Quick Thoughts: AMZN and GOOG – Looking for Some Investor Love

Written January 29th, 2015 by

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-       AMZN jumped nearly 9% after hours after turning in a surprise $0.45/share profit, while GOOG held serve on a nominal miss caused by a 4% YoY FX hit and a few one-time items.

-       AMZN was typically cryptic, but highlighted strong growth in Prime and its recent price increase as drivers of the EPS upside.

-       GOOG’s sales and earnings would have topped consensus w/o FX effects, and cost-per-click would have been up slightly YoY. Management highlighted investments in ad tech that are driving sales

-       AMZN may be out of the woods with investors for the time being and GOOG may be ready to take the next step with its big initiatives in ad tech, e-commerce, and the digital home

TMT heavyweights AMZN and GOOG capped off a busy week in earnings with topline misses, while the former delivered an unusually high earnings beat sending shares of AMZN as high as 13% in the after hours session. GOOG dipped a couple points on the earnings release but reversed course after the call with the stock up 1.4% as a messy quarter was brought into context. Like their tech peers that reported earlier in the week, both AMZN and GOOG also reported FX issues, with impacts of -4% to their toplines. Both would have easily topped consensus revenue otherwise. For AMZN, the earnings surprise shows Bezos is answering the bell, not because of Wall Street, but to avert retention issues when it comes to his employees. For GOOG, the second straight miss taken in context of a quarter with unusual FX headwinds and large one-time real estate investments shows the business is otherwise continuing the course dominating digital advertising.

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DuPont – Trian Engages the Big Gun!

Written January 29th, 2015 by

DuPont – Trian Engages the BIG Gun!

Trian, today, announced the formation of Trian Advisory Partners, charged with the following:

“Trian Advisory Partners will provide support to Trian by identifying potential investment opportunities, assisting with due diligence, formulating strategic and operating initiatives for the companies in which Trian invests, and engaging with public company management teams, Boards of Directors, shareholders, and external advisors. Trian Advisory Partners may also join the Boards of Directors of companies in which Trian invests”.

The three founding partners are William R. Johnson – former Chairman and CEO of Heinz; Dennis Kass – former Chairman and CEO of Jennison Associates and former Chairman of Legg Mason; AND Dennis Reilley – former Chairman and CEO of Praxair, current board director at Dow Chemical, current Chairman of Marathon oil, AND FORMER COO of DuPont.

Dennis Reilley is arguably one of the best CEOs in recent memory in the chemical industry and Praxair’s shareholders saw a total shareholder return of around 250% from the day he was announced CEO until the day he retired.  Dennis drove the capital and operating discipline at Praxair that created the superior returns and a business process that, while refined by his successor Steve Angel, is now the blue print for Air Products strategy and Linde’s strategy if we believe recent investor presentations.

Dennis was very quick to recognize which parts of the industrial gas value chain were commoditized or undifferentiated and made these as low cost and efficient as possible.

While there is no mention in Trian’s release about which members of the team will be focused on which investments, current or under consideration, Dennis’s DuPont and operational experience make him the obvious big gun you want in any discussion about restructuring both the company and the way the company operates.

While the DD earnings call contained a great deal of rhetoric about why the company is on track, it is clear that cost cutting is a major part of the story today and clearly Q4 was helped by a significant tax break. The Chemours businesses are getting worse rather than better, and the projections call into question just how much free cash this spin-off company can generate – if any – and how much of any DD dividend or debt share can be carried by Chemours.  In our view, Chemours suffers from the same problem as DuPont overall – too many people. The whole company would benefit from the operational experience that someone like Dennis could bring.

We think that the upside in the stock comes from what can be achieved along the lines proposed by Trian and today’s announcement by Trian gives us more confidence that this can be achieved.  We have discussed possible valuation in prior research.

Ex 1

MCD – The Journey of 1,000 Miles Begins with a Single Step

Written January 29th, 2015 by

McDonald’s (MCD) has had a difficult two (plus) year period, and the CEO during that period (Don Thompson) will not be part of any potential recovery as he was replaced last night by the company’s Chief Brand Officer, Steve Easterbrook.  While MCD unquestionably faces some secular issues related to the quality of its product offering, supplier issues in China and recently in Japan strike at what the company has long viewed as a competitive advantage – its supply chain.  Mr. Easterbrook clearly has a job of work ahead of him, but we continue to believe that, at current levels, with a nearly 4% dividend yield, the risk/reward for patient investors is favorable based on our view that global brands, even tarnished ones, with robust FCF, represent optionality with at least some chance of renewed success.

