Tuesday, August 16, 2016

Even As China Looks Toward Automation, FANUC Seems Pricey

Fanuc (OTCPK:FANUY) (6954) is a pretty remarkable company and a testament to the value of figuring out those things you do very well and then just doing those things. There are good reasons that Fanuc is the global leader in factory automation equipment like CNC systems, robots, and controlled machine tools. Likewise, operating margins in the 30%'s don't come by accident, nor do returns on capital consistently ahead of the cost of capital.

All of that said, I can't love the stock right now. Yes, I own ABB (NYSE:ABB) shares and I'm sure there will be aficionados of lead paint lollipops to accuse me of talking down Fanuc because that will somehow "help" ABB. But the fact remains that capex investment related to smartphones is still soft, China is increasingly looking to homegrown automation solutions, and even growth assumptions in excess of what I project for ABB aren't enough to drive a compelling fair value for this industrial technology company.

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Even As China Looks Toward Automation, FANUC Seems Pricey

Alps Electric Looks To Drive Back Up The Mountain

Switches, sensors, components and controllers are the guts of electronic devices and we largely take them for granted. It is nevertheless a sizable business opportunity for Japan's Alps Electric (OTCPK:APELY) and the company has generated high single-digit growth in recent years by supplying electronic components to the auto OEM and consumer electronics markets (smartphones in particular).

While providing camera actuators for smartphone companies like Apple (NASDAQ:AAPL) has been a good business for Alps, it has also been volatile and management at Alps believes that it will be harder and harder for phone developers to stand out in the market. With that, Alps is looking to new products in autos and consumer products to drive the next leg of revenue growth and margin leverage.

The next few quarters should see Alps report stronger financials, and that can re-ignite investor enthusiasm for these shares. While I believe the shares are somewhat undervalued today, I'd note that a low single-digit revenue growth rate may end up being conservative if the company's efforts in advanced auto electronics and haptics pay off.

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Alps Electric Looks To Drive Back Up The Mountain

Incremental Progress At Nektar Therapeutics

With the shares up about 30% from the time of my last article, I can't complain about how Nektar Therapeutics (NASDAQ:NKTR) has been performing. While an improvement in sentiment on biotech stocks in general certainly hasn't hurt, I also think Nektar is benefiting from signs of life in the Movantik business, a clever deal that may revive a cancer drug's commercial potential, and growing optimism about an early-stage pipeline asset in cancer.

Between the passage of time, the deal with Daiichi Sankyo, and a little more optimism about NKTR-214, I've added about $3 to my fair value (with the simple passage of time accounting for about half of that). With that, I'd say these shares still hold some appeal.

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Incremental Progress At Nektar Therapeutics

Sunday, August 14, 2016

Amid A Lot Of Uncertainty, Honeywell Is Still Honeywell

There is plenty to worry about these days, not only in a general economic/market sense but also more specifically to Honeywell (NYSE:HON). Can Darius Adamczyk fill the very large shoes that CEO David Cote will leave behind? How much turnover will occur at the senior leadership levels, and just how deep is Honeywell's management bench? Oh, and while we're at it, what's going to spur meaningful improvements in global productivity and capex investment such that growth can break out of the low-single-digits?

If we're in a lower-for-longer scenario, I think Honeywell is a good companion for the journey. The shares are up about 13% from my last article and no longer trade at a discount to my fair value, but I still think the price works out to high single-digit total returns. What's more, if and when that lower-for-longer scenario does become the consensus, I think stocks like Honeywell, 3M (NYSE:MMM), Illinois Tool Works (NYSE:ITW), Danaher (NYSE:DHR), Rockwell (NYSE:ROK) and a few others will become darlings for their ability to drive relatively better performance.

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Amid A Lot Of Uncertainty, Honeywell Is Still Honeywell

Eaton Seems Ready For A Protracted Recovery

With the shares near a 52-week high, it would seem that the Street is not sleeping on Eaton (NYSE:ETN). Although tough times continue in businesses like Hydraulics and Vehicle, most investors seem to believe these businesses are troughing and that more industrially-focused businesses like Electrical Products and Systems can do better in the near term.

I do think Eaton belongs on a watchlist of high-quality diversified industrials, and its relatively greater cyclicality (compared to names like Honeywell (NYSE:HON) or 3M (NYSE:MMM)) could make it a relative outperformer when (if?) that recovery comes. I do have concerns about Eaton's expectations for very modest organic growth in the coming years. My concerns are stemming from the fact that Eaton hasn't always had the greatest success in driving lasting margin improvement.

