Portfolio Review

3/21/2011


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Corning ($21; GLW) makes glass components, fiber optics, and filters for consumer electronics, computers, and automobiles. It is best known for liquid crystal displays (LCDs) used in flat-panel computers and televisions, demand for which is holding up better than many expected. All of Corning’s business managed substantial improvements in profit last year, but Gorilla glass represents the company’s best growth driver. Gorilla seems poised to give the specialty-materials unit its first operating profit this year, as it reaps the benefits of the production capacity added in 2010. The scratch-resistant glass is gaining traction in the fast-growing market for smartphones and tablet computers, while also attracting the attention of television makers.

At 10 times trailing earnings, Corning trades 30% below its peer-group average P/E ratio and 45% below its own five-year average. The shares rallied after posting solid December-quarter results and issuing optimistic statements in January and February. But Corning has dipped 10% from February highs, hurt by profit-taking and worries about the impact of the Japanese disaster. Corning operates two LCD plants in Japan, but as of press time, no serious damage had been reported. The stock is being added to the Buy and Long-Term Buy lists.


Just weeks after announcing that his "elephant gun" was reloaded, legendary investor Warren Buffett bagged Lubrizol ($134; LZ) for $9 billion in cash plus the assumption of $700 million in net debt. Buffett’s Berkshire Hathaway ($83; BRKb) agreed to pay $135 per share for the lubricant-additives maker, a 28% premium to Lubrizol’s closing price prior to the announcement. Buffett was apparently attracted by many of the same traits that prompted us to recommend Lubrizol in April at $94 a share: leading market positions, consistent earnings growth, expanding profit margins, and attractive valuation. The deal will help Berkshire gain traction in emerging markets. Lubrizol is being dropped from coverage and should be sold. Berkshire is rated B (average).

Japan's tsunami strikes worldwide

The overall impact of the disaster on semiconductor production is apparently not as severe as first believed. But while supply-chain issues should clear up over the next month or two, business activity in Japan — where the economy wasn’t exactly booming even before the tsunami — could remain depressed for a longer period.

Since the tsunami hit Japan, Aflac’s ($51; AFL) shares have plunged 8%, even though the company lacks any direct casualty exposure. Aflac reiterated its 2011 earnings guidance, acknowledging results will probably fall toward the low end of its growth range of 8% to 12%. Management can draw some confidence from the 1995 earthquake in Kobe, Japan, that had little impact on results. But Aflac’s products include cancer insurance, so radiation released from crippled nuclear reactors could pose a risk in the years ahead. According to one estimate, every 600 new cancer claims would reduce Aflac’s earnings by $0.01 per share, while 125 death claims would have a similar effect. Aflac generated 77% of its 2010 operating revenue in Japan. Aflac is a Focus List Buy and a Long-Term Buy.


Texas Instruments ($34; TXN) said two of its four factories in Japan suffered substantial damage that will lower revenue for the March and June quarters. One of the plants produced 10% of the company’s semiconductors in 2010. TI has found alternative manufacturing capacity to replace 60% of the plant’s production until it gradually comes back on line from May through July. The second plant could resume production in mid-April.

TI acquires some of its silicon wafers from Japan, and this indirect exposure will be tough to measure. Even companies without facilities in Japan could face supply-chain disruptions, considering the country produces about 20% of the world’s semiconductors. Spot prices for electronic components have soared, though large companies tend to have long-term contracts for parts. TI is a Focus List Buy and a Long-Term Buy.


Japan accounts for 3% to 4% of global demand for personal computers and hand-held devices. Research In Motion’s ($61; RIMM) exposure to Japan appears minimal, though Apple ($345; AAPL) holds a high-single-digit share of Japan’s handsets. Japan accounted for 5% of Apple’s revenue in the December quarter.

Apple postponed the Japan launch of its iPad 2, originally slated for March 25. Analysts believe Apple sold more than 500,000 iPads in the first weekend, running through its initial supply in less than two days. Any disruptions to the supply chain would make it tough for Apple to keep up with demand. Toshiba, one of Apple’s component makers, warned that production would be disrupted. Some analysts worry that Apple might not be able to meet demand for its international launch later this month. Apple is a Focus List Buy and a Long-Term Buy. RIM is a Buy and a Long-Term Buy.


Last year, Japan accounted for 10% of TI’s revenue, 11% for IBM ($159; IBM), and 16% for Altera ($39; ALTR). Altera, which slumped last week after a rival reported inventory pile-ups in China, said the day before the tsunami that it did not see a build-up of Altera products. The stock rallied March 16, buoyed by good news from another rival. Altera and IBM are rated Focus List Buy and Long-Term Buy.


Medical-device makers could also be affected. St. Jude Medical ($48; STJ) derives about 11% of its revenue from Japan, followed by Stryker ($61; SYK) at 10% and Bard ($95; BCR) at 5%. Bard is a Buy and Long-Term Buy. St. Jude and Stryker are Long-Term Buys.


Wal-Mart Stores ($52; WMT) said one of its distribution centers had been damaged, though 93% of its 414 Japan stores are open. Wal-Mart is a Long-Term Buy.

Corporate roundup

NASDAQ OMX Group ($26; NDAQ) and IntercontinentalExchange ($123; ICE) are reportedly working on a hostile bid for NYSE Euronext ($37; NYX), which has already agreed to a $9.2 billion deal with Deutsche Börse. A successful takeover could cost up to $13 billion and face significant regulatory scrutiny. NASDAQ would likely contribute $5 billion to $7 billion — more than its stock-market value of $4.4 billion — toward the deal. NASDAQ is interested in the New York Stock Exchange, while ICE seeks NYSE Euronext’s derivatives business. NASDAQ is a Buy and a Long-Term Buy . . . Hewlett-Packard ($41; HPQ) authorized a 50% increase in its quarterly dividend to $0.12 per share, following the April 6 distribution of $0.08 per share. The technology giant, which has not raised its payout since 1999, said it plans to boost the dividend at double-digit rates every year. In other news, H-P set a per-share-profit target of $7.00 in fiscal 2014 ending October, up from $4.58 last year, equating to annualized growth of 11%. Hewlett-Packard is a Buy and Long-Term Buy.

Rank Changes

Corning ($21; GLW) is being added to the Buy List and the Long-Term Buy List, replacing Lubrizol ($134; LZ), which is being dropped from coverage.


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