DBLTX Commentary – Q4 2019
Thesis
DBLTX utilizes a top down-bottom up process that focuses on MBS and Agency bonds. When compared to the benchmark (Barclays U.S. AGG), the holdings have lower duration and exposure to corporate bonds, reducing their sensitivity to interest rate movements and credit spreads. We expect attractive risk-adjusted return characteristics over the long term from DBLTX, especially during periods when corporate bonds’ spread increase.
The Financial Times has an article about the sales impact from the coronavirus. Adidas guidance is way worse than any other companies that talked about the impact during earnings so far, but we suspect it will not be the last one. As more info comes in, Q1 (and maybe beyond) could be pretty negative.
https://www.ft.com/content/473b1eeb-72a9-3da4-96bf-3f2e7e1e7b23
Companies: German sportswear makers Puma and Adidas, which generate about a third of revenues in the Asia-Pacific region, have warned of disruption in their business in China as they have closed stores there. Puma envisages a hit in the first quarter while Adidas notes an 85 per cent decline in business activity in the world’s second-biggest economy.
FYI China is 18% of sales for Adidas and 16% for NKE.
Key Takeaways:
· Quarterly sales came below expectations but margins expanded
· Management team qualified those items impacting sales as “one-time” events, however we see one of them as simple poor execution from the team
· Coronavirus impact is not included in future guidance at this point
Current Price: $112.5 Price Target: $121
Position Size: 3.19% TTM Performance: +22%
Medtronic released their 3Q FY20 results yesterday, with organic revenue growth of +2.6%, a +90bps adjusted operating margin expansion and +11.6% adjusted EPS growth. While the organic sales growth was below expectations (+3.5% consensus), the operating leverage was substantial considering the top line miss. The management team highlighted a couple of one-time items impacting the top line: delays in client purchasing activities ahead of new products launch and the US & Canada ERP system upgrade affected products availability (problem resolved). In the US, their TAVR business grew below market as their sales team is taking longer to reach full productivity (new hiring in process to cover the 700 US centers performing TAVR surgery). We do not see this as a “one-time” item but rather poor execution from the company. In Diabetes, the US still faces challenges due to competition and patients waiting to upgrade their existing pump to the next-gen platform.
The company is unwilling to quantify the impact of COVID-19 on 4Q, but noted a lower volume of procedures in China as patients avoid hospital visits and ~12,000 physicians & nurses were sent to the Hubei region to deal with the crisis. The impact of the coronavirus will be released on May 21 during the next call.
During the call, Medtronic’s CFO implied a 4% growth rate in FY21, below the current expectation of 4.9%, although they remain confident sales will reaccelerate into FY21 and FY22 from the disappointing 3Q.
Overall this quarter showed the difficulty for a company this size to keep all the balls in the air at the same time… this quarter some fell on the ground…
Updated FY20 guidance:
Organic revenue growth +/- 4% (unchanged)
Operating margin ex-FX +40bps
EPS increased to $5.63-$5.65 but does not include the coronavirus impact
MDT Thesis:
· Stands to benefit from secular trends (1) increased utilization from Obamacare (2) developed populations age
· Strong balance sheet and cash flows. Increased access to non-cash should allow MDT to meaningfully increase their dividend
· 6% normalized Real Cash yield provides solid total return profile over next 2-3 years
· Ownership interest aligned. Management incentivized to maximize shareholder returns – 14% 10yr average ROIC
Category: Equity Earnings
Tag: MDT
$MDT.US
Julie S. Praline
Director, Equity Analyst
Direct: 617.226.0025
Fax: 617.523.8118
Crestwood Advisors
One Liberty Square
Suite 500
Boston, MA 02109
Apple is down because they issued a statement this morning indicating they will not meet quarterly guidance due to the ongoing impact of the coronavirus. They did factor in some impact in the guidance they gave a few weeks ago, but management indicated that “work is starting to resume around the country, but we are experiencing a slower return to normal conditions than we had anticipated.” As a result, both the temporary impact to the worldwide supply of their products and to Chinese demand will be worse than expected.
Investor Update on Quarterly Guidance
Business Wire
CUPERTINO, Calif. — February 17, 2020
As the public health response to COVID-19 continues, our thoughts remain with the communities and individuals most deeply affected by the disease, and with those working around the clock to contain its spread and to treat the ill. Apple® is more than doubling our previously announced donation to support this historic public health effort.
Our quarterly guidance issued on January 28, 2020 reflected the best information available at the time as well as our best estimates about the pace of return to work following the end of the extended Chinese New Year holiday on February 10. Work is starting to resume around the country, but we are experiencing a slower return to normal conditions than we had anticipated. As a result, we do not expect to meet the revenue guidance we provided for the March quarter due to two main factors.
