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  • Argus Market Watch for April 17, 2014

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  • Zacks: Aerospace & Defense Stock Outlook - April 2014

    Overview

    The word “sequestration” had an ominous ring for the defense industry in the year 2013. Nonetheless, the industry has emerged relatively unscathed thanks to fleet renewals at airlines worldwide with more fuel efficient aircraft, a growing international market for the F-35 Joint Strike Fighter and increasing application of unmanned aircraft in warfare today.

    Undeterred by defense budget cuts, the big defense operators are expanding their operations through acquisitions and foreign orders. They are also busy restructuring their businesses and keeping themselves abreast of technology to counter fresh competition.

    The broad growth and development of the aerospace and defense industry is tied to the defense budgets of different nations around the globe besides the U.S. These have to some extent compensated for lower defense spending at home. The U.S. defense department has reduced the defense budget significantly. These cutbacks will continue to impact the big contractors, as the lion's share of their revenues still comes from domestic defense spending.

    On the other hand, strong performance in the commercial aerospace sector is being driven by growing demand for passenger air travel worldwide and by accelerated replacement of obsolete aircraft with more fuel-efficient models.

    Budget Update

    In Mar 2014, the Obama administration proposed a base defense budget of $495.6 billion for FY15, which begins on October 1, down $0.4 billion from the enacted FY14 budget of $496.0 billion.

    For Overseas Contingency Operations (OCO), which is essentially government-speak for foreign wars and war on terror operations, the FY15 budget has $79 billion in it. The amount is equivalent to the request for FY14. However, a formal budget for OCO is still negotiable with the Congress and will be proposed once a decision about the scope of the enduring U.S. presence in Afghanistan is decided.

    Additionally, in the FY15 budget proposal, there is a new contingency fund: the Opportunity, Growth and Security Initiative. The defense department set a budget proposal of $26.4 billion for this fund, which could also be used for urgent military requirements as well as high-priority systems upgrades and technology insertion.

    This initiative also comprises additional funding for Joint Strike Fighters and P-8 aircraft and more spending on the Army Blackhawk program. Funding for military construction and base sustainment is also expected to increase. Funding for this contingency initiative will be compensated by mandatory spending reductions and tax reforms.

    Again, for FY14, the $1.1 trillion Omnibus spending measure President Obama signed into law was a big relief for the Pentagon. The bill provides Pentagon with nearly $93 billion to buy weapons and another $63 billion for research and development.

    Budget Update

    In Mar 2014, the Obama administration proposed a base defense budget of $495.6 billion for FY15, which begins on October 1, down $0.4 billion from the enacted FY14 budget of $496.0 billion.

    For Overseas Contingency Operations (OCO), which is essentially government-speak for foreign wars and war on terror operations, the FY15 budget has $79 billion in it. The amount is equivalent to the request for FY14. However, a formal budget for OCO is still negotiable with the Congress and will be proposed once a decision about the scope of the enduring U.S. presence in Afghanistan is decided.

    Additionally, in the FY15 budget proposal, there is a new contingency fund: the Opportunity, Growth and Security Initiative. The defense department set a budget proposal of $26.4 billion for this fund, which could also be used for urgent military requirements as well as high-priority systems upgrades and technology insertion.

    This initiative also comprises additional funding for Joint Strike Fighters and P-8 aircraft and more spending on the Army Blackhawk program. Funding for military construction and base sustainment is also expected to increase. Funding for this contingency initiative will be compensated by mandatory spending reductions and tax reforms.

    Again, for FY14, the $1.1 trillion Omnibus spending measure President Obama signed into law was a big relief for the Pentagon. The bill provides Pentagon with nearly $93 billion to buy weapons and another $63 billion for research and development.

    Budget Update

    In Mar 2014, the Obama administration proposed a base defense budget of $495.6 billion for FY15, which begins on October 1, down $0.4 billion from the enacted FY14 budget of $496.0 billion.

    For Overseas Contingency Operations (OCO), which is essentially government-speak for foreign wars and war on terror operations, the FY15 budget has $79 billion in it. The amount is equivalent to the request for FY14. However, a formal budget for OCO is still negotiable with the Congress and will be proposed once a decision about the scope of the enduring U.S. presence in Afghanistan is decided.

    Additionally, in the FY15 budget proposal, there is a new contingency fund: the Opportunity, Growth and Security Initiative. The defense department set a budget proposal of $26.4 billion for this fund, which could also be used for urgent military requirements as well as high-priority systems upgrades and technology insertion.

    This initiative also comprises additional funding for Joint Strike Fighters and P-8 aircraft and more spending on the Army Blackhawk program. Funding for military construction and base sustainment is also expected to increase. Funding for this contingency initiative will be compensated by mandatory spending reductions and tax reforms.

    Again, for FY14, the $1.1 trillion Omnibus spending measure President Obama signed into law was a big relief for the Pentagon. The bill provides Pentagon with nearly $93 billion to buy weapons and another $63 billion for research and development.

    Offsetting the Sequestration Effect

    The sequester that went into effect at the start of Mar 2013 will cut spending by a total of approximately $1.1 trillion over the 8-year period from 2013 to 2021.Yet, the aerospace and defense industry is holding up well in 2014 thanks to technological innovations, big contracts, acquisitions and growing commercial demand.

    Since the domestic aerospace and defense sector is facing budget cuts and a constrained spending environment, the industry is looking for growth from international orders. Additionally, a number of emerging markets as well as developed nations such as India, Japan, the United Arab Emirates, Saudi Arabia and Brazil are boosting defense spending and generating business for the U.S. aerospace and defense companies.

    Moreover, the defense majors have diversified their businesses to counter the effect of the sequester. Also, complex military programs already awarded to these companies much before the across-the-board spending cuts came into force have somewhat diluted the sequester impact.

    Zacks Industry Rank

    The Zacks Industry Rank relies on the same estimate revisions methodology that drives the Zacks Rank for stocks. The way to look at the complete list of 259+ industries is that the outlook for the top one-third of the list (Zacks Industry Rank of #88 and lower) is positive, the middle 1/3rd or industries with Zacks Industry Rank between #89 and #176 is neutral while the outlook for the bottom one-third (Zacks Industry Rank #177 and higher) is negative.

    The aerospace industry is one of the 16 broad Zacks sectors within the Zacks Industry classification. Within the Zacks Industry classification, aerospace is further sub-divided into three industries at the expanded level: aerospace/defense, aerospace/defense equipment and electric-military.

    Zacks Industry Rank for 'aerospace/defense is at #44 out of 259 industries, which puts it in a positive light. The ‘aerospace/defense equipment’ -- with a Zacks Industry Rank #87 also comes under the top 1/3rd. However, the ‘electric-military’ lies in the bottom one-third of all Zacks industries, with a Zacks Industry Rank #192.

    Hence, the general outlook for the aerospace sector is on the whole positive. Investors should however be a little weary of the bearish electric-military sub-industry.

    Earnings Review and Outlook

    The aerospace & defense sector posted an impressive performance in 2013, braving issues like sequestration, budget cuts and cancellation of big-ticket programs. In fact, in the year-end quarter, all the defense companies in our universe, except one, surpassed the Zacks Consensus Estimate.

    The highest positive surprise of 85 cents was clocked by Embraer S.A. (ERJ) while the lowest surprise of 0.6% came from General Dynamics Corp. (GD). On the contrary, Wesco Aircraft Holdings, Inc. (WAIR) missed the Zacks Consensus Estimate by 6.9%.

    The aerospace sector’s earnings are expected to decline 5.1% in the first quarter of 2014 compared with 20.0% growth in the last quarter. However, the sector will likely witness 1.0% top-line growth in the to-be-reported quarter as against a 0.1% fall in the prior quarter.

    For 2014 on the whole, the sector is expected to register bottom-line growth of 4.5% which will further rise to 10.5% in 2015. The top line will likely see 0.9% and 1.5% growth in 2014 and 2015, respectively.

    OPPORTUNITIES

    Although the threat from sequestration remains for periods beyond fiscal 2015 and casts a shadow of uncertainty on long-term funding, we would prefer Huntington Ingalls Industries Inc. (HII), a Zacks Rank #1 (Strong Buy) stock, posting strong financial results and surpassing our estimates by 34.7% on an average in the last 4 quarters. This upside was driven by higher revenues from surface combatants and the Legend-class NSS program.

    Since the start of 2014, there have been a number of share price gainers with General Dynamics witnessing the highest increase of around 11.5% so far buoyed by consistent contract wins and a stable fourth quarter performance. It posted a 7.5% positive surprise over the last four quarters on an average.

    With approximately $2.7 billion of free cash flow exiting 2013, General Dynamics’ solid financial position well cushions the dividend payout. At the end of the fourth quarter 2013, its cash and cash equivalents stood at $5.3 billion, reflecting an increase of almost 61.0% from year-end 2012.

    This Zacks Rank #2 (Buy) company recently boosted its quarterly dividend by 10.7%, marking the 17th consecutive increase and bringing the annualized payout to $2.48 per share.

    Among the defense top players, Northrop Grumman Corp. (NOC) has delivered a year-to-date return of about 2.4%, outperforming the S&P return of negative 1.4%. With a market cap of $25.29 billion, the defense major has a one-year return of 61.8%, higher than the S&P 500 return of 14.3%.

    This Zacks Rank #2 (Buy) company successfully beat the Zacks Consensus Estimate on both the top and the bottom line in the fourth quarter of 2013 and has a positive earnings surprise of about 3.1% on an average over the last 4 quarters. The earnings beat was attributable to a lower share count and strong operating performance.

    In a nutshell, a steady flow of contracts, which also include substantial international orders, a funded backlog of $22.5 billion as of Dec 31, 2013, the introduction of new products, and the commitment to return wealth to its shareholders make this stock attractive.

    The world's third largest commercial aircraft manufacturer, Embraer SA’s fourth-quarter earnings jumped 177.0% from the prior-year quarter and beat the Zacks Consensus Estimate by 70.8%. This Zacks Rank #2 (Buy) company’s stellar performance was backed by strong demand for its commercial and executive jets.

    Embraer expects double-digit growth in the Defense & Security segment for 2014 due to the continuous progress in the military transport (KC-390) as well as the Border Monitoring system, Super Tucano LAS program and satellite programs.

    Now, in the electric/military group, our preferred name will be Raytheon Company (RTN). Driven by operational improvements and capital deployment actions, the earnings surprise last quarter for Raytheon was a positive 17.0%. Surprise over the last four quarters was a positive 19.7%.

    Although budget sequestration has weighed upon defense contractors, Raytheon appears to have clinched high-value contracts during the fourth quarter. Orders were even stronger with a book-to-bill in the quarter of 1.28x.

    Foreign military contracts continue to be the vital growth driver for Raytheon. International sales represented 27% of total revenues in 2013, up 3% year over year. International sales are expected to rise in the mid single digit, contributing 30% of projected 2014 sales.

    Recently, this Zacks Rank #2 (Buy) defense prime boosted its annual dividend by 10.0%, marking the 10th consecutive annual increase. The company’s share price has risen approximately 9.3% so far this year.

    Investors can also consider another name in this electric/military space -- L-3 Communications Holdings Inc. (LLL). The share price of L-3 Communications has been rising ever since it reported strong fourth quarter 2013 results on Jan 30. This Zacks Rank #2 (Buy) stock has delivered an average positive earnings surprise of 4.8% over the past 4 quarters, keeping investors’ confidence intact. The consistently strong performance was due to L-3 Communications’ program execution capability, cost-cutting initiatives and contribution from its international and commercial businesses.

    One may also capitalize on opportunities in a related business sector that of aerospace and defense equipment providers. Our top pick in this space is Astronics Corp. (ATRO). This company has set new records for revenue, bookings and backlog in the fourth quarter 2013 accompanied with three significant acquisitions in the second half of the year propelling growth opportunities for the future.

    Again, the near-term prospects of Alliant Techsystems Inc. (ATK) look good. It has delivered a positive earnings surprise of 43.5% last quarter and 22.2% over the last four quarters. The company’s Sporting segment continues to play an important role in this out performance. In the third quarter of fiscal 2014, the segment recorded a considerable 78.2% year-over-year increase in sales. This upside was primarily driven by the acquisitions of Bushnell Group Holding Inc. and Caliber Company.

    Other promising stocks in the U.S. aerospace and defense space with a Zacks Rank #2 (Buy) currently include AeroVironment, Inc. (AVAV), B/E Aerospace Inc.(BEAV), BAE Systems plc (BAESY), Curtiss-Wright Corp. (CW), HEICO Corp. (HEI) and TransDigm Group Inc. (TDG).

    Good to Hold

    Lockheed Martin Corp. (LMT), the foremost defense prime, experienced its share price rise 8.9% in the year-to-date period. The stock holds a Zacks Rank #3 (Hold).

    Although the threat of sequestration still lurks over this defense major, negatively impacting the company’s 2013 sales, Lockheed Martin seems to be on a wining spree in recent times. The defense premier generated $15.4 billion in orders in the fourth quarter of 2013. Again, the healthy dividend yield and stable cash flow will likely make the stock a defensive holding in the current market scenario.

    Lockheed Martin’s pricey F-35 program is expected to gain significant traction in 2014 and 2015. Although the 2015 DoD request for procurement of $90.4 billion is down from the 2014 request of $115.1 billion, it comprises $4.6 billion for 26 F-35 Joint Strike Fighters for 2015, and $31.7 billion for 238 additional Joint Strike Fighters over the next several years. This will definitely trigger significant top-line generation for the company.

    Another aerospace giant The Boeing Co. (BA), carrying a Zacks Rank #3 (Hold), has surpassed the Zacks Consensus Estimate by 18.2% in the past quarter driven by solid operating performance fueled by higher aircraft deliveries. Over the last four quarters, the company experienced a 14.6% positive surprise on an average.

    Backlog and deliveries are also robust. Total Defense, Space & Security backlog was $67 billion as of Dec 31, 2013.

    The aviation and military electronics maker Rockwell Collins Inc. (COL), posted strong fiscal first quarter 2014 results backed by solid contribution from its Commercial Systems and Government Systems segments. The company delivered a positive earnings surprise in three out of the last four quarters, with an average beat of 0.99%, showing a somewhat stable operational performance.

