Cru Jones'  Instablog

The Gap(GPS) reported earnings of 44cents for the fiscal third quarter, right in line with the guidance they updated back on November 5th. They also announced a $500million stock buyback.

Gross margin was up almost 4% versus a year ago thanks to better inventory management and less markdowns.

The street seems to expect fourth quarter gross margin improvement to be as impressive as this quarter's was, but management guidance in the press release suggests that they may be a bit more promotional in an attempt to grab market share. If that's the case, actual earnings may disappoint by a few pennies per share.

“We’re pleased with our third quarter results, particularly our ability to deliver earnings 25 percent above last year and our highest third-quarter operating margin in a decade,” said Glenn Murphy, chairman and chief executive officer. “Looking ahead to the holiday season, we’re focused on gaining market share as we invest in marketing and present a strong value proposition to customers across our brands.”

The "gaining market share" comment is of particular importance. As I compare expectations for this year and 2010 with peak margin results back in 2004, the expectations for sales-per-square-foot gets my attention. CEO Glenn Murphy has done a remarkable job (as I continually point out), but he can only streamline so much. At some point, they need top line growth. The problem in that area is that this sector has gotten more and more crowded over the years.

2009 and 2010 sales-per-square-foot will come in around $360 and $370 a foot, versus $445 in 2004. A return to that level would send Gap stock FLYING past $30, but as the chart below shows, it's a dog-eat-dog fight among an ever-more crowded field for those sales.

Lear is back folks! Well almost back. They're about to re-emerge from bankruptcy, after wiping out holders of the previous class of common stock. Barclays is out this morning upgrading what I'll assume are the "new" shares. They're probably making a good call -->>now that management owns enough of the new shares to actually care about the equity holders in this new "structure."

I put this info out there not because I enjoy ranting about inept management, but rather as a warning to people who assume common stock ownership is (1) as safe as you think it is, and (2) that management is on your side all the time.

Here's a presentation Lear gave back in April. I love the gem in there, "The Company recognizes that it needs to address its debt structure."

For those who've not followed the story, Lear was hit with the perfect storm of high debt, a crumbling auto industry, and a high fixed cost structure. Earlier this year it became apparent they would need to take drastic actions in order to fulfil debt maturities and plug the holes in their cash-losing operations.

Writing about it back then, I spoke to the company and asked if they might consider some "SYA financing," like Alcoa had done. By that I mean "save your a$$" sales of common stock. Yes, it's at low prices and would dilute the hell out of existing shareholders, but at least said shareholders - THE OWNERS OF THE COMPANY -would live another day.

When I put this question to Lear in a call back in May, the answers to my questions were not very comforting:

"C'mon Lear, respect the shareholders. Put a major turnaround plan together, and sell some common stock. With your stock trading at 1.42, the market sees little chance for a turnaround. With additional cash raised from a stock offering, the market may increase your odds of a turnaround, and bring the stock up into the high single digits.

I just got off the phone with Lear's investor relations. After suggesting that the company take actions similar to what Alcoa did, the response was "not at this stock price." Fair enough argument, no one likes to sell low and buy high. So when I ask about how shareholder-friendly the management plans to be in a potential turnaround/restructuring, the reply was (approximately) "the management and board's first responsibility is to the shareholder. But when we get in a potentially bad situation, our lawyers tell us that we have to take steps to protect the whole enterprise value, including debt holders and employees."

Now this is what's frustrating -when does the board and management decide that the line has been crossed, and that they now have to let shareholders get stiffed in order to protect other stakeholders. It is a very worrisome scenario to me - how can one feel comfortable investing money in common stock when their interest in tough times is subject to board and company management, who might prefer to hang onto their jobs and give debt holders control of the company, instead of taking drastic actions(liquidation) that would preserve/salvage shareholder value?

They did exactly as I suggested they would, a veritable waltz into bankruptcy. While I never was excited about the potential job losses in a liquidation, I was enraged by this company's total lack of concern for the common stockholder. Their actions bordered on criminal.

Yesterday the company put out a slideshow highlighting operating metrics (which I don't even care about at this point), and the "plan of reorganization." They lay it out themselves, that the management that destroyed billions in shareholder value, remains(note my awesome emoticons):

BUT WAIT! Not only has the management remained, but they get 1.3million new RSU's, or restricted stock units, to participate in the upside inherent in this new, leaner Lear:

And finally, with an amazing amount of unintentional comedy, they call themselves the most "talented" management in the industry. First off, this industry (at least lately) certainly isn't known for management excellence, so I'm not sure what kinda bar they're setting. More importantly, you're DAMN right they're motivated! They destroyed the previous common stock, cozied up to debt holders, and now have lucrative stock incentive to "motivate" themselves. Too bad they weren't motivated before.

Cisco (CSCO) placed $5billion in debt with investors, at very attractive prices.

