Month: February 2022

Key Takeaways: I recommend trimming CVS by 1% following a strong year of performance. FY22 should see lower FCF (some pull forward into 4Q21) due to lower covid-19 positive impact on pharmacy, so I prefer lowering our active exposure. We are adding the proceeds to SYNH where I see higher upside, after a pullback in the name YTD.

Current Price: $105                            Price Target: $118

Position Size: 2.65%                          1-year Performance: +50%

CVS reported 4Q21 earnings this morning with EPS largely ahead of consensus, up 52.3% y/y and revenue growth of 10.6% reflecting growth across all segments. Health Care Benefits grew 10%, with medical memberships growing 1.7% (driven by government contracts up 7.7%). Pharmacy services grew 8.2%, thanks to 8.2% growth in claims, specialty pharmacy (+12%) and brand inflation. The Retail/Long-term care segment grew 12.7%, helped by front store volume growth & covid-19 vaccinations/testing, while reimbursement pressure continues. Their retail pharmacy market share (based on total scripts) grew 60bps y/y (now 26.7%). Overall CVS benefitted from the Omicron surge as Q4 saw strong vaccine & testing demand ($1.2B in sales in Q4 alone), which we don’t expect to continue at this time. On the other side, a reduction in sickness will help their Health care benefits segment with lower expenses.

Regarding the civil investigative demand received January 2022 from the DOJ on pharmacy practices around opioid prescriptions, CVS defended itself by saying they were filling up prescriptions written by doctors…

CEO quote: “our stance here is very similar to where it’s been all along. Our fundamental position is that these prescriptions were written by doctors, not pharmacists. We did not manufacture or market these. And the healthcare system does rely on pharmacists to fill legitimate prescriptions that doctors are deeming necessary. So, based on that, we strongly disagree with the recent Court decision in Ohio. And we look forward to appeal a Court review of that case. And I’ll remind you there that was a ruling on liability only, not on damages”

 

FY22 guidance update from December investor day since we now have 2021 numbers to compare:

·       Revenue growth 4%-6%

·       Adjusted EPS $8.10-$8.30 (consensus at $8.27)

·       CFO $12-$13B – was reduced by $0.5B from previous guidance on the lower end due to timing of collection in 2021 from 2022

CVS expects COVID-19 vaccine volume to decline 70-80% from 2021 levels and covid testing to decline 40-50%, not surprising as we move further away from the pandemic into an endemic situation. This assumes no 4^th booster shot to be done.

CVS will be adding another business to its portfolio over time, adding primary care groups through M&A. The CEO is looking for regional or national groups who can handle the complexity of Medicare patients. CVS will be looking for teams to add that have a solid management team that they can retain through the merger, with a clear pathway to profitability. And while primary care is their focus right now, home health follows on the list of potential adds over time.

 

 

Thesis on CVS

• Market leader: largest pharmacy benefit manager (PBM) in the US. This gives CVS scale advantage and negotiating power with pharma companies to obtain better drug pricing discounts. Also the largest US pharmacy retailer, giving it more touch points with consumers/patients. Finally, market share leader in long-term care pharmacy sector thanks to its Omnicare acquisition.
• Aetna acquisition makes it vertically integrated.
• Stable and predictable top line and margin profile. CVS benefits from an ageing population in increasing needs of prescription drugs.
• shareholder friendly, offering a 7% shareholder yield (5% share repurchase + 2.6% dividend yield)

 

$CVS.US

Category: earnings

tag: CVS

 

 

Julie S. Praline

Director, Equity Analyst

 

Direct: 617.226.0025

Fax: 617.523.8118

 

Crestwood Advisors

One Liberty Square

Suite 500

Boston, MA 02109

 

www.crestwoodadvisors.com

 

On 1/28, Schwab hosted their Winter Update detailing quarterly earnings and outlook.  Schwab Q4 were excellent showing continued strong asset growth and good expense control.

