Material inflation is occurring in the home appliances category and presents both upside and downside risk to earnings. Management estimates prices for appliances, representing most sales at The Good Guys on estimate, have risen on average by about 8%. Higher average unit prices could bolster revenues in the second half, even if sales volumes decline as expected. However, relatively high inflation in relation to growth in consumers disposable income could weaken demand further, offsetting the positive impact. Management hasn’t yet observed any unusually high inflation in consumer electronics, the key category at JB Hi-Fi stores.
Higher online sales penetration and robust in-store sales at stand-alone stores offset the drop-in footfall to JB Hi-Fi’s mall stores. Low-single-digit group sales growth held up at similar levels to the December quarter-though continue to forecast a decline in the second half and sales decreasing by 3% in fiscal 2022.
Financial Strength:
A 2% decline in group sales and AUD 288 million in net profit after tax were pre-announced in January 2022. However, a surprise off-market buyback perhaps explains a 5% uptick in the shares following the release. JB Hi-Fi is returning AUD 250 million in funds via the buyback, following two strong years of trading which has resulted in an under-geared balance sheet and significant franking credits. The buyback price will be between 8% and 14% below the five-day volume-weighted average price, or VWAP, to April 8, 2022. A capital component of AUD 3.18 per share will be paid, with the remainder in the form of a fully franked dividend. At AUD 43.00 analysts estimate JB Hi-Fi will buy back 5.8 million shares or 5% of currently issued capital. While the expected buyback price is lower than current share prices, Australian taxpayers who have a low marginal tax rate could benefit materially from participating versus selling shares on market.
JB Hi-Fi declared a fully franked dividend of AUD 1.63 per share, representing a 65% payout ratio of first-half underlying earnings.
Company Profile:
JB Hi-Fi Limited is a specialty retailer of branded home entertainment products. The group’s products particularly focus on consumer electronics, electrical goods, and white goods through its JB Hi-Fi, JB Hi-Fi Home, and The Good Guys stores. The company primarily operates from stand-alone destination sites and shopping centre locations in Australia and New Zealand, but the online platform is becoming increasingly important.
(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.
As one of the largest pharmaceutical companies, GlaxoSmithKline has used its vast resources to create the next generation of healthcare treatments. The company’s innovative new product line up and expansive list of patent-protected drugs create a wide economic moat, in our opinion. The magnitude of Glaxo’s reach is evidenced by a product portfolio that spans several therapeutic classes as well as vaccines and consumer goods. The diverse platform insulates the company from problems with any single product. Additionally, the company has developed next-generation drugs in respiratory and HIV areas that should help mitigate both branded and generic competition. Glaxo is expected to be a major competitor in respiratory, HIV, and vaccines over the next decade.
On the pipeline front, Glaxo has shifted from its historical strategy of targeting slight enhancements toward true innovation. Also, it is focusing more on oncology and immune system, with genetic data to help develop the next generation of drugs. The benefits of this strategies are showing up in Glaxo’s early-stage drugs. This focus is expected to improve approval rates and pricing power. In contrast to respiratory drugs, treatments for cancer indications carry much strong pricing power with payers.
Financial Strength:
Glaxo remains on fairly stable financial footing, with debt/EBITDA at 2.8 as of the end of 2021. While the company carries more debt than several of its peers, it generates relatively strong cash flows that should be largely stable. Glaxo has relatively higher debt levels than its peer group, and analysts don’t expect a major acquisition, but several smaller tuck-in acquisitions are likely as the firm augments its internal research and development efforts. Additionally, with the expected divestment of the consumer division in 2021, the combined dividend of the newly separated consumer group and the remaining pharma group are expected to be lower than the current dividend of the combined company as Glaxo has signalled a desire to invest more into the business at the expense of the dividend.
Bulls Say:
Glaxo’s next-generation respiratory drugs and HIV drugs look poised for strong growth over the next five years.
Glaxo faces relatively minor near-term patent losses, setting up steady long-term growth.
The firm’s well-positioned Shingrix vaccine should support strong long-term growth based on excellent efficacy and limited competition.
