In this article I take a look at Intel (INTC), International Business Machines (IBM), Oracle (ORCL), Advanced Micro Devices (AMD), and Nokia (NOK). Second quarter earnings and SEC filings are being released, I'm updating my valuations, getting a feel for how companies should be trading this quarter, and looking for good investment opportunities.
Overall, the technology sector has been a leading performer during this bull market and Intel, IBM and Oracle have been good performers. I've been doing some research on Nokia and their new product line: I believe shares of Nokia have reached a bottom. Further, I'm going to pay attention to AMD to see if they will eventually be able to challenge rival Intel. And last but not least, I examine Research in Motion (RIMM) which may be trading at a bargain.
As part of equity analysis, analysts need to conduct macro-economic analysis. At the end of the article is macro-economic analysis. I am forecasting a recession in the U.S. in either 2013 or 2014.
Intel -- Buy (reduce exposure)
Strong Financial Performance and Position
Intel reported second quarter revenue of $13.5B, operating income of $3.8B, net income of $2.8B and EPS of $0.54. The company generated roughly $4.7B in cash from operations, paid dividends of $1.1B and used $1.1B to repurchase stock.
Revenue grew from $10.8B in 2010 to $13B in 2011. Compared to the year-ago quarter revenue grew 3.6 percent in 2012's second quarter. Cost of sales declined and gross margin expanded. Gross margin increased 8.3 percent compared to the year-ago quarter. Research and development spending increased 26.5 percent and increased from 15.2 to roughly 18 percent of net revenue. The increase in research and development spending as a percentage of net revenue could create long-term value for investors. Operating expenses increased 19 percent and operating income declined 2.6 percent. The decline in operating income is attributable to the increase in research and development spending. Net income declined 4.3 percent. Total comprehensive income declined 12.4 percent.
Total current assets was pretty much unchanged from the end of the fourth quarter of 2012. Other current assets and inventory increased substantially. Total assets increased 1.7 percent as Intel increased plant, property and equipment. Total current liabilities declined 12.4 percent, Intel's liquidity improved. Total shareholders' equity increased 6.2 percent.
During the first six months of the year earnings were high quality. Cash from operating activities was enough to cover cash used in investing and financing activities as dividend and share repurchases totaled roughly $5B. Cash increased $158M during the first six months of the year.
Additional Share Repurchases
Intel had $7.5B remaining to repurchases shares at the end of 2012's second quarter.
Intel faced legal suits alleging anti-competitive business practices. The majority of the litigation the firm faced was brought by AMD. Unfavorable rulings in the court cases shouldn't have an adverse material impact on earnings and operating cash flow.
Investors should watch for a resolution of the McAfee Shareholder litigation and the X2Y Attenuators patent trial. There could be short-term adverse material impact to earnings and/or cash flow from operations.
Strong Segment Data
The PC Client Group and Data Center Group, Intel's two largest operating segments, performed well during the first three and six months of the year.
Not Much Competition
Intel dominates the processor market. We'll see how well they adjust to the mobile processor market. However, while the tablet market is fast growing market, it is unable to replace the traditional desktop, notebook, and server markets. Further, I think there is scope for increasing desktop sales as televisions serve as computer monitors.
Company v. Industry [TTM]
- Return on Assets: 17.90 v. 2.40
- Return on Investment: 21.09 v. 2.48
- Return on Equity: 25.42 v. 0.56
(Company v. Industry data courtesy of Reuters)
Based on the management effectiveness ratios, management is effective. However, the bar is low as industry performance is weak.
Revenue-share growth has slowed in recent quarters which is consistent with the global economic slowdown.
Book value-share is increasing: the increase is bullish for shares of the chip maker.
Shares of Intel are trading near the declining 50-day simple moving average, a sign that the trend is towards lower prices. However, shares of Intel found support at the $25 level and may rally.
Price-sales is off of its recent peak as the share price declined and revenue-share increased.
Price-book value declined in recent weeks as the share price declined and book value-share increased. However, the valuation metric is well off its 2011 low suggesting downside risk to valuation.
