Category: Shares

Business Strategy and Outlook

Dr. Reddy’s Laboratories is a global pharmaceutical company based in Hyderabad, India. It manufactures and markets generic drugs and active pharmaceutical ingredients in markets across the world, but predominantly in the United States, India, and Eastern Europe. Indian pharmaceutical manufacturers have seen success over the past decade in penetrating the U.S. market, where regulatory hurdles are lower than in Western Europe. With competition on price in a commodified space, the entry of low-cost manufacturers has facilitated a deflationary price environment for generic drugs since 2015, putting substantial pressure on the margins of established manufacturers. Conversely, in India and other countries with lower generics adoption, so-called “branded” generics have seen notable success. 

Generic manufacturers have taken different approaches to combat margin pressure over the past few years. While some manufacturers have addressed competition by rationalizing their U.S. portfolio and discontinuing low-margin or unprofitable drugs, Dr. Reddy’s has remained focused on expanding its U.S. market share. While its U.S. portfolio has experienced marginally higher deflation compared with peers, its pipeline is increasingly leaning toward injectables and other complex generics that command higher margins and exhibit relatively more price stability.

Financial Strength

Overall, Dr. Reddy’s reported a relatively uneventful third quarter, with higher revenue across the board largely due to new product launches and market share gain. The company’s revenue grew 8% to INR 53.2 billion ($715 million) on a year-over-year basis driven by new product launches and higher sales volumes in the global generics business. North America generics, which represents the largest share of company revenue (35%), was positively affected during the quarter by launches for four new products but negatively impacted by erosion within in generic drug portfolio. On a sequential basis, revenue fell 8%, largely due to price erosion in generics and reduction of volume of COVID-19-related products.

As of the fourth calendar quarter of 2021, Dr. Reddy’s holds gross debt of INR 28 billion ($370 million), which is more than offset by the cash on the company’s balance sheet. With very low leverage, the company faces little liquidity risk. This compares favorably with other global generic manufacturers like Teva and Viatris, which are saddled with high leverage as a result of an aggressive acquisition strategy over the past decade. The company pays an annual dividend of $0.34 per share, which translates to a dividend yield of under 1%.

Bulls Say’s 

• Dr. Reddy’s low-labor-cost operations based in India and vertical integration likely provide a low-cost edge. 
• In the U.S. and Russia, Dr. Reddy’s has grown quickly in OTC generics, which is an attractive segment of the market with slightly higher barriers to entry than conventional retail pharmacy drugs. 
• Dr. Reddy’s strong branded generic presence in emerging markets provides significant growth opportunities with less price competition than typically seen in developed markets.

Company Profile 

Headquartered in India, Dr. Reddy’s Laboratories develops and manufactures generic pharmaceutical products sold across the world. The company specializes in low-cost, easy-to-produce small-molecule generic drugs and active pharmaceutical ingredients. Its drug portfolio in recent years has included biosimilar drug launches in select emerging markets and has shifted toward injectables and more complex generic products. Geographically, the company’s sales are well dispersed across North America, India, and other emerging markets. 

(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.

Business Strategy and Outlook

Caterpillar will continue to be the leader in the global heavy machinery market, providing customers an extensive product portfolio consisting of construction, mining, energy, and transportation products. For nearly a century, the company has been a trusted manufacturer of mission-critical heavy machinery, which has led to its position as one of the world’s most valuable brands. Caterpillar’s strong brand is underpinned by its high-quality, extremely reliable, and efficient products. Customers also value Caterpillar’s ability to lower the total cost of ownership. 

The company’s strategy focuses on employing operational excellence in its production process, expanding customer offerings, and providing value-added services to customers. Since 2014, Caterpillar has taken steps to reduce structural costs and its fixed asset base by implementing cost management initiatives and by either closing or consolidating numerous facilities, reducing its manufacturing floorspace considerably. Over the past decade, the company has continually released new products and upgraded existing product models to drive greater machine efficiency. Customers also rely on the services that Caterpillar provides, for example, machine maintenance and access to its proprietary aftermarket parts. Furthermore, its digital applications help customers interact with dealers, manage their fleet, and track machine performance to determine when maintenance is needed. 

Caterpillar has exposure to end markets that have attractive tailwinds. On the construction side, the company will benefit from legislation aimed at increasing infrastructure spending in the U.S. The country’s road conditions are in poor condition, which has led to pent-up road construction demand. In energy, the improvement in the price of oil since COVID-19 lows will encourage exploration and production companies to increase oil and gas capital expenditures, leading to increased sales of Caterpillar’s oil-well-servicing products. That said, it is believed mining markets will have limited upside, as fixed-asset investment growth in China starts to slow, likely capping commodity price upside.

