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Weekly Issue: As earnings season continues, the market catches a positive breather

Weekly Issue: As earnings season continues, the market catches a positive breather

Key points in this issue:

  • As expected, more negative earnings revisions roll in
  • Verizon says “We’re heading into the 5G era”
  • Nokia gets several boosts ahead of its earnings report
  • USA Technologies gets an “interim” CFO

 

As expected, more negative earnings revisions roll in

In full, last week was one in which the domestic stock market indices were largely unchanged and we saw that reflected in many of our Thematic Leaders. Late Friday, a deal was reached to potentially only temporarily reopen the federal government should Congress fail to reach a deal on immigration. Given the subsequent bluster that we’ve seen from President Trump, it’s likely this deal could go either way. Perhaps, we’ll hear more on this during his next address, scheduled ahead of this weekend’s Super Bowl.

Yesterday, the Fed began its latest monetary policy meeting. It’s not expected to boost interest rates, but Fed watchers will be looking to see if there is any change to its plan to unwind its balance sheet. As the Fed’s meeting winds down, the next phase of US-China trade talks will be underway.

Last week I talked about the downward revisions to earnings expectations for the S&P 500 and warned that we were likely to see more of the same. So far this week, a number of high-profile earnings reports from the likes of Caterpillar (CAT), Whirlpool (WHR), Crane Co. (CR), AK Steel (AKS), 3M (MMM) and Pfizer (PFE) have revealed December-quarter misses and guidance for the near-term below consensus expectations. More of that same downward earnings pressure for the S&P 500 indeed. And yes, those misses and revisions reflect issues we have been discussing the last several months that are still playing out. At least for now, there doesn’t appear to be any significant reversal of those factors, which likely means those negative revisions are poised to continue over the next few weeks.

 

Tematica Investing

With the market essentially treading water over the last several days, so too did the Thematic Leaders.  Apple’s (AAPL) highly anticipated earnings report last night edged out consensus EPS expectations with guidance that was essentially in line. To be clear, the only reason the company’s EPS beat expectations was because of its lower tax rate year over year and the impact of its share buyback program. If we look at its operating profit year over year — our preferred metric here at Tematica — we find profits were down 11% year over year.

With today’s issue already running on the long side, we’ll dig deeper into that Apple report in a stand-alone post on TematicaResearch.com later today or tomorrow, but suffice it to say the market greeted the news from Apple with some relief that it wasn’t worse. That will drive the market higher today, but let’s remember we have several hundred companies yet to report and those along with the Fed’s comments later today and US-China trade comments later this week will determine where the stock market will go in the near-term.

As we wait for that sense of direction, I’ll continue to roll up my sleeves to fill the Guilty Pleasure void we have on the Thematic Leaders since we kicked Altria to the curb last week. Stay tuned!

 

Verizon says “We’re heading into the 5G era”

Yesterday and early this morning, both Verizon (VZ) and AT&T (T) reported their respective December quarter results and shared their outlook. Tucked inside those comments, there was a multitude of 5G related mentions, which perked our thematic ears up as it relates to our Disruptive Innovators investing theme.

As Verizon succinctly said, “…we’re heading to the 5G era and the beginning of what many see as the fourth industrial revolution.” No wonder it mentioned 5G 42 times during its earnings call yesterday and shared the majority of its $17-$18 billion in capital spending over the coming year will be spent on 5G. Verizon did stop short of sharing exactly when it would roll out its commercial 5G network, but did close out the earnings conference call with “…We’re going to see much more of 5G commercial, both mobility, and home during 2019.”

While we wait for AT&T’s 5G-related comments on its upcoming earnings conference call, odds are we will hear it spout favorably about 5G as well. Historically other mobile carriers have piled on once one has blazed the trail on technology, services or price. I strongly suspect 5G will fall into that camp as well, which means in the coming months we will begin to hear much more on the disruptive nature of 5G.

 

Nokia gets several boosts ahead of its earnings report

Friday morning one of Disruptive Innovator Leader Nokia’s (NOK) mobile network infrastructure competitors, Ericsson (ERIC), reported its December-quarter results. ERIC shares are trading up following the report, which showed the company’s revenue grew by 10% year over year due primarily to growth at its core Networks business. That strength was largely due to 5G activity in the North American market as mobile operators such as AT&T (T), Verizon (VZ) and others prepare to launch their 5G commercial networks later this year. And for anyone wondering how important 5G is to Ericsson, it was mentioned 26 times in the company’s earnings press release.

In short, I see Ericsson’s earnings report as extremely positive and confirming for our Nokia and 5G investment thesis.

One other item to mention is the growing consideration for the continued banning of Huawei mobile infrastructure equipment by countries around the world. Currently, those products and services are excluded in the U.S., but the U.K. and other countries in Europe are voicing concerns over Huawei as they look to confirm their national telecommunications infrastructure is secure.

Last week, one of the world’s largest mobile carriers, Vodafone (VOD) announced it would halt buying Huawei gear. BT Group, the British telecom giant, has plans to rip out part of Huawei’s existing network. Last year, Australia banned the use of equipment from Huawei and ZTE, another Chinese supplier of mobile infrastructure and smartphones.

In Monday’s New York Times, there was an article that speaks to the coming deployment of 5G networks both in the U.S. and around the globe, comparing the changes they will bring. Quoting Chris Lane, a telecom analyst with Sanford C. Bernstein in Hong Kong it says:

“This will be almost more important than electricity… Everything will be connected, and the central nervous system of these smart cities will be your 5G network.”

That sentiment certainly underscores why 5G technology is housed inside our Disruptive Innovators investing theme. One of the growing concerns following the arrest of two Huawei employees for espionage in Poland is cybersecurity. As the New York Times article points out:

“American and British officials had already grown concerned about Huawei’s abilities after cybersecurity experts, combing through the company’s source code to look for back doors, determined that Huawei could remotely access and control some networks from the company’s Shenzhen headquarters.”

From our perspective, this raises many questions when it comes to Huawei. As companies look to bring 5G networks to market, they are not inclined to wait for answers when other suppliers of 5G equipment stand at the ready, including Nokia.

Nokia will report its quarterly results this Thursday (Jan. 31) and as I write this, consensus expectations call for EPS of $0.14 on revenue of $7.6 billion. Given Ericsson’s quarterly results, I expect an upbeat report. Should that not come to pass, I’m inclined to be patient and hold the shares for some time as commercial 5G networks launches make their way around the globe. If the shares were to fall below our blended buy-in price of $5.55, I’d be inclined to once again scale into them.

  • Our long-term price target for NOK shares remains $8.50.

 

USA Technologies gets an “interim” CFO

Earlier this week, Digital Lifestyle company USA Technologies (USAT) announced it has appointed interim Chief Financial Officer (CFO) Glen Goold. According to LinkedIn, among Goold’s experience, he was CFO at private company Sutron Corp. from Nov 2012 to Feb 2018, an Associate Vice President at Carlyle Group from July 2005 to February 2012, and a Tax Manager at Ernst & Young between 1997-2005. We would say he has the background to be a solid CFO and should be able to clean up the accounting mess that was uncovered at USAT several months ago.

