Category: Research

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Shares Small Cap

Stevanto’s Near Term Outlook Foresight Uncertain

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Business Strategy and Outlook

Stevanato is the market leader in pen cartridges and presterilized vials and holds the number position in prefillable syringes (behind Becton Dickinson). The company is a key supplier in the drug delivery supply chain, and provides drug containment and primary packaging solutions to 41 of the top 50 global pharma companies. Primary packaging is the material that first envelops a drug product, and safe production of drug-delivery packaging is critical for the successful delivery of pharmaceutical products. 

Stevanato aims to increase the percentage of product sales from high value solutions, which refers to products with proprietary intellectual property and greater complexity, such as presterilized drug containment and integrated self-injector pen and wearable devices. The company is prioritizing investment in research and development and broadening its offering through M&A. Capacity expansion is also a key component of Stevanato’s long-term strategic plan, and capital expenditures are likely to remain elevated over the next year or two. Competition for skilled employees is extreme, and future growth will depend on effectively hiring and retaining talent. 

Both the biopharmaceutical and diagnostic segments are expected to benefit from an increased contribution in high value solutions over time, which has been growing 20% year over year and now represents about 23% of consolidated revenue. It is anticipated the ongoing shift to high-value will provide a material tailwind for margin over the next five to 10 years, and also contribute to robust top line growth. It is seen an uncertain near-term outlook for the business, with both positives and negatives related to the ongoing pandemic. Some drug trials have postponed or delayed, leading to lower sales growth for some customers’ drug portfolios. However, this has been mitigated by the pressing need for vaccines and treatments, which has allowed Stevanato to enjoy compound annual top line growth near 25% over the last two years. The company supplies vials and syringes to about 90% of currently approved vaccines.

Financial Strength

Stevanato has a sound financial position.As of September 2021, total cash position in excess of long-term debt on the balance sheet was EUR 154 million. This was mainly related to the firm’s IPO from July 2021, which raised EUR 154 million. In analysts’ view, Stevanato has more than sufficient capital to fund increasing capacity investment, and it can also be seen the potential for tuck-in acquisitions to broaden the firm’s value proposition in the drug delivery supply chain.In the near term, however, Stevanato’s expansion plan is likely to be the focus of capital deployment. Because of a higher level of capital investment, the company reported free cash flow of negative EUR 9.9 million for the third quarter of 2021. It is anticipated significant earnings and cash flow growth over the next few years, and while free cash flow is likely to be close to flat in 2022, it is anticipated free cash flow above EUR 20 million in 2023. It is believed that it’s possible that some additional debt might be needed to cover cash flow needs, but, considering Stevanato’s current low degree of financial leverage, it is not to be concerned with an increase in debt at or below EUR 500 million.

Bulls Say’s

  • Stevanato has room to bring customers up the value chain to higher-value products and services, giving it a lengthy tailwind for earnings growth and margin expansion. 
  • In contrast to peers, Stevanato can use in-house produced glass vials and syringes for integrated selfinjector systems, reducing the number of vendors for customers and providing Stevanato with a possible cost advantage. 
  • As large economies such as India and China implement more stringent pharmaceutical standards, Stevanato stands to become a key cog in the supply chain in those countries.

Company Profile 

Italy-based Stevanato Group is a provider of drug containment, drug delivery and diagnostic solutions to the pharmaceutical, biotechnology and life sciences industries. It delivers an integrated, end-to-end portfolio of products, processes, and services that address customer needs across the entire drug life cycle including development, clinical, and commercial stages. Stevanato’s revenue is geographically diversified, with 60% of sales from Europe, the Middle East and Africa (EMEA), 27% in North America, 10% in Asia-Pacific (APAC), and 3% in South America. 

(Source: MorningStar)

General Advice Warning

Any advice/ information provided is general in nature only and does not take into account the personal financial situation, objectives or needs of any particular person.

Categories
Shares Small Cap

Aecom Poised To Benefit From Favourable Long-Term Tailwinds In Infrastructure and Sustainability Solutions

Business Strategy and Outlook

In recent years, Aecom has transformed its portfolio and focused on growing its professional services business. The firm is in the process of exiting several business lines including fixed-price combined cycle gas power plant construction, at-risk oil and gas construction, and international at-risk construction projects. Furthermore, in January 2020, Aecom completed the sale of its management services business. It is seen Aecom’s transformation favourably and believe that the strategic shift will result in a less volatile and more profitable portfolio.

