Author: lvc-admin

Dassault Systemes has the greatest share of the PLM market, and this exposure is responsible for nearly half of the company’s $100 billion addressable market

Business Strategy & Outlook

Dassault Systemes has a hold on the computer-assisted design software market for autos, aerospace and defense, and manufacturing. With 90% of all aircraft and 80% of all autos globally made via Dassault Systemes software, the company will stay well entrenched in engineering teams with help from its significant switching costs and network effect found in its midmarket CAD software, SolidWorks. The wide-moat company has adapted well to new trends in its market exposures, such as electric vehicle design software, which has made us more confident in the longevity of its moat and ability to achieve excess returns on invested capital. Outside of CAD offerings like Catia and SolidWorks, Dassault Systemes has a hefty portfolio of information intelligence, collaboration, content sharing, and simulation software, which all work to serve a part of product production, whether it’s drug research and development, mining planning, or clothing line organization. The most popular of these disparate offerings is Enovia, its product lifecycle management software, which is used in a variety of industries to connect engineers, marketing, and supply chain teams to better orchestrate the lifecycle of a product.

Dassault Systemes has the greatest share of the PLM market, and this exposure is responsible for nearly half of the company’s $100 billion addressable market. While there are new entrants in the PLM and midmarket CAD spaces, Dassault Systemes will be able to work to minimize any additional share that new players would take in its markets by increasing its adoption of its 3DExperience platform. The platform seeks to connect much of Dassault Systemes’ offerings in one place. Over the next two years, Dassault Systemes will be able to significantly increase its platform revenue. With a greater portion of customers on the platform, one should not be surprised to see customer churn come down and switching costs increase as the platform helps to lock in the benefits of using all Dassault Systemes’ software, which used to be more disparate.

Financial Strengths

Dassault Systemes to be financially healthy, given its asset-light model. As of 2021, Dassault Systemes had EUR 3 billion in cash and cash equivalents. The company had EUR 3 billion in long-term debt, much of which is a result of debt financing required to purchase Medidata for $5.7 billion in 2019. The debt/EBITDA will decrease to 1 by 2024, from 2.5 in 2021. Even with significant debt to pay down, Dassault Systemes should be well equipped to generate healthy free cash flow. The firm will continue paying out an annual dividend (with a roughly 30% payout ratio) and continue decent share repurchases.

Bulls Say

Dassault Systemes should see strong adoption of its 3DExperience platform, enabling margin expansion due to increasing switching costs.
Dassault Systemes’ foray into precision medicine by simulating individuals’ responses to medicine or medical devices should prove profitable over the next 10 years.
The integration of Biovia with newly acquired Medidata should provide significant operating leverage and competitive positioning to threaten Veeva’s trial management competitor.

Company Description

Dassault Systemes is a leading provider of computer-assisted design and product lifecycle management software, serving customers like Boeing and Tesla throughout the production process. The company’s top line largely depends on the transportation and mobility, industrial equipment, and aerospace and defense industries.

(Source: Morningstar)

DISCLAIMER for General Advice: (This document is for general advice only).

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Enphase has generated approximately 80% of its revenue from the United States and has only served the residential market

Post author By lvc-admin
Post date October 29, 2022
No Comments on Enphase has generated approximately 80% of its revenue from the United States and has only served the residential market

Business Strategy & Outlook

Enphase is the world leader in micro-inverter technology for distributed solar systems. The inverter is often referred to as the brains of a solar system. Its purpose is to (1) convert direct current produced by solar panels into alternating current used by households/grid; and (2) optimize energy production. Broadly, there are three kinds of inverters serving the solar market: string inverter, central inverter with power optimizer, and microinverters. Simple string inverters typically serve the utility-scale market, while power optimizers and microinverters are more prevalent in rooftop markets. Enphase is in the midst of a transition from a microinverter company to selling home energy solutions. Enphase targets to create a one-stop shop for solar installers: microinverters, energy storage, EV charging, and digital services for installers and homeowners. This strategy is impressive as it leverages its existing position with installers to expand its total addressable market while maintaining the company’s core end market of distributed generation. Additionally, it aligns well with the macro view of increasing distributed generation and electrification of demand.

