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Global Stock & ADR Report | Issue#2 (11/12/2010) |
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In this week's issue of our newsletter we will be providing our subscribers an extensive list of attractive and unattractive companies traded in many of the largest stock exchanges across the globe. Whether you are looking for markets outside the U.S. to spread some of the risk in your client portfolios or looking to widen your scope of investable stocks, the lists we will provide in this newsletter will be a good starting point for investors looking to add some global exposure or diversification to their investment process. We will also listing companies from within the Toreador Buy Index.
This weekly newsletter is based on AFG's proven research process and valuation techniques, making it a great starting point for portfolio managers in search of new Buy and Sell ideas.
In our next issue we will be highlighting growth and value oriented U.S. stocks. No matter your investment style, Investment Advisor Ideas will provide relevant, actionable ideas from wide ranging segments of the market.
If friend or colleague forwarded this email to you, click here to continue receiving our free Investment Advisor Ideas newsletter.
Sincerely,
Value Expectations
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| Stocks Around The World & ADR's - Expanding Your Investment Horizons |
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While we believe that there are hundreds of quality companies that present attractive investment opportunities available on the major U.S. exchanges, there are potentially hundreds more quality companies to invest in around the world. Our goal in this newsletter is to provide a list of long/short investment recommendations from the largest stock exchanges around the world in order to help our readers increase the size of the pond in which they fish for investment opportunities. Our approach is simple, if we can expand on our fishing analogy; instead of using completely different fishing gear to fish across different borders, we use the same trusty fishing pole, tackle and other equipment to fish in American, Portuguese, or Chinese waters. No matter the locale, the goal is to identify well run, attractively priced companies using our tools: wealth creation ability and valuation attractiveness.
U.S. investors have increased their investing activity across foreign borders in the last few years to take advantage of growth opportunities that are often more attractive than those presented in the highly developed markets like the U.S., which represent roughly 50% of the world's market cap. However, there are still many who shy away from foreign markets for various reasons, including fear of the unknown or comfort of always limiting their investment universe to only the most widely covered stocks in U.S. exchanges. Moreover, foreign currency risk, the perception that accounting and regulatory practices are inferior in foreign markets than those in the U.S., or lack of reliable coverage of global companies who report their financial results often on a semi-annual or annual basis, adds to investors' preference to stick to what they understand best - companies whose stock trade on U.S. exchanges. While some of these concerns are legitimate, looking at the state of U.S. markets over the past couple of years, stocks traded on U.S. exchanges have fallen victim to their fair share of systematic problems such as currency fluctuation (U.S. dollar strength vs. foreign currencies), regulatory issues (Wall Street and Healthcare Reform), a credit crunch followed by enormous financial maneuvering (economic stimulus and quantitative easing), a flash crash, the Great Recession and bubbles (including the housing bubble whose bursting precipitated a lot of the aforementioned effects).
Beyond the obvious reasons of diversification and spreading around risk, having an investment strategy that involves some allocation in foreign markets is a way to expose your investments to the potential for higher reward. Given that markets in China, India and Brazil are likely to report higher growth than the U.S. market, investing in companies that have the know-how and cultural & political ease to accomplish growth initiatives can often provide better upside potential than U.S.-based multinationals with subsidiaries or joint venture operations in these countries. On the other hand, if steady, established wealth creators are more your liking, large corporations in established European or Japanese markets can offer at least the same investment opportunities as similar peers to Exxon Mobil (NYSE: XOM), AT&T (NYSE:T), or Procter & Gamble (NYSE:PG).
For those who remain skeptical of investing in exchanges outside of U.S. borders, we have also provided a list of ADRs as a way to gain some global exposure without leaving the comfort of your normal fishing hole.
Click Here to see the entire list of long/short investment ideas of stocks from all over the world click here. The complete list contains attractive stocks from the UK, France, Germany, Brazil, India, Australia, Canada, South Africa and US ADRs. |
| Who is the sucker now? Understanding the embedded expectations in Cisco Systems, Inc. Stock |
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Cisco Systems (NASDAQ:CSCO) delivered a shock to the investment world yesterday, lowering its quarterly and fiscal year sales guidance by a notable amount, causing the company's shares to suffer a 16% drop today. However, we question whether such a drastic drop in share price was justified given the adjustment to guidance.