Furthermore, Aecom has improved its profitability thanks to several recent initiatives, including a $225 million general and administrative cost reduction plan completed in fiscal 2019, real estate consolidation, and a plan to exit over 30 countries to focus on the most profitable markets. It is encouraging that Aecom’s margin expansion thus far and see room for further upside, especially in the international business. It can be noted that there is a significant difference in profitability between the Americas and international segments: the adjusted operating margins on a net service revenue basis are in the mid-teens in the former but only mid-single digits in the latter. Considering an over 1,000-basis-point differential, it is viewed as room for further margin expansion in the international segment, and it is alleged the firm will continue to work to narrow the gap by further simplifying the business and completing its planned 30 country exits to focus on higher-margin markets. 

Analysts remain optimistic about the long-term outlook for Aecom as it is alleged that it’s poised to benefit from favourable long-term tailwinds in infrastructure and sustainability solutions. The company has a strong competitive position in the transportation, water, and environment end markets. As such, it is likely, Aecom is well positioned to capitalize on opportunities created by a growing focus on ESG concerns, including areas such as electrification of transit, clean water, and PFAS.

Financial Strength

At Dec. 31, 2021, the company owed roughly $2.2 billion in long-term debt while holding approximately $1.1 billion in cash and equivalents. Debt maturities are reasonably well laddered over the next few years. Additionally, Aecom can tap into its $1.15 billion revolving credit facility. It is projected that Aecom will generate average annual operating cash flow of approximately $700 million over the next five years. Considering that an investment-grade credit rating can have strategic importance for E&C firms and boost competitiveness in winning new awards, it is likely, Aecom to prioritize paying down its debt balance. In the long-run, it is anticipated the firm to maintain its leverage ratio within management’s target range of 2.0 times to 2.5 times. Additionally, it is alleged that management will continue to allocate excess capital to opportunistic stock repurchases.

Bulls Say’s

  • Thanks to its diversified portfolio, it is anticipated Aecom to take advantage of growth opportunities in sectors with favourable long-term prospects, including transportation and water. 
  • Through its Aecom Capital segment, the firm should be able to capitalize on growth in public-private partnerships (P3), which I said to have some economic moat potential due to customer switching costs. 
  • Following the 2015 acquisition of Hunt Construction, Aecom became the leading nationwide builder of iconic sports arenas, such as the Los Angeles Rams NFL stadium.

Company Profile 

Aecom is one of the largest global providers of design, engineering, construction, and management services. The firm serves a broad spectrum of end markets including infrastructure, water, transportation, and energy. Based in Los Angeles, Aecom has a presence in over 150 countries and employs 51,000. The company generated $13.3 billion in sales and $701 million in adjusted operating income in fiscal 2021

(Source: MorningStar)

General Advice Warning

Any advice/ information provided is general in nature only and does not take into account the personal financial situation, objectives or needs of any particular person.

Categories
Shares Small Cap

Stevanto’s Near Term Outlook Foresight Uncertain

Business Strategy and Outlook

Stevanato is the market leader in pen cartridges and presterilized vials and holds the number position in prefillable syringes (behind Becton Dickinson). The company is a key supplier in the drug delivery supply chain, and provides drug containment and primary packaging solutions to 41 of the top 50 global pharma companies. Primary packaging is the material that first envelops a drug product, and safe production of drug-delivery packaging is critical for the successful delivery of pharmaceutical products. 

Stevanato aims to increase the percentage of product sales from high value solutions, which refers to products with proprietary intellectual property and greater complexity, such as presterilized drug containment and integrated self-injector pen and wearable devices. The company is prioritizing investment in research and development and broadening its offering through M&A. Capacity expansion is also a key component of Stevanato’s long-term strategic plan, and capital expenditures are likely to remain elevated over the next year or two. Competition for skilled employees is extreme, and future growth will depend on effectively hiring and retaining talent. 

Both the biopharmaceutical and diagnostic segments are expected to benefit from an increased contribution in high value solutions over time, which has been growing 20% year over year and now represents about 23% of consolidated revenue. It is anticipated the ongoing shift to high-value will provide a material tailwind for margin over the next five to 10 years, and also contribute to robust top line growth. It is seen an uncertain near-term outlook for the business, with both positives and negatives related to the ongoing pandemic. Some drug trials have postponed or delayed, leading to lower sales growth for some customers’ drug portfolios. However, this has been mitigated by the pressing need for vaccines and treatments, which has allowed Stevanato to enjoy compound annual top line growth near 25% over the last two years. The company supplies vials and syringes to about 90% of currently approved vaccines.

