Research Blog – INTERNAL USE ONLY

Key Takeaways:

Current Price: $49 Price Target: $61

Position Size: 2.13% 1-year Performance: -10%

Sensata reported slower revenue growth sequentially, a miss vs. consensus as well. Organic sales growth was +3.5%, with an overall Chinese business organic growth rate of 4.3%, which we think is respectable given the recent business volatility cited by the company and peers. Although the Chinese auto production end market declined 15% in 4Q (way beyond their expectations) and drove most of the slowdown in their overall results in 4Q18, Sensata had an impressive +1560bps sales above the auto end market production. The company noticed a small slowdown in Europe as well, but a strong North America growth. For 2019, management expects +400-500bps relative outperformance over the global auto production. While China’s economy is still growing, volatility is expected to continue in 1Q19. Regarding its other end markets, aerospace was strong but industrial weak driven by the Chinese slowdown. Margins expanded 80 bps in the quarter despite lower volume and unfavorable impacts from tariffs. Their business model enables continued profitability, even in down cycles, as they have a highly variable cost structure. While today’s results were below expectations, investors were expecting much worse. It is reassuring to see the company able to protect its operating margins in a volatile environment, a proof of the company’s strong business model. Continue reading “Sensata (ST) 4Q18 earnings summary”

Alphabet reported mixed Q4 results, beating on top line (+22%) but spending on cloud and YouTube resulted in lower than expected profit margins (21% vs 22% expected). Two key positives were better than expected: ad revenue and lower TAC. Ad revenue disappointed last quarter, so this was an important reversal. TAC is the largest cost of revenues and, after climbing for a while, continues to trend down. Weaker operating margins were from higher R&D, headcount and marketing. Headcount increased to 99K people from 80k a year ago. The most sizable head count increases were in cloud for both technical and sales roles. The higher spending is not totally unexpected. 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. “With great opportunities ahead, we continue to make focused investments in the talent and infrastructure needed to bring exceptional products and experiences to our users, advertisers and partners around the globe."

Key Takeaways:

· They are seeing broad based strength globally with the US growing 21%, EMEA up 20% and APAC up 32%.

· Net advertising revenues were up 21% to $25.2B vs consensus of $24.7B. Mobile search and YouTube continue to drive ad revenue.

· Revenue from Google sites was up 22%. Network sites revenues were up 12%. Other revenues (includes Google Play, Google Cloud, and Hardware) were up 31%.

· TAC was slightly better YoY at 23% percent of revenue. High TAC levels have been driven by the mix shift to mobile and to programmatic.

· Margins were negatively impacted by higher “other cost of revenues.” This is everything other than TAC. Key drivers were content acquisition costs (CAC) for YouTube, costs associated with data centers, and hardware-related costs for Made by Google and the Nest family of products.

· OpEx of $13.2B was up 27% YoY (vs. consensus of +23% YoY) driven by increases in R&D, headcount and marketing.

· “Other Bets” also contributed to the operating profit miss. Operating loss for the segment was $3.4B for the FY18, vs a loss of $2.7B in 2017. Accrual of compensation expenses to reflect increases in the valuation of equity in certain Other Bets hurt margins.

· Capex continues to increase. They spent nearly $7 billion in capex in 2018.

· Google Cloud: New head of cloud announced, Thomas Kurian. Management is not giving any specific cloud metrics, though they did say they more than doubled both the number of Google Cloud Platform deals >$1M as well as the number of multi-year contracts signed.

Valuation:

· FCF for 2019 is expected to be ~$31B or about a 4% FCF yield.

· $105B in net cash, 13% of their market cap.

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: $418 Price Target: $480

Position Size: 2% TTM Performance: 2%

SHW reported Q4 results, they already released sales and earnings numbers a couple weeks ago that were below expectations. The stock rallied after the report yesterday on guidance which reflected rebounding demand trends. Revenue guidance was better than the street and EPS guidance was weaker. They will see less benefit from lower raw material costs this year than the street was expecting. Guidance implies low-single-digit raw material inflation for 2019 (though raw material prices are trending lower, they see the benefit on a 6-9 month lag). Q1 Revenues guided to +2-6% and full year revenues guided to +4-7%, led by strength in the N. America paint stores business. Price increases should add about 2-3% to top line in 2019, which implies volumes +2-4%. That’s a nice rebound from flat last quarter. Mgmt said they’re “off to a very good start. January sales will come in high above our first quarter guidance.” The improvement was a big relief given the negative pre-announcement a couple weeks ago. The weakness in October and November that hurt Q4 results has been largely attributed to weather.