Financial Strength

Caterpillar maintains a sound balance sheet. On the industrial side, the net debt/adjusted EBTIDA ratio was relatively low at the end of 2021, coming in at 0.2. Total outstanding debt, including both short- and long-term debt was $9.8 billion. Caterpillar’s strong balance sheet gives management the financial flexibility to run a balanced capital allocation strategy going forward that mostly favours organic growth and returns cash to shareholders. In terms of liquidity, the company can meet its near-term debt obligations given its strong cash balance. The company’s cash position as of year-end 2021 stood at $8.4 billion on its industrial balance sheet. It is comforting to find comfort in Caterpillar’s ability to tap into available lines of credit to meet any short-term needs. Caterpillar has access to $10.9 billion in credit facilities for the consolidated business (including financial services), of which, $2.9 billion is available to the industrial business. Caterpillar’s focus on operational excellence in its industrial operations and improved cost base has put the company on better footing when it comes to free cash flow generation throughout the economic cycle. The company can generate $6 billion in free cash flow in our midcycle year, supporting its ability to return nearly all its free cash flow to shareholders through dividends and share repurchases. The captive finance arm holds considerably more debt than the industrial business, but this is reasonable, given its status as a lender to both customers and dealers. Total debt stood at $28 billion in 2021, along with $27 billion in finance receivables and $826 million in cash. In our view, Caterpillar enjoys a strong financial position supported by a clean balance sheet and strong free cash flow prospects.

Bulls Say’s

• Increased infrastructure spending in the U.S. and emerging markets will lead to more construction equipment purchases, substantially boosting Caterpillar’s sales growth. 
• Higher fixed-asset investment growth in China strengthens support for increased investment in mining capital expenditures, benefiting Caterpillar. 
• A continued recovery from the temporary demand shock in oil prices will lead to increased oil and gas capital expenditures, leading to more engine, transmission, and pump sales for Caterpillar.

Company Profile 

Caterpillar is an iconic manufacturer of heavy equipment, power solutions, and locomotives. It is currently the world’s largest manufacturer of heavy equipment with over 13% market share in 2021. The company is divided into four reportable segments: construction industries, resource industries, energy and transportation, and Caterpillar Financial Services. Its products are available through a dealer network that covers the globe with over 2,000 branches maintained by 168 dealers. Caterpillar Financial Services provides retail financing for machinery and engines to its customers, in addition to wholesale financing for dealers, which increases the likelihood of Caterpillar product sales.

(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.

Business Strategy and Outlook:

Celanese is the world’s largest producer of acetic acid and its chemical derivatives, including vinyl acetate monomer and emulsions. These products are used in the company’s specialized end products and also sold externally. Celanese produces the chemical in its core acetyl chain segment (roughly 70% of 2021 EBITDA), which primarily serves the automotive, cigarette, coatings, building and construction, and medical end markets. It produces acetic acid from carbon monoxide and methanol, a natural gas derivative. Celanese produces its own methanol at its Clear Lake, Texas, plant, which benefits from access to low-cost U.S. natural gas. The company recently announced that it will expand acetic acid production capacity at Clear Lake by roughly 50%, which should benefit segment margins thanks to lower average unit production costs

The engineered materials segment (around 25% of 2021 EBITDA) produces specialty polymers for a wide variety of end markets. The automotive industry accounts for the largest portion at around one third of segment revenue; other key end markets include construction and medical devices. This segment uses acetic acid, methanol, and ethylene to produce specialty polymers. Celanese and other specialty polymer producers have benefited in recent years from automakers light weighting vehicles, or replacing small metal pieces with lighter plastic pieces. Celanese should also benefit from increasing electric vehicle and hybrid adoption, as the company makes battery separator components.

Financial Strength:

Celanese is currently in excellent financial health. As of Dec. 31, 2021, the company had around $4 billion in debt and $0.5 billion in cash. Celanese is undergoing a portfolio transformation, exiting legacy joint venture deals and acquiring new assets to increase its engineered materials portfolio, such as the Santoprene business from ExxonMobil, which resulted in slightly higher debt. However, it is generally expected that the company’s balance sheet and leverage ratios to remain healthy as Celanese should generate enough free cash flow to meet its financial obligations. The cyclical nature of the chemicals business could cause coverage ratios to fluctuate from year to year. However, Celanese should still generate positive free cash flow well in excess of dividends.

