Portfolio Review: July 27, 2015


United Rentals downgraded

United Rentals ($78; URI) reported June-quarter earnings per share of $1.95 excluding special items, up 18% and $0.21 ahead of the consensus. Revenue increased 2% to $1.40 billion, missing analysts' expectations. For the second time this year, United Rentals cut its 2015 guidance, with sales now projected to increase just 2% to 4%, versus the consensus of nearly 6% growth at the time of the announcement. Management also lowered targets for equipment utilization and rental-rate growth. United Rentals is cheap, but given its deteriorating growth we don't expect that discount to disappear any time soon. Rather than try to wait for business to improve, subscribers should sell United Rentals, which is being dropped from the Focus List, Buy List, Long-Term Buy List, and from coverage.

Technology earnings

Apple's ($125; AAPL) June-quarter earnings per share surged 45% to $1.85, exceeding the consensus estimate by $0.04. Revenue grew 33% to $49.61 billion, slightly ahead of the consensus as sales in China more than doubled. Sales rose 59% for the iPhone and 9% for the Mac, while declining 23% for the iPad. Apple did not break out results for the Apple Watch but said sales beat internal expectations and accelerated in the month of June. However, shares slumped on management's September-quarter outlook, with the sales-guidance midpoint of $50 billion implying 19% growth but missing the consensus of $51.05 billion at the time of the announcement. Apple remains a Focus List Buy and a Long-Term Buy.

F5 Networks ($119; FFIV) earned $1.67 per share in the June quarter excluding special items, up 20% and $0.07 above the consensus. Revenue advanced 10% to $484 million, helped by strong take-up for its hardware-software hybrid products. For the September quarter, F5 expects per-share profits to rise 10% to 11%, topping the consensus estimate of 9% growth at the time of the announcement. Sales are projected to increase 7% to 10%, versus the consensus target of 8.5% growth. F5 is a Focus List Buy and a Long-Term Buy.

Google's ($695; GOOGL) per-share profits advanced 17% to $6.99 for the June quarter, exceeding the consensus by $0.29. Google had last topped the consensus profit estimate in the September 2013 quarter. Revenue increased 11% to $17.73 billion as higher online-advertising volumes more than offset a decline in prices. Cash from operations rose 24% to $6.99 billion, marking the ninth straight quarter of double-digit growth. Free cash flow jumped 50% to $4.47 billion, pushing total net cash to $64.55 billion, or $94 per share. Ruth Porat, Google's new CFO, promised the company will become more disciplined on expenses and hinted at eventually launching a dividend or stock buybacks. Google shares surged to an all-time high on the results and remain a Buy and a Long-Term Buy.

Stick with Ameriprise

Ameriprise Financial ($127; AMP) grew per-share profits from operations 15% to $2.38 excluding special items in the June quarter, topping the consensus by $0.10. Net revenue increased 2% to $3.13 billion, driven by 6% growth from the advice and wealth-management unit. Total assets under management and administration held roughly flat at $811 million, as unfavorable effects of foreign exchange offset client inflows and market gains. Ameriprise is a Buy and a Long-Term Buy.

Auto stocks skid out

Shares of Lear ($99; LEA) and Magna International ($54; MGA) slumped after an analyst downgraded the entire U.S. auto industry because of broad weakness in China, the world's biggest car market. Earlier this month, the China Association of Automobile Manufacturers cut its 2015 forecast for sales growth to 3% from 7%. Separately, Audi said it will review its 2015 sales target for China in yet another signal that the downturn in car demand may be worse than anticipated.

Audi parent Volkswagen ($43; VLKAY) represents 11% of Magna's revenue and is a top-five seating customer for Lear, though it accounts for less than 10% of Lear's total revenue. China generated 12% of Lear's 2014 sales and has helped drive growth in the past two years. Magna relies on China for less than 5% of its sales. The consensus June-quarter profit estimates for both Lear and Magna have slipped in recent days, but a lot of pessimism already appears baked into their shares. Both stocks score above 85 for Value and trade more than 25% below the median for S&P 1500 auto-parts stocks based on their trailing P/E and price/sales ratios.

In other news, Magna agreed to acquire Getrag, a privately owned German auto-parts maker, for $1.9 billion. The world's ninth-largest transmission producer by volume, Getrag generated consolidated sales of $1.8 billion last year. Its customers include Ford ($14; F), BMW, Daimler, and two Chinese automakers. Getrag draws on China for about 10% of its business and expects that share to reach 30% by 2019. Both Lear and Magna are rated Focus List Buy and Long-Term Buy. Ford is rated B (average).

Lam should buck industry weakness

Lam Research ($76; LRCX) shares fell on disappointing news from two of its customers. Intel ($29; INTC) lowered its 2015 capital-spending target for the second time this year. One day later, Taiwan Semiconductor Manufacturing ($22; TSM) reaffirmed its capital budget but added, "there may be some adjustments" later this year. Taiwan Semiconductor said its 2015 outlook "has continued to deteriorate," largely due to weak demand in emerging markets. Lam does not count Intel among its top three customers, though Taiwan Semiconductor generates more than 10% of its revenue.

Despite the recent sell-off, Lam's profit estimates have held up over the last month for the June quarter (projected to rise 18%) and have risen slightly for the September quarter (44%). In May, Lam reiterated that spending on wafer-fabrication equipment should rise 6% in calendar 2015. Lam seems capable of gaining market share due to its presence in 3D NAND, a type of flash memory that is becoming increasingly popular. Scheduled to post June-quarter results on July 29, Lam is a Focus List Buy and a Long-Term Buy.

Fed ups bank capital targets

The U.S. Federal Reserve finalized new rules requiring the eight largest U.S. banks to increase their capital backstops to protect against potential losses. Each bank's capital reserve will depend on internal complexity, size, and correlation to peers. The reserves range as low as 1.0% of assets under management, in the case of Bank of New York Mellon ($45; BK), to as high as 4.5% for J.P. Morgan Chase ($70; JPM). Wells Fargo's ($59; WFC) new reserve is 2.0%.  Of all the banks, only J.P. Morgan has a capital shortfall based on the new reserve levels, to the tune of $12.5 billion. As a result, the bank must either increase its capital reserves or reduce its size. The rules will not go into full effect until 2019, giving J.P. Morgan time to make adjustments. J.P. Morgan is a Buy and a Long-Term Buy. Wells Fargo is a Long-Term Buy. Bank of New York Mellon is rated A (above average).

Corporate roundup

Gilead Sciences ($117; GILD) has begun to limit enrollment in its patient-assistance program for hepatitis C drugs. The move comes as insurers have restricted patient access to these drugs, despite Gilead offering an average discount of 46%. Gilead is a Focus List Buy and a Long-Term Buy.

Jones Lang LaSalle ($174; JLL) agreed to acquire Shelter Bay Retail Group, a retail-property manager based just north of San Francisco. With 74 open-air shopping centers covering a total of 6.5 million square feet, Shelter Bay will increase Jones Lang's U.S. portfolio of third-party retail-management property by 8% to 83.5 million square feet. Jones Lang LaSalle is a Focus List Buy and a Long-Term Buy.

Corning ($19; GLW) approved a $2 billion stock-buyback plan set to expire at the end of 2016, enough to repurchase roughly 8% of existing shares at current prices. Corning, earning a Value rank of 89, is a Long-Term Buy.

Rank Changes

United Rentals ($78; URI) is being dropped from the Focus List, Buy List, Long-Term Buy List, and from coverage.

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