The first is that worldwide iPhone® supply will be temporarily constrained. While our iPhone manufacturing partner sites are located outside the Hubei province — and while all of these facilities have reopened — they are ramping up more slowly than we had anticipated. The health and well-being of every person who helps make these products possible is our paramount priority, and we are working in close consultation with our suppliers and public health experts as this ramp continues. These iPhone supply shortages will temporarily affect revenues worldwide.
The second is that demand for our products within China has been affected. All of our stores in China and many of our partner stores have been closed. Additionally, stores that are open have been operating at reduced hours and with very low customer traffic. We are gradually reopening our retail stores and will continue to do so as steadily and safely as we can. Our corporate offices and contact centers in China are open, and our online stores have remained open throughout.
Outside of China, customer demand across our product and service categories has been strong to date and in line with our expectations.
The situation is evolving, and we will provide more information during our next earnings call in April. Apple is fundamentally strong, and this disruption to our business is only temporary. Our first priority — now and always — is the health and safety of our employees, supply chain partners, customers and the communities in which we operate. Our profound gratitude is with those on the front lines of confronting this public health emergency.
Sarah Kanwal
Equity Analyst, Director
Direct: 617.226.0022
Fax: 617.523.8118
Crestwood Advisors
One Liberty Square, Suite 500
Boston, MA 02109
Key Takeaways:
1. In-line revenue and better than expected EPS. Guidance essentially in-line with consensus. Q4 Revenues were +5% and adj. EPS was +8%.
2. Seeing increasing success with cross-selling Data & Analytics (~14% of revenue), which could be a solid future growth driver for them.
3. Solid contract renewals – they renewed more than 1/3 of the loans on their MSP mortgage servicing software with long-term contracts, indicating the strength of their product and client relationships.
4. As discussed on their last call, they will see a 5pt hit to top line in 2020 related to client de-conversions (PennyMac). No update on the progress of the PennyMac lawsuit.
Share price: $72 Target Price: Under review
Position size: 2.5% TTM return: 41%
Highlights:
· Guidance is for 2020 revenue of $1.19B to $1.214B and EBITDA of $589m to $607m and EPS of $1.97 to $2.06. They expect results to be 2H weighted with growth accelerating to the high end of their range in the second half of the year.
· 2020 Revenue growth is below LT targets due to one-time headwinds, excluding those headwinds they are w/in their LT range. Their long term targets continue to be 6-8% revenue growth and mid-teens EPS growth. By segment, the expectation is mid to high-single digit growth in Servicing, high-single to low-double digit growth in Origination, and low to mid-single digit growth in Data & Analytics.
· In 2019, they renewed over 11 million loans (more than 1/3 of the loans on MSP) to long-term contracts last year.
· Signed 9 new MSP clients, representing nearly 500,000 loans, which is the most new client signed in a single year since 2013.
· Data analytics segment (~14% of revenue) revenues were up 11% driven by growth in their property data and portfolio analytics businesses.
o Trending ahead of LT targets in recent quarter on some “extraordinary cross-sales” related to new client deals, as well as renewals. This is promising momentum in this business and suggests they are finally gaining some meaningful traction.
· Software Solutions segment (~85% of revenue) was up 4%.
o They continue to gain share in this business.
o Within this segment servicing (~70% of revenue) was down 3% from a previously discussed client de-conversion. They continue to dominate first lien loans with leading share and are growing share in second lien loans. Market share for first mortgages is ~63%.
o Originations (~16% of total revs) made up of new loans and refi’s – revenues increased 43% in Q4 – lower rates help this business. Growth driven by new clients, a tuck-in acquisition, as well as higher refinanced volumes in their Exchange and e-Lending businesses. They signed 11 new Empower clients with 9 of those clients implementing Empower now and a strong pipeline going into 2020.
Valuation:
· Trading at <4% FCF yield on 2020 –valuation is getting more expensive but supported by growth potential, strong ROIC with a recurring, predictable revenue model (>90% recurring revenue) and high FCF margins, which is aided by high incremental margins and capex (~9% of revenue now) which should taper as they grow.
· $1.5B in net debt – that puts their leverage ratio at 2.6x, high because of Dun & Bradstreet but decreasing.
· Capital allocation priorities include opportunistic share repurchases, debt pay down and potential acquisitions.