    Good to Hold

    Lockheed Martin Corp. (LMT), the foremost defense prime, experienced its share price rise 8.9% in the year-to-date period. The stock holds a Zacks Rank #3 (Hold).

    Although the threat of sequestration still lurks over this defense major, negatively impacting the company’s 2013 sales, Lockheed Martin seems to be on a wining spree in recent times. The defense premier generated $15.4 billion in orders in the fourth quarter of 2013. Again, the healthy dividend yield and stable cash flow will likely make the stock a defensive holding in the current market scenario.

    Lockheed Martin’s pricey F-35 program is expected to gain significant traction in 2014 and 2015. Although the 2015 DoD request for procurement of $90.4 billion is down from the 2014 request of $115.1 billion, it comprises $4.6 billion for 26 F-35 Joint Strike Fighters for 2015, and $31.7 billion for 238 additional Joint Strike Fighters over the next several years. This will definitely trigger significant top-line generation for the company.

    Another aerospace giant The Boeing Co. (BA), carrying a Zacks Rank #3 (Hold), has surpassed the Zacks Consensus Estimate by 18.2% in the past quarter driven by solid operating performance fueled by higher aircraft deliveries. Over the last four quarters, the company experienced a 14.6% positive surprise on an average.

    Backlog and deliveries are also robust. Total Defense, Space & Security backlog was $67 billion as of Dec 31, 2013.

    The aviation and military electronics maker Rockwell Collins Inc. (COL), posted strong fiscal first quarter 2014 results backed by solid contribution from its Commercial Systems and Government Systems segments. The company delivered a positive earnings surprise in three out of the last four quarters, with an average beat of 0.99%, showing a somewhat stable operational performance.

    WEAKNESSES

    We remain apprehensive on the Zacks Ranked #5 (Strong Sell) company AAR Corp. (AIR). This aerospace and defense products and services supplier continues to face continued pressure in airlift and MRO services. As a pointer, the company has lowered its top- and bottom-line forecast for fiscal 2014.

    Other Zacks Ranked #4 (Sell) stocks like Kratos Defense & Security Solutions, Inc.(KTOS), Rolls Royce Holdings plc (RYCEY) and Triumph Group, Inc. (TGI) are also to be avoided.

    We are also skeptical of these Zacks Ranked #5 (Strong Sell) stocks – Leidos Holdings, Inc. (LDOS), CPI Aerostructures Inc. (CVU), API Technologies Corp. (ATNY), and FLIR Systems, Inc. (FLIR).

    Our Take

    The aerospace & defense industry has been a keystone of the U.S. economy for decades and has provided well paying jobs for a variety of skill levels. The U.S. aerospace industry continues to contribute significantly to the country's economy and provides capabilities vital for national security.

    However, on the flip side, the industry's position is now challenged by global competition, changes in technology, national and worldwide economic conditions and global policies affecting defense, civilian and commercial aviation.

    Moreover, any delay in the execution of orders would lead to an imbalance between the cost and revenue structure. This would not only hurt profitability but also lead to delays and even cancellations of orders and/or programs.

    On the whole, budget austerities still remain an overhang on the military sector. The companies that have little diversification outside the U.S. are highly susceptible to spending cuts from sequestration. On the other hand, those with an international order book would find it less difficult to outwit sequestration.

    Admittedly, the sector enjoyed a solid earnings season, technological progress, acquisition benefits and cost-cutting efforts from individual companies. This keeps us generally positive on the sector for the time being.

  • Zacks: Oil & Gas Stock Roundup: Chevron Expects Q1 Slip, Shell Tastes Majnoon Success

    Crude prices edged up on positive economic data and geopolitical fears, while natural gas was propelled by a strong inventory report that revealed robust demand.

    Among the newsmakers, U.S. supermajor Chevron Corp. (CVX) said that it expects first quarter profit to decline sequentially, while European behemoth Royal Dutch Shell Plc (RDS.A) started crude oil exports from Iraq’s Majnoon field. 

    Crude Oil:

    Crude prices got a boost from the latest consumer sentiment report that rose to a nine-month high, providing further evidence that the U.S. economy is coming out of its winter freeze. This has fueled hopes for robust fuel and energy demand in the world’s biggest oil consumer. The bullish momentum was further propelled by the continued standoff in Ukraine, concerns over oil export resumption from the Libyan coast, and a fall in OPEC crude output.

    However, the bulls were somewhat offset by weak Chinese trade numbers. A larger-than-expected rise in crude stockpiles added to the negative sentiment.

    As a result of these factors, by close of trade on Friday, West Texas Intermediate (WTI) oil settled at around $103.74 per barrel, gaining 2.6% for the week.   

    Natural Gas:

    Natural gas rallied last week on the back of a bullish supply data and forecasts of below-normal temperatures across certain regions.

    The EIA's weekly inventory release showed that natural gas stockpiles held in underground storage in the lower 48 states rose by 4 billion cubic feet (Bcf) for the week ended Apr 4, well below the guided range (of 13–17 Bcf build).

    To make things better, despite milder spring weather predictions in bulk of the country over the next few days, certain parts of the central and eastern U.S. are expected to witness a comparatively cool snap. This is likely to linger natural gas’ demand for heating.

    Influenced by these factors, natural gas prices ended Friday at $4.64 per million Btu (MMBtu), up 4.5% over the week.

    Energy Week That Was:

    The week’s energy coverage was dominated by the following news:

    Chevron Expects Sequentially Lower Q1 Earnings

    Energy major Chevron Corp. slid 2% after warning about a sequential decline in first quarter profits due to high currency conversion expenses and charges associated to asset impairment. Further, Chevron’s worldwide oil and gas output is likely to fall from the previous-year period though it is expected to remain in line with the December quarter.

    In the downstream sector, the refining margin in the U.S. west coast is expected to decrease sequentially. However, the reverse is projected for the Gulf Coast.

    Later in the week, Chevron announced a deal with Argentina-based integrated oil firm YPF SA to invest an additional $1.6 billion to sustain the exploration and advancement of the shale oil and gas properties in the South American country’s Vaca Muerta formation.

    Shell's Majnoon Success Prompts First Shipment

    Integrated energy behemoth, Royal Dutch Shell plc reported that it has exported yield from the Majnoon oilfield, in Iraq. The first shipment was made as output surpassed the First Commercial Production (FCP) target of 175,000 barrels of oil per day (BOE/d). This is an important milestone for Shell, which has undertaken extensive rehabilitation work at the oilfield to boost output. Production at Majnoon oilfield currently averages 210,000 BOE/d, substantially higher than its FCP target.

    Conoco Targets Double-digit Returns

    At its 2014 Analyst Meeting presentation, energy biggie ConocoPhillips (COP) reiterated its target of delivering double-digit returns annually to shareholders by growing production and margins by 3%-5% a year and offering a ‘compelling’ dividend. The company also augmented its total resource base in its Eagle Ford acreage by 39% to 2.5 billion barrels. The number represents original oil in place and not recoverable barrels of proved reserves. ConocoPhillips also intends to boost production in the Eagle Ford play to 250,000 barrels of oil equivalent a day by 2017.

    Athlon Energy Rallies on Asset Buy Deal

    Shares of oil and liquids-rich natural gas explorer Athlon Energy Inc. (ATHL) jumped 13% after it agreed to acquire certain producing and undeveloped properties spread over 23,500 net acres in northern Midland basin from five different sellers for a combined $873 million in cash.

    The to-be-bought assets in the Texas counties Martin, Upton, Andrews and Glasscock – adjacent to Athlon Energy’s existing fields in the region – holds an estimated 250 million oil-equivalent barrels (MMBOE) in reserve potential and will add 4,800 BOE (67% oil) to the outfit’s daily production. The properties would also add 425 ‘highly prospective’ horizontal drilling locations to Athlon Energy’s inventory. 

    Exxon to Export LNG from PNG by Mid '14

    U.S. oil and gas giant Exxon Mobil Corp. (XOM) announced that its long delayed Papua New Guinea (PNG) liquefied natural gas (LNG) project will start exporting LNG by mid 2014. The PNG LNG project is on track and will commence operations ahead of schedule and below its $19 billion budget. The project has brought online a gas conditioning plant in PNG’s highlands. The gas is drilled at the site and a 292-kilometer (180 miles) onshore pipeline has been placed. The first of the two units at the LNG plant are also ready.

    Chesapeake Energy Prices Senior Notes

    Natural gas producer Chesapeake Energy Corp. (CHK) priced its public offering of $3.0 billion in aggregate principal amount of its senior notes at par. The notes will be issued in two separate series of notes, namely $1.5 billion in Floating Rate Senior Notes due 2019 that will bear interest at LIBOR plus 3.25% and be reset quarterly, and $1.5 billion in 4.875% Senior Notes due 2022. Chesapeake expects the issuance and delivery of the two series of senior notes to occur on Apr 24.

    Cheniere, Endesa in Second LNG Pact

    Houston, Texas-based Cheniere Energy Inc. (LNG) announced that it has signed a second liquefied natural gas (“LNG”) sale and purchase agreement (SPA) with Spanish electric utility firm, Endesa Genercion S.A. The deal involves the sale of about 0.75 million tons per annum (mtpa) of LNG from Cheniere’s planned Corpus Christi Liquefaction Project. The total quantity under agreement now stands at 2.25 mtpa, including the 1.5 mtpa LNG SPA signed earlier this month.

    Energen to Sell Natural Gas Utility

    U.S. energy holding company, Energen Corp. announced that it has signed a definitive stock purchase agreement to sell its natural gas utility business, Alabama Gas Corporation (Alagasco), to The Laclede Group Inc. The $1.6 billion transaction comprises $1.28 billion in cash and approximately $320 million of debt. Energen’s after-tax proceeds are estimated at $1.1 billion, after considering accelerated intangible drilling costs. This divestment would allow Energen to become a pure exploration and production company.
  • Argus Market Digest for April 15, 2014

    In This Issue:

    *Change in Rating: Southwest Airlines Co.: Upgrading to BUY with target of $28 (John Staszak)

    *Value Stock: American Campus Communities Inc.: Attractive value in a unique niche (Lucy Moore)

    Link to PDF

  • Zacks: Chemical Industry Stock Outlook - April 2014

    The chemical industry had a bumpy ride in 2013 as a weak European economy, effects of sequestration in the U.S. along with certain industry-specific challenges led to subdued demand for chemicals for most of the year. Nevertheless, the December quarter showed signs of life with improving trends across key industries, raising hopes of a recovery.

    Although the quarter showed continued recovery across commercial construction and electronics end-markets, the industry is not out of the woods. Questions about the emerging markets and a still-challenging economic backdrop in Europe remain roadblocks. But the industry is expected to fare relatively better in 2014, aided by a shale gas boom in the U.S., healthy Chinese demand and significant capital investment.

    Chemical makers are ratcheting up investment on shale gas-linked projects to take advantage of ample natural gas supplies which is expected to boost capacity and export in 2014 and beyond.

    Strength across agriculture and automotive markets and healthy demand in emerging geographies represent tailwinds for the industry. Strong agricultural market fundamentals in Latin America and a gradual revival in the housing market bode well for recovery prospects this year.

    Industry at a Glance

    Chemicals are used to make consumer goods and are also used in the agriculture, manufacturing, construction and service industries. In fact, the chemical industry -- a roughly $5 trillion global business -- itself consumes 26% of its own output. Major industrial consumers include rubber and plastic, textiles, apparel, petroleum refining, pulp, paper and primary metals.

    The chemical industry is among the biggest industries in the U.S., a roughly $770 billion enterprise. It is cyclical by nature and heavily linked to the overall condition of the U.S. and world economies. The chemical industry touches 96% of manufactured goods, making the manufacturing industry the biggest consumer of chemical products.

    The U.S. chemical industry represents more than 15% of the global chemical output and employs nearly 800,000 people. It constitutes roughly 12% of the nation's exports, aggregating $188 billion annually. Roughly 6 million additional jobs are backed by the purchasing activity of the chemical industry. The U.S. chemical industry supports around 25% of the nation's gross domestic product (GDP).

    Zacks Industry Rank

    Within the Zacks Industry classification, the chemical industry falls under the broader Basic Materials sector (one of 16 Zacks sectors) which had a 3.1% share of total earnings for the S&P 500 in 2013. We rank all of the more than 260 industries in the 16 Zacks sectors based on the earnings outlook for the constituent companies in each industry. 

    The way to look at the complete list of 260+ industries is that the outlook for the top one-third of the list (Zacks Industry Rank of #88 and
    lower) is positive, the middle 1/3rd or industries with Zacks Industry Rank between #89 and #176 is neutral while the outlook for the bottom one-third (Zacks Industry Rank #177 and higher) is negative.

    We have three chemicals related industries: Chemical Plastics, Chemical Diversified and Chemical Specialty. The Chemical Plastics industry currently retains a Zacks Industry Rank #10, placing it in the top 1/3rd of the 260+ industry groups. Both Chemical Diversified and Chemical Specialty industries lie in the middle one-third with a Zacks Industry Rank #164 and #172, respectively.

    Looking at the exact location of these industries, one could say that the general outlook for the chemical industry as a whole is positive-to-neutral.

    Sector Level Earnings Trends

    Looking at the overall results of the broader Basic Materials sector, earnings shot up 20.7% in the fourth-quarter 2013, due mostly to easy comparisons -- a marked improvement from a 2.2% rise in the third. Total revenues were up 1.5% in the fourth quarter versus a 1.1% rise a quarter ago. The sector racked up an earnings beat ratio (the percentage of companies coming out with positive surprises) of 66.7% and revenue beat ratio of 54.2% in the fourth quarter.

    The earnings picture for the first quarter shows broad-based weakness. Basic Materials is among the major sectors that are expected to witness a decline in earnings in the first quarter, with an expected 2.5% fall in earnings. Revenues, however, are forecast to move up 2% in the quarter.

    For 2014, earnings are expected to show a 9.8% increase. Revenues are forecast to expand 2.4%.

    Key Feedstock Price Trends

    The chemical industry uses oil, naphtha and natural gas as energy and feedstock inputs. According to chemical giant BASF SE (BASFY), the price of Brent crude oil averaged $109 per barrel in 2013, below 2012 average of $112.