Financial Strength

Stevanato has a sound financial position.As of September 2021, total cash position in excess of long-term debt on the balance sheet was EUR 154 million. This was mainly related to the firm’s IPO from July 2021, which raised EUR 154 million. In analysts’ view, Stevanato has more than sufficient capital to fund increasing capacity investment, and it can also be seen the potential for tuck-in acquisitions to broaden the firm’s value proposition in the drug delivery supply chain.In the near term, however, Stevanato’s expansion plan is likely to be the focus of capital deployment. Because of a higher level of capital investment, the company reported free cash flow of negative EUR 9.9 million for the third quarter of 2021. It is anticipated significant earnings and cash flow growth over the next few years, and while free cash flow is likely to be close to flat in 2022, it is anticipated free cash flow above EUR 20 million in 2023. It is believed that it’s possible that some additional debt might be needed to cover cash flow needs, but, considering Stevanato’s current low degree of financial leverage, it is not to be concerned with an increase in debt at or below EUR 500 million.

Bulls Say’s

  • Stevanato has room to bring customers up the value chain to higher-value products and services, giving it a lengthy tailwind for earnings growth and margin expansion. 
  • In contrast to peers, Stevanato can use in-house produced glass vials and syringes for integrated selfinjector systems, reducing the number of vendors for customers and providing Stevanato with a possible cost advantage. 
  • As large economies such as India and China implement more stringent pharmaceutical standards, Stevanato stands to become a key cog in the supply chain in those countries.

Company Profile 

Italy-based Stevanato Group is a provider of drug containment, drug delivery and diagnostic solutions to the pharmaceutical, biotechnology and life sciences industries. It delivers an integrated, end-to-end portfolio of products, processes, and services that address customer needs across the entire drug life cycle including development, clinical, and commercial stages. Stevanato’s revenue is geographically diversified, with 60% of sales from Europe, the Middle East and Africa (EMEA), 27% in North America, 10% in Asia-Pacific (APAC), and 3% in South America. 

(Source: MorningStar)

General Advice Warning

Any advice/ information provided is general in nature only and does not take into account the personal financial situation, objectives or needs of any particular person.

Categories
Shares Small Cap

Resale looks like a bargain as Poshmark has $26 fair value estimate

Business Strategy and Outlook:

Poshmark is among the largest apparel resale platforms on the market, boasting an interactive marketplace that benefits from a triumvirate of secular tailwinds: social commerce, an ongoing mix-shift toward online retail sales, and the stratospheric growth of the apparel resale market. The firm’s strategy coalesces around four key priorities: product innovation, category expansion, international growth, and buyer acquisition. We take a neutral view of management’s roadmap, with our research leaving us unconvinced that Poshmark’s international thrusts are poised to generate excess returns for investors, and surmise that purportedly adjacent categories like consumer electronics, art, or pets may not be concordant with the firm’s apparel core competency.

As a slew of firms have entered the resale space, competition has arisen around exclusive access to customers, inventory assortment, and distribution channels, with long-term equilibrium remaining uncertain. Consolidation looks inevitable, particularly as the scope of those companies’ offerings see increasing overlap, commensurate with category, price point, and geographic expansion. Poshmark’s right to win hinges on its ability to convincingly answer the “why Poshmark?” query, attracting platform participants with some combination of competitive seller services, frictionless listing, quick inventory turnover, attractive fees, broad assortment, and authentication services.

Financial Strength:

Poshmark’s financial strength is viewed as sound. The firm carries no long-term debt, has $236 million in cash and cash equivalents on its balance sheet as of the third quarter of 2021, and figures to be free cash flow positive over two of the next three years. The management has adequate wiggle room to pursue moat-bolstering investments, while narrowing operating losses should provide a route to enduring profitability by our midcycle (2025) forecasts. Following its IPO, the firm’s capital structure has simplified meaningfully, retiring $50 million in convertible notes issued during the third quarter of 2020 that carried a panoply of derivative clauses. Shareholder dilution hereafter should be limited to those shares issued in the normal course of business, with approximately 8.6 million options and RSUs outstanding (just north of 11% of free float) as of the third quarter balance sheet date. Poshmark’s waterfall of investment priorities is viewed as consistent with other high growth firms: pursuing internal investments and strategic mergers and acquisitions.

Bulls Say:

  • Five straight quarters of operating profitability (ending in the third quarter of 2021) suggest a strong underlying business model once acquisition costs normalize. 
  • Early traction in Australia and Canada could augur well for long-term success in those markets. 
  • Adding APIs and analytics tools for wholesalers and liquidators could add another platform use case, while generating higher units per transaction, average order values, and fulfillment cost leverage.