• Strong new asset growth of 8% – $550b for 2021, showing strength of Schwab’s platform
• Profitable franchise – pre-tax margin of 47.5% and ROTE of 22%
• Earnings are highly levered to short-term interest rates – 25 basis point increase in Feds Funds rate will increase earnings 4%-5% over following 12 months!

 

Current Price: $91.9                         Price Target: $105 (increased from $90)

Position Size:   2.53%                       Performance TTM: 68.2%

 

Schwab is building scale and platform as a premier asset gather. 

• Total client assets of $8.1t
• Active brokerage accounts 33.2m
• 200%+ increase of net flows into Schwab fund products and managed solutions

 

Delivered record financial results

 

 

Expenses

• Expected to grow 6%-7% in 2022 of which 3.5%-4.0% for integration-driven hardware and software build.
• Through merger with TD Ameritrade, SCHW expects $1.8b-$2.0b in expense savings over next 3 years, which equates to ~20% of total expenses.

 

Profitability – industry leader

• Adjusted ROE of 22% and pre-tax profit margin of 47.5%.  Expect margins to continue to expand over the next 2-3 years due to cost savings and scale from the mergers
• Current expenses are elevated due to mergers

 

Capital allocation

• Schwab plans to build capital on the balance sheet due to rising deposits and mergers, which may temper share buybacks.
• Dividend yield of 0.75%

 

Schwab Thesis:

 

• Expect Schwab’s vertically integrated business model to drive AUM growth.  Schwab has averaged 6% organic core net new asset growth as retail clients and advisors are attracted to Schwab’s low-cost trading and custody services.
• Conservative, well-managed firm who is a leader in online trading and focused on leveraging platform. 
• Schwab has experience material AUM growth with USAA and TD Ameritrade mergers.  Expect SCHW to reduce costs and continue to leverage platform.

 

Please let me know if you have questions.

Thanks,

John

 

[category Equity Earnings]

[tag SCHW]

$SCHW.US

 

John R. Ingram CFA

Chief Investment Officer

Partner

 

Direct: 617.226.0021

Fax: 617.523.8118

 

Crestwood Advisors

One Liberty Square

Suite 500

Boston, MA 02109

www.crestwoodadvisors.com

 

Key takeaways:

 

Current Price: $90                     Price Target: $114 NEW  

Position Size: 2.63%                 1-year Performance: -8%

 

Xylem reported its 4Q 2021 earnings yesterday. Organic revenue declined 3% due to delays from supply chain impacting the Utilities end market. Organic orders were up +23% and backlog up +55%. On the margin front, inflation had a 560bps negative impact, while productivity added 310bps and pricing +200bps. The global chip shortage will continue to impact their business, especially the highest margin digital products business (microcontrollers – difficult to substitute), which is embedded in their 2022 outlook. Their secured chip supply is only 50% of current needs, but we should expect this to improve to 75% as we move through the year. So far Xylem has not experienced cancelled orders due to delay delivery, and end-markets demand remains healthy. A sign that the management team sees this disruption as temporary is the increase of their dividend by 7%. While we understand why the stock traded down on the soft (and prudent) guidance, we don’t think the long-term story has changed, and we like having exposure to the “clean water” theme in our portfolio. We reduced the price target a bit to account for risks in the supply chain/chip recovery timing.

 

Organic growth by end-markets:

• Utilities: -9%
• Industrial: +7%
• Commercial: +1%
• Residential: -4%

 

Organic growth by regions:

• US: -5%
• Emerging markets: flat
• Western Europe: +1%

 

2022 initial guidance:

• Organic sales +3-5%
• Water Infrastructure up mid-single digits
• Applied Water up mid-single digits
• Measurement & Control flat
• Adjusted EBITDA margin -100bps to flat

 

 

 

 

Xylem’s investment thesis is:

 

• Xylem has strong sustainable secular growth drivers in a fragmented industry:
• Access to clean water is a necessity
• Population growth & urbanization
• Aging infrastructure

 

• More defensive sales base thanks to:
• 50% of sales to utility sector
• sticky client base due to high switching costs
• high level of replacement parts demand
• Long-term contracts with ½ of the revenue base recurring