Right now, I think Eaton is priced for high single-digit to maybe low double-digit returns. That's not bad, though I do think there could be some risk to the underlying free cash flow growth rate assumptions. I'd prefer to buy at a somewhat lower price, but this doesn't look any worse than a hold to me today.

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Eaton Seems Ready For A Protracted Recovery

PAX's CFO Just Made A Grievous Error

I have been basically bullish on Chinese point of sale (or POS) terminal manufacturer Pax Global (0327.HK) (OTC:PXGYF) for some time, including a piece earlier this week that I wrote right before earnings. Now actions on the part of senior management force me to reconsider that position.
This is a good case study in the difficult gray area between quantifiable fundamentals and "feel." By no means does what Pax Global's CFO did rise to the level of a "crime" or some unconscionable offense against shareholders, but it does speak to a concerning lack of judgment in what is a key management position. While I'm sure there are readers who will cheer seeing a bearish analyst ejected from a company presentation, responsible investors should be alarmed that management is apparently so thin-skinned.

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PAX's CFO Just Made A Grievous Error

Thursday, August 11, 2016

Emerson Transforming, But Is It Improving?

I haven't been a big fan of Emerson (NYSE:EMR) or its management team in recent years, and the stock's double-digit decline over the last three years does stand out next to the flattish performance of ABB (NYSE:ABB) and Siemens (OTCPK:SIEGY) and the stronger performance of Rockwell (NYSE:ROK) and Honeywell (NYSE:HON). All of these companies have been hurt to some degree by the sharp drop-off in process markets like oil/gas, power, mining/metals and chemicals, but Emerson has been hurt a little worse due to its overexposure to weak markets and some questionable execution from management.

With the sale of the Network Power business and part of the Industrial Automation business, the company certainly has some options to consider as it rethinks its future. Given some past poor decisions regarding M&A and an inability to meet past targets for growth and margin improvement, I think my skepticism toward management isn't unreasonable, and I think Emerson will struggle to replace what it has sold in terms of earnings/cash flow power. Emerson has done better than I thought it might since my last update (although it has still lagged ABB, Rockwell, Siemens, and Schneider (OTCPK:SBGSY)), but I'm just not comfortable with the valuation right now given the considerable challenges that remain.

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Emerson Transforming, But Is It Improving?

U.S. Bancorp Well Recognized For Its Quality

Back in January I wrote that U.S. Bancorp (NYSE:USB) would be a relative outperformer in the bank sector if the economy remained lackluster, rate increases failed to materialize, and credit concerns grew. All of that has taken place, and U.S. Bancorp has been a relative outperformer within its peer group on a year-to-date basis (and over the last year as well).

With that outperformance, and a modest downward revision in fair value due to lower/weaker earnings prospects, the relative apparent value has evaporated. To me, U.S. Bancorp seems priced almost exactly as it should be. While I can understand long-term investors being reluctant to part with a quality bank holding (and that is not my recommendation), investors looking to add bank exposure in the large-cap tier may want to shop around.

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U.S. Bancorp Well Recognized For Its Quality

PNC Financial Still On Hold

There's only so many ways to say that a company is largely sitting on the sidelines, but that remains the case for PNC Financial (NYSE:PNC). This low-rate muddle-through market, with some emerging concerns about credit, really just isn't the market in which conservatively-run PNC can truly thrive. Management remains conservative; focusing on quality underwriting and keeping plenty of dry powder for the point where rates start to make lending growth look more attractive.

As one of the bigger year-to-date underperformers within its peer group, PNC does look a little more interesting on a relative value basis. The shares don't look dramatically cheaper than those of JPMorgan (NYSE:JPM), BB&T (NYSE:BBT), or the riskier Wells Fargo (NYSE:WFC), but I can see a scenario where worsening credit trends take a bigger bite out of some of these rivals and leave PNC not exactly "the last man standing" but in a stronger relative position. With that, I think PNC is at least a good hold and maybe a name to think about for more conservative investors who want bank exposure and can tolerate a conservative model that will require time to show its value.