    Brent crude prices touched a nine-month high of $119 in Feb 2013, triggered by geopolitical tension in the Middle East, exacerbated by Iran's nuclear program. Prices eased to below $100 in Apr 2013 on weak demand outlook for oil. Brent crude has hovered between a high of $112 and a low of $104 so far this year, averaging at around $108.

    The price of the other key raw material, naphtha, which is produced from oil, ranged between $985 per metric ton and $820 per metric ton in 2013, based on the BASF report. Naphtha prices averaged $902 last year, lower than the 2012 average of $937. The average annual price of natural gas in the U.S. was $3.73 per million British thermal units (mmbtu) in 2013, higher than $2.75 in 2012.

    Chemical Recovery Gathering Steam

    The chemical industry is poised for a recovery this year and the next. The American Chemistry Council (ACC), an industry trade group, foresees national chemical output (excluding pharma) to rise 2.5% in 2014 (up from a 1.6% increase in 2013) and further improve to a 3.5% gain next year. Growth will be backed by strong agricultural market fundamentals, healthy demand from light vehicles market and a recovery in the housing market manifested by increase in building permits and a steady pick-up in home prices.

    U.S. chemical exports are expected to rise 6.6% this year and 7.6% in 2015, leading to continued generation of trade surplus. Trade in chemicals is expected to rise with a recovery in global manufacturing activities.

    On the global front, ACC sees production to move up 3.8% in 2014 and 4.1% in 2015 with healthy gains expected across North America and emerging markets.

    The ACC expects strong capital spending in the coming years, stemming from new investments in petrochemicals and derivatives. It envisions U.S.
    capital spending to reach $61.2 billion by 2018.

    The shale gas boom is expected to drive investment on plants and equipment in the U.S. The ACC expects U.S. chemical revenues to surpass $1 trillion and the industry to rake in record trade surpluses by 2018, partly boosted by significant share gas-driven chemical capacity.

    According to the European Chemical Industry Council (CEFIC), which represents the European chemicals industry, chemical output was flat year over year in Europe in 2013, modestly better than an expected 0.5% decline. Weak demand across automotive and construction markets remain as overhang, contributing to fragile recovery. Nevertheless, CEFIC expects recovery in the European chemicals industry to continue at a sluggish pace and sees a 1% rise in output in 2014, aided by an uptick in exports.

    OPPORTUNITIES

    Shale Boom Driving Chemical Investment

    According to the ACC, emerging market growth and favorable oil-to-gas price ratios resulting from abundant shale gas production are driving U.S.
    chemical exports. A string of factors are driving growth in the export markets, including favorable energy costs stemming from the abundance of shale gas and healthy demand from the emerging markets.

    Affordable natural gas and ethane (derived from shale gas) offer U.S. producers a compelling cost advantage over their global counterparts who use a more expensive, oil-based feedstock. New methods of extraction such as horizontal drilling and hydraulic fracturing are boosting shale production, bringing down prices of ethane in the process.

    Leveraging the abundant natural gas supply and cost advantage, chemical companies are investing billions of dollars for setting up facilities
    (crackers) that produce ethylene from ethane. The U.S. has emerged as an attractive investment location and chemical makers are aggressively expanding capacity in the country.

    A recent ACC report indicated that potential domestic chemical investment related to share gas has reached as high as $100 billion, more than 50% of which are from firms outside of the U.S. Already 148 projects -- backed by Federal government support -- have been announced by chemical makers to take advantage of ample natural gas supplies.

    These projects may lead to $81 billion in new chemical industry output annually and 637,000 permanent new jobs by 2023. Such investments are expected to boost capacity and export over the next several years.

    Agriculture: A Compelling Opportunity

    Major chemical makers are increasingly shifting focus on businesses that cater to agriculture and nutrition markets in an effort to cut their exposure on other businesses that are grappling with weak demand and input costs pressure. In particular, agriculture is emerging as a lucrative market as evident from recent trends.

    A healthy start in the North American growing season, strong planting activity by growers across North and Latin America, solid order book and healthy supply of seeds and crop protection products represent driving factors.

    Strategic Actions

    Mergers and acquisitions offer chemical companies another means to shore up growth in a still challenging economic scenario. These companies remain focused on exploring growth opportunities in the fast-growing emerging markets, particularly in the lucrative regions of Asia-Pacific and Latin America.

    Moreover, cost-cutting measures implemented by chemical companies including plant closures and headcount reduction should yield industry-wide margin improvements. Cash flows derived through these actions can be used for growth.

    Recovery in Chinese Demand

    China, a major market, is expected to see a recovery in 2014. Government stimulus actions coupled with efforts to stem inflation appear to bear fruit and exports to the U.S. and other key markets are regaining momentum. An improved demand outlook for China augurs well for the chemical industry this year.

    Stocks We Like

    Chemical stocks that we like include The Dow Chemical Company (DOW), PPG Industries Inc. (PPG), Methanex Corp. (MEOH), DuPont  (DOW), Eastman Chemical Company (EMN) and Celanese Corp. (CE). Dow and DuPont, in particular, are witnessing strong momentum in agriculture, driven by higher demand for crop protection products.

    WEAKNESSES

    Macro Headwinds

    Persistent weakness in Europe and its impact on global growth remain sources of near-term uncertainty. Western Europe continues to pose challenges on chemical stocks due to weak demand. Given the industry's sensitivity to the global economy, any negative current in the macro economy would be reflected in the prospects of the chemical companies.

    In addition, weakness still persists in commercial construction, which is among the key end-use markets. Demand from some of the major manufacturing industries remains below the historic levels.

    Pricing, FX Pressure

    Commodity prices, though subsiding of late, still remain a concern for many of the U.S. chemical producers. Their ability to pass these costs on to end consumers is not always easy, given the competitive pressures at play. As a result, margins for a number of producers may be under pressure.

    In addition, chemical companies generate a major chunk of their revenues outside the U.S., and therefore are exposed to foreign exchange fluctuations. Currency exchange translation remains a headwind for these companies.

    A Still-Cloudy Agrichemical Space

    Agricultural chemicals and fertilizer makers face challenges following the exit of world's largest potash maker Uralkali Group from one of the biggest potash cartels -- the Belarus Potash Company (BPC) -- that influence potash pricing by controlling the production and supply. Uralkali's Board decided to end export sales through BPC and direct all potash export through its Switzerland-based trade arm Uralkali Trading. This game-changing move has put pressure on pricing.

    Moreover, demand for potash and phosphate remains somewhat weak in India, a key import market. Indian government's move to trim potash subsidy levels coupled with local currency devaluation contributing to lower demand for the nutrient in that country.

    Stocks Warrant Caution

    We hold a bearish view on Air Products and Chemicals Inc. (APD) and The Sherwin-Williams Company (SHW). We also steer clear of companies in the agricultural chemical space. Companies that fit the bill include Potash Corporation (POT), Agrium Inc. (AGU) and CF Industries Holdings, Inc. (CF).

  • Zacks: 3 Top-Ranked Biotech Stocks on the Rebound

    The biotech sector has been in the limelight over the past few weeks following a sharp sell-off. The sector, which has had an incredibly good run over the last two years, tumbled in the latter part of March with the trigger being a letter issued to Gilead (GILD) by lawmakers.

    This letter basically questioned Gilead’s pricing of its newly approved hepatitis C virus (HCV) treatment, Sovaldi, and immediately led to concerns that lawmakers will force biotech companies to cut prices of their drugs which in turn would affect their results. So companies likeBiogen (BIIB) and Alexion Pharmaceuticals, Inc. (ALXN) were also badly hit as investors got jittery that their newly approved drugs would also be subjected to the same pricing scrutiny.

    However, the concern regarding Sovaldi’s pricing seems overdone. Sovaldi is the new HCV treatment on the block and should see strong demand until an improved treatment enters the market. The product remains on track to gain blockbuster status and Gilead’s first quarter results should lay rest to concerns.

    Meanwhile, fundamentals in the biotech sector remain attractive. Strong pipelines, innovative treatments and impressive results should help these stocks rally from the recent doldrums. The price correction, in fact, provides a good opportunity to invest in some stocks that are a combination of robust fundamentals and a strong Zacks Rank.

    We have picked three names from the biotech sector which sport a strong Zacks Rank and look poised to perform well in the coming quarters.

    First on our list is Ireland-based Alkermes plc (ALKS), a Zacks Rank #1 (Strong Buy) stock. So far this week, Alkermes shares are up almost 9%. The company has a good earnings track record having exceeded expectations in three of the last four quarters with an average earnings surprise of 29.16%. The company has several pipeline events lined up this year.

    Earlier this week, Alkermes reported impressive top-line data from a pivotal study on its experimental schizophrenia drug aripiprazole lauroxil. With the once-monthly injection achieving the primary as well as secondary endpoints in the study, Alkermes is set to file for FDA approval in the third quarter. With doctors recognizing the advantages of long-acting injectable antipsychotics, aripiprazole should be able to take share once launched given its once-monthly dosing option (which provides dosing flexibility and enhances current treatment options).

    Our second choice is Amgen (AMGN), another Zacks Rank #1 stock. Amgen exited 2013 on a strong note with earnings being boosted by higher revenues, the end of the Enbrel profit share, a lower tax rate and a lower share count. Amgen’s earnings track record is pretty impressive with the company beating expectations consistently. Following the release of 2013 results, earnings estimates for 2014 and 2015 are up significantly. We expect 2014 to be a data rich year for Amgen.

    Our third pick is Alexion. This Zacks Rank #2 (Buy) stock also has an impressive track record with earnings surpassing expectations over the past four quarters. Earnings estimates for 2014 and 2015 have been increasing consistently. Soliris is doing well with its first approved indication (paroxysmal nocturnal hemoglobinuria) and the second indication (atypical hemolytic uremic syndrome) is surpassing expectations. The company will also benefit from lower tax rates. So far this week, Alexion’s shares are up 9.38%.

  • Zacks: 4 Growth & Income Stocks Beating the Market

    When the stock market is surging, investors don't seem to care much about dividends. That was certainly the case in 2013. After all, with the S&P 500 soaring nearly 30% last year, a 2% dividend yield seemed pretty measly.

    But with increased volatility here in 2014 and a flat overall market, income has become more important for investors. This is one of the reasons why the stodgy, high-yielding utility sector is the best performer year-to-date.


    Dividends Matter

    Historically, companies have paid out a little over half of their earnings in the form of dividends, while the stock market has averaged a dividend yield of 4.4%. However, just 32% of earnings are paid out in the form of dividends today, and the market yields a little more than 2%.

    It's no wonder why investors typically focus on price gains much more than income these days. But over the long run, dividends have actually contributed more than 40% of total stock market returns.

    And after a 5-year bull market in which the S&P 500 has surged over +175% and valuations have become a bit stretched, don't be surprised to see dividends contribute a significant portion of total returns over the next several years.

    Growth and Income at a Reasonable Price

    With the increased focus on total return, investors should consider adding some growth and income stocks to their portfolio.

    To find some top-performing growth and income stocks, I ran a screen in Research Wizard where I looked for stocks with the following criteria:

    • Dividend yield > 2%
    • Zacks Rank of 3 or better
    • Forward P/E below 18
    • Solid earnings growth projections
    • Growing dividend
    • Strong performance year-to-date vs. the S&P 500

    Here are the top 4 names from the list:

     

    Packaging Corporation of America (PKG)

    Packaging Corporation of America manufactures linerboard and corrugating medium, as well as a wide variety of corrugated packaging products, including conventional shipping containers, multi-color boxes, and special design/application boxes used in the food and agriculture industry.

    Earnings estimates have been soaring as the company has delivered four straight positive earnings surprises. It is a Zacks Rank #1 (Strong Buy) stock. The company also pays a dividend that yields a solid 2.3%. Shares of PKG have returned a solid +8.9% year-to-date


    Autoliv (ALV)

    Autoliv develops and manufactures automotive safety systems for essentially every major automotive manufacturers around the world. The company has been growing as demand for cars grows around the globe. The company also pays a dividend that yields 2.1%.

    Earnings estimates have risen strongly for Autoliv following its Q4 earnings beat on January 31. It is a Zacks Rank #2 (Buy). Shares of ALV have returned +8.9% so far in 2014.


    CubeSmart (CUBE)

    CubeSmart is a real estate investment trust (REIT) focused on self storage facilities. As a REIT, CubeSmart must pay at least 90% of its earnings to shareholders in the form of dividends to avoid paying tax on that money. It currently pays a dividend that yields 2.9%.

    Consensus earnings estimates have steadily risen for CubeSmart over the last fewyears as it has met or beaten the Zacks Consensus Estimate every quarter since 2009. It is currently a Zacks Rank #3 (Hold) stock. Shares of CUBE have returned +11.6% year-to-date.


    General Growth Properties (GGP)

    General Growth Properties is a REIT focused on regional malls. It is the second largest retail property REIT in the United States. GGP pays a dividend that yields 2.7%.

    GGP has reported five consecutive positive earnings surprises, prompting analysts to revise their estimates significantly higher for the REIT over the last several months. It is a Zacks Rank #2 (Buy) stock. Shares of GGP have returned +11.1% so far in 2014.


    The Bottom Line

    With increased volatility and a flat overall market, investors are starting to focus on total returns more than just price gains. These 4 stocks each offer growth and income and have delivered strong returns to investors so far this year.

  • Zacks: Publishing Industry Stock Update - April 2014

    The U.S. publishing industry has long been grappling with sinking advertising revenue, and the global economic downturn only worsened the situation. The downturn in the publishing industry, which has been going on for the last few years now, came in the wake of declining print readership as more readers choose to get free online news, thereby making the print-advertising model increasingly under pressure.

    Changing consumer preferences and the advent of new and innovative technologies have been altering the way news is read and offered. Readers now have more choices to collect and read articles and news through devices such as netbooks, tablets or other hand-held devices.

    These have been weighing upon the print newspaper industry, as advertisers now get low-cost avenues through which they can reach their target audience more effectively. An alternative and stable source of revenue is the demand of the time to salvage the dwindling print newspaper industry.

    Let’s have a look at what is happening in the publishing industry and how newspaper companies are adapting with the changing scenarios to keep themselves alive in the race for survival.