 

• Margin expansion overtime from productivity efforts

 

• M&A strategy has increased their scope in the water cycle

 

• Valuation is attractive today

 

XYL.US

Category: earnings

Tag: XYL

 

 

 

Julie S. Praline

Director, Equity Analyst

 

Direct: 617.226.0025

Fax: 617.523.8118

 

Crestwood Advisors

One Liberty Square

Suite 500

Boston, MA 02109

 

www.crestwoodadvisors.com

 

Key Takeaways:

Overall we think the stock move yesterday was overdone, in light of results that were ok for 4Q (with miss due to delayed collection of sales) and FY22 guidance in line with long-term objectives. Fortive showed some strength in its business model, with the ability to grow operating margins in 2021 by 190bps while most companies suffered from inflation.

 

Current Price: $66                          Price Target: $88   

Position Size: 1.90%                       1-year performance: 0%

 

 

Fortive (FTV) reported 4Q FY21 earnings yesterday. Largely due to continued supply chain constraints and the unexpected surge of Omicron, FTV missed on revenue (+1% vs 4-6% guide due to delayed sales) although adjusted operating margins expanded 210bps to 24.4%, a good indicator of the company’s flexibility and pricing power, something they have always talked about but that we can see playing out during hard times.

• Organic revenue growth of +1.0% (+3.8% total growth)

o   Segments detail:

Ø  Advanced Healthcare Solution -0.8% organic (25% of revenue): Consumables were down, yet seeing strong momentum from growth investments and pricing actions

Ø  Precision Technologies +2.6% organic (35% of revenue): Some shipment challenges hindered growth, but was outweighed by strong demand and orders

Ø  Intelligent Operating Solutions +0.8% organic (40% of revenue): Strong growth and momentum in orders, retention, and bookings

• Software-as-a-service grew low-20%: FTV is building scale and differentiation with its software offerings: bookings were up over 100% with continued strength in improved up-selling, cross-selling, and adding new customers. Expecting revenue to grow to roughly $950M in 2022.
• Adjusted operating margin 24.4%, +210bps: strong software demand, continued evolution of products, the acquisition of Provation, and robust expansion across all segments helped increase operating margin
• Even with continued supply chain constraints, management is expecting strong, sustainable organic growth and margin expansion due to high customer demand, secular tailwinds, and record backlog
• Maintaining capacity (~$5b) for M&A activity over the next 3 years – increasing assets increases FTV’s value proposition and positions within each segment

 

2022 guidance updated: expecting supply chain constraints to continue, but continued strengthening of orders, price realization, and software growth will help to more than offset disruptions

• Organic sales growth 5.5-8.5%: Fortive expects ramping up from ~3% in Q1 to ~10% in 4Q, with strong order book giving some assurance there. Recurring revenue are expected to be a bigger part of the mix, going from 38% in 2021 to 40% in 2022. Total sales growth guidance of 9-12%
• Adjusted gross margins of ~59% at the mid-point (from 57.4% in 2021)
• Adjusted operating margins at 24-24.5%, expanding 90-140bps from volume recovery, pricing action and continues performance initiatives
• 2022 guidance for adjusted EPS $3.00-$3.13, up 9-14% y/y
• Anticipating strong free cash flow (20% FCF margin), with ~25% growth expected this year

 

Where could they outperform? I think their assumptions on the healthcare sector is conservative (no growth in elective procedures in 2022 from 2021). Supply chain constraints could ease faster than expected (they expect constraints throughout 2022).

 

Aside from earnings results, Fortive has provided an update on the ESG front. Overall data provided looks good vs. peers especially on the emissions reduction targets and diversity (board, supplier program).

