COVER STORY: Welcome to Sizzle Inc. by Jonathan R. Laing
Summary: Bears worry an impending recession lies ahead, driven by overleveraged consumers burned by a collapse in home prices, and a huge current-account deficit that bespeaks our lust for consuming more than we produce and spending more than we save. But according to GaveKal, an international research boutique and respected advisor to some of the world's largest companies, the consumer is healthy, the U.S. economy stable, a housing crash improbable, and U.S. stocks are dramatically underpriced despite their current levels. The global economy, it asserts, is on the threshold of a decades-long deflationary boom that will lift America and much of the world to unprecedented prosperity. Its optimism stems from a theory that profound economic changes have and are taking place that have been ignored by most commentators -- specifically a business model it calls the "platform company." Its characteristics:
Barron's: "Optimism is often a tougher sell than bearishness. But based on the trends of the past half-century, GaveKal's argument looks like one worth buying."
- The platform company outsources low-return, volatile portions of its operations to low-cost manufacturers at home and abroad, focusing its resources instead on value-adding ventures such as R&D. This model seems to be behind the current surge in U.S. corporate profitability: Platform companies have reduced capital-spending needs, which also allows them to slash their debt-service burdens.
- For platform companies R&D now dwarfs capital spending: This year the U.S. will spend about $330b on research and development, versus China's $136b. This global change is an "unalloyed good" according to GaveKal: productivity is enhanced, and intellectual property/knowledge is pursued to earn the higher returns that accompany breakthrough products and technologies.
- GaveKal is not moved by America's growing account deficit, currently 7% of its GDP: U.S. household net worth stands at $54 trillion and growing at about $3t a year -- far larger and far faster than the $2.5 trillion it owes the rest of the world. Furthermore, trade statistics measure dollars, not profits per sale: The sale in the U.S. of a $700 computer might generate a negative trade balance of $450, because of components from Asian vendors shipped for assembly in the U.S. But the transaction might generate only a $30 profit for the Asian vendors, while high-margin American beneficiaries -- say a Dell system, with Microsoft software and an Intel microprocessor -- might realize a profit of about $250; the U.S. comes out a big winner even though the trade balance says it lost.
- It's little wonder that foreigners are willing to finance our trade deficit: America boasts cutting-edge technology, high-margin companies, enviable productivity growth, liquid markets, political stability and strong private-property protection.
- A housing market collapse is unlikely; real housing price growth in Ireland, the U.K., Spain, Sweden, France, Australia and the Netherlands have all outpaced that of the U.S. over the past 8 years, and seem none the worse.
Highlighted companies: The following companies are cited in the article as being platform companies: Apple Computer Inc. (AAPL), Motorola Inc. (MOT), Hewlett-Packard Co. (HPQ), Dell Inc. (DELL), Black & Decker Corp. (BDK), International Business Machines Corp. (IBM), Danaher Corp. (DHR), and Analog Devices Inc. (ADI)
Related: Barron's 'telltale charts' show how over the past few decades corporate profitability and cash flow have risen sharply, swings in industrial output and non-farm payrolls have plunged, and the credit-delinquency rate has plummeted despite a rise in subprime loans. Interpreting Economic Data Points, Paul Kasriel On the State of Consumer Debt and Savings, How Long Can Consumer Confidence, Earnings Weather the Housing Bust?, It's Still The Economy, Stupid, U.S. Trade Deficit: Not as Ominous as it Sounds
INTERVIEW: Bridging the Trends by Sandra Ward
Highlighted companies: Textron Inc. (TXT), CSX Corp. (CSX), Norfolk Southern Corp. (NSC), Hess Corp. (HES), Temple-Inland Inc. (TIN), Dominion Resources Inc. (D), Credit Suisse Group (CS), Allianz Aktiengesellschaft (AZ)
Summary: Barron's interviews Rob Lyon and Jerry Senser, Co-chief investment officers, Institutional Capital:
Related: Top holdings in Institutional Capital's three funds: ExxonMobil Corp. (XOM), American International Group Inc. (AIG), Novartis AG (NVS), Altria Group Inc. (MO), General Electric Co. (GE), Bank of America Corp. (BAC), Citigroup Inc. (C), Total S.A. (TOT), Koninklijke Philips Electronics NV (PHG). Seeking Alpha hedge fund coverage, shorts, longs.
- Economy: They don't foresee a recession: credit conditions are stable, and once businesses get rid of their currently inflated inventories and housing starts to pick up, the economy should regain momentum. It's unlikely that economic weakness will force the Fed to raise rates.