Company Profile:

Poshmark is one of the largest players in a quickly growing e-commerce resale space, connecting more than 30 million users on a platform that sells men’s and women’s apparel, accessories, shoes, and more recently consumer electronics and pet products. The marketplace operates in four countries–the U.S., Canada, Australia, and India–with a capital-light, peer-to-peer model that dovetails nicely with prevailing trends toward social commerce, apparel resale, and an ongoing pivot toward the e-commerce channel. With $1.4 billion in 2020 gross merchandise volume, or GMV, we estimate that the firm captured just shy of 10% of the global resale market, as rolling lockdowns and tangled supply chains provided a meaningful impetus for channel trial during 2020 and 2021.

(Source: Morningstar)

General Advice Warning

Any advice/ information provided is general in nature only and does not take into account the personal financial situation, objectives or needs of any particular person.

Categories
Shares Technology Stocks

ResMed reported 2Q22 results reflecting strong revenue growth to US$894.9m, up +12%, or +13%

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Investment Thesis

  • Global leader in a significantly under-penetrated sleep apnea market. 
  • High barriers to entry in establishing global distribution channels. 
  • Strong R&D program ensuring RMD remains ahead of competitors.
  • Momentum in new masks releases. 
  • Bolt-on acquisitions to supplement organic growth.
  • Leveraged to a falling Australian dollar. 

Key Risks 

  • Disruptive technology leading to better patient compliance.
  • Product recall leading to reputational damage.
  • Competitive threats leading to market share loss.
  • Disappointing growth (company and industry specific).
  • Adverse currency movements (AUD, EUR, USD).
  • RMD needs to grow to maintain its high PE trading multiple. Therefore, any impact on growth may put pressure on RMD’s valuation.

Key Highlights 2Q22 Results

  • Revenue increased 12% (13% in constant currency) to US$894.9m driven by higher demand for sleep and respiratory care devices and a major product recall by one of the Company’s largest competitors. Across geographies, revenue in the Americas climbed +14%, in Europe, Asia, and other markets it increased +12%, and RMD’s software-as-a-service business saw +8% revenue growth. By product segment, globally in constant currency terms device sales increased by 16%, while masks and other sales increased by 10%.  
  • Non-GAAP operating income of $267.7m, up +5%. This equated to US$1.47 per share, up 4%.
  • Net income was up +12% to US$201.8m. 
  • Gross margin declined 230 basis points to 57.6%.
  • Diluted earnings per share was up +11% to US$1.37.
  • The Board declared quarterly dividend of US42cps. 
  • RMD’s balance remains strong with cash balance of $194m, $680m in gross debt and $496m in net debt, whilst debt levels remain modest, and the Company retains ~$1.6bn for drawdown under its existing revolver facility.

Company Profile 

ResMed Inc (RMD) develops, manufactures, and markets medical equipment for the treatment of sleep disordered breathing. The company sells diagnostic and treatment devices in various countries through its subsidiaries and independent distributors. RMD reports two main segments – Americas and Rest of the World (RoW) – with US its largest market. The company is listed on the Australian Stock Exchange (ASX) via CDIs (10:1 ratio). 

(Source: Morningstar)

General Advice Warning

Any advice/ information provided is general in nature only and does not take into account the personal financial situation, objectives or needs of any particular person.

Categories
Global stocks Shares

Paylocity Wins Amid the War for Talent and a Bounce-Back in Labor Markets

Business Strategy and Outlook:

Paylocity delivered strong second-quarter fiscal 2022 results underpinned by a continued normalization of employment levels and growing demand for solutions to attract, manage, and retain employees amid fierce competition for labor and dispersed workforces. Amid tight labor markets and an intensifying war for talent, businesses are seeking solutions to attract and retain employees, which is creating industry tailwinds for all payroll and human capital management (HCM) players. Additionally, a sustained shift to dispersed workforces in a post-COVID-19 world is driving demand for HCM software that helps employers connect and manage remote employees or employees across multiple jurisdictions. Paylocity is expected to have capitalized on these tailwinds over the quarter through the appeal of the platform’s unique complimentary collaboration features such as social collaboration platform Community, and video and survey functionality. As with payroll and HCM peers, it is expected to uptake of these features aimed at driving higher employee engagement will entrench the software further into the client’s business and strengthen the customer switching.