    Circulation Falling Prey to Internet

    Newspapers have fared far worse than magazines, as web-based news options have gotten the upper hand in recent years. The two-decade-long erosion in newspaper circulation reinforced the decline in advertising revenue. Circulation has also fallen prey to budget cuts with newspaper companies reducing the number of print pages and newsroom staff to combat the downturn.

    Despite the fall in newspaper circulation, some companies are reporting improved revenue from circulation due to the increase in subscription and newsstand prices. On the flip side, while the increase in prices for print editions is generating more circulation revenue, it is also resulting in subscriber losses due to the shift in preference for free online content.

    Waning Newspaper Advertising Revenue

    Advertising volumes are still under pressure as advertisers keep shying away from making any upfront commitments in an economy which is still not completely awoken from a state of hibernation. According to data released by the Kantar Media Intelligence, advertising expenditures during 2013 fell 3.8% in Local Newspapers and 3.6% in National Newspapers due soft advertising demand across Financial Service, Retail and Motion Picture marketers.

    Print advertising revenue at The New York Times Company (NYT) dropped 6.3% in the fourth quarter of 2013. At Gannett Co. Inc. (GCI), publishing advertising revenue fell 10.3% in the quarter. Print advertising revenue tumbled 8% at The McClatchy Company (MNI). Publishing advertising revenue dropped approximately 11.8% at Journal Communications, Inc. (JRN) during the quarter.

    Efforts to Mitigate Losses

    In an effort to offset declining revenue and shrinking market share, publishers are scrambling to slash costs. This has compelled many newspaper companies to undertake cost-cutting measures, such as trimming of headcount, pay cuts, furloughs, voluntary retirement program and closure of printing facilities.

    Newspaper companies have now been remodeling and restructuring themselves to better align with the growing need of marketers, targeting younger people, affluent households and other demographic groups with multiple web and print publications. The publishing companies are adapting to the changing face of the multi-platform media universe, which currently includes Internet, mobile, tablet, social media networks and outdoor video advertising in its portfolio.

    Publishing companies have been offloading assets that bear no direct relation with the core operations. The New York Times Company in May 2012 divested its remaining stake (210 Class B units) in the Fenway Sports Group, the owner of the Boston Red Sox and the Liverpool Football Club, for $63 million.

    Another example of shedding the assets by the company is the sale of Regional Media Group in Dec 2011, which has long been grappling with shrinking advertising revenue.

    Waning print advertising revenue, in an uncertain economy, compelled The New York Times Company to take this tough decision of divesting Regional Media Group, part of The New York Times Media Group. This would allow the company to re-focus on its core newspapers and pay more attention to its online activities. The decision to divest the division is also considered part of the cost containment efforts undertaken to stay afloat in this turbulent environment.

    The New York Times Company on Sep 24, 2012 completed the sale of About Group, which it acquired in 2005, to InterActiveCorp (IACI) for a consideration of $300 million. In Oct 2012, the company sold its stake in Indeed.com, a job portal, for approximately $167 million.

    The New York Times Company on Oct 24, 2013 completed the sale of its New England Media Group, including The Boston Globe and its allied properties to an acquisition company spearheaded by John W. Henry, who owns Fenway Sports Group. Additionally, the company also offloaded its 49% stake in Metro Boston.

    Publishing companies are also diversifying their revenue base. This is evident from Gannett’s recent acquisition of television-station operator, Belo Corp. The deal will serve as a game changer for the company as it will strengthen its foothold in the rapidly growing broadcast media business. Moreover, this deal is a strategic fit for the company as it will transform Gannett’s business model, which was primarily focused on low margins newspapers to a high-margin multi-media business.

    Online Advertising Gaining Traction

    Advertisers are migrating to the Internet driven by increasing online readership and lower online advertising prices compared to print. Consumers are now spending more time online, and are searching news articles in the Internet.

    Newspaper companies, who gauged this trend, have been trying to revamp themselves by increasing their digital applications. Digital advertising revenue remains a sole performer in the newspaper industry. McClatchy witnessed 2.2% rise in digital advertising revenue during the fourth quarter of 2013.

    Pay As You Access

    ”To read further please subscribe” is the new mantra that newspaper companies are fast adopting. To curb shrinking advertising revenue and improve market share battered by the recent economic downturn, some of the publishing companies are now considering charging readers for online content. We believe that this would mark an end to the free usage of online contents. Despite hiccups in the economy, the online subscription-based model still promises guaranteed revenue generation.

    The New York Times Company, on March 28, 2011 launched a pricing system for NYTimes.com, whereby after browsing a certain number of free articles, readers will be asked to subscribe for complete access to its articles on phones, tablet computers and the Internet.

    The New York Times Company fixed monthly charges of $15 for access to more than the restricted number of articles on its website and on a smartphone application; $20 for unlimited access online and on Apple Inc.'s (AAPL - Analyst Report) iPad tablet computer application; and $35 for online, smartphone and iPad application. Moreover, in order to woo subscribers, the company introduced a plan of 99 cents under which one will be able to enjoy all digital offerings for one month.

    The company also indicated that the users of NYTimes.com will be able to read 10 articles per month without spending a penny. However, readers visiting The New York Times Company’s website via blog links or social-media sites such as Facebook, Inc.(FB) or Twitter will be able to access an unlimited number of articles.

    But traffic reaching the company’s website through search engines such as Google Inc. , Microsoft Corporation's (MSFT) Bing and Yahoo Inc. (YHOO) will be able to view five articles per day before being asked for a subscription.

    We believe the success of the pay model depends on the accessibility of news articles across the web. Potential customers will be reluctant to shell out a penny if content is available free of cost elsewhere. However, The New York Times Company notified that the number of paid digital subscribers for The Times and the International Herald Tribune reached 760,000 at the end of the fourth quarter of 2013, reflecting a jump of over 19% year-over-year.

    The New York Times Company is steadily taking strides to bring in more readers under the ambit of the subscription based model. Additionally, the latest step to limit the number of articles that can be read through mobile applications is just another strategy undertaken on that front.

    From June 27, 2013 onwards, mobile app users are now able to access a maximum of three articles per day from over 25 sections, blogs and slideshows, before being asked to subscribe. Earlier, the users only had access to the Top News segment, unlike subscribers who could enjoy content beyond the prescribed limit. However, the video content remains free for all.

    The New York Times Company intends to transform itself and lessen its reliance on traditional advertising. In doing so, the company wishes to launch lower-priced as well as premium subscription based model to target different masses according to their appetite, and emphasize on online video production and brand extension. The company also christened International Herald Tribune as the International New York Times to represent itself as a single brand identity in order to attract international digital subscribers.

    OPPORTUNITIES

    Despite the tough times faced by the publishing industry, there are a number of defensive names in the group that can hold their ground. Companies are radically changing their business models to get in line with industry trends.

    The New York Times Company (NYT) is diversifying its business, introducing new revenue streams, strengthening its balance sheet and restructuring its portfolio. It is also divesting assets that bear no direct relation with the core operations in order to concentrate more on its core newspapers and online activities. The company intends to introduce a new line of digital products and services to move beyond traditional advertising.

    The New York Times Company currently carries a Zacks Rank #3 (Hold). Other better ranked stock in the industry is A. H. Belo Corporation (AHC) sporting a Zacks Rank #2 (Buy).

    WEAKNESSES

    The newspaper industry continues its struggle with plummeting advertising revenue amid an economy, which is still in recovery phase. Although murmurs about advertisers returning to the market are gaining ground as the economy revives, the positive effects have yet to be realized.

    Gannett Co., Inc. (GCI) is grappling with sinking advertising revenue. Publishing advertising revenue fell 10.3% during the fourth quarter of 2013, following a decline of 5.9% in the third quarter. Tepid recovery in the economy along with weakness in advertising demand impacted the results. We believe that the company’s focus on subscription based model and Geodigital services would make it less dependable on traditional advertising revenue. Gannett currently carries a Zacks Rank #3 (Hold).

    Zacks Industry Rank

    Within the Zacks Industry classification, Publishing forms part of Consumer Staples sector, one of 16 Zacks sectors, though the media industry is part of the Consumer Discretionary sector. We rank all the 260 plus industries in the 16 Zacks sectors based on the earnings outlook and fundamental strength of the constituent companies in each industry. To learn more visit: About Zacks Industry Rank.

    As a point of reference, the outlook for industries with Zacks Industry Rank #88 and lower is 'Positive,' between #89 and #176 is 'Neutral' and #177 and higher is 'Negative.' The Zacks Industry Rank for Publishing Newspaper is #105.

    Analyzing the Zacks Industry Rank, it is apparent that the Publishing Newspaper outlook is showcasing a neutral view.

    Earnings Trends

    The broader Consumer Staples sector portrays an healthy earnings trend. Looking at the consensus earnings expectations, we remain slightly cautious since earnings are expected to decline marginally by 1.8% in the first quarter of 2014 but remain encouraged for the full year 2014, when the earnings are projected to register growth of 4.6%. For 2015, earnings are expected to increase 8.6%.

    For more details about earnings for this sector and others, please read our ‘Earnings Trends’ report.

    Let’s Conclude

    The newspaper companies are transforming their business models to better position themselves in a multi-platform media universe. Although the U.S. economy is witnessing a soft recovery in the advertising environment, we believe 2014 will not likely mark the complete resurrection of the publishing industry. According to the industry experts, newspaper companies will focus more on mobile devices, online advertising based on user experience, and personalized content.

    With a strategic and steady newspaper budget, we could see fewer layoffs, increased focus on web and local content, improved subscription and concentration on profitable circulation. We observe newspapers are turning more subscriber-oriented, offering reports in line with readers’ choice. We expect paywall strategies, new pricing techniques and product innovation to generate more revenues ahead for the newspaper companies.

     

  • Earnings Calendar for April 7 - 11

    Earnings this week are headlined by Friday’s bank earnings by JP Morgan Chase (JPM) and Wells Fargo (WFC). Bed Bath & Beyond was hit hard in early January after guiding lower and missing estimates. Initial company EPS guidance for the upcoming quarter was 1.70-1.77 and was lowered to 1.60-1.67.

    Family Dollar Stores (FDO) has also been hit hard this year, down 10.24% in 2014 and also lowering guidance following weak results in January. Current estimates mark a 25% fall in profit from last year and company guidance was .85-.95/share.

  • Argus Market Digest for April 7, 2014

    Link to PDF

    In This Issue:

    *Focus List: Anadarko Petroleum Corp.: Favorable settlement in Tronox case (Michael Burke)
  • FinTake: Growth Stocks Lead Nasdaq Down Year-To-Date

    If you had glanced at the performance of the Nasdaq Composite from any point at the end of the first quarter until Friday, it would have been positive year-to-date. The meager .54% gain through the first quarter lagged the S&P 500’s 1.30% but was better than the Dow Industrials’ .72% loss. That was until Friday’s broad selloff that sent the Nasdaq down 2.6% on the day and -1.17% on the year:

    The selloff is being led primarily by the higher-growth stocks among the top 10 Nasdaq Composite holdings (by weight):

    Symbol Price 1 YTD Return 2014 EPS 2 2015 EPS 2 2016 EPS 2 2014 P/E (Est.) 2 2015 P/E (Est.) 2 3 Year Est. Growth Rate 3
    AAPL 531.82

    -4.66%

    $42.92 $46.88 $50.94 12.39 11.34 8.95%
    MSFT 39.87

    7.32%

    $2.69 $2.91 $3.18 14.82 13.70 8.75%
    GOOGL 545.25

    -2.79%

    $21.84 $26.91 $31.97 24.97 20.26 21.12%
    AMZN 323.00

    -19.00%

    $1.75 $4.08 $7.62 184.57 79.17 112.37%
    QCOM 78.53

    6.24%

    $4.61 $5.23 $5.41 17.03 15.02 9.82%
    INTC 26.16

    1.66%

    $1.86 $2.01 $2.11 14.06 13.01 6.70%
    CSCO 22.72

    2.86%

    $1.80 $1.95 $2.11 12.62 11.65 8.27%
    FB 56.75

    3.84%

    $1.00 $1.42 $2.08 56.75 39.96 44.30%
    GILD 72.20

    -3.86%

    $3.76 $6.99 $7.02 19.20 10.33 60.74%
    CMCSA 50.18

    3.00%

    $2.87 $3.28 $3.89 17.48 15.30 16.58%
    1 Top Nasdaq Composite holdings, prices, and estimates as of April 4, 2014 Close
    2 Estimates based on linked data from nasdaq.com
    3 Geometric mean of estimated 2014 - 2016 EPS growth

    Most notable is the correction in Amazon (AMZN), down 19% on the year and trading at levels not seen since October of last year and following returns of 44.93% and 58.96% in 2012 and 2013:  

    Also leading the selloff have been biotechs with the Nasdaq Biotechnology Index (NBI) wiping out its Q1 gain of 4.19% by the end of the week and following the index’s 10.7% loss in March, its worst monthly loss in over 4 years. The index is heavily weighted to Celgene (CELG -18.69% YTD) and Gilead Sciences (GILD -3.86% YTD) and can be quite volatile, despite its currently low beta and high Sharpe and Sortino ratios. The NBI’s leadership of the Nasdaq since late 2011 has been impressive nonetheless:

    We should get more guidance as tech begins to report earnings this week with Yahoo and Intel on Tuesday and Google on Wednesday, and the following week when AAPL, AMZN, BIDU, FB, GILD, MSFT, and QCOM all report results. Stronger results and guidance could help some of these correcting stocks recover from what so far can only be described as a choppy 2014.

  • Argus Market Movers for April 4, 2014

    Link to PDF

  • Zacks: Airline Stock Industry Outlook - April 2014

    The global aviation industry holds a steady outlook for 2014 as solid economic recovery and rising cargo demand lend optimism to the sector. These outweigh the negative impacts of developments in jet fuel price and growth concerns in emerging economies.

    After surviving the 2008 financial scare, the ongoing economic upturn is believed to be much stronger than that of 2012 and 2013. The outlook is particularly favorable for the U.S. economy, with GDP growth expected to materially improve from the pace of the last few years.

