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| IN THIS ISSUE – May 11, 2012 | www.bullmarket.com |
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Feature Article By BullMarket.com: Guidance, CEO's Comments Has Cisco Shares Reeling By BullMarket.com: Church & Dwight: Solid Performer in a Tough Climate By BullMarket.com: A Look at Target's April Sales By BullMarket.com: FedEx to Acquire France's TATEX
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Guidance, CEO's Comments Has Cisco Shares Reeling The long-time boss of the network equipment maker warned of a "cautious IT spending environment," which he said was weighed down by the public sector, especially in Europe, where the rising rebellion against austerity has corporate customers taking a wait-and-see attitude toward equipment purchases over their concerns about the broader economy. "We are squarely focused on the areas of highest opportunity and growth and are executing well. However, we are still in an uncertain environment economically and in global perspective. We continue to see the impact of the areas of concern we have discussed for the last few quarters. Those were, just to repeat them: Europe and the global economy, Public Sector, India, and conservative IT spend as reflected in the commentary of our peers. Each of these areas has proven to be as challenging as we anticipated and several -- Europe and customer conservatism -– have gotten worse," Chambers said. He noted that in his conversations with enterprise customers many indicate that they plan to boost spending in the second half of the year, but "in the very next sentence they said, 'We are waiting to see what happens in Europe and what happens with government policy,'" Chambers said, adding: "The enterprise is one that had changed in terms of consumer IT confidence, in terms of customer IT confidence on spending versus the last quarter, and that's got a little bit tougher. When I talk to my peers in the industry, make no mistake, I've been doing that; we can almost finish each other's sentences on what we're seeing around the globe from the enterprise customers. Again, not a view that things are turning down, but just very steady improvement and an uncertain and cautious wait-and-see type of environment from that perspective." From an execution perspective, Cisco reported what it said were "solid" results for its fiscal third quarter ended April 30th. The former Recommended List selection said it earned $2.2 billion for the three-month period, which was equal to 40 cents per share. It earned $1.8 billion, or 33 cents per share, in Q3 2011. Adjusted to exclude non-cash expenses and other items, its profit equaled 48 cents per share, which was a penny better than the Street consensus. The more than $1 billion cost savings that Cisco wrung out of the business in the past year aided its results. "We are successfully executing against our long-term strategic plan of growing profit faster than revenue, and in a cautious (technology) spending environment, we continue to outperform our competitors," Chambers said. Revenue increased by 7% to $11.6 billion, which was in line with the analyst estimate. Looking ahead, it forecast revenue growth of 2% to 5% in the current quarter, which translates into approximately $11.4 billion to $11.8 billion in revenue. The Wall Street consensus estimate was $12.0 billion. Cisco also guided for 44 to 46 cents a share in Q4 adjusted net income, which was below the 49-cent analyst consensus. Breaking down the Q3 results, total product revenue was $9.1 billion, up approximately 5% year over year. Cisco said it saw single-digit revenue growth in its core product businesses and double-digit growth in a number of emerging growth areas of the portfolio. Services revenue was $2.5 billion, which was up approximately 13% year over year. The total product book-to-bill ratio for Q3 was approximately 1:1. The adjusted gross margin was 63.1%, which was up 70 basis points sequentially but down -80 basis points from the year-earlier period. Product-only adjusted gross margins grew by 1.1 percentage points to 62.0% and was driven by favorable product mix and the company's cost savings, partly offset by pricing, discounts, and rebates. "We were pleased to see the solid gross margin performance especially in our core product areas of Switching and NGN routing, which on a combined basis reflected quarter-over-quarter improvement as well as continued gross margin stability," CFO Frank Calderoni told analysts. The adjusted services margin was 67.1%, down -90 basis points sequentially but up 10 basis points year over year. Cisco's total product orders grew approximately 4% year over year. Geographically, the Americas grew product orders by 5% year over year. EMEA product orders were fat. "We have seen the issues of Southern Europe expand. Central and Northern Europe have their own set of challenges. On the positive side, our emerging markets in EMEA grew 12% year over year and Russia, as part of that emerging market group, was up 22% year over year," Chambers said. "Asia Pacific, Japan and China grew by 7% year over year. As expected, we continued to see weakness in India. On the positive side, Japan continues to perform extremely well for us with orders growing 39% year over year. China declined by -8% due primarily due to the timing of several large deals. I do believe we can continue to drive even greater performance in the emerging markets because we have the teams focused on our programs, portfolio and sales and partner coverage