Company Profile:
In the pharmaceutical industry, GlaxoSmithKline ranks as one of the largest firms by total sales. The company wields its might across several therapeutic classes, including respiratory, cancer, and antiviral, as well as vaccines and consumer healthcare products. Glaxo uses joint ventures to gain additional scale in certain markets like HIV and consumer products.
(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.
fintech icon on abstract financial technology background represent Blockchain and Fintech Investment Financial Internet Technology Concept.
Investment Thesis
Trades on multiples which are susceptible to de-rating should growth rates miss expectations.
An increase and escalation of intense competition by rivals such as Walt Disney (Disney+) and Apple Inc (Apple TV+).
NFLX is transitioning from solely content distribution to content creation which presents execution risk.
Significant existing user base, which is continuing to grow strongly, particularly in the International market.
Competitive positioning globally, as a market leader not only in the industry but starting to carve a leading position against cable television.
International expansion opportunities across emerging markets as well as solidified position in established markets (US).
Exclusive contracts with best producers including Sony Entertainment, Warner Bros and Universal Pictures.
Growing demand for Netflix exclusives.
Flexibility to pick up content driven away by TV to customize viewing according to user tastes and preferences.
Key Risk
High valuation and trading multiples which are susceptible to de-rating should growth rates miss expectations.
Escalation of intense competition and streaming wars, especially with Walt Disney(DIS) who own a strong content portfolio covering Disney, Pixar, Marvel, Star Wars, and National Geographic brands and sports streaming service ESPN+. DIS also holds a majority stake in Hulu, which is an online streaming service provider.
Execution risks around content creation versus content distribution.
Increasing competition based on price or exclusive content contracts.
Investment into original content creation fails to live up to the success of exclusive contract deals of existing content.
Bandwidth issues in emerging economies posing difficulties in penetrating these markets.
The long-term and fixed cost nature of content commitments hinder NFLX’s operating flexibility.
FY Q21 Results Summary
Revenue grew +16% over pcp with a +8.9% increase in average paid memberships and +7% increase in ARM (average revenue per membership) on both a reported and FX neutral basis. The Company ended the quarter with 222million paid memberships with 8.3million paid net adds in the quarter, with UCAN region adding 1.2million paid memberships (vs 0.9million in pcp), marking strongest quarter of member growth in this region since the early days of Covid-19 in 2020. APAC grew paid memberships by 2.6million (vs 2million in pcp) with strong growth in both Japan and India. EMEA was the largest contributor to paid net adds adding 3.5million vs 4.5million in pcp and LATAM delivered paid net adds of 1million vs 1.2million in pcp.
Operating margin of 8.2% was down -620bps over pcp driven by large content slate in the quarter (margin was above beginning of quarter forecast of 6.5% due to slightly lower than forecasted content spend), resulting in FY21 operating margin of 20.9%, above management’s 20% guidance forecast.
EPS increased +11.8% over pcp to $1.33 and included a $104m non-cash unrealized gain from FX remeasurement on Euro denominated debt.
Net cash generated by operating activities was an outflow of $403m vs outflow of $138m in pcp resulting in FCF of negative $569m vs negative $284m in pcp (for FY21, FCF amounted to negative $159m, in-line with management’s expectation for approximately break-even).
Company Profile
Netflix Inc (NASDAQ: NFLX) is an American company operating a global entertainment streaming service, which provides subscription video on demand to movies and television episodes over the Internet. The Company operates in three different segments, Domestic Streaming (US market comprising almost half of the business), International Streaming and Domestic DVD (1% of revenue). These businesses generate membership fees as well as revenues from DVD by mail. Netflix provides its services in over 190 countries with over 150 million members, distributing user focused content that fits consumer tastes and preferences.
(Source: Banyantree)
Relative to the pcp: (1)
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.
Coupa Software is a cloud-based business spend management, or BMS, platform that allows firms to monitor, control, and analyze expenditures to lower costs and improve operational efficiency. Morningstar analyts believe Coupa has a long growth runway ahead as it continues to make strategic investments to expand its platform and spend management use-cases. In a go-to-market model that focuses on co-selling deals with system integrators, Coupa has been able to expand its market reach significantly. As back-office digital transformations are accelerating and Coupa remains the market-leading cloud BSM vendor, morningstrar analysts expect Coupa’s partners to increasingly advance Coupa’s adoption throughout businesses as they guide their clients through digital transformation initiatives. As Coupa has long focused on a broader source-to-pay strategy, offering solutions that far exceed the functionality of its original transactional core, the company has made a high level of investments to build out its platform into a more holistic spend management tool. As the firm introduces new modules, Morningstar analysts believe Coupa will benefit from alignment with a larger number of spend use-cases, greater suite synergies, and more cross-selling opportunities. Further, analysts also believe a growing community will reinforce Coupa’s AI-based community intelligence offering, providing higher value prescriptive insights to optimize spend decisions.
