Five Cabot Benjamin Graham Value Investor companies reported quarterly financial results or other noteworthy news. This update also includes three questions from subscribers along with my answers. Prices appearing after each stock symbol are the closing prices on Thursday, October 13, 2016. Reports are for the quarter ended September 30, 2016 unless otherwise stated. Sales and earnings increases and decreases are based on year-ago comparisons.
My schedule for the next five weeks will be:
* Friday, October 21, Weekly Update
* Thursday, October 27, Cabot Wealth Advisory
* Friday, October 28, Weekly Update
* Tuesday, November 1, Wall Street’s Best Daily
* Thursday, November 3, Cabot Value Model issue 268V
* Friday, November 4, Weekly Update
* Thursday, November 10, Cabot Enterprising Model issue 268E
* Friday, November 11, Weekly Update
Company Reports
Kroger (KR 31.13) moved noticeably higher this week after Morgan Stanley upgraded Kroger to “overweight.” Kroger’s alternative formats, such as urban store chain Mariano’s and fresh foods store Main & Vine, could push Kroger’s stock price as high as 60, well above my Min Sell Price of 43.22. Hold.
LKQ (LKQ 32.96) was featured in this week’s Barron’s. The article pointed out that the company is capturing opportunities as U.S. cars and pickups age and demand for recycled parts rises. In addition, insurance companies increasingly require the use of recycled and refurbished parts. Lastly, business is improving in Europe, which could become the extra catalyst to help LKQ shares move higher. Buy at 34.29 or below.
Penske Automotive (PAG 44.37) announced the acquisition of six franchises in Bologna in northern Italy. Three of these are Porsche franchises, and the others are Audi, Land Rover and Volvo franchises. These acquisitions are expected to expand the company’s annual revenues by $200 million. Hold.
Southwest Airlines (LUV 41.38) announced that revenue passenger miles rose 7.9% from a year ago. Available seat miles grew 6% and load factor improved 1.5% to 84.2% during the month as traffic growth outpaced capacity expansion. Buy at 41.83 or below.
Ulta Salon, Cosmetics & Fragrance (ULTA 266.14) soared 11% after the company raised its guidance for the third quarter and fiscal year. Ulta now expects same-store sales, including e-commerce sales, to increase 14% to 15%, compared to previous guidance of 11% to 13%. Earnings per share (EPS) are estimated to be in the range of $1.35 to $1.38, compared to prior guidance of $1.25 to $1.30. Ulta reported $1.11 in EPS for the third quarter of last year. Buy at 245.53 or below.
Questions and Answers
Q. The last few weeks have been quite trying, several strong market days have resulted in red, such as today, and one really bad day in bright red. I still own:
Alliance Data Systems (ADS 206.84)
Avigilon (AIOCF 6.36)
CVS Health (CVS 88.00)
Gilead Sciences (GILD 73.06)
General Motors (GM 31.51)
Southwest Airlines (LUV 41.38)
Whirlpool (WHR 160.78)
I am now substantially behind and am growing concerned. The concern has a lot to do with up days resulting in losses for my positions. I would like your opinion on these seven stocks when you get a chance. (from subscriber R.L.)
A. Your seven stocks have indeed performed poorly during the last several weeks and even months. I have great confidence that five of the seven will be higher at the end of 2016 than their current prices. The two exceptions are AIOCF and GILD, which have turned out to be longer-term plays.
Avigilon (AIOCF 6.36) is growing sales nicely, but the company is spending heavily on research, marketing and new facilities. This is typical of a young company, but Avigilon management is spending to an extreme. If management is correct, the company will become a huge winner, which I believe will occur within the next two to three years. However, if sales falter badly, Avigilon could fail.
Sales increased 20% and 17% during the first two quarters. If quarterly sales growth approaches zero, I’ll recommend selling. During the next two quarters (Q3 and Q4), I expect lackluster growth, which will not provide impetus for Avigilon’s stock to advance. Avigilon is focusing on new lower-priced surveillance systems which will create a transition period before sales take off in 2017. The switch to lower-priced equipment is a risky move, so I’ll keep a close eye on Avigilon’s success or lack thereof. Hold.
Gilead Sciences (GILD 73.06) is dependent on its treatments for hepatitis-C and its HIV drugs. Sales of hepatitis-C drugs are falling, and 15% growth in HIV drugs is not enough to offset the hepatitis-C slippage. Gilead has a huge cash hoard of $24 billion ($18 per share), which could be used to make acquisitions to diversify its portfolio and add growth, but nothing has materialized, which is disappointing. On the flip side, Gilead would make an excellent purchase by a larger drug or biotech company. I am staying with my Hold recommendation because I think something very positive will come out of this, although GILD will try our patience. Hold.