That said, we are intrigued by the “interim” aspect of Mr. Goold’s title — and to be frank, his lack of public company CFO experience. We suspect the “interim” title could fuel speculation that the company is cleaning itself up to be sold, something we touched on last week. As I have said before, we focus on fundamentals, not takeout speculation, but if a deal were to emerge, particularly at a favorable share price, we aren’t ones to fight it.

  • Our price target on USA Technologies (USAT) shares remains $10.

 

 

 

Weekly Issue: Thematic M&A and Adding Back a Digital Infrastructure Position

Weekly Issue: Thematic M&A and Adding Back a Digital Infrastructure Position

Key points inside this issue

  • Despite the stock market’s year to date gains, concerns remain for December quarter earnings season
  • Thematic M&A was rampant in 2018
  • Our price targets on AMN Healthcare (AMN), Chipotle Mexican Grill (CMG) and Netflix (NFLX) remain $75, $550 and $500, respectively.
  • Putting shares of Guilty Pleasure thematic leader Altria (MO) on watch
  • We are issuing a Buy on and adding back shares of Digital Infrastructure company, USA Technologies (USAT), to the Tematica Select List with a price target of $10.

 

Despite the stock market’s year to date gains, concerns remain for December quarter earnings season

Over the last week, stocks continued to move higher placing all the major domestic stock market averages higher. Quite the turn from what we saw in much of the December quarter that evaporated all of 2018’s gains. Part of the rebound reflects the harsh beating that many stocks received as investors came to grips with the various factors that I’ve been discussing here over the last two months. The down and dirty summation of those factors is this: the global economy continues to slow and it is raising questions over not only GDP prospects for the coming year but also earnings.

Stoking those earnings growth concerns were negative pre-announcements from Apple (AAPL), Samsung, LG, Macy’s (M), Target (TGT) and Kohl’s (KSS) over the last two weeks. That combination points to slower smartphone demand, but I continue to see it picking up in the coming quarters as the Disruptive Innovation that is 5G ripples its way across our Digital Infrastructure and Digital Lifestyle investing themes.  This week we can add Delta Airlines (DAL), Dialog Semiconductor (DLGNF), Nordstrom (JWN), Electronics for Imaging (EFII), Sherwin Williams (SHW) and Ford Motor Company (F) to that list as well as earnings misses from Wells Fargo (WFC), BlackRock (BLK) and others. Not exactly a vote of confidence for the December quarter earnings season.

Adding fuel to the uncertainty, this morning rail company Genesee & Wyoming (GWR) reported traffic volumes for December fell 4.8% year over year. That piles on the limited data we are getting, which included the January reading for the Empire State Manufacturing Survey General Business Conditions Index that fell to 3.9 from 11.5 in December. That drop was led by a deceleration in new orders, inventories, and the number of employees. The survey’s six-month outlook also dropped, falling to 17.8 from 30.6 last month. These data points fit the view that there is a slowdown in manufacturing activity, which has piqued concerns about a broader slowdown in economic activity unfolding in 2019.

On top of that, yesterday Sen. Chuck Grassley said U.S. Trade Representative Robert Lighthizer saw little progress on “structural issues” in last week’s talks with China. These issues include intellectual property, stealing trade secrets, and putting pressure on corporations to share information with the Chinese government and industries. These issues are the very ones I was concerned about in terms of the trade negotiations. With China cutting its growth forecast some days ago to 6% from 6.5% and more data pointing to that economy cooling, there is likely room for the trade talks to include those issues, but my concern remains the ticking timeline until tariffs jump further. If that comes to pass, it would be another headwind to the global economy and corporate earnings for the coming quarters.

Given all of that, I remain concerned with the December quarter earnings season that will kick into gear next week and what it could do for the stock market’s recent rebound. We’ll continue to keep the long position in ProShares Short S&P 500 (SH) in play as we watch and listen to the thematic signals we see. One great thematic signal this week for our Guilty Pleasures investing theme is that Pizza Hut, owned by Yum Brands (YUM) is expanding beer delivery to 300 restaurants across seven states later this month. Amazing to think that only now Pizza Hut is realizing one of the great culinary pairings of Pizza and beer as it looks to offer customer one-stop shopping as well as capture that incremental revenue and profits. Odds are there will be some element of our Digital Lifestyle theme at play, given the push toward mobile orders we are seeing across the restaurant industry. Now to see what beer they offer… hopefully, it will be more than just the big brand beers like Budweiser.

Another signal that points to the bleeding over of our Digital Lifestyle, Disruptive Innovators and Aging of the Population themes is the partnering between Walgreens Boots Alliance (WBA) and Microsoft (MSFT). Over the next several years, the two will research and develop new methods of delivering healthcare services through digital devices, including virtually connecting people with Walgreens stores.

We at Tematica see thematic signals for our 10 investing themes practically everywhere… and that means we will continue using them to build and refine our investing mosaic in the days, weeks and months ahead. As we navigate the next few weeks, we may have a change or two on the Thematic Leaders and a few companies that make it onto the Contender List for when the stock market finds its footing.

 

Thematic M&A was rampant in 2018

Over the last two weeks, we here at Tematica have been reviewing the thematic database of more than 2,400 stocks that we’ve ranked based on their exposure to our 10 investment themes. That was no small project let me tell you, and it was a key initiative for 2018. In looking back over that body of work, I noticed more than a dozen companies that were in the database at the start of last year had been acquired during the second half of 2018. Here’s a short list of what I’m talking about:

As you can see, the acquisition activity was spread across a number of our themes and included both strategic and financial buyers. In each case, the buyer looked to fill a competitive hole be it a product, market or technology. That’s the classic finance take on it, but we know those buyers were looking to solidify their exposure to the thematic tailwinds that are powering their businesses or in some cases expose themselves to another one.

Are we likely to see more thematically based M&A in the coming months?

My view is yes, particularly as the global economy slows and companies look to deliver top and bottom line growth be it on an organic or acquired basis.

Adding back shares of Digital Infrastructure company USA Technologies

Today I am calling shares of mobile payments company, USA Technologies (USAT),  back onto the Tematica Select List following news earlier this week about the results of an internal investigation into its accounting practices. You may recall that last year, USAT shares were a high flyer for the Select List. However, upon learning that the USAT board would conduct an internal investigation into the accounting of certain of its present and past contractual arrangements and its financial reporting controls and would miss filing the company’s 10-K, we smartly jettisoned the shares near $10.25 last September.

We had been trimming the position at higher levels near $14 in the preceding months, but in light of those developments we “got out of Dodge”, so to speak, and did not stick around for the free fall to $3.44 by early December. While we continued to see growing adoption of mobile payments, especially at USAT’s core market of vending machines and unattended retail, we also saw the stock price pain associated with these investigations and potential financial restatements. “No thanks” was my thinking.

The company on Monday announced both the findings of its internal investigation and remedial actions to be implemented by the board. It also shared that it is working to file its 10-K as soon as possible and disclosed the departures of both its chief financial officer (CFO) and chief services officer (CSO). In tandem with those announcements, USAT also shared it is in negotiations for a new CFO.

