Earnings reports from 16 companies. Most encouraging were reports from CNSL, CS, HCMLY, TAP, NOK and WY. All stocks retain their Buy ratings and price targets, although we are reviewing RDS/B’s price target in light of the sharp (permanent?) downshift in oil prices.
Consolidated Communications (CNSL) - The company continues to grind out better profits and cash flow as it whittles down its debt toward its 4x EBITDA target. Dividends should resume once it reaches the target. Investors continue to underestimate Consolidated, even as the shares jumped 22% on release day.
Revenues fell 2.5% to $325 million, with modest declines in most segments except consumer broadband. Operating costs fell 7.9% due to cost-cutting initiatives and lower direct product costs. Interest expenses fell $3.3 million as debt is lower. The company indicated it has seen no effects from the pandemic.
The company produced profits in GAAP terms, indicating higher-quality profits, especially as the company produced a loss a year ago. Analysts underestimated Consolidated’s strength, as they estimated that profits would be about half of what they actually were.
Liquidity remains reasonable, as the company has $46 million in cash (up from $12 million at year-end), is generating free cash flow and has additional borrowing capacity. Total debt is about $54 million lower than at year-end.
Net debt/EBITDA was 4.1x compared to 4.3x at year-end. The company has said it will resume dividends (which were suspended with the cash being redirected to debt paydown) once this ratio is below 4x, likely to happen by year-end.
Even with the price jump, the shares are cheap at 5.2x EBITDA.
We retain our Buy rating and $12 price target on Consolidated Communications (CNSL)
Credit Suisse (CS) - The turnaround continues under new CEO Thomas Gottstein, after Tidjane Thiam left due to the spying scandal. The bank’s growing reliance on more stable wealth management and lower-risk Swiss lending has helped shield it from the pandemic. Profits are higher than a year ago despite higher provisions for loan losses. Capital levels and credit loss reserves are robust. CS shares have bounced about 60% from their lows but remain down 21% year-to-date. While not fully there yet, the bank is returning to the high-quality standards that are traditionally associated with Swiss banks.
Operationally, the bank has a much more stable revenue and profit stream, while operating at lower costs and with lower risks and a less complex capital structure, than it has had in a long time. This is being overlooked by investors, reflected in consensus estimates that were well-below what Credit Suisse produced. Future consensus estimates continue to look too low.
Trading at 57% of tangible book value, the shares look overly-discounted and should trade at least at 80% near-term and at 100% or more eventually. The bank maintained its dividend and its plans to increase it at a 5% rate each year.
In terms of numbers: second quarter revenues increased 11% from a year ago, driven by strong 17% growth (to record levels) in the high-priority Asia Pacific segment as well as better trading and investment banking. The bank is seeing incremental inflows of assets into its investment management business. Overall, the report was encouraging as Credit Suisse remains highly relevant after years of doubts.
The bank took CHF296 million in loan loss provisions. This was much lower than the CHF568 million provision in the first quarter but 12x the provision from a year ago. So far this year, Credit Suisse has set aside CHF894 million for losses and now appears to be better-covered than major American banks. Whether this is adequate or not remains to be seen, but Credit Suisse is taking a conservative approach.
Pre-tax income of CHF1.55 billion was 19% higher than a year ago, and net income was 24% higher. Profitability is solid, with the return on tangible equity reaching 11% in the quarter, above the 10% target. Year-to-date, the return on tangible equity of 12% is impressive.
Credit Suisse’s capital is sturdy, sporting a 12.5% CET1 (an industry standard) capital ratio.
Note: Each CS share represents one ordinary share. The current dollar/Swiss franc (CHF) exchange rate is US$1 = CHF .92.
We retain our Buy rating and $24 price target on Credit Suisse (CS)
Dupont (DD) - Dupont reported a strong quarter compared to expectations even as the turnaround remains in the early innings. New CEO Ed Breen is making Dupont into a more profitable and valuable company despite the pandemic.
