Cabot Stock of the Week Issue: February 13, 2023

Stocks were due for a down week, so last week’s modest pullback came as no surprise. What happens after the January Consumer Price Index (CPI) number gets reported tomorrow morning will determine whether stocks fall any further. Economists are expecting headline inflation to fall to 6.2%, after dipping to 6.5% in December. If the number comes in higher than that, it could send stocks tumbling again. Regardless, we’ll likely know a lot more about the market’s direction this time tomorrow.

As of now, that direction is up. The S&P 500 is up 7.5% year to date, while the Nasdaq has gained back a whopping 13.5% after falling much more precipitously in 2022. So, it’s a good time to buy. With that in mind, today we’re adding a company that’s a household name to most, but one that was impacted more than most by the pandemic. It’s a growth stock that seems to be getting its act together thanks to returning revenues after a rough couple years. Mike Cintolo just recommended the stock to his Cabot Growth Investor readers.

Here are Mike’s latest thoughts on it.

Uber Technologies, Inc. (UBER)

Uber needs no introduction, being the ride-sharing (and, increasingly, delivery service) king for several years. However, as we frequently write, the stock is not the company, and that’s especially true with this company: When Uber came public back in 2019, it was overhyped and overvalued, leading to the typical post-IPO droop—and then things got worse with the virus, which shut down travel and severely crimped the Rides portion of the business.

The stock looked ready for primetime when the vaccine rally in late 2020 got underway, but while the buyers were active initially, they moved on as, despite a recovery in Rides and huge growth in Delivery, the company was bleeding ever more red ink. Combed with the bear market, the stock fell more than two-thirds from early 2021 to July 2022.

But now we’re thinking Uber is ready to run because just about every factor is lined up in the right direction. First, the pandemic’s effects on both sides of its business seem to have played out—in Q4, the firm’s Rides segment saw monthly active users finally eclipse the pre-pandemic peak, while the boom-then-slowdown on the Delivery segment seems in the past. And that means the long-term growth story of both are back on track; indeed, in Q4, “only” 3.7% of those 18-and-over used Uber in the U.S., a figure that has plenty of room to rise.

While hypergrowth isn’t in store, business is growing nicely—the December quarter saw users up 11% from a year ago, total trips (Rides and Delivery) up 19% while currency-neutral gross bookings were up 26%. Management also guided for Q1 to show low 20% growth in bookings, which is solid and also likely conservative, especially as personal travel trends remain great and business travel is picking up, too.

However, by far the biggest change is the bottom line: Starting a few quarters ago, management put aside the growth-at-all-costs attitude and started running things to boost cash flow—and that’s revealed a firm with a stunning amount of earnings power.

In Q4 of 2021, Uber’s total EBITDA (rough measure of cash flow) came in at $86 million; the next quarter was $168 million, followed by $364 million, $516 million and (in Q4 2022) $665 million, with the top brass expecting further gains from here. Meanwhile, free cash flow totaled 58 cents per share during the past three quarters and the top brass said “we expect our cash flow to ramp over the next few quarters,” with potential monetization of many equity stakes in emerging companies it owns bringing more green.

Net-net, you have a firm that came public nearly four years ago with a giant valuation, tons of red ink and a Rides-centric business. Today, Uber has two businesses that are about the same size (bookings-wise) and are on solid growth paths, while cash flow is big and growing. It’s always been a blue-chip-type outfit, and now it’s being managed like one.

Moreover, the stock has already gone through the wringer and is now trying to emerge into a sustained uptrend. UBER bottomed near the end of June and went bananas after earnings in early August; that rally ran into trouble with the market (and near the 200-day line), but shares went on to build a six-month bottoming base, and the recent action has been outstanding, with UBER rallying seven weeks in a row (a sign of persistent institutional buying) and taking out that prior August high.

Last Friday did see a dip, but that was mainly due to some market wobbles and Lyft’s (its closest peer) implosion (down 36% after earnings). To us, it’s clear Uber is winning the battle in both the real world and when it comes to investor perception. We think UBER is buyable here.