Bulls Say:

• Celanese built out its core acetic acid production facilities at a significantly lower capital cost per ton than its competitors thanks to the scale of its facilities (1.8 million tons versus average 0.5 million tons).
• Celanese should benefit from producing an increasing proportion of its acetic acid in the U.S. to take advantage of low-cost natural gas. 
• The engineered materials auto business should grow more quickly than global auto production because of greater use of these products in each vehicle.

Company Profile:

Celanese is one of the world’s largest producers of acetic acid and its downstream derivative chemicals, which are used in various end markets, including coatings and adhesives. The company also produces specialty polymers used in the automotive, electronics, medical, and consumer end markets as well as cellulose derivatives used in cigarette filters.

(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.

Business Strategy and Outlook

Rollins’ strategy aims to further reinforce the density benefits afforded to its market-leading operations in the highly localized pest-control services markets, which it competes in, across North America. Ever-improving unit costs are offered by economies of density in each regional market in which Rollins operates. Rollins seeks to continue to amass these benefits via organic growth and continued focus on tuck-in acquisitions aimed at rolling up the fragmented North American pest-control service market. Recent investments in route optimization technology exemplify Rollins’ cost-out strategy, the continued roll-out of which is likely to widen EBIT margins. 

A sustainable cost advantage has accrued to Rollins as result of execution of the business’ strategy, leading to our wide-moat designation. Pest-control acquisitions and continuing focus on cost-out initiatives are key to the strategy. Nonetheless, Rollins remains equally focused on the defense of its leading North American market positions, noting the loss of customers quickly unwinds the operating-margin-widening benefits of density. Rollins requires annual training of all of pest-control technicians, while also limiting its own organic market share gains to maintain strong service levels and customer satisfaction.

Financial Strength

Rollins’ typically conservative balance sheet is in good health, sitting in a net debt position of $50 million at the end of 2021, or 0.1 times net debt/EBITDA. Rollins takes a highly prudent approach to the use of debt, typically using it only to act opportunistically when a quality acquisition target is in play and using subsequent operating cash flow to promptly retire debt. Alternatively, returning surplus capital to shareholders could also be considered. Rollins maintains $425 million in debt facilities, which provide the group with an additional source of liquidity. The facilities carry a leverage covenant of 3.0 times net debt/EBITDA and matures in April 2024.

Wide-moat Rollins capped off an already impressive 2021 performance with a strong fourth-quarter showing. 2021 adjusted EBITDA of $546 million tracked 2% ahead of our full-year expectations. On a constant-currency basis, full year organic sales grew at an elevated 8.7%, aligning with our expectations for a strong cyclical recovery in pest control demand in 2021. Tuck-in acquisitions added 2.7% in additional top-line growth in 2021 and drove the business’ modest outperformance relative to our revenue and earnings forecasts. Otherwise, Rollins’ late 2021 performance tracked in line with our long-term expectations for the U.S. pest control industry leader. 

Bulls Say’s 

• The recent uptick in capital allocated to tuck-in acquisitions is likely to continue, supporting economies of scale and boosting operating margins. 
• Phase 2 of the route optimization technology rollout looks to further widen Rollins’ EBIT margin. 
• Increasing per-capita spending on pest control should support Rollins’ organic growth at a mid-single-digit clip.

Company Profile 

Rollins is a global leader in route-based pest-control services, with operations spanning North, Central and South America, Europe, the Middle East and Africa and Australia. Its portfolio of pest-control brands includes the prominent Orkin brand, market leader in the U.S.–where it boasts near national coverage–and in Canada. Residential pest and termite prevention predominate the services provided by Rollins, owing to the group’s ongoing focus on U.S. and Canadian markets. 

(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.

Business Strategy and Outlook:

Since 2013, Abbott has continued to improve the profitability of its four segments: nutritionals, devices, diagnostics, and established pharmaceuticals. Although the company has made progress over the last nine years, it still lags key rivals on profitability measures despite competing in businesses that are characterized by attractive margins. Abbott’s efforts to improve efficiency, including streamlining its distribution channels and building facilities in lower-cost locations like China and India, have demonstrated some success. But there is still room for improvement as we look at the company’s consolidated profitability.

As with all medtech companies, Abbott’s big challenge, over the longer term, is to fuel innovation. The bar for securing reimbursement for new technology has risen as payers have become more stringent about clinical data before committing to payment. While Abbott has seen recent success with FreeStyle Libre, we’re less impressed with its historical record on new product launches. Compared with key medical device competitors, including Boston Scientific, Medtronic, and Edwards Lifesciences, Abbott hasn’t cultivated similar revolutionary advancements. The firm’s forte seems to focus on incremental improvements to the existing technology platforms it has acquired over the last 15 years.