To assess the reasonableness of CSCO's (NASDAQ:CSCO) current trading price using AFG's Value Expectations interface, let's look back at a historical time for the company, when its shares were trading at astronomical highs, as an example. In July 2000, shares of Cisco had 65% annual sales growth priced-in - expectations that were very high and later proved to be unrealistic. From 2000 to 2001, Cisco ended up underperforming the S&P 500 by around 62%, showing that unreasonable expectations can drive significant movements in a stock's price.
Embedded Expectations
Past Expectations:
By significantly falling short of these market expectations, Cisco has returned an annualized return 62% lower than the S&P 500 from 2000 to 2001.
Given yesterday's announcements, we will analyze the current expectations priced-in to shares of Cisco to see whether those expectations are realistic or not.
First, let's outline the issues that caused the adjustment to the company's revenue guidance:
1. U.S. State Spending dropped significantly.
2. Traditional North American cable set top box orders were down 40% year over year.
3. Public sector weakness in Europe due budget concerns and austerity programs.
All of these factors led to management guiding lower than consensus for Q211 by approximately $1.2 billion and for FY11 by $1.0 billion (or 3-5% growth and 9-12% growth, respectively).
Current Expectations:
To justify current trading price of $20.75, assuming realistic EBITDA margins of 27%, CSCO only needs to deliver 0.45% in revenue growth (essentially no growth) over the next 5 years. These expectations are extremely low relative to even very conservative estimates from the street.
If we use conservative estimates for annual sales growth of 9%, based on the lowered guidance, and 27% EBITDA margins, shares of CSCO have good upside with a target price of around $29.
While yesterday's lowered guidance and subsequent market reaction are a cause for concern we still believe that CSCO looks attractively priced with very realistic expectations embedded in its stock price.
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| The 2010 Chief Executive-Applied Finance Group S&P 500 CEO Wealth Creation Rankings |
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Now in its third year, the wealth creation index developed by Chief Executive, The Applied Finance Group and Great Numbers! attempts to identify those business leaders who have performed best in creating true economic value-as opposed to mere accounting value-as measured by GAAP metrics. Creating value is, after all, why CEOs do what they do. The WCI leans heavily on the concept of economic margin (EM). (EM measures the degree to which a company makes money in excess of its risk-adjusted cost of capital.) While there is no single metric that is perfect, EM comes close, in that it isn't dependent on share price in assessing management's impact on value creation. (The rankings do not include REITs among the S&P 500 and only assess companies whose CEO has been in the job for at least three years in order to get a fair appraisal of its actions under varying conditions.
Click here to view complete list of companies and their respective rankings
The past 12 months have not been an easy time to grow-or for companies with high levels of EM to maintain them. The more profitable a company is, the more difficult it is to maintain high levels of profitability when competitors step up and target market leaders. Some companies find that the "easy money"-high margins on a product or market-ultimately dries up. Also, if a business model is successful and a company is making healthy profits, it becomes a target.
Similarly, the regulatory environment can make it difficult for companies to maneuver. Both financial and healthcare companies have become the worst-performing sectors over the last 12 months. Even the well-managed ones struggle with maintaining past success. For example, Master- Card, which led the rankings last year, couldn't maintain its change in EM momentum and slipped to No. 24, still a respectable score. Federated Investors, however, has consistently stayed in the top three since the WCI's inception.
In entering the S&P 500 this year, Priceline.com vaulted to the top of this year's rankings. The company's EM had been dragged down in earlier years, but was consistently high in more recent years. It has also had tremendous success in moving its U.S. business model to international markets, with non-U.S. revenue doubling last year to top U.S. revenue. In addition, Priceline kept its operating costs in check, limiting them to 20 percent of year-on-year growth while pursuing an industry-leading growth in revenues of 27 percent. This allowed the firm to take market share from Expedia, another high scorer. Because the company offers a commodity product in a cutthroat industry marked by extreme ease of entry, it's difficult to assess whether Priceline can maintain its high-wire act. CEO Jeffrey Boyd says, "The most important metric we use is gross bookings growth, which refers to the overall value of all the travel products we sell. The Internet and online travel are still in their infancy in many parts of the world. As a global business, our focus is on increasing overall sales and building our market share. We also look to maintain or improve our net operating margins so we can grow profitably. When interim results don't match expectations, our management team evaluates whether it is a supply, marketing or cost issue and makes adjustments accordingly."
As the online travel market grows more saturated it will be more difficult to differentiate. But Priceline enjoys a healthy balance sheet and has slightly less cash than debt, so it gets high marks for managing growth and profitability.
