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Author Archives: Chris Versace, Chief Investment Officer

About Chris Versace, Chief Investment Officer

I'm the Chief Investment Officer of Tematica Research and editor of Tematica Investing newsletter. All of that capitalizes on my near 20 years in the investment industry, nearly all of it breaking down industries and recommending stocks. In that time, I've been ranked an All Star Analyst by Zacks Investment Research and my efforts in analyzing industries, companies and equities have been recognized by both Institutional Investor and Thomson Reuters’ StarMine Monitor. In my travels, I've covered cyclicals, tech and more, which gives me a different vantage point, one that uses not only an ecosystem or food chain perspective, but one that also examines demographics, economics, psychographics and more when formulating my investment views. The question I most often get is "Are you related to…."
WEEKLY ISSUE: Taking Positions Off the Board and Reallocating Into Existing Positions

WEEKLY ISSUE: Taking Positions Off the Board and Reallocating Into Existing Positions

Key points from this issue

  • We are exiting the shares of Paccar (PCAR), which had an essentially neutral impact on the Select List;
  • We are exiting the shares of Rockwell Automation (ROK), which were a drag of more than 11% on the Select List;
  • We are exiting the shares of GSV Capital (GSVC), which in full returned a modest decline since we added the shares back in April.
  • We are scaling into shares of Applied Materials (AMAT) at current levels and keeping our long-term price target of $70 intact.
  • We are scaling into shares of Netflix (NFLX) at current levels and keeping our long-term price target of $500 in place.

 

After the S&P 500 hit an all-time high yesterday, if the stock market finishes higher today it will mean the current bull market will be 3,453 days old, which will make it the longest on record by most definitions. For those market history buffs, as of last night’s market close, it tied the one that ran from October 1990 to March 2000.

Even as the S&P 500 hit an all-time high yesterday thus far in 2018 it’s up 7.1%. By comparison, we have a number of positions on the Tematica Investing Select List that are up considerably more. Among them are Amazon (AMZN), Apple (AAPL), Costco Wholesale (COST), ETFMG Prime Cyber Security ETF (HACK), Habit Restaurant (HABT), McCormick & Co. (MKC), and USA Technologies (USAT). Not that I’m prone to bragging, rather I’m offering a gentle reminder of the power to be had with thematic investing vs. the herd and sector-based investing.

Over the last few weeks, I’ve been recasting our investing themes, which in some cases has given rise to a new theme like Digital Infrastructure, combined a few prior themes into the more cohesive Digital Lifestyle and Middle-Class Squeeze ones, and expanded the scope of our Clean Living theme. In the next few weeks, I’ll finish the task at hand as well as ensure we have a stock recommendation for each of what will be our 10 investment themes.

As part of that effort, I’m re-classifying USA Technologies (USAT) shares as part of our Digital Infrastructure investing theme. The shares join Dycom Industries (DY) in this theme.

 

Pruning PCAR, ROK and GSVC shares

Once we pass the approaching Labor Day holiday, we will be off to the races with the usual end of the year sprint. For that reason, we’re going to take what is normally the last two relatively quiet weeks of August to do some pruning. This will go hand in hand with the ongoing investment theme reconstitution that will eliminate the stand-alone Economic Acceleration/Deceleration and Tooling & Re-tooling investment themes. As such, we’re saying goodbye to shares of Paccar (PCAR) and Rockwell Collins (ROK). We’ll also shed the shares of GSV Capital (GSVC), which are going to be largely driven by share price movements in Spotify (SPOT) and Dropbox (DBX). As the lock-up period with both of those newly public companies come and go, I’ll look to revisit both of them with an eye to our Digital Lifestyle and Digital Infrastructure investing themes.

  • We are exiting the shares of Paccar (PCAR), which had an essentially neutral impact on the Select List;
  • We are exiting the shares of Rockwell Automation (ROK), which were a drag of more than 11% on the Select List;
  • We are exiting the shares of GSV Capital (GSVC), which in full returned a modest decline since we added the shares back in April.

 

Scaling into Applied Materials and Netflix shares

We’ll use a portion of that returned capital to scale into shares of Applied Materials (AMAT), which approached their 52-week low late last week following the company’s quarterly earnings report that included an earnings beat but served up a softer than expected outlook.

Applied’s guidance called for sales of $3.85-$4.15 billion vs. analyst consensus outlook of $4.45 billion. On the company’s earnings conference call, CEO Gary Dickerson confirmed worries that slower smartphone growth could cause chipmakers to rein in capital spending and reduce demand for chipmaking equipment in the near- term. That’s the bad news, the good news is Applied sees double-digit growth in 2019 for each of its businesses and remains comfortable with its 2020 EPS forecast of $5.08.

From my perspective, I continue to see the several aspects of our Disruptive Innovators investing theme – augmented and virtual reality, 5G, artificial intelligence, Big Data and others – as well as growing storage and memory demands for connected devices driving semiconductor capital equipment demands. There is also the rising install base of semiconductor capital equipment inside China, and with Apple turning to China suppliers over Taiwanese ones to contain costs it likely means a rebound in China demand when the current US-China trade imbroglio ends.

As we wait for that, I suspect Applied will continue to use its stock buyback program During its recently closed quarter, Applied repurchased $1.25 billion or 25 million shares of stock and the company has about $5 billion remaining in buyback authorization. Applied’s next quarterly dividend of $0.20 per share will be paid on Sept. 13 to shareholders of record on Aug. 23.

  • We are scaling into shares of Applied Materials (AMAT) at current levels and keeping our long-term price target remains $70 intact.

Turning to Netflix (NFLX) shares, they are down some just under 20% from where I first added them to the Select List several weeks ago. My thesis on the shares remains unchanged, and I continue to see its streaming video service and original content as one of the cornerstones of our Digital Lifestyle investing theme. Adding to the shares at current levels will serve to reduce our cost basis from just under $420 to just under $380.

  • We are scaling into shares of Netflix (NFLX) at current levels and keeping our long-term price target of $500 in place.

 

 

Making thematic sense of the July Retail Sales report

Making thematic sense of the July Retail Sales report

Key points for this alert:

  • Our price target on Amazon (AMZN) remains $2,250.
  • Our price target on Costco Wholesale (COST) remains $230.
  • Our price target on Habit Restaurant (HABT) is getting a boost to $17 from $16.
  • We are also bumping our price target on McCormick & Co. (MKC) shares to $130 from $110 as we get ready for seasons eatings 2018.

 

Following on the heels of the July Retail Sales report we received Wednesday, this morning Walmart (WMT) reported stellar July quarter results led by stronger than expected same-store sales and a 40% year over year increase in its e-commerce sales. From our perch, we see both reports as positive for our positions in both Amazon (AMZN) and Costco Wholesale (COST) as well as Habit Restaurant (HABT) and McCormick & Co. (MKC) shares.

Digging into the better than expected July Retail Sales report that showed Retail up 0.4% month over month and 6.0% sequentially, top performers were Food Services & drinking places (up +9.7% year over year), Nonstore retailers (+8.7%) and Grocery Stores (+4.9%) year over year. In response to that report, as well as the news that China and the US are heading back to the trade negotiation tables, our Habit Restaurant shares continue to sizzle. That stellar showing in July for Food Services & drinking places brought the trailing 3-month comparison to up more than 8% year over year.

To me, this echoes the data we’ve seen of late that points to the rebound in monthly restaurant sales, which is due as much to price increases as it is to improving customer volume, particularly at Fast Casual restaurants like Habit. As evidenced by Habit’s recent blowout June quarter earnings report, the company continues to execute on the strategy that led us to add the shares to the portfolio back in May. On the heels of the July Retail Sales report, I find myself once again boosting our price target on HABT shares to $17 from $16 as the underlying strength is continuing into the current quarter.