Paylocity’s target market has naturally skewed upmarket in recent years as the platform and its embedded modules have evolved. Recent acquisitions including software integration tool Cloudsnap in January 2022 and global payroll provider Blue Marble in September 2021 position Paylocity well to cater for the needs of larger clients. To reflect this shift, the company has formally raised the upper limit of its target client to 5,000 employees, from 1,000 employees previously. At this stage, analysts maintain our longterm forecasts and take the announcement as a formalization of the current client mix, instead of a strategic shift upmarket.

Financial Strength:

The revenue growth estimated at a compound annual growth rate of 23% over the five years to fiscal 2026, driven by mid-single-digit industry growth, market share gains, and mid-single-digit revenue per client growth on greater uptake and monetization of modules. Over the same period, operating margins are expected to increase to about 20% from 9% in a COVID-19-affected fiscal 2021. This uplift is anticipated to be driven by operating leverage from increased scale, greater uptake of high margin modules, higher interest on client funds, and operating efficiencies from increased digital sales and service. Paylocity’s revenue increased an impressive 34% on the prior year. Following strong sales activity during the quarter and robust client retention, analysts have marginally lifted their full-year revenue and adjusted EBITDA forecasts 1% and 4%, respectively, to align with updated near-term guidance. EPS is expected to increase 14% to $1.48 in fiscal 2022, before growing at a CAGR of 32% to fiscal 2031 as Paylocity continues to grow scale and achieves operating leverage. 

Company Profile:

Paylocity is a provider of payroll and human capital management, or HCM, solutions servicing small- to mid-size clients in the United States. The company was founded in 1997 and targets businesses with 10 to 5,000 employees and services about 28,750 clients as of fiscal 2021. Alongside core payroll services, Paylocity offers HCM solutions such as time and attendance and recruiting software, as well workplace collaboration and communication tools.

(Source: Morningstar)

General Advice Warning

Any advice/ information provided is general in nature only and does not take into account the personal financial situation, objectives or needs of any particular person.

Categories
Dividend Stocks Shares

Capable Hands Remain at the Helm of Magellan; Valuation Upside High as Shares Lose Steam

Business Strategy and Outlook

Magellan is an active manager of listed equities and infrastructure. The firm has a fundamental, high-conviction investment approach. Its flagship Global strategy has historically tilted toward IT, e-commerce platforms, and consumer franchises; preferring large, developed market multinationals. FUM have been attracted by consistently achieving excess returns with lower volatility and drawdowns relative to peers.

Magellan’s products are well-distributed. Its funds are featured across platforms.There is a focus on targeting retail investors, with product expansion an increasingly common driver of growth. After pioneering the first active ETF in Australia in 2015, Magellan has worked on attracting new FUM via its partnership initiatives, launching its own low-cost active ETFs, and introducing a new equity fund that caters to retirees seeking predictable income.

Morningstar analysts think Magellan has built the foundations for ongoing earnings growth, supported by its economic moat, product variety, and historically strong track record. Regardless, the potential earnings upside from these positive traits will take time to manifest. In light of Magellan’s recent underperformance, Mornigstars analysts believe a sustained improved track record will be the precursor to stronger fund inflows.

Morningstar analysts anticipate fee margin compression from investors trading down from Magellan’s core funds in preference for its low-cost ETFs, mix shift to other asset classes, and industry wide fee pressure. Continued strong performance is key to sustaining margins, as future FUM growth is likely to hinge more on market movements rather than net inflows given Magellan’s maturity and scale.

Capable Hands Remain at the Helm of Magellan; Valuation Upside High as Shares Lose Steam

Magellan has historically delivered above market returns with relatively low drawdowns. This has allowed it to rapidly scale in FUM to over AUD 93 billion and provides the foundation for continued earnings growth. While Morningstar analysts don’t believe it will be immune from the structural trend of investors moving to passive investments, ongoing competition among fund managers and major institutions in-housing their asset management, and is better placed than most active managers to address these headwinds. Magellan is moving beyond just managing money, to implementing new initiatives such as product expansion to attract new money. Morningstar analysts  believe shares are undervalued, but concur there are limited near-term earnings and share price catalysts due to recent underperformance. 

Chairman and CIO Hamish Douglass’ indefinite leave from Magellan . But morningstar analysts  don’t believe this is overly value-destructive for shareholders. In the interim, Chris Mackay and Nikki Thomas will work with Magellan’s investment team to manage its flagship Global Equity strategies. The strategies are in good hands. Mackay is Magellan’s co-founder, and was its chairman and CIO until 2012. Despite analysts’ conviction in Magellan, Morningstar’s analyst concern is not all investors may be willing to ride out this storm. Thus Morningstar analysts have lowered its fair value estimate to AUD 34.50 per share from AUD 38, after factoring in 3% more net outflows than before and further trimming our retail fee forecasts.

