Portfolio Review: August 10, 2015


June-quarter earnings review

CDW ($40; CDW) earned $0.81 per share in the quarter, up 20% and 16% above the consensus. Sales rose nearly 7%, with corporate sales up 6% and public sales up 8%, powered by a 23% jump in sales to government agencies. Hardware sales rose 8%, as double-digit growth in notebooks and mobile devices offset a decline in sales of desktop computers. Software sales rose 5% and services 9%, with security solutions leading the way at more than 30% growth.

The company also announced that it purchased the remaining 65% of Kelway that it didn't already own. The acquisition of the British firm should boost CDW's service and distribution capabilities, not just in the U.K., but globally. CDW projects per-share-earnings growth in the mid-teens for the year, in line with the 16% consensus, and the June-quarter beat suggests the target is conservative. CDW, a Buy and a Long-Term Buy, saw its shares rise on the earnings news.

Community Health Systems ($57; CYH) managed per-share-profit growth of 54% to $1.14 excluding items in the quarter, well above the $0.89 consensus, helped by aggressive cost controls. Operating costs rose less than 0.5% in the quarter, and the company expects an additional $150 million in annual synergies from the 2014 purchase of Health Management Associates and its 71 hospitals. Operating cash flow jumped 26% while sales rose 2.5%, lagging expectations for a 5% gain. Community raised the top end of its per-share-profit guidance, now projecting $3.65 to $4.10 for the year, versus the $4.01 consensus.

The company also announced plans to spin off 38 hospitals and its consulting business into a public company called Quorum Health, a deal expected to finish in the March 2016 quarter. A combination of aggressive profit-margin improvement and continued expansion of Medicaid programs suggest consensus profit-growth targets of 1% for the second half of 2015 and 13% for 2016 may be overly conservative. Community Health is a Buy and a Long-Term Buy.

HCA Holdings ($92; HCA) earned $1.37 per share in the quarter excluding special items, flat with year-earlier results and $0.03 above the consensus, representing the fifth consecutive quarterly profit surprise. Sales rose 7%, helped by equivalent same-facility admissions growth of 4.9% and a 1.2% gain in revenue per equivalent same-facility admission. Inpatient surgeries rose 2% in the quarter and outpatient 1%. Inpatient surgeries have increased in nine straight quarters, outpatient in eight of nine.

While HCA didn't raise its per-share-profit guidance range for the full year ($4.90 to $5.30), it did project earnings near the top of that range. The consensus projects $5.28 per share. For the year, HCA expects same-facility admission growth of 4% to 5%. HCA is a Focus List Buy and a Long-Term Buy.

CVS Health ($111; CVS) posted earnings per share of $1.22, up 8% from the year-earlier quarter and $0.02 above the consensus estimate. Revenue increased 7% to $37.2 billion, in line with estimates. The pharmacy-services segment posted a nearly 12% jump in revenue. Retail same-store sales rose 0.5%, with same-store sales on the pharmacy side up 4.1% but front-end same-store sales fell 7.8%. Excluding the impact of tobacco, front-end sales would have been flat.

The company guided third-quarter profits below the consensus and also narrowed its full-year per-share-earnings guidance to $5.11 to $5.18 from $5.08 to $5.19. The consensus is $5.17.

The stock fell 2.5% on the news. But after a gain of more than 42% over the last year, some profit-taking is not surprising. CVS continues to show operating strength across its businesses. CVS remains a Buy and Long-Term Buy.

Disney's ($111; DIS) earnings per share rose 13% to $1.45, beating the consensus estimate by $0.03. Revenue rose 5% to $13.1 billion, missing the estimate of $13.2 billion. Revenue and operating income grew in four of the five operating segments — media networks, parks and resorts, studio entertainment, and consumer products.

