July-quarter profits


July-quarter profits
Hewlett-Packard ($44; NYSE: HPQ) posted operating earnings of $0.86 per share, up 21% and $0.03 higher than the consensus estimate. Revenue rose 10% to $28.03 billion, also topping expectations. Revenue jumped 15% at H-P’s largest operating unit, which sells personal computers. The company repurchased 34 million common shares in the quarter, and the share count has declined 6% over the past year.

For the October quarter, management now expects per-share profits of $1.01 to $1.03, more than the $1.00 consensus. The market expects per-share-profit growth of 22% in fiscal 2008 ending October and 12% in fiscal 2009. The stock, which rallied on the strong quarter, is a Buy and a Long-Term Buy.

Medtronic ($56; NYSE: MDT) earned $0.72 per share excluding special items, up 16% and $0.03 above the consensus, on 19% revenue growth. All seven business units posted sales gains, paced by at least 30% growth at the spinal and cardiovascular segments. Medtronic is rated Neutral.

Retail roundup
Wal-Mart Stores ($58; NYSE: WMT) earned $0.86 per share from continuing operations in the July quarter, up 15% and $0.02 above the consensus estimate. Sales rose 10% to $101.60 billion, with U.S. same-store sales up 5%, or 4.5% excluding gasoline sales. The share count fell by more than 3.5% over the last year, and additional buybacks are likely in coming quarters.

The retail giant raised its profit guidance for the year ending January on the strength of improved operating efficiency but also warned that the boost from tax-rebate checks was mostly over and projected just 1% to 2% growth in August same-store sales. Wal-Mart is a Long-Term Buy.

While Wal-Mart seems well-positioned to grab market share as consumers struggle to meet expenses from week to week, several high-profile retailers issued discouraging guidance. Luxury retailer Nordstrom ($30; NYSE: JWN) lowered its profit guidance for the year ending January after posting an 8% decline in per-share profits and a 6.0% dip in same-store sales in the July quarter. The company projects a 5% to 9% decline in per-share profits this year. At Lowe’s ($24; NYSE: LOW), July-quarter earnings per share fell 3% on a 5.3% decline in same-store sales. The home-improvement retailer raised its profit guidance for the year ending January but lowered expectations for the October quarter, pinning its hopes on a strong holiday season. Shares of Target ($50; NYSE: TGT) and Home Depot ($26; NYSE: HD) declined after the companies posted lower July-quarter same-store sales.

In other news, TJX ($35; NYSE: TJX) agreed to sell its Bob’s Stores unit to private-equity firms for an undisclosed amount. The off-price retailer said it would take a per-share charge of $0.03 on the sale and raised its target for full-year per-share earnings from continuing operations by $0.04. Nordstrom, Lowe’s, Target, Home Depot, and TJX are rated Neutral.

Defense plays offense
The Forecasts’ defense stocks have rallied in recent weeks, with Lockheed Martin ($116; NYSE: LMT), General Dynamics ($92; NYSE: GD), and Harris ($53; NYSE: HRS) up at least 11% from July lows. Lockheed shares hit an all-time high Aug. 15. The S&P 1500 Aerospace & Defense Industry Index was down 12.8% for the year as of Aug. 19, slightly better than the broader S&P 1500 Index’s 13.4% decline. But the defense index outperformed by more than three percentage points over the last month, reflecting solid June-quarter results amd Russia’s incursion into Georgia.

While election years can stir up fears of defense cutbacks, the federal budget already projects increases in spending through fiscal 2010 ending September. The threat of terrorism and the rise of governments that appear less friendly to America suggest the risk of a large decline in defense spending is modest, regardless of which party wins the presidency. Our three top defense stocks all earn Quadrix Overall scores of at least 87 and seem reasonably valued.

General Dynamics’ defense operations are going strong, but the company in August took steps to expand its lucrative business-jet operations. The company agreed to pay $2.25 billion in cash and the assumption of debt for Jet Aviation, a Swiss firm that provides maintenance and other services for business jets. Strong demand for business jets has boosted results at General Dynamics’ Gulfstream subsidiary in recent quarters. General Dynamics is a Buy and a Long-Term Buy. Harris and Lockheed are rated Focus List Buy and Long-Term Buy.

Financial review
Fannie Mae ($6; NYSE: FNM) plunged to its lowest level in nearly 20 years amid concerns that a government bailout could render its common stock worthless. The retreat stems partly from reports that the floundering mortgagefinance company could have trouble raising capital. Fannie Mae asserts that it holds more capital than the minimum required by regulators. Fannie Mae is rated Neutral . . . J.P. Morgan Chase ($36; NYSE: JPM) announced that it would repurchase $3 billion of auction-rate securities and incur a roughly $400 million charge. Meanwhile, Wachovia ($14; NYSE: WB) said it would repurchase about $8.5 billion of auction-rate securities and take a charge of $275 million in the September quarter. J.P. Morgan and Wachovia are rated Neutral . . . Wells Fargo’s ($28; NYSE: WFC) credit quality has come under scrutiny after the banking giant disclosed that it holds roughly $5.28 billion in certain illiquid assets, called “level three” assets, that it values using mostly its own estimates. Level-three assets include collateralized debt obligations — a problem area for many banks. For investors who want exposure to banks, Wells Fargo, a Long-Term Buy, remains our top selection in the industry and a decent pick for three-year gains.  

Microsoft buyback speculation
Rumors are circulating that Microsoft ($27; NASDAQ: MSFT) will unveil a plan to repurchase as much as $20 billion of its stock, translating into roughly 8% of shares outstanding. The company has the ability to fund a massive buyback, as the balance sheet had $23.66 billion in cash and short-term investments on June 30. However, given Microsoft’s historical preference for holding lots of cash and desire for flexibility regarding acquisitions, a smaller buyback is more likely.

Concerns about a slowdown in growth and potential antitrust lawsuits weigh on the shares, which represent a solid value at current levels. Microsoft trades at less than 13 times expected earnings of $2.15 per share in the year ending June, cheap relative to the average forward P/E ratio of 22 for systems-software companies. Excluding its $2.59 per share in cash, Microsoft trades at 11 times earnings. Microsoft is a Buy and Long-Term Buy.

Questar still has plenty of energy
Energy/utility hybrid Questar’s ($50; NYSE: STR) natural-gas production operations have accounted for most of the company’s 25% growth in per-share earnings and 24% increase in cash flow over the last year. The rich Pinedale Anticline field in Wyoming already contributes about 30% of Questar’s production, and the company is aggressively drilling new wells.

In the first half of 2008, all of Questar’s divisions delivered record net income, while the energy unit reported production growth of 14%. Natural gas, accounting for more than 80% of Questar’s production volume, has historically sold for less in the Rocky Mountain states than elsewhere in the country. Questar hopes to tap into more lucrative markets by connecting its fields in the Rockies with buyers in central Canada and the U.S. Midwest via pipelines. Consensus estimates for 2008 and 2009 have been trending upward in recent months and project per-share-profit growth of 30% this year and 7% next year. Questar is a Long-Term Buy.

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