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L’Oreal third-quarter sales increasing fair value estimate to Euro$ 233 from Euro$225

Across the globe, per capita consumption of beauty products is on the rise, driven by a steady gain in the purchasing power of the middle class, particularly in emerging markets where L’Oréal sourced 48% of 2020 revenue. Consumers in Eastern Europe and Latin America spend one third of the level that developed market consumers spend on beauty, while consumers in Asia and the Middle East spend only 20%. One trait of L’Oréal that sets it apart from its peers is its wide-reaching, well-balanced portfolio across mass, prestige, salon, and medical/dermatological channels. 

The firm is adept at pivoting resources to the best opportunities, helping stabilize sales. During the pandemic, L’Oréal allocated resources to the most resilient channels (e-commerce, dermatological), categories (skincare) and geographies (China), allowing it to greatly outperform the market. In 2020, L’Oréal’s like-for-like sales contracted just 4% despite the widespread closure of stores and salons, half that of the 8% drop of the global beauty market. This diversification has also served it well in recessionary climates. Heading into the great recession of 2008 and 2009, L’Oréal was reporting high-single-digit revenue growth. In 2008 and 2009, revenue decelerated to 2.8% and negative 0.4%, respectively, before rebounding to 11.6% in 2010.

Financial Strength

After digesting L’Oreal’s third-quarter sales, increasing fair value estimate to EUR 233 from EUR 225 to account for material outperformance in the professional and active cosmetics segments. After a 4% drop in like-for-like sales in 2020, as salons and most retailers were closed for a portion of the year because of the pandemic, organic revenue will rebound 14% in 2021, then normalize at a mid-single-digit pace thereafter. L’Oréal traditionally carries a very low level of debt, generally less than cash on hand. The business generates a significant amount of cash, and as such, internally generated cash flow has been sufficient to fund the business’ needs. 

Over the past three years, free cash flow (cash flow from operations less capital expenditures) as a percentage of sales averaged 17%, comparable to our 16% average annual expectation over the next five years. The company prides itself on its long history of annual dividend increases, which will persist with the exception of 2020 due to the pandemic, with our model calling for high-single-digit increases in annual dividends in 2021 and thereafter, maintaining a 50% payout ratio throughout the course of our 10-year explicit forecast. The firm to spend 4.5% of sales on capital expenditures each year, generally in line with the historical average.

Bulls Say’s

  • With 48% of revenue sourced from emerging markets, L’Oréal is ideally positioned to benefit from growth of the expanding middle class.
  • L’Oréal is the only beauty company with exposure across mass, prestige, professional, and medi-spa, and the firm’s leading positions in these channels make L’Oréal a valued partner for retailers.
  • L’Oréal has a strong management team with an excellent track record for competently executing the firm’s strategy, which has led to its defensible competitive edge, stability of earnings given diverse market exposure, and consistent ROICs above WACC.

Company Profile 

L’Oréal, founded in 1909 by Eugene Schueller when he developed the first harmless hair colorant, is the world’s largest beauty company. It participates primarily in skincare (39% of 2020 revenue), makeup (21%), haircare (26%), and fragrance (9%). L’Oréal is a global firm, with 27% of its revenue sourced from Western Europe, 25% from North America, and 48% from emerging markets (35% Asia-Pacific, 5% Latin America, 6% Eastern Europe, and 2% Africa/Middle East). The firm sells its products in many channels, including mass retail, drugstores/pharmacies, department stores/perfumeries, hair salons, medi-spas, branded freestanding stores, travel retail, and e-commerce. The firm’s top selling brands are Lancôme, Yves Saint Laurent, Maybelline, Kiehl’s, L’Oréal Paris, Garnier, and Armani.

(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.

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Global stocks

Southwest targeting higher-yielding business travellers to continue growing

Southwest’s customer-friendly tactics benefit the firm by providing the closest thing to a brand asset in the airline industry, and the fact that over 85% of Southwest’s sales are through its own distribution channel, where prices among carriers are difficult to compare- other carriers have a higher reliance on third-party distributors to earn customers.

