In today's Oxen Group recap, we will be looking at Corning (NYSE:GLW) and Wal-Mart (NYSE:WMT). We want to update our 12-month price target in WMT as 2014 is starting to take shape for both companies. The Oxen Group covers WMT year-round, and we want to update our current pricing to reflect recent occurrences. In our Company News section, we will focus on GLW with today's earnings. We will examine WMT in our Deeper Outlook as to what expect in the new year. Additionally, as always, we will do our typical market overview and examine what's coming next for the market.
The market was strong on Tuesday, as it regained its footing with a solid round of earnings from companies not named Apple (NASDAQ:AAPL) as well as a strong Consumer Confidence number that overshadowed weakness in durable orders.
Apple started the day off on a weak note with its earnings last night. The company reported earnings that came in above, but the company missed on a key iPhone sales figure number that was expected to be better than it came out. Guidance was also relatively underwhelming, leading to the stock giving up a sizeable amount of recent gains. Overall, we thought the report was strong. While missing slightly on iPhone sales, it beat numbers for iPads and iMacs as well as raised the ASP for iPhones to nearly $650 per (amongst many critics saying the 5c would hurt ASP).
In other earnings reports, Ford (NYSE:F) reported an EPS of 0.31 versus 0.27 expectations, as well as a solid rise in revenue. DuPont (NYSE:DD) reported a double in profits for Q4 y/y as well as a $5B share repurchase program. Pfizer (NYSE:PFE) reported a 22% rise in EPS to 0.56, beating 0.52 expectations. The company also beat on revenue.
Consumer Confidence was also quite strong, coming in at 80.7, the highest number for that report since 2008. It is still not to the triple-digit levels we were at in August of 2007, but it was a sign that some parts of Main St. are actually not as fearful as Wall St.
On the company news side, we will be focusing on Corning today. Corning released earnings this morning that were taken as disappointing by the market, and we want to dive into them a bit more. We haven't taken a look at the company since last March. In our report during that time, we were bearish on the stock as we thought that the fundamental picture there looked weak. Since that time, though, the stock has made 50% in gains. Here was our argument against Corning during that time:
The main issue for GLW that will continue to be an issue is that pricing power for displays has really dropped. Vince Martin does a great job of explaining this here:
Corning has a very simple problem that is exceedingly difficult to combat: its legacy business sees prices decline every quarter, while its struggling customers are reducing orders and attempting to improve yield (the amount of Corning glass that actually makes it into the product, rather than being discarded during the manufacturing process). CFO James Flaws told investors on the third quarter conference call that the company had entered into arrangements with its customers to stabilize market share, but this does little to arrest price declines. Indeed, following Corning's fourth quarter earnings release in January, Flaws noted on that call that the agreements had actually increased price declines in Q4, though that rate was expected to moderate in the first quarter of 2013. Corning's glass business is selling marginally more product at moderately lower prices, and making substantially less money. Net income in the Display Technologies segment fell from $3 billion in 2010 to $1.6 billion in 2012, with revenues falling 3.3 percent over that period. And there is no evidence of a rebound coming any time soon.
The company has potential in Gorilla Glass. They have mentioned that it could double in size in revenue in the next three years, but declining margins are very apparent. The company's operating margin has declined from 27% to just over 16% in the past two years. Net margin went from 53.7% to 21.6% in that same period.
In Tuesday's earnings, the company noted that sales were $2B, down 2% from the prior year. EPS came in at 0.30 from 0.10 one-year prior and beat 0.28 expectations. Net income rose from $155M to $421M, but net margins remains at the sub-22% level we highlighted in our previous article. The company's plan to battle LCD glass price decline was through optical communications as well as specialty, environmental, and life sciences. The company was somewhat successful so far as it grew FY13 sales by 5% versus EPS by 16%.
Highlights from the quarter included a 10% drop in Gorilla Glass volumes. Gross margin came in at 40% versus 42% company expectations. Gorilla Glass volumes as well as lower margin optical products led to the decline. The company reduced R&D but saw a rise in SG&A. Yet, it did see operating margin increase from over 3% to over 9% year/year - a positive sign. Display sales were down 5% year/year, with market share stable and declines moderating in LCD pricing. Optical communications were up 12% year/year in sales, and environmental was up 9%, while specialty was down 29%. One definite positive is that the company is much less relying on LCD and displays as well as Gorilla Glass, and has developed strength in life sciences, environmental, and optical communication.
The stock, however, tumbled over 5% on the day. The problem was the forecasting of price declines in LCD-spooked investors. The company noted also it was surprised by the declines in Gorilla Glass and called the LCD drop at the beginning of 2014 a one-quarter phenomenon. Overall, the report had some nice spots, but the company is still going to be judged on these two departments over all else. With glass prices expected to decline more, it does not bode well for struggling margins that started to look better. Additionally, we are never a fan of a a tech-based firm cutting R&D to make better margins.
Shares are still pretty cheap, though, at only 12x future earnings and 1.2x book, but they are 3.3x sales. The company will need to prove that its other businesses can remain strong and it can keep margins in check with further drops. Additionally, a rebound in Gorilla Glass will be needed. Look for shares to stay in check for the time being, therefore. We believe the $19 line looks like pretty solid resistance, and we like adding sold calls for the stock.
Trade Idea: GLW, Apr14, $19 Calls, Sold
Max Gain: 10.5%
In today's Deeper Look, we will be looking at Wal-Mart in 2014. We cover WMT year-round, and we want to update our model with outlook for the new year and discuss some of the company's crucial catalysts and worries for the new year. Coming into today, we had a Buy rating on the stock with a 2013 price tag of $95.