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PNC Financial Still On Hold

Wells Fargo Slowed, But Not Broken

Reading some of the more bearish reports on Wells Fargo (NYSE:WFC), you'd almost have to wonder when the plague of locusts is due to arrive. Yes, the company's loan portfolio looks riskier to me than that of many of its peers, and yes, it is going to have a harder time growing interest income and improving its efficiency ratio in a lower-for-longer rate environment. But the company does seem to be handling its energy loans a little more aggressively than most, and Wells Fargo remains a growth-oriented bank with a very appealing deposit franchise.

My fair value estimates are lower, and I do think 2016 is going to be a pretty uninspiring year. Still, the shares look undervalued provided that you believe ROEs can approach the mid-teens again over the next decade and with underlying long-term earnings growth of around 5%. While I do have some credit/balance sheet concerns, the relative valuation may make Wells Fargo worth considering today.

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Wells Fargo Slowed, But Not Broken

Another Uninspiring Quarter From PRA Group

It's getting harder and harder to defend PRA Group (NASDAQ:PRAA). It's bad enough that cash collections remain weak, particularly in the Americas Core segment, but I'm troubled by the ongoing weakness in efficiency, the ongoing valuation allowances, and the divergence in performance from rival Encore (NASDAQ:ECPG). What's more, there's no concrete evidence that market conditions are going to move in a PRA-friendly direction anytime soon, and the CFPB seems likely to make life more difficult for the company.

I still see a fair value in the mid-to-high $30s as reasonable. Such a valuation assumes that performance improves meaningfully from recent levels, although not to the levels seen in 2004-2014. That said, for PRA to hit those targets, management must buy smarter, collect more effectively, and better manage expectations. None of this is guaranteed, so while the upside here remains meaningful, it comes at the cost of significant uncertainty.

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Another Uninspiring Quarter From PRA Group

After Multiple Stumbles, Multi-Color May Be Back On Track

Label manufacturer Multi-Color (NASDAQ:LABL) has suffered from some self-inflicted wounds in recent quarters. The company's decision to exit a low-margin label business with SABMiller (OTCPK:SBMRY) has tamped down organic growth, while significant acquisition integration and compliance remediation issues have hit margins. With that, the shares saw two painful gap-downs in the past year, though the shares have largely recovered from the second one.

Looking ahead, I still don't see these shares as a remarkable bargain. My model assumes low single-digit organic growth, consistent M&A, and steady margin improvements, but even double-digit growth only gets me to the mid-$60s for fair value. Perhaps the company could do better, particularly if it can build up its higher-margin healthcare business, but I believe it's too soon to assume that.

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After Multiple Stumbles, Multi-Color May Be Back On Track

Canadian Western Bank - Two Steps Forward, Almost Two Steps Back

Edmonton-based Canadian Western Bank (OTCPK:CBWBF) (CWB.TO) is an example of why I'm a more-or-less retired analyst. This bank is a maddening mix of promise and pitfalls, opportunities and risk. I don't like management's surprise equity raise last month, but I do like the acquisition of GE's (NYSE:GE) Canadian Franchise Finance business and the bank's progress in diversifying its lending beyond Alberta.

While credit losses continue to look manageable on an incoming basis, and more energy companies are indicating that stability is in sight, I don't like the fact that CWB's provisions have been specific and not general reserve-building. I want to trust that management knows their business, but I also recognize that many banks have been taken out at the knees by "unprecedented" events that take management teams by surprise.

With the local shares up about 5% since my last update and the ADRs up closer to 10%, I'm not inclined to pound the table so much as polish it a bit. My long-term earnings-based fair value of C$28 does assume that the bank can't/won't get its ROE back above 14% (which it managed all but one year in the past 10), so there is upside. At the same time, the heavy reserve-building in a host of banks' energy portfolios suggests to me that the worst may not be over yet.

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Canadian Western Bank - Two Steps Forward, Almost Two Steps Back

Wednesday, August 10, 2016

BB&T Has A Lot To Digest While The Market Crawls Along

I can usually manage to find the cloud for every silver lining, but I'm pleased to see BB&T's (NYSE:BBT) shares up about 16% from the last time I wrote on this North Carolina-based super-regional bank. Loan growth is still so-so, and the market backdrop (lower rates for longer) isn't so conducive to management's earlier margin targets, but credit quality remains pretty good, and BB&T has the opportunity to generate revenue and cost synergies from significant M&A that most of its peers don't.