Coupa’s Opening Strategy in Business Spend Management Paying Off as it Plays the Long Game
Coupa Software is a cloud-based business spend management, or BSM, platform that allows companies to monitor, control, and analyze expenditures to lower costs and improve operational efficiency. Coupa has built a broad-reaching self-reinforcing ecosystem of AI-informed spend management and Morningstar analysts believe the firm will benefits from a strong network effect and high switching costs. Morningstar anlaysts fair value estimate for Coupa is $152 per share, down from $232, as they model more muted long-term growth. As Coupa has long focused on a broader source-to-pay strategy, offering solutions that far exceed the functionality of its original transactional core, the company has made a high level of investments to build out its platform into a more holistic BSM tool. As the firm introduces new modules, Morningstar analysts believe Coupa will benefit from alignment with a larger number of spend use-cases, greater suite synergies, and more cross-selling opportunities. Further, Morningstar analyst also believe a growing community will reinforce Coupa’s AI-based community intelligence offering, providing higher value prescriptive insights to optimize spend decisions.
Financial Strength
Coupa is in a decent financial position. As of January 2021, Coupa had $606.3 million in cash and marketable securities versus $1.5 billion in convertible debt.Coupa has yet to achieve GAAP profitability, as the company remains focused on reinvesting excess returns back into the company, both on an organic and inorganic basis, to build out the platform and enhance future growth prospects. Coupa does not pay a dividend, nor repurchase stock, and for a young company pioneering a novel offspring under the ERP umbrella, it can be considered as appropriate that the company focuses capital allocation on reinvestments for growth. Even so, the firm has historically demonstrated strong cash flows, with free cash flow margins averaging 13% over the last three fiscal years. While cash flows were pressured in fiscal 2021 as a result of the COVID-19 pandemic, Morningstar analysts expect healthy free cash flows in later years. Coupa reached non-GAAP profitability in 2019, posting both a positive non-GAAP operating margin and positive non-GAAP earnings from then on. The company has averaged a non-GAAP operating margin of 9.1% since 2019, and as the company scales, we expect non-GAAP operating margins to reach into the low-30% range at the end of our 10-year forecast period. These positive results should translate to profitability on a GAAP basis in the future as well.
Bulls Say
Coupa has strong user retention metrics, with gross retention above 95% and net dollar retention north of 110%.
As Coupa expands its platform both organically and inorganically, we expect increasing suite synergies to accelerate cross-selling activity, further entrenching customers within Coupa and creating greater monetization opportunities.
Continual annual subscription price point increases reflect the stickiness of Coupa’s modules and suggest significant competitive differentiation in winning new deals over less expensive alternatives.
About the Company
Coupa Software is a cloud-based provider of business spend management, or BSM, solutions. Coupa’s BSM platform provides visibility into all spend, allowing companies to gain control over their spending, optimize their supplier network and supply chains, and manage liquidity. The platform’s transactional core consists of procurement, invoicing, expense management, and payment solutions, while supporting modules ranging from strategic sourcing solutions to supply chain design and planning solutions round out the comprehensive spend management ecosystem.
(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.
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.
GrainCorp enjoys significant market shares in grain storage, handling, and port elevation services along the eastern seaboard of Australia. Earnings are heavily affected by seasonal conditions, but the diversification into oilseed crushing and refining reduces earnings volatility and provides growth opportunities. GrainCorp’s core Australian grain storage and logistics business is heavily reliant on favourable weather patterns. Beyond storage and logistics, the grain marketing segment competes domestically and internationally against other major commodities trading houses such as Cargill and Glencore.