Mr. Easterbrook is certainly qualified, having managed businesses within MCD as well as for other organizations, but the fact that change has begun is the more important signal for investors.

Having said that, MCD is in need of much more than cosmetic fixes such as menu tweaks and slightly shorter wait times for customers.  At its core, MCD is built on a global supply chain that is more 1990’s than it is 2010s – a source of cost savings geared toward delivering frozen product at a cost advantage versus its peers.  Consumer tastes have shifted, with people demanding fresh ingredients and better for you, even in the case of simple indulgences such as burgers.  Absent a product offering that resonates with that consumer profile, the company has been largely reliant upon discounting, with the Dollar Menu seemingly a preferred strategy of Mr. Thompson over the past two years.

Simply put, MCD needs to be substantially rebuilt.  The cost of such a rebuild can be funded “internally” to some degree as the company’s SG&A structure could serve as a source of funds.  The company needs to step back from its race to the bottom strategy of offering lower quality food at lower prices.  It certainly won’t happen overnight and may not happen at all, but in our conversations with investors, MCD has been left for dead, almost completely.  That fact alone intrigues us, and we think last night’s move by the company is an acknowledgement that change is necessary.  We believe that fundamental change is necessary, and will look to Mr. Easterbrook’s actions to see if he agrees.

In what looks to be a smart move, the company added Margo Georgiadis, formerly of Google, to the Board of Directors.  In addition to a multitude of other sins, MCD has fallen behind competitors such as Starbucks (SBUX) with respect to the company’s digital engagement with consumers.  Simply put, management needed some tech experience and seems to have gotten it.

Bottom line, our constructive view of MCD is one that is rooted in the optionality associated with a still robust (if not thriving) global brand and associated free cash flow.   A turnaround won’t be quick and won’t be easy, but it appears to us that the pendulum may have swung too far toward “impossible” for some investors.


Quick Thoughts: FB and QCOM – Beat, Guide and Drop

Written January 28th, 2015 by

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-       FB and QCOM both beat consensus expectations for Dec Q sales and EPS handily, however rising costs at FB and skittish guidance from QCOM sent both stocks down after hours, QCOM sharply so

-       QCOM lost some SoC business w Samsung, suffers from AAPLs share gains, and awaits resolution in China. These factors will weigh on 2HF15, but are not catastrophic. We see upside to guidance.

-       FB is rapidly growing its expenses, as it previously advised, aiming to offer users new services that can be monetized – e.g. video. Investors fear initiatives will eat profit, a la AMZN and GOOG

-       Both companies are with positioned for the long run with potential 2015 catalysts – Chinese resolution for QCOM and expenses kept with in guidance for FB

Both FB and QCOM delivered outstanding numbers after the close today, yet both were down after hours on investor skittishness over guidance. Despite delivering another healthy beat on nearly 49% YoY revenue growth and hitting a $12B annual revenue milestone, shares of FB were off -2% as investors were concerned new initiatives would sap profitability. For QCOM, which handily beat consensus and announced resolution of a dispute with a large Chinese licensee, a trifecta of issues including the loss of some Samsung business, Apple’s surge in market share, and an investigation by Chinese regulators weighed heavily on the stock sending it down over -8% in the after hours session.  Like their tech peers who already announced earnings, both companies also indicated FX challenges with FB forecasting a 5 point hit, while QCOM’s exposure is a bit more muted given the company’s exposure to Asian markets which haven’t been impacted as much as Europe. Still, both companies have the potential to deliver upside against expectations, with potential 2015 catalysts setting up both companies for the long run.

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Quick Thoughts: AAPL – Awesome! Epic! When Should We Sell?

Written January 27th, 2015 by

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-     AAPL sold 74.4M iPhones in its 1QF15, up 46% YoY and nearly 10M above consensus – with an ASP of $687, up 7.8% YoY – driving sales of $74.6B and EPS of $3.06, both WAY above expectations

-     The iPhone is now 68.6% of AAPL sales and likely, 80%+ of its profits – by far the biggest share ever. Mac joined the party, with units up 14.5%, but iPad units were down 17.7% with a lower ASP.

-     Guidance for 2QF15 sales of $52-55B is slightly above consensus. This is strong given FX headwinds and implies continued iPhone strength and initial Apple Watch shipments ahead.

