Tag: US Market

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.

Business Strategy and Outlook

Five Below’s management team has generated consistent returns by leveraging a differentiated concept and prudent expansion strategy. The firm should be able to expand profitably, as its nimble supply and distribution network are well-suited to meeting the ever-changing demands of its customers (preteens, teenagers, and their money-wielding parents). Five Below offers a variety of items in a tailored store environment while giving parents a measure of cost-certainty, a concept that should remain attractive to shoppers under a range of economic scenarios. 

Still, online retailers’ cost leverage is rising, and as it is estimated that many of Five Below’s target households have access to an Amazon Prime membership, the digitization threat looms. Competitive pressure also comes from physical rivals, including mass merchants dedicating aisles to items priced at a given dollar amount or less. 

Financial Strength

Debt-free with ample cash generation, Five Below’s financial health is strong. Shifting its assortment to include more cleaning and essential products kept the stores open even as infection rates soared in late-2020. Store growth should remain a capital priority (albeit with a continued reliance on leased locations) during our 10-year explicit forecast, with our estimates suggesting Five Below will exceed its 2,500-unit nationwide target toward the end of that time frame. Five Below’s cash generation should lead to share repurchases, escalating as its distribution center build-out is completed. It is estimated that the firm eventually uses roughly 65% of its annual cash flow from operations to buy back equity. Alternatively, it could pursue acquisitions of regional chains to accelerate its growth, though we do not incorporate such purchases into our forecasts because of their uncertain timing and nature.

Bulls Say’s 

• Five Below’s differentiated concept gives its core customers access to a wide range of items while providing parents cost certainty, a combination enabled by its efficiency and flexible merchandising. 
• One of the few sizable retailers we cover with significant room for expansion, Five Below should build cost leverage as it grows, helping to protect margins from competitive erosion. 
• Strategically entering new markets with several stores opened concurrently, Five Below has rapidly gained an ability to spread distribution, supply chain, and advertising costs over a large local sales base.

Company Profile 

Five Below is a value-oriented retailer that operated 1,020 stores in the United States as of the end of fiscal 2020. Catering to teen and preteen consumers, stores feature a wide variety of merchandise, the vast majority of which is priced below $6. The assortment focuses on discretionary items in several categories, particularly leisure (such as sporting goods, toys, and electronics; 47% of fiscal 2020 sales), fashion and home (for example, beauty products and accessories, home goods, and storage solutions; 36% of fiscal 2020 sales), and party and snack (including seasonal goods, candy, and beverages; 17% of fiscal 2020 sales). The chain had stores in 38 states as of the end of fiscal 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.

Business Strategy and Outlook:

United Airlines is the most internationally focused U.S.-based carrier by operating revenue, with almost 40% of 2019 revenue coming from international activities. Before the COVID-19 pandemic, much of the company’s story focused on realizing cost efficiencies to expand margins. It is anticipated that United’s international routes will not be as pressured, but that international flights will be difficult to fill until a COVID-19 vaccine is developed and distributed. A recovery in business travel is believed to be critical for United to maintain the attractive economics of the frequent flier program. Business travellers will often use miles from a cobranded credit card to upgrade flights when their company is unwilling to pay a premium price. Banks are willing to pay top dollar for these frequent flier miles, which provides a high-margin income stream to United.

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

Financial Strength:

United has a roughly average debt burden relative to peer U.S. carriers, but an average airline balance sheet is not strong in absolute terms. United carries a large amount of debt, comparatively thin margins, and substantial revenue uncertainty. As the pandemic has wreaked havoc on air travel demand and airlines’ business models, liquidity has become more important than in recent years. The primary risks to airline investors are increased leverage and equity dilution as airlines look to bolster solvency while demand is in the doldrums.

United’s priority after the pandemic will be deleveraging the balance sheet, but it is expected that this will take several years due to the firm’s thin margins. United came into the pandemic with a reasonable amount of debt, with the gross debt/EBITDA ratio sitting at roughly 4.5 times in 2019. United, like all airlines, has materially increased its leverage since February 2020 and has issued debt and received support from the government to survive a previously unfathomable decline in air traffic. As of the fourth quarter of 2021, United has $33.4 billion of debt and $18.3 billion of cash on the balance sheet.