My valuation hasn't changed all that much for these shares. I believe the company's acquisition spree boosts its long-term earnings growth potential above 10% (non-organic, clearly) and that a $41 fair value is reasonable today. That said, it's harder for me to identify the shiny/sparkly bits that would captivate the Street's attention in the short term, so this looks more like a solid hold than a compelling buy to me.

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BB&T Has A Lot To Digest While The Market Crawls Along

Neurocrine Biosciences Building To A Big 2017

With Neurocrine Biosciences (NASDAQ:NBIX) these days, there's an element of "wait for it… wait for it… wait for it...," as the cat is largely out of the bag with respect to the efficacy and safety profile of the biotech's two lead drugs, but investors are still waiting for the new drug applications (or NDAs) to be filed with the FDA. At the same time, the company is probably in a window where most of the news updates on those programs are going to skew negative - there's just not all that much positive information left to come out at this point.

Still, these shares remain undervalued on the potential of those two lead drugs - elagolix and valbenazine. Competition, safety concerns, and cost will be relevant factors for both drugs, but both address significant under-served patient populations and I believe the revenue potential is significant.

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Neurocrine Biosciences Building To A Big 2017

Tuesday, August 9, 2016

JPMorgan Continues To Outperform In A Tough Market

I really can't complain about how the market has been treating JPMorgan Chase (NYSE:JPM) this year. I've long thought this is one of the best-run large bank franchises, and the shares are up almost 20% from my last article - well ahead of the likes of Wells Fargo (NYSE:WFC), Citigroup (NYSE:C), Bank of America (NYSE:BAC), U.S. Bancorp (NYSE:USB), and PNC (NYSE:PNC). Not bad for a supposedly "sluggish" franchise, right?

I continue to be impressed with the combination of expense reduction, balance sheet shrinkage, credit quality, and loan growth that JPMorgan is delivering, and that's all in an environment that isn't especially conducive to bank profit growth. Weak rates remain a headwind and banks are clearly economically-sensitive companies, but nothing about JPMorgan's performance leads me to think that double-digit ROEs are an aggressive expectation if/when rates head back up. While the shares would look about 10% overvalued if those rate increases never come, I believe these shares remain undervalued below $71 to $72.

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JPMorgan Continues To Outperform In A Tough Market

Lincoln Electric Nearing The Bottom, But The Market Has Responded

The market often anticipates significant changes in direction, and so it's not surprising to see that Lincoln Electric (NASDAQ:LECO) shares have been strong in anticipation that the fourth quarter of this year will see a return to reported revenue growth. The shares are up about a third from when I last wrote (amid the deep gloom in the markets at the start of the year), and there have been some encouraging notes - Halliburton (NYSE:HAL) thinks the worst is over in the North American energy market, non-residential construction continues to grow, and although metalworking tool demand hasn't improved, it does at least seem consistent now.

Lincoln Electric is one of my favorite companies, but the shares don't often get all that cheap - that big pullback in late 2015/early 2016 was one of those rare opportunities to get in at a better valuation. I still believe that Lincoln Electric is a mid-to-high single-digit grower long term and has little to fear from Colfax (NYSE:CFX), Illinois Tool Works (NYSE:ITW), or other welding companies. If you can be happy with a high single-digit gain, with a little dividend yield on the side and perhaps some upside from automation and advanced welding tech, there's still a reason to keep this name in mind.

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Lincoln Electric Nearing The Bottom, But The Market Has Responded

Macquarie Infrastructure Still Has A Lot To Offer

Up over 20% since my last piece and with two double-digit dividend increases, I'm pleased with the performance at Macquarie Infrastructure (NYSE:MIC), but I still believe this infrastructure company has a lot left to offer investors. Management is planning to step up its growth capex investments and it appears that the company is somewhat spoiled for choice in the directions it can go with this capital.

Why are the shares still relatively cheap? Some of the issue could be that this is a "get rich slowly" type of story where dramatic changes in the business are not very common. It could also be that investors are nervous about management's commitment to deploying capital - it seems as though investors often get frustrated with companies like Macquarie, Brookfield Infrastructure Partners LP (NYSE:BIP), Fortress Transportation (NYSE:FTAI) and the like when they don't serially invest substantial sums of capital that will generate future free cash flow. In any case, I still believe the shares have enough upside left to be worth consideration here.