-     The iPhone 6/6+ satisfied pent-up demand for bigger screens, pulling many upgrade sales forward. With the good news on the table and TOUGH compares ahead, we expect AAPL to crest soon

Apple delivered an epic blow out, besting even the most bullish analyst numbers. It sold 74.5M iPhones, crushing the record 51M sold in the year ago quarter by 46%. The astounding volume did not come at expense of price, as the ASP increased 7.8% YoY, driving iPhone revenues up by more than 57%. The price rise is a clear indicator of the success of the 5.5 inch 6 Plus model, which sold at a $100 premium to the 4.7 inch iPhone 6 and was the bellwether in the 70% YoY growth in sales to Greater China, now almost 20% of total revenues. As a result, Apple total sales of $74.6B were up 30% YoY and 14.7% higher than consensus, while its EPS of $3.06 were up 48% YoY and 17.7% above expectations. For all other companies watching – THAT is how you beat a quarter.

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Quick Thoughts: MSFT – Moving Quickly to the Cloud

Written January 26th, 2015 by

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- MSFT’s 2QF15 beat on both the top and bottom lines. Adjusting for one-time items, EPS was $0.77 ahead of the $0.71 consensus, and sales of $26.47B edged expectations on 7.9% YoY growth.
- Businesses central to the “mobile first, cloud first” strategy – Office 365, Azure, Surface, and server products – performed very well in the quarter, and are positioned to continue the trajectory.
- Several traditional businesses – i.e. consumer Windows, Office packaged software, and Xbox – were weak, spooking some investors who took profits and sent the stock down 4% after hours
- MSFT is delivering strong growth while aggressively shifting to the cloud, navigating the decline of front-loaded SW sales, the end of the Windows upgrade cycle, and a challenging int’l market

Just a week after showcasing the impressive Windows 10, Microsoft delivered a respectable 2QF15 beat on both the top and bottom lines, evidence that CEO Satya Nadella’s “mobile first, cloud first” strategy is working. The $26.47B in reported revenue beat expectations of $26.27B, while $0.77 in adjusted EPS, after adding back one-time Nokia integration and IRS audit expenses, easily topped the $0.71 consensus. The quarter saw Microsoft navigate well through some short term headwinds that included the end of the Windows 8 upgrade cycle, a transition to the cloud subscription model with less upfront revenues than its traditional packaged software business, weak international demand from China, Japan, and Russia, and a challenging foreign exchange environment with a strong US dollar. With the commercial and consumer cloud segments up 45.7% and 30.0% respectively, along with a sixth consecutive quarter of triple digit growth for Azure, everything points to a successful transition to the cloud. Still, the unavoidable struggles of the company’s older businesses spooked investors who took the stock down 4% in after hours.

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The Bull Case for SNY’s Diabetes Franchise – Update

Written January 23rd, 2015 by

Consensus expectations for SNY’s basal insulins (Lantus/Toujeo) appear too low. Expectations fell 28% after SNY warned last October that US pricing had weakened, and have fallen to the point that consensus now expects 2017 sales to be lower than 2014 sales

This seemingly ignores the facts that in the US (66% of global Lantus sales) unit demand for basal insulins is growing at 10%, Lantus’ unit share of the basal insulin market is growing; and, both SNY and its key competitor (Levemir/NVO) increased list prices of their products by 11.9% in the month following the warning

In short, consensus expectations for Lantus (and the follow on product Toujeo) have failed to adjust for recent volume, share, and pricing trends, all of which point to substantially higher than consensus sales

As an entirely separate matter, we believe SNY’s pre-phase 3 pipeline is undervalued – so much so that SNY’s share price would have to increase by roughly 45% in order to more accurately reflect the apparent amount of innovation in the pre-phase 3 pipeline. To be clear, this is on an all-else-equal basis; i.e. we would argue SNY is roughly 45% undervalued even if consensus figures for Lantus and Toujeo were correct, though we don’t believe they are

Taken together, we see two powerful – and independent – reasons to believe SNY is substantially undervalued

For our full research notes, please visit our published research site

Quick Thoughts: MSFT – Mobile First, Cloud First, CHECK!

Written January 21st, 2015 by

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-     MSFT revealed details on Windows 10 – tight integration btw phones, PCs and Xbox; free upgrade for Windows 7 & 8 users; traditional look but modern functionality; a powerful new browser, etc.

-     Free upgrade will drive fast adoption, reduce fragmentation, increase appeal to developers. Cross device integration adds valuable functionality and promotes platform loyalty. Big benefits for users.