IBM -- Buy (reduce exposure)
Overall, the second quarter was decent. Although, sales and earnings growth were well short of my estimates. Net income grew 6 percent while operating income grew 8 percent. Further, gross profit margin expanded. Revenue declined 3.3 percent and fell across all business segments compared to the year-ago quarter. However, the firm did an excellent job of managing expenses as net income increased. The cash dividend per share increased 13 percent compared to the year-ago quarter. As a percentage of net income per share the dividend is sustainable. The dividend yield is 1.6 percent: investors can only earn the dividend yield if they reinvest dividends at the same yield. Comprehensive income declined 25 percent: the decline is mostly attributable to a loss from foreign currency translation.
Current assets declined 6.9 percent as the cash balance decreased and accounts receivables declined. Short-term debt declined as current liabilities declined more than 6 percent. In other words, the liquidity position improved. However, long-term debt increased roughly 10 percent.
Earnings during the first six months of the year were high quality. Cash from operating activity was enough to cover cash used in investing activities. However the firm didn't generate enough cash to cover financing activities and the cash balance decreased roughly $1.1B. As of June 30, 2012, International Business Machines had $10.9B in cash. Free cash flow increased 32 percent during the first six months of the year compared to the first six months of last year. The amount of shares repurchased decreased 25.1 percent.
The majority of receivable accounts are loans to firms with high-quality credit or investment grade credit ratings. The firm's total receivables, as of June 30, 2012, in Portugal, Italy, Greece, Spain, and Ireland were roughly $2.3B and represented about 6 percent of total net trade and financing accounts receivables.
IBM runs a well diversified business. Global Technology Services is 37 percent of revenue; Global Business Services is 17.6 percent of revenue; Software is 25 percent of revenue; Systems and Technology is 16 percent of revenue. Revenue declined across all business segments. In terms of pre-tax margin, the Systems and Technology segment is low margin, but the Global Financing segment is high margin and is 9 percent of pre-tax income.
IBM's management is expecting year to year earnings growth of 9 percent in the second half. The firm expects revenue currency headwinds to continue in the second half of the year.
IBM signed a 10-year deal with Cemex to provide business processes and information technology services. The deal is said to be worth just over US$1B.
Company v. Industry
- Return on Assets : 14.32 v. 18.44
- Return on Investment : 21.94 v. 23.96
- Return on Equity : 74.65 v. 26.25
(Company v. Industry data courtesy of Reuters.)
Overall, management is underperforming based on the company versus industry management effective ratios. However, the industry return on assets, investment, and equity are high relative to other industries. Therefore, IBM's management should be considered effective in the broader context.
Revenue-share is increasing, however, the pace of the increase has slowed in recent quarters and may decline in the quarters to come.
Earnings-share for the twelve trailing months is increasing sequentially. The increase in earnings-share is considered bullish.
Shares of IBM are trading above the declining 50-day simple moving average. The price may be headed higher, however, I'm awaiting confirmation and rallies may still be opportunities to sell.
Price-sales is off of its 2012 high, however, substantial downside risk to valuation exists. Price-sales is roughly 17 percent off of the 2011 low. Given that the pace of increase in revenue-share slowing there is potential for a decline in sales and a decline in share price.
Price-earnings is off of its 2012 high, however, substantial downside risk to valuation exists. Price-earnings is roughly 14 percent off of the 2011 low.
Oracle -- Buy (reduce exposure)
The firm has a well diversified product portfolio which is something you like to see as an investor.
Oracle returns cash to investors both in the form of dividends and share repurchases. We would expect, assuming business conditions continue their trend, dividends and share repurchases to increase. The firm has roughly $3.1B of cash remaining to be used for the purpose of repurchasing shares.
Since May 2007, shares of Oracle outperformed the S&P 500 and S&P Information Technology Index. Acquisitions played a role in the outperformance of Oracle's shares as fundamental factors including revenue, income and assets increased since 2007.
The high customer new product renewal rate is splendid for investors. You like to see customers updating to the latest version of the firm's offerings.
Oracle's hardware systems business struggled in the year ending May 31, 2012 as management anticipates an improvement in 2013. Management did an excellent job of cutting expenses in the services segment as revenue grew.
Oracle continued to generate high quality earnings and increases in free cash flow. The interest rate on the firm's borrowing are fixed.