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Macquarie Infrastructure Still Has A Lot To Offer

PAX Global Caught In An Uncomfortable Squeeze

PAX Global (0327.HK) (OTC:PXGYF) continues to disappoint. None of the major point-of-sale (POS) terminal providers have done particularly well since the time of my last update on this Chinese POS vendor, but PAX's 25% drop (the ADRs) is still notably worse than the 12% decline at VeriFone (NYSE:PAY), the 6% drop in the ADRs of Ingenico (OTCPK:INGIY), and the 1% rise in the local shares of Fujian Newland (000997.CH).

In the case of PAX, the company is getting squeezed by significant weakness in Brazil and a challenging (and perhaps changing) market in China while emerging growth opportunities in Europe and the U.S. are still much too small to offset those pressures. While I still believe that PAX Global can become a viable #3 in large markets like the U.S., the problems in China could be more structural and there's more risk now in what was already a high-risk story. My fair value has declined by only 10% since February, but I will be paying close attention to the upcoming first-half earnings report before deciding whether there is enough of a discount here to merit the risk.

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PAX Global Caught In An Uncomfortable Squeeze

Monday, August 8, 2016

Seeking Alpha: Steady As She Goes For Lexicon Ahead Of Life-Changing Events

Life is going to get very interesting at Lexicon Pharmaceuticals (NASDAQ:LXRX) in the relatively near future. The company will know by the end of November whether the FDA will approve LXRX's lead drug telotristat etiprate ("telotristat"), and investors will get an initial look at top-line results of sotagliflozin in about one month.

Both of these qualify, in my opinion, as life-changing events for the company. Approval of telotristat is generally expected, and I believe the drug should generate over $400 million in peak sales, and accounts for about 60% of my estimated fair value. The remainder is tied to sotagliflozin, which has the potential to be a differentiated option for Type 1 and Type 2 diabetics and generate over $1 billion in peak sales. While I continue to believe that the telotristat opportunity is underappreciated by the Street, the reality is that strong sotagliflozin data is a "must have" for bullish sentiment on the stock at this point.

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Steady As She Goes For Lexicon Ahead Of Life-Changing Events

Sunday, August 7, 2016

Harsco's Paddling Hard, But The Currents Are Unforgiving

It has been a while since I've written on Harsco (NYSE:HSC), as I wasn't all that interested in the company's seemingly endless attempt to turn itself around while under the shadow of significant debt, ongoing overcapacity in global steel and weak conditions in its core markets, and the ongoing slide in the energy sector. With that, the shares are about a third lower than when I wrote that last piece, though the point of "peak pain" saw a roughly 75% move down.

Management at Harsco deserves some credit. Project Orion has made the Metals and Minerals business better, with a lower cost structure and a more aggressive approach to maximizing value. Alas, I do worry that this is a little like painting flames on the side of a mobility scooter - the business is better, but it is still serving an industry that is going to struggle to grow. What's more, the Rail business that was supposed to be the source of strength has had its own ups and downs and the Industrial business remains exposed to weak energy markets.

If a lot of things go right for Harsco, I can see a fair value in the $16 to $18 range as being valid, but that's going to require ongoing improvement (and no backsliding) in the M&M business, good execution in rail, and an energy recovery. In my base-case, though, the shares look more fairly valued. Harsco has done what it can to be better, but sometimes that's just not quite enough.

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Harsco's Paddling Hard, But The Currents Are Unforgiving

Celldex Could Really Use Some Strong Data

Celldex Therapeutics (NASDAQ:CLDX) is still back on its heels after the deeply disappointing announcement earlier this year that the company's lead compound failed an interim futility analysis. While the company does have a deep pipeline of other immuno-oncology and oncology antibody-drug conjugate (or ADCs) candidates, the reality is that much of this pipeline is early-stage and the field is both brutally competitive and witheringly difficult.

Given the data that have come out on the company's pipeline candidates since my last update, as well as data from potentially competitive therapies, I'm not as bullish as I was before. I still think that Celldex is undervalued, but I'm more concerned about how glembatumumab (or "glemba") will perform in the real-world market, and I'm concerned that key pipeline IO drugs like varlilumab and CDX-1401/CDX-301 may not be effective enough to become major contributors.

Sifting through early-stage data demands a lot of "could's," "seems," and "may be's," so I don't exclude the possibility that additional studies will show greater benefit. Likewise, I think it's fair to say that Celldex is deep in Wall Street's doghouse and probably has a higher burden of proof now. All that said, while I do think Celldex should sport a double-digit fair value, I feel like the arrow is pointing the wrong way in terms of recent clinical trial releases.