With just over 6% upside to our new price target for Habit, it’s not enough to commit fresh capital to the position. Given the surge in HABT shares – more than 80% since we added them to the Tematica Investing Select List this past May – as well as their current technical picture (see the chart below), I’m inclined to opportunistically use the position as a source of funds in the coming weeks.

 

 

While one might think those gains have come at the expense of grocery stores, and in turn, a potential blow to McCormick’s, the July figure for grocery was also the best in the last three months. What this tells us is people are likely paying more for food at the grocery store and at restaurants, which reflects the combination of higher food prices as well as the shift to food, drinks, and snacks that are healthier for the consumer (and a bit more expensive in general). On that strength and the forward view that will soon have us waist deep in season’s eatings, we are boosting our price target for MCK to $130 from $110. That includes some post-June quarter earnings catch up on our part for McCormick and its ability to grow its top line as part of our Clean Living and Rise of the New Middle Class investing themes, as well as wring out cost synergies associated with acquired businesses. In the coming months, I expect we will once again see this Dividend Dynamo boost its quarterly dividend, keeping MKC shares as one to own, not trade.

Getting back to the July Retail Sales report, the Nonstore retail July figure bodes very well for continued share gains at Amazon and other retailers that are embracing our Digital Lifestyle investing theme as we head into the holiday shopping season. Moreover, I see the e-commerce sales gains at Walmart – up +40% in the July quarter as well as those by Costco Wholesale, up  33% year to date — serving to confirm the accelerating shift by consumers to that modality of shopping as more alternatives become available. Helping Walmart is the addition of over 1,100 brands year to date including Zwilling J. A. Henckels cutlery and cookware, Therm-a-Rest outdoor products, O’Neill surf and water apparel, Shimano cycling products and the brands available on the dedicated Lord & Taylor shop, like Steve Madden footwear. Let’s remember too that Amazon continues to pull the lever that is private label products across a growing array of categories, and those margins are superior to those for its Fulfilled by Amazon efforts.

Speaking of Costco, its July sales figures showed a 6.6% year over year increase in same-store sales, which as we learned by comparing that with the July Retail Sales report was magnitudes stronger than General Merchandise stores (+3.3% year over year) and Department Stores (+0.3% year over year). Yes, Costco was helped by its fresh foods business, but even there it topped Grocery sales for the month. The clear message is that Costco continues to win consumer wallet share, and more of that is likely to be had in the coming months as consumers contend with the seasonal spending pickup.

The big loser in the July Retail Sales report was the Sporting goods, hobby, musical instrument, & bookstores category, which is more than likely seeing its lunch eaten by Amazon, Walmart, and Costco. All three of these companies are embracing the increasing digital lifestyle, targeting rising incomes in the emerging markets and helping cash-strapped consumers in the US stretch those dollars. As we have said many times before, the only thing better than the tailwinds of one of our investing themes is the combination of several and these companies are benefitting from our Digital Lifestyle, Rise of the New Middle Class and Middle-Class Squeeze investing themes.

All in all, the last 24 or so hours as very positive for our AMZN, COST, HABT and MKC shares on the Tematica Investing Select List.

  • Our price target on Amazon (AMZN) remains $2,250.
  • Our price target on Costco Wholesale (COST) remains $230.
  • Our price target on Habit Restaurant (HABT) is getting a boost to $17 from $16.
  • We are also bumping our price target on McCormick & Co. (MKC) shares to $130 from $110 as we get ready for seasons eatings 2018.

 

Clean Living: Healthier food, healthier people, healthier homes, offices and a healthier planet

Clean Living: Healthier food, healthier people, healthier homes, offices and a healthier planet

 

They say too much information is a dangerous thing, but in the case of consumers, access to information is helping reshape how they are living their lives:

  • According to a recent survey from Label Insight, 39% of U.S. consumers say they would switch from the brands they currently buy to others that provide clearer, more accurate product information.
  • Per Nielsen, 73% of consumers surveyed said they feel positive about brands that share the “why behind the buy” information about their products.
  • 68% say they’re willing to pay more for foods and beverages that don’t contain ingredients that they perceive to be
  • In some cases, consumers are more interested in knowing what’s not included than what is included in the products they buy. 53% percent of consumers surveyed said the exclusion of undesirable ingredients is more important than the inclusion of beneficial ingredients. These include high fructose corn syrup, artificial sweeteners and colorings, sugar, sulfites, genetically modified organisms (GMOs), refined grains and carbohydrates, and dozens of other ingredients.

 

This shift in preference for healthy, natural products and the eschewing of artificial chemicals, sweeteners, sugar and other synthetics is one of the basic building blocks for TematicaResearch’s Clean Living investing theme. In 2017, the US organic food market was roughly $44 billion and is expected to reach $70.4 billion by 2025 according to Hexa Research.  The trend towards more natural, “good for you” foods and other products isn’t just focused on organics, however:

  • According to a 2016 Neilsen survey, 50% of people surveyed in North America reported they try to avoid foods with GMOs.
  • In another study, this time by Consumer Reports in 2014, 72% of participants responded that when shopping it is important to avoid GMOs and 40% look for non-GMO labels and claims on packaging.
  • On the gluten free front Statista reports that by 2020, the market is projected to be valued at 7.59 billion U.S. dollars.

 

We see this movement towards natural, organic, non-GMO and even gluten-free foods reflected in commentary from grocery chain Kroger that natural foods continue to generate strong double-digit growth compared to overall same-store sales growth in the low single-digits. This shift in consumer preferences is already having an impact on companies, with some responding to the tailwind, such as

  • Amazon (AMZN) buying Whole Foods Market
  • The Hershey Company (HSY) first acquiring Krave, a maker of jerky products, and then Amplify Snacks, the provider of Skinny Pop popcorn products and Oatmega grass fed whey protein bars and cookies;
  • Annie’s Homegrown, the Berkeley, California-based maker of “natural” and organic pastas, meals and snacks was snatched up by General Mills (GIS) in 2014, one of several natural acquisitions by the food giant that includes Immaculate Baking, Cascadian Farms, and Muir Glen.
  • Baked fruit and vegetable snack-maker Bare Foods Co. was scooped up by PepsiCo (PEP), which has also introduced organic and healthier versions of some of its biggest snack brands. PepsiCo has also introduced Bubly, a sparkling water brand.
  • In 2016 Coca-Cola (KO) announced it had more than 200 reformulation initiatives underway to reduce added sugar across its carbonated soft drink portfolio.
  • French dairy giant Danone has agreed to acquire plant-based dairy alternatives company WhiteWave Foods Co.
  • International Flavors and Fragrances (IFF) acquired Israeli flavors and natural ingredients firm Frutarom for $7.1 billion to become the second largest supplier in the global natural flavors market.
  • Cott Corp. (COT) sold its traditional beverage manufacturing business for $1.25 billion to Refresco Group NV and retained its water, coffee, tea and filtration service business — categories aligned with health and wellness trends.