 

 

Thanks,

 

Julie & Micah

 

 

 

FTV Thesis:

• Market leader:
• Leadership position in most of the markets they serve
• Experienced leadership team
• Above industry margins with strong cash flows
• Quality:
• Estimated 2022 FCF yield ~5%
• Organic growth target of 1.5-4.5%
• 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
• Aiming to reduce GHG by 50% by 2025 (compared to 2017 levels)

$

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

 

www.crestwoodadvisors.com

 

Key Takeaways:

 

Current Price: $195                   Price Target: $280

Position Size: 2.41%                 1-year Performance: +0%

 

 

Honeywell reported 4Q21 earnings this morning. Organic sales were down 2%, with segments as follow:

• Aerospace -3% (commercial aerospace was positive but defense -18%). Defense decline was driven by semiconductor, labor and supply chain issues
• Performance Materials +2%
• Building -1%: decline due to supply chain issues but also lower project volume
• Safety -6% due to lower masks sales and Intelligrated contracts
• Supply chain issues reduced sales in Q4 by `150bps

Margins missed expectations due to Safety & Productivity segment margin decrease of 450bps y/y, although Aerospace (+140bps) and Performance Materials (+430bps) were strong.

 

Honeywell will have its Analyst Day in March, and we think they will provide more color on each segment’s growth drivers. Honeywell has many moving parts within its business, and we don’t expect all of them to go upward at the same time. It is reassuring to see Aerospace recovery (although below expectations).

 

CFO quotes:

• “the backdrop for 2022 does have a number of uncertainties in it, the ongoing global pandemic, continued supply chain constraints, accelerated inflation and labor market challenges”.
• “we continue to see promising signs of recovery unfolds as well as encouraging wins in our key markets”

 

 

FY22 guidance:

• Organic sales growth of 4-7% – with pricing of +4% (market leader indicator) – On the volume side: we think the lower end of guidance at 0% volume growth is disappointing – while 3% seems good at this point of the recovery
• The CEO commented on masks sales in light of guidance as a “bunch of noise” in the first half… overall for the year masks sales are adding 1% growth to top line
• “So we came out with a guidance that I think is fair. I don’t know if you want to call it aggressive or conservative, but it does assume a pretty good step-up in the second half, probably not inconsistent with some of those peers. But what none of us know, and that includes Honeywell and others is, exactly what will happen in the second half. So we’ve built in a ramp, but we also feel like it’s a ramp that can be met. So, we’ll — and we’ll adjust as we go through the year.”

 

 

 

• Operating margin is expected to increase 10-50bps (or 40-80bps if they exclude the Quantum computing investments) – this is reassuring to see expansion above current levels, although guidance came below consensus numbers as HON continues to invest in Quantum:
• Quantum computing (“Quantinuum”) should bring in $20m in revenue this year, with a target of $2B in 2026
• The stock is down today as FY22 guidance is lower than the already lowered EPS expectations. The $8.40-$8.70 guide implies a 4-8% EPS growth, below consensus. Most expected 2022 to see the start of the recovery from supply chain issues.
• FCF $4.7B-$5.1B, below expectations of $5.99B. HON continues investing in key growth projects such as Quantum, that will eventually bring in revenues.

 

Overall, this past quarter was soft, as expected from prior comments made by the company and 2022 guidance is embedding some uncertainties in supply chain recovery in 2H, as should be. However, we still think Honeywell long-term thesis is intact, and would take advantage to today’s weakness and add to the position in accounts with a lower position than the model.

 

 

 

 

 

Investment thesis:

 

Secular growth drivers:

A/ Aerospace segment recovery near-term, remains long-term growth driver

1. Air travel recovery
2. Defense exposure provides stability

B/ Tech within Industrial: leveraging its industrial base to build a connected software platform creates a leading market position & increase resiliency across market cycles

1. Quantum Computer
2. Connected Enterprise
3. Automation / integrated supply chain
4. Digital/Cybersecurity

C/ Sustainability focus: increasing demand from customers for solutions that enhance sustainability

1. Sustainable fuel
2. Electric/hybrid aircrafts – partnership with various OEM
3. Plastic recycling
4. Sustainable Buildings

 

Tag: HON

category: earnings

$HON.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

 

www.crestwoodadvisors.com

 