Furthermore, the company is focused on diversifying its end markets by geography and market segment. In recent years, Enphase has generated approximately 80% of its revenue from the United States and has only served the residential market. The company is looking to build on success domestically to expand internationally, notably in Europe, where the competitive landscape tends to be more fragmented. Enphase plans to introduce a microinverter for the small commercial segment in early 2023, its first product outside the residential market.

Financial Strengths

Following a period of distress in the 2017-time frame, the company has been instilled with a disciplined financial model under a new CEO and CFO. Enphase pursues a capital light strategy and seeks to avoid entering into long-term contracts with suppliers to ensure flexibility. The company has a heavily equity weighted capital structure in line with peers. Current outstanding debt of approximately $1 billion consists of convertible notes due in 2026 and 2028.

Bulls Say

Enphase commands industry-leading gross margins and ROICs based on its high-tech product offering.
Enphase serves a growing rooftop solar market with an expanding total addressable market as more consumers adopt solar + storage.
Potential policy incentives to address climate change have the ability to meaningfully increase annual solar installations.

Company Description

Enphase Energy is a global energy technology company. The company delivers smart, easy-to-use solutions that manage solar generation, storage, and communication on one platform. The company’s micro-inverter technology primarily serves the rooftop solar market and produces a fully integrated solar-plus-storage solution. Geographically, it derives a majority of revenue from the United States.

(Source: Morningstar)

DISCLAIMER for General Advice: (This document is for general advice only).

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Boeing’s narrow-body business was severely battered by the extended grounding of its 737 MAX due to two fatal crashes of the plane

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Business Strategy & Outlook

Boeing is a major aerospace and defense firm that makes money mostly by manufacturing large commercial airplanes. Its narrow-bodied planes are ideal for high-frequency, short-haul routes, and wide-bodied ones are used for long-haul and transcontinental flights. Worldwide sales of narrow-bodies have increased over the past 20 years with the rise of low-cost carriers and middle-class consumers in emerging markets. Boeing’s narrow-body business was severely battered by the extended grounding of its 737 MAX due to two fatal crashes of the plane before the COVID-19 pandemic. The pandemic cut air travel by two thirds between 2019 and 2020, and Boeing’s primary competitor, Airbus, saw a one-third drop in airplane deliveries while Boeing had to cease deliveries of its workhorse plane entirely for 20 months to rework the navigation and other systems on hundreds of jets. It can be seen that there’s a pent-up demand for air travel adding to the long-term increase in demand for air travel in emerging-market economies. It can be anticipated that Boeing will grow 737 MAX production to meet that demand. Critical to thesis is at least some normalization of U.S.-China trade relations, as it anticipates Chinese carriers will take up to a quarter of new airplanes in the next decade.

Boeing also supplies military products to governments and aftermarket services to its commercial customers. These businesses together generate just over a third of its operating income over a cycle. There’s a GDP-like growth in the defense business and expect the services business will regain profitability faster than Boeing as a whole because aftermarket revenue increases directly with flight activity.

Financial Strengths

Credit metrics are expected to deteriorate as debt costs rise. Interest cover of 5.4 times in fiscal 2022 was well above the 2 times covenant limit. However, interest cover is deteriorating to 2.3 times by 2025 (in the absence of an equity raising) as debt costs rise from extremely low levels, leaving slim headroom to the covenant limit. Some form of remedial action, like an equity raising, may be needed. Other credit metrics are also aggressive. For example, the net debt/ EBITDA of 8 times for the next few years. Nonetheless, the trust has a Baa2 issuer credit rating from Moody’s Investors Service and gearing of 33% is towards the bottom of the 30% to 40% target range and well below the 50% covenant limit. Average debt duration is reasonable at four years and the trust has only modest debt maturities in the next couple of years. But limited interest rate hedging means the trust is exposed to rising interest rates–weighted average hedge maturity is 2.1 years. The trust is to pay out close to 95% of funds from operations, which is aggressive as FFO ignores such things as maintenance capital expenditure, leasing incentives, and debt establishment costs. It is estimated current distributions exceed underlying earnings by about 10%, which could be unmaintainable if property values stop rising. The trust’s portfolio has grown rapidly via acquisitions, requiring substantial equity raisings. Units on issue have increased more than six-fold since 2014.