Sales of $4.8 billion fell 12%, while Adjusted EPS of $0.70 fell 28% from a year ago. Adjusted EBITDA fell 20%. Revenues were slightly ahead of estimates while adjusted EPS was about 20% higher.
While profits in the Transportation & Industrial segment fell 86% due to shut-downs in the auto industry. Profits increased in the other segments, partly due to Dupont’s stronger positioning in these industries. Overall adjusted EBITDA margin of 23.5% fell from 26.0% a year ago, reflecting the T&I segment weakness. All of Dupont’s global manufacturing facilities are currently operating according to plan. The company said that the 2nd quarter represents the bottom of the cycle, but that the recovery will be gradual. Dupont’s efficiency improvements continue to make progress.
The sale of the Nutrition and Biosciences unit is up for a shareholder vote on August 27 and the deal is expected to close in the first quarter of 2021. The anticipated $5 billion cash proceeds will be used to repay debt. We believe this is a positive deal for Dupont’s shareholders.
Dupont produced $802 million in operating cash flow and $564 million in free cash flow in the quarter. Liquidity remains strong, as the company has $3.7 billion in cash. Net debt remains essentially unchanged from year-end.
We retain our Buy rating and $70 price target on Dupont (DD)
General Electric (GE) - The pandemic has damaged GE’s turnaround efforts which had been making real progress. While the company can recover and rebound, it will be from a much weaker profit and balance sheet position. CEO Larry Culp has done an impressive job in keeping GE afloat by aggressively cutting costs, preserving cash, bringing in new leadership and selling off non-core assets.
Optimistic but realistic, Culp expects the company to produce positive cash flow in 2021. GE investors who stay with the story need to wait perhaps another 6-12 months for more definitive evidence that this turnaround will succeed or fail. Upside remains hefty from here (our 20 target compares to the current 6 price) but the downside is a possible bankruptcy if weak conditions don’t improve.
GE reported an adjusted net loss of $(0.15)/share compared to a $0.16/share profit a year ago. The results were weaker than the $(0.09)/share consensus loss estimate.
There were few bright spots in the quarter. On usually-flattering adjusted results, GE organic revenue fell 20%. Industrial operations produced a $(521) million operating loss compared to a $1.8 billion profit a year ago. Industrial segment cash outflow was $2.1 billion, although the cash outflow was better than the $3.3 billion outflow that analysts expected. The Healthcare segment posted a $550 million profit but this was 43% lower than a year ago. GE Capital produced a $(522) loss.
To help fund its cash outflows, GE announced that it will sell off its remaining stake in Baker Hughes over the next three years. Liquidity remains strong, as GE has $31.4 million in cash at its Industrial segment.
We retain our Buy rating and $20 price target on General Electric (GE)
General Motors (GM) - GM produced an impressive report showcasing its ability and agility to quickly cut costs, which allowed the company to essentially break-even when revenues fell 53%. Overall, an encouraging update despite the weak share price response.
Revenues of $16.8 billion (down 53%) were in-line with estimates, while the $(0.50)/share loss was vastly better than estimates for a $(1.78)/share loss. A year ago, GM produced profits of $1.64/share. In dollar terms, the net loss of $(709) million compared to a profit of $2.4 billion a year ago.
GM’s market share increased and dealer inventories are lean. GM remains fully-committed to its efforts in all-electric cars and other promising technologies. Much of the $(9.0) billion in negative cash flow in the automotive segment reflected the build-up of inventory as part of its production ramp-up. GM’s balance sheet and liquidity remain healthy. GM Financial’s credit metric were steady, although we anticipate some deterioration in future quarters as the recession drags on. The company didn’t provide explicit forward guidance but their comments pointed to more strength ahead.
We retain our Buy rating and $45 price target on General Motors (GM)
Gilead Sciences (GILD) - Overall, a reasonable quarter that disappointed short-term traders looking for strong results, but the long-term story remains intact.