Current Recommendations

Changes Since Last Week: None

No changes again this week, which means our Stock of the Week portfolio is now at full capacity, with 20 stocks. That’s a first since I took over from Tim Lutts last July, and is undoubtedly a reflection of an improving market. But it means that starting next week, we may have to make some hard choices. Right now, all our stocks are acting at least reasonably well. So, unless any of our positions crater this week, we’ll likely need to sell a perfectly good stock in next week’s issue to make room for a new idea.

One brief note about next week: Monday is a market holiday (Presidents’ Day), and thus a Cabot holiday as well. So, you will receive next week’s issue on Tuesday, February 21.

OK, on to our portfolio. Here’s what’s happening with all our stocks.

Updates

Arcos Dorados (ARCO), originally recommended by Bruce Kaser in Cabot Undervalued Stocks Advisor, was down about 4% last week, though the stock bounced off its 50-day moving average. There was no news. The company reported full-year and fourth-quarter 2022 same-store sales results earlier this month. The results for Latin America’s largest McDonald’s franchisee were impressive: 35.7% comparative-store sales growth in Q4, 39.4% for the full year. Full Q4 earnings aren’t due out until mid-March. The overall trend remains up, despite last week’s pullback. BUY

BioMarin Pharmaceutical Inc. (BMRN), originally recommended by Mike Cintolo in Cabot Top Ten Trader, was off about 2.5% in the last week. There was no news, other than that the company will announce fourth-quarter earnings in two weeks, on February 27. The trend remains very much up for this potentially emerging biotech leader, with shares up more than 33% in the last three months. BUY

Centrus Energy (LEU), originally recommended by Carl Delfeld in Cabot Explorer, was back up to 42, and seems to have settled into a 39-to-42 range this month. In his latest update, Carl wrote, “This stock is attractive due to a higher profile for the nuclear sector and trades at relatively low multiples to future earnings. No other commodity has the energy density of nuclear fuel, with one uranium fuel pellet equal to almost 150 gallons of crude oil.” BUY

Chewy (CHWY), originally recommended by Tyler Laundon in his Cabot Early Opportunities advisory, pulled back in normal fashion after gapping up to 49 the previous week on the strength of an analyst upgrade. The good news is that 45, which until this month acted as resistance, now appears to be the new floor. The trend is still decidedly up, with shares of this online pet supplies retailer up 25% year to date. BUY

Cisco Systems (CSCO), originally recommended by Bruce Kaser in the Growth & Income Portfolio of his Cabot Undervalued Stocks Advisor, remains in the 47-49 range it’s been in for the past three months. Perhaps this Wednesday’s (February 15) earnings report – for its fiscal 2023 second quarter – will finally move the needle. Analysts are anticipating 5.6% revenue growth and 1.2% EPS growth. The company has topped earnings estimates by 1-3% in each of the last four quarters. BUY

Citigroup (C), originally recommended by Bruce Kaser in Cabot Undervalued Stocks Advisor, didn’t budge this past week. But the stock is up 12% year to date, spurred in part by mixed Q4 earnings. In his latest update, Bruce wrote, “On January 13, Citigroup reported bland fourth-quarter results. Earnings (excluding the effect of divestitures) were $1.10/share, which fell 45% from a year ago and were about 8% below the $1.19 consensus estimate. Revenues (excluding the effect of divestitures) rose 5% from a year ago and were about 1% above estimates.

“Rising interest rates helped boost net interest income, but this was more than offset by higher credit costs and elevated transformation and other expenses. Citi’s already-healthy capital strength increased further. Overall, nearly two years into CEO Jane Fraser’s term, the bank is making progress with its turnaround. But, given the paltry 5.5% return on tangible equity compared to its medium-term goal of 11-12%, the bank has a long way to go.

“In the quarter, net interest income rose 23% from a year ago, as the net interest margin expanded to 2.39% from 1.98% a year ago. Partly offsetting the higher margin, loans balances fell 2%. However, excluding to-be-divested legacy businesses, loans grew 2%. Fee income fell 27% (ex-divestitures): better trading profits were more than offset by weaker asset management and investment banking fees.

“Operating expenses rose 5% (ex-divestitures), which we find disappointing as we would like these to remain flat given all of the efficiency improvements underway. However, we recognize that with most turnarounds, expenses increase as the company spends on new staffing, software and other upgrades before it removes older costs, creating an expensive but temporary redundancy. This appears to be where Citi is today.

