Portfolio Review: August 29, 2016


Foot Locker regains its stride

Foot Locker ($68; FL) said per-share profits rose 12% to $0.94 in the July quarter, surpassing the consensus estimate of $0.90. Revenue climbed 5% to $1.78 billion and same-store sales rose 4.7%, both ahead of analyst expectations. Management noted broad growth for basketball, running, and casual footwear, helped by higher store traffic. Gross profit margin rose, as a decline in markdowns boosted average selling prices.

Management reaffirmed its full-year guidance, which calls for per-share profits to rise by double-digits. Foot Locker's April quarter was somewhat disappointing, and analysts had feared the company might slash its outlook. The October quarter got off to a strong start, with same-store sales up mid-single-digits, in line with expectations.

Shares surged 11% on the results and guidance, reaching their highest level since February. Despite the rally, the stock remains well off its 52-week high of $77 and trades at a reasonable 15 times trailing earnings, a 10% discount to median P/E for S&P 1500 apparel retailers. Foot Locker is a Buy and a Long-Term Buy.

Retail snapshot

A strong labor market, higher wages, and low fuel prices have boosted discretionary income for many Americans. Total household purchases climbed at an annualized rate of 4% in the June quarter, reported the Commerce Department, marking the strongest growth since the end of 2014. U.S. consumer confidence lingers near its highest point for this year. However, nonstore retailers such as Amazon.com ($757; AMZN) have gobbled up quite a bit of that growth. Sales at nonstore retailers rose 10% in the first seven months of 2016, while among traditional retailers, July-quarter results were a mixed cart.

Target ($72; TGT) said same-store sales slipped 1.1%, the first quarterly decline in more than two years, and warned they may contract further in coming quarters. The retailer experienced softer store traffic and pointed to weakness in its grocery business.

Where Target sees cautious shoppers, rival Wal-Mart Stores ($72; WMT) sees resilience. Wal-Mart grew same-store sales 1.6% on a higher number of transactions, evidence that recent investment in stores has begun to pay off. Although Wal-Mart also dealt with lower food prices, its online growth accelerated, unlike Target's. Wal-Mart raised its full-year guidance and expects at least 1% higher same-store sales for the current quarter.

Rivals Home Depot ($135; HD) and Lowe's ($77; LOW) also experienced diverging fortunes in the July quarter. Home Depot grew same-store sales 4.7% and raised its full-year profit guidance. Lowe's said same-store sales rose just 2%, forcing management to cut its full-year profit outlook. Both retailers reported a higher volume of large transactions, signaling continued interest in home-improvement projects. But Lowe's has a smaller professional business than Home Depot and operates fewer stores in the Western states, where Home Depot enjoyed especially strong growth. Home Depot, Lowe's, and Wal-Mart Stores are rated A (above average). Amazon.com and Target are rated B (average).

Corporate roundup

Despite a strong showing by the U.S. team, Comcast's ($66; CMCSa) NBCUniversal unit didn't win any gold medals for viewing at the Summer 2016 Olympics in Rio de Janeiro, Brazil. In July, executives had projected 15% higher advertising sales from the 2012 London Games, noting that more live events held in the evenings should generate strong ratings. However, NBC's broadcast audience slumped 18% to 25.4 million viewers. NBCUniversal did add 2.1 million more viewers for events streamed online and on its cable networks — not enough to offset the broadcast decline. The company did say earlier this month that it would "make a lot more" money from these Olympics than the $120 million profit it garnered from the 2012 games.

Shifting viewership habits will remain a challenge for Comcast, which paid $12 billion for the right to televise the Olympics through 2032. The next three Olympic Games will be held in Asia, meaning even fewer events will be broadcast live. Still, NBCUniversal succeeded in charging up to 50% more for online ads, due to advertisers' eagerness to reach the younger web audience. Moreover, advertisers have few other opportunities to access such a massive — if smaller than expected — audience, and the Olympics give them that chance for 17 straight nights. Comcast is a Focus List Buy and a Long-Term Buy.

J.P. Morgan Chase ($66; JPM) agreed to receive $645 million in a settlement with the Federal Deposit Insurance Corp. and Deutsche Bank ($14; DB) over the liability of failed securities created by Washington Mutual. During the financial crisis J.P. Morgan agreed to pay $1.9 billion to acquire Washington Mutual's banking operations, which went on to experience unexpectedly high legal costs. J.P. Morgan had originally sought more than $1 billion. J.P. Morgan is a Long-Term Buy.

Cook reaches wooden anniversary as Apple CEO

Tim Cook took the reins as Apple ($108; AAPL) CEO five years ago this month. Under Cook's watch, Apple has launched new product categories (such as the Apple Watch and Apple Pay) and adopted investor-friendly practices (with the introduction of a cash dividend and stock buybacks) on its way to becoming the world's largest company by stock-market value. Apple shares have more than doubled since Jobs' departure, ahead of the 85% gain for the S&P 500 Index.

But none of Apple's recent initiatives has done much to curb its reliance on the iPhone. If anything, the device has become even more vital to Apple, now accounting for 64% of sales, compared to 43% when Jobs retired. Apple sold about 72,000 iPhones in fiscal 2011 ended September; it has surpassed that total in the December quarter alone in each of the past two years.

The iPhone retains its standing as the premium device, taking an estimated 90% slice of profits in the global smartphone market. Yet iPhone sales have slipped in each of the past two quarters, and its global share of the smartphone market fell to 13% in the June quarter, down from nearly 15% in the year-ago quarter.

Expectations for the forthcoming iPhone, expected to be unveiled in September, remain modest. But analysts anticipate a major overhaul in 2017, with the device rumored to feature a curved display and possibly a glass casing to replace the current metal one. Apple is a Buy and a Long-Term Buy.

Pfizer reels in Medivation

Pfizer ($35; PFE) agreed to pay $14 billion in cash to acquireMedivation ($80; MDVN), a maker of cancer drugs and a once-rumored takeover target for Gilead Sciences ($81; GILD). That price tag translates to $81.50 per share, well above Sanofi‘s ($39; SNY) rejected April bid of $52.50 per share. Pfizer says it will continue to hunt for more large deals.

Gilead faces mounting pressure to make a deal to help revive operating momentum; some analysts have even called on the company to split itself up. Last month management said it would curtail stock buybacks in the second half of the year, adding to speculation that it's becoming increasingly aggressive on the acquisitions front. Gilead has expressed interest in using deals to expand its portfolio of cancer drugs, with a focus on companies with promising medications still in development. Gilead is a Long-Term Buy. Pfizer is rated A (above average).

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No changes were made this week in Dow Theory Forecasts.

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