Sales fell 10% to $5.1 billion while adjusted net income per share of $1.11 fell 35% from a year ago. Revenues were about 3% below estimates while adjusted EPS was 24% below estimates. Management raised their full-year 2020 earnings guidance by 11% compared to their guidance given this past February.
HIV treatment revenues fell 1% while hepatitis treatment revenues fell 47%. The weakness appears to be due to lower patient visits due to the pandemic conditions rather than a decline in underlying demand. A major contributor to lower overall profits was the 31% increase in costs related to developing remdesivir for treating Covid patients. However, the outlook for remdesivir is helping drive Gilead’s guidance higher.
Gilead generated $2.6 billion in operating cash flow and spent $4.8 billion on the acquisition of biotech firm Forty Seven. The company ended the quarter with $21.2 billion in cash.
The company remains an undervalued yet solid company under the capable leadership of new CEO Daniel O’Day, who is working to recapture growth by better using Gilead’s hefty cash flow and cash balance. GILD trades at 7.1x EBITDA, 10x EPS and has a 3.8% dividend yield.
We retain our Buy rating and $105 price target on Gilead Sciences (GILD).
Kraft Heinz Company (KHC) - A year into Miguel Patricio’s tenure as CEO, the company’s revenues and profits are clearly benefiting from the pandemic tailwind, which is buying it time to execute its turnaround. This tailwind will probably moderate in the third quarter, particularly as cost headwinds increase, so Kraft Heinz will need to put up some encouraging results that reflect more permanent revenue and margin improvements. Kraft Heinz will outline it strategic plan with more specific numbers at its investor day next month.
Sales grew 3.8% while organic sales increased 7.4% (which excludes the effects of divested businesses). Better pricing and volumes helped boost sales. Sales grew in all three geographic segments (US, International, Canada). Revenues were modestly ahead of estimates.
Adjusted EPS of $0.80 rose 3% from a year ago and were 23% ahead of estimates. Adjusted EBITDA of $1.8 billion rose 12%, from a year ago and was about 8% higher than estimates. The company took $2.9 billion in non-cash impairment charges - a step that we see reflects their recognition (correctly) that many prior initiatives aren’t worth what the company invested in them.
The company’s liquidity is strong: it has $2.8 billion in cash and is producing decent profits and cash flow (a hefty $2.2 billion in operating cash flow YTD compared to $1.3 billion for the same period a year ago). Much of the improvement in cash flow came from temporary increases in current liabilities, which will reverse later. Total debt of $28.9 billion is slightly lower than at year-end.
We retain our Buy rating and $45 price target on Kraft Heinz (KHC).
LafargeHolcim (HCMLY) - While the turnaround is like watching cement dry, it is happening. The company is working down its excess debt and producing very strong free cash flow despite the pandemic. Its June revenue run-rate appears to be near-fully recovered. Lafarge shares remain 15% below their year-end price, as investors seem to not fully appreciate the company’s ability to produce cash. The stock also yields 4.3%.
The company reports on a semi-annual basis. For first half 2020, due to weak pandemic construction activity, revenues fell 11% on a like-for-like basis (the European term for “organic”, or adjusted for acquisitions and divestitures).
Adjusted per-share earnings were down 37% from a year ago but much better than estimates.
Free cash flow of CHF749 million was a record high and nearly triple that of a year ago. Liquidity is robust. Debt net of cash fell by CHF2 billion, or about 16%, from a year ago, indicating progress on an initiative that we believe is key to the turnaround.
Led by relatively new CEO Jan Jenisch, the company guided to CHF2 billion in free cash flow for the year and provided encouraging commentary about the second half.
Note: The current dollar/Swiss franc (CHF) exchange rate is US$1 = CHF .92.