“Credit costs surged to $1.8 billion compared to a negative $465 million a year ago. We view this sharp reversal as a return to more normal credit costs. Loan losses increased 36% but impressively were still below 0.2% of average loans. Non-accruing loans also remain low. The bank increased its reserves by a reasonable $593 million, compared to the unusual post-pandemic $1.2 billion reduction a year ago. Total reserves are now 2.6% of total loans, a size we consider healthy. In the credit card segment, reserves are 7.6% of these loans, also robust even as the economy slows. For perspective, the credit card portfolio is about 23% of total loans – indicating that this bucket is a sizeable driver of Citi’s growth and profits.

“Citi’s capital of 13.0% (using the CET1 ratio) is sturdy, particularly when combined with its 2.6% credit reserves. However, despite this strength, the bank has no immediate plans to repurchase shares given the macro and market exit uncertainties.

“For 2023, the bank expects revenues to increase 5%, coming almost entirely from higher fee income as it anticipates minimal improvement in net interest income. Expenses will increase 7%, with credit costs continuing to normalize (increase). Overall, 2023 will likely be an uninspiring year for profit improvement at Citigroup. We see stronger results in 2024, as the benefits of the turnaround become clearer. Exits of the legacy businesses in Mexico, Asia, Russia and Poland are underway and likely to be mostly done by year’s end or so.

“This past week, the yield spread between the 90-day T-bill and the 10-year Treasury bond, which approximates the drivers behind Citi’s net interest margin, narrowed to negative 105 basis points (100 basis points in one percentage point). Our interpretation is that investors are assuming that the Fed rate hikes and other macro drivers will drag inflation down to sub-5% or less this year. Given that the inflation metrics are flattening out or declining (inflation over the past four or five months has been tame at sub-3%), this assumption seems reasonable.

“There was no significant company-specific news in the past week.

“Citi shares trade at 61% of tangible book value and 8.3x estimated 2023 earnings. The remarkably low valuations assume an unrealistically dim future for Citi.

“Citi shares … have 70% upside to our 85 price target. Citigroup investors enjoy a 4.1% dividend yield.

“When comparing Citi shares with a U.S. 10-year Treasury bond, Citi offers a higher yield (4.10% vs. 3.62%) and considerably more upside potential (70% according to our work vs. 0% for the Treasury bond). Clearly, the Citi share price and dividend payout carry considerably more risk than the Treasury bond, but at the current valuation, Citi shares would seem to have a remarkably better risk/return trade-off.” BUY

Comcast Corporation (CMCSA), originally recommended by Bruce Kaser in the Growth & Income Portfolio of his Cabot Undervalued Stocks Advisor, remains in the 38-39 range in the wake of decent enough fourth-quarter earnings. Bruce elaborated on those earnings in his latest update: “On January 26, Comcast reported a reasonable quarter, with relatively stable revenue and profits, despite sharply larger losses at its Peacock streaming unit. The company raised its dividend by 7.4% and continued to repurchase shares ($3.5 billion in the quarter). Free cash flow fell 65% due to lower profits, higher capital spending, higher interest expenses and higher cash taxes. The balance sheet maintained a steady leverage ratio. We expect that 2023 will look about like 2022, but with more losses at Peacock as the company continues its rollout. We anticipate improvement in 2024 as ad spending recovers and as capital spending steps down. All-in, the Comcast story remains on track as an undervalued grind-it-out producer of free cash flow.

“Revenues rose less than 1% and were fractionally above estimates. Adjusted earnings of $0.82/share rose 7% from a year ago and were 5% above the consensus estimate of $0.78/share. Adjusted EBITDA fell 5% and was about 4% below estimates. Excluding severance costs, EBITDA was higher than a year ago.

“The core cable business remains flat-to-positive. Revenue growth was 1% while adjusted EBITDA rose about 2%. Revenues and profits are being maintained by incrementally higher pricing as the customer count is flat. The service mix is shifting away from traditional services (video, voice) to broadband and wireless – the effect on profits appears to be positive although incrementally higher capital spending is incrementally eroding the economics. Free cash flow was down 2%.