The firm will likely remain at the mercy of Australian grain competitiveness relative to global pricing. Similarly, GrainCorp’s oil crushing and refining business remains competitive. While we expect profitability in this segment to improve due to cost-savings measures and ongoing growth, we don’t believe the segment enjoys durable competitive advantages.
Financial Strength
GrainCorp’s capital structure is reasonable. It comprises debt and equity, with noncore debt associated with the funding of grain marketing inventory. As a result of swings in crop prices, GrainCorp’s cash flow and working capital requirements can be volatile, so the company will need to drawdown on debt on demand. As at Sept. 30, 2020, core debt (net debt less commodity inventory) was AUD 37 million and total net debt was AUD 239 million. There’s a risk that earnings pressure in drought-affected years could test debt covenants with its bank lenders.
The primary metrics are its net debt/capital gearing ratio and EBITDA/interest ratio. Gearing ratios can be volatile, given the swings in inventory levels. The net debt gearing ratio (net debt/net debt plus equity) sat at a reasonable 33% as at Sept. 30, 2021. Similarly, core debt gearing (core debt/core debt plus equity) was below 5%. Management doesn’t disclose the minimum EBITDA/interest ratio. In fiscal 2020, this ratio was about 4 times on an adjusted basis, but improved to 13 times in fiscal 2021.
Bulls Say’s
With strategic processing, storage, and transportation assets, GrainCorp’s size gives the company scale advantages over regional competitors.
Global thematics, such as increased food demand, particularly in Asia, should benefit agribusinesses such as GrainCorp.
Despite divesting the malt business, GrainCorp has entered into a new grains derivative contract which assists with smoothing out earnings through the cycle.
Company Profile
GrainCorp is an agribusiness with an integrated business model operating across three divisions. The company operates the largest grain storage and logistics network in eastern Australia. GrainCorp provides grain marketing services to all major grain-producing regions in Australia, as well as to Canadian and U.K. growers. The company has also diversified into edible oil refining and supply, and bulk liquid storage.
(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.
Arrow Electronics is one of the premier global value-adding distributors of electronics. Arrow uses its excellent sales, marketing, and net working capital management expertise to provide its supplier partners with a long tail of small customers while using its partnerships to service customers with a broad semiconductor selection—increasing profits for both ends of the supply chain in the process. Arrow is a more efficient operator than many of its distributor peers, which, along with its differentiated engineering expertise and design generation, leads to it holding among the best operating margins in the business.
Arrow is such an effective and streamlined operator that it earns an economic moat, while none of its peers under our coverage do. Arrow’s cash conversion cycle and average inventory days lead other top global distributors, which allows it to earn slim, but reliable, excess returns on invested capital. A focus on high-value semiconductors for transportation and industrial applications augments its returns. Its proficiency in chip distribution has led to it offering the broadest line card of any global chip distributor and the top market share in North America, including several high-profile exclusive supplier relationships, like with Texas Instruments and Analog Devices.
Financial Strength:
Arrow Electronics to remain leveraged and to use its available capital to invest in working capital and returning capital to shareholders. As of Dec. 31, 2021, Arrow had $222 million in cash and $2.6 billion in gross debt. The firm will easily service its obligations over the next five years, with an average of roughly $350 million maturing each year through 2025 while forecast has been on an average of over $1 billion in free cash flow over the same period. If the firm runs into a liquidity crunch, it has an untapped $2 billion revolver. Arrow will eventually finance more debt to remain leveraged and invest in the business. The firm needs to maintain a debt/EBITDA ratio under 3 times to keep its debt investment-grade and currently sits comfortably below 2 times. The firm’s greatest investment over the next five years will be in working capital. Finally, Arrow is a strong generator of cash, though it exhibits modest countercyclical cash flow generation. In semiconductor upcycles, the firm will invest heavily in inventory and extend more credit, trimming free cash flow. In downcycles, these activities get reined in and the firm can see over 100% free cash flow conversion. Still, when looking at operating cash flow as a proportion of non-GAAP net income (management’s preferred metric) over a cycle, Arrow has averaged 79% conversion, cumulatively, over the last five years.
Bulls Say:
Arrow is one of the most efficient and value additive distributors in the world, resulting in some of the highest operating margins of its peer group.
Arrow is entrenching its competitive advantage with exclusive supplier relationships that give it the broadest semiconductor selection of any distributor—covering over a third of global chipmakers.