- Stock market: 2007 stock market gains should be in the mid-single digits. P/E is just under 16x trailing earnings, not far from its historical average.
- Mergers & acquisitions: "It seems every week there are more and bigger deals than the week before, and I don't think that is going to change for a while."
- Inverted yield curve: This time it's not a recession signal, because, unlike in previous cycles, it's not a signal of tightening credit. To blowup the 'leveraged-buyout economy,' you need weak economic growth and tight money. That won't happen for a while, although when it does happen it may be ugly.
- Overseas growth: It will continue to outdo the U.S.
- Favorite stocks: (1) Textron Inc. (TXT) -- they'll have a big-earnings year and in 2007 and probably in 2008. At $94 today, it's going to well over $100. (2) Railroad stocks -- they are the beneficiaries of clogged highways. CSX Corp. (CSX), Norfolk Southern Corp. (NSC). (3) Hess Corp. (HES) -- they are looking at several years of large production increases. (4) Temple-Inland Inc. (TIN) -- it has many businesses whose pieces give it value well above current levels. (5) Dominion Resources Inc. (D) -- it is about to auction all its oil, NG, and production properties. The properties should fetch over $15b ($40+/share), which is a big deal for an $83 stock. (6) European stocks: Credit Suisse Group (CS) -- trades at 12x earnings, really low for a quality private-banking operation. Allianz Aktiengesellschaft (AZ) -- it has just undergone huge streamlining and cost-cutting.
ITT's Bold Vision by Christopher C. Williams
Highlighted companies: ITT Corporation (ITT)Why Is Water So Hot?, Jim Cramer's Take on ITT
Summary: ITT is not the faltering company about which some other corporate chieftains have warned. ITT is the market leader in night-vision goggles for the military, boasts what is arguably the most comprehensive portfolio of pumps and valves for the treatment and transfer of clean and waste water, and is also the maker of motion-and-flow-control tools and electronic components. Defense electronics and services, its largest segment, contributes to 47% of revenue while water accounts for 30%. ITT revenues and EPS have experienced yearly double digit increases, and its stock has returned 17% a year since its December 1995 IPO. If ITT continues to gain share in its core high-demand markets profits should continue on a steady upward path for several years. The company has said it would increase its quarterly dividend by 27% next year, and has also indicated it would buy back 1-2% of the 187 million outstanding shares. Based on its solid operating costs and increased earnings, expected to jump at a faster pace than most other industrial companies, Chairman Steve Loranger's bullish view may actually be right.
Related: Six Water Stocks To Keep Investors Afloat: Barron's, Water is the New Oil,
In With the New by Sandra Ward
Highlighted companies: E. W. Scripps Co. (SSP), Tribune Co. (TRB) Gannett Co. (GCI), Belo Corp. (BLC), New York Times (NYT)
Summary: While most newspaper and broadcasting stocks face declines in advertising revenue and circulation, E.W. Scripps has managed to sidestep some of their problems due to (1) strong growth at its niche cable channels (such as HGTV, The Food Network and Great American Country) and (2) its Shopzilla shopping search engine, which placed #7 among the top 10 online-shopping destinations the day after Thanksgiving and is now among the top 15 Internet companies based on traffic. Traditional media is becoming less a focus for the company -- much of the cash generated by the "old media" businesses is now plowed into its cable networks and internet operations. Scripps' low price comes partially from its identification with traditional media companies, and it still appears undervalued. Analysts from Prudential Equity Group and Credit Suisse see the stock ranging from $60-$76 a share, so it's a steal now at $50. Upside includes consistently good instincts for consumer trends and the popularity of its high-end micro-targeting cable network. But Scripps has some hurdles to overcome: (1) The $268 million Shop At Home purchase flop. (2) Fear that the recent purchase of uSwitch, the British utility comparison shopper, may be the same. (3) Recent heavy insider selling. (4) Print media companies downtrend. (5) Expansion will mean having to work more with "frenemies" like Google and Yahoo! Bottom Line:"Shares could easily rise another 20%. New-media revenue is surging, and the newspapers are holding up relatively well."
Related:Like.com Visual Shopping Engine To Challenge Incumbents; Newspapers: Another Slide Coming?; Scripps’ Earnings Call - Why Shopzilla Will Wow Audiences, E.W. Scripps Company: An Unconventional Bursting Housing Bubble Play
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