Disney has seen some subscriber attrition in the cable business. This softening, coupled with the impact of a strong dollar, caused the firm to trim operating-income growth guidance for the cable business. Disney stock sold off on the report. While the cable business may weigh on shares in the short term, the firm still has plenty of catalysts for growth. The opening of its Shanghai theme park next spring, along with the launch of its first Star Wars movie in December, should have a positive impact across the company's various operating platforms. Disney is rated Long-Term Buy.

Shire can't stop shopping

Less than six months after its $5.2 billion purchase of NPS Pharmaceuticals and just one day after agreeing to pay $300 million for eye-drug maker Foresight Biotherapeutics, Irish drugmaker Shire ($254; SHPG) offered about $30 billion in stock for Baxalta ($37; BXLT), a spin-off of Baxter International ($42; BAX). Baxalta, which became an independent company only last month, focuses on rare blood disorders, cancers, and immune-system ailments. That business mix makes Baxalta an excellent fit for Shire's orphan-drug business.

The offer consists of 0.1687 Shire shares for each Baxalta share, valuing the smaller company at $42.81 per share, a 29% premium over its value before the news broke. Shire's bid must be considered hostile, as Baxalta has refused to engage in talks, but CEO Flemming Ornskov still hopes for a negotiated deal. Ornskov said the combination would create "the leading global biotech company in rare diseases" with product sales of $20 billion a year by 2020 and annual revenue growth in the double-digits. Shire, itself the target of a failed $50 billion merger last year, is a Focus List Buy and a Long-Term Buy.

Corporate roundup

Concerns about the high price of Gilead Sciences' ($119; GILD) hepatitis C treatments haven't prevented Gilead shares from rising 21% since the end of March. The consensus projects a slowdown from the torrid growth seen in recent quarters, but the flat profits expected in 2016 understate the strength of the hepatitis franchise. According to the Centers for Disease Control and Prevention, 3 million Americans have hepatitis C. Gilead says about half of them have been diagnosed, and only 300,000 have been treated. Tales about the demise of Gilead's growth have been greatly exaggerated. Gilead is a Focus List Buy and a Long-Term Buy.

Comcast ($60; CMCSa), which has long seen itself as a technology titan rather than just a media company, is taking steps to further blur the line between the two businesses. The NBCUniversal unit is in talks to acquire a minority stake in BuzzFeed, an internet media entity that bills itself as "the social news and entertainment company." Comcast is also reportedly trying to boost its roughly 14% stake in Vox Media, a digital-media firm with eight popular websites. A move into internet media makes sense in a broadcasting world facing a decline in ratings among young, internet-savvy viewers. Comcast is a Buy and a Long-Term Buy.

U.S. banks can smell weakness in Europe. Venerable European bellwethers Barclays ($17; BCS) and Deutsche Bank ($34; DB) are pulling in their horns, backing off from business opportunities they can no longer afford to pursue. In contrast, the largest U.S. banks have taken investment-banking share in Europe — J.P. Morgan Chase ($69; JPM), Bank of America ($18; BAC), Goldman Sachs ($206; GS), Citigroup ($59; C), and Morgan Stanley ($39; MS) all control a larger piece of the European market today than they did in 2012. U.S. financials generate more than double the return on equity of their European counterparts. This competitive advantage helps explain the appeal of J.P. Morgan, which as of May controlled 8.3% of the global investment-banking market, ranking it No. 1 in the world. In other news, according to a study by the Office of Financial Research, J.P. Morgan is the bank most important to the world's financial stability. J.P. Morgan is a Buy and a Long-Term Buy. Goldman and Morgan Stanley are rated A (above average). Bank of America and Citigroup are rated B (average).

Remember how we've said that Apple's ($115; AAPL) success hinges on developing new products? The company will reportedly launch its latest Apple TV set-top box in September, with an improved remote control, slimmer body, and Siri voice control. Apple last updated its set-top box in 2012, and the new product will be available for the Christmas buying season. However, Apple's long-awaited internet-TV service probably won't launch until next year, according to published reports. Apple is a Focus List Buy and a Long-Term Buy.

Rank Changes

No changes were made this week in Dow Theory Forecasts.

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