Thesis:
$BKI.UA
[tag BKI}
[category earnings]
Sarah Kanwal
Equity Analyst, Director
Direct: 617.226.0022
Fax: 617.523.8118
Crestwood Advisors
One Liberty Square, Suite 500
Boston, MA 02109
PLEASE NOTE!
We moved! Please note our new location above!
Key takeaways:
· Performance in line with expectations, with broad based growth
· 2020 guidance slightly below consensus but most likely conservative
· CAGNY conference (major consumer staples companies attending) is next week, where new products are usually presented
Current price: $146 Price target: $153 (NEW)
Position size: 2.32% 1-year performance: +28%
Pepsi released their 4Q19 earnings results this morning: +4.3% organic sales was above consensus of 3.9% and EPS of $1.45 was roughly in line with consensus of $1.44. As shown below, growth was broad based across segments and regions. The productivity initiatives made by CEO Ramon Laguarta seems to be working, and should sustain the 7% EPS growth targeted for 2020. The company continues to invest in its manufacturing, procurement and marketing. As discussed on the call, smaller packaging continue to have traction with consumers. To summarize an uneventful quarter, results were a reflection of the steady performance we can expect from Pepsi.
Segment details:
2020 guidance:
Organic growth of 4%
EPS of $5.88 (+6%) below consensus of $5.95
Tag: PEP
category: earnings
$PEP.US
Thesis on Pepsi:
Julie S. Praline
Director, Equity Analyst
Direct: 617.226.0025
Fax: 617.523.8118
Crestwood Advisors
One Liberty Square
Suite 500
Boston, MA 02109
The JEDI cloud contract awarded to MSFT is being challenged by AMZN. It is a $10B contract over 10 years, which would represent less than 1% of revenue to MSFT. However, there is upside to this in that the contract might position MSFT to win more government cloud spending in the future.
Amazon Gets Injunction Blocking Microsoft’s Pentagon Cloud Contract
A judge orders a temporary halt requested by Amazon for the $10 billion contract that was granted to Microsoft.
By Tony Owusu
A judge has granted Amazon.com an injunction in which the company was seeking to block a $10 billion contract the Pentagon awarded to rival Microsoft to build the cloud infrastructure for the military’s computer systems.
A court notice announcing the injunction was filed on Thursday, but wasn’t public, CNBC reported.
The ruling would temporarily halt work on the Joint Enterprise Defense Infrastructure project.
Amazon last week filed a motion to depose President Donald Trump, Defense Secretary Mark Esper and former Defense Secretary James Mattis over the decision to award the contract to Microsoft.
Trump has been a vocal critic of Amazon CEO Jeff Bezos and the company seeks to make sure that personal animosity didn’t play a role in awarding the contract to Microsoft.
Amazon alleges that Trump wanted to "harm his perceived political enemy" – Bezos – in exerting pressure to block Amazon from the deal. Trump has often criticized Bezos because he owns the Washington Post, which editorially has been critical of the president.
According to reports, Trump delayed awarding the contract in 2018 after receiving complaints about internal favoritism toward Amazon.
Oracle CEO Safra Catz reportedly complained to Trump about the issue at a private dinner in April 2018, according to a Bloomberg report at the time.
Amazon’s cloud business, AWS, is the market leader in cloud computing, but Microsoft’s Azure cloud company has closed the gap between the two companies in recent quarters.
This article was originally published by TheStreet.
-0- Feb/13/2020 19:42 GMT
Sarah Kanwal
Equity Analyst, Director
Direct: 617.226.0022
Fax: 617.523.8118
Crestwood Advisors
One Liberty Square, Suite 500
Boston, MA 02109
$MSFT.US
[tag MSFT]
[category equity research]
Key Takeaways:
· Quarter results were in-line with expectations
· Simparica Trio launch on track, to contribute $150M to sales in 2020
· Development of the labs/diagnostics portfolio should provide more growth in years to come, although the company spending money behind it now
Share price: $143 Target Price: $156
Position size: 1.54% TTM return: +62%
This morning Zoetis released its 4Q19 earnings results that were in line with expectations, with sales growth of +7% (+9% organic) and EPS growth of +13% (mostly helped by lower taxes as expenses were higher). For the whole year, ZTS grew top line 10% (including 2% from the Abaxis acquisition) which is well above the 3-4% rate of the animal health market. Lately, ZTS added to its Labs/Diagnostics portfolio with another acquisition, a sign the management team is accelerating its strategy to be a top 3 competitor in the space that is showing a 10% growth per year. To support its growth plans, the company is spending more on direct-to-consumer advertising and increasing its sales force globally. Regarding the Coronavirus, the company sources some ingredients from China and possible ports closures could have an impact if it remains so for an extended period of time, however ZTS has adequate supply for multiple months. Another impact could be less pet owners travelling to the vet and/or less meat consumptions as the economy slows down, but it is too early to tell. One of the big drivers of 2020 is the expected launch of the Simparica Trio, which is expected to be 6-8 weeks after the regulatory approvals. We maintain a positive view of ZTS and see the thesis as intact.