in those regions," Chambers added. By market segment, Service Provider grew 5%. Enterprise was down -1%. Commercial grew 8%. Public Sector was up 3%. "While Service Provider CapEx budgets were very tight in the quarter, our Service Provider segment continued to perform well. In Q3, SP orders grew 5% with the Americas growing 5% and within the Americas the U.S. Service Provider group growing at 9%. While in Asia Pacific, Japan and China, SP grew by 8% and in EMEA grew by 1%," Chambers said. Summing up, Chambers said, "I am more confident than ever in our value proposition in the market. With the work we've done over the last year, we are better able to plan for, adjust and execute in any market environment we encounter. Given that state of our markets that we covered in this conference call, as you would expect, we're going to remain conservative with our business models and conservative with our guidance." BMR Take: As we signaled in our earnings preview, this isn't the first time Chamber's mouth has led to a sell-off in Cisco's stock and it likely won't be the last. There is a legitimate concern that given Cisco's wide range of products and its broad customer base, it could signal, as it has in the past, that a downturn is coming before others realize it. The company pointed to a slowdown before the 2008 financial crisis blew up the world economy. It's important to realize, however, that isn't what Chambers said. Yes, his customers are cautions and the actions of world governments are a wildcard, but that isn't exactly the headline news investors made it out to be today. Those issues have been out there for some time. Cisco's customers haven't said they are absolutely cutting back on purchases, but they are nervous. Operationally, Cisco executed well and it is reaping the benefits from the restructuring that it began over a year ago. Newly streamlined and better organized, it has been much better able to aggressively respond to competitive threats. Management has also gotten more realistic about its growth goals, resetting the bar lower in terms of its long-term expectations. From a valuation perspective, it's a very cheap stock. Excluding its nearly $6 per share in net cash, Cisco's valuation has dropped to less than 6x the 2013 consensus EPS estimate of $1.98 per share with today's sell-off. The stock could remain range-bound for a spell, but we think long-term investors can be buyers on today's drop.
Church & Dwight: Solid Performer in a Tough Climate We're start in our own backyard with Princeton, New Jersey-based Church & Dwight (CHD, $52.37, 0.83). Founded in 1846, the company is the leading U.S. producer of sodium bicarbonate, aka baking soda. It sells that core product, and a number of offshoots that contain it, under the Arm & Hammer brand. About 40% of the products the company sells carry that famous logo. Church & Dwight operates in three segments. Consumer Domestic encompasses a broad swath of household products like cleaners and detergents, plus personal care products like toothpaste and deodorants. The Consumer International segment markets and sells various personal care, over-the-counter, and household products in international markets, including Canada, France, Australia, the United Kingdom, Mexico, Brazil, and China. The Specialty Products Group produces specialty inorganic chemicals, animal nutrition products, and industrial cleaners. The company's other brands include Aim and Close-Up toothpaste, Nair hair remover, Trojans condoms, and somewhat ironically, First Response pregnancy test kits. It sells its consumer products primarily through supermarkets, mass merchandisers, wholesale clubs, drugstores, convenience stores, pet specialty stores, and dollar stores. The company's Xtra and Arm & Hammer brands of laundry detergent made C&D the No. 2 player in the liquid laundry category in Q4, surpassing Gain and All, which are made by P&G and privately held Sun Products Corp., respectively. "It just shows you how much the shift continues in laundry towards the value brands, which have been big for us," CEO Jim Craigie said at an investor conference in March. "We had a great year; 12% adjusted EPS growth, 4% organic revenue growth, great free cash flow. And if you owned our stock last year, you got a 35% return on the stock. "Now looking forward, I think it's going to continue to be very tough. I don't see any reason anybody should be optimistic about the business environment out there. Consumer spending is still weak. Commodities are still volatile and staying high. Competitive pressures as a result of the first two are going to stay strong, a very aggressive competitive environment, and retailers are still struggling. You might see higher sales, but in most cases . . . you (also) see lower profit because they're discounting heavily. So, those four factors, which are the key drivers of any business, are not looking any better going forward to us," Craigie added. The company, nonetheless, turned in a strong start to 2012. Last week, it reported that its sales and profit both beat Wall Street's expectations, driven again by strong sales of laundry detergent. It reported earning $95.8 million, or 66 cents per share, up from $83.6 million, or 58 cents per share, in Q1 2011. Revenue increased by 7.5% to $690.6 million. Wall Street analysts were looking for 61 cents per share in net income on $673.0 million in sales. Its guidance for the current quarter, however, was shy of the consensus. It expects to report 54 cents per share in profit, while Wall Street