Portfolio Review

2/14/2011


List review

The Forecasts focuses on quality stocks, avoiding companies with poor fundamentals or rich valuations. But no stock will go up all the time, and despite our best efforts, some of our selections stumble. In the following paragraphs, we present one downgrade and review four companies dealing with difficult news.

We are downgrading Sigma-Aldrich ($61; SIAL), which sells ingredients used in health-sciences and specialty chemicals. Excluding restructuring costs, Sigma-Aldrich earned $0.83 per share, up 4% and $0.03 above the consensus. With the costs, profits rose about 1%. Sales rose 2%, and the company raised its quarterly dividend. Although Sigma projects higher profits in 2011, the midpoint of its guidance fell short of the consensus estimate. The stock's Quadrix® scores have been slipping, with Overall down to 67 and Value at just 44. Sigma is being dropped from coverage and should be sold.


Shares of Ameriprise Financial ($60; AMP) have been choppy since the wealth-management concern posted somewhat disappointing December-quarter results. Excluding items, earnings rose 30% on a 19% revenue gain, partly reflecting a jump in assets under management. Helped by a nearly 2% decrease in average outstanding shares, per-share operating earnings increased 33% to $1.21 — below the consensus of $1.32. An unusual charge related to variable annuities cut $0.11 per share from operating income, but some investors were disappointed by soft underlying results in annuities and insurance. Still, the growth outlook at Ameriprise remains intact, and profit estimates for 2011 have risen since the earnings release. Consensus estimates project per-share earnings will climb 24% to $5.54. With the stock at less than 11 times that estimate — versus an average of 15 for asset-management companies in the S&P 1500 — Ameriprise remains a Focus List Buy and a Long-Term Buy.


Hackers have repeatedly broken into servers where NASDAQ OMX Group ($26; NDAQ) stores confidential documents on behalf of corporate officials. While the news made headlines, you wouldn't know it based on the NASDAQ Stock Market's activity. The company said its trading platform was not compromised, and business continues as usual.

NASDAQ is best known for its namesake stock exchange, but the company generates about 5% of its revenue from corporate services, a key driver of future growth. The security breach may raise concerns about NASDAQ's services, but given the company's operating momentum, it's far too early to panic.

In other news, NASDAQ shares jumped Feb. 9 on reports of industry consolidation. London Stock Exchange Group agreed to buy the owner of the Toronto Stock Exchange, and Deutsche Boerse is reportedly negotiating to acquire NYSE Euronext ($39; NYX). NASDAQ OMX is a Buy and a Long-Term Buy.


J.P. Morgan Chase ($46; JPM) has come under fire in a $6.4 billion lawsuit that claims the venerable bank turned a blind eye to Bernard Madoff's Ponzi scheme. The lawsuit asserts that J.P Morgan allowed Madoff-controlled assets to pass through its accounts. Yet the bank had expressed doubts about Madoff, allegedly pulling out more than $240 million it had invested in hedge funds that channeled money to Madoff. J.P. Morgan is also in hot water related to overcharging and improperly foreclosing on mortgages. Finally, investors want the bank to buy back soured mortgage-related securities.

It is difficult to quantify the impact of the mortgage and Madoff fiascos. Wall Street sees potential losses related to repurchasing mortgages as high as $10 billion, but J.P. Morgan's litigation reserves already top $6.7 billion. The stock seems to discount the concerns, trading at a 27% discount to its 10-year average. J.P. Morgan is a Focus List Buy and a Long-Term Buy.


Shares of Microsoft ($28; MSFT) have experienced choppy trading since the company released mixed December-quarter results. Windows, Microsoft's core unit (27% of company revenue in the six months ended December, 43% of operating income) posted a 30% sales decline. Excluding deferred revenue and the impact of the Windows 7 launch in the year-earlier period, the segment's revenue increased about 3%, reflecting weak personal-computer sales. That contrasts sharply with the 55% growth of the entertainment and devices segment (15% of sales but just 7% of operating income).