Cash and short-term investments increased 6.3 percent compared to the year-ago quarter. Current assets increased 2.1 percent in the period ending May 31, 2012 compared to the year-ago period. Current assets are 2.6 times current liabilities. Goodwill increased 16.5 percent as Oracle continues its acquisition spree. Total equity increased 9.5 percent.
Total revenue increased 1.3 percent compared to the year-ago period. Total operating expenses decreased 1.5 percent and net income increased 7.5 percent. Oracle's management did an excellent job of managing expenses.
Oracle produced high-quality earnings in the 12 months that ended May 31, 2012. However, cash from operations wasn't enough to cover cash used in investing and financing activities. Since Oracle has roughly $30 in cash the firm should be able to continue its dividend payments and share repurchases.
Xsigo Systems Deal
Oracle announced a deal to buy software maker Xsigo Systems, a network virtualization software maker. The deal adds to Oracle's already diverse product portfolio.
Company v. Industry
- Return on Assets: 13.14 v. 11.63
- Return on Investment: 16.44 v. 16.85
- Return on Equity: 23.92 v. 18.96
(Company v. Industry data courtesy of Reuters.)
Based on the management effectiveness ratios management is effective compared to the industry. The industry performance is strong and Oracle still managed to outperform its peers in the industry.
Revenue-share is increasing: the increase is considered bullish for shares of Oracle.
Book value-share is increasing: the increase is considered bullish for shares of Oracle.
Oracle is trading near its 2012 high as shares trade above the rising 50-day simple moving average, the share price of Oracle is trending higher.
Price-sales is increasing and is near its 2012 high. On a price-sales basis Oracle is overvalued.
Price-book value is off of its 2012 low and is increasing. The valuation metric suggests Oracle is fairly valued.
AMD -- Neutral
Financial Performance and Position
Net revenue declined 10.2 percent and gross margin decreased 11.4 percent in 2012's second quarter compared to the year-ago quarter. Gross margin decreased as cost of sales didn't decline more than revenue. Research and development spending decreased 6 percent: AMD didn't cut research and development spending more than revenue decreased, a long-term positive for shares of AMD. Operating income declined 26 percent to $77 million. Net income decreased 39 percent $37 million. Comprehensive income decreased 31.6 percent to $41 million.
Total cash and marketable securities decreased 10.5 percent to $1.58 billion. AMD increased inventory during 2012's second quarter compared to the year-ago quarter. Inventory increased 75 percent to $833 million. Total current assets declined slightly to $3.233 billion from $3.229 billion. Goodwill increased 71.2 percent to $553 million. Total assets increased 1.75 percent to $5.04 billion. Total current liabilities increased 32.6 percent to $2.35 billion: the increase is mostly attributable to an increase in payable to Globalfoundries. AMD became less liquid during the second quarter of 2012 compared to the fourth quarter of 2011. Long-term debt and capital leases increased 32.6 percent. Total shareholders' equity decreased 29.7 percent to $1.11 billion.
In the first six months of 2012, AMD reported a loss of $553 million. That compares with income of $571 million in the first six months of 2011. In contrast to the first six months of 2011, earnings in the first six months of 2012 were high quality. AMD generated enough cash from operating activities to cover cash used in investing activities. AMD is raising capital from investors: cash from financing activities was $21 million during the first six months of the year. Cash increased $146 million to $1.02 billion during the first six months of the year.
The financial performance was disappointing because of the weak computer market and macro economy. The financial position deteriorated and AMD is raising capital from investors.
The graphics segment was flat compared to the year-ago quarter. AMD produces the world's fastest graphics chip. The graphics segment managed expenses well and operating income grew from a loss of $7 million to a gain of $31 million. Computing solutions, AMD's core business, saw revenue decline 15.4 percent to $1.05 billion. Operating income declined from $142 million to $82 million. The decline in computing solutions revenue is attributable to a decline in volume of units shipped. In terms of the graphics segment, increasing sales of game consoles incorporating AMD's graphics technology was offset by declining sales of GPU products.
International sales as a percent of revenue decline 200 basis points to 93 percent in 2012's second quarter.
Company v. Industry
- Return on Assets: -12.26 v. 2.40
- Return on Investment: -19.06 v. 2.48
- Return on Equity: -45.61 v. 0.56
(Company v. Industry data courtesy of Reuters)
Based on the management effectiveness ratios management is ineffective. Management isn't generating returns.