In terms of the investigation and the planned responses, the company’s Audit Committee found that, for certain transactions, USAT had prematurely recognized revenue and, in some cases, the reported number of connections associated with the transactions under review. The committee went on to recommend the company enhance its internal controls and its compliance and legal functions; expand its public disclosures; and consider appropriate employment actions related to certain employees as well as splitting the roles of chairman and CEO.

These measures, along with the departure of the CFO and CSO, are not surprising, but they do put USAT on the path to restoring investor confidence in its reporting. While this investigation was happening the market for mobile payments continued to be on a tear as companies such as PepsiCo (PEP) inked a new five-year agreement with USAT.

Clearly, there is more work to be completed, and there is the risk that we are re-entering these shares on the early side. However, as we have seen in the past, as these clouds lift investors will focus on the tailwinds of the business, which in this case are centered on mobile payments and are improving. Therefore, we will resume ownership of USAT shares and look to scale on potential stock price weakness when the company formally restates its revenue and other key metrics. Better a bit early than too late is my thinking on this one.

Our previous price target on USAT shares was $16. However, we should prudently assume that several of the underlying financial metrics will be restated lower. Consequently, I’m taking a haircut relative to our prior target and putting out a new price target of $10. As the company releases its updated financials, I’ll look to fine-tune that price target as needed

  • We are issuing a Buy on and adding back shares of Digital Infrastructure company, USA Technologies (USAT), to the Tematica Select List with a price target of $10.

 

The Thematic Leaders

As the stock market moved higher week over week as of last night’s close, we saw several Thematic Leaders move higher. These included Aging of the Population leader AMN Healthcare (AMN), and Clean Living leader Chipotle Mexican Grill (CMG) as well as Thematic King Amazon (AMZN). The big winner, however, was Digital Lifestyle leader Netflix (NFLX), which yesterday announced it would boost prices for its monthly memberships by 13% to 18%. This marks the company’s biggest price increase and I suspect was well thought out by the management team, given the increasingly competitive playing field. That price increase should drive Wall Street’s revenue expectations higher and improve its ability to not only spend on proprietary content but also its ability to service its quarterly debt costs.

  • Our price targets on AMN Healthcare (AMN), Chipotle Mexican Grill (CMG) and Netflix (NFLX) remain $75, $550 and $500, respectively.

 

Putting Altria shares on watch

Even though we’re just a few weeks into 2019, shares of Guilty Pleasure leader Altria have been underperforming on both an absolute basis and a relative one compared to the S&P 500. Weighing the shares down are questions over its ability to recoup the $12.8 billion investment for a 35% stake, in e-vapor market leader Juul Labs (JUUL). While this is part of the company’s efforts to reposition itself, given prospects for continued declines in its core tobacco market, complicating things is the FDA’s move to stub out youth access to e-vapor and flavored cigarettes.

Odds are this will take several years to come about but it raises questions as to whether Altria is trading one shrinking market for another. Candidly, I would have preferred Altria take that $12.5 billion and spread it across several cannabis investments. I’ll continue to be patient for now with this thematic leader, however, I’ll be looking at several in the coming days that could offer a far better risk to return tradeoff.

 

Introducing The Thematic Leaders

Introducing The Thematic Leaders

 

Several weeks ago began the arduous task of recasting our investment themes, shrinking them down to 10 from the prior 17 in the process. This has resulted in a more streamlined and cohesive investment mosaic. As part of that recasting, we’ve also established a full complement of thematic positions, adding ones, such as Chipotle Mexican Grill (CMG) and Altria (MO) in themes that have been underrepresented on the Select List. The result is a stronghold of thematic positions with each crystalizing and embodying their respective thematic tailwinds.

This culmination of these efforts is leading us to christen those 10 new Buy or rechristened Buy positions as what are calling The Thematic Leaders:

  1. Aging of the Population – AMN Healthcare (AMN)
  2. Clean Living – Chipotle Mexican Grill (CMG)
  3. Digital Lifestyle – Netflix (NFLX)
  4. Digital Infrastructure –  Dycom Industries (DY)
  5. Disruptive Innovators – Universal Display (OLED)
  6. Guilty Pleasure – Altria (MO)
  7. Living the Life – Del Frisco’s Restaurant Group (DFRG)
  8. Middle-Class Squeeze – Costco Wholesale (COST)
  9. Rise of the New Middle-Class – Alibaba (BABA)
  10. Safety & Security – Axon Enterprises (AAXN)

 

By now you’ve probably heard me or Tematica’s Chief Macro Strategist Lenore Hawkins mention how Amazon (AMZN) is the poster child of thematic investing given that it touches on nearly all of the 10 investing themes. That’s true, and that is why we are adding Amazon to the Thematic Leaders in the 11th slot. Not quite a baker’s dozen, but 11 strong thematic positions.

One question that you’ll likely have, and it’s a logical and fare one, is what does this mean for the Select List?

We wouldn’t give up on companies like Apple (AAPL), Alphabet (GOOGL), Disney (DIS), McCormick & Co. (MKC) and several other well-positioned thematic businesses that are on the Select List. So, we are keeping both with the Thematic Leaders as the ones that offer the most compelling risk-to-reward tradeoff and the greater benefit from the thematic tailwinds. When we have to make an adjustment to the list of Thematic Leaders, a company may be moved to the Select List in a move that resembles a move to a Hold from a Buy as it is replaced with a company that offers better thematic prospects and share price appreciation. Unlike Wall Street research, however, our Hold means keeping the position in intact to capture any and all additional upside.

Another way to look at it, is if asked today, which are the best thematically positioned stocks to buy today, we’d point to the Thematic Leaders list, while the Select List includes those companies that still have strong tailwinds behind their business model but for one reason or another might not be where we’d deploy additional capital. A great example is Netflix vs. Apple, both are riding the Digital Lifestyle tailwind, but at the current share price, Netflix offers far greater upside than Apple shares, which are hovering near our $225 price target.

After Apple’s Apple Watch and iPhone event last week, which in several respects underwhelmed relative to expectations despite setting up an iPhone portfolio at various price points, odds are the iPhone upgrade cycle won’t accelerate until the one for 5G. The question is will that be in 2019 or 2020? Given that 5G networks will begin next year, odds are we only see modest 5G smartphone volumes industry-wide in 2019 with accelerating volumes in 2020. Given Apple’s history, it likely means we should expect a 5G iPhone in 2020. Between now and then there are several looming positives, including its growing Services business and the much discussed but yet to be formally announced streaming video business. I continue to suspect the latter will be subscription based.  That timing fits with our long-term investing style, and as I’ve said before, we’re patient investors so I see no need to jettison AAPL shares at this time.

The bottom line is given the upside to be had, Netflix shares are on the Thematic Leaders list, while Apple shares remain on the Select List. The incremental adoption by Apple of the organic light emitting diode display technology in two of its three new iPhone models bodes rather well for shares of Universal Display (OLED), which have a $150 price target.

Other questions…

Will we revisit companies on the Select List? Absolutely. As we are seeing with Apple’s Services business as well as moves by companies like PepsiCo (PEP) and Coca-Cola (KO) that are tapping acquisitions to ride our Clean Living investing tailwind, businesses can morph over time. In some cases, it means the addition of a thematic tailwind or two can jumpstart a company’s business, while in other cases, like with Disney’s pending launch of its own streaming service, it can lead to a makeover in how investors should value its business(es).

