Portfolio Review


J&J off the Buy List

Johnson & Johnson’s ($61; JNJ) September quarter profits rose 3% to $1.20 per share, topping the consensus estimate by $0.07. But revenue fell 5% to $15.08 billion, below market expectations. J&J raised 2009 guidance for per-share profits, reflecting the September quarter’s outperformance and December-quarter results in line with expectations. J&J shares fell on the news, at least in part because of the revenue shortfall and lack of 2010 guidance.

J&J is doing a good job of managing its business, and 2009 should continue the company’s streak of at least 19 years of higher earnings per share excluding special items. But the stock seems likely to trend sideways until investors gain confidence that expectations of 7.5% earnings growth for 2010 are realistic. At 81, the stock’s Quadrix® Overall score is lower than that of any of the stocks on our Buy List. While J&J shares are cheap relative to long-term norms and should provide solid returns over the next 24 to 36 months, they no longer rank among our top 12-month picks. J&J is being dropped from the Buy List but retained as a Long-Term Buy.

September-quarter earnings

In the early stages of the earnings season, the S&P 500 Index is expected to report a profit decline of nearly 25% for the September quarter. In the first two quarters this year, companies have countered disappointing sales by slashing costs to hit profit goals. Against a backdrop of modest profit expectations, revenue performance and profit guidance for 2010 are likely to drive stock prices.

While the bulk of profit announcements have yet to hit the market, stocks have rallied on early earnings reports, headlined by Intel ($20; INTC) reporting per-share profits of $0.33, down 6% but $0.05 better than Wall Street expectations. Sales, dipping 8% to $9.39 billion, also topped analyst forecasts. Intel anticipates December-quarter sales will reach at least $9.7 billion compared to the consensus of $9.51 billion. Abbott Laboratories ($50; ABT) and J.P. Morgan Chase ($46; JPM) both beat profit estimates on higher revenue, sending their shares up. Although PepsiCo ($61; PEP) topped the consensus profit estimate, revenue disappointed the market and the company made pessimistic comments about the 2010 business climate, pushing the stock lower. Intel, Abbott, J.P. Morgan, and PepsiCo are rated Neutral.

Health-care roundup

Baxter International ($58; BAX) introduced Hylenex, an enzyme that makes the skin more permeable. The drug is designed to rehydrate children without the need for an intravenous drip. Baxter anticipates the drug will eventually reach $200 million in annual sales. Baxter is a Long-Term Buy . . . U.S. regulators questioned the effectiveness of an experimental multiple sclerosis pill produced by Biogen Idec’s ($49; BIIB) partner Acorda Therapeutics ($17; ACOR). Designed to improve walking ability in MS patients, Amaya’s active ingredient also increases risk of seizure. While Amaya met the goals of its clinical trial, the Food and Drug Association staff called the trial results inconsistent. An FDA panel began reviewing Amaya Oct. 14. Biogen Idec is a Focus List Buy and a Long-Term Buy . . . Pfizer ($17; PFE) cited safety concerns as its reason for ending enrollment in the late-stage trial of a lung-cancer drug that one analyst projected would reach $1.2 billion in sales in 2015. In other news, U.S. regulators approved Pfizer’s planned $66 billion purchase of Wyeth, and Pfizer expected to close the deal by Oct. 16. Pfizer is rated Neutral.

Energy update

Chevron ($74; CVX) said it expects September-quarter earnings will top June-quarter levels because of higher oil prices and $400 million in gains from asset sales and tax items. Total production in the quarter is on pace to rise 6% from the June quarter and 15% from year-ago levels, helped by new projects that have come online in recent months. Chevron, trading at 10 times projected 2010 earnings, is a Long-Term Buy.

Transocean ($88; RIG) reduced costs on idle rigs by stacking four more shallow-water jack-ups and two midwater floaters. Of Transocean’s 65 jack-ups, 22 are now stacked, or running under a reduced crew in preparation for a period of inactivity. Transocean is a Focus List Buy and a Long-Term Buy.

State-run Ghana National Petroleum (GNCP) is challenging Exxon Mobil’s ($70; XOM) deal to purchase a $4 billion stake in the Jubilee oil field off the coast of Ghana. Exxon has entered into a preliminary agreement with Kosmos Energy, the Dallas company that discovered Jubilee, but GNCP says any deal requires its approval. GNCP and China National Offshore Oil are considering a competing bid, but GNCP may also choose to partner with an American oil company, and Exxon appears to be in the mix. Exxon is a Long-Term Buy.

Tech and telecom report

The U.S. Justice Department opened a preliminary investigation to review allegations that IBM ($127; IBM) abused its market dominance in mainframe computers by obstructing competition and refusing to license its mainframe software to certain rivals. IBM is a Focus List Buy and a Long-Term Buy . . . Comcast’s ($15; CMCSA) bid to acquire a 51% stake in NBC Universal would vault the cable company toward its “top” goal, expanding sports coverage. Sports programming accounts for an estimated 15% of the $68.4 billion spent on U.S. broadcast television ads and 40% of revenue generated from basic-cable subscription fees. Comcast is a Focus List Buy and a Long-Term Buy . . . Continuing a recent buying binge, Cisco Systems ($24; CSCO) agreed to pay $2.9 billion for Starent Networks ($34; STAR), a maker of wireless-networking gear. Cisco Systems is rated Neutral.

Corporate digest

TJX ($38; TJX) said same-store sales rose 7% in September, topping the 4.1% consensus. Total sales jumped 8%. TJX also offered optimistic sales and profit targets. TJX is a Long-Term Buy.

BMC Software ($38; BMC) will leave the New York Stock Exchange for the Nasdaq Oct. 26, keeping its existing ticker symbol. BMC is a Focus List Buy and a Long-Term Buy.

Bank of America ($18; BAC) said it will turn over internal documents regarding the controversial Merrill Lynch bonuses the bank has been accused of hiding. Bank of America is rated Neutral.

Johnson & Johnson ($61; JNJ) is being dropped from the Buy List but remains a Long-Term Buy. For the remaining 25 stocks on our Buy List, our target weight is being increased to 3.0%, with the position in the Vanguard Short-Term Investment-Grade ($10.57; VFSTX) fund falling to 25%. The target weighting of each Long-Term Buy is rising to 2.3%, reflecting a 24.1% fund position.

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