share from continuing operations slipped 2% to $0.50 excluding special items, exceeding the consensus by $0.10. Quanta, a specialty contractor for pipelines and electricity-transmission networks, said revenue advanced 9% to $1.82 billion. For the March quarter, Quanta expects per-share profits to rise 8% to 13% on revenue growth of 4% to 10%. Quanta is a Buy and a Long-Term Buy.


Whiting Petroleum ($64; WLL) earned $0.88 per share in the December quarter, up 1%, to match the consensus estimate. Revenue jumped 25% to $720 million, ahead of the consensus, on 17% higher total production. Whiting expects production to grow 17% to 19% in 2014. Whiting Petroleum is a Focus List Buy and a Long-Term Buy.


Rank Changes

SanDisk ($76; SNDK) is being initiated as a Buy. Dow Chemical ($47; DOW) is being added to the Buy and Long-Term Buy Lists. Vanguard Short-Term Bond Index ($80; VCSH) now accounts for 2.5% of the Buy and Focus Lists and 8.1% of the Long-Term Buy List.


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