Southwest is targeting higher-yielding business travellers to continue growing. The pandemic has severely limited business travel, and the cyclical decline in business travel is expected to be longer-lasting. While we expect a structural lack of transoceanic routes and premium options to limit Southwest’s ability to attract the highest-yielding business travellers, we think Southwest’s focus on providing low fares and its relatively new global distribution system, which enables bulk purchases of reservations, ought to allow it to take business travel share while business travellers are looking to cut costs.

Financial Strength:

Southwest has the best balance sheet of all the U.S.-based carriers. As the pandemic has wreaked havoc on air travel demand and airlines’ business model, liquidity became more paramount in 2020 than it had been in previous years. The primary risks to airline investors are increased leverage and equity dilution as airlines look to bolster solvency while demand is depressed. The best-positioned airlines are firms like Southwest, which came into this crisis with relatively little debt and an efficient cost base. Southwest came into the crisis much more conservatively capitalized than peers, with a gross debt/EBITDA of less than 1 turn from 2014 to 2019. Southwest ended 2020 with about $10 billion of debt and negative EBITDA. Given Southwest’s lower-than-peers debt yields and a $12 billion base of unencumbered assets, capital markets would remain comfortable with Southwest and would allow the company to raise additional capital if the crisis gets materially worse.

Bulls Say:

  • Southwest operates a leisure-focused low-cost carrier, which is well-positioned for a leisure-led post pandemic recovery in aviation. 
  • Southwest has generally been able to achieve low-cost carrier unit expenses and passenger yields close to legacy carrier levels. 
  • Southwest’s focus on providing low fares could allow it to make inroads with business travel in the current recessionary environment.

Company Profile:

Southwest Airlines is the largest domestic carrier in the United States, as measured by the number of originating passengers boarded. Southwest operates over 700 aircraft in an all-Boeing 737 fleet. Despite expanding into longer routes and business travel, the airline still specializes in short-haul leisure flights, using a point-to-point network. Southwest operates a low-cost carrier business model.

(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.

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Global stocks Shares

Supply Chain Disruptions Pressure Graco’s Margins

The company differentiates itself by manufacturing specialized products that handle difficult-to-move liquids, often used for niche applications where competition is limited. 

 Graco’s relentless cost control and commitment to lean manufacturing allow it to leverage shared components across different product lines to operate its plants efficiently and lower the overall cost of its products. The high-mix, low-volume nature of the business and the relatively small size of many niche end markets act as a barrier to entry, as rivals would struggle to establish the scale needed to challenge Graco’s competitive position.

While Graco is a high-quality business protected by a wide economic moat, the main challenge is generating growth, as the firm mostly competes in mature end markets growing at low-single-digit rates. Historically, Graco’s organic growth rate has outpaced GDP growth because of its commitment to research and development, which has allowed the company to generate additional sales by developing new products, penetrating adjacent markets, and capturing market share from competitors. 

We think that Graco can continue to increase sales 100-200 basis points faster than GDP growth thanks to its strategic initiatives, and we project mid-single-digit average organic sales growth over the next five years.

Demand Remains Strong but Supply Chain Issues Pressure Graco’s Third-Quarter Margins

Margins were adversely affected by supply chain interruptions and cost inflation, especially in the contractor segment. 

Graco’s third-quarter sales were up 9% year over year. While demand remains robust, supply chain constraints persist and continue to pressure margins for the remainder of the year. Graco’s third-quarter gross margins compressed 110 basis points year over year due to higher product costs, including material, labor, and freight. Graco implements price increases on an annual basis, so cost inflation will likely remain a headwind in the fourth quarter. However, Graco, affords the firm strong pricing power because of customer switching costs and intangible assets .

Financial Strength

Graco maintains a healthy balance sheet. The company ended 2020 with $150 million in long-term debt while holding approximately $379 million in cash and equivalents. Debt maturities are reasonably well laddered over the next few years, with no major payments due in 2021, and we believe the firm is adequately capitalized to meet its debt obligations and maintain its dividend. Management has indicated that it will prioritize organic growth, M&A opportunities, and increasing the dividend while allocating excess capital to opportunistic share repurchases. 