 

 

Dining Out Trends Towards Clean as Well

While softening in recent years, in the United States we eat a good portion of our meals away from home — as much as 50% according to some reports. Of course, we all like to indulge ourselves when we go out for a night on the town, however, the Clean Living movement has also become pervasive across restaurant menus and chains in recent years. According to the Natural Restaurant Association, restaurant operators are taking notice, and in 2016 it was reported that more than eight in 10 of their guests paid more attention to the nutrition content of food when compared to two years prior. Given the growing pervasiveness of clean living and transparency, we suspect that percentage has likely inched higher since them

Just a couple of years ago, Chipotle (CMG), before its rash of health and food safety issues, was held out as the poster child for Clean Living restaurants. With its “Food with Integrity” program that began in earnest in 2015 with its ban on GMO’s across its entire menu, the burrito chain also focused on locally grown vegetables, free-range pork and chicken and antibiotic-free meats among other things. Panera Bread Co. (PNRA) announced in 2014 its plan to remove preservatives, sweeteners, flavors and colors from artificial sources from its entire menu, a process that took nearly 3 years to complete.

Zoe’s Kitchen (ZOES) — the fast-casual chain of Mediterranean-inspired comfort food with made-from-scratch recipes using fresh ingredients — made the leap from private to public in 2014 and now boasts over 200 locations across 17 states. There is a rash of food chains that are currently privately-held that are also riding this trend which includes the probably the most widely known, Cava Grill. Others include True Food Kitchen, Sweetgreen, Freshii, and Chopt.

 

 

Clean Living Isn’t Just What We Put In Our Bodies

In addition to clean eating, another aspect of this theme includes natural skincare & make-up, and non-toxic baby products. According to a market study by Grand View Research, the global market for natural and organic personal care products is projected to grow to $25.1 billion by 2025, expanding at a CAGR of 9.5% over the 2017-2025 period. In recent years there has been a long list of acquisitions in this  natural category:

  • Tom’s of Maine, known for its natural toothpastes, mouthwashes and deodorants was scooped up by Colgate-Palmolive (CL) in 2006 for $100 million.
  • Organic balms and butters brand Burt’s Bees was acquired by Clorox (CLX) for $925 million in 2017.
  • After building Bare Escentuals — producer of mineral and powder based makeup line bareMinerals — from the ground up, CEO Leslie Blodgett accepted a buyout in 2010 from Tokyo-based cosmetics company Shieseido for a reported $1.7 billion
  • Similarly, Johnson & Johnson (JNJ) counts in its stable of brands Aveeno, L’Oreal owns The Body Shop, and Estee Lauder (EL) owns both Aveda and Origins, among other brands.

As with clean eating, where the movement went from fringe brands being acquired by large consumer packaged goods brands to those companies actually reformulating their mainstay brands to be more natural, organic and chemical-free, we’ve seen personal care brands respond to this movement as well:

  • Companies such as Procter & Gamble (PG) and Estée Lauder have acquired or invested in clean brands, knowing their giant manufacturing processes can’t just take out a few parabens and call ita day. Other companies, such as Unilever (UL), have started completely from scratch, creating their own new skin-care and hair-care lines.
  • Johnson & Johnson has announced it will disclose all ingredients in its baby care products, including fragrance ingredients, down to 0.01% of content.
  • In 2017, L’Oréal Paris-owned Garnier introduced Skin Actives Naturals, a line of 96% (at least) naturally derived products, they also began listing ingredient sources on their labels, while cutting parabens, silicones, dyes, and sulfates.
  • Unilever announced that it would be scooping up natural deodorant brand Schmidt’s. That closely followed the acquisition of cult-fave natural deodorant brand Native by Proctor & Gamble in late November.

In keeping with our Rise of the Middle Class investing theme, we are also seeing a growing number of health-conscious consumers in the emerging markets as well.

According to a report from RedSeer the current organic skin care market in India is pegged at $125 million, growing at 25% year-over-year to reach $315 million by 2022.

 

Clean Living Means a Clean Planet

The market for natural and organic cleaning supplies has been a niche market at best for many decades — when it came to cleaning, consumers felt a chemical onslaught was best. But in recent years, as health concerns began to arise with the chemicals in these products as part of an overall adoption of a healthier lifestyle, such products have moved into the mainstream and according to ReportLinker, the U.S specialty household cleaners market is expected to reach $7.96 billion by 2024.

When asked by Nielsen to pick the attributes they seek when purchasing all-purpose cleaners, 40% around the world say they want environmentally friendly benefits and nearly as many (36%) say they don’t want harsh chemicals. Seventh Generation Inc, based in Burlington, VT is probably one of the most well-known brands in the space, selling cleaning, paper and personal care products with a focus on sustainability and the conservation of natural resources. Starting as a mail-order only company in 1988, the company was acquired by Unilever in 2016 for $700 million – notice a trend here yet?

Other companies are also offering products for the home that have high recycling content and environmentally friendly processes, such as Trex Companies and its decking products. The average 500-square foot composite Trex deck contains 140,000 recycled plastic bags, which makes it one of the largest plastic bag recyclers in the U.S. as it saves 400 million pounds of plastic film and wood from landfills each year. As one might suspect Trex is not the only company capitalizing on recycling and clean. Other areas in which we are seeing these unfold include low chemical furniture, mattresses, paint, flooring and even footwear made entirely from post-consumer water bottles by Rothy’s.

Another aspect of this theme is clean technologies, which include products and technologies designed to be economically competitive by using less material and energy to reduce their environmental impact compared with incumbent technologies. Example of clean technologies include biofuels, wind and solar power, electric vehicles, solid-state lighting and other renewables that are replacing coal, petroleum and other fossil fuel based solutions. According to the International Agency, by 2030 there will be 125 million electric vehicles across the globe compared to the 3.1 million found in 2017. With these and other forms of clean energy, we’ll be careful to watch the political landscape as well as new technological developments associated with our Disruptive Innovators investing theme that could alter the playing field on cost, efficiency or both.

 

 

Companies Sustaining the Clean Living Focus

As its name suggests, the Tematica Research Clean Living investing theme focuses on companies that provide products, ingredients and other solutions and services that are in keeping with the clean lifestyle. This theme could be summed up succinctly with “Healthier food, healthier people, healthier homes, offices and a healthier planet.”

Examples of publicly traded companies riding the Clean Living investment theme tailwinds:

  • Amazon (AMZN)
  • Chipotle (CMG)
  • Cott Corp. (COT)
  • First Solar (FSLR)
  • Freshpet (FRPT)
  • Gaia (GAIA)
  • Hain Celestial (HAIN)
  • International Flavors (IFF)
  • National Beverage Corp. (FIZZ)
  • Natural Grocers (NGVC)
  • Nautilus (NLS)
  • Primo Water (PRMW)
  • The Simply Good Foods Co. (SMPL)
  • SodaStream International (SODA)
  • Sprouts Farmers Market (SFM)
  • Tesla (TSLA)
  • Town Sports International Holdings (CLUB)
  • Trex Company (TREX)
  • United Natural Foods (UNFI)
  • Zoes’ Kitchen (ZOES)

 

 

WEEKLY ISSUE: Scaling deeper into Dycom shares

WEEKLY ISSUE: Scaling deeper into Dycom shares

Key points from this issue:

  • We are halfway through the current quarter, and we’ve got a number of holdings on the Tematica Investing Select List that are trouncing the major market indices.
  • We are using this week’s pain to improve our long-term cost basis in Dycom Industries (DY) shares as we ratchet back our price target to $100 from $125.
  • Examining our Middle-Class Squeeze investing theme and housing.
  • A Digital Lifestyle company that we plan on avoiding as Facebook attacks its key market.

 

As the velocity of June quarter earnings reports slows, in this issue of Tematica Investing we’re going to examine how our Middle-Class Squeeze investing theme is impacting the housing market and showcase a Digital Lifestyle theme company that I think subscribers would be smart to avoid. I’m also keeping my eyes open regarding the recent concerns surrounding Turkey and the lira. Thus far, signs of contagion appear to be limited but in the coming days, I suspect we’ll have a much better sense of the situation and exposure to be had.

