Author: Sarah Kanwal

Current Price: $35 Price Target: $43

Position Size: 2% TTM Performance: -11%

Aramark missed consensus, but the stock was up on strong organic growth and solid margins. They will update 2019 guidance at their investor day in a few weeks.

Key Takeaways:

· Aramark reported 4Q18 earnings, missing on the top and bottom line, though full year adj. EPS of $2.25 was at the midpoint of their guidance.

· Despite the miss, the stock was up because the organic growth was strong and they hit their margin target. The miss was largely driven by currency and the negative impact of natural disasters – mostly wildfire related.

· Constant currency sales grew 8% in the quarter. This increase was composed of 5% from acquisitions (about three quarters of which was from AmeriPride) with the remaining 3% growth generated by their legacy business.

· Last quarter they raised organic revenue growth guidance from 3% to 3.5% and they delivered. The Q4 +3% organic growth put full yr. organic growth at 3.4%

· Heading into the 2nd half of the year, guidance was heavily back-half weighted.

· Excluding natural disasters and currency, they hit their target of 100bps operating margin improvement that they set at their investor day in 2015. They did this through reductions in food, labor and SG&A expense.

· They have their next investor day coming up on December 11. Management is not providing specific guidance until then.

· Retention rate remains strong in mid-90’s.

Continue reading “Aramark 4Q18 Earnings Update”

Current Price: $2,007 Price Target: $2,400

Position Size: 2.5% TTM Performance: 20%

· Key Takeaways:

1. Beat on revenue, missed on EPS. Miss driven largely by higher ad spend.

2. Strong Q3 room night growth of 13%, well ahead of guidance.

3. Strong Q4 guidance for room nights, revenue and EPS.

4. Increased ad spend helped re-accelerate growth.

· Bookings of $24.3B were better than expected (+14% constant currency) and an acceleration from last quarter. This is important as bookings guidance was a disappointment last quarter. Management blamed weak trends on the World Cup and unseasonably warm weather in Europe. They saw an acceleration after they reported 2Q results.

· Part of the disappointment last quarter was weak room growth that was somewhat self-inflicted. Room night growth slowed previously due to reduced programmatic ad spend….and maybe some weather like they said. They’ve since increased ad spend (which contributed to the EPS miss). Ad spend has been part of their engine of growth and their ability to spend at scale has enabled their success. They spend back more than a third of their revenue on advertising. That’s over $4B. Expedia does the same thing. They have been trying to “optimize” this for several quarters by spending less on performance advertising (e.g. Google AdWords) and more on brand advertising (e.g. TV commercials). The idea is that brand advertising drives direct traffic to their site, resulting in a higher ROI. This ad spend/rev growth algorithm will continue to be a focus going forward as clearly the relationship between growth and spend persists and their ability to shift to “higher ROI” ad spend still isn’t clear.

· The good news is direct channel mix did increase (now ~50% of booked room nights). Probably not a coincidence that they now say over 50% of their bookings come from mobile devices, as mobile traffic is more likely to be direct (via app).

· Merchant revenues are growing faster than agency revenues. With merchant revs they get paid up front for the full cost of travel and hold onto the cash until remitted to the hotel/home owner (less their fee) at the travel date. Revenues from their growing home rentals business (competes w/ Airbnb) are primarily driving this as they’re booked as merchant revs. This dynamic drives a growing negative cash cycle which benefits their FCF. So, as this business grows this will be a tailwind to FCF.

· They continue to work on a local experience product through both organic investment and acquisitions (FareHarbor).

Continue reading “Booking Holdings 3Q Earnings Update”

Apple reported good numbers for Q4, but disappointed on guidance and indicated they would stop reporting unit numbers. As consolation for the reduced disclosure, they are going to start reporting gross margins on Products and Services separately. They beat on top and bottom line and units were basically in-line with expectations. Revenues were $63B, up 20% and EPS was $2.91 (vs street $2.78), +41% YoY. All regions posted double digit growth.

Key Takeaways:

· The selloff today is because of guidance and the reduced/changed disclosure. Q1 (calendar Q4) is their seasonally biggest quarter and typically accounts for 35-36% of annual revenues.

o Weak guidance: Street is at the high end of 1Q19 revenue guidance. Guidance blamed on Fx ($2B headwind) and “macroeconomic uncertainty particularly in emerging markets.” Gross margin guidance was also weaker. The midpoint of rev and GM guidance would put 1Q19 gross profit about $1B shy of expectations.Weaker guidance may be conservative given growing mix of services and falling NAND (memory) prices.

o No more unit numbers: This is a little disappointing, especially given slowing global smartphone unit sales. Whenever a company reduces disclosures it’s viewed as a bad thing. Apple has historically reported units for iPhone, iPad and Mac. This also allows for ASP calculation. So going forward we’ll have neither of those.

o Gross Margin disclosure – this could be a silver lining to their disclosure changes if Services are more profitable than expected. This is especially true given Services are expected to be the new leg of growth.