    While not much is expected from the Euro-zone, the region’s economy has definitely stabilized, lifting the clouds of the last few years. On the flip side, reversal of capital flows into the emerging economies in a post-QE world is expected to become a challenge to the region’s growth.

    Air cargo volumes – an important indicator of business confidence – are expected to continue trending up. The cargo business is expected to see expansion of 4.0% in 2014, way above 1.4% growth achieved in 2013.

    This improved outlook is behind the positive projections from trade groups. The International Air Transport Association (IATA) remains cautiously optimistic on the industry and projects overall airline profits of $18.7 billion for 2014, with 3.30 billion passengers in total.

    The current profit forecast marks 5.1% deterioration from the previous projection of $19.7 billion. Net profit margin is expected at 2.51%, up from 1.82% estimated previously. The industry is expected to generate $5.65 from every departing passenger on average, quite a soft number for a high risk business.

    Regional Forecast

    North America: With the world’s largest economy improving, North American airlines look brighter for 2014. Consolidation benefits, growing travel demand and a number of new and enhanced ancillary revenues also provide impetus. Although, performance will vary substantially between different U.S. carriers, a strong 2013 has increased 2014 profit forecast to $8.6 billion.

    Europe: Europe, which continues to recover slowly, will benefit from its joint ventures with North Atlantic carriers, thus driving profitability. IATA expects this year’s profit to reach $3.1 billion versus $1.2 billion in 2013.

    Asia-Pacific: These carriers are expected to post profits of $3.7 billion in 2014, higher than $3.0 billion recorded in 2013. Strong passenger and cargo demand will boost profitability.

    Middle East: Per IATA, profits from the Middle East carriers are expected to grow from $1.6 billion in 2013 to $2.2 billion in 2014. The region will likely witness robust traffic growth owing to strong passenger demand. Cost control measures, joint ventures and product innovations will drive profitability.

    Latin America and Africa: The region’s profitability is expected to enhance 2.5 times from $400 million in 2013 to $1.0 billion in 2014. The picture is similar in Africa, where a profit of $100 million is forecasted compared to a loss of $100 million in 2013.

    Emergence of Several Airways in the Middle East

    As the U.S. passenger carriers try to remain disciplined in capacity additions, several Gulf-based airlines continue to fortify their positions within the global airline industry. Emirates has led the pack by expanding in Europe, Africa and the BRICS thus making Dubai one of the largest international connecting hubs in the world. Emirates’ success was followed by two other regional players namely Etihad Airlines and Qatar Airways, which are trying to emulate the size and stature of the former.

    The large-scale plane orders only confirm the long-term ambitions of these airlines. The three Middle Eastern carriers already have a much impressive fleet of wide bodied jets as compared to U.S. carriers. These Gulf airlines have placed orders worth $162 billion with The Boeing Company (BA) and Airbus, deliveries of which are expected over the next decade.

    Emergence of these cash rich airline companies remains a concern for the legacy carriers including the U.S. ones, which might lose a chunk of their international market as most passengers continue to move through the Gulf.

    India - A Strong Long-term Opportunity

    The aircraft manufacturing giant Airbus and Boeing have both raised their 20-year outlook on India owing to the high appetite for growth but low market penetration of airline services. Demographic trends in India support the growth of air transportation service as the country's working class population continues to rise. The optimism swelled after Boeing received orders for 42 B-737 aircraft from SpiceJet worth $4.4 billion, while Tata Groups’ two airline joint ventures with Singapore Airlines and Air Asia Berhad have opted for Airbus' A-320 fleet.

    According to Boeing’s estimates, Indian carriers will buy 1,600 aircraft worth $205 billion between 2013 and 2032 compared to its previous same-period projection of 1,450 planes valued at $175 billion. Boeing’s counterpart Airbus has also raised its 2013–32 outlook to 1,290 aircraft valued at $190 billion from $1,045 billion planes at $145 billion. The aircraft manufacturing duo has predicted that a significant part of the order will constitute single-isled narrow bodied aircraft like Airbus A320 or Boeing 737s.

    The long-term rosy picture is however partially offset by the short-term weakness within India's aviation industry, which continues to suffer from over capacity. High capacity as compared to demand is forcing the carrier to fly with a lot of empty seats, thus affecting load factor. Additionally, airfares have also surged in the last five years resulting lower demand for air service.

    Underlying Factors for 2014 Profits

    In the base-case scenario, there are several dynamics that will act as driving factors for the overall airline profits in 2014. These include:

    Passenger & Cargo: Solid air travel demand, growth in ancillary revenues and economic recovery in Europe and North America are expected to drive growth. IATA is projecting global airline passenger growth of 5.8% and average industry load factor 80.2% this year. The improved supply-demand balance globally is expected to result in modestly lower passenger yield this  year.

    Fuel Price Effect: Airline profit outlook depends on fuel prices, the major variable component in the industry. For 2014, average oil prices are expected to stay at $108.0 per barrel, lower than $111.8 per barrel in 2012 and around $108.8 in 2013, primarily due to increased fuel supply in North America. Lower fuel prices are beneficial to airlines. But if the price reduction is due to weak demand on account of economic issues, then it’s a net negative for the carriers.

    Service and Fleet Restructuring: many carriers are scrapping flights in small and unprofitable airports in order to reduce costs, with bottom-line concerns trumping market share gains. To that end, the companies are replacing old and depleted airplanes with new and upgraded ones. Though initially expensive, new and improved aircraft are more fuel efficient than the existing ones and will help in lowering operating and maintenance costs.

    Over the next 20 years, global airlines are expected to invest in excess of $4 to $5 trillion in fleet development. Apart from the high demand from the oil rich Gulf nations, a major part of the fleet demand will also be driven by China, India and continuous expansion of low budget carriers around the world. For this, the airlines are banking on top aircraft manufacturers such as The Boeing Company, Embraer SA (ERJ) and Airbus.

    Over the long run, the carriers aim to replace their old narrow-body jets – A320’s/B757-200/300 – with advanced narrow-body airplanes such as A-321, A320 Neo and the B737 Max, for better service and demand-supply equilibrium.

    Delta Air Lines Inc. (DAL) plans to replace two-third of its older 50-seat regional less efficient aircraft with Boeing’s 717-200 and 737-900 aircraft over the next two year. This fleet is already generating superior margins in markets where it is already deployed and expected to further enhance domestic capacity.

    Jet Renovation: With passengers demanding comfort and quality service along with proper security, airlines are focusing on aircraft redesigning with new and attractive products and services within the travel plan.

    United Continental Holdings Inc. (UAL) is offering premium flat-bed cabin seats on every long-route international flights. Further, the carrier has installed in-seat power on more than half of its mainline flights and has revamped the interiors of most of its Airbus fleet. Delta also plans to invest $750 million over the next two-year period to roll out Wi-Fi as well as renovate the interiors of its narrow-bodied aircraft over the next three years.

    Hedging Strategies: Hedging strategies are used by airline companies to cope with the rising fuel prices. The carriers use a combination of calls, swaps and collars at varying WTI crude-equivalent price levels to hedge.

    U.S. Airlines – 20-Year Projection

    Over the last few years, the global economy has been hit by a recession in Europe, slow growth in China and volatile performance by some emerging economies. Although U.S. airlines experienced slow growth in the recent past due to these headwinds, these are expected to improve in the long run as predicted by the U.S. Federal Aviation Administration (FAA).

    The U.S. airline industry is expected to remain profitable over the next two decades given the improving worldwide economic activity. An uptick in economic activity will fuel demand for airline service. Passenger enplanement is expected to grow 0.8% to 745.5 million in 2014 and about 2.1% in the future, reaching $1.03 billion by 2028 and nearly $1.15 billion by 2034.

    The FAA projects air traffic, customarily measured in billions of revenue passenger miles (implying a unit of one mile flown by one passenger), to grow many folds over the same period. Revenue passenger miles will jump from 822.2 billion reported in 2012 to almost 1.47 trillion by 2034 at an average annual rate of 2.7%.

    International traffic is forecasted to move up at an average rate of 4.2% per year, reaching 434.8 million in 2034. This projection assumes steady economic recovery with no major headwinds like a significant rise in oil price, changes in macroeconomic policy or financial meltdowns. Further, major North American airlines will raise capacity (available seat miles) at an annual rate of 2.1%, reaching 1.75 trillion by 2034.

    Zacks Industry Rank - Positive

    Within the Zacks Industry classification, airlines are broadly grouped into the Transportation sector (one of 16 Zacks sectors).

    We rank all the 260-plus industries in the 16 Zacks sectors based on the earnings outlook and fundamental strength of the constituent companies in each industry.

    As a point of reference, the outlook for industries in the top one-third of the list (with Zacks Industry Rank #88 and lower) is ‘Positive,’ the mid one-third of the list (between #$89 and #176) is ‘Neutral’, while the last one-third ( from #177 and above) is ‘Negative.’

    The Zacks Industry Rank for the airline industry is currently #56, implying that the outlook remains positive.

    Earnings Trends

    The broader Transportation sector, of which railroads are part, reflects a stable growth pattern. So far, 100% of the sector participants have reported fourth-quarter results, which have been fairly good in terms of both beat ratios (percentage of companies coming out with positive surprises) and growth.

    In the fourth quarter, the transportation sector registered revenue "beat ratio" of 54.5% and earnings beat ratio of 45.5%. Total earnings for the companies in this sector grew 15.8% year over year on 4.5% revenue growth. Earnings showed meaningful improvement from 13.2% in the third quarter 2013, while revenue growth was flat at 4.5%.

    The Consensus earnings expectation is pegged at 19.9% for the first quarter and 8.2% for 2014. The second quarter is expected to register a modest earnings growth of 1.2%. The first quarter revenue expectation is pegged at 4.8% while full-year growth stands at 4.5%. The second quarter is expected to register revenue growth of 4.4%.

    For more details about earnings for this sector and others, please read our latest ‘Earnings Trends.’

    OPPORTUNITIES

    We believe industry consolidation and various ancillary revenues will boost the profitability and cost performance of most air carriers going forward. This is a suitable time for companies to consolidate for higher profits and operational efficiency.

    Additional Revenue Gains: A number of supplementary revenue streams helped the airline industry gain ground in 2013. Air carriers are adding novel features to their service and introducing products to improve passenger satisfaction and experience. The IATA projects total revenue of $745 billion in 2014.

    Mergers & Acquisition: Airline companies unite in order to restore lost profits and broaden their perimeter. This was evident in the past mega mergers within the industry involving Northwest Airlines and Delta Air Lines in 2008, United Airlines and Continental Airlines in 2010 and AirTran Holdings and Southwest Airlines Co. (LUV) in 2011. All three companies – Delta, United and Southwest are long-term beneficiaries on capacity and cost fronts.

    The recently merged U.S. Airways Group Inc. and American Airlines Inc. have gained in size and capacity by creating the largest global carrier American Airlines Group Inc. (AAL). Despite the merged entity having more pricing power and control over a larger number of slots, we believe it will have little effect on the dynamics of the U.S. aviation industry as 80% of the same market will be dominated by the new American, United, Delta and Southwest.

    Expansion: North American carriers continuously strive to increase domestic and international flights. United is planning an international service between Los Angeles and Melbourne from Oct 2014. To expand operations in Central America, United plans to operate flights between Newark in New Jersey and Santiago in Dominican Republic from summer 2014.

    Delta Air Lines is strengthening its position in the western coastal city of Seattle and is building it as an access point to Asia. Meanwhile, Southwest is looking to tap opportunities in the international market with its debut in three Caribbean markets in Jul 2014. The company also aims to offer non-stop service to several domestic destinations from Dallas Love Filed airport where flight limitations will finally be lifted in Oct 14. The carrier also expects to strengthen in markets like Memphis, Tennessee, Cleveland, where rival carriers have downsized their operations.

    JetBlue continues to successfully expand its network footprint in major growth regions – Boston, Fort Lauderdale, the Caribbean and Latin America. The company is banking heavily on the new services offered from Fort Lauderdale to different locations in the Caribbean and Latin America.

    New Choices: The merger between U.S. Airways and American Airlines has opened up new opportunities for low budget carriers. As part of the agreement with Department of Justice (DOJ), U.S. Airways and American need to give up 52 take-off and landing slots at Washington’s Reagan National Airport (DCA) and 17 pairs at New York’s LaGuardia Airport (LGA). Further, the carriers have to divest two gates and related facilities at each of the Boston, Chicago, Dallas, Los Angeles and Miami airports.

    Carriers like Southwest, Virgin Atlantic and JetBlue have reaped the most benefit of these slot divestments. Southwest has been the beneficiary at both DCA and LGA winning 27 and 12 pairs respectively, while JetBlue won 20 such pair slots at DCA, including 8 that it has leased from American Airlines. Virgin America has won the remaining 5 pairs of slot at LGA. Both Southwest and JetBlue have announced their intentions to expand from DCA, with the former planning 40 daily departures, while the latter targeting 24 daily services from the airport.

    Technology Upgrades: Air carriers are opting for numerous technology upgrades and system automation for various activities such as airline reservation, flight operations and website maintenance. These upgrades allow the companies to function effectively and efficiently, minimize expenses and render better customer service.

    Carriers like Cathay Pacific, Malaysia Airlines, KLM, Delta, Qantas and British Airways have made Apple's iPad available to passengers in their lounges, rent them out in the air as well as use them as a self-service kiosk, customer survey tool and food ordering tool. Meanwhile, United Airlines has installed satellite-based first-ever Wi-Fi service for flyers on any long-haul international route and is presently available on nearly 170 flights.

    Emergence of Smaller Carriers

    Although consolidation within the U.S. aviation industry will reduce competition, it is expected to be short lived because of the low barriers to entry within the same. Further, the rising profit margins within the industry have allowed the smaller operators to expand. The most aggressive of these has been Spirit Airlines Inc. (SAVE), which plans to double its fleet size by 2017.

    These ultra-low fare carriers are gaining popularity by providing low cost options for domestic travelers, thus gaining popularity among low end customer. Other small carriers like Allegiant Travel Company (ALGT) and Frontier Airlines Group Inc. along with Spirit could capture a greater market share if they continue with their present expansion mode.