“NBC Universal revenues rose 6% but profits slid by 36% due to higher Peacock losses along with higher FIFA World Cup programming costs, weaker revenues from its linear TV operations and higher severance costs. Capital spending for the segment doubled in 2022 vs 2021 due to the construction of the Epic Universe theme park in Orlando set to open in 2025. The Peacock subscriber count increased to over 20 million (more than double a year ago and up over 33% from last quarter). However, losses in Peacock were higher ($978 million loss vs $559 million loss a year ago). The full-year Peacock loss was $(2.5 billion) and a $(3 billion) loss was guided for 2023. In our view, Comcast needs to rein in these losses significantly starting no later than year-end 2023 – if this business isn’t improving by then it may be a chronic money-loser.

“Sky revenues fell 1% due to weaker advertising and other pressures. EBITDA fell 15% on higher severance and other costs. The overall profit trend in this segment is positive but lumpy from quarter to quarter. Full-year profits were up 7%.

“Comcast shares … have 8% upside to our 42 price target. The shares have limited upside, but the earnings report was reasonable enough to keep the stock a bit longer. Last week, we moved the shares to Hold. The shares offer an attractive 3% dividend yield.” We’ll keep it at Buy. BUY

Corteva (CTVA), originally recommended by Carl Delfeld in his Cabot Explorer advisory, has been up and down of late, hitting as high as 64 and as low as 60 this month. Trading in the middle of that range, it’s worth hanging on to for now. In his latest update, Carl wrote, “Corteva (CTVA) shares were steady this week as this seed provider and crop chemical company sees a positive outlook for 2023. There is a clear need to grow crops more efficiently so farmers need to apply agricultural chemicals to fertilizers to improve crop yield.” HOLD

Kinross Gold (KGC), originally recommended by Clif Droke in his Sector Xpress Gold & Metals Advisor, kept falling ahead of earnings this Wednesday, February 15. The retreat in gold prices hasn’t helped, as the yellow metal has lost about $75 in value in the last three weeks. Hopefully, earnings can get KGC back on the right track: analysts are estimating 19.5% revenue growth, though a slight downturn in earnings per share (from 8 cents a year ago to 7 cents this year). We’ll keep the stock at Buy for now, as shares are still up 16% in the last six months. But if you haven’t already accumulated shares, you should probably hold off on doing so until after Wednesday’s Q4 report. BUY

Las Vegas Sands (LVS), originally recommended by Mike Cintolo in Cabot Top Ten Trader, has been holding firm in the 57-59 range since gapping up in late January. In his latest update, Mike wrote, “If you dig into Sands’ balance sheet and income statement you can get lost in the weeds, but the story is relatively simple: All of the firm’s casino resorts are now in either China or Singapore (it sold off its Vegas operations), and business there has been hammered, with Q4 travel in Macau, China (where two-thirds of the firm’s pre-pandemic cash flow came from) down more than 80% from the comparable 2019 quarter (pre-virus), while Singapore visitation is down in the 30% range. Despite that, Sands was actually EBITDA positive in Q3 and Q4, and it doesn’t take a Ph. D in math to figure out that, with all the fat cut, cash flow should begin a tremendous long-term upturn now that China has effectively given up on its Covid-zero stance. Even after a so-so Q4 report as a whole (partly due to bad luck), estimates have gone up and the stock continues to act well. (Peer Wynn Resorts, which also has a huge Macau business, had similar positive tidings about the future in its Q4 report.) LVS was a bit extended when we started a position last week, but we weren’t expecting a major retreat—and indeed, shares have basically marked time. We’ll stand pat with our half-sized stake here; if you don’t own any, we’re OK starting a position here or dips of a couple of points.” BUY

Medical Properties Trust (MPW), originally recommended by Tom Hutchinson in Cabot Dividend Investor, pulled back slightly last week. The company reports earnings on February 23. In his latest update, Tom wrote, “This high-paying and recession-resistant hospital REIT has been very bouncy lately. It broke out to a higher level and then pulled back somewhat. But it is still in an uptrend since the October low and probably has already bottomed out. This stock got ridiculously cheap and still had strong earnings and a safe dividend. It should be in for much better returns this year and its properties are very defensive in a recession.” BUY