· Weak iPad numbers, but they gained share. Also, not surprising given pending new product launches.

· Apple’s iPhone pricing power is strong with an average selling price (ASP) of $793 (much better than expected). That’s a 28% increase YoY and 10% increase sequentially. This is key as units were only up 0.5% for the year. So, iPhone revenues, which were up 18% for FY18, were basically driven entirely by higher ASPs. iPhones are about 63% of total revenues.

· Apple is taking share in smartphone units – 2018 should be the 2nd year in a row of global unit declines in smartphones. Calendar YTD Apple iPhone units are up 1.4%.

o In Q3 smartphone vendors shipped 355.2m smartphones, down 6% from the 377.8m units in Q3 2017.

o Apple gained 80bps of share, Samsung lost 180bps and Huawei gained 420bps.

o Huawei overtook Apple as #2 for Q3. However, Apple typically wins calendar Q4, while Samsung typically dominates the first three quarters of the year (but they’ve been ceding share to Huawei this year).

Valuation:

• Strong balance sheet and FCF generation continue. $123B in net cash. 2018 FCF was $64B.
• The stock is undervalued and the substantial buyback will support valuation. Trading at close to a 1.4% dividend yield, a 6.6% FCF yield and a 15.3x P/E.
• Returned almost $90 billion to investors during the year, including $73B in share repurchases and $14B in dividends.

The Thesis for Apple:

• One of the world’s strongest consumer brands and best innovators whose product demand

has proven recession resistant.

• Halo effect -> multiplication of revenue streams: AAPL products act as revenue drivers

throughout portfolio – iPhone, iPod, MacBooks, iPad > iTunes, Apps, Software, Accessories,

• Mac gaining share in PC market and iPhone robust global demand driven by China/EM.
• Strong Balance and cash flow generation.
• Increasing returns to shareholders via dividends and buybacks.

$AAPL.US

[tag AAPL]

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

· They missed slightly on top line, beat on EPS and reiterated full year guidance. The street is at the high end of their guidance for the year. Revenues were up 7% and EPS was up 38%.

· Data analytics segment (~15% of revenue) revenues were up 2% an improvement from down 4% last quarter. YTD segment revenues are flat, though growth going forward in this segment is targeted at ~3-5%.

· Software Solutions segment (~85% of revenue) was up 7% driven by loan growth, higher average revenue per loan and cross-sales to existing clients.

o Within this segment servicing (~75% of revenue) grew 7%. This is steadier than their originations revenue. They continue to dominate first lien loans with 62% share and are growing share in second lien loans. They have high-teens share of second lien and expect to reach 30% once current commitments are implemented.

o Originations (~10% of total revs), which is made up of new loans and refi’s, grew 8%. Refinancing, down 28%, continues to be negatively impacted by rising rates.

o Margins expanded 230bps.

o Trends in this segment highlight a dynamic weighing on US housing statistics. The issue is a lock-in effect from lower mortgage rates. Homeowners have mortgage rates lower than prevailing rates making them less likely to sell as it would mean taking out a new mortgage at a higher rate. This is decreasing housing inventory and existing home sales. The average length of homeownership tenure has been rising from around 4 years in 2000 to over 8 years now.

Continue reading “Black Knight 3Q18 Earnings”

Current Price: $142 Price Target: $160

Position Size: 3.3% TTM Performance: 25%

Visa reported a mixed Q4 with revenue slightly below the street but better than expected EPS. For FY18 revenues were +12% and EPS was +32%. Tax reform added 10 points to EPS growth. For full year, currency added 1% to top line and 1.5% to EPS. Strengthening dollar meant Fx went from a 150bps tailwind in Q3 to a 50bps headwind in Q4. They issued solid 2019 guidance in line with street. Full year revenue growth guided to up low-double-digits and EPS up mid-teens. This time last year they guided to high-single-digit revenue growth – they ended up with +12%. So incrementally more positive on outlook going into 2019. Management pointed to the US consumer being stronger than they expected. Debit growth (which skews younger and lower income) has also been stronger.