Current Price: $2,977    Price Target: $3,450

Position Size: 4.8%         TTM Performance:+64%

 

Key Takeaways:

• Better than expected revenues (+33%) and operating income (+40%). Search and Google Cloud Platform (“GCP”) were key bright spots while YouTube ad growth was a little weaker than expected.
• Digital ad spending continues to surge – saw broad-based strength in advertiser spend, particularly w/ retailers
• Cloud strength continues – was +45%, margins improving
• Ramping spending on Capex  and headcount – continuing to pick up the pace of investment in office facilities and data centers. Saw a 6,500 increase in headcount. The biggest they’ve seen in any quarter ever. “The majority were again in technical roles”…”we do continue to be a magnet for great talent.”
• Declared a 20-for-1 stock split to go into effect on 7/15. “The reason for the split is it makes our shares more accessible.”

 

Quote…

• “we are definitely looking at blockchain and such an interesting and powerful technology with broad applications, so much broader again than any one application. So, as a company, we are looking at how we might contribute to the ecosystem and add value. Just one example, our cloud team is looking at how they can support our customers’ needs in building, transacting, storing value, and deploying new products on blockchain based platform.”

Big focus on Retail/e-commerce continues again this call…

• “I’ve said it before, I’ll say it again, the future of retail is omnichannel..”
• “On 80% of searches, actually we show no top ads and most of the ads that you see are on searches with commercial intent”
• Goldman: they are “uniquely positioned to capitalize on the blurring of the lines between advertising, commerce and media consumption business models in the years ahead.”
• Omnichannel and next-gen user experiences are core to their shopping strategy, including:
• Easier ways for businesses to show the local services they offer across Search and Maps.
• Free shipping and easy return annotations across Search and Shopping.
• AR capabilities that bring in-store moments online and let users try before they buy.
• Instantly shoppable images with Google Lens.
• New visual, browsable experience on Search.
• Early innings w/ e-commerce potential w/ YouTube (see below)
• Local inventory ads that highlights which products are in-stock and when to pick them up.
• Global searches for “gift shops near me” jumped 60% year-over-year in October, with searches for “gifts near me” up 70% in Google Maps. People increasingly want to know what’s available nearby before they get to the store. Their new in-stock filter helps with that – shoppers can find local stores that carry the products they want, right from Search.

Heavy focus on AI capabilities again on the call which is relevant across segments – AI enhances search and their ad offerings and GCP customers can tap into their AI expertise as a service.

“Search & Other” revenue: $43B, up 25%

• Retail was again by far the largest contributor to the YoY growth of their Ads business.
• Media & entertainment, Finance and Travel were also strong contributors.

YouTube ad sales: $8.6B, up +43% YoY

• Strong value proposition to advertisers & positioned to capture the shift in advertising away from linear TV
• “YouTube’s reach is becoming increasingly incremental to TV”
• YouTube helps advertisers reach audiences they can’t reach anywhere else (especially younger audiences) and helping brands do it more efficiently
• Nielsen found that US advertisers who shifted just 20% of spend from TV to YouTube generated a 25% increase to the total campaign reach within their target audience while lowering the cost per reach point by almost 20%.
• E-commerce potential: ” There’s a lot more to come…including tapping into commerce on YouTube“. They are still in the early innings w/ e-commerce potential w/ YouTube. Possibilities include: shoppable livestream events w/ large retailers or letting viewers buy directly from their favorite creators’ videos.

Network ad revenues: $9.3B, up 26%. This is revenue from ads placed on sites other than their own, like an ad placed on the NYT site.

Other revenues: $8.2 billion, up 22%

• Driven primarily by growth in hardware, which benefited from the successful launch of the Pixel 6 and Pixel 6 Pro
• Also includes Fitbit revenues and YouTube non-advertising revenues

Google cloud = Google Cloud Platform (“GCP”) + Google Workspace (i.e. collaboration tools):

• Revenue grew 45% YoY to $5.5B; backlog increased more than 70% to $51 billion
• GCP’s revenue growth was again above Cloud overall, reflecting significant growth in both infrastructure and platform services.