Q. Does the following article affect your buy rating of At&T? (from subscriber G.H.)
A. I like AT&T for its high dividend yield of 5.0%, but also because the company has taken steps to boost growth during the next several years after years of stagnation.
The writer of the article that you sent has pointed out several challenges that AT&T is facing, which he or she has researched quite accurately. But the company is creating many opportunities that could lead to higher sales and earnings growth during the next three to five years.
AT&T (T 39.37) provides both wireless voice and data communication services. The landline services include AT&T U-verse broadband and video and voice services. In addition, DIRECTV, the company’s new subsidiary, provides pay television in the U.S. and around the world. The company’s products and services stand out in the industry.
AT&T’s $49 billion purchase of DIRECTV is a game-changer. Through DIRECTV’s massive customer base, AT&T will attract many new users to its wireless business. The merger will provide $2.5 billion ($0.40 per share) of cost synergies annually starting in 2018. DIRECTV’s DirecTV-Now will launch a video streaming service over the internet that will offer HBO, Cinemax, ESPN and other television programming. AT&T’s future looks promising.
DirecTV-Now will require neither set-top boxes nor satellite dishes. The new streaming service will serve every segment of the streaming video industry and offer customers any content virtually wherever and whenever they want it. The service will compete with Dish Sling TV, Hulu and Playstation Vue, and will keep AT&T very competitive in the fast growing video streaming segment of home entertainment.
AT&T’s recent $18 billion purchase of significant radio spectrum in government auctions will enable the company to pursue new business in the new Internet of Things market, where objects can be sensed and controlled remotely across existing wireless infrastructure. The company also bought wireless assets in Mexico with plans to greatly expand its telecom business in Mexico and other Latin American countries. Product expansion and geographic expansion are ongoing.
AT&T boasts the fastest internet speeds in the U.S. via its 4G network, which reaches 355 million customers. Recently, the company announced plans to expand its super-fast fiber optic broadband service, GigaPower, to 38 additional cities, tripling its city locations. The fiber optic network is becoming the most sought-after technology for secure and fast data transmission.
In addition, AT&T is testing a new technology, called AirGig, designed to deliver low-cost high-speed internet service over electrical power lines. This technology will be easier to deploy than fiber, can run over license-free spectrum, and can deliver ultra-fast wireless connectivity to any home or handheld wireless device. AirGig is still in its testing phase, so no scheduled launch dates have been forecast. AT&T’s long-term prospects seem exceptional.
AT&T’s innovations should keep the company ahead of, or at least equal to, its competitors. Price discounts will suppress earnings growth, but 4% to 6% growth plus the 5% dividend yield is quite attractive for a blue-chip company. Sales and EPS will likely advance 4% during the next 12 months ending September 30, 2017 before accelerating thereafter. The company’s balance sheet is strong, and my risk rating for AT&T is very low risk. The company has increased its dividend for 33 consecutive years. At 13.7 times current EPS and at only 5.9 times cash flow, AT&T shares are a bargain. AT&T’s stock price will likely climb 23% and reach my 48.32 sell target within 12 to 18 months, but a longer-term holding period might be appropriate. Buy at 40.20 or below.
Q. Recent commentary from Zacks gives me some concern about Penske. What are your current thoughts? (from subscriber G.H.)
A. Penske Automotive (PAG 44.73) continues to produce solid sales and earnings growth, but there are clouds on the horizon. The company has bolstered growth by acquiring car and truck dealerships in the U.S. and abroad. Management is attracted to truck dealerships in the U.S. which tend to be more profitable than car dealerships. Car and pickup truck dealerships in Europe are available at bargain prices. Roger Penske is very astute, so the constant stream of purchases should lead to a steady stream of sales and earnings growth, similar to past patterns.
Penske’s stock price has weakened as a result of the rapidly rising U.S. dollar, which will put a dent in sales and earnings. Also, the company’s recent acquisitions in Italy seem questionable when Italy’s weak economy and financial strength are considered. Long-term debt jumped in the second quarter and bears watching. In the past, Penske has paid down debt after rapid increases.
I will continue to hold Penske unless sales growth slows noticeably, which could occur if auto and truck sales in the U.S. have indeed peaked, and Brexit in the U.K. causes an unexpected slowdown, which management believes won’t happen. The company specializes in high-end luxury cars which have shown no signs of slowing, but I’ll keep a sharp eye on Penske’s progress. The dividend has been increased every quarter since initiation in 2011 and now provides a decent 2.6% yield. Penske’s payout ratio is still only 30%, so further quarterly increases are expected. Hold Penske for now.