August 9, 2024

In today’s note, we discuss the recent earnings reports from Nokia (NOK) and Newell Brands (NWL), and we dig into many other earnings reports from portfolio companies, some of which impacted their standing in the portfolio. Busy week, so let’s get into it.

We encourage you to look through our summary of the latest quarterly results in this update, which includes a total of 15 of the companies in our portfolio. In what was an extremely vibrant earnings week, there were a mixture of beats, misses and consensus-meeting reports.

A discussion on the importance of the 52-week lows list on the NYSE and NASDAQ is featured in this week’s podcast, with a special emphasis on its use in spotting likely turnaround candidates.

We also take a look at potential early-stage turnarounds in two major players in the semiconductor space: Intel (INTC) and Microchip Technology (MCHP). Additionally, vacation property rentals specialist Airbnb (ABNB) comes under the radar as a possible turnaround after its recent setbacks.

Comments on Earnings

With that, let’s turn our attention to the recent earnings reports for our Cabot Turnaround Letter portfolio stocks. There were several that reported this past week, but a subscriber brought to my attention two stocks that weren’t reported on in past issues of the letter, those being Nokia (NOK) and Newell Brands (NWL). Let’s take a brief look at them.

Nokia (NOK) reported an 18% drop in revenue in Q2 on July 18, prompting a drop in the shares, although the selling was short-lived and the stock snapped back, as investors realized the year-ago quarter was a challenging comparison. Free cash flow was strong in the quarter at over $400 million, which compared very favorably to the year-ago outflow of nearly the same amount.

The top brass expressed optimism about what it sees next year and guided for a “significant” net sales growth acceleration between now and year-end, and sees its industry stabilizing with order intake improving—particularly in the Network Infrastructure segment. Indeed, Wall Street sees Nokia’s sales bottoming out in Q2 and improving for the rest of the year, with further gradual improvement over the next two years.

The stock hasn’t made any progress since the Q2 report broke, but it’s holding its own and remains in an intermediate-term uptrend. Nokia is likely treading water until investors can discern if the targeted 14% operating margin can be achieved through new monetization opportunities—and this will almost certainly come from the Network Infrastructure business. For now, I’m maintaining the BUY rating placed on it by my processor.

As for Newell Brands (NWL), the stock enjoyed a stellar earnings-induced rally late last month, rallying an eye-catching 40% in a single day. Although revenue was 8% lower in Q2, earnings improved by 50% from a year ago and easily beat the consensus. Newell’s CEO Chris Peterson said the company is making “significant progress” in driving the turnaround on both the operational and financial fronts, which he sees improving the firm’s top-line trajectory along with margin expansion and improved cash flow performance.

Although the company guided for a 6%-to-7% decline in full-year net sales, it also increased its outlook for full-year 2024 operating cash flow to around $500 million. Cash performance and EBITDA growth have been strong, allowing Newell to pay down debt and setting the stage for what it sees as Newell’s reemergence as a world-class consumer products company.

Shares have since pulled back since the earnings rally, with Newell stock giving back around half the rally before finding support above the widely-watched 50-day trend line as of this recording early Friday. But the early signs of a turnaround are clear, and I’m maintaining the BUY rating on this stock.

Last Friday, U.S. Steel (X) reported Q2 results which saw its revenue slide 18% from the year-ago quarter, although both sales and earnings of 84 cents a share beat estimates. The stock has strengthened since last week’s report, and while there are some political reasons surrounding this, Wall Street is mostly upbeat on the chances of the company’s planned sale to Nippon Steel going through. I’m maintaining my predecessor’s BUY rating on the stock.

Next up is automotive seating supplier Adient (ADNT). On August 6, the company reported fiscal Q3 revenue of $3.7 billion that missed estimates and fell 8% year-on-year. Earnings of 32 cents missed estimates by 30 cents. This naturally prompted a bearish response and sent the shares lower, although the stock had already been in freefall for several days prior to the announcement.

At this time, the stock is down nearly 20 points from the original buy price, and frankly, it’s hard to see it falling that much further. What’s more, the consensus among analysts is that the company has likely hit a trough on the sales and earnings front, with steady improvement in both metrics projected for the next several quarters.

Also, automotive manufacturing volume in the EU market is expected to rebound starting next year. All told, I’m going to go ahead and maintain the BUY rating on Adient, watching to see if it can establish support around the current level. I’ll also be re-evaluating (and likely adjusting) the upside target for the next edition of the Cabot Turnaround Letter.

Ammunition producer Ammo Inc. (POWW) reported top- and bottom-line misses on August 8, with sales declining 10% year-over-year. Putting the fundamental and political factors surrounding this stock completely aside, my focus on POWW for now is on the exit strategy. I don’t like the chart; there’s way too much supply overhead, and quite frankly, it’s not the kind of stock I want in our portfolio due to its extreme sensitivities to the upcoming U.S. presidential election.