Microsoft has made its share of missteps, but it is finding some success in new markets, albeit at a slower pace than investors would like. The stock seems to be running in place, trading at levels seen a decade ago. Yet investors still clamor for bonds issued by the AAA-rated company, despite a tight interest-rate spread over comparable Treasurys. In February, Microsoft tapped the bond market for the third time in two years, selling $2.25 billion in debt and raising the company's debt-to-capital ratio to a modest 16.6%. Microsoft is a Buy and a Long-Term Buy.

December-quarter results

Advance Auto Parts ($65; AAP) reported December-quarter per-share profits of $0.57, up 46% excluding special charges and $0.03 above the consensus. Revenue increased 11%, with same-store sales up 8.9%. Advance Auto projects 2011 per-share profits of $4.60 to $4.80, versus the $4.61 consensus. Advance Auto Parts is Focus List Buy and a Long-Term Buy.


AmerisourceBergen ($37; ABC) said December-quarter earnings rose 10% to $0.57 per share, topping the consensus by $0.03. Revenue increased 3% to $19.89 billion as the drug group grew 5%, offsetting 4% lower sales from the specialty-drug group sparked by the previously disclosed loss of a contract. Shares rallied on the results. Amerisource is a Buy and a Long-Term Buy.


BMC Software ($49; BMC) earned $0.79 per share excluding special items in the December quarter, up 1% but a penny short of the consensus. Sales climbed 6%, above analyst forecasts, and bookings rose 10%. BMC raised its operating-cash-flow forecast for fiscal 2011 ending March, with the midpoint implying 16% growth. BMC is a Buy and a Long-Term Buy.

Corporate roundup

Newmont Mining ($58; NEM) agreed to purchase Fronteer Gold ($15; FRG), a Canadian miner with exploration projects in Nevada, for about $14 per share, or $2.32 billion. Newmont is a Focus List Buy and a Long-Term Buy . . . SAP ($59; SAP) said it will fight to reduce the $1.3 billion fine a jury awarded to Oracle ($33; ORCL) last November in a copyright-infringement lawsuit. Oracle is a Long-Term Buy . . . Verizon Communications ($36; VZ) sold its preorder allotment of Apple's ($355; AAPL) iPhone 4s in less than one day. Verizon is rated B (average). Apple is a Focus List Buy and a Long-Term Buy.

Retail review

Following the strongest holiday season since 2006, retailers posted 4.2% higher same-store sales in January, exceeding the consensus of 2.7%, according to an index of 28 retailers tracked by Thomson Reuters. Enthusiasm was tempered by storm clouds on the horizon, as rising commodity costs threaten to pressure margins already squeezed by promotions that retailers have used to nudge sales higher. Check out sales numbers for retailers followed by the Forecasts at www.DowTheory.com/Go/R.Sales. 

Ross Stores ($70; ROST) said same-store sales rose 3% in January, well above the consensus of 0.5%. The strong results prompted Ross to boost its January-quarter profit target. Ross also raised its quarterly dividend 38% to $0.22 per share, payable March 31. Ross, yielding 1.3%, is a Focus List Buy and a Long-Term Buy.

Pharmaceutical report

Drug giants Pfizer ($19; PFE) and Merck ($33; MRK) both topped consensus profit estimates in the December quarter on solid revenue growth. Both companies also cautioned Wall Street about their outlooks, dimmed by recent setbacks in the pipeline. However, since posting results earlier this month, their shares have moved in opposite directions.

Shares of Pfizer rose after the company vowed to slash annual spending on research and development by up to $2 billion while enlarging its stock-buyback program by $5 billion. Merck's stock fell after the company issued 2011 profit guidance below Wall Street's forecast and withdrew its long-term profit-growth target. Nevertheless, Merck said it will not make further research-spending cuts. Merck and Pfizer are rated B (average).

Rank Changes
Sigma-Aldrich ($61; SIAL) is being dropped from coverage. The Long-Term Buy List's position in the Vanguard Short-Term Investment-Grade ($10.74; VFSTX) fund rises to 16.6%.

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