was looking for 60 cents. It reported 57 cents in the year-earlier period, but that included a 4-cent tax gain. "While category consumption continues to be weak in the U.S., we increased market share on five of our eight power brands in the quarter," Craigie said in a statement. C&D said its sales on an organic basis increased by 8.4% during the quarter, driven by 10.5% volume growth, offset by -2.1% unfavorable product mix and pricing. Organic sales exclude the impact of an acquisition and foreign exchange rate changes, but includes an estimated 1.4% effect of sales resulting from a timing shift in customer orders from the first quarter of 2012 to Q4 2011 in anticipation of a January 2012 upgrade to the company's information systems. Management said it believes those sales would have occurred in the first quarter of 2012 were it not for the timing shift. On a segment basis, the majority of C&D's sales come from the Consumer Domestic portion of its business. The unit reported $510.6 million in net sales, which was up by 8.4%, or $39.5 million, year over year. Organic sales grew by 10.1%, primarily driven by continued strong growth from Arm & Hammer liquid laundry detergent, cat litter, and a new Arm & Hammer branded product, Crystal Burst. Sales declined for its battery operated toothbrushes, Trojan condoms, and OraJel oral analgesics. Volume growth contributed approximately 13.4% to sales, partially offset by the 3.3% unfavorable product mix and pricing The Consumer International segment grew by nearly 11% to $121.4 million. Organic sales were up by 7.2%, propelled by stronger sales in Canada, Australia, and France. Volume grew by 8.7%, with a -1.5% headwind from unfavorable mix and pricing. Organic sales exclude a 5.0% benefit from an acquisition and -1.5% from currency headwinds. The Specialty Products segment grew by 4.9% to $58.6 million. Organic sales slipped by -2.5% due to softness in end markets. Lower volumes of -8.1%, were partially offset by favorable pricing of 5.6%. The positive pricing was primarily the result of C&D's ability to pass on raw material cost increases to customers. Gross margin fell by -100 basis points to 43.8% during the quarter, which the company said was mostly due to the unfavorable product mix. The mix reflected a 14.4% increase in sales of lower-margin domestic household products compared with a -2.6% decline in higher-margin personal care products. Margin was also impacted by costs associated with getting a new manufacturing and distribution facility in California off the ground. The company guided for EPS to be in the range of $2.41 to $2.43 per share for the full year, with organic sales growth of 3-4% annually, with the strongest growth in the first half of the year due to tougher comparisons in the back half of the year. The company said it would support sales at a rate of 13.0% of revenue in Q3, compared with 10.0% in Q1. Gross margin is now expected to expand at the lower end of its 25 to 50 basis point growth target due to higher sales of lower margin household products and slower sales of premium priced products like Trojan on category weakness. Trojan, nonetheless, recorded its second-highest quarterly market share in Q1. As would be expected from a consumer products company, Church & Dwight generates solid cash flow. Net cash from operating activities totaled $114 million, up $34.4 million, or 43.2%, over the year-earlier period. CapEx spending was higher due the California facility, but the company improved management of its working capital It repurchased 1.9 million of its shares in Q1 for a total outlay of $90 million. It had $232.4 million in cash on hand on March 31st, but it subsequently purchased another 2.2 million of its shares in April at a cost of $110 million. It had $250 million in debt on the books. The company pays an annual dividend of 96 cents per share, which is good for 1.9% yield. The stock has been a strong performer of the past year, briefly dipping to a low of $36.78 during the market's swoon last August. It traded to a fresh one-year high today. Year to dat,e the stock was up 13.2% through Friday's close. BMR Take: Church & Dwight has done a good job of driving down its controllable costs. At the same time, it has invested in promoting its brands and developing new products, which has resulted in solid sales gains. Line extensions under the Arm & Hammer brand helped drive high single-digit sales increases in recent years; at the start of this century growth was in the low single-digit range. The company's solid performance in a challenging environment is commendable. On the flip side, C&D's product portfolio is fairly narrow compared to an industry powerhouse like P&G, whose $82.6 billion in 2011 global sales dwarfs the $2.85 billion generated by Church & Dwight last year. The company also gets the majority of its sales from the mature U.S. market, where growth is slower, though it is strongly positioned in the value categories that are attracting more attention from cash-strapped consumers. Value brands generated about 40% of its sales, which management argues allows C&D to thrive in any economy. Church & Dwight's operating performance is commendable but we think the stock price currently reflects it. The shares are currently trading more than 19x the consensus Wall Street EPS estimate for 2013. P&G, which has underperformed of late, trades at a 15x multiple. Given the headwinds of rising commodity costs and sluggish economic growth at home, we think the shares would be more attractive on a pullback.