Will companies fall off the Select List?

Sadly, yes, it will happen from time to time. When that does happen it will be due to changes in the company’s business such that its no longer riding a thematic tailwind or other circumstances emerge that make the risk to reward tradeoff untenable. One such example was had when we removed shares of Digital Infrastructure company USA Technologies (USAT) from the Select List to the uncertainties that could arise from a Board investigation into the company’s accounting practices and missed 10-K filing date.

For the full list of both the Thematic Leaders and the Select List, click here

To recap, I see this as an evolution of what we’ve been doing that more fully reflects the power of all of our investing themes. In many ways, we’re just getting started and this is the next step…. Hang on, I think you’ll love the ride as team Tematica and I continue to bring insight through our Thematic Signals, our Cocktail Investing podcast and Lenore’s Weekly Wrap.

 

 

Special Alert – Exiting shares of USA Technologies (USAT)

Special Alert – Exiting shares of USA Technologies (USAT)

Key point inside this special alert

  • We are issuing a Sell and removing USA Technology (USAT) shares from the Tematica Investing Select List. As we close out the position, we’d note a gain of 17% was had with the shares.

This morning shares of Digital Infrastructure company USA Technologies are getting hammered, yes hammered, on the news the company it is conducting an internal investigation into the accounting of certain of its present and past contractual arrangements and financial reporting controls. As a result, the company said it would not file its Form 10-K annual report with the SEC by the Sept. 13 deadline, but it will file a Form 12b-25 notification of late filing, to provide it with a 15-day extension.

As the trite saying goes, I’ve seen this movie before and there tend to be at least two issues at work. The first is management credibility, which has clearly been called into question. The second is the actual findings of the investigation, which could range from a restatement of past financials and re-jiggered expectation to a management change. All of those are likely to add an extra layer of uncertainty into the equation, which likely means the shares will be rangebound for a protracted period of time.

I’d rather leave with our profits intact and focus on the opportunity to be had with the several new thematic additions we’ve made over the last few weeks.

  • We are issuing a Sell and removing USA Technology (USAT) shares from the Tematica Investing Select List. As we close out the position, we’d note a gain of 17% was had with the shares.
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.

 

 

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.

 

 

WEEKLY ISSUE: Taking a Last Sip from Our Venti Latte as We Head into the Summer

WEEKLY ISSUE: Taking a Last Sip from Our Venti Latte as We Head into the Summer

KEY POINTS FROM THIS ALERT:

  • We are issuing a Sell on Starbucks (SBUX) shares and removing them from the Tematica Investing Select List.
  • We are trimming our position in USA Technologies (USAT) shares, selling half the position on the Tematica Investing Select List and keeping the other half in play to capture any potential additional upside.
  • Heading into this week’s Costco (COST) earnings call, our price target is $210.
  • Heading into Apples 2018 WWDC event next week, our price target on Apple (AAPL) shares remains $200.
  • While we watch for a potential Las Vegas strike, our longer-term price target for MGM remains $39.
  • We continue to have a Buy rating and an $85 target for Paccar (PCAR) shares
  • With data points confirming a pick-up in business investment, we continue to have a Buy rating and a $235 price target for Rockwell Collins (ROK) shares.

 

Coming into this shortened week for the stock market following the Memorial Day holiday, we’ve seemingly traded one concern for another. I’m talking about the shift in investor focus that has moved from the pending June 12 meeting between the US and North Korea to renewed concerns over Italy and what it could mean for the eurozone and the euro as well as the overall stock market and the dollar. In last week’s Weekly Wrap, I thought Tematica’s Chief Macro Strategist, Lenore Hawkins, did a bang-up job summing up the situation but as we entered this week it pivoted once again, pointing to the likelihood of new elections that could pave the way for anti-euro forces.

This fresh round of uncertainty led the market lower this week, pulling the CNN Money Fear & Greed Index back into Fear territory from Neutral last week. Not surprising, but as investors assess the situation odds are US stocks, as well as the dollar and US Treasuries, will be viewed as ports of safety. That realization likely means the short-term turbulence will give way to higher stock prices, especially for US focused ones. Multinational ones will likely see a renewed currency headwind given the rebound in the dollar as well as the new fall in the euro.

I’ll continue to keep close tabs on these developments and what they mean for not only our thematic lens, but also for the Tematica Investing Select List. Expect to hear more about this on our Cocktail Investing podcast as well.

 

Cutting Starbucks shares from the Tematica Investing Select List

Given our thematic bent, we tend to be investors with a long-term view and that means it takes quite a bit for me to remove a company from the Tematica Investing Select List. Today, we are doing that with Starbucks (SBUX) and for several reasons. As I just mentioned above, this multinational company will likely see currency headwinds return that will weigh on its income statement.

At the same time, the company has been underperforming of late in same-store sales comparisons, which have slipped to the low single digits from mid-single digits in 2013-2016. The decline has occurred as Starbucks has reaped the benefits of its improved food offering over the last several quarters, and its new beverage offerings of late have underwhelmed. In the March quarter, if it weren’t for price increases, its same-store sales would have been negative.

While I still go to Starbucks as does the rest of team Tematica, the reality is that we are not spending incremental dollars compared to last year outside of a price increase for our latte or cappuccino. Said a different way, Starbucks needs to reinvigorate its product line up to win incremental consumer wallet share. In the past, the company had new beverages and then the addition of an expanded food and snack offering to deliver favorable same-store comparisons. Now with a full array of beverages, food and snacks, the question facing Starbucks is what’s next?

It’s this question as well as the simple fact that the closure of its stores yesterday to deliver racial tolerance training to its employees will weigh not only on same-store sales comps for the current quarter but hit profits as well. Keep in mind too that we are heading into the seasonally slower part of the year for the company.

Taking stock of Starbucks stock, my view is let’s take the modest profit and dividends we’ve collected over the last 24 months and move on.

  • We are issuing a Sell on Starbucks (SBUX) shares and removing them from the Tematica Investing Select List.

 

Trimming back our position in USA Technologies

Since adding shares of USA Technologies (USAT) back to the Tematica Investing Select List in early April, they have risen more than 50%, making them one of the best performers thus far in 2018. While the prospects for mobile payments remains vibrant and we are starting to see some consolidation in the space, I’m reminded of the old Wall Street adage – bulls make money, bears make money and pigs get slaughtered.

Therefore, we will do the prudent thing given the sharp rise in our USAT shares in roughly a handful of weeks – we will trim the position back, selling half the position on the Tematica Investing Select List and keep the other half in play to capture the additional upside. As we do this, we are placing our $12 price target under review with an upward bias. That said, we would need to see upside near $16 to warrant placing fresh capital into the shares.

  • We are trimming our position in USA Technologies (USAT) shares, selling half the position on the Tematica Investing Select List and keeping the other half in play to capture the additional upside.

 

Prepping for Costco earnings later this week

After the market close on Thursday (May 31), Costco Wholesale (COST) will report its latest quarterly earnings. Consensus Wall Street expectations are for EPS of $1.68 on revenue of $31.59 billion.