It appears that POWW is trying to establish a technical base above 1.50 a share, and if this level can be maintained, we’ll hold it. If it breaks below 1.50 at any time in the coming days, I recommend selling it. For now, I’m downgrading the shares to HOLD with an upside target around the original purchase price of 2.00. If this level can be reached, I’ll most likely recommend exiting the position at break-even.

Healthcare specialist Baxter International (BAX) had a nice reaction to this week’s earnings, rallying 12% after reporting flat sales but a 24% earnings increase in what was an overall solid quarter. All four of the company’s segments reported above-consensus sales growth, led by Medical Products & Therapies. All told, valuation is attractive, the 3% dividend is compelling and the top- and bottom-line estimates for the next couple of quarters are favorable. We’ll maintain the BUY rating, although I plan on adjusting the upside target before next month’s issue.

Bayer AG (BAYRY) reported flat Q2 revenue this week that didn’t exceed expectations, but neither did it disappoint them. However, the 3-cent EPS loss was an improvement from last year’s Q2 per-share loss of $1.92. Meanwhile, positive free cash flow of $1.4 billion was miles above the year-ago $517 million negative free cash flow.

Management confirmed the prior guidance for full-year 2024, with overall sales growth expected to be largely unchanged from last year, with meaningful improvement in full-year free cash flow (up 92% if realized), led by a projected 5% increase in Consumer Health segment sales. Based on sales/earnings expectations and the technical picture, the stock is in a solidly neutral position, and while it’s admittedly hard to build a substantive bullish case for BAYRY in the near-term, it’s equally hard to advocate for the bearish case. Accordingly, I’m assigning the stock a HOLD rating.

Brookfield Reinsurance (BNRE), soon to be renamed Brookfield Wealth Solutions, reported financial results for the quarter ended June 30 on Thursday, August 8. Total assets increased by a whopping 170% in Q2 compared to the year-ago quarter, with distributable operating earnings improving 87%, with net income-per-share rising 14%.

Highlights of the quarter include the acquisition of American Equity Investment Life Holding Co. and subsequent redeployed more than $3 billion of assets into Brookfield strategies and the origination of $5 billion in proprietary investment strategies during the quarter at returns in excess of 9%.

The company emphasized that it currently enjoys a “strong liquidity position across the portfolio,” with over $25 billion of cash and short-term liquid investments across its investment portfolios and another $22 billion of long-term liquid investments. I’m placing the stock on HOLD for now.

Elanco Animal Health (ELAN) reported Q2 revenue of $1.2 billion that increased 11% year-on-year, with earnings of 30 cents beating estimates by six cents. Highlights included a fourth consecutive quarter of revenue growth, driven by both pet health and farm animal segment improvements.

During the quarter, Elanco completed the FDA review of Bovaer (a feed supplement that reduces methane emissions in cows) and the final FDA submission for Zenrelia (a JAK Inhibitor that controls pruritus and atopic dermatitis in dogs), putting the firm on track towards an expected $650 million of revenue contribution for 2025.

That said, the company’s long-term performance in the portfolio leaves much to be desired, and I’ve decided to place ELAN on the chopping block in my effort to reduce the portfolio to more manageable levels. While a short-term mean reversion to the widely-watched 50-day and 200-day trend lines (both currently near the $15 level) is certainly possible, I’m placing a SELL rating on the stock.

Shares of payment technology firm Fidelity National Information Service (FIS) rallied this week after a strong Q2 earnings beat (and despite a 33% year-on-year drop in revenue). Banking Solutions revenue rose 3%, to $1.7 billion, while Capital Market Solutions revenue grew 7%, to $722 million. The company also reported nearly $1 billion in EBITDA, up 6%, and outpacing revenue growth by around 2%.

Management now expects a 50% improvement in full-year EPS and a 3% total revenue improvement. The overall sanguine results further prompted the top brass to lift 2024 earnings and revenue guidance and initiate a new $3 billion share buyback program (0.6% of shares outstanding), with the repurchase program expected to complete by the end of this year. We’ll maintain our BUY rating.

Earlier this week, TreeHouse Foods (THS) reported Q2 revenue of $788 million that was mostly unchanged from a year ago, while earnings of 29 cents a share declined from a year ago due to higher commodity prices for certain items and supply chain initiatives, but beat estimates by 16 cents. The stock’s price was basically unchanged as of early Friday in the wake of the earnings report.

Operating expenses were also higher due to a non-cash impairment charge of $19 million from cash flow losses in the Ready-to-drink business, “ultimately resulting in an exit of this business,” per a company report.