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Celldex Could Really Use Some Strong Data

Turkcell Still Bedeviled By Uncertainty

Turkey's largest mobile services provider, Turkcell (NYSE:TKC), continues to find itself mired in uncertainties that have weighed heavily on the shares. From questions about market share and competitiveness with Vodafone (NASDAQ:VOD) and Turk Telekom's (OTC:TRKNY) AVEA, to management's capital allocation priorities, to the seemingly endless squabbles between the largest owners, this is a consummate case of "it's always something".

While Turkcell's shares do look undervalued, and it seems as though the ownership spat may be nearing an end, I'm not sure the discount to fair value is so large as to be worth the trouble. Turkcell has its work cut out moving its subscriber base on to more lucrative post-paid contracts and higher-end phones, and I'm more concerned about the value to be gained from the company's expansion plans.

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Turkcell Still Bedeviled By Uncertainty

Thursday, August 4, 2016

Monsanto Facing Some Hard Decisions

When I last wrote on Monsanto (NYSE:MON), I thought the company was still in for some rough quarters as corn prices continued to weaken, but that M&A chatter would continue to swirl. And that's exactly what has happened.

Monsanto's financials are wilting in the face of weak corn prices and more aggressive discounting from rivals, but Bayer (OTCPK:BAYRY) has come forth as a bidder for the company. Bayer hasn't come forward with an especially strong bid, though, and it remains to be seen whether Monsanto can coax a more appropriate bid from Bayer, get BASF (OTCQX:BASFY) involved, perhaps have another go at Syngenta (NYSE:SYT), or go it alone and deliver the benefits of its strategic partnership strategy.

On its own merits, I think Monsanto is at its fair value, as I do believe the soy business will start delivering in a big way and that the company has some high-potential pipeline projects reading to deliver in the coming years. While a bid from Bayer of $130 or higher would obviously represent upside, there is the risk that Bayer walks away or that the company pursues an alternative (like a venture with BASF) that may be worth more in the long term, but will require a great deal more patience.

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Monsanto Facing Some Hard Decisions

Good Execution At Wright Medical, And Risks May Be Fenced In Now

For a company that had a brief run of adverse developments, Wright Medical's (NASDAQ:WMGI) management seems to have responded effectively and quickly. Sales momentum is good, the integration with Tornier is going well, new products can continue to drive above-market growth, and there are strong indications that Augment is a winning product. Management has also moved to raise cash on relatively benign terms and seems to have made progress on settling its legacy metal-on-metal litigation.

With the improvement in the business and the apparent/potential capping of litigation and financing risk, my fair value estimate for the company moves into the mid-$20s. That's not impressive upside I'll admit, but there is still room for Wright Medical to outperform on revenue (particularly with its recently-launched products) and drive better/faster margin leverage. I'd also note that med-tech companies with the growth/margin profile that Wright Medical should have in 2017 and beyond often get 4x to 5x revenue multiples - suggesting potential upside into the high $20s and $30s.

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Good Execution At Wright Medical, And Risks May Be Fenced In Now

For BRF, There's Opportunity Amid The Adversity

When I last wrote about Brazilian food company BRF (NYSE:BRFS), I was concerned about the likelihood that the company's financial results were entering a rough period - squeezed between Brazil's weak domestic market, challenges in many export markets and spiking input prices. At the same time, BRF is seeing more competition at home and trying to navigate a tricky dual-brand strategy that could lead to market share and revenue pressures.

Those concerns have proven valid, but I'm surprised at the extent to which the market has been willing to look past it and toward the significant long-term opportunity BRF offers - I thought the shares were undervalued below $17 back in May, but I didn't expect a 24% move in the ADRs, nor the 13% move in the underlying local shares. Perhaps some of this is due to buyout rumors, particularly as Marfrig and JBS (OTCQX:JBSAY) haven't been great performers.

In any case, I still like BRF and this is still a stock that I hope to own for a long time. With a fair value in the $18-$19 range, but significant growth opportunities yet to be tapped, I think the shares hold some appeal but investors concerned about the risks and enhanced volatility of a Brazilian company may want a bigger discount before taking the plunge.