Arrow returns a significant amount of capital to shareholders in the form of repurchases, for which it used 95% of its free cash flow between 2017 and 2021.
Company Profile:
Arrow Electronics is a global distributor of electronics, connecting suppliers of semiconductors, components, and IT solutions to more than 180,000 small and midsize customers in 85 countries. Arrow is the second-largest semiconductor distributor in the world, and the largest for North American chip distribution, partnering with a third of global chipmakers.
(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.
Ingredion manufactures starches and sweeteners by wet milling and processing corn and other starch-based raw materials. The company steeps these raw materials in a water-based solution before separating the ingredients from co-products (animal feed and corn oil). The company’s long-term goal is for specialty ingredients to generate 38% of sales and nearly 60% of profits. Core ingredients are typically commodity-grade, providing no pricing power for Ingredion. Ingredion sells roughly half of its core products on a cost-plus basis. Specialty ingredients are value-added, requiring additional processing and, in many cases, proprietary formulations.
Financial Strength
Ingredion is in good financial condition. As of Dec. 31, the company had just under $2.2 billion of debt and a little less than $0.7 billion in cash and cash equivalents on its balance sheet. On the M&A front, the company will probably continue to target smaller, tuck-in acquisitions rather than pursuing large, transformative deals. These acquisitions would likely focus on companies that offer new product lines and cater to small and midsize customers, as Ingredion aims to both expand its specialty ingredient portfolio and avoid being beholden to the strong bargaining power of large consumer packaged goods customers. The company should be able to finance these size acquisitions largely from free cash flow, which should allow Ingredion to maintain its solid financial position.
Ingredion shares fell nearly 10% on the day as the market responded negatively to the company’s results and management’s guidance. However, with shares now trading less than 10% above our bear case fair value estimate of $80 per share, the bad news is priced into the stock. Our bear case assumes average annual revenue growth of 1% over the next five years and midcycle operating margins of 11%, versus the 11.5% averaged by the company over the past decade.
Bulls Say’s
Ingredion benefits from its growing proportion of specialty ingredients that carry some degree of pricing power and generate higher profit margins.
Through its investment in plant-based proteins and natural non-corn-based sweeteners, Ingredion is well positioned to capture growth from increasing consumer demand for alternative meat and reduced sugar products.
Management has a strong record of managing growth and acquisitions and returning cash to shareholders.
Company Profile
Ingredion manufactures ingredients for the food, beverage, paper, and personal-care industries. Sweeteners (syrups, maltodextrins, dextrose, and polyols) account for about 35% of sales, starches (for food and industrial use) around 45%, and co-products the balance. Value-added, specialty ingredients account for roughly one third of sales, with the balance being commodity-grade ingredients. With the majority of sales outside the U.S., Ingredion is a global player with good exposure to developing markets, including Latin America and Asia-Pacific.
(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.
Synchrony partners with retailers and medical providers to offer promotional financing as well as private label and co-branded general-purpose credit cards. The company’s promotional financing and instalment loans offered through its Home and Auto segment and its CareCredit program have performed well, and receivables have been relatively resilient in the current cycle. The company’s private-label and cobranded credit cards, co-marketed through partnerships with retailers, have faced more headwinds both before and during the pandemic, and credit card receivables outstanding are well below their 2018 peak.
The company has also had to contend with the loss of Walmart in 2018 and then Gap in 2021. These were significant blows, as the Walmart credit card program was about 13% of Synchrony’s receivables at the time and the Gap credit card program was about 5%. The bank’s partnership base remains highly concentrated, with its top five partnerships accounting for nearly 50% of its revenue. The firm will likely continue to be forced to choose between revenue growth and margins as it is pressured at the negotiating table by its merchant partners.
Synchrony is also facing elevated repayment rates on the company’s cards as consumers have used fiscal stimulus money to pay down debt. This has caused the company’s loan receivables balance to stagnate and pushed down gross interest yields on the company’s credit cards. Repayment rates will likely normalize over time, as the impact of fiscal stimulus and loan forbearance fades, but in the short-term Synchrony’s net interest income will face headwinds.