The company expects sales for this year to be unchanged from 2023, but analysts see the top line picking up next year, with significant earnings improvement anticipated in each of the next two years. TreeHouse also expects to be free cash flow (FCF) positive by $130 million in 2024—a substantial improvement from last year’s $16.5 million in FCF, if realized.

As of this writing, the stock is at break-even from the initial buy recommendation in October 2021. I’ll maintain the BUY rating for now, but if the stock doesn’t gain traction from here, it will likely be cut from the portfolio.

Tyson Foods (TSN) reported fiscal Q3 sales (ended June) of just over $3 billion, up 2% year-on-year, and per-share earnings of 87 cents that beat estimates by 30%. The stock had a favorable reaction to the earnings, hitting a new 52-week high $64 a share earlier this week.

During the earnings call, management said its focus on fundamentals resulted in a “positive turnaround” for the business, allowing the firm to deliver the highest adjusted operating income in the last seven quarters while also generating “strong” free cash flow of $1.1 billion (up $1.2 billion from a year ago.

Additionally, Tyson reported the best third-quarter profit in eight years in its chicken segment, with pork profits coming in better than expected, while beef and prepared foods were in-line with expectations (due to elevated cattle costs). The company currently enjoys the number one or number two market share in eight of its core business lines and enjoy favorite brand status in key categories.

The company further guided for total sales in fiscal 2024 to be relatively flat compared to last year. Analysts, meanwhile, see earnings for fiscal 2024 more than doubling with 30%-ish bottom-line growth projected for each of the next three years. I’m maintaining the BUY rating on Tyson.

Apparel, footwear and accessories giant V.F. Corp. (VFC) reported Q2 revenue of $1.9 billion that declined 8% from a year ago but beat estimates, while the per-share loss of 33 cents beat estimates by four cents. The overall reaction was positive as the stock rallied in the wake of this week’s earnings report to 12% above our initial purchase price recommendation.

The turnaround CEO, Bracken Darrell, did an excellent job boosting longer-term financial results during his prior stint at Logitech, and during his current tenure at V.F. Corp., he has been aggressively reducing expenses while selling non-core assets.

However, there is a growing consensus on Wall Street that much of the optimism surrounding Mr. Darrell’s strong track record has already been priced into VFC shares. Moreover, the bullish reaction to the less-than-stellar Q2 report was also likely overdone. In view of these considerations, I’m changing the rating on V.F. Corp. from BUY to HOLD.

Pharmaceutical and healthcare firm Viatris (VTRS) released Q2 earnings on Thursday that fell 8% from a year ago, but improved 3% from the prior quarter, to 69 cents a share, while adjusted EBITDA grew 2% sequentially. Revenue of $3.8 billion was 3% lower but beat consensus estimates, resulting in a 7% rally for the stock.

Highlights of the quarter included the firm’s Brands segment outperforming in Greater China and emerging markets (including Japan, Australia and New Zealand) due to expanded market. Elsewhere in the business, Generics segment sales surged, thanks to successful new product launches in developed markets.

Management guided for 2024 new product revenue of $550 million at the midpoint and expects full-year total revenue growth of around 2% on a divestiture-adjusted operational basis. I’m maintaining the BUY rating.

Warner Bros. Discovery (WBD) reported disappointing Q2 report this week across several metrics, including revenue that declined 6% from a year ago and missed estimates, along with a $4.07 per-share earnings loss that disappointed expectations by a stunning $3.88. The company’s net loss widened significantly due to a more than $9 billion write-down in its Networks segment (and partially tied to uncertainty surrounding sports renewal rights). Free cash flow, meanwhile, tumbled by $750 million, to $1 billion, during the quarter.

The pessimism surrounding Warner Bros. was underscored when it lost its four-decades-long NBA media rights when its $18 billion per year offer wasn’t accepted. Instead, the basketball league signed an 11-year media rights deal with Disney, NBC and Amazon Prime Video worth around $76 billion. Warner Bros.-owned TNT will continue broadcasting NBA games through the 2024-25 season.

Warner’s ongoing woes have further been ascribed to what investors regarded as a poorly executed direct-to-consumer (DTC) streaming video platform model. However, it should be noted that some analysts now see the company’s DTC and Studios units turning a corner, with DTC now reaching more than 100 million subscribers worldwide.

That said, the intermediate-term outlook is riddled with challenges, including a high debt load and a weak competitive position in more than one of its segments. It’s hard to rate this stock a “sell” after all the bad news and pessimism analysts have heaped upon it in recent quarters, and it’s likely that most of the bad news has already been discounted by the stock. For that reason, I’m placing Warner Bros. on a HOLD rating, albeit with a very tight leash.