    The major outperformer will be American Airlines and Alaska Air Group Inc. (ALK), that have a Zacks Rank #1 (Strong Buy). We also like a few Zacks #2 Rank (Buy) stocks such as JetBlue Airways, Southwest Airlines, Delta Airlines,Hawaiian Holdings Inc. (HA) and Copa Holdings SA (CPA). United Continental and Allegiant currently hold a Zacks Rank #3 (Hold).

    CHALLENGES

    Of the many challenges facing the industry, the most crucial ones include slow economic recovery, volatile fuel prices, natural calamities, industry consolidation, government regulation, unionization, airport infrastructure constraints, technological investments and safety concerns.

    Pitfalls of Industry Consolidation: Over the last few years, the U.S. aviation industry has seen several consolidations with the most significant ones being U.S. Airways with American Airlines in 2013 and Continental with United in 2010. With major and legacy airlines of the U.S. joining forces, the total number of carriers operating within the industry is becoming less. This has resulted in less competition, higher airfares and increased fees, thus affecting the flyers.

    Cannibalization: Smaller airlines could also be dominated by their bigger counterparts, which will try to drive them away either via price competition or through strategic acquisitions. Frontier Airlines became the recent target when it was acquired by Phoenix-based private equity firm Indigo Partners LLC.

    Oil Price Volatility: Fuel price volatility continues to be one of the significant challenges, as fuel costs are largely unpredictable. Airline carriers’ ability to pass along the increased costs of fuel to its flyers is restricted by the competitive nature of the industry. Although fuel price is currently stable, any significant geo-political issue in the oil producing country can affect profitability.

    Unionization: The airline business is labor intensive. Most of the employees are unionized and depend on various U.S. labor organizations. The relation between airlines and labor unions are governed by the Railway Labor Act, which states that a collective bargaining agreement between an airline and a labor union does not expire – instead it becomes amendable as of a stated date.

    Failure to amend terms and conditions suitably may lead to work stoppages or strikes, and thereby hamper operations. Similarly, the airline industry in rest of the world is also exposed to labor related concerns − proved by the ongoing pension-related dispute of Aer Lingus and its largest trade union.

    Federal Regulations: The airline industry is highly regulated, in particular by the federal government. All companies engaged in air transportation in the U.S. are subject to the regulations implemented by the Department of Transportation (DoT).

    Further, airlines are also regulated by the Federal Aviation Administration, a division of the DoT, primarily in areas of flight operations, maintenance and other safety and technical matters. The new stringent pilot duty and rest rules under FAR117 will increase the carriers’ expense as the companies need to hire more pilots to comply with the aforementioned rules.

    Large Investments: The air carriers are investing a lot of money to enhance their products and services to gain a competitive edge. However, returns from these investments are uncertain.

    Technological Failure: Technological investment is a key expense for air carriers. The profitability of airlines could be affected by technology glitches or failure to invest in new technologies. The most prominent example is an electrical system problem in Boeing 787 Dreamliner stemming from its lithium-ion batteries, which can affect the buyers of these mega carriers.

    We expect Republic Airways Holdings Inc. (RJET) and SKYWEST Inc. (SKYW), to underperform the broader market. Both hold a Zack Rank #5 (Strong Sell).

  • Morning Roundup for April 3, 2014

    Futures are flat to down slightly this morning with little reaction to the ECB's decision to leave interest rates unchanged. We also got initial jobless claims numbers this morning with initial claims coming in slightly higher than expected. Tomorrow's jobs number will be released at 8:30 am and expectations are for a big jump from February (data provided by Econoday):

    With yesterday's breach of all-time highs on the S&P and a near-record close for the Dow Industrials, small-caps and tech have been the laggards on this move up though comp though both are less than 3% from their highs.

    Next week will be the beginning of earnings releases with many large-caps set to report Q1 results. We will keep you posted as to upcoming earnings and expectations.

  • Zacks: Bull of the Day: Tesla (TSLA)

    There's been no company, or stock, as hot as Tesla Motors, Inc. (TSLA) over the last year. The luxury automaker is an American success story, complete with a larger than life CEO in the form of Elon Musk.

    Tesla manufactures luxury highway capable electric vehicles. It entered production of the Tesla Roadster in 2008, the Model S in 2012 and will deliver the Model X this year.

    The Future Looks Bright

    Tesla is attempting to become the first new successful U.S. automaker in over 50 years. It is off to a hot start.

    On Feb 19, Tesla reported fourth quarter results and blew by the Zacks Consensus Estimate by 250%. It sold a record 6,892 Model S vehicles in the quarter. Gross margin was 25%.

    Tesla was optimistic about 2014, especially internationally. The Model S will start deliveries in China this spring. If all things go according to plan, it expects Europe and Asia combined sales to be twice that of North America by the end of 2014.

    Full Year Estimates Soar

    On Mar 28, federal safety regulators announced they were closing their investigation into two fires in the Model S in 2013, deciding that the design of the car was not flawed.

    Tesla, to assuage consumer fears, said it would provide more protection to its lithium-ion batteries. No one was hurt in the fire incidents.

    Analysts like what they see. Estimates have been moving sharply higher over the last 3 months. The 2014 Zacks Consensus has jumped to $1.31 from $0.49 in the last 90 days.

    That is earnings growth of 670%.

    Analysts are bullish on 2015 as well. They see continued earnings growth of 173%.

    Tesla doesn't report monthly sales results as other domestic automakers do. Investors have to wait until May, when Tesla reports its first quarter results, to see how 2014 is shaping up.

    Shares Retreat From the Highs

    Tesla has been a high momentum stock over the last year. Shares are still up 38% year to date despite a drubbing in the month of March as nervous investors sent them sinking 15%.

     

    Even with the pullback, shares are no deal. Tesla trades with a forward P/E of 162.

    But you don't buy Tesla for the value. You buy it for that triple digit earnings growth.

    Tesla is also the only domestic U.S. automaker that is a Zacks Rank #1 (Strong Buy).

    If you're a growth investor, then Tesla should be on your short list.

  • Zacks: Any Survivors from the Biotech ETF Meltdown?

    The high flying, and top performing, sector of 2013 – biotech – delivered impressive gains last year, on the back of increasing mergers and acquisition activities, expansion into emerging markets, increasing health care spending, mounting demand for novel drugs and Obamacare.

    However, this sector, which also enjoyed a strong bull rally over the past five years with gains extending to a stellar 257%, has recently been hit hard by bubble fears as the Fed unwinds its massive bond buying program.

    This is especially true, as the Nasdaq Biotechnology Index is currently trading with a PE approaching 400, and almost 94 times estimated earnings, which is considered to be quite an exorbitant valuation by many market experts.

    Apart from concerns over valuation, market experts believe that the surging IPO volume is also a key warning sign for possible risks for this hot sector of 2013. U.S. biotech IPOs have seen the fastest start to the year.

    However, the biotech sector’s worst slump came on March 21, when it suffered the steepest decline since October 2011 on the back of political risks. The sell-off came as the Democrats in the U.S. House of Representatives questioned Gilead Sciences Inc. (GILD) – one of the top U.S. biotech companies – over the high price of its new hepatitis C drug, Sovaldi.

    The product priced at $84k for a 12-week treatment is considered to be far too expensive and has brought in fears related to potential regulatory risk and pricing caps for the biotech sector. Strong pricing power is considered to be one of the foremost traits for the investment case for this industry.

    ETF Impact

    Given the concerns over valuation and pricing power, biotech ETFs have been the worst performing ETFs in the past one month with all of them posting losses in the double-digit range. None of the products in this space managed to survive the recent slump, though these ETFs are still trading in the green in the year–to-date time frame.

    The most popular ETF in this space – Nasdaq Biotechnology (IBB) – has slumped 13.25% in the past one month, with around 7% of the losses coming in the past one week itself.

    Other ETFs including NYSE Arca Biotechnology Index Fund (FBT), Market Vectors Biotech ETF (BBH) and Dynamic Biotech & Genome (PBE) have lost in the range of 10%–14%.

    SPDR S&P Biotech ETF (XBI) was the worst hit in this space, having eroded almost 16% in the past one month. While XBI took the past 12 months to clock a gain of 38%, the ETF has eroded almost half of the good work in a single month.

    Bottom Line

    Despite the beating that the biotech sector has received in recent times, its long-term prospects still look promising. The sector is expected to witness continuing launch of new drugs, which will boost both the top and the bottom line of biotech companies.

    Let us not forget all the above mentioned ETFs have added more than 35% in the past one year and have gained more than 180% in the past five years.

    This impressive outperformance is expected to continue going forward, given the fact that all the above ETFs also have a favorable Zacks ETF Rank (#1 or #2), so it might be best to wait through the volatility and remain a buyer of this recently beaten-down sector (read: Top Ranked Healthcare ETF in Focus: XPH).

  • Morning Roundup for April 1, 2014

    U.S. stock futures are up again this morning, +.25% on the Dow and S&P and set to open near the 1883 all-time highs set in March. With today beginning the second quarter, we have tabulated results from Q1 below: 

     

     S&P

     Nasdaq

     Dow

     Russell 2000

     March

    0.69%

    -2.53%

    0.93%

    -0.84%

     Quarter

    1.30%

    0.54%

    -0.15%

    0.81%

     YTD

    1.30%

    0.54%

    -0.15%

    0.81%

    Strength in Asia and Europe seem to be leading us higher this morning as yields in the U.S. continue to climb along with the EURUSD. There are also modest gains in precious medals this morning while crude oil is flat to down.

    We will get PMI at 9:45 (exp.: 56.8) and the ISM Manufacturing index (exp.: 54.0) and Construction Spending (exp.: 0.1%) at 10 a.m.

  • Zacks: Pharma & Biotech Stock Outlook - March 2014

    The pharmaceutical sector has been slowly but steadily recovering from the impact of the patent cliff being faced by several companies over the past few years. The worst of the patent cliff is over and the NYSE ARCA Pharmaceutical Index (^DRG) is up 21.4% over the last year. So far in 2014, the index is up 6.9%.

    Several companies which had been struggling to post growth in the face of genericization over the past few years are now on the recovery path. New products should start contributing significantly to results, and increased pipeline visibility and appropriate utilization of cash should increase confidence in the sector.

    Products that lost exclusivity recently include Eli Lilly’s (LLY) Cymbalta and Evista. AstraZeneca’s (AZN) Nexium could also start facing generics from May 2014 in the U.S. where sales were $2.1 billion in 2013.

    Collaborations, Acquisitions and Restructuring

    The pharma sector witnessed major merger and acquisitions (M&A) activity over the last couple of years. Going forward, we expect small bolt-on acquisitions to continue. In-licensing activities and collaborations for the development of pipeline candidates have also increased significantly. Several pharma companies are focusing on in-licensing mid-to-late stage pipeline candidates that look promising, instead of developing a product from scratch, which involves a lot of funds and time.

    Small biotech companies are open to in-licensing activities and collaborations. Most of these companies find it challenging to raise cash, thereby making it difficult for them to survive and continue with the development of promising pipeline candidates. Therefore, it makes sense for them to seek deals with pharma companies that are sitting on huge piles of cash.

    We recommend biotech stocks that have attractive pipeline candidates or technology that can be used for the development of novel therapeutics. Therapeutic areas which could see a lot of in-licensing activity include immuno-oncology, oncology, central nervous system disorders, diabetes and immunology/inflammation. The hepatitis C virus (HCV) market is also attracting a lot of attention.

    Some recent acquisitions/deals include Shire’s (SHPG) acquisition of ViroPharma,Salix’s (SLXP) acquisition of Santarus as well as the acquisition of Optimer Pharmaceuticals and Trius Therapeutics by Cubist Pharmaceuticals(CBST) and that of Elan by Perrigo Company (PRGO). A major acquisition agreement was announced recently -- that of Forest Labs (FRX) byActavis (ACT). This deal shows the intention of generic companies to establish a strong position in the branded market. Another significant deal was the one signed between Celgene (CELG) and OncoMed Pharmaceuticals (OMED) for the joint development and commercialization of up to six anti-cancer stem cell candidates from OncoMed's biologics pipeline.

    Another trend that we are seeing in recent months is the divestment of non-core business segments. Pfizer (PFE) sold its Capsugel unit and its Nutrition business in Aug 2011 and Nov 2012, respectively. Pfizer then spun off its animal health business into a new company, Zoetis (ZTS).

    Meanwhile, GlaxoSmithKline (GSK) divested certain non-core brands from its Consumer Healthcare segment. In Aug 2011, AstraZeneca sold its Astra Tech business to DENTSPLY (XRAY). The monetization of non-core assets will allow the pharma/biotech companies to focus on their areas of expertise. Abbott Labs (ABT) split into two separate publicly traded companies; while one company deals in diversified medical products, the other, AbbVie (ABBV), is focusing on research-based pharmaceuticals. Johnson & Johnson (JNJ) is also looking to divest its ortho-clinical diagnostics business. Vertex (VRTX) monetized its Incivo-related royalties; the company can use the cash generated from this deal for its cystic fibrosis program.

    Restructuring activities are also gaining momentum as large pharma companies are looking to cut costs and streamline their operations. Most of these companies are re-evaluating their pipelines and discontinuing programs which do not have a favorable risk-benefit profile. Some of the companies that announced restructuring plans include Merck (MRK),Novartis (NVS), Eli Lilly, Shire and Sanofi (SNY).

    Destination Ireland

    Of late, several companies have been looking towards Ireland for acquisitions. The latest company to join the Irish club is Horizon Pharma (HZNP) which is doing a reverse merger with Dublin-based Vidara. Tax benefits are a major attraction for such deals. Other such recent acquisitions include that of Warner Chilcott by Actavis and Elan by Perrigo.

    Emerging Markets and Biosimilars

    Another trend seen in the pharmaceutical sector is a focus on emerging markets. Companies like Mylan (MYL), Pfizer, Merck, Eli Lilly, Glaxo and Sanofi are all looking to expand their presence in India, China, Brazil and other emerging markets.

    Until recently, most of the commercialization efforts were focused on the U.S. -- the largest pharmaceutical market -- along with Europe and Japan. Emerging markets are slowly and steadily gaining more importance, and several companies are now shifting their focus to these areas.

    However, while higher demand for medicines, government initiatives for healthcare, new patient population and increasing use of generics should help drive demand, we point out that emerging markets are also not immune to genericization. Moreover, investigations into bribery charges in China could put a lid on near-term growth.