Bulls Say

  • Graco has a large installed base and leading market share across a wide range of niche products.
  • Graco has a healthy level of recurring revenue, generating roughly 40% of its sales from aftermarket parts and accessories, which reduces the volatility of its earnings from cyclical end markets. 
  • The company generates strong free cash flows, averaging around 17% of revenue over the last decade.

Company Profile

Graco manufactures equipment used for managing fluids, coatings, and adhesives, specializing in difficult-to-handle materials. Graco’s business is organized into three segments: industrial, process, and contractor. The Minnesota-based firm serves a wide range of end markets, including industrial, automotive, and construction, and its broad array of products include pumps, valves, meters, sprayers, and equipment used to apply coatings, sealants, and adhesives. The firm generated roughly $1.7 billion in sales and $410 million in operating income in 2020.

(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.

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Dividend Stocks Shares

Snap-on Continues to Benefit From Strengthening Vehicle Repair Demand

a strong brand reputation among repair professionals. Customers value Snap-on’s high-quality and strong performing products, in addition to its high-touch mobile van network. 

The company’s strategy focuses on providing technicians, shop owners, and dealerships a full line of products, ranging from tools to diagnostic and software solutions. Increasing vehicle complexity will be a tailwind for diagnostic sales as auto manufacturers are already tapping the company to develop new tools to service new EV models. We think repair work will shift away from engines to batteries, sensors, wiring, and advanced driver assistance systems. 

Snap-on has exposure to end markets that have attractive tailwinds. In automotive, we think demand for vehicle repair work will be strong in the near term, largely due to vehicle owners taking in their cars for overdue servicing. Additionally, we believe the high average age of vehicles will support demand for repair work to keep them on the road. On the commercial and industrial side, end markets are starting to pick up in activity; which we think means an increase in repair work for heavy-duty vehicles, planes, and heavy machinery.

Financial Strength

Snap-on maintains a sound balance sheet. The industrial business does not hold any debt, but the debt balance of the finance arm stood at $1.7 billion in 2020, along with $2.1 billion in finance and contract receivables. In terms of liquidity, we believe the company’s solid cash balance of over $900 million can help it quickly react to a changing operating environment as well as meet any near-term debt obligations from its financial services business. In addition, we also find comfort in Snap-on’s ability to access $800 million in credit facilities. Snap-on’s solid balance sheet gives management the financial flexibility to run a balanced capital allocation strategy going forward that mostly favors organic growth but also returns cash to shareholders via dividends and share repurchases.We believe Snap-on can generate solid free cash flow throughout the economic cycle. We expect the company to generate over $800 million in free cash flow in our midcycle year, supporting its ability to return its free cash flow to shareholders through dividends and share repurchases. 

Bulls Say

  • The growth in vehicle miles driven increases the wear and tear on vehicles, requiring more maintenance and repair work to keep them on the road, benefiting Snapon. 
  • Auto manufacturers continue to tap Snap-on to create new tools and products to service new EV models. This alleviates concerns that EV adoption will threaten Snap-on’s viability. 
  • Sales representatives can add new customers on their designated service routes, increasing revenue per franchise.

Company Profile

Snap-on is a manufacturer of premium tools and software for professional technicians. Hand tools are sold through franchisee-operated mobile vans that serve auto technicians who purchase tools at their own expense. A unique element of its business model is that franchisees bear significant risk, as they must invest in the mobile van, inventory, and software. At the same time, franchisees extend personal credit directly to technicians on an individual tool basis. Snap-on currently operates three segments—repair systems and information, commercial and industrial, and tools. The company’s finance arm provides financing to franchisees to run their operations, which includes offering loans and leases for mobile vans.

(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.

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Dividend Stocks Philosophy Shares Technical Picks

AT&T Delivers Solid Customer Growth During Q3 as Content and Network Investments Ramp Up

AT&T also benefits from its ownership of deep network infrastructure across much of the U.S. and its ability to provide a range of telecom services, particularly among enterprise customers. The plan to extend fiber to 3 million homes and businesses annually through at least 2025 builds on this position and should allow it to serve those locations directly and enhance wireless coverage in the surrounding areas. 