RATING CHANGES: Ammo Inc. (POWW), Bayer AG (BAYRY), Brookfield Reinsurance (BNRE), V.F. Corp. (VFC) and Warner Bros. Discovery (WBD) have all been moved from BUY to HOLD.

Elanco Animal Health (ELAN), as mentioned above, has been downgraded to SELL.

Macy’s (M) has been a major laggard in the portfolio for a long time and the time has come to part ways with it. Significantly, revenue estimates for Macy’s for the next three quarters are trending conspicuously lower, and it faces more store closures, rising credit card delinquencies and an increasingly competitive retail landscape. SELL

Friday, August 2, 2024 Subscribers-Only Podcast:

Covering recent news and analysis for our portfolio companies and other topics relevant to value/contrarian investors.

Today’s podcast is about 15 minutes and covers:

• Discussion of the importance of the NYSE 52-week lows
• Comment on potential turnarounds in semiconductors and travel
• Comment on earnings
• Elsewhere in the markets
  
  • A belated review of last week’s U.S. Steel (X) earnings, as well as two stocks that reported earnings in July.
• Final note
  
  • Expect a tighter, slimmed down portfolio in the coming weeks with less tolerance for losses.

Turnaround Watch List

Semiconductor stalwart Intel (INTC) dropped out of bed on second-quarter earnings that revealed a challenging quarter and disappointments on both the top and bottom lines. The company ended up losing a quarter of its market cap after weak guidance, plus a series of analyst rating downgrades. On top of it all, Intel announced it would lay off around 15% of its staff, and it suspended its dividend.

However, the sell-off that followed Intel’s earnings was accompanied by the highest single-day trading volume seen since the crash in early 2020, which suggested a capitulation moment on the part of the sellers. And as our Cabot options expert Jacob Mintz pointed out last week, there has been some concentrated buying of long-dated call options on Intel in the wake of its crash, which suggests informed buying is already taking place.

I’m not quite ready to pull the trigger on an Intel purchase recommendation for our CTL portfolio, but I’m watching the stock very closely. Intel is starting to make early strides in establishing a bottom, however, but more work remains before the stock is completely out of the danger zone. For now, the stock is on our list of monitored stocks under the category of potential Early-Stage Turnarounds.

While we’re on the subject of Intel, a number of blue-chip semiconductor companies have lately had bad earnings reactions and subsequently have fallen to new 52-week lows. By that same token, many of them have shown conspicuously call option buying activity and other evident signs of informed bottom-fishing activity in the past week. One of them is Microchip Technology (MCHP), which specializes in microcontrollers and microprocessors for a variety of major industries.

Like Intel, it suffered from a negative earnings reaction last week, but the reaction was overdone in my estimation, and while a bottom hasn’t yet been established, I believe we’ll likely see one in the coming days. Part of the reason for Microchip’s negative earnings reaction were tough comparisons to the year-ago quarter, but the comparisons look to become more favorable starting in Q3 and beyond. What’s more, many analysts see what looks like a revenue trough for the company in Q2 and forecast notable sales growth from here.

Given the stock’s current position, however, I think a wait-and-see approach is in order where we bide our time for the needed improvement to become evident in Microchip’s technical profile. Until then, I’m putting Microchip on the waiting list.

Also falling under the potential Early-Stage Turnaround category is Airbnb (ABNB), which suddenly fell out of favor earlier this spring, with shares of the company plunging 60 points, or 35%, over the last four months. Shares reacted negatively to Q2 earnings this week, dropping 14% after the report came out, after missing earnings estimates but in spite of a revenue beat, with revenue increasing 11% from a year ago.

The reaction landed Airbnb on the notorious new 52-week lows list among Nasdaq stocks, but there are some silver linings to this cloud. While growth is slowing for the company, management doesn’t foresee a significant shift in consumer spending in the coming months, and while its short-term rental business has lately come under pressure, its core long-term rental business remains strong with opportunities for further growth.

Meanwhile, earnings are expected to be 40% lower for ABNB in 2024, but the bottom-line picture begins improving substantively and in the next few years along with revenue, based on analysts’ estimates. I consider the stock to be a high-probability, intermediate-term turnaround candidate, and accordingly, I’m placing it high on our watch list.

Please know that while I don’t yet personally own shares of all Cabot Turnaround Letter recommended stocks, this will materially change in the coming weeks as I become fully integrated as your new chief analyst.

Please feel free to share your ideas and suggestions for the podcast and the letter with an email to either me at cdroke@cabotwealth.com or to our friendly customer support team at support@cabotwealth.com. Due to the time and space limits we may not be able to cover every topic, but we will work to cover as much as possible or respond by email.

Portfolio

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