Bulls Say

Boeing has a large backlog that covers several years of production for the most popular aircraft, which gives us confidence in aggregate demand for aerospace products
Boeing is well-positioned to benefit from emerging market growth in revenue passenger kilometers and a robust developed market replacement cycle over the next two decades.
Commercial airframe manufacturing will remain a duopoly for most of the world for the foreseeable future. The customers will not have any meaningful options other than continuing to rely on incumbent aircraft suppliers.

Company Description

Boeing is a major aerospace and defense firm. It operates in four segments: commercial airplanes; defense, space & security; global services; and Boeing capital. Boeing’s commercial airplanes segment competes with Airbus in the production of aircraft ranging from 130 seats upwards. Boeing’s defense, space & security segment competes with Lockheed, Northrop, and several other firms to create military aircraft and weaponry. Boeing global services provides aftermarket support to airlines.

(Source: Morningstar)

DISCLAIMER for General Advice: (This document is for general advice only).

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Lear is well positioned with seating and electrical architecture to capitalize on global growth in premium vehicles

Post author By lvc-admin
Post date October 27, 2022
No Comments on Lear is well positioned with seating and electrical architecture to capitalize on global growth in premium vehicles

Business Strategy & Outlook

Lear’s revenue will grow in excess of increases in annual worldwide light-vehicle production. The company is well-positioned to capitalize on several trends in the global automotive industry, including automakers’ focus on high-quality interiors, premium-vehicle segment growth, the proliferation of automotive electronics, and battery electric vehicles. Lear competes in the markets for vehicle seating and automotive electrical and electronic architecture. A culture of continuous innovation, high switching costs for customers, highly integrated engineering relationships with customers, and lengthy vehicle programs provide Lear with sticky market share. The premium-vehicle segment leads the way in the proliferation of electrical circuits, electronic devices, and digitalization. All-electric and electric hybrid vehicles also contain higher power-management content, the production of which is being driven by more stringent fuel economy and emissions regulations. Additionally, premium-vehicle seating contains more features and uses higher-quality materials, commanding higher pricing. Lear is the global leader in premium seating.

Vehicle propulsion and dynamics, which at one time were mechanically, hydraulically, and vacuum-driven, have become electronic, requiring electrical power, computer processing, and signal processing to communicate and interact with other vehicle systems. Hybrid and all-electric powertrains require more robust electrical architecture to support the power consumption of the battery-driven electric motor. Vehicle autonomy exacerbates the need for more complex electrical and electronic architectures. Lear is the number-two company in the global automotive seating market, but management believes it is the global leader in luxury- and performance-vehicle seating. The company has the fourth-largest market share in the electrical segment. Even though there is limited synergy between the two sides, Lear is well positioned with seating and electrical architecture to capitalize on global growth in premium vehicles, bolstering the thesis that revenue should outpace global growth in worldwide vehicle production.

Financial Strengths

The company maintains a solid balance sheet and liquidity that, relative to many other parts suppliers, makes for strong financial health. From a credit perspective, the company did not reduce debt outstanding but made $705 million worth of share repurchases in 2018. Even so, Lear’s capital structure was slightly underleveraged. Given the company’s ability to generate solid free cash flow, Lear could take advantage of the benefits of modestly higher financial leverage without incurring the pitfalls of excessive debt in a cyclical industry. Lear entered and exited bankruptcy protection in 2009, prior to which, the company averaged total debt/total book capital of around 65%. Using the Morningstar method of calculating total debt/total capital where capital includes the equity market capitalization instead of the book value of equity, the pre-bankruptcy average was 46%. Since 2011, Lear has maintained much lower leverage with a 31% book total debt/total capital ratio and a 16% total debt/Morningstar total capital ratio. Using total debt minus cash to arrive at a net debt/total capital ratio, the average is 0.4% due to the company’s relatively large cash position. Lear funds its working capital needs with its free cash flow, cash balance, and revolving line of credit. As of the end of 2021, total liquidity including cash and available revolving credit facility was roughly $3.3 billion ($1.3 billion cash and $2.0 billion revolver availability). In the third quarter of 2021, Lear amended its revolver, increasing it to $2.0 billion from $1.75 billion and extending the maturity to October 2026 from August 2024.

Bulls Say

Lear’s above-industry growth rates are supported by a growing global premium-vehicle segment and increasing penetration of automotive electrical and electronic content.
A culture of continuous innovation at Lear enables regular and consistent product and process development, commercializing technology that generates solid margins and returns on invested capital.
Automakers’ growing use of common architectures benefits Lear because of its global footprint.

