Portfolio Review: July 24, 2017


ICON joins Buy List, CommScope sold

ICON ($100; ICLR), a contract-research organization (CRO) based in Ireland, joins our Buy and Long-Term Buy lists. Drugmakers hire ICON to conduct clinical research and help develop new drugs. The environment for this business remains favorable, as the total number of drugs under development has grown 8% to 12% in each of the past four years.

ICON's biggest customer, Pfizer ($34; PFE), plans to end a major program with ICON later this year. But ICON's $4.22 billion backlog stands at 2.5 times annual sales and continues to reflect strong demand from biotech companies and smaller drugmakers. ICON's exposure to Pfizer will drop to roughly 15% of sales from 30% last year.

In the March quarter, both cash from operations and free cash flow more than doubled as operating profit margins expanded on 8% revenue growth. Analyst estimates are rising, with the consensus projecting 14% profit growth in the June quarter and 10% growth for the year. The shares have surged 33% in 2017. At 20 times trailing earnings, they trade below their five-year average of 24 and the median of 26 for life-sciences stocks in the S&P 1500 Index. One of our smallest recommended stocks, ICON has a market value of just $5.34 billion. The stock earns a Quadrix Overall score of 96. Pfizer is rated B (average).

We are dropping CommScope ($35; COMM) from the Buy and Long-Term Buy lists. Last week CommScope, a company that makes networking-infrastructure gear, agreed to acquire Cable Exchange, a supplier of fiber-optic and copper cables. But in announcing the deal, CommScope CEO Eddie Edwards noted a challenging business environment, adding concerns that the company could slash its 2017 guidance for the second time in as many quarters.

CommScope's shares have failed to recover from a mixed March-quarter report and are down 6% since we first recommended the stock in December. The Quadrix Overall score has fallen to 71, reflecting slowing operating momentum, deteriorating profit estimates, and disappointing share-price action — all concerning signs ahead of the company's quarterly report on Aug. 3, especially after management's latest comments. CommScope is being dropped from the Monitored List and should be sold.

Technology update

A French court dismissed a lawsuit against Alphabet ($993; GOOGL) that could have forced the company to pay $1.3 billion in back taxes. The lawsuit, brought by France's government, accused Alphabet of improperly lowering its tax bill by routing online sales to Ireland. France has vowed to appeal the ruling. Separately, Gregory McCray, head of Alphabet's high-speed internet business Google Fiber, resigned after just five months on the job. Alphabet is a Focus List Buy and a Long-Term Buy.     

Production of a version of Apple's ($151; AAPL) upcoming iPhone could be postponed until November or December, reported DigiTimes. Apple is expected to release three iPhone models, including one featuring an organic light-emitting diodes (OLED) screen at least partly responsible for the unusually long delay. Full production of the two other models is scheduled to start in August, a couple months later than prior iPhone releases. Apple is a Buy and a Long-Term Buy.

Hoping to jumpstart demand for its virtual-reality headsets, Facebook ($164; FB) plans to introduce a new model in 2018, offering wireless connectivity and priced at $200. Facebook has temporarily lowered the price of its current virtual-reality goggles, Oculus Rift, by about $200 to $399. Facebook sold an estimated 100,000 headsets in the March quarter, according to industry researcher IDC, well behind models made by rivals Samsung, Sony, and HTC. Facebook is a Buy and a Long-Term Buy.

Corporate roundup

FedEx ($213; FDX) warned investors that a June cyberattack against its TNT Express business would hurt results for fiscal 2018 ending May. The attack had a "material" effect on revenue for the unit, which operates in overseas markets. For now, FedEx's full-year profit estimates are holding firm, with the consensus projecting earnings of $3.20 per share, up 11%. TNT continues to suffer widespread delays, and FedEx declined to estimate when its services would be fully restored. FedEx is a Long-Term Buy.

Amgen ($179; AMGN) received a letter from the Food and Drug Administration asking the drugmaker to resubmit additional efficacy and safety data for an experimental osteoporosis drug. Analysts already had low expectations for the medicine, likely to have a small addressable market if it ultimately gets approved. Amgen is a Buy and a Long-Term Buy. 

Disney ($107; DIS) unveiled plans to build Star Wars-themed lands in Anaheim and Orlando. The Orlando resort will also feature an immersive Star Wars hotel and a new attraction based on the Pixar movie Ratatouille. These moves reflect Disney's commitment to invest heavily in its theme parks tied to popular movies, which give customers an experience not easily replicated by rivals or new technology.

Meanwhile, the company will begin negotiating a series of new contracts with pay-TV operators this fall, testing Disney's ability to recover higher programming costs at ESPN amid falling subscriber counts. In other news, Verizon Communications ($43; VZ) CEO Lowell McAdam dismissed a media report that his company might acquire Disney. Disney is a Long-Term Buy. Verizon is rated B (average).

Bank profits surprise but loan growth slows

J.P. Morgan Chase ($91; JPM) said June-quarter earnings per share grew 8% to $1.71 excluding an $0.11 gain from a legal settlement, topping the consensus of $1.58. Revenue advanced 5% to $26.41 billion, also ahead of expectations. However, the bank trimmed its 2017 guidance for net interest income, citing slower loan growth and lower long-term interest rates last quarter. Net-interest income measures the spread between what banks earn on loans versus what they pay for deposits.

Amid rising interest rates, J.P. Morgan said loan growth slowed to 4% last quarter, down from 6% in the March quarter and 7% in 2016. Yet that growth was broad, with the bank reporting gains in mortgages, business loans, credit cards, and auto loans. As expected, trading revenue was weak, down 14%.

A similar story unfolded for other large U.S. banks in the June quarter. Bank of America ($24; BAC), Citigroup ($67; C), PNC Financial Services ($126; PNC), and Wells Fargo ($55; WFC) surpassed consensus profit estimates but reinforced concerns about decelerating loan activity. J.P. Morgan is a Buy and a Long-Term Buy. Bank of America and PNC are rated A (above average). Citigroup and Wells Fargo are rated B (average).

Rank Changes

ICON ($100; ICLR) joins the Buy List and Long-Term Buy List. CommScope ($35; COMM) is being dropped from the Buy and Long-Term Buy Lists and from coverage.

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