We retain our Buy rating and $16 price target on LafargeHolcim (HCMLY)
Lamb Weston Holdings (LW) - A disappointing report, as LW’s cost structure was less unforgiving of sharp revenue declines than we expected. LW shares fell sharply on the report but remain essentially at our initiation price. We believe the company will recover to produce stronger profits but not as quickly as we initially expected.
Revenues of $847 million fell 16% from a year ago, but were actually 22% weaker when removing the benefit of an extra week. Profits fell sharply: income from continuing operations fell 79% and adjusted EBITDA fell 64% from a year ago. Revenues were mildly better than estimates but the per share loss of $(0.01) was sharply lower than estimates for a $0.78 profit.
While sales to major restaurant chains fell 18%, sales to hospitals, schools, hotels and smaller restaurants fell 42%, reflecting their closure and lack of drive-thru revenues. Sales to grocers rose 56%.
We had expected the company to cut costs more aggressively. While $58 million in Covid-related costs weighed on profits, profits generally declined dollar-for-dollar with revenues. Lamb’s manufacturing processes have been optimized for maximum profits at high volumes, yet were vulnerable to the sharp decline in those volumes. We expect only incremental cost adjustments until the pandemic’s long-term effects are clearer.
Liquidity remains strong, with cash of $1.4 billion, which the company used following the quarter-end to pay down what appears to be its entire $495 million line of credit balance.
The outlook is improving, as Lamb Weston said that for the first six weeks of the current quarter its U.S. and China shipments are currently tracking at 85% of prior-year levels. The company is reducing by 20-25% its contracted purchasing volume for potatoes but believes that spot-market volumes will be available at good prices if needed. Lamb’s relations with its customers sounded like they remain strong, particularly as Lamb made inventory adjustments to accommodate them.
We retain our Buy rating and $85 price target on Lamb Weston (LW)
Molson Coors (TAP) - The company posted a surprisingly strong quarter - despite the complete disruption of its end-markets MolsonCoors managed to keep revenue declines to only 15% while cost-cutting and other measures led to higher year-on-year profits. We expect to see revenues begin to recover although long-term growth may need to come from new products. At just under 38, the shares look very interesting.
Sales fell 15% from a year ago but beat estimates by 4%. Adjusted per share earnings of $1.55 increased 2% from a year ago and were more than double the $0.64/share consensus. Underlying EBITDA rose 2.2% from a year ago to $692 million, about 50% higher than consensus estimates.
Most of the revenue decline was due to weaker volumes, as pricing was slightly positive overall. North America sales fell 8% while sales in Europe fell 42% where beer sales are heavily tilted toward on-premise consumption. The company shifted its mix toward it priority brands to adjust to the restaurant/pub closures, including sharply boosting canned beverages while kegged volumes approached zero. Overhead costs fell 31%, partly due to lower marketing spending.
In the upcoming quarters, marketing spending will increase to support core brands, growth brands and new product launches, while can and packaging shortages will impede volume growth. Its transformation and cost-cutting plan remains on-track.
Cash flow was strong, boosted by $500 million in deferred tax payments allowed by pandemic relief programs, but these will reverse later in the year. Molson Coors’ liquidity is healthy, with positive cash flow and $781 million in cash balances. The debt of $8.7 billion is modestly lower than a year ago.
We retain our Buy rating and $82 price target on Molson Coors (TAP)
Newell Brands (NWL) - Results were encouragingly strong, and the company’s restructuring under the relatively new CEO continues, but the shares fell 7% as investors seem reluctant to jump in, given the company’s lack of credibility. Newell shares remain well off our price target and we are two years into the turnaround. The new CEO Saligram (joined October 2019) seems to be taking a more assertive approach to getting Newell back on track, leading us to retain our Buy rating.
Revenues fell 15% compared to a year ago but were about 4% ahead of estimates. Appliance & Cookware improved, while Outdoor & Recreation was weak but is recovering strongly. Learning & Development sales fell 22% with writing instruments sales sluggish.