Bulls Say:

• United has renewed its frequent flier partnership with Chase, potentially creating room for long-term margin expansion. 
• An increasing focus on capacity restraint across the industry, combined with structurally lower fuel prices, should boost airlines’ financial performance over the medium term. 
• Leisure travellers have more comfortable with flying during the COVID-19 pandemic.

Company Profile:

United Airlines is a major U.S. network carrier. United’s hubs include San Francisco, Chicago, Houston, Denver, Los Angeles, New York/Newark, and Washington, D.C. United operates a hub-and-spoke system that is more focused on international travel than legacy peers.

(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

Despite initial fears, Discover came through the COVID-19 pandemic with few issues. Its credit card portfolio–its largest source of income–shrank 7% in 2020, a year when most credit card issuers saw declines in the double digits. Perhaps more surprisingly, net charge-offs fell in 2020 and have remained well below normal levels since, both in absolute terms and as a percentage of total loans. We anticipate credit costs will be higher in 2022 but given how low the firm’s delinquency rates are we do not expect a full return to normal credit costs until 2023. We don’t expect this to put any pressure on the bank’s balance sheet as Discover is in a strong financial position to withstand higher credit losses. 

Discover generates most of its revenue through interest income from its credit cards (roughly 70% of its net revenue). While the company has strong positions in the private student debt and personal loan markets in addition to operating its own payment network, its long-term health will be driven by its ability to build and sustain its portfolio of credit card receivables. Discover’s credit card business has been performing very well in recent years, with receivable growth and credit results better than most of its peers. With the majority of its credit cards and student loans charging variable interest rates, the bank will also be a beneficiary of rising interest rates, though this is limited by the firm’s reliance on online deposits. 

In the long run, Discover must continue to deal with the challenges that come with being smaller than many of its competitors in size and scope. Many of the traditional banks that the company competes with can offer their cardholders a broader selection of products and services. Discover’s more traditional competitors often benefit from a lower cost of funding driven by their strong deposit bases. While it is unlikely that Discover will ever fully replicate the product offerings of some its peers, it has made good progress in improving its funding cost through the use of online savings accounts. We are encouraged by its initial forays into checking accounts, as this should help Discover further narrow the cost of funding gap

Financial Strength

Efforts to conserve capital by suspending share buybacks in the initial stages of the pandemic paid off and the company was able to navigate the uncertainty of 2020 and 2021 with ease. Despite increasing shareholder returns in the second half of the year, Discover came out of 2021 in a strong financial position, ending the year with a common equity Tier 1 capital ratio of ratio of 14.8%. We expect the firm to continue its share repurchases in 2022 as Discover works to move back toward its target Tier 1 ratio of 10.5%. In our view, this is an adequate reserve ratio, given that historically the firm has had strong underwriting standards with credit card net charge-off rates below its peers.

 The firm has had success in improving its funding, with more than 70% of total funding now coming from deposits. On the other hand, Discover primarily relies on online savings accounts and brokered deposits. This means it must compete on price for accounts, giving it a higher cost of funding than many of its peers. The company is seeking to mitigate this with an expansion into online checking, but these efforts are still in their early stages.

Bulls Say’s

• Discover has consistently been able to generate returns on equity that are among the highest of its peers. 
• Discover’s credit card receivables growth has been above the industry average for some time now. This outperformance continued in 2020 when its receivables balance shrank less than its peers’. 
• Discover has made good progress in improving its deposit base through online savings accounts and more recently online checking.

Company Profile 

Discover Financial Services is a bank operating in two distinct segments: direct banking and payment services. The company issues credit and debit cards and provides other consumer banking products including deposit accounts, students loans, and other personal loans. It also operates the Discover, Pulse, and Diners Club networks. The Discover network is the fourth-largest payment network in the United States as ranked by overall purchase volume, and Pulse is one of the largest ATM networks in the country.

(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.