A Look at Target's April Sales Its April same-store sales rose 1.1%, below the 2.8% increase expected by analysts. An increase in average transaction size offset a slight decline in traffic. Total sales for the four weeks ended April 28th rose 2.1% to $4.98 billion. First quarter same-store sales rose 5.3%, while total sales climbed 6.1% to $16.54 billion. "We’re very pleased with Target’s strongest quarterly comparable-store sales performance in more than six years, which, as we’ve previously indicated, received an early-season boost from the combination of warm weather and an earlier Easter," CEO Gregg Steinhafel said in a statement. "Target’s underlying sales trend remains quite healthy, as guests respond to a unique combination of fashion and great prices, combined with the convenience and value created by our remodel program and 5% REDcard Rewards." Food was once again one of the strongest categories for the month, along with Health and Beauty and other Household Essentials. Apparel same-store sales declined modestly in April, while Hardlines and Home also fell. Target said same-store sales were strongest in portions of the Midwest and the West. For May, Target expects same-store sales to grow by a low-to-mid-single-digit percentage. BMR Take: April was a relatively weak month for retailers in general and Target was no exception. However, modeling the shift in the Easter holiday is never easy, and as a whole, Q1 was a very solid quarter for Target. All in all, we really like how Target has helped recapture its fashionably chic image. It started with the highly successful limited-time Missoni launch last September, then was followed up with a limited-time offering from Jason Wu, a favorite designer of first lady Michele Obama, in February. This month, the company is introducing its Shops at Target concept, also for a limited time. Trading at 12x the mid-point ($4.55-$4.75) of its adjusted FY12 guidance and with solid growth opportunities ahead as it moves into Canada, we continue to think Target is a long-term "Buy." We have a $68 target on the stock.
FedEx to Acquire France's TATEX TATEX ships about 19 million packages a year and has annual revenues of approximately 150 million euros (about $194 million). The company has a central hub just south of Paris, six regional hubs, and 35 shipping centers across France. Yesterday, meanwhile, FedEx agreed to sell its Kinko's Japan unit to Konica Minolta Holdings for about 8 billion yen ($100.57 million). Kinko's Japan had 49 stores and six printing centers throughout Japan, mostly in urban areas. "We are pleased to see FedEx monetize this non-core asset as we believe the company could accretively use this capital to accelerate the expansion of its European network," Deutsche Bank analyst Justin Yagerman wrote today, commenting on the deals. Stifel analyst David Ross added: "The purchase price was not disclosed, but we estimate it was in the $75mm-$120mm range, assuming TATEX is profitable. However, it would not surprise us if the company paid even less, given the problems in France right now and the possibility of a lower multiple of EBITDA." BMR Take: This is obviously a lot smaller deal than the $6.8 billion acquisition for the Netherlands' TNT Express that rival UPS (UPS, $76.61, 0.03) is making, but it is interesting how the two shipping giants are building up their European infrastructure in the midst of the turmoil in Europe. As for the sale of Kinko's Japan, the acquisition of Kinko's never really bore a lot of fruit, and the sale of a non-core asset like the Japan stores looks like a smart move. If FedEx can scoop up smaller European rivals on the cheap, then this should prove to be a good long term move. FedEx has largely been an international express shipper in Europe, but with a number of small acquisitions in the past several years (including Poland's' Opek last month), it's slowly building up its domestic ground capabilities in Europe. This looks like the safer strategy than the route UPS went with engulfing TNT. All in all, FedEx has a lot of operating leverage, and if the economy continues to improve, it should continue to post solid results and the stock should perform well. Europe remains an issue, but the company looks like it is set to capitalize on the situation by picking up struggling domestic players on the cheap. We have a "Buy" rating and $112 price target on the stock.
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