Other stellar wealth creators include Jeffrey Bezos of Amazon and Douglas Baker of Ecolab, both of whom return to the top 10 from last year, showing that strong execution skills translate into wealth-creating staying power. Daniel Amos of Aflac, Steve Jobs of Apple, Ian Cook of Colgate-Palmolive, John Wiehoff of C.H. Robinson Worldwide and Daniel Hambuger of DeVry return in 2010 among the high scorers. David Yost of Amerisource Bergen, Theodore Solso of Cummins, Gregory Johnson of Franklin Resources, Mark Templeton of Citrix Systems, Chris Begley of Hospira and James Rohr of PNC Financial were among the leaders who advanced at least 100 positions in ranks since 2009.
Less stellar performances were logged by Windstream's Jeffrey Gardner, ConAgra's Gary Rodkin and FirstEnergy's Anthony Alexander, who are all among those who dropped more than 100 places since last year.
Ranking CEO Wealth Creation
The top 50 companies in the ranking delivered an average total shareholder return (TSR) of 73.3 percent between January 2007 and June 2010
The ranking focuses on the performance of companies (and their CEOs) in the S&P 500 index for the three years that ended on June 30, 2010. It's based on reported results during that period and estimates for the next 12 months.
CEOs whose tenure did not cover the full three years were not ranked. Also not ranked are the 14 REITs in the 2010 S&P 500 and the companies for which a full three years of financial results were not available.
The four components of the ranking, explained below, were developed and calculated by the Applied Finance Group (AFG), an independent equityresearch advisory firm using proprietary metrics and data. A weighted combination of each company's component rankings is used to produce an overall score: 100 is awarded to the best wealth creator; 1 to the worst. (The list itself casts these scores as a sequential ranking.) The component rankings are shown as letter grades with companies in the top 20 percent of each sector receiving an A; the bottom 20 percent receiving an F.
Market (or Enterprise) Value/Invested Capital (MV/IC)
This measure shows the degree to which investors value the company's assets, relative to their cost. Market value is what a buyer would have to pay to buy the company outright; that is, to purchase all the stock and pay off all the loans, leases and other obligations. Note that market value depends on the stock price. Invested capital is the inflation-adjusted total of all of the investments in the business. It does not depend on the stock price. So by its nature, MV/IC reflects the market's take on the value of the investments made in the business.
The Average of the Past Three Years' Economic Margins
Economic margin (EM) measures the degree to which the company is making money in excess of its risk-adjusted capital cost. It's expressed as a percentage of invested capital. EM is calculated as (operating cash flow - capital charge)/invested capital. Companies with positive EM (greater than 0 percent) are creating wealth; those with negative EM are destroying it.
EM Change
This is a 12-month forecast, based on the ratio of the most recent EM to the three-year average.
Management Quality
This AFG-proprietary measure rewards a company with positive EM for increasing its asset base, and penalizes one with negative EM for growing its asset base. In other words, if a company is making money and it adds assets in such a way that it can make even more, that's good. So is selling off a money-losing division. That said, it's also valid that adding scale can dramatically increase profitability in a business with high fixed costs.
A Validity Check on the Ranking Method
The top 50 companies in the ranking delivered an average total shareholder return (TSR) of 73.3 percent between January 2007 and June 2010 (the period covered in the reported financials). The bottom 50 companies' TSR averaged -3.4 percent, while the S&P 500's average was 14.9 percent (without its 14 REITs). The top 50's median TSR was 33 percent; the bottom 50's was 9.5 percent.
As the table above shows, the top 50 companies in the wealth-creation ranking far outperformed the bottom 50 companies and the S&P 500. Note: Total shareholder return equals share-price return plus reinvested dividends.
Click here to view complete list of companies and their respective rankings
How to Move Up in the Rankings
In publishing this list, Chief Executive aims to show CEOs both where they stand with respect to their peers (awareness being the mother of improvement) and to make clear how to go about improving one's standing. Improvement will require several actions that the company's CEO, division heads and general managers can take:
At the corporate level:
· Use EM to measure wealth creation throughout the company.
· Manage your portfolio of businesses from a wealth-creation perspective. This includes opportunity sensing-entering lucrative or fast-growing businesses, as well as putting businesses making sub-par contributions into other hands or shuttering them. Set the contribution hurdle rate to maximize economic-value creation.