With today’s issue, we are halfway through the current quarter. While the major market indices are up 2%-4% so far in the quarter, by comparison, we’ve had a number of strong thematic outperformers. These include Alphabet (GOOGL), Amazon (AMZN), Apple (AAPL), AXT Inc. (AXTI), Costco Wholesale (COST),  Habit Restaurant (HABT), Walt Disney (DIS), United Parcel Service (UPS), Universal Display (OLED) and USA Technologies (USAT).  That’s an impressive roster to be sure, but there are several positions that have lagged the market quarter to date including GSV Capital (GSVC), Nokia (NOK), Netflix (NFLX), Paccar (PCAR) and Rockwell Automation (ROK). We’ve also experienced some pain with Dycom (DY) shares, which we will get to in a moment.

Last week jettisoned shares of Farmland Partners (FPI) following the company taking it’s 3Q 2018 dividend payment and shooting it behind the woodshed. We also scaled into GSVC shares following GSV’s thesis-confirming June quarter earnings report, and I’m closely watching NFLX shares with a similar strategy in mind given the double-digit drop since adding them to the Tematica Investing Select List just over a month ago.

 

Scaling into Dycom share to improve our position for the longer-term

Last week we unveiled our latest investing theme here at Tematica – Digital Infrastructure. Earlier this week, Dycom Industries (DY), our first Digital Infrastructure selection slashed its outlook for the next few quarters despite a sharp rise in its backlog. Those shared revisions are as follows:

  • For its soon to be reported quarter, the company now sees EPS of $1.05-$1.08 from its previous guidance of $1.13-$1.28 vs. $1.19 analyst consensus estimate and revenues of $799.5 million from the prior $830-$860 million vs. the $843 million consensus.
  • For its full year ending this upcoming January, Dycom now sees EPS of $2.62-$3.07 from $4.26-$5.15 vs. the $4.63 consensus estimate and revenues of $3.01-$3.11 billion from $3.23-$3.43 billion and the $3.33 billion consensus.

 

What caught my eyes was the big disparity between the modest top line cuts and the rather sharp ones to the bottom line. Dycom attributed the revenue shortfall to slower large-scale deployments at key customers and margin pressure due to the under absorption of labor and field costs – the same issues that plagued it in its April quarter. Given some of the June quarter comments from mobile infrastructure companies like Ericsson (ERIC) and Nokia (NOK), Dycom’s comments regarding customer timing is not that surprising, even though the magnitude to its bottom line is. I chalk this up to the operating leverage that is inherent in its construction services business, and that cuts both ways – great when things are ramping, and to the downside when activity is less than expected.

We also know from Ericsson and Dycom that the North American market will be the most active when it comes to 5G deployments in the coming quarters, which helps explain why Dycom’s backlog rose to $7.9 billion exiting July up from $5.9 billion at the end of April and $5.9 billion exiting the July 2017 quarter. As that backlog across Comcast, Verizon, AT&T, Windstream and others is deployed in calendar 2019, we should see a snapback in margins and EPS compared to 2018.

With that in mind, the strategy will be to turn lemons – Monday’s 24% drop in DY’s share price – into long-term lemonade. To do this, we are adding to our DY position at current levels, which should drop our blended cost basis to roughly $80 from just under $92. Not bad, but I’ll be inclined to scale further into the position to enhance that blended cost basis in the coming weeks and months on confirmation that 5G is moving from concept to physical network. Like I said in our Digital Infrastructure overview, no 5G network means no 5G services, plain and simple. As we scale into the shares and factor in the revised near-term outlook, I’m also cutting our price target on DY shares to $100 from $125.

  • We are using this week’s pain to improve our long-term cost basis in Dycom Industries (DY) shares as we ratchet back our price target to $100 from $125.

 

Now, let’s get to how our Middle-Class Squeeze investing theme is hitting the housing market, and review that Digital Lifestyle company that we’re going to steer clear of because of Facebook (FB). Here we go…

 

If not single-family homes, where are the squeezed middle-class going?

To own a home was once considered one of the cornerstones of the American dream. If we look at the year to date move in the SPDR S&P Homebuilders ETF (XHB), which is down nearly 16% this year, one might have some concerns about the tone of the housing market. Yes, there is the specter of increasing inflation that has and likely will prompt the Federal Reserve to boost interest rates, and that will inch mortgage rates further from the near record lows enjoyed just a few years ago.

Here’s the thing:

  • Higher mortgage rates will make the cost of buying a home more expensive at a time when real wage growth is not accelerating, and consumers will be facing higher priced goods as inflation winds its way through the economic system leading to higher prices. During the current earnings season, we’ve heard from a number of companies including Cinemark Holdings (CNK), Hostess Brands (TWNK), Otter Tail (OTTR), and Diodes Inc. (DIOD) that are expected to pass on rising costs to consumers in the form of price increases.
  • Consumers debt loads have already climbed higher in recent years and as interest rates rise that will get costlier to service sapping disposable income and the ability to build a mortgage down payment

 

 

And let’s keep in mind, homes prices are already the most expensive they have been in over a decade due to a combination of tight housing supply and rising raw material costs. According to the National Association of Home Builders, higher wood costs have added almost $9,000 to the price of the average new single-family since January 2017.

 

 

Already new home sales have been significantly lower than over a decade ago, and as these forces come together it likely means the recent slowdown in new home sales that has emerged in 2018 is likely to get worse.

 

Yet our population continues to grow, and new households are being formed.

 

This prompts the question as to where are these new households living and where are they likely to in the coming quarters as homeownership costs are likely to rise further?

The answer is rental properties, including apartments, which are enjoying low vacancy rates and a positive slope in the consumer price index paid of rent paid for a primary residence.

 

There are several real estate investment trusts (REITs) that focus on the apartment and rental market including Preferred Apartment Communities, Inc. (APTS) and Independence Realty Trust (IRT). I’ll be looking at these and others to determine potential upside to be had in the coming quarters, which includes looking at their attractive dividend yields to ensure the underlying dividend stream is sustainable. More on this to come.

 

A Digital Lifestyle company that we plan on avoiding as Facebook attacks its key market

As important as it is to find well-positioned companies that are poised to ride prevailing thematic tailwinds that will drive revenue and profits as well as the share price higher, it’s also important to sidestep those that are running headlong into pronounced headwinds. These headwinds can take several forms, but one of the more common ones of late is the expanding footprint of companies like Alphabet (GOOGL), Amazon (AMZN) and Facebook (FB) among others.

We’ve seen the impact on shares of Blue Apron (APRN) fall apart over the last year following the entrance of Kroger (KR) into the meal kit business with its acquisition of Home Chef and investor concerns over Amazon entering the space following its acquisition of Whole Foods Market. That changing landscape highlighted one of the major flaws in Blue Apron’s subscription-based business model –  very high customer acquisition costs and high customer churn rates. While we warned investors to avoid APRN shares back last October when they were trading at north of $5, those who didn’t heed our advice are now enjoying APRN shares below $2.20. Ouch!

Now let’s take a look at the shares of Meet Group (MEET), which have been on a tear lately rising to $4.20 from just under $3 coming into 2018. The question to answer is this more like a Blue Apron or more like USA Technologies (USAT) or Habit Restaurant (HABT). In other words, one that is headed for destination @#$%^& or a bona fide opportunity.

