Portfolio Review: October 17, 2016

10/17/2016


Antitrust clampdown

Bowing to regulatory pressures, Lam Research ($99; LRCX) and KLA-Tencor ($72; KLAC) abandoned their $10.6 billion merger. In August, Lam warned that the deal, first announced in October 2015, faced delays due to antitrust concerns in the U.S. and overseas. Lam ranks second, and KLA third, among S&P 1500 semiconductor-equipment makers for stock-market value and revenue. However, they manufacture different types of equipment used in the fabrication process, resulting in minimal product overlap.

Still, the industry has come under close antitrust scrutiny in recent years, last illustrated in April 2015 when Applied Materials ($29; AMAT), the biggest U.S. player in this space, scrapped its proposed $10 billion acquisition of Tokyo Electron.Lam's deal did not include a breakup fee. Lam is a Focus List Buy and a Long-Term Buy. Applied Materials is rated A (above average).


Officials in South Korea said their probe of Alphabet ($812; GOOGL) will focus on whether deals the technology giant struck with smartphone makers unfairly reduced competition for its Android operating system. In August, South Korea announced plans to investigate Alphabet but did not disclose the focus of its inquiry.

In other news, EU antitrust chief Margrethe Vestager said the scope of its current probe into Alphabet has not expanded to the company's tax practices. The EU has ordered Apple and Starbucks ($53; SBUX) to pay back taxes in the past year. Alphabet is a Focus List Buy and a Long-Term Buy. Starbucks is rated B (average).

Apple sizzles as Samsung melts down

Apple ($117; AAPL) shares rallied to a 10-month high on news that Samsung had ended production of its Galaxy Note 7 smartphone. Samsung launched the Galaxy Note 7 in August, ahead of the new iPhone 7, and then recalled 2.5 million devices a month later due to reports that it was overheating, and even exploding in some instances.

Samsung replaced the original Galaxy Note 7 with a new version, but users reported that it, too, was catching on fire. Some analysts speculated that Samsung may be forced to discontinue its Galaxy Note series.

Samsung's 23% share of the global smartphone market dwarfed Apple's 12% slice in the June quarter. But Samsung built its leading position with midmarket and low-end devices. The Galaxy Note line was viewed as Samsung's way to compete with Apple on premium and more profitable smartphones.

Considering that analysts had projected Samsung to sell 10 million to 14 million Galaxy Note 7 units in the second half of 2016, iPhone sales could get a sizable lift. The timing of Alphabet's ($812; GOOGL) Oct. 20 launch of its high-end smartphone Pixel could also prove fortuitous.

The smartphone battle has spilled into the U.S. Supreme Court, as Samsung seeks to reduce the damages it has been ordered to pay Apple in a dispute concerning smartphone patents. A U.S. jury originally awarded Apple $948 million in 2012, though an appeals court later reduced that amount to $548 million.

Although the Samsung fiasco may help stoke future iPhone sales, it seems unlikely that Apple returned to growth in the September quarter. Analyst estimates are drifting higher, with the consensus projecting earnings per share of $1.65, down 16%, on revenue of $46.8 billion, down 9%. Apple will post results after the market closes on Oct. 25. Alphabet is a Focus List Buy and a Long-Term Buy. Apple is a Buy and a Long-Term Buy.

Taking the temperature of manufacturing bellwethers

As we enter the September-quarter earnings season, comments made by key manufacturers signal that economic demand may have remained tepid in some markets.

Alcoa ($27; AA) used cost cuts to boost per-share profits 52% to $0.32 excluding special items in the September quarter, as revenue slid 6%. Both metrics missed analyst targets, causing shares to plunge. Low aluminum prices and weakness in the aerospace industry contributed to the disappointing results. Alcoa also lowered its 2016 sales targets across the company, including its engineered products and solutions business, set to be split off on Nov. 1 under the name Arconic. Alcoa is rated C (below average).


Boeing ($133; BA) said commercial-aircraft deliveries fell 6% in the September quarter. The company warned last month that it might miss its 2016 forecast for airplane deliveries. More encouraging, Boeing won a contract to supply Qatar Airways with up to 100 jets, potentially worth $18.6 billion. Boeing is rated B (average).


Dover ($67; DOV) warned that September-quarter earnings per share would fall short of the consensus estimate. Dover also cut its 2016 guidance for both profits and sales, citing weaker capital investment in several of its industrial end markets and continued weakness in the oil-and-gas industry. Dover, an industrial conglomerate, is rated C (below average).


Honeywell ($107; HON) cautioned investors that sales and profit margins for the September quarter would miss its prior targets. Citing softer demand for business aircraft, management also scaled back its full-year guidance for earnings per share and revenue. Honeywell added that weak demand will likely continue into 2017. Honeywell is rated B (average).


Paint maker PPG Industries ($92; PPG) said September-quarter results would fall well short of expectations, due to the sluggish global economy. PPG shares plunged on the announcement, which also appeared to weigh on Owens Corning ($53; OC) and other building suppliers. Owens Corning is a Focus List Buy and a Long-Term Buy.

Corporate roundup

Southwest Airlines ($40; LUV) said traffic increased 7.9% in September on 6.0% higher capacity. For the September quarter, traffic rose 4.1%, roughly in line with capacity growth of 4.2%. Southwest Airlines is a Focus List Buy and a Long-Term Buy.


Disney ($91; DIS) reportedly declined to submit a bid to acquire Twitter ($18; TWTR). Alphabetand Apple also passed on pursuing a Twitter takeover. Alphabet is a Focus List Buy and a Long-Term Buy. Apple is a Buy and a Long-Term Buy. Disney is a Long-Term Buy.


Mylan ($37; MYL) agreed to pay $465 million to resolve claims that it overcharged the U.S. government for its EpiPen by misclassifying the allergy treatment as a generic. Generic treatments pay a smaller rebate on sales to Medicaid programs. Mylan also cut its profit guidance. Mylan is rated A (above average).


Rank Changes

No changes were made this week in Dow Theory Forecasts.


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