Continue reading “Visa 4Q18 Earnings Update”

Current Price: $66 Price Target: $101

Position Size: 2.5% TTM Performance: -11%

Cognizant reported mixed results for 3Q18 missing on revenue, beating on earnings and lowering their full-year revenue forecast. Similar to last quarter, lower than expected revenue was on weakness in their largest end market, financial services. A lower tax rate led to EPS that was ahead of consensus, $1.19 vs $1.13. Despite a revenue miss last quarter they maintained full year revenue guidance, but had to lower it with this report. The street is ahead of the high end of the new revenue guidance range. FY EPS guidance kept at least $4.50. Street is at $4.53.

Continue reading “Cognizant 3Q18 Earnings Results”

Current Price: $108 Price Target: $120

Position size: 5% TTM Performance: 28%

Microsoft reported a very strong quarter, easily beating on top and bottom line. Revenue was $29B (+18 YoY) vs $27.9B estimate. And EPS was $1.14 (+33% constant currency), well ahead of $0.96 estimate. Guidance was also better than expected. 2Q19 guided to revenue of +10-13%. Hybrid cloud momentum continues, cloud margins are improving and numbers getting raised since they reported. They were very positive about the overall environment. On the call management said they continue “to benefit from favorable macroeconomic and spending trends.”

Key Takeaways:

· Solid double digit growth across all 3 segments:

o Productivity and business processes grew 19%. Guided in-line with the street.

o Intelligent Cloud grew 24%. Fastest growing segment with lowest margins, but margins are expanding (+400bps YoY). Revenue guidance higher than the street.

o More Personal Computing grew 15%. Revenue guidance higher than the street. Gaming revenue increase 44%. Xbox Live monthly active users grew 8% to 57 million. Surface revenue grew 14%. Seeing continued Windows 10 traction with enterprises.

· Commercial Cloud revenue (consisting of Office 365 Commercial, Azure, Dynamics Online, and LinkedIn Commercial, so pulls from the first 2 segments) was $8.5B, +47% YoY.

o Within Commercial Cloud, Azure grew 76%. That suggests annualized revenue of about $11B.

o Azure gross margins continue to improve.

· Management expects a neutral YoY FX environment for revenue and a ~100bps headwind to COGS and operating expenses in F2Q19.

· GitHub acquisition will close by end of this year and will be included in the Intelligent Cloud segment.

· Nadella continues to try to differentiate them as the vendor enterprises can trust. In advocating for their cloud solution, he said “no customer wants to be dependent on a provider that sells them technology on one end and competes with them on the other.” A clear attempt to contract them to AWS.

Valuation:

· FCF in the quarter was $10B. Returned $6.1B to shareholders ($3.5B in dividends and $2.6B in share repurchases).

· Trading at >4% FCF yield – reasonable for a company with double digit top line growth, high ROIC and a high and improving FCF margins.

· They easily cover their 1.7% dividend, which they have been consistently growing.

· Strong balance sheet with about $136B in gross cash, and about $60B in net cash.

· Price target based on ~30% FCF margins and mid-to-high single digit top line growth.

Investment Thesis:

· Industry Leader: Global monopoly in software that has a fast growing and underappreciated cloud business.

· Product cycle tailwinds: Windows 10 and transition to Cloud (subscription revenues).

· Huge improvements in operational efficiency in recent quarters providing a significant boost to margins which should continue to amplify bottom line growth.

· Return of Capital: High FCF generation and returning significant capital to shareholders via dividends and share repurchases.

$MSFT.US

[tag MSFT]

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

Alphabet reported mixed Q318 results, they reported a slight miss on sales and beat on EPS, though operating income was lower than expected. Currency (1% drag) and traffic acquisition costs (TAC) were headwinds. Net advertising revenues were up 21% to $27.2B vs consensus $27.3B. Revenue from Google sites decelerated from 26% last quarter to 22% this quarter. Mobile search and YouTube continue to drive ad revenue. Other revenue, which includes cloud, was up 29%. This quarter follows a similar trend of rising expenses and higher capex impacting profitability as they “invest ahead of growth,” particularly, cloud, YouTube and hardware. Higher operating expenses are largely related to head count increases in R&D (tech talent) and sales & marketing. TAC was consistent with last quarter at 23% percent of revenue. TAC is the largest cost of revenue and high TAC levels have been driven by the mix shift to mobile and to programmatic.

[MORE]

Key Takeaways:

· They are seeing broad based strength in the global ad market with the US growing 20% and APAC growing 30%.

· Amazon ad business is growing ahead of expectations, though still a small percentage of share. Over 50% of product searches are initiated on Amazon…this presents a big ad opportunity for them.

· Google is experimenting with newer ad formats on Maps aimed at “local search” which they view as big opportunity.