Company Description

Lear designs, develops, and manufactures automotive seating and electrical systems and components. Seating components include frames and mechanisms, covers (leather and woven fabric), seat heating and cooling, foam, and headrests. Automotive electrical distribution and connection systems and electronic systems include wiring harnesses, terminals and connectors, on-board battery chargers, high voltage battery management systems, high voltage power distribution systems, domain controllers, telematics control units, gateway modules, vehicle positioning for automated and autonomous driving, embedded control software, cloud and mobile device software and services, and cybersecurity.

(Source: Morningstar)

DISCLAIMER for General Advice: (This document is for general advice only).

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Hilton has added several brands in the past few years including Tru, which launched in January 2016 and already has 212 hotels opened as of the end of 2021

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Business Strategy & Outlook

While the coronavirus pandemic and inflation present headwinds to industry travel demand in the near term, Hilton’s brand intangible asset (which underlies its narrow moat rating) is strengthening, along with improving travel demand in 2022. Hilton’s room share expansion to be among the industry’s fastest over the next decade because of an industry-leading pipeline, favorable next-generation traveler position supported by newer brands, and its highly rated loyalty program. The company currently has mid-single-digit share of global hotel rooms with 15%-20% share of all industry pipeline rooms under construction.

Further, its U.S. (70% of total 2021 room count) share of existing rooms is low double digits, with a pipeline share of rooms under construction at 20%-25%. Hilton’s room growth averaging mid-single digits over the next decade, above the 1.8% supply increase it is estimated for the U.S. industry, implying market share gains ahead for Hilton. In addition to an intangible brand advantage, Hilton has switching cost barriers (a second source of its narrow moat rating) through its asset-light model of mostly managed or franchised rooms. These asset-light rooms not only offer high returns on invested capital, but also contract lengths of 20 years that are costly to terminate. Hilton’s intangible brand asset and switching cost advantage to strengthen, driven by new hotel brands and its highly rated loyalty program. Hilton has added several brands in the past few years, including Tru, which launched in January 2016 and already has 212 hotels opened as of the end of 2021. Hilton also has a solid loyalty membership base at 139 million as of the end of June 2022, which drove around 62% of total room nights during the year.

Financial Strengths

Hilton’s spinoffs of owned assets at the beginning of 2017 has left the company with around 90% of its adjusted EBITDA derived from fees versus just 52% previous to the spinoff. Given the less capital-intensive nature of franchise and managed assets relative to owned ones, free cash flow as a percentage of sales and the cash flow cushion are now higher. Hilton’s financial health has improved, with its pre-pandemic 2019 debt/adjusted EBITDA at 3.5 times versus the 7.3 times ratio in 2015. Hilton’s financial health remains good despite COVID-19 challenges. Hilton asset-light business model allows the company to operate with low fixed costs and stable unit growth, helping it generate over $600 million in free cash flow to equity in 2020, despite a 57% decline in revPAR. Hilton improved its liquidity profile during the early stages of the pandemic outbreak, tapping the $1.8 billion that remained on its credit facility (which has since been paid), suspending dividends and share repurchases, with the former resuming in May 2022 and the latter having already started in March 2022), and raising and refinancing debt. As a result, Hilton has near $3 billion in liquidity, with no debt maturing in 2023-24. As travel demand rebounds it is expected Hilton’s debt/adjusted EBITDA to improve to 3.6 times in 2022 from the elevated 5.4 level in 2021 (as a result of COVID-19), ending 2023 at 2.8 times.

Bulls Say

Hilton’s current mid-single-digit share of hotel industry rooms is set to increase, as the company controls about one fifth of the rooms under construction in the global hotel industry pipeline.
Hilton is well positioned to benefit from the increasing presence of next-generation travelers though emerging lifestyle brands Home2, Curio, Canopy, Tru, Tapestry Collection, Motto, and Tempo.
Hilton has a strong loyalty program with 139 million members at the end of June 2022 that constitutes around 60% of total room nights.