According to its description, Meet offers  applications designed to meet the “universal need for human connection” and keep its users “entertained and engaged, and originate untold numbers of casual chats, friendships, dates, and marriages.” That sound you heard was the collective eye-rolling across Team Tematica. If you’re thinking this sounds similar to online and mobile dating sites like Tinder, Match, PlentyOfFish, Meetic, OkCupid, OurTime, and Pairs that are all part of Match Group (MTCH) and eHarmony, we here at Tematica are inclined to agree. And yes, dating has clearly moved into the digital age and that falls under the purview of our Digital Lifestyle investing theme.

Right off the bat, the fact that Meet’s expected EPS in 2018 and 2019 are slated to come in below the $0.39 per share Meet earned in 2017 despite consensus revenue expectations of $181 in 2019 vs. just under $124 million in 2017 is a red flag. So too is the lack of positive cash flow and fall off in cash on the balance sheet from $74.5 million exiting March 2017 to less than $21 million at the close of the June 2018 quarter. A sizable chunk of that cash was used to buy Lovoo, a popular dating app in Europe as well as develop the ability to monetize live video on several of its apps.

Then there is the decline in the company’s average total daily active users to 4.75 million in the June 2018 quarter from 4.95 million exiting 2017. Looking at average mobile daily active users as well as average monthly active user metrics we see the same downward trend over the last two quarters. Not good, not good at all.

And then there is Facebook, which at its 2018 F8 developer conference in early May, shared it was internally testing its dating product with employees. While it’s true the social media giant is contending with privacy concerns, CEO Mark Zuckerberg shared the company will continue to build new features and applications and this one was focused on building real, long-term relationships — not just for hookups…” Clearly a swipe at Match Group’s Tinder.

Given the size of Facebook’s global reach – 1.47 billion daily active users and 2.23 billion monthly active users – it has the scope and scale to be a force in digital dating even with modest user adoption. While Meet is enjoying the monetization benefits of its live video offering, Facebook has had voice and video calling as well as other chat capabilities that could spur adoption and converts from Meet’s platforms.

As I see it, Meet Group have enjoyed a nice run thus far in 2018, but as Facebook gears into the digital dating and moves from internal beta to open to the public, Meet will likely see further declines in user metrics. So, go user metrics to go advertising revenue and that means the best days for MEET shares could be in the rearview mirror. To me this makes MEET shares look more like those from Blue Apron than Habit or USA Technologies. In other words, I plan on steering clear of MEET shares and so should you.

 

 

Special Alert – Adding to our position in GSV Capital shares

Special Alert – Adding to our position in GSV Capital shares

 

Key points inside this Alert:

  • Following the thesis confirming June quarter results, we are adding to our position in GSV Capital (GSVC) on the Tematica Investing Select List given the steep discount to the company’s net asset value per share.

 

After last night’s close GSV Capital (GSVC) reported June quarter results — while the financial media headlines reported a mixed quarter in terms of revenue and the bottom line — our view is the quarter was a solid one characterized by the continued increase in its net asset value per share. That continued climb, as well as the reasons behind it, make us increasingly comfortable with our $11 price target. Given the sharp discount in between the current share price and GSV’s net asset value per share, we are adding to our position at current levels, which will enhance our cost basis as well.

Now onto the report …

Exiting June, GSV’s net asset valued totaled $217.1 million, up from $212.5 million exiting March driven primarily by the portfolio’s top five holdings. As a reminder, those holdings include Spotify (SPOT), Palantir Technologies, Dropbox (DBX), Coursera, and Stormwind. In total, the portfolio value for those five positions rose to $134.3 million (roughly 62% of the portfolio) from $124.2 million (58.5%). This means the holdings in its other 23 positions, in aggregate, fell sequentially. In our view this reaffirms management’s strategic pivot to concentrate its investments around its larger positions is paying off, which is also evidenced by the year over year decline in portfolio positions to 28 from 38 a year ago.

As I suspected, GSV put its share buyback program to work during the quarter, repurchasing 315,625 shares of common stock for approximately $2.2 million in cash. That brings it total share repurchase through the end of the June quarter to 1.43 million shares for roughly $8.3 million. The combination of its higher net asset value and a lower share count both year over and sequentially were the key drivers behind the continued step up in GSV’s net asset value per share to $10.46 per share at the end of June vs. $9.64 per share exiting 2017 and $9.11 per share exiting the June 2017 quarter.

In the current quarter, GSV has already purchased another 230,623 shares for $1.6 million, and with $5 million remaining under its current authorization I suspect the company will remain an active buyer given the discount to its net asset value per share.

In terms of potential new investments or scaling into existing ones, at the end of June GSV’s balance sheet held $93.5 million in cash and $65.1 million of marketable securities, of which $25.5 million is subject to sales restrictions. Factoring in the share repurchase activity over the last few weeks, GSV has roughly 20.5 million shares outstanding, $6.40 in available cash per share on its books and its net asset value per share is about $10.58 per share.

This cash position leaves ample firepower for GSV to add positions within its preferred bite size — $10 million average position size up to $15 million for an outsized one in a premium, late-stage growth company that a line of sight liquidity event, be it an initial public offering or getting acquired. With CB Insights having identified some 355 IPO candidates, the waters are full, but we expect GSV to remain disciplined and stick to its core investment areas – Education Technology, Cloud Computing, Big Data, and Social Mobile, Marketplaces, and Sustainability.

The takeaway from all the math-Olympics is GSV has ample dry powder to put to work and its share repurchases have and will continue to help move its net asset value per share higher. It’s also not lost that net asset value per share is approaching our $11 price target, while the shares are trading at a steep discount relative to their net asset value per share. With the current share price below our existing $7.50 cost basis, we are pulling the trigger and adding to our GSVC position at current levels.

  • Following the thesis confirming June quarter results, we are adding to our position in GSV Capital (GSVC) on the Tematica Investing Select List given the steep discount to the company’s net asset value per share.

 

Saying adios to Farmland Partners as its dividend gets slashed

Saying adios to Farmland Partners as its dividend gets slashed

 

Key point inside this Alert:

  • We are issuing a Sell on shares of Farmland Partners (FPI) and removing them from the Tematica Investing Select List.

 

While I realize the selling out of Farmland Partners may come as a bit of a surprise to subscribers, I was shocked last night by the dramatic cut to the company’s quarterly dividend that was announced as a part of its disappointing June quarter results. Candidly, given the impact of trade and tariffs, I was inclined to give the June quarter a pass, but when a company slashes its dividend by 75% to $0.05 per share for 3Q 3018 from the expected $0.20 per share per quarter it’s a signal that something is likely amiss.

The fact that the Board “will evaluate the dividend in subsequent quarters” offers little solace, especially given the cut to its outlook. Farmland now expects its 2018 AFFO/share guidance to a range of $0.30-$0.34 from the prior range of $0.40-0.44.

Granted Farmland management tried to explain the dividend cut as a part of the decision by the Board to boost its buyback activity given what it sees as a very undervalued stock.

But… and it’s a big but… one has to wonder why the company opted to cut the 3Q 2018 dividend payment by $5.6 million ($0.15 per share times the 37.5 million shares of common stock outstanding on a fully diluted basis) when it exited the June quarter with $26.4 million in cash on the balance sheet. The math suggests that we’re not likely to see a pronounced rebound in the dividend especially since the company’s revised guidance is heavily weighted to the December quarter.

Am I frustrated?

You bet, but as I have learned over the years it’s far better to stick to the facts and data and to exit the position lest we become emotional and hope it sorts itself out at some point. In other words, remain cold-blooded. I also expect the shorts that have been circling the shares will use the dividend cut to reaffirm their argument, which means FPI shares are likely in for a tough time in the coming months especially with a very different dividend yield to be had compared to when we first acquired them.