Financial Strength 

Magellan is in sound financial health. The firm has a conservative balance sheet with no debt, with its financial position also boosted by solid operating cash flows. As of June 30, 2021, Magellan had cash and equivalents of about AUD 212 million and financial investments with a net fair value of around AUD 453 million mainly invested in its own unlisted funds and listed shares. This should provide it with enough liquidity to cope with most market conditions. Its high dividend payout ratio of: (1) 90%-95% of the net profit after tax of its core funds management business before performance fees; and (2) annual performance fee dividend in the range of 90%-95% of net crystallised performance fees after tax reflects the capital-light nature of asset management.

Bulls Say

  • Magellan retains an intangible brand, supported by historically strong performance, which it has leveraged to hold on to client funds, attract new money and charge premium fees. 
  • Due to structural market trends and product expansion initiatives, the prospects for organic FUM growth is strong, notably from investors seeking to diversify exposure to international equities or gain a steady retirement income stream. 
  • Aside from domestic tailwinds from superannuation, Magellan’s distribution relationships in the much larger offshore markets of the U.K. and the U.S. should support growth.

Company Profile

Magellan Financial Group is an Australia-based niche funds manager. Established in 2006, the firm specialises in the management of equity and infrastructure funds for domestic retail and institutional investors. Magellan has been particularly successful in winning mandates from global institutional investors. Current FUM is split across global equities, infrastructure and Australian equities.

(Source: Morningstar)

General Advice Warning

Any advice/ information provided is general in nature only and does not take into account the personal financial situation, objectives or needs of any particular person.

Categories
Funds Funds

One of the cheapest funds tracking the broadly diversified S&P 500.

Investment Objective

Vanguard 500 Index Fund seeks to track the performance of a benchmark index that measures the investment return of large-capitalization stocks.

Approach

This broadly diversified portfolio is representative of the opportunity set in the large-blend category. It relies on the market’s collective wisdom to size its positions and enjoys low turnover as a result. It earns a High Process Pillar rating. The index pulls in stocks of the largest 500 U.S. companies that pass its market-cap, liquidity, and profitability screens.An index committee selects constituents from this eligible universe, allowing for more flexibility around index changes compared with more-rigid rules based indexes. The index committee aims to avoid unnecessary turnover, and it reconstitutes the index on an as-needed basis. The committee may temporarily deviate from these rules. It may not delete existing constituents that violate eligibility criteria until an addition to the index is warranted.The portfolio managers reinvest dividends as they are paid and use derivatives to equitize cash and keep pace with the benchmark. They have also historically used securities lending to generate additional income for the fund, which has helped tighten the fund’s tracking difference and make up for some of its annual expense ratio.

Portfolio 

Market-cap weighting allows the fund to harness the market’s collective view of each stock’s relative value, and it keeps turnover low. As of January 2022, stocks representing around 90% of the portfolio enjoy either a narrow or wide Morningstar Economic Moat Rating. This weighting scheme pushes the work of sizing positions onto the market. Over the long term, this has been a winning proposition. But the market has manic episodes from time to time. Over shorter time frames, investors’ enthusiasm for a particular stock or sector can make the portfolio top-heavy as it tilts toward recent winners. This has been the case with technology stocks in recent years. The portfolio’s top 10 holdings represented approximately 29% of its assets as of January 2022, higher than its historical average but much lower than the category average. Nonetheless, the fund is still representative of the opportunity set available to its actively managed peers in the large-blend category, and its sector and style characteristics are similar to the category average. As of December 2021, the fund was slightly overweight in tech stocks and made up the difference with a smaller allocation to industrials.

Performance 

From its inception in 2010 through January 2022, the exchange-traded share class outperformed the category average by 2.35 percentage points annualized. Its annual returns consistently ranked in the category’s better-performing half. The fund’s risk-adjusted returns also held up well against category peers, while its Sharpe ratio maintained a top-quartile ranking in the category over the trailing one-, three-, five-, and 10-year periods. Most of this outperformance can be attributed to its low cash drag and competitive expense ratio.

The portfolio tends to perform as well as its category peers during downturns while outperforming during market rallies. It captured 96% of the category average’s downside and 106% of its upside during the trailing 10 years ending in 2022. During the initial coronavirus-driven shock from Feb. 19 to March 23, 2020, the fund outperformed the category average by 9 basis points. It then bounced back faster than peers during the recovery phase from late March through December 2020, gaining 3.29 percentage points more than the category average. 