Revenue-share is declining: the decline is considered bearish.
Book value-share is declining: the decline is considered bearish.
The price of AMD shares is falling off of a cliff.
Nokia -- Buy
Financial Position and Performance
Current assets decreased 8.7 percent in the second quarter of this year compared to the year-ago quarter. Nokia has plenty of cash. Additionally, current assets are 31 percent greater than current liabilities; the firm is liquid. The financial leverage ratio is 3.5. Nokia had about EUR 5 billion worth of goodwill on the balance sheet and EUR 1.7 billion in plant, property and equipment.
Total revenue in the second quarter, compared to the year-ago quarter, decreased 18.7 percent. Revenue in the second quarter compared to the first quarter increased 3 percent. The sequential quarter comparables are the critical when evaluating Nokia. My expectation is for Nokia Lumia sales to increase. I'll be watching for sequential quarter comps. sales increases. Operating profit increased 38 percent. The operating loss was smaller in 2012's second quarter compared to 2012's first quarter.
In the second quarter of 2012, earnings were high quality; additionally, the firm generates cash from investing and continues to pay a dividend. Nokia had EUR 8.7 billion in cash at the end of the second quarter. The firm should be able to maintain its dividend payments. Nokia has a track record of generating cash from investing activities: that cash will cushion losses from operating activities. Overall, the firm has an excellent cash position. It remains to be seen if the firm can turn operations around and generate positive and growing net income.
Devices and services net sales declined 5 percent compared to 2012's first quarter. The decline is mostly attributable to a decline in smart devices net sales of 10 percent. Mobile phones net sales declined one percent. Mobile device volume increased 1 percent with smart device volume declining 14 percent and mobile device volume increasing 4 percent. Devices and services operating loss increased from EUR 219 million to EUR 474 million. The Lumia hasn't turned the smart device segment around yet.
Nokia Siemans Networks sales increased 13 percent compared to 2012's first quarter. The operating loss shrank from EUR 1 billion to EUR 227 million.
Nokia's device and service segment continues to lose customers in its core geographic areas: it's core geographic areas are Europe, the Middle & Africa, Greater China, and Asia-Pacific. However, there is sequential growth in North and Latin America. In 2012's second quarter, Europe was 27 percent of net sales; the Middle East & Africa was 16.5 percent of net sales; Greater China was 13.5 percent of net sales; Asia-Pacific was 23.6 percent of net sales; North America was 3.2 percent of net sales; Latin America was 16.1 percent of net sales.
In 2011's second quarter, Europe was 30.5 percent of net sales; the Middle East & Africa was 18.1 percent of net sales; Greater China was 16.7 percent of net sales; Asia-Pacific was 19.8 percent of net sales; North America was 1.6 percent of net sales; Latin America was 13.3 percent of net sales.
Europe, the Middle East & Africa, Greater China as a percentage of net sales in the device and service segment declined, while the device and service segment increased net sales in Latin America, North America and Asia-Pacific.
By volume, Asia-Pacific buys the most units from the device and service segment followed by the Middle East & Africa, Europe and Latin America. The devices and services purchased in Asia-Pacific and the Middle East & Africa are low priced.
Nokia's outlook for everything except the smart devices segment is positive for investors. I expect the Lumia sales to increase as the phone has been dubbed by many, "The best phone on the market." Further, the full impact of Nokia's product launches has yet to be seen. In other words, the devices are relatively new and may take some time to increase market share. In my opinion, it'll be difficult to reverse the trend of declining sales in Europe, the Middle East & Africa, and Greater China. Nokia's best chance at growing revenue and returning to solid financial performance will be in North and Latin America and Asia-Pacific: the pace of the declines of revenue are slower in those regions and the trends easier to reverse.
Additionally, I'm not sure where Nokia is going with the Location and Commerce operating segment. Currently, the operating segment is spending almost as much on research and development as it generates in revenue. The operating segments could be a waste of EUR 400 million-year.
Company v. Industry
- Return on Assets: -13.0 v. 3.72
- Return on Investment: -27.84 v. 5.27
- Return on Equity: -32.59 v. 4.12
(Company v. Industry data courtesy of Reuters)
Nokia's management isn't performing better than its competitors in the industry.