The future for Synchrony is not completely bleak. New credit card programs with Venmo and Walgreens give avenues for Synchrony to restart loan growth. The company also has several successful digital retailers as partners, such as PayPal and Amazon, which will offset the damage from Synchrony’s partners in the brick-and-mortar retail space. Additionally, high repayment rates on the company’s credit cards have pushed credit costs well below historical levels, and the company has been able to release the reserves it built up during the pandemic and accelerate share repurchases.
Financial Strength
Synchrony’s financial strength allowed it to navigate a difficult economic situation in 2020 without much stress being placed on the firm. The company’s sale of its Walmart portfolio to Capital One in late 2019 came at a fortuitous time, as it removed a credit-challenged account and created an influx of additional liquidity as the company entered 2020. Additionally, during the pandemic, decreased retail sales led to portfolio runoff and lower credit card receivables. While this is undoubtedly a negative for revenue generation, it did reduce the leverage of the bank and the company has been placed in a situation where it is seeking to manage the size of its deposit base to avoid becoming overfunded.
The consequence of these events is clearly negative for the company’s income statement, as seen by Synchrony’s earnings results during 2020 and its low net interest growth since then. However, the balance sheet benefited and low receivable growth as well as low net charge-offs have allowed the firm to easily maintain that strength. The bank’s common equity Tier 1 ratio stands at 15.6%. With the bank’s allowance for bad loans at more than 10.76% of existing receivables, it is not foreseen Synchrony encountering any capital issues and there is likely room for continued shareholder returns. Even if credit conditions deteriorate or the firm sees additional retailer bankruptcies, the company is well positioned to manage it. The bank should have plenty of flexibility to respond to competitive threats and to invest in its business despite the uncertainties of the current economic cycle.
Bulls Say’s
Synchrony enjoys long term contracts with several successful digital retailers such as Amazon and PayPal. These partnerships provide Synchrony with a source of receivable growth in a difficult environment for brick-and-mortar retailers.
Synchrony continues to win new credit card programs, with credit cards for Venmo and Verizon being launched in 2020.
The company’s credit cards present a compelling value for its retail partners. Struggling retailer will continue to be drawn to the incremental sales and revenue Synchrony’s credit cards provide.
Company Profile
Synchrony Financial, originally a spin-off of GE Capital’s retail financing business, is the largest provider of private-label credit cards in the United States by both outstanding receivables and purchasing volume. Synchrony partners with other firms to market its credit products in their physical stores as well as on their websites and mobile applications. Synchrony operates through three segments: retail card (private-label and co-branded general-purpose credit cards), payment solutions (promotional financing for large ticket purchases), and CareCredit (financing for elective healthcare procedures).
(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.
Lingering uncertainty about this factor-oriented fund’s potential for sleeve manager and style changes keeps its Process rating at Below Average.
Between March 2013 and the end of 2017, Wellington Management’s investment strategy and risk group altered this fund from a wide-ranging, single-manager offering to its current form. Six managers now run separate sleeves of the portfolio. The sleeves vary in size, but each is concentrated in 50 or fewer stocks and has distinct emphases, whether value or growth, market cap, or domicile. Gregg Thomas, who took over the investment strategy and risk group in late 2018, controls the aggregate portfolio’s characteristics by adjusting the size of Thomas Simon’s sleeve, which uses a multifactor approach to complement the five other sleeves, and by shifting assets among or even swapping managers to match the Russell 3000 Index’s risk profile. The idea is to let the stock-pickers rather than size, sector, or factor bets drive performance.
Although regular line-up changes have made it difficult to assess the strategy, there could be more stability in the future. Thomas now envisions making a manager change every three to five years, on average, down from every two years when he took over in 2018. The current roster has been stable only since late 2019, however, when Thomas changed two managers, including replacing a veteran global manager with a relatively inexperienced mid-cap value manager.
Portfolio:
A rotating cast of six sleeve managers has had collective charge of the portfolio since the late 2017 retirement of long-time sole manager Saul Pannell. His departure concluded a transition that started in March 2013 when Wellington Management’s investment strategy and risk group began apportioning 10% of the fund’s assets to different managers–a total that hit 50% by mid-2014 and stayed there until early 2017, after which the group gradually redirected Pannell’s remaining assets.