We are updating our model to have a $102 price target and maintaining WMT as Buy
For 2014, the main catalyst for Wal-Mart is going to be the growth of its international presence. Most of the potential growth for WMT is in its international business. In 2013, the company saw the most growth from its international market with its percentage of sales, so far, growing to nearly 30% from 28% in 2012. The rate of growth in the international business in the latest quarter was over 4% compared to 2.4% for Wal-Mart US and Sam's Club at 1.1%. A large part of that growth will be from 110 new stores being added to China by 2016. Additionally, the company is being aggressive about pushing global e-commerce in its new markets as well. The face of retail is shifting, and if the company can complement stores with online prospects from the get go, it will help a lot.
One move that the company made that should help in 2014 was the stake in Yihaodian. One of the troubles that WMT had in China was it was continually undermined by population density, logistics, and low-cost competition from street vendors and bodegas that the Chinese population frequent. By taking a strong 51% stake in Yihaodian, the company will have the ability to be the leader in e-commerce retail in China. Yihaodian sells grocery items, consumer electronics, apparel, and more through same-day and next-day delivery. Additionally, by taking on this deal, it has locked out competition from getting into the marketplace and has allowed itself to be a leader in the growing part of retail. We believe this move is a very strong catalyst and will continue to provide growth for the company.
The company is doing excellent things in a lot of growth markets internationally that will continue to provide some great upside for the company in international sales. In Canada, the company now has 380 stores with strong e-commerce expansion underway that grew nearly 100% in the last year. It saw 4% sales growth in the latest quarter, and it is working hard in expanding on the eastern side of the country. The company just completed a strong expansion project that increased its store total, and the company should be more flat in growth here in total sales.
In Africa, the prospects are interesting. The company closed a deal with Massmart in spring of 2012, and it has since expanded into 12 countries in sub-Saharan Africa. African markets are not as healthy as other markets, but they do provide a lot of prospects for organic growth over the next five years.
Latin America has also been a big success, with great growth in Argentina, Brazil, and Chile. Mexico and Central America growth has been slower, but the company has been there for longer. In Chile, the company now owns 97% of its stores, which is a benefit for 2014. These markets, however, seem a bit more worrisome for 2014, with currency issues and some economic woes sprouting up there with lack of investments/employment coupled with inflation pressures.
Here are comments from Trefis about international sales potential:
Wal-Mart's growth is primarily coming from its international business, which is getting strong support from Brazil, Mexico and China. Although the company is slowing down its store expansion in these markets, its comparable store sales (CSS) growth has remained robust. Wal-Mart expects about 40% of its international revenue growth in fiscal 2014 to come from the increase in CSS…Although Wal-Mart is facing some problems in China due to stiff competition and a change in shopping trends, the underlying trends are positive. Last quarter it was able to post a modest 1% CSS growth despite a 6.6% decline in store traffic, and gained market share in most countries. We expect Wal-Mart's international business to deliver promising results in the second quarter on e-commerce push and controlled expansion.
The pace of expansion is set to slow internationally, but the company believes that same-store sales are set to rise. We predict that a 4-6% growth rate is definitely going to remain in international for the next several years, with potential for it to reach 8-9% if China goes very well with the 110 new stores as well as e-commerce continues on its same path. In our mid-case scenario, we look at 5.5% growth expanding to 6% for the next two years and then moving at a 6-7% click beyond that as China, Africa, and Latin America start to strengthen cyclically again.
Here are our targets for revenue in the best-case scenario:
In our mid-case scenario we expect international to be more around the 5-6% range, which brings down total expansion to the 4-5% area. We are definitely bullish on international, and we believe that the company will have success as these markets recover over the next several years.
Tax Rate -
We assume a tax rate of 33%, which is at the high end of guidance. We do this to remain conservative.
We are expecting operating margins to stay at the 6% level, as they have been between 5.9% - 6.1% for about seven years.
CapEx may come down a bit in 2014 due to a pullback in international expansion, but it should stay strong as the company continues to add stores beyond that. We predict $12B in CapEx moving back up to $13B by 2016 and $13.5B by 2018. We use a cap rate of 4.5% to represent decent growth prospects mixed with strong fundamentals.
When we use this, we still come up with a $102 price tag, putting the stock in our Buy zone of $80 and below. We still believe a lot of opportunity is there for WMT, and we like it to continue to see good growth this year from international, expansion into e-commerce, and Sam's Club growth.
The market got its footing on Tuesday, and the major question for Wednesday will be if it can follow through on today's gains. The market started to show some signs of a bottom on Monday when the market was able to battle back from early losses, and looked better on Tuesday despite weakness from Apple. For Wednesday, look for the market to focus in on several earnings reports, economic data, and the FOMC meeting. For earnings, tomorrow morning brings us Boeing (NYSE:BA), Dow Chemical (NYSE:DOW), Phillips 66 (NYSE:PSX), and EMC (EMC). There are several other key reports after the bell too, including Facebook (NASDAQ:FB) and Qualcomm (NASDAQ:QCOM). As for data, we will get crude inventories in the AM and the FOMC rate decision in the afternoon. The latter is definitely the key to the day. Will the Fed taper more? Will they keep things stagnant? The market has seemingly priced in another drop in QE, so a surprise would be if they keep things the same. If they increase taper by more than $10M it would be a big hit to the market. Look for things to stay relatively flat before the announcement, with most action coming in the last couple hours.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
Business relationship disclosure: I have no business relationship with any company whose stock is mentioned in this article. The Oxen Group is a team of analysts. This article was written by David Ristau, one of our writers. We did not receive compensation for this article (other than from Seeking Alpha), and we have no business relationship with any company whose stock is mentioned in this article.