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For BRF, There's Opportunity Amid The Adversity

Wednesday, August 3, 2016

Cavium Networks Needs To Rebuild Its Growth Stock Cred

When I last wrote about Cavium (NASDAQ:CAVM), I was enthusiastic about the product launch and growth potential of this small(ish) semiconductor company, but very conflicted about the valuation and expectations. Since then, the company has offered up underwhelming guidance, a slower-than-expected launch of key new products, and a large acquisition that offers questionable value and a definite risk in how Cavium is perceived and valued.

The shares are only down about 12% from the time of that last article, but that's due in part to a strong rally off June/July lows. At the worst, the shares were down about a third in the intervening period. Looking ahead, I still have a lot of mixed feelings about this stock. I do genuinely believe that there is strong revenue growth potential in Octeon, Thunder, XPliant, LiquidIO, and LiquidSecurity and that Cavium delivers very good products for enterprise data center and service provider customers with high-end needs.

While I expect less from Cavium than I did before, the expectations are still robust, with near-term revenue growth above 20% and healthy long-term FCF margins. My new fair value(s) in the $50s offers upside, and there could still be a "disappointment discount" in the share price, but Cavium definitely needs to get back onto a "beat and raise" path.

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Cavium Networks Needs To Rebuild Its Growth Stock Cred

Familiar Concerns At Check Point

A few things seem to be perpetually true about Check Point Software Technologies (NASDAQ:CHKP). Despite a prominent position in the market, including leading firewall market share, nobody is ever really happy with this Israeli IT security company. The company's growth is no longer in the double digits. The company doesn't spend as much on R&D as Palo Alto (NYSE:PANW) or Fortinet (NASDAQ:FTNT). The company doesn't "play to win," but instead focuses on more or less holding steady in the market. And so on.

I can't and won't dismiss these concerns out of hand - most of them are factually true. It's also true that Fortinet and Palo Alto have blown past Check Point in terms of share price appreciation over the last five years, though CHKP has outperformed (it has gone down less) in the past year as the security stock market has come off a pretty crazy bullish bender.

I really do think this is a case of "it is what it is." What Check Point is today is what it will be tomorrow - a smart, well-run IT security company with a huge installed base, a "fast follower" strategy that mitigates risks and supports margins, and a better-than-credited core technology. With a fair value in the mid-$80s, it's a little undervalued today, but not dramatically so. I think Check Point is a good way to play long-term trends in security spending (which I would think would grow around mid- to high-single digits most years), with opportunities to build/lighten positions as market sentiment ebbs and flows.

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Familiar Concerns At Check Point

Uncertainty Weighs Heavily On Senomyx Ahead Of Key Pepsi Decisions

Absent enthusiastic, or even encouraging, adoption of the company's flavor technology products, Senomyx (NASDAQ:SNMX) has languished for quite some time. The company has developed a portfolio of assets for food, beverage, and personal care companies that address sweet, savory, cooling, and bitter blocking, but there have been relatively few solid commercial bites so far.

Now the company is heading into a period where the decisions of key partner PepsiCo (NYSE:PEP) will have a significant impact on the company's future. Should PepsiCo move ahead with commercialization of the sweetness-enhancing compound it has been testing in Mug root beer and Manzanita Sol, upwards of $100 million in 2020 revenue comes into view and the company gets a major boost to its credibility. If PepsiCo backs away, the road in front of Senomyx gets even more challenging but is not the end of the story.

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Uncertainty Weighs Heavily On Senomyx Ahead Of Key Pepsi Decisions

FEMSA Building Its Empire A Quarter At A Time

The transformation that FEMSA (NYSE:FMX) has undergone over the last decade or so is pretty remarkable, as the company has built itself into a major force in Mexican retailing as well as a significant player in Coca-Cola's (NYSE:KO) global bottling operations. Management isn't spending much time resting on its laurels, as it takes the cash flow and access to capital generated by its growth to date to reinvest in expanding the business into new end markets like pharmacies and gas stations and new markets like Chile.

FEMSA isn't close to exhausting its potential avenues for growth, but questions about margins and returns on capital are relevant as the company looks to allocate more and more capital to grow the business. I'm still looking for high single-digit to low double-digit long-term growth, and I expect FEMSA to extend its operations into the U.S. and additional Latin American countries in the coming years. The shares aren't dramatically undervalued today and there is some risk of a second half slowdown in Mexico, but it remains a solid option for emerging market growth.

