Portfolio Review


One upgraded and one downgrade

American Express ($57; AXP) is being upgraded to a Buy and a Long-Term Buy. The company provides credit cards and operates its own electronic payment network. American Express enjoys solid volume growth and improving credit metrics as delinquencies decline. These trends have helped produce 12-month growth of 8% for sales, 26% for earnings per share, and 47% for cash provided by operations.

The stock has climbed 21% this year but still looks attractively valued. Shares trade at just 13 times estimated 2012 earnings, which equate to 6% growth. American Express also looks cheap relative to its five-year history, trading at discounts of 26% based on the trailing price/earnings ratio and 42% relative to trailing operating cash flow.

Dover ($56; DOV) is being dropped from the Long-Term Buy List and removed from our coverage universe. The stock's Quadrix® Overall score has slipped to 74, hurt by low scores for Earnings Estimates (17) and Performance (35).

Over the past month, analysts have trimmed profit estimates for both 2012 and 2013, partly reflecting weakness in European markets, declining cash flow, and lower gross profit margins. While Dover looks cheap relative to its history and peer group, the stock no longer qualifies as one of our top picks for two- to four-year gains.

Earnings update

Bed Bath & Beyond ($75; BBBY) earned $0.89 per share in the May quarter, up 24% and $0.04 above the consensus. Same-store sales grew 3.0%, while total revenue rose 5%. But profit guidance appeared weak, with the retailer targeting earnings per share of $0.97 to $1.03 for the August quarter, versus the consensus of $1.08. Bed Bath & Beyond has a history of underpromising and overdelivering, and for now it retains its Focus List Buy and Long-Term Buy ratings.

Oracle ($28; ORCL) said May-quarter earnings per share rose 10% to $0.82, topping the consensus by $0.04. Revenue crept 1% higher to $10.92 billion, also ahead of the consensus. Oracle announced its results three days early, presumably to shore up confidence following the disclosure of instant messages sent by Keith Block, head of North American sales, lambasting the hardware business and Co-President Mark Hurd. Block has reportedly resigned. The company also approved a $10 billion share-repurchase program, equaling about 7% of outstanding shares at current prices. Oracle is a Long-Term Buy.

A 22% hike of its dividend couldn't keep Walgreen ($30; WAG) shares from slipping on mediocre May-quarter results and an agreement to pay $6.7 billion in cash and stock for a 45% stake in Alliance Boots, a pharmacy retailer based in Switzerland. Walgreen is rated B (average).

Reflecting weak growth in the U.S. and Europe, Procter & Gamble ($62; PG) cut its profit guidance for both the June quarter and the fiscal year ending June 2013. P&G is rated C (below average).

Technology roundup

Microsoft ($31; MSFT) unveiled a line of tablets, joining Google ($582; GOOG) in the awkward dance of competing with the hardware companies that license its operating system. The tablet line, called Surface, offers at least one feature that will separate it from the crowd — a keyboard doubling as a magnetic cover. In other news, Microsoft reportedly agreed to pay $1.2 billion to acquire Yammer, a social network for businesses. Microsoft is a Buy and a Long-Term Buy. Google is a Long-Term Buy.

Alliance Data Systems ($132; ADS) agreed to acquire a $475 million portfolio of private-label credit-card accounts from Bon-Ton Stores ($6; BONT), an operator of department stores. Alliance Data Systems is a Focus List Buy and a Long-Term Buy.

CA Technologies ($27; CA) has reportedly begun its hunt to replace CEO William McCracken, who turns 70 later this year. CA is a Buy and a Long-Term Buy.

Intel ($28; INTC) agreed to pay InterDigital ($27; IDCC) $375 million for roughly 1,700 wireless patents. Intel is a Focus List Buy and a Long-Term Buy.

Qualcomm ($57; QCOM) CEO Paul Jacobs said the shortage of one of its key semiconductors for smartphones should ease in coming months and supplies should return to normal by the end of 2012. Qualcomm is a Focus List Buy and a Long-Term Buy.

Dell ($12; DELL) initiated a quarterly dividend of $0.08 per share. Dell, with an indicated yield of 2.6%, is rated B (average).

Energy review

Continuing its shift toward unconventional energy, Exxon Mobil ($84; XOM) agreed to develop tight oil reserves — oil trapped in nonporous rock — in Siberia with Russia's state-run OAO Rosneft. Exxon Mobil is a Buy and a Long-Term Buy.

Apache ($85; APA) discovered a huge deposit of shale gas — potentially one of the largest such finds — in British Columbia. Looking ahead, Apache sees petroleum liquids accounting for 58% of production by 2016, versus 50% in 2011. Apache's CEO said the company will focus on developing its current energy portfolio rather than pursuing large acquisitions. Apache is a Long-Term Buy.

Chevron ($104; CVX) agreed to sell a minority stake in its Australian Wheatstone project to Tokyo Electric Power ($2; TKECF). Chevron is a Buy and a Long-Term Buy.

Health-care report

Shares of Aetna ($41; AET) and UnitedHealth Group ($60; UNH) have diverged since the Supreme Court completed its hearing on President Obama's health reform, with UnitedHealth up 9% and Aetna down 12%. But the two stocks could experience similar reactions when the court announces its decision, expected to occur by the end of June. For both insurers, the best-case scenario would likely involve either the entire law being ruled unconstitutional or the Supreme Court striking both the individual mandate and expanded coverage requirements. Whatever the outcome, the ruling shouldn't be mistaken as a finish line, especially ahead of the November elections and U.S. House Speaker John Boehner's pledge to repeal any part of the law that the Supreme Court leaves intact.

Aetna is protesting the state of Ohio's decision to retract a Medicaid contract it awarded the insurer in April. The company also announced a new contract in Texas that could yield more than $800 million in premiums next year. Emphasizing that it has yet to see a spike in medical utilization rates, Aetna reiterated its expectations for 6% to 7% growth in medical costs and a 3% decline in per-share profits (the consensus projects a 2% dip).

For more on UnitedHealth, check out this week's Analysts' Choice. Aetna is a Focus List Buy and a Long-Term Buy. UnitedHealth Group is a Buy and a Long-Term Buy.

St. Jude Medical ($37; STJ) shares fell following the appearance of an anonymous physician report in a medical database for adverse events claiming that the wiring of a Durata defibrillator lead poked through its insulation. The shares have since recovered about half of the lost ground.

In recent months, the device maker has been plagued by reports of faulty cables in its older Riata leads — and by concerns that the problem might eventually turn up in the Durata leads. St. Jude says that it has yet to receive any such report concerning Durata; doctors typically submit failure reports to manufacturers, who then file with the medical database. Weighing the available evidence, St. Jude Medical remains a Long-Term Buy, but we are waiting to see how the story develops.

Rank Changes

American Express ($57; AXP) is being added to the Buy List and Long-Term Buy List. Dover ($56; DOV) is being dropped from the Long-Term Buy List, and from coverage. Vanguard Short-Term Investment-Grade ($10.74; VFSTX) now accounts for 9.9% of the Buy List and Focus List and 14.6% of the Long-Term Buy List.

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