The normalized operating profit margin was 10.2%, worse than the 12.2% margin a year ago. Cost-cutting helped profits but weren’t enough to offset the sharper decline in revenues nor numerous supply constraints and Covid-related costs.
Normalized net income of $0.30/share fell 30% from a year ago but was sharply higher than the $0.18/share estimate. Adjusted EBITDA was about 24% above estimates.
While major discounters and drug stores remained open, most other stores were closed for much of the quarter, weighing on results. However, sales trends have improved considerably with the re-openings and management’s comments about July’s results were encouraging. The back-to-school trends look promising but remains an unknown.
Debt of $5.6 billion was modestly elevated from year-end. Cash of $619 million, combined with ample credit availability, provides Newell with plenty of liquidity. Operating cash flow of $132 million compared to a $9 million outflow a year ago, as the company worked down its working capital.
We retain our Buy rating and $39 price target on Newell Brands (NWL)
Nokia (NOK)- After years of missteps and false starts, Nokia’s turnaround appears to finally be taking hold. While second quarter sales fell 11%, operating profits fell only 6%. The company is reining in its tolerance for low-profit contracts, which hurt sales, particularly in China. Nokia raised its profit guidance for the year. Shares jumped 13% in the days after the release. While issues remain, we believe more gains are on the way over the next several years.
One major opportunity and concern: If the Huawei dispute solidifies, Nokia could have a near-duopoly with Ericsson in the vast 5G market outside of China, likely leading to higher growth and profits. However, Verizon (clearly a major customer and 5G bellwether) has been rumored to be close to replacing some Nokia 5G contracts with a deal from upstart/dark horse 5G competitor Samsung. If this occurs, it could rattle confidence in Nokia’s future. Nokia clearly has challenges ahead to catch up on the technology front, and hence the market share front.
Revenues of €5.1 billion fell 11% from a year ago. Weakness was widespread, but the 41% declines in Greater China and in Latin America weighed on results. The pandemic reduced sales by about €300 million, which Nokia estimates will return in later periods.
Nokia is aggressively shifting its core 5G semiconductor chip technology to the industry standard, after blundering in the past by pressing for a non-standard technology. The more it emphasizes the standard “system on a chip” approach, the faster its sales and profits will increase. Today, about 25% of Nokia’s 5G sales will use this technology - but in two years it could be 100%.
Better contracts and some cost-cutting are leading to better profitability. Although adjusted operating profits fell 6% from a year ago, profit margins expanded to 8.3% from 7.9% a year ago. Also, the results had fewer one-time and other adjustments than a year ago, which improved the quality of the results.
Liquidity remains strong, as Nokia now holds €7.5 billion in cash and is producing positive free cash flow. The company is converting more of its revenues into cash. The cash balance, less debt, increased by €230 million in the quarter to €1.6 billion.
Nokia’s new CEO Pekka Lundmark is taking the reins today, a step which we believe will improve Nokia’s trajectory.
We retain our Buy rating and $12 price target on Nokia (NOK)
Royal Dutch Shell (RDS.B) - Like all energy majors, Shell is struggling with the sharp decline in oil prices, although some of the weakness is offset by healthy refining, chemicals and marketing profits. The company is aggressively cutting back its operations to right-size itself for the new low-price world, as well as paying down its over-sized debt. Progress is slow and dependent on oil prices returning to the $60/barrel range compared to the low-$40 range today.
Shell reported a massive $18.1 billion loss, but most of this was due to previously announced write-offs totalling $22 billion. Adjusted for various items, the company produced a $635 million profit, compared to profits of $3.5 billion a year ago.
Upstream profits (from drilling for oil and gas) was a loss of $(1.5) billion compared to profits of $1.3 billion a year ago. Natural gas profits, which represent an important part of Shell’s future, fell 79%. Refining profits and chemicals profits actually increased in the quarter, driven by gross margin expansion and lower operating costs.