Yes, it will be a painful exit given the position will likely be down some 30% from where we added them, but despite the pain, the goal here is to stem the loss of capital (worst case) and avoid a dead money stock (best case).  I suspect we will be better off to let this one go vs. the alternative to be had.

 

 

Costco’s July sales report keeps us bullish

Costco’s July sales report keeps us bullish

Key point inside this alert:

  • Our price target remains $230 for Costco Wholesale (COST) shares, however, we will once again assessing incremental upside to be had based on the context to be found in the July Retail Sales Report.

 

Last night, Costco Wholesale (COST) served up its July sales figures that once again confirmed it continues to take consumer wallet share and open new warehouse locations. We see the month’s data as the latest thesis affirming data point for the company’s business and our position in the shares.

Digging into the particulars of Costco’s July data, net sales hit $10.59 an increase of just over 10% year over year. That brings the trailing three-month year over year increase in net sales to $35.16 billion, up just shy of 12% year over year. Impressive for sure, and the soon to be upon us July Retail Sales Report that will be published next week (Aug. 15) will more than likely once again confirm Costco’s consumer wallet share gains.

One of the keys for these overall revenue gains has been the targeted expansion of the company’s warehouse footprint, which stood at 757 locations exiting July vs. 749 this past April and 736 at the close of July 2017. Excluding the impact of those new openings, which will no doubt drive favorable membership fee income figures, profits and EPS, on a same-store-sales basis, Costco was up 8.3% company-wide (6.4% excluding gas and foreign exchange) in July. This tells us that the core Costco business continues to resonate with consumers, and we see that continuing as we head into the seasonally strong shopping season with Back to School, Halloween, Thanksgiving and the year-end holidays. E-commerce sales climbed more than 20% year over year for the month, which signals the company continues to make inroads as it continues to expand its digital offerings.

Quickly back to the July data for those keeping tabs, each of the company’s reportable segments rose year over year with the strongest gains in the US (up 6.6% excluding gas and foreign exchange) followed by Other International (up 7.1%) and Canada (up 5.0%).

  • Our price target remains $230 for Costco Wholesale (COST) shares, however, we will once again assessing incremental upside to be had based on the context to be found in the July Retail Sales Report.
Digital Infrastructure: the underpinning of today’s digital super highway

Digital Infrastructure: the underpinning of today’s digital super highway

 

 

In our recently reconstituted Digital Lifestyle investment theme, we combined our former Connected Society, Content is King and Cashless Consumption themes to better reflect the increasingly connected and digital consumer. If you missed that post, click here to read the details.

Of course, much the way a car would be challenging to drive if there were no roads or a radio would only play static if there were no radio stations, there would be no Digital Lifestyle to live if the underlying high-speed data networks, increasing computing power, and falling storage costs that make it possible didn’t exist, which is where our new theme, Digital Infrastructure, comes into play.

We define Digital Infrastructure as the foundational services and technologies that enable continuous access to information, commerce, communication, and entertainment that have become a daily fact of life for billions. These include mobile, cable and satellite networks, the equipment that comprise those networks, the companies that build the networks; data centers and the servers, racks, routers and other equipment that enable them; payment processing networks and their point of sale devices; chipsets and modems that allow devices to connect to these networks. But more simply, while the Digital Lifestyle investing theme focuses on the consumer aspect of the connected world, the Digital Infrastructure theme is the highway that connects these devices and carries the data traffic they create.

 

 

The Digital Landscape

Today, there are billions of connected mobile devices, more than 3.5 billion mobile broadband subscriptions, more than 1 billion fixed broadband subscriptions and some 5 billion Internet of Things devices. All of them connect to 1 billion websites and each one is expected to work anytime, anywhere. That is just the beginning. As internet-based technologies are implements in areas such as healthcare, education, and government services both in the developed countries as well as in emerging ones, access to digital services will only become more crucial in the years to come for individuals, businesses and other institutions.

According to Cisco Systems’ most recent Visual Networking Index:

  • Globally, there will be 27.1 billion networked devices in 2021, up from 17.1 billion in 2016.
  • Globally, internet traffic will grow 3.2-fold from 2016 to 2021, a compound annual growth rate of 26%.
  • Globally, the average internet user will generate 57.0 Gigabytes of Internet traffic per month in 2021, up 139% from 23.9 Gigabytes per month in 2016, a CAGR of 19%.
  • In 2021, the gigabyte equivalent of all movies ever made will cross the Internet every 1 minutes.

 

That unquenchable thirst associated with our Digital Lifestyle investing theme periodically leads to network capacity constraints, which in turn leads to the building of new digital networks that expand capacity, improve data speeds and enable a host of new applications. That, in turn, leads to incremental network capacity additions over the ensuing years to alleviate bottlenecks and improve the user experience, and oftentimes creates an opportunity for players such as those in our Disruptive Technologies investment theme to step into the void.

Even as companies such as AT&T and Verizon are building out their next-generation 5G networks they continue to add incremental 4G network capacity to improve network coverage and performance. The same is true for Comcast as it builds out its Xfinity Gig-Speed internet offering that has come a long way from dial-up and DSL service.

For some historical perspective, let’s remember mobile telephony was originally voice-based. That was until the rollout of 2G technology, which brought networks that allowed basic messaging and data services at data speeds up to 250 kilobits per second (Kbps). With a minimum consistent Internet speeds of 144Kbps, 3G was the first move into what was called “mobile broadband”. Next up, of course, came 4G, which offered high speed, high quality and high capacity to users while improving security and lower the cost of voice and data services, multimedia, and internet over IP. The emergence of 4G, in turn, paved the way for mobile applications such as mobile web access, IP telephony, gaming services, high-definition mobile TV, video conferencing, and streaming services.

Moving beyond smartphones, as the cost of connectivity has fallen from both a chipset and service perspective, there has been an explosion in the types of connected devices in other aspects of our lives. Home appliances, door locks, security cameras, cars, wearables, vacuum cleaners, dog collars, and many other devices are getting connected. Gartner predicts that nearly 21 billion devices will be connected to the Internet by 2020.

With 5G technology, we are looking at another leapfrog in network capacity and data speeds that are expected to give rise to the Internet of Things, autonomous cars, virtual reality and other applications that will foster new network connections and demands as well. As 5G networks spread across the globe, we can expect the number of connected devices to explode even further, which of course will begin to bottleneck the 5G networks, necessitating further spending on infrastructure and technologies.  As you can see, the cycle goes on and on and on.

 

 

Making 5G a Reality

North America will likely be the first 5G market as AT&T, Verizon and T-Mobile US/Sprint look to launch those networks in 2019. The latest GSMA Intelligence report on 5G estimates that U.S. operators will spend about $100 billion (excluding spectrum acquisitions) between 2018 and 2020 upgrading their 4G LTE networks and investing in 5G. This should drive incremental revenue for mobile equipment companies Ericsson, Alcatel Lucent, Nokia and Cisco Systems, while also driving activity at those companies like, Dycom Industries, that build the physical networks. Over the longer-term 5G networks will launch in Western Europe and across the globe. Moor Insights & Strategy sees this driving massive IT hardware spending to the tune of $326 billion by 2025. This includes 5G data processing, storage and networking needs in the data center and edge computing, carrier network transformation projects, and 5G modems and IP.

Here’s the thing, the buildout of these next-generation networks takes time as carriers obtain the necessary spectrum and then build the physical network. SNS Research estimates that by 2020, 5G networks will account for nearly 5% of all spending on wireless network infrastructure rising to more than 40% by the end of 2025. What this means is that mobile carriers will continue to spend on soon-to-be legacy 3G and 4G technologies in the interim as they buildout existing network capacity to accommodate demand associated with our Digital Lifestyle investing theme.