Segment details:
Livestock: flat growth as the US saw a -3% decline while international grew 2%
Companion animal: +18%, thanks to 23% growth international and 15% in the US
2020 guidance:
Animal health market growth of 4-5% (higher than in 2019)
Revenue between $6.650 billion to $6.800 billion (+7 to +9.5% ex-FX)
Adjusted diluted EPS between $3.90 to $4.00 (+8 to +11%)
Zoetis investment thesis:
· Attractive industry profile: mid-single-digit growth rate, little generic threat, cash payers, pet sub-sector is very fragmented
· ZTS is a leading diversified animal pharma company that continues to innovate to fulfill unmet animal needs
· ZTS is growing above the industry rate and has proven resilient throughout economic cycle
· Experienced management team has proven successful in increasing revenue and margins since the IPO in 2013
· Good capital allocation strategy: M&A and capex spending have lifted sales and improved profitability
$ZTS.US
[category earnings] [tag ZTS]
Julie S. Praline
Director, Equity Analyst
Direct: 617.226.0025
Fax: 617.523.8118
Crestwood Advisors
One Liberty Square
Suite 500
Boston, MA 02109
Key Takeaways:
1. Earnings results better than expected and guidance was in-line, the stock is down because management indicated on the call that the same macro-economic factors they outlined a quarter ago continue to impact end customer spending. They continue to see elongated deal closures and scaled down or deferred projects.
2. While weakening business confidence and a resultant slowdown in enterprise spending is a headwind for them, the secular drivers that Cisco stands to benefit from are still early stages and a looming tailwind and thus not offsetting the current macro weakness they are seeing.
3. Their business transformation continues as their revenue mix shifts more toward more software and subscription.
Current Price: $47 Target Price: $63
Position size: 4.5% TTM Performance: -1%
CSCO reported better than expected Q2 results, beating on revenue (-3.5% YoY) and EPS and guided in-line with consensus. Q3 Revenue growth guided to -1.5% to -3.5%. Their higher mix of subscriptions is negatively impacting the top line by ~100bps. The weakness this quarter was attributed to a continuation of the weak macro environment they discussed last quarter, not company-specific issues. In August they first talked of early signs of macro weakness. That trend increased over the fall and has continued. Similar to other companies, management points to declining business confidence from uncertainties related to a US/China Trade War, Brexit, pending election year, conflict in Hong Kong and now the Coronavirus. While a slowdown in enterprise spending is a headwind for them, the secular drivers that Cisco stands to benefit from are intact. Long-term, Cisco stands to benefit from a product refresh cycle and evolving network demands that ultimately are driven by increasing data traffic. With rising data traffic, technologies are changing (5G, IoT, WiFi 6, AI) and networks are becoming more complex – Cisco’s products help companies solve for that by helping them simplify, automate, and secure their infrastructure. The difficult thing for Cisco right now is that these technologies are still early stages and still a looming benefit and thus not offsetting the current macro weakness they are seeing. Forward FCF yield is ~7%, and is supported by an increasingly stable recurring revenue business model and rising FCF margins. Their capital return program should limit downside – buying back shares and the 3% dividend yield that’s easily covered helps provide a floor.
Thesis intact, highlights from the quarter:
· Guidance was in-line, and they tend to guide conservatively. They don’t miss relative to the quarterly expectations they set for themselves. They have hit (or beat) their guided top line sales numbers in 51 of the past 52 quarters. This suggests that the weakness the have been seeing may be turning a corner given sales guided -2.5% at the midpoint (w/ -100bps impact from transition to subscription). This should improve as the year progresses and they lap easier compares (which have been especially difficult this quarter and last quarter).
· Order trends were broadly weaker as sales cycles elongated. Management again talked about smaller deal sizes and longer approval processes across industries.
· Product mix continues to improve with more software/subscription. By year end, they target 50% of their revenue to be from software and services. Subscription revenue was 72% of total software revenue, up 7pts YoY.
· Operating margins improved, benefitting from the positive impact of rising software mix. This transition will continue to drive an upward trend in CSCO’s margins over the next several years.