-     Concerns over lost revenue are myopic – upgrades are a minor part of sales and reducing fragmentation will be a boon to cloud applications, which we believe will be the future of MSFT

-     CEO Nadella delivered some sizzle with the steak. Xbox support on Windows, the Spartan browser, the 84 inch Surface Hub conference room device, and the MSFT Hololens VR headset will draw press.

Upon rising to the top of Microsoft, new CEO Satya Nadella was clear in asserting a “Mobile First, Cloud First” future. Today’s event, giving details on the company’s new Windows 10 platform strategy affirmed that he is moving aggressively to build that future. Windows 10 is presented as a single platform designed to run on devices from a smartphone up to the newly announced 84 inch Surface Hub conference room system, and soon to be available for hundreds of millions of installed PCs as well. As a single platform, users will have a consistent interface and access to programs and files seamlessly across their devices, while developers will be able to easily adapt applications for the full range of device types as well. This is a big deal for taking the Windows platform, still the overwhelming device standard for enterprise computing, confidently into a future where devices in the workplace will be heterogenous and where workers will expect to access their files from their office, their home and their pocket.

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Quick Thoughts: NFLX – What a Difference a Quarter Makes

Written January 20th, 2015 by

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-     NFLX bounced back from its 3Q14 drubbing to surprise in 4Q with 4.33M new subs and EPS of $0.72, both well above guidance and consensus expectations. Shares traded up 14% after hours.

-     Original programming is paying off big time. It is much more cost efficient per view than bought content and NFLX will borrow to produce more. 1Q will see the launch of key new content.

-     International expansion has been VERY successful and will hit 200 countries by the end of 2016, with material improvement in contribution. This is the primary driver of 20-25% future growth.

-     Management denies interest in PPV, live streams, and ads. These remain valuable potential levers for further monetization and value for shareholders.

Three months ago, Netflix took it on the chin after delivering fewer new subs than it had promised and were expected. While there were clear reasons for the shortfall – an unexpected price hike and a lull in the introduction of new content – 31.1% YoY growth in subs and 27% growth in revenues didn’t cut it for investors, and the stock fell 19% on the day after.

Fast forward to today. Netflix added 4.33M new subs during 4Q14, a deceleration in YoY growth from those “disappointing” 3Q14 sub numbers, but a surprise vs. the company’s more conservative guidance and consensus expectations. Sales were up 26.4%, again a modest deceleration from those awful 3Q14 numbers, but in line with expectations and EPS, at $0.72, were way above both guidance and consensus. The share price? Up 14% after hours. No wonder CEOs hate to give guidance.

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The Outlook for Brand Drug Pricing Part 1: The Traditional Large-Cap Pharmaco’s

Written January 20th, 2015 by

US net pricing gains explain more than 100 percent of US revenue growth for the large-caps as a whole; making net price growth crucial not only to future growth but also to dividends, a signal feature of valuations

Net pricing gains are at risk, particularly from rising co-pays, which manufacturers subsidize with co-pay cards that reduce patients’ out-of-pocket costs at the pharmacy counter. As co-pays rise so do the subsidies offered by manufacturers’ co-pay cards, in a self-reinforcing cycle; however the co-pay subsidies reduce net price

To bring the essential moving parts into view, we provide data on list price growth, rebate / discount growth, and resulting net price growth for each company, and also for each company’s key brands

Of the large-caps, Roche is in the strongest position with regards to US pricing. Roche’s US revenues depend very little on US net pricing gains, and the company arguably could raise its net US prices more rapidly than it is doing

AZN, GSK, LLY, and MRK are in the weakest positions with regards to US pricing. GSK is likely to see further US net price erosion for Advair, which accounts for about 32 percent of GSK’s US Rx revenue. This spills over to AZN, whose Advair competitor Symbicort will likely be caught up in the broader category’s emerging price competition. Of LLY’s key brands only Cialis has remaining US net pricing growth; however Cialis loses patent protection in just 2 years. MRK’s net pricing trend is negative, MRK’s average discounts exceed the peer average, and these discounts are growing more rapidly than the peer average

PFE is a unique middle case – it has a number of brands that offer continued US net pricing gains; however the company is pushing net price growth faster than the peer average, and is more reliant on these net pricing gains than other companies. There are significant risks that PFE’s net pricing gains cannot continue to exceed the peer average pace

For our full research notes, please visit our published research site



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