Tracking performance has been solid. Over the trailing one-, three-, five-, and 10-year periods ended January 2022, the fund trailed the S&P 500 by an amount approximating its annual expense ratio.

Top 10 Holdings

About the fund

The fund employs a “passive management”—or indexing—investment approach designed to track the performance of the Standard & Poor’s 500 Index, a widely recognized benchmark of U.S. stock market performance that is dominated by the stocks of large U.S. companies. The fund attempts to replicate the target index by investing all, or substantially all, of its assets in the stocks that make up the index, holding each stock in approximately the same proportion as its weighting in the index. The 500 Index Fund is a low-cost way to gain diversified exposure to the U.S. equity market. The key risk for the fund is the volatility that comes with its full exposure to the stock market. Because the 500 Index Fund is broadly diversified within the large-capitalization market, it may be considered a core equity holding in a portfolio.

(Source: Morningstar)

General Advice Warning

Any advice/ information provided is general in nature only and does not take into account the personal financial situation, objectives or needs of any particular person.

Categories
Shares Small Cap

Capri Has Suggested The Two Brands (Jimmy Choo and Versace), When Mature, Could Combine For Operating Profit Of $450 Million

Business Strategy and Outlook

It is probable Michael Kors lacks the brand strength (and ultimately pricing power) to provide an economic moat for Capri. Powered by store openings and retail expansion in the 2010-15 period, Michael Kors became one of the largest American handbag producers in sales and units. However, its sales have declined from peak levels due to markdowns at third-party retail, store closures, and weakness in some categories. While Capri has reduced distribution to limit discounting of its bags, competition in the American handbag market is fierce, and store closures in the region continue. Michael Kors, though, has good potential in Asia, which Bain & Company expects will compose 50% (up from 37% at present) of the worldwide luxury market by 2025. It is foreseen the brand stands to win favor with Chinese consumers, but it is not foreseen for the brand to reach Capri’s $1 billion Asia sales target (up from $448 million in fiscal 2021) in the next 10 years given its limited tenure in the region relative to Coach and others. 

Capri spent a steep $3.4 billion to purchase Jimmy Choo and Versace to boost its status as a luxury house and reduce its dependence on Michael Kors. However, it is not likely these deals have changed Capri’s no-moat status as the acquired brands have more fashion risk, less profitability, and narrower appeal than Michael Kors. Capri is investing in store remodels, store openings, and expanding the set of accessories for both Jimmy Choo and Versace, but it is not seen these efforts will yield the intended gains, particularly given the severe interruption it is probable from COVID-19. While Capri has suggested the two brands, when mature, could combine for operating profit of $450 million and account for 30% of its total, it is not probable for this to happen until the end of this decade.

Financial Strength

Capri has debt, but it is seen as it is very manageable. The firm took on significant debt to fund its Jimmy Choo and Versace acquisitions, which came with a combined price tag of $3.4 billion. At the end of December 2021, it had total short- and long-term debt of $1 billion, but it also had more than $261 million in cash and $1 billion in available borrowing capacity. Moreover, during the COVID-19 crisis, it amended its revolving and term loan credit agreement so that most of its term loan that was due in December 2020 was extended to December 2023. Thus, Capri has no significant debt maturities prior to 2023. The firm’s debt/adjusted EBITDA was a very manageable 2.3 at the end of fiscal 2021, and it is foreseen this will fall to 0.8 at the end of fiscal 2022 on greater EBITDA and debt reduction. Capri has resumed share repurchases, which were suspended during the pandemic. The firm averaged more than $500 million in annual buybacks in fiscal 2015-20. It is now foreseen its share repurchases at an annual average of about $740 million over the next decade. However, Capri does not pay dividends.Capri plans to open new stores and remodel existing stores for all three of its brands, although these efforts stalled in fiscal 2020 due to COVID-19. Analysts forecast its fiscal 2022 capital expenditures will rise to $205 million (3.7% of sales) from just $111 million (2.7% of sales) last year. Long term, Analysts forecast Capri’s annual capital expenditures as a percentage of sales at 4.1% as management works to improve the performance at Jimmy Choo and Versace.

Bulls Say’s

  • Michael Kors is one of the largest brands in terms of units and sales in the high-margin handbag market, and it is likely, this positioning should aid its prospects as it looks to grow in complementary categories like footwear. 
  • Michael Kors has reduced its dependence on wholesale customers, which is viewed favorably as increased direct-to-consumer sales allow for better pricing and control over marketing. 
  • The acquisitions of Jimmy Choo and Versace afford diversification opportunities by bringing two luxury brands that maintain products with high price points into the fold.

