When I analyze a stock I like to pick companies that can grow in the future without requiring equity financing. If a company is only able to grow by issuing equity or increasing its debt levels, the larger number of shares outstanding or the higher leverage will cancel out any benefit that equity holders might realize from a company's growth. It is essential to find companies with high profit margins because they are better able to generate returns internally. In addition, companies that are able to maintain adequate cost controls over fixed assets and working capital are able to manage cash needs and avoid equity financing.
In the article I describe some stocks I found interesting to research and explain some facts about each company plus top hedge fund managers that bought each stock. It is important to evaluate not only each company's fundamentals and the whole "story" but the quality of the management. An above-average management is determined to develop new products and services that will continue to spur sales growth long after current products or services are largely exploited. I analyzed each manager's holdings using whalewisdom.com
I like Groupon.com. I think that investors have already discounted the risk of GRPN's accounting revisions, the insider selling lockup expiration, and the deflation of a disappointing IPO, leaving the shares at levels that I consider attractive. I think there are key potential areas of growth that could develop and increase earnings. For example, Groupon could push into direct e-commerce, taking inventory to add to overall margins.
In the recent quarter, Groupon exceeded consensus expectations, posting revenue and operating profits that surprised the market. Billings were up 10% and revenue was up 13.6% quarter over quarter. The earning upside was driven by higher take rate and appreciably lower marketing spend, offset somewhat by lower gross profit and higher SG&A. While results were marginally better than forecast, the rate of active customer net additions is slowing as is sequential revenue growth. Despite that, I think GRPN's business is progressing.
I like both Disney and Ulta Salon picks. Ulta Salon's recent Q1 results were great across the board, reflecting another quarter of double-digit same-store sales growth as well as 200 basis points of upside operating expansion. In addition, the company raised fiscal 2012 guidance and announced an expanded store plan as well as 50 new Lancome boutiques. I remain bullish on the shares despite a premium valuation, given Ulta's healthy operating momentum, pristine balance sheet and meaningful growth opportunities.
Regarding DIS, I think that the company is achieving record profits. I like DIS' strategy of global expansion and management expressed that China is a top priority for the company. In Q2, Media Networks was the largest contributor to the company's performance. Operating income growth for that segment was primarily driven by growth in cable networks, with ESPN and domestic Disney Channels being the main drivers. I got encouraged to see DIS' revenues growth in Media Networks driven by the quality of its content and the consumer demand for it. The expansion of Hong Kong Disneyland is proceeding nicely and features three new areas including the toy story land, which the company opened recently.
Richard Perry pick: Cisco (CSCO)
I prefer Intel (INTC) to Cisco to invest but I consider Cisco a good company. In the recent earnings call, Cisco management pointed to a weak macro scenario (Europe, public sector, conservative IT spending) that will affect earnings in the short term as well as longer sale cycles and a decline in deal sizes.
Cisco is the largest player in the networking space. Although 2011 was not a good year for the company, it retained its number one position by far across all segments. According to research firm Infonetics, Cisco remained the market leader in the enterprise routing segment (nearly 75% market share). It also had the leading market share of around 50% in WLAN and 67% in Ethernet switching. The data center segment was no different and here too, Cisco remains the market leader.
I think that CSCO's growth will come from a potential expansion into relatively under-penetrated markets.
Shares are undervalued. Cisco's current trailing 12-month P/E multiple is 10x, compared with 23x average for the peer group and 14x for the S&P 500 (SPY). Over the last five years, Cisco's shares have traded in a range of 10.7x to 26.5x trailing 12-month earnings. Therefore, it is currently trading at the low end of the historical range, indicating possible upside.
Meridian Funds pick: Verizon (VZ)
I think that Verizon is a solid pick from Meridian Funds. I recommend VZ to my own clients. In the last earnings report, the company saw sharp acceleration of growth in retail service revenue and postpaid services driven by increased smartphone penetration and higher data device adoption, resulting in increased usage. This top line growth combined with effective cost management resulted in a strong service to EBITDA margin. Regarding smartphone sales, VZ increased penetration of retail postpaid phone base to 47%. 72% of all retail phones sold in the quarter were smartphones. I think that VZ is a top pick considering the strength of the company's balance sheet and its growth tied to a secular trend of smartphone usage. Management remains confident to achieve the EBITDA margin improvement target for the full year and continues to be focused on improving long-term profitability of the wireline business.
Verizon continues to focus on migrating its 3G wireless traffic to 4G LTE, which has become the most powerful industry growth driver. The company is leading the industry in terms of 4G deployments, which reached to 230 markets covering more than 200 million people. Verizon expects to expand its 4G networks to 400 markets by the end of this year and the entire nationwide 3G footprint by the middle of the next year. Additionally, Verizon is seeking the deployment of 4G services to rural areas using tower and backhaul assets and its 700 MHz spectrum. The company recently introduced in-home wireless broadband service HomeFusion Broadband based on LTE technology in some rural and remote homes, which do not have access to DSL or cables. Further, the surging demand for smartphones, tablets and other devices signals a new wave in the industry and opportunities for Verizon to expand. I think that smartphone sales are expected to be healthy driven by iPhones and new LTE devices, all of which are doing well in the U.S. market.
Valuation is compelling. Shares are currently trading at 12-month P/E multiple of 18x, compared with the 26.3x average for the peer group and 14x for S&P 500. Over the last five years, the company's shares have traded in a range of 11.2 19.3x trailing 12-month earnings. I have a target price of $50.