The transition to a multimanager offering beginning in 2013 ballooned the portfolio’s number stocks to 350- plus before falling to around 200 since April 2017. The fund’s sector positioning versus the Russell 3000 Index began to moderate in 2013 and has since typically stayed within about 5 percentage points of the benchmarks. Its tech underweighting dipped to nearly 10 percentage points in November 2020 but was back to around 5 percentage points by late 2021.
Industry over- and underweighting’s tend to stay within 4 percentage points. In late 2021, however, the portfolio was 5.6 percentage points light in tech hardware companies, entirely because it did not own Apple AAPL. The fund’s non-U.S. stock exposure neared 30% of assets in 2014 but has been in the single digits since late 2019, when a domestic-oriented mid-cap value sleeve manager replaced a sleeve manager with a global focus.
People:
The fund earns an Above Average People rating because its subadvisor’s multimanager roster includes veterans who have built competitive records elsewhere at sibling strategies where they also invest alongside shareholders. Those managers, however, serve this fund at the behest of Wellington Management’s Gregg Thomas. He took over capital allocation and manager selection duties at year-end 2018, when he became director of the investment strategy and risk group. Between March 2013 and year-end 2017, this group changed the fund from a wide-ranging single-manager offering to a multimanager strategy. Six managers now oversee separate sleeves of the portfolio. Growth investor Stephen Mortimer, dividend-growth stickler Donald Kilbride, and contrarian Gregory Pool each run 15%-25% of assets; mid-cap specialists Philip Ruedi and Gregory Garabedian 10%-20% each; and Thomas Simon uses a multifactor approach on 5%-20% assets to round out the whole portfolio’s characteristics. Thomas monitors those characteristics and redirects assets or even swaps managers to match the Russell 3000 Index’s risk profile, leaving it up to the stock-pickers to drive outperformance. That’s led to considerable manager change here. Of the original seven sleeve managers the investment strategy and risk group installed in March 2013, only Donald Kilbride remains; and the current six-person roster has been in place only since Sept. 30, 2019.
Performance:
This multimanager offering has struggled since Wellington Management’s Gregg Thomas took over capital allocation and manager selection duties at year-end 2018. Through year-end 2021, the A shares’ 22% annualized gain lagged the Russell 3000 Index and large-blend category norm by 3.8 and 0.8 percentage points, respectively, with greater volatility than each. The fund also has not distinguished itself since its current six-person sleeve manager stabilized on Sept. 30, 2019.
The fund was competitive in 2019’s rally and in 2020’s market surge following the brief but severe coronavirus-driven bear market. Of those two calendar years, the fund fared best against peers in 2020, with a top-quartile showing. But in neither year did it beat the index.
Results in 2021 were then relatively poor. The A shares’ 15.2% gain trailed the index by 10.5 percentage points and placed near the peer group’s bottom. It was an off year for the sleeve managers’ stock picking. Especially painful were modest positions in biotechnology stocks Chemocentryx CCXI and Allakos ALLK, whose shares both tumbled after disappointing clinical trial data.
The fund was lacklustre during its four-plus years of transition from a single-manager offering under Saul Pannell to its current format. From March 2013 to Pannell’s 2017 retirement, its 13.1% annualized gain lagged the index by 1.5 percentage points and placed in the peer group’s bottom half.
About Funds:
The firm maintains a long-standing relationship with well-respected subadvisor Wellington Management Company. Wellington has long run the firm’s equity funds–over half of its $116 billion in fund assets–and took the reins of Hartford Fund’s fixed-income platform beginning in 2012. In 2016, Hartford Funds began offering strategic-beta exchange-traded funds with its acquisition of Lattice Strategies and partnered with U.K.-based Schroders to expand its investment platform further. The Schroders alliance added another strong subadvisor to Hartford’s lineup, with expertise in non-U.S. strategies. Hartford Funds mostly leaves day-to-day investment decisions to its well-equipped subadvisors and instead steers product development, risk oversight, and distribution for its strategies. In 2013, the firm reorganized and grew its product-management and distribution effort. Since then, leadership has added resources to its distribution and oversight teams, merged and liquidated subpar offerings, introduced new strategies, evolved its strategic partnerships with MIT AgeLab and AARP, and lowered some fees. That said, fees are still not always best in class but have improved.
(Source: Morningstar)
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