    Meanwhile, growth in Europe will continue to be pressurized by austerity and cost-containment measures.

    We are also seeing several companies entering into deals for the development of biosimilars, generic versions of biologics. Companies like Merck, Amgen, Biogen (BIIB) and Actavis are all targeting the highly lucrative biosimilars market.

    4Q Earnings

    All companies falling under the Medical sector have reported fourth quarter and full year 2013 results. While earnings-beat and revenue-beat ratios (percentage of companies coming out with positive surprises) were pretty impressive, growth ratios were modest. Fourth quarter results were characterized by currency headwinds as well as the impact of generics.

    Fourth quarter 2013 earnings "beat ratio" was 74.0% while the revenue "beat ratio" was 76.0%. Total earnings for this sector were up 1.1%, compared to 0.2% recorded in the third quarter of 2013. Total revenues moved up 5.3% in the quarter versus 5.8% growth in the third quarter of 2013.

    Looking at the consensus earnings expectations for the first quarter, earnings are expected to decline 3.3%. Tough challenges for some companies, negative currency movement and a few patent expirees will affect first quarter growth. However, growth should pick up from the second quarter for which 1.6% earnings growth is expected.

    Overall, 2014 earnings are expected to grow 6.5%.

    Focus on New Products

    2013 saw the FDA approving 27 novel medicines, about one-third (33%) of which were identified by the FDA as “First-in-Class,” meaning they use a new and unique mechanism of action for treating a medical condition. These include drugs like Invokana (type II diabetes), Kadcyla (HER2-positive late-stage breast cancer), Sovaldi (an interferon-free oral treatment for some patients with chronic hepatitis C) and Mekinist (metastatic melanoma).

    Yet another one-third of the approved drugs fall under the rare or “orphan” disease category that affects 200,000 or fewer Americans. These include Imbruvica (mantle cell lymphoma), Gazyva (chronic lymphocytic leukemia), Kynamro (homozygous familial hypercholesterolemia) and Adempas and Opsumit (both for pulmonary arterial hypertension). Three of the approved drugs – Gazyva, Imbruvica and Sovaldi – had breakthrough therapy designation. Breakthrough status, a new designation that became effective after Jul 9, 2012, is designed to cut short the development time of promising new treatments.

    Some important products approved in 2013 include:


    Drugs like Tecfidera, Sovaldi and Imbruvica represent strong commercial potential.

    So far in 2014, drugs that have gained approval include AstraZeneca’s Myalept (complications of leptin deficiency) and Farxiga (type II diabetes), Chelsea Therapeutics’ (CHTP) Northera (to treat neurogenic orthostatic hypotension), BioMarin’s (BMRN) Vimizim (Morquio A syndrome) and Vanda Pharma’s (VNDA) Hetlioz (non-24- hour sleep-wake disorder).

    Upcoming events include FDA advisory panel review of the regulatory application forMannKind’s (MNKD) experimental diabetes treatment, Afrezza. April should be an active month with the agency expected to deliver a response on the approvability of several experimental drugs including Afrezza, Glaxo’s Eperzan (type II diabetes) and Arzerra (CLL).

    Zacks Industry Rank

    Within the Zacks Industry classification, pharma and biotech are broadly grouped into the Medical sector (one of 16 Zacks sectors) and further sub-divided into four industries at the expanded level: large-cap pharma, med-biomed/gene, med-drugs and med-generic drugs.

    We rank all the 260-plus industries in the 16 Zacks sectors based on the earnings outlook and fundamental strength of the constituent companies in each industry. To learn more, visit: About Zacks Industry Rank.

    As a point of reference, the outlook for industries with Zacks Industry Rank #88 and lower is ‘Positive,’ between #89 and #176 is ‘Neutral’ and #177 and higher is ‘Negative.’

    The Zacks Industry Rank for large-cap pharma is #225, med-biomed/gene is #69, med-drugs is #84, while the med-generic drugs is #8. Analyzing the Zacks Industry Rank for different medical segments, it is obvious that the outlook is Positive for med-drugs, med-biomed/gene and med-generic drugs and Negative for large-cap pharma stocks.

    OPPORTUNITIES

    While several companies will continue to face challenges like EU austerity measures and genericization, the pharma industry is out of the worst of its genericization phase. Many companies which had faced generic headwinds in the last couple of years should continue to see a sustained improvement in results this year. Cost-cutting, downsizing, streamlining of the pipeline, growth in emerging markets and new product launches should support growth.

    Among pharma stocks, Shire, a Zacks Rank #1 (Strong Buy) stock, looks well-positioned for growth with the company expanding its product portfolio and pipeline through the acquisition of ViroPharma. Horizon Pharma, a Zacks Rank #2 (Buy) stock, also seems on the right path with the company announcing its plans to acquire Ireland-based Vidara.

    In the biotech space, we are positive on Biogen. Tecfidera, the company’s recently launched oral multiple sclerosis drug, is off to a strong start with the product delivering sales of $876 million (as of Dec 31, 2013) since its launch in early April 2013. While Tecfidera has gained the top spot in the oral multiple sclerosis market in the U.S., Avonex and Tysabri should continue contributing significantly to sales. Tecfidera gained EU approval recently. Biogen is also progressing with its hemophilia pipeline.

    We are also positive on Amgen (AMGN). Amgen should be able to deliver on its long-term strategy based on expansion in key markets, launch of new manufacturing technologies, and pipeline development. Enbrel should continue performing well. Amgen’s late-stage pipeline is also moving along. While Amgen is a Zacks Rank #2 stock, Biogen is a Zacks Rank #3 (Hold) stock.

    Gilead, a Zacks Rank #1 stock, continues to do well in the HIV segment and has a potential blockbuster in its portfolio in the form of HCV treatment, Sovaldi.

    Among generic companies, Actavis looks well-positioned. Actavis is slowly and steadily building its position in the branded market through acquisitions (Actavis Group, Warner Chilcott and the upcoming acquisition of Forest). With fewer major patent expiries slated to occur in the next few years, we are encouraged by Actavis’ focus on building its branded and biosimilars pipeline. The company carries a Zacks Rank #2.

    WEAKNESSES

    We recommend avoiding names that offer little growth or opportunity for a take-out. These include companies which are developing drugs that are likely to face regulatory hurdles.

    Among large-cap pharma companies, Eli Lilly is gearing up for another round of patent expiries -- Cymbalta in Dec 2013 and Evista this year. We prefer waiting on the sidelines until the company is able to emerge from the impact of genericization.

    Companies that currently carry a Zacks Rank #4 (Sell) include Bayer (BAYRY), Sanofi and Glaxo among others. Sanofi, which is facing currency headwinds, was in the news recently related to the development of its PCSK9 inhibitor, alirocumab. The FDA has asked Sanofi and partner Regeneron (REGN) to evaluate potential neurocognitive adverse events across the global development program for alirocumab, especially in long-term studies. While results on PCSK9 inhibitors in development have been encouraging so far, this is the first time that serious safety concerns have been raised. 

  • Argus Market Digest for March 31, 2014

    Link to PDF

    In This Issue:

    *Initiation of Coverage: Cummins Inc.: Strong outlook for top engine supplier (John Gelcius)

    *Value Stock: KB Home: Reiterating FY14 estimate; trading near fair value (Chris Graja)

    *UtilityScope: Pepco Holdings Inc.: Outlook improves due to strong EPS growth in 2013 (Gary Hovis)

  • Zacks: Bull of the Day: St. Joe (JOE)

    The St. Joe Company (JOE) is a real estate developer with approximately 185,000 acres of land, concentrated primarily in Northwest Florida. Over the years, the company has developed successful residential and commercial projects and related infrastructure and is currently focused on growing its resorts, leisure and leasing operations.

    JOE has five reportable operating segments: (1) residential real estate, (2) commercial real estate, (3) resorts, leisure and leasing operations, (4) forestry and (5) rural land. During FY 2013, about 39% of revenues came from resorts, leisure and leasing operations.

    Solid Fourth Quarter Results

    JOE reported its fourth quarter results on February 17. The company had net earnings of $0.5 million including a non-cash impairment charge of $5.1 million. Excluding charges, earnings were $0.04 per share, per Zacks. Results were better than the previous-year quarter as well as the Zacks Consensus Estimate of a loss of a cent per share.

    Revenues increased 50.0% to $33.9 million, ahead of the Zacks Consensus Estimate of $25.0 million. Residential real estate, commercial real estate, as well as resorts, leisure and leasing segments delivered a solid performance but the forestry segment remained weak with no notable rural land deals in 2013.

    Sale of timberland closed

    In November, the company announced the sale of approximately 383,834 acres of non-strategic timberland. According to the management “this transaction will help the company concentrate on its core business activity of real estate development”.

    On March 5, JOE announced the close of the deal for approximately $562 million, which included $200 million in the form of a timber note. After the sale, the management expects to continue its forestry operations on a limited basis.

    Earnings estimates revisions

    After strong results, analysts have revised their estimates for JOE. Estimates for FY 2014 and FY 2015 are now $0.02 per share and $0.11 respectively, unchanged and up from $0.07 per share, 30 days ago. The company has delivered positive surprises in three out of last four quarters with an average surprise of 187.5%.

    Rising estimates sent JOE back of Zacks Rank #1 (Strong Buy) earlier this month.

    The Bottom Line

    The recent timberland sale appears to be a strategic fit for the company as it will be able to focus on its core operations. Further improved outlook for resorts and leisure activities suggest strong chances of outperformance in the coming months.

     

  • Zacks Article: Coal Industry Stock Outlook - March 2014

    Overview

    Coal plays a vital role in the economic development of a country. Coal not only provides a cheap source of electricity production but also creates employment opportunity for thousands of people. Coal with its heat generating capability also plays an essential role in the chemical, fertilizer and steel industries.

    Coal is a dominant source of power generation worldwide despite the increasing use of other resources. Coal still plays an important role in the U.S. in the generation of power. However, natural gas and renewables are eating away its share at a rapid pace. The usage of natural gas and alternate sources for power generation will continue to pose challenges to coal.

    According to estimates by the U.S. Energy Information Administration (EIA), the country’s current coal reserves will last for 168 years at the present production rate. They might in all likelihood last even longer with environmental issues coming in the way. There is no denying the manifold advantages of coal. However, unchecked usage of this fossil fuel has raised concerns in all quarters. The primary cause of concern related to coal is global warming caused by the emission of greenhouse gases.

    President Obama’s Climate Plan, followed by the U.S. Environmental Protection Agency's (EPA) proposal for granting permission for setting up new power plants, is putting immense pressure on power producing units. In the light of these issues, if the U.S. electricity generators opt for natural gas for power generation and invest more in alternate sources, what will be in stake for coal companies?

    Given the mounting environmental pressure, there is definitely a move away from coal as a power source. Per a report from Industrial Info Resources, active coal mining projects in the U.S. have declined by 39% from 2011 levels. Per the report, there were $12.3 billion worth of active coal projects in 2011, which declined to $7.5 billion in 2013.

    Facts indicate the importance of coal is gradually waning in the U.S. Will investments in coal stocks fail to generate adequate returns?  Coal has lost ground for sure, but it is still a long way to go before it actually runs out of steam.

    On a global scale, coal still leads the way. There is hope for coal companies if they can produce high-efficiency coal. Technological advancement and carbon capture and storage offer possible remedies for coal’s future.

    Zacks Rank

    The Zacks Industry Rank, which relies on the same estimate revisions methodology that drives the Zacks Rank for stocks, currently puts the coal industry at 91 out of 259 industries in our expanded industry classification. This puts the industry in the mid third of all industries, corresponding to a neutral outlook.

    The way to look at the complete list of 259+ industries is that the outlook for the top one-third of the list (Zacks Industry Rank of #85 and lower) is positive, the middle one-third of the list (Zacks Industry Rank of #86 to #169) is neutral while the outlook for the bottom one-third (Zacks Industry Rank #170 and higher) is negative.

    Please note that the Zacks Rank for stocks, which is at the core of our Industry Outlook, has an impressive track record going back years, verified by outside auditors, to foretell stock prices, particularly over the short term (1 to 3 months).

    Of the 18 companies belonging to the coal industry in our coverage 1 has a Zacks Rank #1 (Strong Buy); 1 has a Zacks Rank #2 (Buy), while 2 have a Zacks Rank #4 (Sell) and none are rated Zacks Rank #5 (Strong Sell). The other 14 have a Zacks Rank #3 (Hold).

    Overall, the coal industry has been through troubled times in 2013, with some signs of improvement in 2014. Our Zacks Rank for individual stocks indicates the possibility of a gradual recovery in the industry.

    Earnings Review and Outlook

    The coal industry’s overall earnings results in the fourth quarter were on the softer side. U.S. coal producers Peabody Energy Corporation (BTU),Alliance Resource Partners, L.P. (ARLP), Natural Resources LP (NRP), Alliance Holdings GP, L.P. (AHGP) and Cloud Peak Energy (CLD), among others, surpassed the consensus estimates.

    In total, 55% of the coal companies in our coverage either met or came out with positive earnings surprises in the fourth quarter, below the 64.3% average for the S&P 500.

    In 2013, the coal industry was impacted by lower realized prices and increasing usage of natural gas and renewable sources for power production. At the same time a supply glut in most regions were putting downward pressure on coal prices. Unavailability of railroad services impacted the operations of some miners.

    The upcoming earnings releases in the first quarter are expected to remain soft as well. As per our current projection, Peabody Energy and James River Coal (JRCC) are expected to surpass year-ago earnings.

    Coal operators have recognized that tough times are ahead and are adhering to stringent measures to improve their financial performance. Miners have taken initiatives to lower cost while engaging in tactful capital expenditures to assure the safety of mine operations. The miners are shutting down high cost coal mines and moving their operations to low cost regions. Longwall coal mining techniques are also having a positive impact on production.

    A World Steel Association report suggests a 3.3% increase in global steel demand in 2014. This spike in steel demand might help met coal producers like Walter Energy Inc. (WLT) and Rhino Resource Partners L.P. (RNO) to boost profits.

    Moreover, the demand for power fluctuates with seasons and a harsher winter or a more torrid summer may see higher demand for electricity and in turn more robust coal sales.