Then there is the incremental spending on various backhaul aspects of the network that include wireless solutions as well as fiber, microwave, carrier Ethernet and satellite that moves data to the network backbone to distribution points around the network.  According to Deloitte, without deeper fiber deployment, carriers will be unable to support the projected four-fold in mobile data traffic increase between 2016 and 2021. While a majority of Internet traffic terminates on a wireless device, nearly all of that traffic relies on WiFi access points, homespots, and hotspots connected to wireline broadband infrastructure services such as fiber, coax, or twisted-pair copper. Wireless networks only carry 11% of traffic, implying wireline networks support nearly 90% of total Internet traffic.

And let’s not forget the chipsets needed to connect devices to these 5G networks – the 5G chipset market is expected to grow from $0.4 billion in 2016 to $2.03 billion in 2020 to $ 22.41 billion by 2026, a CAGR of 49% from 2020 to 2026. The primary driver of this will initially be smartphones, which are expected to reach 80-100 million units by 2021 up from 2 million in 2019.

As Hans Vestberg, CEO of Verizon, put it, “5G is an access technology” that will drive even greater data consumption as connected devices move past smartphones. This is expected to create demand for incremental data centers, cloud services, payment processing network capacity and the hardware that powers them. And that’s just inside the US, a more global view that focuses on the global population likely means more consumers adopting our Digital Lifestyle as these connected devices and networks reach their shores.

  • Long-term, IDC expects spending on off-premises cloud IT infrastructure will grow at a five-year compound annual growth rate (CAGR) of 10.8 percent, reaching $55.7 billion in 2022.
  • The global data center deployment spending market is expected to reach $83.7 billion by the end of 2022 up from $44.3 billion in 2017. This reflects the growing number of small and medium enterprises who need servers and other hardware, the emergence of the Internet of Things (IoT) and big data, and surge in the number of smart devices that can be interconnected.

The bottom line is that if there is no Digital Infrastructure to carry mobile payments, online and mobile searching and shopping, stream audio and video content, to carry Tweets and emails as well as Facebook posts, there can be no Digital Lifestyle. As 5G and other new technologies are deployed, the number of data-creating connective devices will expand, eventually pressuring networks and require incremental capacity additions and the deployment of next-generation technologies. Recently Motorola and Verizon launched the world’s first 5G capable smartphone, the Moto Z3, but it’s not what it claims to be as not only are there no 5G capable mobile networks there are no 5G modems available as yet. What the Moto Z3 boasts is a modular and upgradeable structure for when both are available. While clearly intended as marketing to attract attention, it’s a sobering reminder that the disruptive impact to be had with 5G cannot occur until the necessary infrastructure is in place.

 

Tematica’s Digital Infrastructure investing theme and Dycom shares

Tematica’s Digital Infrastructure investing theme focuses on those companies that will benefit from both the buildout of new and existing digital infrastructure from networks, base stations, data centers and related hardware to the chipsets and materials that power them and grant connectivity to a growing array of devices.   As we introduce this new theme, we are using specialty contractor and current Tematica Select List company Dycom Industries (DY) as a sample case study.

As a reminder, Dycom builds the physical networks for AT&T (T), Verizon (VZ), Comcast (CMCSA), CenturyLink, Charter Communications, Windstream Corp. and others. Those six named customers account for 82% of recent quarterly revenue with AT&T being the largest at just over 24%. Of note, while Verizon clocked in third place at just under 17%, that business grew substantially compared to 8.5% in the April 2017 quarter.

The combination of continued 4G mobile network spend, combined with the accelerating spending 5G and gigabit fiber networks across its customer base bodes well for Dycom in the coming quarters. While we acknowledge there have been some timing issues associated with the initial timing of 5G networks, as we’ve heard during the 2Q 2018 earnings season, network operators are shifting their capital spending to favor these new networks ahead of expected launches in the coming quarters.

Verizon expects to launch its fixed 5G service “by the end of ’18” and in May Samsung received FCC approval for the first 5G router. Along with its 5G launch, Verizon is reportedly looking to deliver bundled TV service in partnership with either Apple and Alphabet. AT&T plans to launch its 5G service in a dozen US markets before the end of 2018 alongside its construction of FirstNet, the country’s nationwide public safety broadband platform dedicated to first responders. Rounding out Dycom’s top three customers, Comcast continues to invest in line extensions to reach more business and residential customer addresses as well as other network investments including the buildout of its gigabit fiber offering.

That pick up in spending is expected to drive a 23% increase in revenue during the second half of 2018 compared to the first half with further growth in 2019 as 5G network building continues. As building activity for these new networks escalates, Dycom’s margins should benefit from greater absorption of labor and field costs as well as SG&A costs that drives favorable incremental operating margins and Eps generation.

Dissecting Dycom’s most recently quarterly earnings and revised outlook that calls for EPS of $1.78-$1.93 in the first half 2018, to hit its new full year 2018 target EPS of $4.26-$5.15, it means delivering EPS of $2.98-$3.22 in the back half of the year. In other words, a pronounced pick up in business activity that reflects network buildout activity from its customers. As that activity continues in 2019, consensus expectations have Dycom earnings nearly $6.50 per share, up from $3.88 per share in 2017. Our $125 price target equates to roughly 19x 2019 EPS expectations.

Dycom’s business tends to be seasonal in nature given the impact of weather, particularly winter weather on construction conditions. This can result in work disruptions and timing issues, which is one of the reasons that we prefer to look at Dycom on a multi-quarter basis.

  • As we introduce our Digital Infrastructure investing theme, we are reiterating our $125 price target on shares of Dycom Industries (DY) as we reclassify the company in this new theme.

 

Examples of other companies riding the Digital Infrastructure investment theme tailwind:

  • Adtran (ADTN)
  • Alcatel Lucent (ALU)
  • Alphabet/Google (GOOGL)
  • Amazon (AMZN)
  • Applied Optoelectronics (AAOI)
  • ARRIS International (ARRS)
  • AT&T (T)
  • Broadcom (AVGO)
  • CenturyLink (CTL)
  • Cisco Systems (CSCO)
  • CommScope (COMM)
  • Corning (GLW)
  • Digital Realty Trust (DLR)
  • Dycom Industries (DY)
  • Encore Wire (WIRE)
  • Equinix (EQIX)
  • Ericsson (ERIC)
  • Harmonic (HLIT)
  • Intel (INTC)
  • Lumentum Holdings (LTE)
  • MasterCard (MA)
  • Maxlinear (MXL)
  • Motorola Solutions (MSI)
  • Nokia (NOK)
  • Nvidia (NVDA)
  • Power Integration (POWI)
  • Qualcomm (QCOM)
  • Skyworks Solutions (SWKS)
  • STMicroelectronics (STM)

 

Eye on the long-term prize with Disney shares

Eye on the long-term prize with Disney shares

 

Key Point Inside this Alert:

  • We are boosting our price target on Walt Disney (DIS) shares to $130 from $120.

 

Last night Walt Disney (DIS) reported June quarter results that missed expectations modestly on the top and bottom line, taking some wind out of the shares in after-market trading. To be fair, Disney shares have ascended quickly quarter to date as it became clear that it would be the one to acquire the TV and movie assets at 21st Century Fox (FOXA). That melt up put DIS shares in the position to having to deliver upside relative to expectations to justify the share price move over the last five weeks, but those new catalysts won’t begin to fire for Disney for a few quarters.