AT&T is also positioned to benefit as Dish builds out a wireless network as the firms recently signed a 10-year wholesale agreement that generates revenue for AT&T and gives it access to Dish spectrum. AT&T shareholders will own 71% of the new Warner Bros. Discovery. Warner remains a media powerhouse in its own right, with a deep content library and the ability to reach audiences across a wide variety of platforms. The firm’s direct-to-consumer plans around HBO Max are gaining momentum, which should nicely augment and eventually supplant traditional distribution channels like cable TV. Adding Discovery’s non-scripted prowess and international presence should give the new firm wider options to craft service offerings. 

Wireless customer additions were impressively strong

AT&T’s third quarter earnings displayed several of the same themes as the last few quarters: solid momentum in the wireless business, continued growth at HBO Max, and steady gains in consumer broadband, set amid financial complexity as management deconstructs the firm’s former strategy. AT&T added 928,000 net postpaid phone customers, by far its strongest quarter of the past decade, leaving its base nearly 5% bigger than a year ago. Prepaid net customer growth (351,000) was also the strongest since 2018. Average revenue per postpaid phone customer declined 0.6% year over year as the amortization of phone discounts hits this metric.

HBO Max added 1.9 million net new customers, a sharp slowdown versus past three quarters. With several European launches coming, Warner should easily hit its target of 70 million-73 million global Max customers by the end of the year. As a result, the WarnerMedia EBITDA margin was stable at 26%. On a cash basis, however, content investment has ramped up sharply during 2021, with cash spending year to date increasing more than $4 billion versus the first three quarters of 2020. Total revenue declined 5.7% year over year due to the spinoff of the DirecTV television business during the quarter. Adjusted EBITDA declined only 2.2%, however, reflecting strength across AT&T’s major operating segments. Free cash flow has totaled $18.0 billion thus far in 2021, down from $19.8 billion the year before.

Financial Strength

AT&T ended 2020 with net debt of $148 billion, down from $177 billion immediately after the Time Warner acquisition closed in mid-2018. The firm’s purchase of C-band spectrum for $23 billion, excluding around $4 billion of future clearing and relocation costs, pushed the net debt load back up to $168 billion, taking net leverage to 3.2 times EBITDA from 2.7 times. In addition, the firm has issued more than $5 billion of general preferred shares. The WarnerMedia spin-off will take $43 billion of debt with it, taking AT&T’s net debt to about $125 billion, which management expects will shake out in the range of 2.6 times EBITDA. The firm will use the Warner spin-off to adjust its dividend policy, targeting a payout of around 40% of free cash flow, down from more than 60% in 2020, leaving substantial excess cash to reduce leverage or take advantage of opportunities, including share repurchases. In total, management will target a payout of around $8 billion-$9 billion annually, down from nearly $15 billion in 2020.

Bulls Say’s

  • AT&T has pulled together assets no telecom company can match. The firm has direct contact with more than 170 million customers across various products, providing an opportunity to build deeper relationships.
  • Within the wireless business, AT&T holds the scale needed to remain a strong competitor over the long term. With Sprint and T-Mobile merging, industry pricing should be more rational going forward.
  • WarnerMedia holds a broad array of content rights and has a strong reputation with content creators. Shareholders will own 71% of this firm after it merges with Discovery.

Company Profile 

Wireless is AT&T’s largest business, contributing about 40% of revenue. The firm is the third-largest U.S. wireless carrier, connecting 66 million postpaid and 17 million prepaid phone customers. WarnerMedia contributes a bit less than 20% of revenue with media assets that include HBO, the Turner cable networks, and the Warner Brothers studios. AT&T plans to spin Warner off and merge it with Discovery to create a new stand-alone media firm. The firm recently sold a 30% stake in its traditional television business, which serves 15 million customers and generates about 17% of sales. This business will be removed from AT&T’s financials going forward. Fixed-line telecom services provided to businesses and consumers account for about 20% of revenue, serving about 15 million broadband customers.

(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.

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Shares Technology Stocks

HP Capitalizing on Record Demand for Hybrid Work PC and Printing Necessities

in our view. Industry shifts toward using mobile devices as computer supplements or replacements and fewer printing tasks being performed for economic and environmental reasons may create headwinds for HP. HP’s growth initiatives will expand its market share within the PC and printing industries as consolidation occurs, but we expect cost competitiveness among the remaining vendors to limit potential upside. HP’s personal systems business, containing notebooks, desktops, and workstations yields a narrow operating margin that we do not foresee expanding. 