Company Description

Hilton Worldwide Holdings operates 1,074,791 rooms across its 18 brands addressing the midscale through luxury segments as of Dec. 31, 2021. Hampton and Hilton are the two largest brands by total room count at 28% and 21%, respectively, as of Dec. 31, 2021. Recent brands launched over the last few years include Home2, Curio, Canopy, Tru, and Tempo. Managed and franchised represent the vast majority of adjusted EBITDA, predominantly from the Americas regions.

(Source: Morningstar)

DISCLAIMER for General Advice: (This document is for general advice only).

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Lear is well positioned with seating and electrical architecture to capitalize on global growth in premium vehicles

Post author By lvc-admin
Post date October 27, 2022
No Comments on Lear is well positioned with seating and electrical architecture to capitalize on global growth in premium vehicles

Business Strategy & Outlook

Financial Strengths

The company maintains a solid balance sheet and liquidity that, relative to many other parts suppliers, makes for strong financial health. From a credit perspective, the company did not reduce debt outstanding but made $705 million worth of share repurchases in 2018. Even so, Lear’s capital structure as slightly underleveraged. Given the company’s ability to generate solid free cash flow, Lear could take advantage of the benefits of modestly higher financial leverage without incurring the pitfalls of excessive debt in a cyclical industry. Lear entered and exited bankruptcy protection in 2009, prior to which, the company averaged total debt/total book capital of around 65%. Using the Morningstar method of calculating total debt/total capital where capital includes the equity market capitalization instead of the book value of equity, the pre-bankruptcy average was 46%. Since 2011, Lear has maintained much lower leverage with a 31% book total debt/total capital ratio and a 16% total debt/Morningstar total capital ratio. Using total debt minus cash to arrive at a net debt/total capital ratio, the average is 0.4% due to the company’s relatively large cash position. Lear funds its working capital needs with its free cash flow, cash balance, and revolving line of credit. As of the end of 2021, total liquidity including cash and available revolving credit facility was roughly $3.3 billion ($1.3 billion cash and $2.0 billion revolver availability). In the third quarter of 2021, Lear amended its revolver, increasing it to $2.0 billion from $1.75 billion and extending the maturity to October 2026 from August 2024.

Bulls Say

Lear’s above-industry growth rates are supported by a growing global premium-vehicle segment and increasing penetration of automotive electrical and electronic content.
A culture of continuous innovation at Lear enables regular and consistent product and process development, commercializing technology that generates solid margins and returns on invested capital.
Automakers’ growing use of common architectures benefits Lear because of its global footprint.

Company Description

(Source: Morningstar)

DISCLAIMER for General Advice: (This document is for general advice only).

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TC Energy’s Bruce Power business to be a critical area of investment going forward

Post author By lvc-admin
Post date October 27, 2022
No Comments on TC Energy’s Bruce Power business to be a critical area of investment going forward

Business Strategy & Outlook

TC Energy faces many of the same challenges as Canadian pipeline peer Enbridge but also offers important contrasts. Both firms offer a 5%-7% growth profile and a utility like 95%-98% of earnings that are highly regulated or contracted, with several years of project backlog, despite Enbridge largely focusing on oil assets, while TC’s focus is natural gas. However, any major new pipeline project for either firm will face substantial stakeholder challenges from a legal, regulatory, or community perspective, raising the risks and costs. The most critical differences between Enbridge and TC Energy arise from their approaches to energy transition, though TC Energy has made good progress here in 2022. Canadian carbon emissions taxes are expected to increase to CAD 170 a ton by 2030 from CAD 40 today, meaning it is critical that TC Energy, with its natural gas exposure, follow Enbridge’s approach to rapidly reduce its carbon emission profile and continue to pursue projects like the Alberta Carbon Grid, which will be able to transport more than 20 million tons of carbon dioxide. These taxes potentially increase costs for Canadian pipes compared with U.S. pipes but also make hydrogen a viable alternative to gas-powered electricity generation by 2030 in Canada, presenting an emerging threat.

TC Energy recently introduced targets to reduce its Scope 1 and 2 intensity by 30% by 2030 and reach net zero by 2050, which is a start. In addition, Enbridge’s backlog is more diversified across its businesses already, and it already has a more material renewables business, including hydrogen, renewable natural gas, and wind efforts. While the renewables business lacks an economic moat today, it is an important area of investment for TC Energy that it needs to pursue. The renewables investments can compete for capital across the rest of the portfolio, generating reasonable returns on capital, allowing the overall enterprise to adapt to the markets as they evolve. As a result, TC Energy’s Bruce Power business to be a critical area of investment going forward.