This could be a good level to accumulate shares on valuation as research suggests Nokia's earnings will surprise on the upside.
I expect revenue-share and book value-share to increase in the coming quarters.
Shares of Nokia are trading below the declining 50-day simple moving average. The trend is towards lower prices.
Price-sales and price-book value are declining. In my opinion, based on research, the firm is undervalued.
Research in Motion
Current Price: $8.29
12-Month Target Price: $12.00
|Net Sales Q1 ($):||5556||4190A|
|Net Sales Q2 ($):||4908||2814A|
|Net Sales Q3 ($):||4168||2709|
|Net Sales Q4 ($):||5169||3359|
|Net Sales Year ($):||19801||13072|
Source: Grosvenor Research & Analysis, Company data.
I believe Research in Motion is undervalued relative to its assets. The firm hit a roughly patch as changing consumer tastes led to a decline in market share. However, in my opinion RIM still produces the best smart phones on the market. I await the launch of the BlackBerry10 operating system as well as the new product line.
Further, cost cutting measures should allow RIM to return to profitability. RIM needs to rightsize as new competitors in the smartphone market have decreased economic profit. My projection is for $13B in sales this year. RIM's current market capitalization is about $4.35 billion. I believe the firm is worth closer to $13-26 billion. The 12-month price targets suggests a valuation of roughly $6-7 billion and may be increased as future events dictate.
Financial Position and Performance
Cash and cash equivalents, and short-term investments increased compared to the first quarter. Accounts receivables declined 16.7 percent to $2.55 billion. Inventory declined slightly to $1.02 billion. Other current assets increased 40.3 percent to $512 million. Total current assets declined 5.5 percent and total assets declined 4.8 percent. Total current liabilities declined 4.6 percent. Total liabilities declined 4.7 percent. Noticeably absent from the balance sheet is debt. Shareholders' equity declined 4.9 percent.
Total revenue declined 42.7 percent compared to the year-ago quarter. Gross margin declined 63.5 percent. Operating expenses increased 13.7 percent on a goodwill impairment charge of $335 million. The net loss was $518 million.
Earnings during the three months ending June 2, 2012 were high quality as the firm generated $711 in cash from operating activity. However, RIM spent more on investing activities than it generated in operating activities and the cash balance declined to $1.47 billion. RIM doesn't pay a dividend which allows it to use its operating cash flow for investing purposes.
RIM is cutting costs and expects to deliver cost savings of $1B. The firm expected to take a restructuring charge of $350M over the next year.
RIM continues to face a competitive and challenging operating environment.
There is a substantial amount of litigation: most of the litigation alleges patent infringement. The result of the sum of the litigation could have a materially adverse impact on earnings and operating cash flow.
The U.S. remains the largest consumer of RIM products. That being said, revenue declined across all segments. Sales in Canada, the U.S., and the U.K. led declines. The other category did not see as large of a decline in sales. The hardware business is struggling. The rest of the product segments are well performing.
RIM recently introduced BlackBerry 7 devices in the U.K., Middle East and Asia-Pacific: the new product shipments could have a positive impact on revenue in the second half of calendar 2012.
U.S. GDP Forecast
In the baseline scenario, I see economic growth continuing through 2012 with a recession in 2013 and economic growth resuming in 2014. Under the alternative baseline scenario, economic growth this year is slower than the baseline scenario and the recession in 2013 is deeper. In the adverse scenario, the recession occurs in 2014. Under the baseline and alternative baseline scenarios, U.S. equities are in a bear market during 2012 and/or 2013.
The economic growth model assumes fiscal consolidation occurs in the U.S. and/or the recession in Europe is deeper than currently forecasted. Also, we could see a spike in the price of oil on Iran risks.
ISM non-manufacturing PMI is declining; the index is expected to continue to decline in the coming months.
Non-farm employment change is declining; the pace of job growth is expected to continue to slow.
CB consumer confidence is starting to decline; the index is expected to decline in the coming months.
European Union flash manufacturing PMI is declining; the index is expected to increase in the coming months.
European Union flash services PMI is declining; the index is expected to increase in the coming months.