I continue to see many positives associated with that transaction, which include adding the vast Fox content library to Disney’s existing one that spans its historical characters as well as Marvel, Star Wars, and Pixar. As the transaction closes, Disney will likely reveal its strategy to integrate the properties, but odds are it will focus on the existing Disney strategy to leverage tentpole franchises across its various businesses like we are seeing with Marvel, Star Wars and Pixar across its parks and consumer businesses. Believe me, there is no reason to complain about that strategy given its success; if anything, the Fox acquisition allows Disney to double down on that strategy.

The Fox assets will also give a positive shot in the arm to Disney’s international plans given Fox Networks Group International’s 350 channels that reach consumers in 170 countries, while Star reaches 720 million viewers a month across India and more than 100 other markets. That library also shores up Disney’s competitive position for the expected launch of its own streaming services in late 2019, which the financial media has come to call “Disflix”. My view remains that if Disney is successful in deploying its streaming service — a service that will tap into a vast content library and is expected to be priced below Netflix’s (NFLX) streaming service — investors will have to revisit how they value the company, especially if the streaming service becomes a meaningful part of Disney’s sales and profit stream.

So, if one is focused on the rear-view mirror that was the company’s 2Q 2018 quarterly results I can understand some disappointment with the top and bottom line misses, but to me, it is the coming quarters where the action is when it comes to Disney. No doubt, there will be challenges along the way, but over the coming 12-24 months, the scope and scale of Disney will be far greater with solidified competitive moats around its business. For that reason, I am nonplussed by the company’s June quarter results and while we recognize the need to be patient with Disney given the timing of these two key transformative events, we have a vibrant array of films hitting the box office in 2019 that include Captain Marvel, Dumbo, Avengers, Aladdin, Toy Story 4, The Lion King, Artemis Fowl, Jungle Cruise, Frozen 2 and Star Wars: Episode IX.

While I we will certainly be able to dig far more into the details as the Fox acquisition closes, Disney has shared that it expects to achieve $2 billion in cost-related synergies associated with the Fox transaction and that has us bumping our long-term price target on DIS shares to $130 from $125. As management shares potential revenue synergies and updates its cost savings prospects as well as simply runs the existing business leveraging its 2019 content pipeline, I’ll look to revisit our price target as needed.

  • We are boosting our price target on Walt Disney (DIS) shares to $130 from $120.

 

Weekly Issue: Booking a Tasty Gain in this Guilty Pleasure Stock

Weekly Issue: Booking a Tasty Gain in this Guilty Pleasure Stock

Key points inside this issue

  • Earnings continue to roll in as trade tensions remain and economic data is in conflict.
  • We are selling half the position in Habit Restaurant (HABT) shares on the Tematica Investing Select List, booking a hefty win in the process, and boosting our price target on the remaining shares to $16 from $12.
  • Our price target on Costco Wholesale (COST) shares remains $230
  • Our price target on United Parcel Service (UPS) shares remains $130.

 

We are now more than one-third of the way through the September quarter, and firmly into the month of August, a time that is traditionally one of the slowest times of the year. Corporate earnings for the June quarter continue to come in and the United States has reimposed sanctions on Iran with additional measures potentially later this year as the Trump administration looks to pressure the Tehran regime to negotiate or step aside.

In response to President Trump instructing U.S. Trade Representative Lighthizer to consider raising proposed tariffs on $200 billion in Chinese goods to 25% from 10%, the Chinese government on Friday shared a list of 5,207 U.S. products (meat, coffee, nuts, alcoholic drinks, minerals, chemicals, leather products, wood products, machinery, furniture and auto parts) on which it would impose tariffs between 5% to 25% if the U.S. followed through on proposed tariffs.

The stock market’s performance this week suggests it is shrugging off some of these geopolitical concerns, however, the longer they play out the more likely we are to see them have an impact to earnings expectations. The word “tariff” was mentioned 290 times in S&P 500 conference calls in the first quarter. So far this quarter that number is up to 609, and we have yet to finish the current season. We take this to mean that while many are hopeful when it comes to trade, companies are factoring potential pain into their planning. This could set the stage for a stronger finish to the year if the president is able to deliver on trade. We’ll continue to watch the developments and position the our holdings in the Tematica Select list accordingly.

As we move through the dog days of summer, I’ll continue to chew through the data and heed the messages from all the thematic signals that are around us each and every week.

 

Taking some profits in Habit after a smoking run

Even ahead of last week’s better than expected June quarter results, our shares of Habit Restaurant (HABT) have been rocking and rolling as they climbed just shy of 60% since we added them to the Tematica Investing Select List in early May.

Helping pop the shares over the last few days, Wall Street analysts boosted their forecasts for Habit following strong top and bottom line June quarter results that were driven by several pricing factors and better-than-expected volume, and an outlook that was ahead of expectations. On the pricing front, there were two items worth mentioning. First was the 3.9% increase taken in mid-May to offset California labor pressures, followed by the premium pricing associated with third-party delivery with the likes of DoorDash. As Habit rolls out third-party delivery in other locations and with other partners, such as Seamless with whom it is currently in testing, we are likely to see further pricing benefits that should drop to the bottom line.

Underlying this, our core thesis for the company, which centers on Habit’s geographic expansion outside of its core California market, remains intact. During the June quarter, it opened seven new company-operated restaurants, three of which were drive-thrus. While there were no new East Coast locations during the quarter, Habit remains committed to opening a total of 30 new locations in 2018 with 20% of them on the East Coast — one of which will be right near Tematica in Northern Virginia! Franchisees will add an additional seven to nine locations in 2018, with recently opened ones including Seattle and the second location in China.

In response, we are going to do two things. First, I am boosting our price target for HABT shares to $16, which offers modest upside from the current share price. As we do this, we will prudently book some of those hefty profits to be had given the move in the shares over the last three months, which has them in overbought territory. We will do this by selling half the HABT position on the Tematica Investing Select List, and keep the other half intact to capture the incremental upside. I’ll also continue to monitor the company to gauge its progress relative to revised expectations to determine if another beat is in the cards.

  • We are selling half the position in Habit Restaurant (HABT) shares on the Tematica Investing Select List, booking a hefty win in the process, and boosting our price target on the remaining shares to $16 from $12.

Costco shares get another boost

I recently boosted our price target on Costco Wholesale (COST) shares to $230 from $220. Over the last few weeks the shares have climbed, bringing their return on the Tematica Investing Select List to more than 40%. Yesterday a similar move was had at Telsey Advisory Group (TAG), which raised its COST price target to $230 from $220. The similarities don’t end there as TAG also sees Costco to be a share gainer that should see double-digit growth in earnings per share this year. I’ve said it before, and odds are I’ll say it again, I love it when the herd comes around to our way of thinking.

Later this week, we should receive Costco’s July same-store sales metrics, which should confirm continued wallet share gains but also update us as to the number of open warehouse locations. As a reminder, more open warehouses drive the high margin membership fee income that is a key driver of Costco’s EPS.

  • Our price target on Costco Wholesale (COST) shares remains $230

 

UPS keeps on trucking

Quarter to date, our shares of United Parcel Service (UPS) have soared 13%, bringing the return for us to more than 18%. In my view, the company is clearly benefiting from the improving economy and consumer spending, particularly that associated with our Digital LifeStyle investing theme. As we head into the thick of Back to School spending, let’s remember that UPS is well positioned to benefit not only from Amazon’s (AMZN) Prime Day 2018 but also march toward the year-end holiday spending bonanza that spans from Halloween through New Year’s. Over the last several years, we’ve seen digital shopping win a growing piece of consumer wallets and I see no reason why that won’t continue yet again this year.

  • Our price target on United Parcel Service (UPS) shares remains $130.