Key Takeaways:

· SHW set to benefit from higher product prices, good volume growth, and falling raw material costs.

· They are taking share with strong volumes despite weak housing numbers.

o Turnover is down, both new and existing home sales are weak. But SHW says they are seeing a decoupling from housing turnover and residential repaint. More homeowners are staying in place and remodeling. Higher home values and mortgage rate lock-in are contributing to that. Current rates are above a vast amount of mortgages which discourages selling.

o They’ve been growing residential repaint double digits for five consecutive years while the industry is growing more like high single-digits.

· Raw materials, delayed benefit – As has been the case for a few quarters, pricing continues to lag raw material inflation. The good news is raw material costs have started to go in the other direction, but that will take several months to show up in COGS. When it does, SHW should see a gross margin benefit because of all the pricing they’ve taken. Raw materials represent ~80% of the cost of a coatings product on average.

· They saw generally weak trends across products in Europe.

· The Americas Group (55% of sales) – this is their network of 4,270 paint stores.

o SSS were +3% for Q4 and +5% for FY18.

o Domestic new residential construction & repaint end-markets are ~50% of store sales. The domestic commercial building paint end-markets are 20-25% and domestic industrial end-markets including protective coatings for structural steel and U.S. marine coatings are 15-20%.

o Residential repaint remained their strongest customer segment in the year, up by double-digit percentage.

· Performance Coatings Group (29% of sales) – up 4.6% in Q4 driven mostly by price increases. Sales across all product categories were positive, led by general industrial and packaging, which were both up by double-digit percentages.

· Consumer Brands Group (16% of sales)– Down 6.5% in Q4 due primarily to lower volume sales to some of the Group’s retail customers and the new revenue standard, partially offset by a new customer program and selling price increases.

• They retired $1 billion in debt in 2018 and repurchased $613 million in shares. They aim to reduce their leverage ratio from 3.3x to below 3x by year end. LT target is 2-2.5x.

Valuation:

· Expected free cash flow of $2B in 2018, trading at over a 5% FCF yield. Dividend yield <1%.

· Given growth prospects, steady FCF margins and high ROIC the valuation is still reasonable. They deserve a premium multiple based on large exposure to the N. American paint contractor market and no exposure to the cyclical sensitive auto OEM end market.

· Balance sheet is fairly levered from the Valspar acquisition, but they expect to get to under 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

Key Takeaways:

Current Price: $76 Price Target: $86

Position Size: 1.74% 1-year Performance: +11.8%

Exxon reported 4Q18 results, with continued production improvements and earnings ahead of consensus ($1.20 vs. 1.07). Permian production came ahead of expectations, with close to a 90% increase y/y, thanks to an increase in rigs. XOM’s CEO sees very good returns in the Permian even if the price of oil comes down to $35/barrel. On the other hand, growth in its other 4 pillars won’t be seen until 2020. Refining profits more than doubled as margins increased. Free cash flow covered their dividends. Capex spending slowed in 4Q as oil prices declined but Capex for 2019 is now guided up +16% y/y vs. management’s previous guidance numbers ($30B vs $28B previously). Overall we see Exxon moving in the right direction, and importantly staying the course on its strategic investments. Continue reading “Exxon (XOM) 4Q18 earnings summary”

Current Price: $133 Price Target: $160

Position Size: 3.8% TTM Performance: 8%

Visa continued to perform well in the first quarter with better than expected revenue and EPS. Visa continued double-digit growth in payments volume and processed transactions. Net Revenues were up 13% aided by lower client incentives and EPS was up 21%. Guidance on 2Q revenue was lowered because they are seeing some weakening macro trends in cross border which they attribute to geopolitical factors and a stronger dollar. They’re maintaining full year guidance (low double digit top line growth and mid-teens EPS growth) for now. They feel we may have more clarity on the issues impacting cross border transaction over the next few months…specifically they talked about, “economic uncertainty related to the US government shut down, Brexit, big equity market swings, and the trade dispute with China,” saying they “are starting to have an impact on consumer sentiment.” Cross border accounts for ~27% of gross revenue and is higher yield. There is no evidence in domestic volumes of broader economic weakness. US credit trends did weaken in the second half of December, but they rebounded in January. Credit trends tend to be more macro sensitive than debit.

Continue reading “Visa 1Q19 Earnings Update”