The company’s growth focus areas of device-as-a-service, or DaaS, and expanding its gaming and premium product offerings should help stem losses from its core expertise of selling basic computer systems. HP’s contractual managed print services, in additional to focusing on graphics, A3, and 3D printers are moves in the correct direction, but the overarching trend of lower printing demand should stymie revenue growth within printing, in our view. HP is combatting the challenge of lower-cost generic ink and toner alternatives in the marketplace. The company is innovating in a mature market, but competitors can mimic HP’s successes or cause price disruption. HP’s scale may enable success within the 3D printing market; even though HP is late entrant, its movement into printing metals could cause customer adoption.

Financial Strength

Raising fair value estimate for no-moat HP Inc. to $27 from $25 after its 2021 analyst day provided fiscal 2022 earnings and free cash flow guidance that was higher. HP also confirmed its previously stated fiscal fourth-quarter guidance. HP’s commitment to returning at least 100% of free cash flow to investors through dividends and share repurchases. For fiscal 2021, HP’s dividend was increased by 29% year over year to $1 per share and modest increases in future years. HP will continue to rapidly repurchase shares, with over $8 billion authorized for buybacks remaining, which will help achieve HP’s stated earnings targets. For fiscal 2022, HP is targeting adjusted earnings of $4.07-$4.27 and at least $4.5 billion in free cash flow.

HP’s leverage to decrease as retained earnings increase and the company pays off debt on schedule. HP spends about 8%-9% of its revenue on SG&A and about 2%-3% of its revenue on R&D, the expenditure trends to remain consistent. HP has a solid track record of repurchasing shares, and the company will continue to invest in buybacks. Additionally, as part of thwarting Xerox’s 2020 takeover attempt, HP targeted $16 billion in shareholder returns, with the majority being share repurchases. At the end of fiscal 2020, the defined benefit plans and post-retirement plan were underfunded by $1.6 billion.

Bulls Say’s

  • Expected challenges within the printing and PCs markets may be overstated. Enterprises adopting managed print services and Device-as-a-Service over hardware purchases could expand HP’s margins.
  • HP’s innovation in notebooks and tablets could moderate concerns about a lengthening computer upgrade cycle. With an invigorated brand, HP is making inroads with premium and gaming PC buyers.
  • Existing 3D and A3 vendors could be disrupted via HP’s scale. HP’s 3D materials open platform could make HP the preferred choice while offering A3 products opens up a $55 billion market.

Company Profile 

HP Inc. is a leading provider of computers, printers, and printer supplies. The company’s three operating business segments are its personal systems, containing notebooks, desktops, and workstations; and its printing segment which contains supplies, consumer hardware, and commercial hardware; and corporate investments. In 2015, Hewlett-Packard was separated into HP Inc. and Hewlett Packard Enterprise and the Palo Alto, California-based company sells on a global scale.

(Source: Morningstar)

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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.

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Expert Insights Shares Small Cap

Kogan’s Profit Margins Improving with Sales Growth and Lower Inventories

Like for many other retailers, we expect an unusual combination of factors distorted Kogan’s recent trading performance. These include relatively volatile sales, heightened supply chain uncertainties and costs, and lockdowns in Australia’s two most populous states. Term retail industry sales growth to be weaker as consumer spending is redirected to entertainment and travel.

Company’s Future Outlook

The headline figure of no-moat Kogan’s trading update of strong gross sales growth sent shares prices up sharply to nearly match our unchanged AUD 11.70 fair value estimate. The 8% growth in gross sales in the core Australian Kogan.com segment in the first quarter of fiscal 2022 was slightly below our expectations. Nevertheless, any sales growth is a solid feat in the quarter versus the September quarter of 2020, when gross sales grew by more than 100% at Kogan.com. However, sales profitability hasn’t fully recovered yet. Despite greater gross sales, underlying EBITDA margins are well below the previous corresponding period, down some 66%.