· Ensure that the company's capital structure is right. This affects the capital charge and invested capital. Equity is more expensive than debt, but too much debt can kill a company.
· Avoid overpaying for acquisitions or buying back stock at its peaks.
At the business unit level:
The general managers of businesses need to find the best things they can do to boost operating results. (See "Leading Your Business to Maximum Results" (CE Jan/Feb 2008).
At all levels:
Get all you can out of your assets. Example: large software companies (IBM, Oracle and others) have been acquiring other software firms so that their sales forces, which are major leverageable assets, have more offerings to sell to customers. Include all of your intangible assets, not just intellectual property, in your thinking. Work hard to create and improve customers' feelings about your company and its offerings, the promises your brands represent, your value propositions, etc. (For more, see "The Economic Stimulus Package Inside Every Business," CE Online Jan/Feb 2009, and "Do Intangibles Matter?", CE July/August 2008).
Finally, manage internal and external risks across the company and its aggregate risk-reward profile by taking a wide-angle lens to what could happen.-Drew Morris
Click here to view complete list of companies and their respective rankings |
| Bernanke Bucks - Best Stocks To Hedge Against Falling Dollar |
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Much has been said lately about how The Fed is poised to pump another $600 billion into the economy in attempt to get credit flowing and encourage companies and individuals to invest, spend and stimulate the economy. The latest round of Quantitative Easing is likely to push down the value of the dollar and push up commodity prices and import costs which will hurt Americans overall spending power. Whether this wave of Quantitative Easing jumpstarts the economy like the Fed hopes, or leads to future asset bubbles or deflation that some fear is yet to be seen.
If the dollar does fall as expected, investors will be positioning their portfolios to take advantage of the drop in the dollar's value in several different ways. Some investors will buy gold, foreign currencies and Mutual Funds that invest overseas. Since equities are our focus we will provide our readers a list of stocks that we think will benefit or remain unaffected by a devalued dollar. The most attractive investment opportunities during periods of declining dollar values usually tend to be in companies that have a high exposure to commodities such as oil and gold or U.S. multi-nationals that derive a high percentage of their revenues abroad or high involvement in exports in order to take advantage of favorable currency exchanges.
If you would like to view more companies that we find attractive/unattractive click this link to view our Investment Advisor Ideas Newsletter offerings and only those that interest you will be sent directly to your email inbox.
All of the companies included in our list below look likely to benefit or remain unaffected by the falling dollar either by a heavy exposure to foreign markets, commodities or ability to resist inflationary pressure. These companies also look attractive according to key criteria used in The Applied Finance Group's (AFG's) stock selection process including attractive valuation and expected improvement in economic profitability (Economic Margin). Companies that AFG identifies as undervalued that are also expected to improve Economic Margins have proven to be likely to outperform sector peers and index benchmarks.
One company that we especially like from this list is the international copper and gold miner Freeport-McMoran (NYSE:FCX) as it has consistently been following a "wealth-creating" strategy of growing a profitable business for the last several years. FCX also currently looks very attractive from a valuation perspective according to AFG's valuation model. The chart below illustrates the deviation between AFG's Intrinsic Value (Red Line) and the company's trading range (blue bar). When a firms trading range is below AFG's Intrinsic Value line it signals that the company currently looks undervalued on a default basis. It is also important to note that AFG's model has done a good job tracking FCX as seen by the high accuracy score which measures how far AFG's intrinsic value deviates from a firms trading range over the past 7 years. 
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| Toreador Buy Index Constituents |
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Today we will highlight the constituents of the Toreador Buy Index to see which companies meet the criteria to be included within our index. This index consists of the firms Toreador Research and Trading seeks out for its investment products. The defining characteristics of firms selected for the Large Cap Buy Index are:
- Large Cap US Stocks
- Superior valuation attractiveness as measured by the difference between a firms estimated intrinsic value and current trading price
- Non-Wealth destroying management track records, as measured by The Applied Finance Group's Economic Margin and corporate reinvestment strategies
- Companies with acceptable levels of earnings quality as measured by The Applied Finance Group's Earning's Quality metrics
Some of the companies in this month's Index include:
Chevron, Freeport-McMoran, Coach, Best Buy, and Autozone
Click here to view the entire list of constituents for the Toreador Buy Index and more detailed performance updates.
The Toreador Indexes are hypothetical universes of stocks selected in accordance with the Toreador approach over the time periods shown above, and is provided for informational purposes only.
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