Portfolio Review: August 15, 2016

8/15/2016


Rank changes

Reflecting June-quarter results and shifting Quadrix scores, we are making five rank changes this week.

Amerco ($349; UHAL) is being dropped from the Focus List but remains a Buy and Long-Term Buy. The company missed the single-analyst estimates for earnings per share and revenue for the June quarter, while cash from operations fell 30% to $201 million. The disappointing results were largely due to rental-truck shortages and rising truck costs as Amerco expands its fleet. Management also noted higher transaction volumes but softer pricing.

The stock slumped 9% on the results and has struggled to rebound in the days following the report. However, the improving U.S. labor market continues to support employee relocations and new household formation, two trends that should sustain Amerco's sales, up in 14 straight quarters. Management may also have some levers to pull that could bolster profit margins in coming quarters. The stock trades at 15 times trailing earnings, a 23% discount to the median industrial stock in the S&P 1500 Index.


Alphabet ($808; GOOGL), profiled as this week's Analyst Choice, joins the Focus List. The proliferation of mobile devices continues to drive internet usage, boosting Alphabet's online-search business and making its track record for growth appear sustainable. Annual revenue has risen at least 8% and operating cash flow at least 12% every year since the company went public in 2004. Both revenue and cash flow jumped more than 18% in the first half of 2016. The company is showing progress in controlling operating expenses, further improving its profitability. Alphabet is already a Buy and Long-Term Buy.


CDW ($46; CDW), a distributor of software and hardware products, is being added to the Focus List. The June quarter was a tale of two end markets, as CDW saw strong growth from government and educational customers and weakness from corporate clients. Management implied revenue could rise 7% to 9% in the September quarter, though CDW will face currency headwinds due to weakness in the British pound. The consensus calls for 7% sales growth. In Quadrix, the stock scores above 70 for both Momentum and Value, contributing to an Overall score of 87. CDW is already a Buy and Long-Term Buy.


We are adding Lam Research ($89; LRCX) to the Focus List. The composition of semiconductor spending is shifting toward Lam's focus on a new type of flash memory called 3D NAND. As a result, Lam continues to generate strong growth in a tough market for semiconductor-equipment makers. Per-share profits, sales, and cash from operations rose by double-digits in fiscal 2016 ended June. Free cash flow more than doubled to $985 million last year. Although growth may slow in the September quarter, management's guidance surpassed analyst expectations at the time of the announcement. Looking further out, growth should get a jolt from Lam's pending $10.6 billion acquisition of KLA-Tencor ($69; KLAC), though the deal is facing regulatory delays. Lam said Aug. 10 the deal may be completed later than its prior target of Oct. 20. The stock earns above-average ranks for all six Quadrix categories to support the Overall rank of 96. The stock is already a Buy and Long-Term Buy.


Amgen ($171; AMGN) is being upgraded to Buy and Long-Term Buy. Amgen raised its 2016 guidance last month. The midpoint of the company's new guidance range projects 8% higher earnings per share on 5% revenue growth. A strong pipeline should help fuel operating momentum. Amgen launched six new drugs last year and has six more in the late stages of development.

An advisory panel for the Food and Drug Administration recommended regulatory approval of Amgen's biosimilar version of AbbVie's ($66; ABBV) blockbuster arthritis drug Humira. AbbVie has sued to block Amgen from launching the drug. The lawsuit could delay Amgen's launch of the new drug, though AbbVie may be facing an uphill legal battle given the government's recent emphasis on increasing competition among drugmakers. Amgen shares trade at 15 times trailing earnings, a 7% discount to their five-year average and 17% below the median for S&P 1500 biotechnology stocks. Amgen is a Buy and a Long-Term Buy, while AbbVie is rated A (above average).

Media review

For the June quarter, Disney ($98; DIS) earned $1.62 per share excluding special items, up 12%, to squeeze past the consensus by a penny. Revenue advanced 9% to $14.28 billion, also above the consensus. Studio entertainment posted 40% higher sales, compensating for sluggish growth from media networks, up 2%, and parks and resorts, up 6%. Disney noted a "modest" subscriber decline for ESPN, which still posted advertising growth. Disney is a Long-Term Buy.


NBCUniversal, owned by Comcast ($67; CMCSa), said 26.5 million people watched NBC's broadcast of the Olympics opening ceremony, down 35% from the 2012 London games. NBC expects the Olympics to attract record viewers this year, partly because more events will be televised live. Host city Rio de Janeiro is just one hour ahead of U.S. Eastern Daylight Time. Separately, NBCUniversal secured the commercial rights to broadcast all eight Harry Potter movies, starting in 2018. Disney holds the rights until June 2018. Terms were not disclosed, though NBCUniversal could pay upwards of $250 million, according to The Wall Street Journal. The deal also includes the rights for the Harry Potter tie-in franchise Fantastic Beasts; its first movie debuts in theaters this November. Comcast is a Focus List Buy and a Long-Term Buy.

Corporate roundup

Biogen ($309; BIIB) is not actively looking to sell itself and has not received any formal takeover interest, according to Reuters. The Wall Street Journal had previously reported that Merck ($63; MRK) and Allergan ($93; ALGN) took initial steps in pursuing a merger with Biogen. In other news, an experimental Alzheimer's drug being co-developed by Biogen received clearance from U.S. regulators to enter late-stage trials. Biogen is a Buy and Long-Term Buy. Merck is rated B (average).


Southwest Airlines ($37; LUV) reported 1% higher traffic in July on 2% more capacity. Growth was constrained by delays and cancellations of more than 2,000 flights due to a technology outage on July 20. As a result, Southwest now expects operating revenue per available seat mile to fall 3.5% to 4.5% for the September quarter, worse than its prior target of a 3.0% to 4.0 % decline. Management also said costs will likely rise more than previously projected. Southwest Airlines is a Focus List Buy and a Long-Term Buy.


Apple ($108; AAPL) reportedly agreed to acquire Turi, a company specializing in a form of artificial intelligence called machine learning, for about $200 million. Separately, Russia's antitrust regulator opened an investigation into claims Apple colluded with Russian smartphone retailers to fix prices of its iPhone 6S and 6S Plus. Apple denied the allegations. Apple is a Buy and a Long-Term Buy.


A U.S. appeals court upheld an earlier decision that blocks Ecuadorean plaintiffs from collecting a $9.5 billion award from Chevron ($100; CVX) in the U.S. The environmental lawsuit stretches back to 1993, accusing Texaco, later acquired by Chevron, of polluting Ecuador's rain forest. Chevron is rated C (below average).


Rank Changes

Amerco ($349; UHAL) is being dropped from the Focus List but remains a Buy and a Long-Term Buy. Alphabet ($808; GOOGL), CDW ($46; CDW), and Lam Research ($89; LRCX) are being added to the Focus List. Amgen ($171; AMGN) is joining the Buy and Long-Term Buy Lists. After these changes, the Vanguard Short-Term Corporate Bond ($81; VCSH) ETF accounts for 19.1% of the Buy List and 19.4% of the Long-Term Buy List.


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