Financial Strength:

The fair value estimate of Abbott remains same at $104 per share, which assumes rapid diagnostics revenue will decline by 23% in 2022 as COVID-19 transitions to an endemic disease. That decline will be offset by ongoing recovery in non-pandemic procedure volume, and Abbott’s latest new product launches, including Amplatzer Amulet for left atrial appendage closure.

Abbott’s balance sheet is a pillar of strength and can weather the COVID-19 crisis with ease. The large acquisitions of St. Jude Medical and Alere increased leverage, and Abbott enjoyed relatively less financial flexibility during 2016-17 but remained steady enough to meet its debt obligations and continued to raise its dividend. More recently, Abbott’s debt/EBITDA has hovered just over 2 times, which reflects the firm’s ability to generates $4 billion-$5 billion in annual free cash flow, and closer to $7 billion thanks to the COVID-19 windfall. This also means Abbott can handily engage in more tuck-in acquisitions while also supporting sizable increases in its dividend.

Bulls Say:

• Abbott has been investing in structural heart products and recently entered the left atrial appendage closure market. 
• Early results from an investigational clinical trial on the Tendyne transcatheter mitral valve were favorable. If the pivotal trial results are favorable, this could give a boost to Abbott’s structural heart unit. 
• Abbott’s sale of its established pharma business in developed markets to Mylan and its acquisition of CFR and Veropharm have put the branded generics business in a strong position to benefit from growing demand in emerging markets.

Company Profile:

Abbott manufactures and markets medical devices, adult and pediatric nutritional products, diagnostic equipment and testing kits, and branded generic drugs. Products include pacemakers, implantable cardioverter defibrillators, neuromodulation devices, coronary stents, catheters, infant formula, nutritional liquids for adults, molecular diagnostic platforms, and immunoassays and point-of-care diagnostic equipment. Abbott derives approximately 60% of sales outside the United States

(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.

Business Strategy and Outlook

International Flavors & Fragrances is a global leader in the specialty ingredients space. The company has grown rapidly via acquisition, having added DuPont’s nutrition and biosciences business in 2021 and Frutarom in 2018. IFF holds an enviable asset portfolio focused on value-added products used in food and beverages, fragrances, personal care, enzymes, probiotics, and pharmaceuticals. Its legacy business operated in the $20 billion-plus flavors and fragrances industry with a roughly 25% market share. Key competitors include Givaudan (25%), Firmenich (16%), and Symrise (12%). These four flavor and fragrance companies command roughly three fourths of the global market. IFF’s products affect the desired taste, smell, or mouth feel based on customer specifications.

IFF has four reporting segments divided by end market. Nourish is the largest segment, which generates a little over half of revenue. This segment holds IFF’s legacy taste segment and DuPont’s ingredients business, including plant-based protein formulations and other vital ingredients like texturants and emulsifiers.

Health and biosciences, which generates a little over 20% of revenue, is mostly the legacy Danisco industrial enzymes and cultures (probiotics) businesses. IFF has a roughly 20% share in both the enzymes market and the cultures market. 

The scent segment, consisting of IFF’s legacy fragrances business, generates a midteens percentage of revenue. IFF’s smallest component is pharma solutions, producing inactive ingredients such as excipients (pill binders) and time-release polymers.

 Proprietary formulations are critical drivers of revenue growth. For example, rather than supplying simple flavor solutions, IFF can deliver innovative solutions that modulate the consumer experience. These “fine-tuning” solutions can reduce costs for customers, allowing for the use of cheaper ingredients, extend a product’s shelf life, or add probiotic nutrition. Additionally, the company’s offerings help customers remove undesirable content (fat, sugar, and sodium) from a product without sacrificing the consumer experience.

Financial Strength

IFF has an elevated debt level, thanks to the roughly $10 billion in debt that the company raised to fund the DuPont nutrition and biosciences and Frutarom acquisitions. As of Sept. 30, 2021, total debt was a little over $11.5 billion and the company held roughly $0.8 billion in cash and cash equivalents. Management reported a net financial debt/adjusted EBITDA ratio of 4.1 times as of Sept. 30, 2021. However, management plans to use excess cash flow to repay debt, toward the goal of achieving a net debt/EBITDA ratio of less than 3 times by early 2024, or 36 months after the DuPont nutrition and biosciences acquisition closed. While IFF will carry elevated leverage, its indebtedness should prove manageable, given the relatively stable cash flows we expect the company to generate. Further, IFF is undergoing a portfolio review to divest noncore assets as a way to accelerate debt reduction, such as the microbial control divestiture in 2022 for $1.3 billion. As such, we believe IFF should be able to meet all of its financial obligations, including dividends, pensions, and postemployment benefit liabilities.