Discounting to trim Kogan’s remaining overhanging inventories, intensifying competition post COVID-19-boom in consumer electronics, and mix shift of gross sales to Kogan’s marketplace from its higher margin third party brands have weighed on gross profits in the first quarter. The active customer base at Kogan.com grew by 4% relative to the June quarter 2021, but at the group’s New Zealand Mighty Ape business the customer count dropped off slightly, declining by 2% against the prior quarter. Although active customers were lost, Mighty Ape sales still grew by 15% quarter on quarter.

Company Profile 

Kogan.com is an Australian pure-play online retailer. The firm primarily caters to value-driven consumers through its private label products, spanning multiple categories including consumer electronics, furniture, and fitness. For brand-conscious consumers, Kogan also offers a wide range of products from well-known third-party brands such as Apple, Samsung, and Google. In addition, Kogan competes in the online marketplace industry, providing a platform and customer base for approved sellers in exchange for a commission. Finally, the firm sells multiple white-labelled products and services including prepaid mobile phone plans, insurance, and travel packages.

(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.

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Shares Technology Stocks

Facebook faster growth in cash flow during the next five year by owning to operating leverage after 2022

along with the valuable data that they generate, makes Facebook’s platforms attractive to advertisers. The combination of these valuable assets and our expectation that advertisers will continue shift their spending online bodes well for Facebook, as the firm generates strong top-line growth and cash flow. Facebook has attracted users and increased engagement by providing additional features and apps within the Facebook ecosystem. 

The firm’s Facebook app, along with Instagram, Messenger, and WhatsApp, is among the world’s most widely used apps on both Android and iPhone, smartphones. Facebook is taking steps to further monetize its various apps, such as providing interactive video ads and tapping into e-commerce. It is also applying artificial intelligence and virtual and augmented reality technologies to various products, which may increase Facebook user engagement even further, helping to further generate attractive revenue growth from advertisers in the future.

Financial Strength

In an industry where continuing investments are required to remain competitive and maintain market leadership, we believe Facebook is well positioned in terms of access to capital. The firm has a very strong balance sheet with $62 billion in cash, cash equivalents, and marketable securities and no debt. The firm generated $39 billion cash from operations in 2020, 7% higher than the prior year. Facebook’s strong operational and financial health is demonstrated by the 28% average free cash flow to equity/revenue during the past three years. We project average annual FCFE/sales to be in the 35%-40% range through 2025, as a result of strong top-line growth and slight operating margin expansion beginning in 2022. The firm may use some portion of its cash, as it remains active on the merger and acquisition front.

Bulls Say’s

  • With more users and usage time than any other social network, Facebook provides the largest audience and the most valuable data for social network online advertising.
  • Facebook’s ad revenue per user is growing, demonstrating the value that advertisers see in working with the firm.
  • The application of AI technology to Facebook’s various offerings, along with the launch of VR products, will increase user engagement, driving further growth in advertising revenue.

Company Profile 

Facebook is the world’s largest online social network, with 2.5 billion monthly active users. Users engage with each other in different ways, exchanging messages and sharing news events, photos, and videos. On the video side, the firm is in the process of building a library of premium content and monetizing it via ads or subscription revenue. Facebook refers to this as Facebook Watch. The firm’s ecosystem consists mainly of the Facebook app, Instagram, Messenger, WhatsApp, and many features surrounding these products. Users can access Facebook on mobile devices and desktops. Advertising revenue represents more than 90% of the firm’s total revenue, with 50% coming from the U.S. and Canada and 25% from Europe. With gross margins above 80%, Facebook operates at a 30%-plus margin.

(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.

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Shares Technology Stocks

IBM’s Q3 Disappoints With Weak Software and Kyndryl Sales

even when omitting its poor-performing Kyndryl business to be spun off soon. As IBM nears the spinoff of its managed infrastructure business, to be known as Kyndryl, we think that the real drivers for the remaining company lie in IBM’s consulting and software businesses. While consulting revenue surpassed our expectations (and consensus’), IBM’s software revenue missed—leaving us wary of the remaining company’s performance after the spin-off.

IBM reported revenue of $17.6 billion in the quarter, marking flattish year-over-year growth. While IBM’s global business services segment was a standout, growing at 12% year over year, the rest of IBM’s businesses disappointed. The cloud & cognitive software segment grew only 3% year over year. And while global technology services, part of which will be spun off as Kyndryl, with revenue down by 5% year over year.