· By segment: Security was the strongest segment (+9% YoY) Infrastructure Platforms was the weakest (-8% YoY) segment, again driven by Service Provider routing. This should improve as Service Providers begin to build out the core of their networks for 5G. Management commented on the continued strength in the ramp of key new products – Catalyst 9000 and Nexus 9000 (both sold w/ 3-5yr software agreements). Service revenue was up 5%, driven by software and solution support.
· By end markets: Public sector was flat, enterprise was -7%, commercial was -4% and service provider was -11%.
· By geography: Americas was down 8%, EMEA was down 1% and APJC was down 4%. Total emerging markets were down 7% with the BRICS plus Mexico were down 20%.
Valuation:
· They have a 3% dividend yield which is easily covered by their FCF.
· Capital allocation strategy of returning a minimum of 50% of their FCF to shareholders annually through share repurchases and dividends. Their annual dividend is $6B.
· Forward FCF yield is ~7%, and is supported by an increasingly stable recurring revenue business model and rising FCF margins.
· The company trades on a hardware multiple, but the multiple should expand as they keep evolving to a software, recurring revenue model. Hardware trades on a lower multiple because it is lower margin, more cyclical and more capital intensive.
Thesis on Cisco:
· Industry leader in strong secular growth markets: video usage, virtualization and internet traffic.
· Cisco is the leader in enterprise switching and service provider routing and one of the few vendors that can offer end-to-end networking solutions.
· Significant net cash position and strong cash generation provide substantial resources for CSCO to develop and/or acquire new technology in high-growth markets and also return capital to shareholders.
· Cisco has taken significant steps to restructure the business which has helped reaccelerate growth and stabilize margins.
$CSCO.US
[tag CSCO]
[category earnings]
Sarah Kanwal
Equity Analyst, Director
Direct: 617.226.0022
Fax: 617.523.8118
Crestwood Advisors
One Liberty Square, Suite 500
Boston, MA 02109
PLEASE NOTE!
We moved! Please note our new location above!
Key Takeaways:
· Slow down continues in short-cycle business but had some stabilization in North America
· The Fortive Business System (concept of continuous improvement) has proven its value with margin expansion despite the top line slow down
· The filing for the IPO of Vontier is targeted for Q1 2020 but the management team wants to do things when time is right
· We still see upside to the current company, but we’ll have to re-evaluate the stock once we get more information on the 2 entities later this year
[more]
Current Price: $78.5 Price Target: $86 (updated last quarter)
Position Size: 2.27% 1-year performance: +4.6%
Fortive released its 4Q19 earnings, with core sales growth of 0.4% (+14% reported due to recent acquisitions), a continuation of prior quarters slow down. But Fortive showed its strength in leveraging the business even with slower sales: margins expanded 60bps (+150bps excluding recent M&A) and EPS increased 13%. FCF also increased this quarter, up 17% y/y.
The short-cycle businesses continue to face a slowdown (Fluke & Tektronix) in China and Western Europe but North America is stabilizing. The retail fueling upgrade continues to grow in the US (with an October 2020 deadline to convert the stations to the chip enabled payment centers). Their GVR business is gaining traction in installing EV- charging stations in its legacy client base. And at Matco, new products introduction is driving sales growth in the MSD rate.
The management team introduced its 2020 guidance:
· Core Revenue Growth (Y/Y): low single digits
· Core operating margin: +50bps
· Adjusted Operating Margins: ~22%
· Adjusted Diluted EPS: $3.68 to $3.78 (+6% to +9%)
· The coronavirus is expected to have a minus impact ($0.02/share) in Q1
By the end of 2020, Fortive will separate into 2 companies: Fortive (the industrial technology company) and Vontier (the retail and commercial fueling, fleet management, and automotive service and repair solutions). So far, FTV has accomplished the following steps towards the split: announced key members of the senior management team, launched the brand, and made progress against other significant milestones over the past few months.
FTV Thesis:
– Market leader:
· Leadership position in most of the markets they serve
· Experienced leadership team
· Above industry margins with strong cash flows
– Quality:
· FCF yield ~5%
· Organic growth target of 3-3.5% (4-5% in last 2 quarters after being under the target in prior quarters)
· M&A strategy to enhance top line growth
· Margins expansion from new products introduction, continued application of the Fortive Business Systems and M&A integration
– Shareholder friendly:
· Management team focused on shareholder wealth creation through top line sustainability and margin expansion
$FTV.US
Category: earnings
Tag: FTV
Julie S. Praline
Director, Equity Analyst
Direct: 617.226.0025
Fax: 617.523.8118
Crestwood Advisors
One Liberty Square
Suite 500
Boston, MA 02109