Bulls Say’s

•  As the largest specialty ingredients producer globally, IFF holds an enviable portfolio of market-leading products spanning multiple industries.
• The company is well positioned to capitalize on further growth in developing markets, where it generates the most sales.
• IFF’s high R&D spending (around 6% of sales) acts as a barrier to entry, underpins innovation, and promotes future growth

Company Profile 

International Flavors & Fragrances produces ingredients for the food, beverage, health, household goods, personal care, and pharmaceutical industries. The company makes proprietary formulations, partnering with customers to deliver custom solutions. The nourish segment, which generates roughly half of revenue, is a leading flavour producer and also sell texturants, plant-based proteins, and other ingredients. The health and biosciences business, which generates around one fourth of revenue, is a global leader in probiotics and enzymes. IFF is also one of the leading fragrance producers in the world. The firm also sells pharmaceutical ingredients such as excipients and time-release polymers.

(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.

Business Strategy and Outlook

American Airlines is the largest U.S.-based carrier by capacity. Before the coronavirus pandemic, much of the company’s story was based on realizing cost efficiencies from its transformational 2013 merger with U.S. Airways and strengthening the firm’s hubs to expand margins. While we think that American Airlines has done a good job at limiting unit cost increases, we note that the firm lagged peers in unit costs over the previous aviation cycle. Management sees the pandemic crisis as an opportunity to structurally improve the firm’s cost position relative to peers.

In the leisure market, it is expected low-cost carriers to prevent American Airlines from increasing yields with inflation. American’s basic economy offering effectively serves the leisure market, it is not expected that the firm to thrive in this segment. A leisure-led recovery in commercial aviation is anticipated, reflecting customers being more willing to visit friends and family and vacation in a pandemic than they are to go on business travel.

American Airlines will participate in the recovery of business and international leisure travel after a vaccine for COVID-19 becomes available. It is suspected that a recovery in business travel will be critical for American, as the firm’s high-margin frequent-flier program is closely tied to business travel. Business travellers will often use miles from a co-branded credit card to upgrade flights when their company is unwilling to pay a premium price. Banks pay top dollar for frequent-flier miles, which gives American a high-margin income stream.

The COVID-19 pandemic has presented airlines with the sharpest demand shock in history, and many of our projections are based on our assumptions around how illness and vaccinations affect society. We’re expecting a full recovery in capacity and an 80%-90% recovery in business travel that subsequently grows at GDP levels over the medium term.

Financial Strength

American is the most leveraged U.S.-based major airline due to its fleet renewal program and from the COVID-19 pandemic. As the pandemic has wreaked havoc on air travel demand and airlines’ business model, liquidity has become more important in 2020 than in recent years. American Airlines, more than peers, increased leverage, and diluted equity during the COVID-19 pandemic. We think American Airlines’ comparably higher financial leverage will make it difficult for the firm to maneuver going forward, and that management will have few capitals allocation options other than deleveraging post-pandemic. American Airlines came into the crisis with considerably more debt than peers, with gross debt to EBITDA sitting at roughly 4.5 times in 2019. American ended 2021 with $38.1 billion of debt and $13.4 billion of cash. It is expected that American Airlines will use incremental free cash flow to deleverage after the crisis. We anticipate EBITDA expansion and debt reductions will reduce gross debt/EBITDA to roughly two to three turns in the 2025-26 timeframe. The firm has $2.6 billion of debt coming due in 2022, and we expect that the firm will use cash on the balance sheet to pay the debt.

Bulls Say’s

• American Airlines has the youngest fleet among U.S. major airlines, which should dampen fuel expense and maintenance going forward.
• American Airlines has largely completed its fleet renewal, which should decrease capital expenditures going forward.
• Leisure travellers are becoming more comfortable with flying during the COVID-19 pandemic

Company Profile

American Airlines is the world’s largest airline by scheduled revenue passenger miles. The firm’s major hubs are Charlotte, Chicago, Dallas/Fort Worth, Los Angeles, Miami, New York, Philadelphia, Phoenix, and Washington, D.C. After completing a major fleet renewal, the company has the youngest fleet of U.S. legacy carriers.

(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.