· Capex may remain elevated, as they are “very focused on ensuring that we have the needed compute capacity to support growth.” Relative to last year, datacenter construction is an increasing % of their CapEx. They are currently developing more than 20 datacenter sites globally and spending on network infrastructure, e.g. constructing undersea cables.

· Project Stream – game streaming technology with real-time interactions. Pichai called it, “one of the most important technological advances I’ve seen in a while.”

· In the Other Bets segment, which is collectively about 1% of revenue and losing money, Waymo has been piloting driverless cars in Phoenix, AZ and is exploring applying their technology for logistics for last mile delivery solutions in cities.

Valuation:

· FCF for 2019 is expected to be $34B or about a 4.5% FCF yield.

· $102B in net cash, $145/share.

Thesis on Alphabet:

· Online advertising as a share of overall Ad budgets will continue to grow as:

o People spend more time on the internet/mobile internet vs tv, radio, newspapers etc

o Higher ROI (+ easier to measure) per marketing dollar spent online vs other ad mediums

· They are the global leader in search.

· Well positioned to benefit from increased smartphone penetration.

· Flexible business model provides operating leverage with high returns ROIC and huge free cash flow generation.

$GOOGL.US

[tag GOOGL]

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

PLEASE NOTE!

We moved! Please note our new location above!

Current Price: $372 Price Target: $480

Position Size: 2% TTM Performance: -9%

SHW missed on the top and bottom line. Revenues were $4.7B (+5%) vs consensus $4.8B. Adjusted EPS was $5.68 was below the Consensus $5.74. Excluding all acquisition-related costs and purchase accounting third quarter adjusted gross margin decreased 30bps sequentially and 130bps YoY which illustrates the fact that pricing continues to lag raw material inflation in some parts of the business. Lowered upper-end of full-year EPS guidance despite lower assumed tax rate. The Americas Group operating margin improved while the Consumer & Performance Coatings margins declined YoY. The America’s group is passing on raw materials costs more quickly, and the Consumer Group margins are being negatively impacted from costs to service the new LOW’s retail program. [MORE]

Key Takeaways:

· Revenue growth slowed from 2Q because of slower growth in:

o N. American architectural business. Paint Stores Group same store sales of +5.2% missed expectations. This is a deceleration from +6.8% last quarter, but in line with Q1. Performance in this segment is key as it drives the majority of revenue and even more of their profit. They noted a slower pace of sales growth in some end markets most notably DIY. Weather was also an impact (hurricanes).

o Sequential slowdown in industrial businesses in China.

o Unfavorable currency translation.

· The slowdown in the industrial business in China was expected given PPG’s report last week, and is less impactful to SHW than the disappointing SSS in the architectural business.

· Raw material cost pressure has been “unrelenting and accelerating.”

· During the third quarter they announced an additional price increase in the range of 4% to 6% which took effect on October 1. And they have more pricing already scheduled to roll in.

· Price increases are generally keeping up with raw material cost increases with the exception of the Performance Coatings where price increases are lagging.

· Remodeling activity may moderate next year from a mid-7% growth rate to a mid-6%. So still solid growth.

· They are not seeing moderation in their residential repaint results and more than 80% of the industry is repaint.

· They aim to reduce their leverage ratio to 3x by year end.

· Full year capex should be $265m or 1.5% of revenue.

Valuation:

· Expected free cash flow of $1.7B in 2018, trading at a 4.9% yield. Dividend yield <1%.

· Given growth prospects, steady FCF margins and high ROIC the valuation is still reasonable.

· Balance sheet is fairly levered from the Valspar acquisition, but they expect to get to 3x by the end of the year.

Thesis:

· SHW is the largest supplier of architectural coatings in the US. Sherwin-Williams has the leading market share among professional painters, who value brand, quality, and store proximity far more than their consumer (do-it-yourself) counterparts.

· Their acquisition of Valspar creates a more diversified product portfolio, greater geographic reach, and is expected to be accretive to margins and EPS. The combined company is a premier global paint and coatings provider.

· SHW is a high-quality materials company leveraged to the U.S. housing market. Current macro and business factors are supportive of demand:

o High/growing U.S. home equity values. Home equity supportive of renovations.

o Improving household formation rates off trough levels (aging millennials).

o Baby boomers increasingly preferring to hire professionals vs. DIY.

o Solid job gains and low mortgage rates support homeownership.

o Residential repainting makes up two thirds of paint volume. Homeowners view repainting as a low-cost, high-return way of increasing the value of their home, especially before putting it on the market.

$SHW.US

[tag SHW]

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