Over the last several months, the company’s same-store sales show it gaining consumer wallet share as it continued to open additional warehouse locations, which sets the stage for favorable membership fee income comparisons year over year. Exiting April, Costco operated 749 warehouse locations around the globe, the bulk of which are in the U.S. and that compares to 729 warehouses exiting April 2017. The number of Costco locations should climb by another 17 by the end of August and paves the way for continued EPS growth in the coming quarters.

  • Heading into this week’s earnings call, our price target is $210 for Costco (COST) shares

 

Updates, updates, updates, updates

Apple (AAPL)                                                                       
Connected Society

Next Monday Apple will hold its 2018 World-Wide Developer Conference (WWDC), which historically has been a showcase for the company’s various software platforms. This year it’s expected to feature iOS 12, the next evolution in its smartphone and tablet software. Recently it was hinted that Apple will unleash the full power of Near Field Communication capabilities found in those chipsets, which have been inside the iPhone since the iPhone 6 model.

In my view, this is likely to be but one of the improvements shared at the event. Those hoping for a hardware announcement are likely to be disappointed, but we never know if we’ll get “one more thing.”

  • Heading into next week’s 2018 WWDC event, our price target on Apple (AAPL) shares remains $200.

 

MGM Resorts International (MGM)
Guilty Pleasure

Quarter to date, shares of gaming-and-resort company MGM have come under pressure but our position in them is down only modestly. I’m putting MGM shares on watch this week following a vote by Las Vegas casino workers to strike when their contract expires at the end of May. I see that vote as a negotiating tactic with dozens of casino and resort operators, akin to what we’ve been seeing emanating from Washington these last few months.

I’ll continue to watch for a potential resolution and what it could mean for margins and EPS expectations. We’ve been patient with MGM shares, but if a strike ensues I’m apt to exit the position and fish in more fruitful waters for this investment theme of ours.

  • While we watch for a potential Las Vegas strike, our longer-term price target remains $39.

 

Paccar (PCAR)
Economic Acceleration/Deceleration

Over the last month, shares of this heavy-duty and medium-duty truck manufacturer have traded sideways. According to the most recent data point from the Cass Freight Index, shipment rose just over 10% year over year in April. That sets the stage for a favorable April reading for the American Trucking Associations’s For-Hire Truck Tonnage Index that rose 6.3% year over year after increasing 7.7% in February on the same basis.

At the same time, we continue to hear from a growing array of companies that they are facing rising costs due in part to surging trucking rates. Coca-Cola (KO) recently reported a 20% year-over-year increase in freight expense. Procter & Gamble (PG), Hasbro, Inc. (HAS), Danone SA, and Nestle SA also reported higher transportation costs and Unilever (UL) expects high-single-digit to high-teens increases in U.S. freight costs in the coming quarters. All of this confirms the current truck shortage that is fueling robust year-over-year growth in new orders for medium and heavy-duty trucks. Next week, we should get the May data and I expect the favorable year over year comparisons to continue.

As production rises to meet demand, we see a positive impact on Paccar’s business on both the top and bottom lines. Our $85 price target equates to just under 15x current estimated 2018 EPS, which has crept up by a few pennies over the last several weeks to $5.69 per share vs. $4.26 in 2017.

  • We continue to have a Buy rating and an $85 target for Paccar (PCAR) shares

 

Rockwell Automation (ROK)
Tooling & Re-Tooling

Our thesis on Rockwell Automation has focused on the expected pick-up in business investment and capital spending following tax reform last year. As the March quarter earnings season winds down, data collected by Credit Suisse reveals spending on factories, equipment and other capital goods by companies in the S&P 500 is expected to have risen to $166 billion during the quarter, up 24% year over year. That’s the fastest pick-up in capital spending since 2011 and marks a March-quarter record since Credit Suisse started collecting the data in 1995.

That year over year increase is roughly in line with the year over year increase in March 2018 U.S. manufacturing technology orders according to data published in the U.S. Manufacturing Technology Orders report from The Association For Manufacturing Technology (AMT). For March quarter in full, AMT’s data points to a 25% year over year improvement, which is in line with Credit Suisse’s capital spending assessment.

Based on these prospects, as well as statistics for the average age of private fixed assets that reveal the average age of U.S. factory stock is near 60 years old, it appears AMT’s 2018 forecast that calls for a 12% increase in US orders of manufacturing equipment compared to 2017 is looking somewhat conservative.

I’ve also noticed that over the last several weeks 2018 EPS expectations for Rockwell have inched up to $7.87 per share from $7.79, while 2019 expectations have moved higher to $8.81 per share from $8.73. I see those upward movements as increasing our confidence in our $235 price target for ROK shares.

  • With data points confirming a pick-up in business investment, we continue to have a Buy rating and a $235 price target for Rockwell Collins (ROK) shares.

 

WEEKLY ISSUE: A Guilty Pleasure or a Habit? In this case it’s the same

WEEKLY ISSUE: A Guilty Pleasure or a Habit? In this case it’s the same

 

KEY POINTS FROM THIS ALERT:

  • We are adding shares of Habit Restaurant (HABT) to the Tematica Investing Select List as part of our Guilty Pleasure investing theme with an $11.50 price target.
  • We are boosting our price target on USA Technologies (USAT) shares to $12 from $11 following robust margin performance in the March quarter and strong prospects for more realized synergies with its Cantaloupe acquisition and new Ingenico relationship.
  • After reporting March quarter earnings that saw its net asset value per share continue to climb, we continue to rate GSV Capital (GSVC) shares a Buy with an $11 price target.

 

After formally adding shares of Disruptive Technology company AXT Inc. (AXTI) back to the Tematica Investing fold earlier this week, we’ve got a jam-packed issue this week that includes a new recommendation that brings an active position in our Guilty Pleasure investing theme onto the Tematica Investing Select List. Let’s get to it…

Adding Habit Restaurant shares to the Tematica Investing Select List

People need to eat. That’s a pretty recognizable fact. Some may eat more than others, some may eat less; some may eat meat, others may not. But at the end of the day, we need food.

As investors, we recognize this and that means considering where and what consumers eat, and also identifying companies that are poised to benefit from other opportunities. One such opportunity is geographic expansion, and with restaurants it often means expanding across the United States.

Typically, expansion is driven by new store openings, which in turn drive sales. Tracing back its expansion over the last several years, Chipotle Mexican Grill (CMG) had to build up to 2,363 locations. Even with that number of locations, per Chipotle’s recently filed 10-K, the company still expects to “open between 130 and 150 new restaurants in 2018.” At that pace, it would take quite a while before Chipotle has as many locations as McDonald’s (MCD) (more than 14,000) or Starbucks (SBUX) (just under 14,000) in the U.S. exiting last year.

A little over a year ago, Restaurant Brands (QSR), the company behind Tim Hortons and Burger King, acquired Popeye’s in part for food-related synergies but also the opportunity to grow Popeye’s through geographic expansion. In 2016, Popeye’s had some 2,600 locations compared to more than 7,500 Burger Kings in the U.S. For those wondering, that’s greater than the 2,251 locations Jack in the Box (JACK) had in 2017.