Financial Strengths

TC Energy carries significantly higher leverage than the typical U.S. midstream firm, with current debt/EBITDA well over 5 times. Its long-term target is in the high 4s, again materially higher than peers which are generally targeting leverage of 3-4 times. Still, the high degree of leverage is supported by the highly protected nature of its earnings stream. As capital spending declines over the next few years to around CAD 3.7 billion in 2026, TC Energy to currently reach the low 5s, not quite reaching its target. A planned asset sale program of CAD 5 billion-plus is now in place to achieve 4.75 times leverage ratio by 2024, but it is likely that more asset sales will be needed if the leverage ratio is to reach the high 4s. Lower capital spending would move this date forward materially. Beyond the high leverage, TC Energy is also unusual in that it will continue to rely on the capital markets to meet about 20% of its expected capital expenditures over the next few years or potentially asset sales, meaning that some projects on a regular basis will depend on the health of the capital markets. Midstream peers are largely transitioning to generating free cash flow after distributions or dividends, and in some cases, it considered the shift to be permanent. TC Energy has outlined plans to spend about CAD 9.6 billion in 2023, though another CAD 1 billion to allow for additional Coastal GasLink overruns. About CAD 1.5 billion-CAD 2 billion is maintenance spending on its pipelines, and 85% of this is recoverable due to being invested in the rate base. ESG-related opportunities such as using renewable power to power its own operations or seeking carbon capture efforts would be on top of this spending. TC’s dividend growth remains prized by its investors, and 3%-4% growth going forward is easily supportable under the firm’s 60/40 framework.

Bulls Say

TC Energy has strong growth opportunities in Mexican natural gas as well as liquefied natural gas.
The company offers virtually identical growth prospects and a protected earnings profile to Enbridge but allows investors to bet more heavily on natural gas.
The Canadian regulatory structure allows for greater recovery of costs due to project cancelations or producers failing compared with the U.S.

Company Description

TC Energy operates natural gas, oil, and power generation assets in Canada and the United States. The firm operates more than 60,000 miles of oil and gas pipelines, more than 650 billion cubic feet of natural gas storage, and about 4,200 megawatts of electric power.

(Source: Morningstar)

DISCLAIMER for General Advice: (This document is for general advice only).

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Fastenal has a first-mover advantage in both vending and on-site services, introducing the former in 2008 and the latter in 1992

Business Strategy & Outlook

Since opening its first fasteners store in 1967, Fastenal has built one of the largest industrial distribution businesses in the United States. For many years, Fastenal’s growth story was driven by its branch count, which now stands just under 1,800. While this expansive footprint is still an important component of Fastenal’s business model, other strategies–including expanding its product portfolio, its vending and inventory management services, and, most recently, its on-site program–have become increasingly important growth drivers. The benefits of Fastenal’s vending, inventory management, and on-site services are twofold: Not only do these services drive incremental revenue, they also embed Fastenal in its customers’ procurement processes, which supports higher retention rates and pricing power. Fastenal has a first-mover advantage in both vending and on-site services, introducing the former in 2008 and the latter in 1992 (although the on-site strategy did not become a focused strategy until the past few years), and a long growth runway for both offerings can be seen. In addition to growth through its vending and on-site initiatives, Fastenal is well positioned to benefit from customer consolidation trends.

In recent years, customers have been consolidating their maintenance, repair, and operations, or MRO, spending with large distributors to leverage their purchasing power and increase operational efficiency. With its national scale, broad product portfolio, and inventory management services, Fastenal can capitalize on this trend and take market share from smaller and less capable distributors. Because Fastenal’s sales mix is increasingly skewing more toward large national accounts, on-site programs, and more price-competitive MRO products, the company’s gross margins are likely to come under pressure. However, the combination of higher sales volume and containment of selling, general, and administrative costs provides Fastenal the opportunity to realize strong operating leverage and expand operating margins. Fastenal’s operating margin is to reach 21% by midcycle year.