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FEMSA Building Its Empire A Quarter At A Time

Monday, August 1, 2016

Despite Incremental News, Roche Still Largely In A Holding Pattern

Roche (OTCQX:RHHBY) has gone basically nowhere over the last three months, continuing a lingering trend of underperformance relative to Bristol-Myers (NYSE:BMY), Merck (NYSE:MRK), and AstraZeneca (NYSE:AZN) over the past year. Nothing has gone dramatically wrong for Roche, but concerns over biosimilars weigh much more heavily on Roche than on Bristol-Myers or Merck and the company is only just getting its toe in the water with immuno-oncology drugs.

The shares continue to look like a good, but not great, investment candidate. Roche has had some recent success in its non-oncology pipeline, but there's more work to do and a real concern for some investors that the company will suffer a "growth gap" in the time where biosimilar competition to Avastin, Herceptin, and Rituxan chews into revenue ahead of expected ramps of new drugs in oncology, hematology, and autoimmune disease. I believe there's alpha to be generated buying Roche in the low $30s (or below) and selling in the high $30s, but it will be some time yet before Roche can really break out of this dull stretch.

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Despite Incremental News, Roche Still Largely In A Holding Pattern

3M's Steady Hand More And More Valuable In A Weak Macro Environment

3M (NYSE:MMM) reminds me of a steady old draft horse. On a normal day, it'll plow your field at around 2.5 mph. On a great day, it'll plow your field at around 2.5 mph. On a terrible day, it'll plow your field at around 2.5 mph. In other words, 3M is probably not the name to go to when conditions in the broader global economy are screaming "growth!", but you'll appreciate what it can do when the global growth outlook bumps along a flat line.

I believe there are ways that 3M can, and should, improve its long-term performance. There's more margin leverage to be gained from efficiency/productivity improvements, and I would like to see the company shift more R&D spending toward disruptive innovation. As things sit today, the shares are not cheap on a discounted cash flow basis, but they don't look unreasonably priced on the basis of a relative valuation model that takes into account ROE, stability of performance, and interest rates. What's more, there aren't a surplus of great industrial names that are remarkably cheap.

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3M's Steady Hand More And More Valuable In A Weak Macro Environment

Efficiency Trumping Growth At Microsemi For Now

As the larger semiconductor industry continues to bump along with little-to-no organic growth, Microsemi (NASDAQ:MSCC) too has found its organic growth opportunities somewhat limited in the near term. The good news, though, is that the company has been making real progress with cost-cutting and debt repayment, putting it in a good position to reap meaningful operating leverage and profit growth when underlying demand improves.

Microsemi's quarter was pretty nearly on target with my model, so my post-earnings changes aren't significant. The shares have done alright over the last year, matching the SOX index and beating the major indices, but I don't see major upside left based on the fundamentals. I do think there is a possibility that the growth outlook improves toward the end of the year (and higher revenue drives a higher fair value), but with a 25% move since my last article, I regard this more as a "quality hold" to buy on pullbacks than a must-buy at today's price.

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Efficiency Trumping Growth At Microsemi For Now

Avinger Offers A Better Mousetrap, But A Lot Of Challenges

Much as investors and sell-side analysts want to believe it, "build it and they will come" just doesn't cut it in med-tech. Many interesting technologies have gone by the wayside over the years, either because they actually weren't all that interesting to the physicians who had to use them, or the companies significantly underestimated the hurdles in driving better adoption.

As someone who has paid attention to med-tech for about 20 years now, I see a lot of familiar concerns with Avinger (NASDAQ:AVGR). The idea of adding optical coherence tomography (or OCT) to peripheral atherectomy is a great one, and the atherectomy market is not as big as it should be … but that was true for Spectranetics (NASDAQ:SPNC), Foxhollow, and Cardiovascular Systems (NASDAQ:CSII) when they were young too. What's more, building a med-tech business is HARD - doctors can be surprisingly stubborn and competition can prove harder to dislodge than you would otherwise think.

I like the potential for Avinger to build toward $100 million in revenue around 2020, and I think this company could certainly be bought out. I'm also concerned about liquidity and dilution, though, as the company is already in a net debt position and would seem to need over $100 million in incremental capital to drive that ramp to $100 million. Still, the chance to get a potentially high-growth stock for less than 4.5x forward revenue is intriguing and I think investors who can afford the risk of a major loss should look closer.

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Avinger Offers A Better Mousetrap, But A Lot Of Challenges