And that brings us to a quick service with a California char-grill twist restaurant that is Habit Restaurant (HABT). With just 209 Habit Burger Grill fast casual locations in 11 states spread between the two coasts, Habit has ample room to expand its concept serving flame char-grilled burgers and sandwiches, fries, salads and shakes. And if you’re wondering how good Habit is, I took the liberty of trying its products and sampling its friendly service at one of the few East coast locations — it’s work, someone had to do it. I can certainly understand why this Guilty Pleasure company was named “best tasting burger in America” in July 2014.

In 2017, the company recorded revenue of $331.7 million from which it generated EPS of $0.16. For this year, consensus expectations have it serving up revenue near $393 million, up around 18% year over year, but EPS of $0.05 — a sharp drop from 2017.

What we’re seeing is Habit hitting an inflection point as it engages a national advertising agency, opens 30 new locations this year and contends with higher wage costs (up 6%-7% vs. 2017), as well as test markets breakfast. Inflection point stocks can be tricky largely because even as things go right there can be mishaps along the way. With the company expected to open the greatest number of new locations during the March quarter, I put the shares on the back burner in early March when they were near $10 with a note to follow up after the company reported the March quarter.

Last week, Habit issued its quarterly results with year over year revenue growth near 17%, but still out of reach compared to consensus expectations, and it also missed on the bottom line. Following that report, HABT shares fell x%, bottoming our near $8.20 before settling at $8.60.

What led to the shortfall?

During the March quarter, Habit opened 11 new company-owned locations – more than the expected 7-10 for the quarter — more than one-third of its targeted new openings for 2018. Another factor was rising costs in the form of inputs (beef and chicken in the protein complex and French fries) as well as higher labor costs, particularly in California, during its peak promotional activity.

Now for the positive developments. First, to offset those higher costs the company is implementing a 3.9% menu price hike at the end of May. Second, its expansion plans – with another 20 or so company restaurants this year and 6-8 franchised locations  —remain on track with but at a slower open rate compared to the March quarter.

This expansion should help improve the company’s geographic footprint further as it follows the three new east coast locations openings (Maryland, New Jersey) opened during the March quarter. During the earnings call, the company shared that roughly 20% of its company-operated growth will be on the east coast and about 50% will be drive through locations. On another note, the company is testing a breakfast menu, which in our view is a long-term positive given that per NPD Group findings, breakfast is the fastest growing meal with 80% of that growing being had a quick service restaurants.

Now here’s the thing – no matter what metric you look at for the shares OTHER than P/E they are cheap.  The shares are currently trading at 8.0x on an enterprise value to 2018 earnings before interest, taxes, depreciation and amortization (EBITDA) basis, which is more than 40% discount to the peer group that includes Jack in the Box (JACK), Wendy’s (WEN) and other quick-service restaurants. Some of that discount is warranted as Habit has to wind its way through some likely growing pains, but as I shared above the longer-term driver of the company’s success will be geographic expansion. It bears repeating — we’ve seen this time and time again with restaurant companies ranging from Dunkin’ Donuts to Starbucks (SBUX), Chipotle (CMG) back in the day and Del Taco (TACO) more recently. There is also the chance that another quick service chain will pull a Restaurant Brands-Popeye’s move to jumpstart its own growth metrics.

With more than 25% upside to our $11.50 price target, which is still a discount to the quick service peer group, and modest downside following the news of the March quarter, the risk to reward profile in HABT shares is rather tasty. As the company continues to expand its footprint East, I’ll continue to review the impact on the business – good and bad — as well as the bottom line and what it means for our price target.

  • We are adding shares of Habit Restaurant (HABT) to the Tematica Investing Select List as part of our Guilty Pleasure investing theme with an $11.50 price target.

 

Robust margins lead us to boost our price target for USAT shares

Yesterday morning USA Technologies (USAT) reported March quarter results that pushed the shares higher in morning trading, and has us nudging our price target to $12 from $11 in response. For the quarter, USA achieved EPS of $0.04, beating the consensus by $0.03, despite missing revenue expectations for the period by just over 6%, as the company’s gross margin rose to more than 33% vs. 25.0% in the year-ago quarter.

That jump in profitability reflects continued growth in USA’s total mobile payment connection base as well as sustained growth in the dollar transaction volume carried over those connections. Exiting the quarter, USA’s total connection base stood at 969,000 across 15,600 customers (up from 504,000 and 12,400, respectively exiting March 2017), with transaction volume climbing to $318 million, up 57% higher year over year.  USA’s margins also benefitted from realized synergies from its November 2017 acquisition of Cantaloupe Systems. As a reminder, Cantaloupe utilizes cloud-based, mobile technologies to offer an integrated end-to-end vending and payment solution for cashless vending, dynamic route scheduling, automated pre-kitting and merchandising and inventory management.

We continue to see that as extremely synergistic with USA’s mobile payment platform for vending and other unattended retail applications, with more incremental revenue and profit synergies to be had in the coming quarters. Central among those synergies is new customer engagements, which should drive additional mobile payment connections and customer growth. Also adding to that is the recently inked multi-year with payment processing firm Ingenico that pairs Ingenico’s hardware, software, security and services products with USA’s mobile payment services platform. As the company’s results and guidance, including the margin commentary, are digested, we expect 2018 EPS to move higher from the pre-earnings report consensus of $0.06 for this year and $0.13 next year.

Do we continue to think that USAT will emerge as a potential takeout candidate as the mobile payment industry continues to grow and mature? Yes, but that does not factor into our new price target of $12.

  • We are boosting our price target on USA Technologies (USAT) shares to $12 from $11 following robust margin performance in the March quarter and strong prospects for more realized synergies with its Cantaloupe acquisition and new Ingenico relationship.

 

Net asset value per share continues to climb at GSV Capital

Last night shares of Asset-lite company GSV Capital (GSVC) reported mixed March quarter results with a beat on the bottom line and a miss on the top line. As I’ve shared before, the real driver of GSV’s shares price is not revenue or earnings, but the trajectory of its investment portfolio, which we measure through its net asset value per share. Exiting the March quarter, that portfolio’s net assets across 29 positions totaled approximately $210.5 million, or $9.99 per share up from to $9.64 per share at the end of 2017, and $8.83 per share exiting the March 2017 quarter.

The company’s top five holdings, which included privately held Palantir Technologies, Spotify (SPOT), Dropbox (DBX), private company Coursera and NESTGVS, accounted for 58% of GSV’s investment portfolio exiting March vs. 39% in the year ago quarter. With consensus price targets of $157 and $33 for Spotify and Dropbox shares, respectively, we continue to see added lift in the company’s net asset value per share. Should the company’s largest holding in Palantir Technologies go public as is widely postulated or be acquired, we would have a third leg to the stool driving GSV’s net asset value growth higher.

Helping the net asset value per share comparisons, GSV repurchased 1.1 million shares during the quarter for $6.2 million, which reduced the shares outstanding by 5% year over year. Following the upsizing of the company’s share repurchase program by an additional $5 million, GSV has roughly $8.8 million remaining. At current levels, the company could repurchase another 1.25 million shares, shrinking its outstanding share count by 6%.