Company Profile 

Michael Kors, Versace, and Jimmy Choo are the brands of Capri Holdings, a marketer, distributor, and retailer of upscale accessories and apparel. Kors, Capri’s largest brand, offers handbags, footwear, and apparel through more than 800 company-owned stores, wholesale, and e-commerce. Versace (acquired in 2018) is known for its ready-to-wear luxury fashion, while Jimmy Choo (acquired in 2017) is best known for women’s luxury footwear. John Idol has served as CEO since 2003 but will be replaced in the position by Joshua Schulman in late 2022. (Source: MorningStar)

General Advice Warning

Any advice/ information provided is general in nature only and does not take into account the personal financial situation, objectives or needs of any particular person.

Categories
Global stocks Shares

Grainger Shows Strong End Market Growth to Close out 2021; but We See Shares as Still Overvalued

Business Strategy and Outlook

W.W. Grainger operates in the highly fragmented maintenance, repair, and operating product distribution market, where its over $13 billion of sales represents only 6% global market share (the company has 7% share in the United States and 4% in Canada). The growing prevalence of e-commerce has intensified the competitive environment because of more price transparency and increased access to a wider array of vendors, including Amazon Business, which has entered the mix. As consumer preference began to shift to online and electronic purchasing platforms, Grainger invested heavily in improving its e-commerce capabilities and restructuring its distribution network. It is the now the 11th-largest e-retailer in North America; it shrank its U.S. branch network from 423 in 2010 to 287 in 2020 and added distribution centres in the U.S. to support the growing amount of direct-to-customer shipments. Still, the company had work to do on its pricing. Grainger historically relied on a pricing model that applied contractual discounts to high list prices. Leading up to 2017, though, this model made it difficult to win new business. To address this problem, Grainger rolled out a more competitive pricing model. Lower prices hurt gross profit margins, but volume gains, especially among higher-margin spot buys and midsize accounts, have offset price reductions and helped the company meet its 12%-13% operating margin goal by 2019 (12.1% adjusted operating margin in 2019.

Grainger continues to expand its endless assortment strategy, albeit skeptical of the margin expansion opportunity for this business, given strong competition in the space from the likes of Amazon Business and others. Still, Grainger has distinct competitive advantages in its traditional business, such as its long-standing relationships with large customers and its inventory management solutions, which should help it earn excess returns over the next 10 years.

Financial Strength

As of the fourth quarter of 2021, Grainger had $2.4 billion of debt outstanding, which net of $241 million of cash, represents a leverage ratio of about 1.2 times our 2022 EBITDA estimate. Grainger’s leverage ratio is relatively conservative for the industry, in our view. We believe the company certainly has room to increase leverage if needed, but management looks to be committed to keeping its net leverage ratio between 1-1.5 times. Grainger’s outstanding debt consists of $500 million of 1.85% senior notes due in 2025, $1 billion of 4.6% senior notes due in 2045, $400 million of 3.75% senior notes due in 2046, and $400 million of 4.2% senior notes due in 2047.Grainger has a proven ability to generate free cash flow throughout the cycle. Indeed, it has generated positive free cash flow every year since 2000, and its free cash flow generation tends to spike during downturns because of reduced working capital requirements. By our midcycle year, we forecast the company to generate over $1 billion in free cash flow, supporting its ability to return free cash flow to shareholders. Given the firm’s reasonable use of leverage and consistent free cash flow generation, we believe Grainger exhibits strong financial health.

Bulls Say’s

  •  With a more sensible, transparent pricing model, Grainger should continue to gain share with existing customers and win higher-margin midsize accounts. 
  • As a large distributor with national scale and inventory management services, Grainger is well positioned to take share from smaller regional and local distributors as customers consolidate their MRO spending. 
  • Grainger operates a shareholder-friendly capital allocation strategy; it has increased its dividend for 49 consecutive years and has reduced its diluted average share count by nearly 45% over the last 20 years.

Company Profile 

W.W. Grainger distributes 1.5 million maintenance, repair, and operating products that are sourced from over 4,500 suppliers. The company serves about 5 million customers through its online and electronic purchasing platforms, vending machines, catalog distribution, and network of over 400 global branches. In recent years, Grainger has invested in its e-commerce capabilities and is the 11th-largest e-retailer in North America.

 (Source: MorningStar)

General Advice Warning

Any advice/ information provided is general in nature only and does not take into account the personal financial situation, objectives or needs of any particular person.