Financial Strengths

Fastenal has an outstanding debt balance of approximately $390 million. It is leveraged at only 0.1 times 2021 EBITDA, which is very conservative relative to the other industrial distributors. Fastenal’s earnings provide substantial headroom to service debt obligations. During fiscal 2021, Fastenal incurred only about $10 million of interest expense and generated about $1.4 billion of EBITDA, which equates to an extremely comfortable interest coverage ratio. Even with its expansive store footprint and cyclical end markets, Fastenal has a proven ability to generate free cash flow (defined as operating cash flow less capital expenditures) throughout the cycle. Indeed, it has generated positive free cash flow every year since 2003. Given its conservative balance sheet and consistent free cash flow generation, Fastenal’s financial health is satisfactory.

Bulls Say

Vending and on-site programs should provide a long growth runway for Fastenal.
Fastenal can capitalize on its national scale, broad product portfolio, and inventory-management services to take market share from smaller and less capable distributors.
Despite serving cyclical end markets, Fastenal’s business model generates strong free cash flow throughout the cycle. Fastenal is likely to continue to use its cash flow to fund a shareholder-friendly capital allocation strategy.

Company Description

Fastenal opened its first fastener store in 1967 in Winona, Minnesota. Since then, Fastenal has greatly expanded its footprint as well as its products and services. Today, Fastenal serves its 400,000 active customers through approximately 1,760 branches, over 1,400 on-site locations, and 14 distribution centers. Since 1993, the company has added other product categories, but fasteners remain its largest category at about 30%- 35% of sales. Fastenal also offers customers supply-chain solutions, such as vending and vendor-managed inventory.

(Source: Morningstar)

DISCLAIMER for General Advice: (This document is for general advice only).

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Lam is poised to grow faster than the overall equipment industry, as it can capture a larger share of the market with technically superior tools

Business Strategy & Outlook

Lam Research is a major vendor of semiconductor fabrication tools. The firm is the leader in dry etch, a critical step in the chip making process where material is selectively removed. Lam has a wide economic moat as a result of cost advantages and intangible assets related to equipment design. Lam’s leadership position creates scale advantages that fuel research and development spending at levels only Applied Materials and Tokyo Electron can match. At the end of 2021, Lam had an installed base of 75,000 units, up from 40,000 in 2015. This large installed base creates stickiness and offers Lam an intimate look into problems faced by chipmakers, providing valuable information it can use to implement solutions and additional capabilities in future tools. Chipmakers that have continued along the trajectory prescribed by Moore’s law have endured significant challenges in terms of cost and complexity. Equipment providers are vital to making the pursuit more economical via advanced chip manufacturing tools. Lam has benefited from the sharp rise in etch, deposition, and clean steps required as a result of major inflections, including FinFET transistors and planar to 3D NAND, that feature multiple patterning and vertical layers well suited for Lam’s advanced etch and deposition offerings.

Consequently, Lam is poised to grow faster than the overall equipment industry, as it can capture a larger share of the market with technically superior tools. The volatile nature of demand for semiconductors directly affects the cyclicality of the equipment market. Lam, along with its peers, has benefited from an increase in service revenue in recent years, which will mitigate the volatility of equipment orders. Specifically, maintenance and engineering costs and spare parts are tied into service contracts that deliver a stable revenue stream distinct from tool purchases. As traversing Moore’s law becomes increasingly difficult, the service segment will grow as chipmakers increase their reliance on field service engineers from Lam and its peers, while also helping entrench vendors’ installed base of tools at customer facilities.

Financial Strengths

Lam is in a solid financial position. As of March 27, 2022, the firm had $4.2 billion in cash and equivalents, versus $5.0 billion in long-term debt. The firm typically keeps a substantial cash position on its balance sheet, which is appropriate for chip equipment firms. During cyclical downturns, the cash cushion allows Lam to continue investing heavily in research and development in order to maintain its leading technology and competitive positions.

Bulls Say

Lam is a leader in the dry etch and deposition markets and counts major chipmakers, such as Samsung Electronics and Taiwan Semiconductor Manufacturing, as customers.
Lam has achieved superior share gains in recent years due to its strong equipment offerings in etch and deposition, combined with the 3D NAND and multiple patterning inflections that require more of those particular tools.
Demand is strong for advanced etch and deposition tools, because they help chipmakers continue down the path prescribed by Moore’s law.