We retain our Buy rating but are reviewing our $85 price target on Royal Dutch Shell (RDS/B)
Vodafone (VOD) - The turnaround remains in low gear. The company provided a revenue update but not an earnings update. First quarter FY2021 revenues net of acquisitions and divestitures fell 2.8%. Stay-at-home orders reduced revenues from roaming charges and from visitors. Various project delays and lower car usage also weighed on growth. Service revenues, which comprise Vodafone’s core business, fell 1.2%, net of mergers. The company indicated that the revenue outlook remains solid and that cost-cutting should improve profits.
Vantage Towers IPO, which houses Vodafone’s European mobile phone towers, should happen in early 2021 and could unlock value.
We retain our Buy rating and $32 price target on Vodafone (VOD)
Volkswagen (VWAGY) - Like all automakers, VW was hit hard by the pandemic, but has plenty of cash to endure. Profits fell by more than they probably should have, indicating the company’s cost-cutting efforts didn’t have much effect. VW has shaken up its management ranks, changing out keys roles including the head of the Volkswagen brand, the head of sales, head of Traton Truck and Bus, and head of Audi. The pandemic delayed the company’s overhaul, which emphasizes wider profit margins and more innovation in electric cars, but now appears to be getting much-needed attention. VW said it will likely reduce its dividend by about 25%.
Second quarter revenues fell 37% to €41 billion. VW produced an adjusted operating loss of €(1.7) billion compared to a €5.1 billion profit a year ago. Results were a tad weaker than estimates. Vehicle deliveries to customers fell 27%. Interestingly, sales of luxury brands like Bentley (+2.8%) and Porsche (-12%) were much stronger than sales of basic cars like SEAT (-38%) and SKODA (-31%).
Liquidity remains healthy, as the Automotive segment carried nearly €49 billion in cash and securities, although this reflects more borrowing. The Automotive segment had negative first half cash flow of €4.8 billion, a large change from the €5.6 billion of positive cash flow a year ago.
VW’s Financial Services operations appear to be weathering the pandemic reasonably well, as profits fell only 23%.
We retain our Buy rating and $24.50 price target on Volkswagen (VWAGY)
Weyerhaueser (WY) - Overall, a strong quarter as surging home remodeling/renovations have driven up lumber prices, which led to sharply higher profits. The outlook is also encouraging.
Compared to a year ago, revenues of $1.6 billion fell 4% and adjusted net income of $0.11/share fell 31%. However, adjusted EBITDA increased 13%. Results were sharply higher than estimates: revenues were 14% better while adjusted EBITDA was 51% better.
Results reflect the strengthening housing market, particularly in wood prices where remodeling/renovation activity was particularly strong. WY shares are highly correlated with lumber futures prices. Friday’s close of $587.60, more than double their March lows and approaching their 2018 peak of $639. This showed up in Weyerhaeuser’s Wood Products results, which produce about 75% of WY sales: adjusted segment EBITDA increased by 55% from a year ago, to $198 million. Management guided 3Q segment profits to be “significantly higher” than in the second quarter.
Adjusted EBITDA in the other segments (Timberlands, Real Estate/ENR and Corporate) fell $27 million.
Management provided encouraging comments about the third quarter housing market and lumber profits. Some of the share price weakness on Friday (-2%) was driven by the still-weakened outlook for the rest of 2020 in the Timberlands segment compared to a year ago, and that some of the recent jump in profits in this segment was due to short-term timber market dislocations rather than an indicator of an enduring upturn.
In the quarter, the company repaid $1.3 billion of debt, including its entire line of credit. Weyerhauser still held $643 million in cash. Overall financial strength is improving. Management did not make specific comments on resuming its dividends but if 3Q results are strong and the outlook at that time remains healthy, Weyerhaeuser could resume dividends in 4Q.
We retain our Buy rating and $40 price target on Weyerhaueser (WY)
Disclosure Note: One or more employees of the Publisher own shares of all Turnaround Letter recommended stocks, including the stocks mentioned in this note.