IBM reported operating margins of 9% in the quarter, down 310 basis points from the prior year period. Non-GAAP earnings per share for the quarter was $2.52.

It is expected that Kyndryl will continue its downward top line trajectory as mass migration of workloads to the cloud have enterprises opting for cloud vendors to manage their cloud infrastructure, rather than traditional IT services providers, like IBM. This makes the worst performance in the quarter a matter of only acceleration of such decline. For software, on the other hand, we believe it, along with consulting (known as global business services) are the main growth drivers for IBM post spinoff. . We formerly expected a stronger relation between consulting and software sales—with the former driving the latter.

We’re maintaining our fair value estimate of $125 per share for narrow-moat IBM. Shares are down 4% upon results, which has moved IBM into fair value territory. As a reminder, IBM plans to spin off shares of Kyndryl after market close on Nov. 3, so our $125 fair value estimate reflects the value of IBM’s stock pre spin-off.

Company profile

IBM looks to be a part of every aspect of an enterprise’s IT needs. The company primarily sells infrastructure services (37% of revenue), software (29% of revenue), IT services (23% of revenue) and hardware (8% of revenues). IBM operates in 175 countries and employs approximately 350,000 people. The company has a robust roster of 80,000 business partners to service 5,200 clients–which includes 95% of all Fortune 500. While IBM is a B2B company, IBM’s outward impact is substantial. For example, IBM manages 90% of all credit card transactions globally and is responsible for 50% of all wireless connections in the world.

(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.

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Global stocks Shares

Tabcorp’s Wagering Business expected to Recover as Restrictions Ease

Tabcorp’s lotteries are underpinned by long-dated state-based licences throughout Australia (with the exception of Western Australia)- an enormous scale that adds a degree of earnings certainty. Even when Tabcorp’s state-licenced exclusivities end, the scale of the business is such that new entrants will find it extremely hard to compete against Tabcorp’s distribution network and national jackpot pool size. 

With the ubiquity of smartphones, Tabcorp’s previously entrenched physical locations are increasingly competing with online players, where barriers to entry are much lower. Retail outlet exclusivity has little value when punters can place bets with competitors from their phones while in TAB-exclusive venues. Trend towards digitisation has been accelerated by COVID-19 shutdowns, as forced closures and social distancing requirements weighed heavily on Tabcorp’s retail venues and most betting ordinarily made at retail locations has transferred to online platforms.

Financial Strength:

Tabcorp’s balance sheet has strengthened following the AUD 600 million capital raise in August 2020 and improved earnings in fiscal 2021. Fiscal 2021 gearing (gross debt/EBITDA) of 2.4 below the firm’s target levels of 2.5-3.0. Sustainable leverage metrics are displayed especially for a company with still relatively defensive earnings and healthy free cash generation. Such a healthy financial position is necessary ahead of what is likely to be a disruptive future. It is one in which Tabcorp is likely to face increasing competition, facilitated by relentless innovation in online betting services, and potential diminution in the power of its physical retail distribution network. Tabcorp reinstated dividends during fiscal 2021 as earnings recovered. The firm is now targeting a dividend payout ratio of 70%-80% of underlying earnings, from 100% previously.

Bulls Say:

  • Tabcorp’s retail exclusivity and extensive brick-andmortar distribution presence places the company in a strong position to migrate its large wagering customer base to an omnichannel environment. 
  • Long-life wagering, lotteries, and keno licences furnish Tabcorp with a stable earnings and cash flow profile, underpinning a relatively high dividend payout ratio. 
  • The scale of the lotteries business is such that new entrants will find it extremely hard to compete against Tabcorp’s distribution network and national jackpot pool size.

Company Profile:

Tabcorp operates through principally three segments: wagering and media, lotteries and keno, and gaming services. The firm conducts wagering activities under the TAB brand both online and physically in every Australian state and territory other than Western Australia, reaching 90% of the population through a network of retail venues. Tabcorp also operates regulated lotteries in every Australian state except Western Australia. In addition, Tabcorp Gaming Solutions provides services to electronic gaming machine venues.

(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.