    Coal Production & Consumption

    Per an EIA report, U.S. coal consumption in 2013 was 923 million short tons (MMst), which is expected to go up by 4.6% in 2014. The projected increase in coal usage in the U.S. is attributable to higher demand for electricity and the rising cost of natural gas. However, coal consumption is expected to drop 3.1% year over year to 936.1 MMst in 2015.

    Per the EIA report, in sync with higher coal consumption, coal production in the U.S. will increase by 3.2% to 1,027.5 MMst in 2014. The production is expected to decline by 1.4% year over to 1,013.1 MMst in 2015.

    Coal Trade

    Per the same EIA report, U.S. coal exports in 2013 touched 118 MMst, 6.1% lower than export levels achieved in 2012. EIA pegs U.S. coal export at 103.3 MMst and 98.9 MMst in 2014 and 2015, respectively. The decline in export is a function of continued economic weakness in Europe and higher production from other coal exporting nations.

    Besides Australia and Russia, which has the second largest coal reserve next only to the U.S., the U.S. coal exporters could face competition from Indonesia. Australia is trying to tap demand in the Chinese and Japanese markets, thereby posing a tough competition to U.S. producers.

    Strengths

    Coal as a major source of fuel for power generation dominates the utility industry. Coal is used to generate about half of the electricity consumed in the U.S. Electricity generation absorbs about 93% of total U.S. coal consumption. Apart from the utilities, coal is also used in various industries like chemicals, cement, paper, ceramics and metal products, to name a few.

    Given its heat-producing feature, hard coal (metallurgical or coking coal) forms a key ingredient in the production of steel. Nearly 70% of global steel production depends on coal.

    Demand for coal from the developing economies, primarily in the Asian countries, is a driving force for the industry. Of the emerging Asian countries, economic growth in China and India is touted to be the fastest. These countries rely heavily on coal for electricity generation. In 2013, Arch Coal Inc. (ACI) opened operations in Beijing to tap the growing metallurgical and thermal coal demand in South Asian markets.

    Weaknesses

    Coal is plentiful and fairly cheap relative to the cost of other sources of electricity, but its use produces emissions that adversely affect the environment. The sluggish pace of economic recovery and a supply glut have put downward pressure on the price of coal. EIA predicts average coal prices in the utility industry to decrease to $2.36 per million British thermal units (MMBtu) in 2014 from $2.38 per MMBtu in 2012.

    The U.S. government has been pretty vigilant, enforcing stricter regulations on coal-fired generating units to curb pollution. The climate action plan from President Obama, followed by the EPA’s proposal for implementing more stringent guidelines for setting up new coal power plants if diligently followed will increase the cost of producing electricity from coal, making it less attractive compared to other fuel sources.

    Increasing competition from natural gas and alternate sources of power generation is gradually eating away coal’s share in power generation. We expect to see more of this trend going forward.

    To Sum Up

    At present the top four coal producers contribute more than 50% of U.S. coal generation volume. Despite the stringent legislations and regulations regarding coal-fired generation, we still see some positive news for the coal industry.

    The sudden increase in natural gas prices and an unrelenting winter to start off 2014 in most parts of the U.S. could have a positive impact on U.S. coal demand for the year.

    The U.S. Bureau of Economic Analysis projects U.S. real GDP to grow by 2.6% in 2014 and 3.2% in 2015. Total industrial production is expected to increase 2.8% in 2014 and 4.0% in 2015. We find these forecasts promising, as we expect a significant portion of increased energy needs to be provided by coal.

    As per the World Coal Association, proven global coal reserves will last nearly 112 years at current production rates. On the other hand, proven oil and gas reserves are projected to last around 46 years and 54 years, respectively, at current production levels. So, among the fossil fuels, coal has the chance to last longer unless strict environmental norms put coal out of business.

    Asia is the biggest coal market and presently accounts for 67% of the global coal consumption. China with its ongoing industrial development consumes nearly 50% of the total global coal. Industrialization in India is also perking up, leading to higher coal consumption. Japan is also increasing its thermal coal usage following the nuclear aftermath and the deactivation of the reactors.

    We have also noticed a change in the product mix preference for a prime coal producer. CONSOL Energy Inc. (CNX). This traditional coal miner has shifted its focus to natural gas shedding most of its coal assets. The company has plans to divest additional coal assets. Will this be a new trend among the coal operators or just a stray example? Time will eventually reveal what is in store for the sector and its leading players.

    For now, coal operators are taking due precautions to safeguard against freak accidents. However, a recent chemical spill into a river in West Virginia is a harsh reminder that pollution from the coal industry is an ever-present threat that can disrupt the living world.

    Coal has a long list of drawbacks. But its advantage lies in its price, which is far cheaper than other sources of fuel. The availability of coal in most countries across the globe makes it a widely accepted source of power generation globally.

    If we look at the global picture, it is evident that a cheap source of reliable power is a driving factor for economic development. Reinvigorating demand from growing economies and steady demand from the U.S. will continue to drive the coal industry in the future.

  • Argus Market Digest for March 24, 2014

    Link to PDF

    In This Issue:

    *Growth Stock: Noble Energy Inc.: Cutting 2014 estimate on higher lease operating costs (Michael Burke)

    *Value Stock: Gannett Co. Inc.: Boosting target by $3 to $35 (John Eade)

    *Value Stock: Walgreen Co.: Second-quarter earnings preview (Chris Graja)
  • Argus Market Movers for March 21, 2014

    Link to PDF

  • Zacks: Business Services Stock Outlook - March 2014

    To Begin With

    Business services sector can be defined as ancillary services provided by companies to other players in the market. Hence, the core business of one company can be a business service for another.

    Operating efficiencies demand companies to focus on functions and activities that are close to their core competence. This not only helps them to reap the benefits of economies of scale in those core functions, but also improves their competitive positioning. Importantly, this dynamic opens the door to business services companies to provide those non-core services.

    The business service sector is highly fragmented, with no single service provider enjoying market dominance. As per business reports, the top 50 companies of the sector contribute less than 25% to the overall revenue of this sector. However, given its unique nature, Zacks has classified the group as one of 16 sectors (the S&P’s official GIC classification has only 10 sectors where business services are grouped within the ‘Industrials’ sector).

    Stand-Alone Zacks Sector – Zacks Industry Rank

    This industry covers an array of services that include marketing, consulting, staffing, security, telecommunications, Internet services, logistics and waste handling. In its expanded sense, the U.S. business services sector generates consolidated yearly revenue of about $620 billion, though many companies mentioned below do not strictly fall within the generally accepted definition of the industry.

    Within the Zacks Industry classification, we have divided the business world into 16 sectors comprising 60 industries (at the medium or M-level) and 259+ industries at the expanded or X-level. We rank all 259+ X-level industries in the 16 sectors based on the earnings outlook for the constituent companies in each industry. This ranking is available in the Zacks Industry Rank page.

    The way to align the ranking and outlook from the complete list of Zacks Industry Rank for the 259+ industries is that the outlook for the top one-third of the list (Rank of #85 and lower) is positive, while the outlook for the bottom one-third (Rank #170 and higher) is negative. The outlook of the middle one-third of the list (Rank of #86 to #169) is therefore neutral.

    Please note that the Zacks Rank for stocks, which is at the core of our Industry Rank, has an impressive track record, verified by outside auditors, to foretell stock prices, in particular over the short term (1 to 3 months). We have 7 X-level industries within the Business Services sector: Auction/Valuation Services, Business Information Services, Business Services, Consulting, Financial Transaction Services, Outsourcing, Staffing, and Waste Removal Services.

    Outsourcing as well as Staffing at Zacks Industry Rank #101 and Business Services at #154 and Waste Removal at #168 are the industries falling in the mid 1/3 of all Zacks industries and have a neutral outlook. The rest ­­ Business Information Services at #183, Consulting industry at #179, Auction/Valuation at #204 and Financial Transaction Services industry at #183 -- fall into the bottom 1/3 with a clear negative outlook. This distribution of industry ranks within the sector shows that the overall bias is neutral to negative.

    Earnings Review

    With 100% of the companies under the Business Service sector having reported their fourth quarter results, let’s take a look at how things shaped up for the sector.

    Earnings for the sector grew 10.6% in the fourth quarter faring better than the overall 9.4% growth for the S&P 500. The Q4 earnings growth was an improvement over 8.6% growth in the third quarter. Revenues showed an improvement of 5.6% faring much better than the S&P 500’s year-over-year average of 0.8%. Revenue growth also improved sequentially.

    In terms of surprises, the sector’s performance was weaker than the broader market, with 42.9% of Business Services companies beating earnings expectations compared with the ‘beat ratio’ of 64.3% for the S&P 500 as a whole.

    Looking ahead, 2014 and 2015 earnings are expected to improve 12.3% and 13.7% respectively. This compares favorably to the +8.1% and 11.6% growth for the S&P 500 in 2014 and 2015.. Revenue growth is expected at 4.9% for 2014 and 6.1% for 2015 for the sector compared with a minimal improvement of 1.1% and 2.2% for the respective years for the S&P 500. The Zacks Business Services sector as a whole accounts for 3.2% of the S&P 500 index’s total market capitalization and is expected to bring in roughly 2.3% of the index’s total earnings in 2014.

    For a detailed look at the earnings outlook for the Business Services and other sectors, please check our weekly Earnings Trends report.

    Top Picks

    Considering Zacks Rank, share prices, earnings surprise history and future growth prospects we think the following two stocks can enrich ones portfolio.

    Exlservice Holdings, Inc. (EXLS): This provider of business process solutions, utilizing operations management, analytics and technology primarily in the United States and the United Kingdom delivered positive earnings in the last four quarters in with an average beat of almost 8.3%. Share prices also gained about 11% year to date. Given the prospect of the company we find more room for upside. Our model projects earnings growth of about 16% over the long term.

    The growth drivers include new relations signed with initial scope of several million dollars in annual contract value once implemented. The company also continues to benefit from strong secular demand. U.S.-based health insurance will continue to experience rising volumes, pressure to improve patient outcomes and a need to comply with regulatory change.

    The company also engages in share buyback that down the line would enhance shareholder value.

    ExamWorks Group, Inc. (EXAM): This provider of independent medical examinations (IMEs), peer and bill reviews, Medicare compliance and other related services delivered positive earnings in three of the last four quarters in with an average beat of almost 29.3%. Share prices also gained about 17% year to date. Given the prospect of the company, we find more potential left. Our model projects earnings to grow about 20% over the long term.

    The company continues to benefit from market share gains that lead to superior organic revenue growth, technology solutions that drive operating leverage and expanding margins, and considerable cash flow. Its compelling inorganic growth story is also expected to boost its performance level.

    Both these stocks carry a Zacks Rank #2 (Buy).

    Stocks to Avoid

    Benchmarking the above attributes we also have two stocks that you may like to avoid.

    CoreLogic, Inc. (CLGX): This provider of property, financial and consumer information, analytics, and services in the United States, Australia and New Zealand continues to suffer from the impact of lower mortgage volumes, integration costs related to the BoA integration cost as well as severance and facilities charges.

    The company posted negative surprise with an average of 1.1% over the last four quarters. The underperformance was reflected in share price, which declined 10.6% year to date.

    Clean Harbors Inc. (CLH): This provider of environmental, energy, and industrial services primarily in the United States, Puerto Rico and Canada delivered negative surprise of 7.05% in the last four quarters. Share prices also showed downward movement by 10.2% year to date.

    In mid-January, the refining majors led by Motiva, lowered their group two lubricant pricing by 25–30 cents. This pricing affected the company’s contracted base oil volumes.

    Both these stocks carry a Zacks Rank #5 (Strong Sell).

    OPPORTUNITIES

    The most important feature of this industry is that it is labor intensive, given the nature of intangible products offered by the service sector. Business reports indicate that the two most populated countries, China and India, are together expected to create 300 million employment opportunities in the global job market by 2030.

    The industry offers specialized services based on the latest technologies. With specialized services, these providers reduce the operational cost and in turn the overall costs of companies, thereby benefiting margins. Notably, an increased number of companies opting for such specialized services would expand volumes for the service providers. This would eventually lead to services at lower costs and a further reduction in costs for companies.

    The industry offers global reach, helping the company widen its customer base and maintaining a better retention ratio. It also opens the door to international trade.

    CHALLENGES

    A major challenge faced by this industry is spending by companies to avail of services from business service providers. This, in turn, is directly tied to the health of the economy.

    As this industry provides specialized services, it involves continuous spending on research and development as well as training, maintaining skilled workforce. While continuous research and development help it acclimatize or adapt to new services to account for the ongoing development, training and maintaining skilled workforce limit high turnover rate.

    Increasing competition also threatens this industry. As the main business of one company can be a business service for another, maintaining or increasing market share can pose risks to business service providers.

    To Conclude

    The dearth of skilled labor in the business services sector can impact future growth possibilities. Non-availability of quality workforce at a reasonable rate might increase overall operational costs.

    Mergers and acquisitions play a key role in not only strengthening a company’s foothold by grabbing more market share but also in edging out competition.

    However, due to the highly fragmented nature of the industry, it is difficult to set a distinct trend or predict a concrete future for it. The expected annual compounded growth rate for this sector is 4% from 2010 to 2015.

    The sector might also attract new investors as nearly one-third of the companies under our coverage in the business service industry shares profits with their shareholders via dividend payments. Dividend payments help in retaining stockholders confidence in the company. Also companies undertake share repurchases to enhance shareholders value.

    With an ever-increasing population and economic turmoil being a constant drag, generating employment is a burning issue. This sector, being labor intensive, involves lower capital investments and confidently addresses this problem. The emerging economies such as India and China are also becoming important destinations for the business service sectors. On the flip side, the same poses challenges to employment growth in developed economies.

    Nevertheless, we can safely say that despite all the hurdles, this industry is crucial for business operations.

     

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Disclaimer: Past performance does not guarantee future results. Investors should always research companies and securities before making any investments. No third-party research herein should be construed as an offer or solicitation to buy or sell any security. FinTech was not involved in the creation of any of the contained research nor have they verified any information made by the third-party research vendors sampled. Please determine which security, product, or service is right for you based on your investment objectives, risk tolerance, and financial situation.