Company Description

Lam Research manufactures equipment used to fabricate semiconductors. The firm is focused on the etch, deposition, and clean markets, which are key steps in the semiconductor manufacturing process, especially for 3D NAND flash storage, advanced DRAM, and leading-edge logic/ foundry chipmakers. Lam’s flagship Kiyo, Vector, and Sabre products are sold in all major geographies to key customers such as Samsung Electronics, Micron, Intel, and Taiwan Semiconductor Manufacturing.

(Source: Morningstar)

DISCLAIMER for General Advice: (This document is for general advice only).

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Global stocks

Marriott has an attractive recurring-fee business model with high returns on invested capital and significant switching costs for property owners

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Business Strategy & Outlook

While COVID-19 and inflation have potential to impact near-term travel demand in many regions of the world, Marriott can be expected to expand room and revenue share in the hotel industry over the next decade. The constructive stance is driven by a favorable next-generation traveler position supported by renovated and newer brands, as Marriott has added several new brands since 2007 and renovated a meaningful percentage of core Marriott and Courtyard hotels in the past few years. Also, Marriott is having an industry-leading loyalty program, with over 160 million members (as of the end of 2021), which incentivizes third-party hotel owners to join the company’s brands. Additionally, the acquisition of Starwood (closed in September 2016) has strengthened Marriott’s long-term brand advantage, as Starwood’s global luxury portfolio complemented Marriott’s dominant upper-scale position in North America. A room growth for Marriott can be seen averaging mi single digits over the next decade (above the 1.8% increase model for the U.S. industry the next 10 years), supported by the company having 18% of all global industry rooms under construction, well above its high-single-digit existing unit share, as of the end of 2021.

With 97% of the combined rooms managed or franchised, Marriott has an attractive recurring-fee business model with high returns on invested capital and significant switching costs for property owners. Managed and franchised hotels have low fixed costs and capital requirements, along with contracts lasting 20 years that have meaningful cancellation costs for owners. Cyclicality and overbuilding in the industry present risks for shareholders. Typically, U.S. lodging recoveries last five to nine years, but the upcycle ending 2019 lasted 10 years.

Financial Strengths

Marriott’s financial health remains in good shape, despite COVID-19 challenges. Marriott entered 2020 with debt/adjusted EBITDA of 3.1 times, as its asset-light business model allows the company to operate with low fixed costs and stable unit growth, but reduced demand due to COVID-19 caused the ratio to end the year at 9.1 times. During 2020, Marriott did not sit still; rather, it acted to increase its liquidity profile, including suspending dividends and share repurchases, deferring discretionary capital expenditures, raising debt, and receiving credit card fees from partners up front. As travel demand recovered in 2021, so too did Marriott’s debt leverage, with debt/adjusted EBITDA ending the year at 4.5 times. If demand once again plummeted, Marriott has enough liquidity to operate at zero revenue through 2023. The banking partners will work to provide Marriott any additional liquidity as needed, given the company holds a brand advantage (source of its narrow moat), which will drive healthy cash flow as travel demand returns. Marriott’s debt/adjusted EBITDA is to average 2.0 times over the next five years. The company is generating over $15.0 billion in free cash flow (operating cash flow minus capital expenditures) over the next five years (2022-26), which it will use to reduce debt, fund dividends equal to around 35% of its earnings during that time (dividend payments have resumed in 2022), as well as repurchasing shares (repurchase activity has started again in 2022).

Bulls Say

Marriott is positioned to benefit from the increasing presence of the next-generation traveler through emerging lifestyle brands Autograph, Tribute, Moxy, Aloft, and Element.
Marriott stands to benefit from worker flexibility driving higher long-term travel demand. The constructive stance is formed by higher income occupations being the most likely industries to continue to work from remote locations.
Marriott has a high exposure to recurring managed and franchised fees, which have high switching costs and generate strong ROICs.

Company Description

Marriott operates about 1.5 million rooms across roughly 30 brands. At the end of 2021, luxury represented 10% of total rooms, while full service, limited service, and timeshares were 43%, 46%, and 2% of all units, respectively. Marriott, Courtyard, and Sheraton are the largest brands, while Autograph, Tribute, Moxy, Aloft, and Element are newer lifestyle brands. Managed and franchised represent 97% of total rooms. North America makes up two thirds of total rooms. Managed, franchise, and incentive fees represent the vast majority of revenue and profitability for the company.

(Source: Morningstar)

DISCLAIMER for General Advice: (This document is for general advice only).

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