  • After reporting March quarter earnings that saw its net asset value per share continue to climb, we continue to rate GSV Capital (GSVC) shares a Buy with an $11 price target.

 

WEEKLY ISSUE: Amid an air of uncertainty we revisit a Cashless Consumption player

WEEKLY ISSUE: Amid an air of uncertainty we revisit a Cashless Consumption player

 

KEY POINTS FROM THIS ALERT

  • We are issuing a Buy on USA Technologies (USAT) shares and adding them back to the Tematica Investing Select List with a $12 price target.
  • Our price target on LSI Industries (LYTS) shares remains $11
  • Our price target on Paccar (PCAR) shares remains $85 and offers 25% upside from current levels.

 

Despite the swings up and down that we’ve seen in the stock market over the last several weeks, it might surprise you know the S&P 500, my preferred barometer of the domestic stock market, has moved down all of 1.4% over the last two months. As you know during those weeks we shed shares in both Universal Display (OLED), which have gone on to fall further, and Facebook (FB), while we added GSV Capital (GSVC) shares to the Tematica Investing Select List with a Buy rating and an $11 price target.

As I wrote this past weekend in the Toronto Sun – yes, we are spreading the thematic word to our northern neighbors – I expect the air of uncertainty of the last few weeks to result in lukewarm guidance. This will likely cause a rethink by investors given the herd’s expectation for more than 18% EPS growth by the S&P 500 this year. To say that’s aggressive even in the face of tax reform benefits to be had is an understatement. I suspect we’ll have several opportunities for the Select List in the coming weeks. In the meantime, buckle up for the fun begins early next week.

 

 

Facebook’s Zuckerberg in the hot seat

Yesterday, Facebook was a hot topic given CEO Mark Zuckerberg’s testimony to the Senate. As expected, Zuck offered up his mea culpa, once again promised to “do more” to address the company’s shortcomings when it comes to user data and privacy. While FB shares have traded higher, parsing Zuck’s comments to add more security personnel and do more, what it means is higher costs to eliminate existing and potential bad actors from its content partners. I made this point on the Intelligence Report with Trish Regain on Fox Business yesterday. This point was hammered home in this week’s Cocktail Investing podcast, in which I spoke with Interos Solutions Jennifer Bisceglie (Ep 59: Exposing the Supply Chain Security Nightmare).

Given the privacy concerns, we’re apt to see another drop in the company’s US user metrics as well as a dip in its revenue stream as advertisers backed away from Facebook. Here’s the thing, over the last 30-60 days, we’ve seen no meaningful change in revenue and EPS expectations for 1Q 2018 and 2Q 2018 for Facebook. When the company reports its quarterly results on April 25th, however, more than likely we will see some hit to its metrics and hear about the need to ramp spending in order to restore user trust. The company also needs to show the resiliency of its advertising dominated revenue stream.

What this means is just because Facebook shares have rebounded since we scuttled them a few weeks ago, there is another shoe to drop. My recommendation is we remain on the sidelines until we have a far better understanding of the financial implications to be had.

 

 

Adding back USA Technologies shares to the Select List

Last October we exited half of our position in Cashless Consumption play USA Technologies (USAT), with an 81% win, and were stopped out of the balance in February with a 67% gain. As a reminder, USA Technologies provides wireless networking, cashless transactions, asset monitoring, and other value-added services in the United States and internationally primarily through kiosks and unattended retail. All in all, the position was in USAT shares was a great investment in 2017 and early 2018, especially since the returns crushed the move in the S&P 500. I’ve kept tabs on the shares given the continued growth to be had in mobile payments and USA’s potential to be a takeout candidate.

Recently it was announced that mFoundry was getting acquired by Fidelity National Information Services (FIS), a banking and payment provider that works with some 14,000 banks worldwide, for $120 million. Monday night it was announced that point-of-sale system company VeriFone (PAY) is being acquired in a $3.4 billion deal led by private equity firm Francisco Partners and Canada’s British Columbia Investment Management Corp. Under the terms of the deal, VeriFone shareholders would receive $23.04 in cash for each share, representing a roughly 54% premium to the company’s Monday closing price of $15.

M&A activity and consolidation is a sign that an industry is beginning to mature, with larger players and financial players gobbling up technologies and products to round out their capabilities and offerings. I’ve long seen USA Technologies as company prominently riding our Cashless Consumption investing theme, but one that is bound to show up on M&A radar screens. With its revenue slated to reach roughly $175 million next year, up from $104 million in 2017, with positive EPS, this could happen sooner than previously expected.

I suspect two recent publications will help spur on this likelihood. First is “Intelligent Vending Machine Market – Global Industry Analysis, Size, Share, Trends, Growth and Forecast 2018 – 2025” — that calls for the global intelligent vending machine market to increase at a CAGR (compound annual growth rate) of 38.24% during the period 2017-2021. The second is a forecast published by Statista that shows more than 140% per annum growth for mobile point of sales to $1.3 trillion in 2022 up from $230.8 billion in 2017. Digging into this forecast, we see it reflects a combination of rising consumer adoption over the coming years as well as solid growth in transaction value per user.

On the merits of my original $12 price target, I see more than 35% upside in the shares on a fundamental basis. As mobile payments activity continues to grow, and USAT continues to expand its install base across vending, kiosk and other retail applications, I’ll look to revise my price target. Any additional upside to be had from a takeout offer, well that would just be gravy.

  • We are issuing a Buy on USA Technologies (USAT) shares and adding them back to the Tematica Investing Select List with a $12 price target.

 

 

Checking in on LSI Industries and Paccar

Each month there is a plethora of data released, some of it industry specific and some of it company specific. Recent industry data for both the construction and the truck industry are bullish for our positions in LSI Industries (LYTS) and Paccar (PCAR). Let me explain…

Year to date, shares of LSI Industries are up more than 15%, well ahead of the major market indices. I chalk this up to the favorable monthly data we’ve got in the form of the Architectural Billings Index (ABI) and construction data. In the February ABI reading marked the fifth consecutive monthly increase and the 11th monthly increase in the last 12 months. As a reminder, the ABI is a leading indicator of construction activity. Add to that the favorable February construction report that showed nonresidential construction rebounded in January following several weeks of severe cold and winter weather. As we finally put the winter weather behind us, I expect to see a pickup in nonresidential construction that reflects the ABI index. I see this as setting a favorable base for LSI’s lighting solutions, which is benefitting from the added tailwind associated with green construction that favors light-emitting diode solutions.

  • Our price target on LSI Industries (LYTS) shares remains $11

 

On a year to date basis, shares of heavy and medium duty truck company Paccar (PCAR) are down slightly, and we’re essentially flat form our mid-February addition to the Select List. Here too, the data has been more than favorable. Last week,

Late Wednesday, it was reported by FTR Transportation Intelligence that first-quarter 2018 orders for heavy-duty trucks came in at 133,900 — a 98% gain year over year and the highest level since 2006. Orders for medium-duty Class 5-7 trucks topped 84,700 for the first quarter, a 20.4% increase compared with the same period a year ago.