Other Bets

• For the full year, revenues were $753 million and the operating loss was $5.3B versus an operating loss of $4.5B in 2020.
• October marked the one year anniversary of “Waymo One” fully autonomous commercial ride-hailing service in Arizona
• Waymo Via continues delivering freight into the Southwest U.S.

ESG:

• They aim to operate on 24-7 carbon free energy by 2030
• New Carbon Footprint tool gives customers carbon emissions insights associated with their Google Cloud Platform usage

 

Valuation – They generated $67B in FCF in the last 12 mos. and ended the quarter with $111B in net cash, >5% of their market cap. The stock is still reasonably valued, trading at a >4% FCF yield on 2022 and they‘ve been stepping up their pace of buybacks. They repurchased $50B in shares in 2021.

 

 

 

 

Sarah Kanwal

Equity Analyst, Director

 

Direct: 617.226.0022

Fax: 617.523.8118

 

Crestwood Advisors

One Liberty Square, Suite 500

Boston, MA 02109

www.crestwoodadvisors.com

 

Key Takeaways: I recommend adding to ST on stock weakness today in accounts that have a smaller position in ST. Long term thesis remains, with attractive long term secular growth drivers and attractive valuation.

 

Current Price: $56                   Price Target: $75 NEW ($61)

Position Size: 1.57%               1-year Performance: +4%

 

Sensata released their 4Q21 earnings report this morning: top line came above expectations, but guidance for margins in FY22 is below top line growth, not surprising considering the inflationary environment, but causing the stock to underperform the market today.

 

• Sales were +3.1% overall (-0.9% organic), with growth by segments as follow:
• Automotive organic sales -12%: ST outgrew the market by 520bps – revenue decline due to OEM production reductions (supply chain constraints)
• HVOR organic revenue +16% y/y: outgrew the market by 1,700bps
• Aerospace sales -1% with 790bps market outgrowth
• Industrials sales up +16% with 850bps market outgrowth – due to HVAC market recovery and launch of new products around electrification needs
• The electrification theme is a big growth driver for Sensata, with the potential to generate $1B in revenue in a few years, in areas such as electric vehicles, heavy vehicles, and clean energy demand

·       As forecasted last quarter, supply chain constraints were higher in 4Q vs prior quarters

·       Adjusted EPS grew 2.4% y/y

·       Net leverage ratio is 2.8x and expected to be 2.2X by year end

·       New buyback authorization of $500M. $48M of shar ebuyback was done in Q4

 

2022 initial guidance:

• Sales up +6% to +10% organically
• End market growth ~4% overall
• OEM production outlook for 2022:
• Auto production +7%
• The aerospace sector +7%
• Industrial -1%
• HVOR flat
• 90 bps impact on margin from increased R&D spending
• Higher labor costs and raw materials will impact earnings in FY22
• EPS $ 3.80 to $4.06 is $0.11 below the Street expectations

 

While FCF was lower this past quarter, we expect a rebound in the coming year as supply chain issues resolve themselves and demand for ST products continue to outperform the market. Below is a graph of Sensata revenue and FCF from 2016-2021 and 2022-2025 expectations -clearly on a growth trajectory from all the recent investments in growth areas (example: electrification of cars):

 

  

 

 

 

The Thesis on Sensata

• Sensata has a clear revenue growth strategy (content growth + bolt-on M&A)
• ST is diversifying its end markets exposure away from the cyclical auto sector over time through acquisitions, also expanding its addressable market size
• ST is a consolidator in a fragmented industry and still has room to acquire businesses
• Margins should expand as the integration of the prior two deals is under way, regardless of top line growth, and efficiencies in manufacturing are continuously pursued as they are gaining scale
• ST is deleveraging its balance sheet post acquisitions, leaving room for future M&A or a return to share buybacks, and improving EPS growth

 

 

Tag: ST

category: earnings

$ST.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

 

www.crestwoodadvisors.com