Novo Nordisk (NVO), originally recommended by Carl Delfeld in his Cabot Explorer advisory, just gapped up to new all-time highs! After a mixed reaction following earnings the previous week, NVO broke above 141 resistance this morning to trade as high as 143; we’ll see if it can close above the previous high. The only real catalyst was the company’s CEO apologizing for its failure to disclose its sponsorship of obesity and weight management training courses for healthcare professionals that also promoted its weight loss drug, Saxenda, from February 2020 to December 2021. The company didn’t do anything illegal (more frowned upon), and apologies for minor scandals don’t typically move the needle for investors. So it’s more likely today’s share price surge stems from the company’s bottom-line earnings per share beat (83 cents versus 73 cents expected) combined with an up day for the market. Regardless, we’ll take it. And NVO remains a strong buy. BUY

Polestar (PSNY), originally recommended by Carl Delfeld in his Cabot Explorer advisory, had a rough first week in our portfolio, down about 7%. There was no news, so the story with this electric vehicle maker hasn’t changed – the stock was most likely dragged down by the market last week. No need to panic after one down week. BUY

Realty Income (O), originally recommended by Tom Hutchinson in Cabot Dividend Investor, has dipped very modestly this month, from 68 to 67. But it’s still up more than 5% year to date. In his latest update, Tom wrote, “After selling off this past fall, the legendary income REIT has resumed its slow uptrend. O recently broke out to the highest price level since the summer. I also like the way it is positioned ahead of a possible recession. Also, it’s a retail REIT, and its portfolio consists of mostly consumer staple properties like supermarkets and drug stores and should have no problem generating consistent revenue in an economic downturn. Plus, it pays dividends every single month.” BUY

TELUS International (TIXT), originally recommended by Tyler Laundon in Cabot Early Opportunities, is having a rough February on the heels of an excellent January. After peaking at 24 shares have pulled back to 21 in the last two weeks – above the 50-day moving average but below its 200-day. Extending the losses were last Thursday’s earnings, which saw a 5% Q4 revenue increase, though earnings per share were flat. And yet, for full-year 2022, revenues improved 12% while EPS was up 134%, so the business is healthy. We’ll keep it at Buy for now, though a dip below the 50-day line could prompt a change. Telus is a digital customer service company that serves more than 600 brands around the world. It designs, builds and manages next-gen engagement, HR, AI and content moderation tools that clients use to better serve their customers. BUY

Tesla (TSLA), originally recommended by Mike Cintolo in Cabot Top Ten Trader, finally had a quiet week and is roughly flat since we last wrote. There was no real big news (Elon Musk was at the Super Bowl). The stock continues to be getting a bump from a strong fourth quarter as the electric vehicle maker reported record revenue of $21.3 billion, up 33% from Q4 a year ago. Meanwhile, adjusted EPS of $1.19 topped analyst estimates of $1.13. The fact that the stock was mostly unchanged in a down week for the market is bullish. But we’ll keep TSLA at Hold until it can breach its 200-day moving average (225). HOLD

Ulta Beauty (ULTA), originally recommended by Mike Cintolo in Cabot Top Ten Trader, dipped very slightly in the last week – impressive considering its unimpeded run-up (to 525 from 439!) the previous six weeks. There was no news. The beauty retailer (like all retailers) seems to be getting a boost from the dwindling chances of a recession. Keeping at Buy. BUY

WisdomTree Emerging Markets High Dividend Fund (DEM), originally recommended by Carl Delfeld in his Cabot Explorer advisory, keeps holding in the 37 to 39 range. It’s been a solid winner for us and is up 6.5% year to date. The fund offers a high dividend yield and some of the highest-quality emerging market stocks in the world with an average price-to-earnings ratio of around 5. This ETF gives broad exposure with an emphasis on income and value. BUY

Xponential Fitness (XPOF), originally recommended by Tyler Laundon in his Cabot Early Opportunities advisory, gapped down from 27 (all-time highs) to 24 last week after the company announced a secondary offering of 5 million shares by selling stockholders. Any time existing shareholders decide to sell their stock, it can raise a few eyebrows – if not a total red flag. Considering shares of this boutique fitness studio and brand company had been on a tear prior to last week’s gap down, and remain well above their moving averages, we’ll keep the stock at Buy. But it’s worth keeping a closer eye on how it behaves in the coming days/weeks. BUY

The next Cabot Stock of the Week issue will be published on February 21, 2023.