I expect this to lead to not only a favorable 1Q 2018 earnings report for Paccar but an upbeat outlook as well. During the upcoming earnings season, I’ll be looking for re-affirming comments for Paccar in the form of rising freight costs due to tight truck industry capacity at food and other consumer-related companies.

  • Our price target on Paccar (PCAR) shares remains $85 and offers 25% upside from current levels.

 

 

WEEKLY ISSUE: The Shakeout from Market Volatility on the Select List

WEEKLY ISSUE: The Shakeout from Market Volatility on the Select List

 

 

It’s Wednesday, February 7, and the stock market is coming off one of its wild rides it has seen in the last few days. I shared my thoughts on the what’s and why’s behind that yesterday with subscribers as well as with Charles Payne, the host of Making Money with Charles Payne on Fox Business – if you missed that, you can watch it here.

As investors digest the realization the Fed could boost interest rates more than it has telegraphed – something very different than we’ve experienced in the last several years – the domestic stock market appears to be finding its footing as gains over the last few days are being recouped. Lending a helping hand is the corporate bond market, which, in contrast to the turbulent moves of late in the domestic stock market, signals that credit investors remain comfortable with corporate credit fundamentals, the outlook for earnings and the ability for companies to absorb higher interest rates.

My perspective is this expectation reset for domestic stocks follows a rapid ascent over the last few months, and it’s removed some of the froth from the market as valuations levels have drifted back to earth from the rare air they recently inhabited.

 

Among Opportunity This New Market Dynamic Brings, There Have Been Casualties

While this offers some new opportunities for both new positions on the Tematica Investing Select List as well as the opportunity to scale into some positions at better prices once the sharp swings in stocks have abated some, it also means there have been some casualties.

We were stopped out of our shares in Cashless Consumption investment theme company, USA Technologies (USAT) when our $7.50 stop loss was triggered yesterday. While the shares snapped back along with the market rally yesterday, we were none the less stopped out, with the overall position returning more than 65% since we added them to the Select List last April. For those keeping track, that compares to the 15.3% return in the S&P 500 at the same time so, yeah, we’re not exactly broken up over things. We will put USAT shares on the Tematica Contender List and look to revisit them after the company reports earnings tomorrow (Thursday, Feb. 8).

That’s the second Select List position to have been stopped out in the last several days. The other was AXT Inc. (AXTI) last week, and as a reminder that position returned almost 27% vs. a 15% move in the S&P 500. Again, not too shabby!

The last week has brought a meaningful dip in shares of Costco Wholesale (COST). On recent episodes of our Cocktail Investing Podcast, Tematica Chief Macro Strategist Lenore Hawkins and I have discussed the lack of pronounced wage gains for nonsupervisory workers (82% of the US workforce) paired with rising credit card and other debt. That combination likely means we haven’t seen the last of the Cash-Strapped Consumer investment theme — of the key thematic tailwinds we see behind Costco’s business. While COST shares are still up more than 15% since being added to the Select List, we see the recent 5% drop in the shares as an opportunity for those who remained on the sidelines before the company reports its quarterly earnings in early March.

  • Our price target on Costco Wholesale (COST) shares remains $200.

 

 

Remaining Patient on AMAT, OLED and AAPL

Two other names on the Tematica Investing Select List have fallen hard of late, in part due to the market’s gyrations, but also over lingering Apple (AAPL) and other smartphone-related concerns. We are referring to Disruptive Technologies investment theme companies Applied Materials (AMAT) and Universal Display (OLED). As we shared last week, it increasingly looks that Apple’s smartphone volumes, especially for the higher priced, higher margin iPhone X won’t be cut as hard as had been rumored. Moreover, current chatter suggests Apple will once again introduce three new iPhone models this year, two of which are slated to utilize organic light emitting diode displays.

Odds are iPhone projections will take time to move from chatter to belief to fact. In the meantime, we are seeing other smartphone vendors adopt organic light emitting diode displays, and as we saw at CES 201 TV adoption is going into full swing this year. That ramping demand also bodes for Applied Materials (AMAT), which is also benefitting from capital spending plans in China and elsewhere as chip manufacturers contend with rising demand across a growing array of connected devices and data centers.

  • Our price target on Apple (AAPL) remains $200
  • Our price target on Universal Display (OLED) remains $225
  • Our price target on Applied Materials (AMAT) remains $70

 

The 5G Network Buildout is Gaining Momentum – Good News for NOK and DY

This past week beleaguered mobile carrier, Sprint (S), threw its hat into the 5G network ring announcing that it will join AT&T (T), Verizon (VZ), and T-Mobile USA (TMUS) in launching a commercial 5G network in 2019. That was news was a solid boost to our Nokia (NOK) shares, which rose 15% last week. The company remains poised to see a pick-up in infrastructure demand as well as IP licensing for 5G technology, and I’ll continue to watch network launch details as well as commentary from Contender List resident Dycom Industries (DY), whose business focuses on the actual construction of such networks.

Several months ago, I shared that we tend to see a pack mentality with the mobile carriers and new technologies – once one makes a move, the others tend to follow rather than risk a customer base that thinks they are behind the curve. In today’s increasingly Connected Society that chews increasingly on data and streaming services, that thought can be a deathblow to a company’s customer count.

  • Our price target on Nokia (NOK) shares remains $8.50
  • I continue to evaluate upgrading Dycom (DY) shares to the Select List, but I am inclined to wait until we pass the winter season given the impact of weather on the company’s construction business.

 

Disney Offers Some Hope for Its ESPN Unit

Last night Disney (DIS) announced its December quarter results while the overall tone was positive, the stand out item to me was the announcement of the new ESPN streaming service being introduced in the next few months that has a price tag of $4.99 a month. For that, ESPN+ customers will get “thousands” of live events, including pro baseball, hockey and soccer, as well as tennis, boxing, golf and college sports not available on ESPN’s traditional TV networks. Alongside the service, Disney will unveil a new, streamlined version of the ESPN app, which is slated to include greater levels of customization.

In my view, all of this lays the groundwork for Disney’s eventual launch of its own Disney streaming content service in 2019, but it also looks to change the conversation around ESPN proper, a business that continues to lose subscribers. Not surprising, given that Comcast (CMCA) continues to report cable TV subscriber defections. One of the key components to watch will be the shake-out of the rights to stream live games from the major professional leagues — the NFL, Major League Baseball, the NBA. Currently, ESPN is on the hook for about $4 billion a year in rights fees to those three leagues alone — not to mention the rights fees committed to college athletics. Those deals, however, include only the rights to broadcast those games on cable networks or on the ESPN app to customers that can prove they have a cable subscription, not cord-cutters. So the question will be how quick will customers jump on board to pay $5 a month for lower-level games, or will they be able to cut deals with the major professional sports leagues to include some of their games as well.

Nevertheless, I continue to see all of these developments as Disney moving its content business in step with our Connected Society investing theme, which should be an additive element to the Content is King investment theme tailwind Disney continues to ride. With that in mind, we are seeing rave reviews for the next Marvel movie – The Black Panther – that will be released on Feb. 16. The company’s more robust 2018 movie slate kicks off in earnest a few months later.

  • We will continue to be patient investors with Disney, and our price target on the shares remains $125