From Bloomberg:

"The 5-year notes priced to yield 2.955 percent, or 67 basis points more than similar-maturity Treasuries, the 10-year securities pay 4.469 percent, or a 100 basis-point spread, and the 30-year bonds priced to pay 5.679 percent, or 130 basis points, Bloomberg data show."

Cisco last sold debt in February, issuing $4 billion of 10- and 30-year bonds, Bloomberg data show. The sale was split between $2 billion of 4.95 percent, 10- year notes that priced to yield 200 basis points more than Treasuries of similar maturity, and $2 billion of 5.9 percent, 30-year bonds that priced at a spread of 225 basis points, according to Bloomberg data."

One positive is the fact that the spread above treasuries narrowed from 225basis points (a basis point = 1/100th of a percent) to 130 on the 30year bonds. Simply put, the debt market looks at Cisco more favorably than they did in February. Well, that and there's a healthier corporate bond market.

My point is to show how cheap it is for Cisco to get its hands on money. The combined cost of debt in this deal was about 4.8% versus 5.2% in February. Right now Cisco's Free Cash Flow Yield(FCFY) is about 8.4% -->> that difference between cost of capital and return ON capital makes the shares a good buy. Certainly not as cheap as they were in March at a 17% FCFY, but a good buy nonetheless.

(FCFY based on market value net of cash. I discounted the cash per share from $6 to $4 to account for the offshore-nature of cash balances and possible associated taxes with repatriating that cash.)

This IPO is having a better debut than others recently, for a few main reasons:

 

1. The current owners are retaining a major stake in the company.

2. The valuation is very reasonable.

 

We've seen some pathetic IPO's recently. Notably have been the real estate "bank check" IPO's -->> basically raising money to buy up real estate assets they perceive to be cheap. These deals have done poorly because management has had little to no stake in the newly public company.

 

 

Ancestry.com (ACOM) shares priced this morning at $13.50 on their first day of trading. They traded as high as $15.50, and are now at $14.50, the high end of the expected offer range.

 

As I said, the current management will be heavily invested alongside those purchasing shares in the IPO. And most notably, the venture backers seem to be only selling a tenth of their position. VERY positive news.

The valuation isn't bad either. Revenue grew 13% for the first 9months of this year. At first glance that seems rather low growth for a brand new IPO, but keep in mind this company's services are among the most discretionary purchase possible, right??!! Example -->>"Hey honey, I know money's tight, but I'm gonna do an ancestry search, ok?"

 

Costs are being very diligently managed, and non-cash amortization expenses for the first three quarters of this year ran at almost the same level as net income, understating cash flow. The company's current market value, based on where the shares are trading, is about $625million, or about three times this year's expected revenue. Not bad at all.

 

Price to earnings of about 24times TRAILING net income, is not bad, especially for a leverageable operating structure with 80% gross margins. Free cash flow yield of about 5% right now is lower than  readers typically see me cheer, but this is an IPO - most new issues aren't even PROFITABLE, let along throwing off free cash flow.

Good for these guys- I wish more IPO's were put together so well.

Cell Phone tower operator/owner Crown Castle (CCI) reported earnings after the close - well rather, a lack of earnings.

Net loss applicable to holders of the common stock was $23million, including a $58million loss on interest rate swaps.

Crown Castle is in a fantastic business. They have long term leases with the "big 4" wireless firms (Verizon Wireless, AT&T, T-Mobile, and Sprint) in the country's best markets. As the slide below shows, the upside on rental site revenue growth (baked into those long term leases) greatly leverages the much lower costs required to operate each site.


So what's the problem? Well for starters, that slide was part of CCI's presentation at the Deutsche Bank LEVERAGED FINANCE conference. The bulletproof-looking cash flows of this business enticed bankers and management to take those beautiful cash flows and lever them to the moon with debt, now totalling about $6.8billion.

To CCI's credit, they have dealt with refinancing very well. Maturities are pushed out, and based on this quarter, the cash interest expense looks to be at about a rate of 6%. The problem is, Crown Castle's own estimate of "recurring cash flow" (I use "Free Cash Flow", but they're pretty similar in Crown's case) leads to a yield of 6.8%. With cost of capital at 6% and return on capital only a little higher, I'd pass and wait for a better entry point.

CCI stock purchases should be made when the recurring cash flow yield is decently higher than the cost of debt, leading to timely puchases and good stock gains:


copywright 2009 AlphaNinja

Interactive marketing firm Acxiom(ACXM) is up 15% today after reporting a decent quarter.

 

After the close of trading on June 24th, they preannounced an ugly quarter, and I wrote that we should expect them to trade down when trading resumed and maybe buy some shares the next morning, which AlphaNinja investors did. We're sitting on a nice 27% gain, and there's room to go higher.

Acxiom is by no means hitting the cover off the ball, but that's why we were able to pick up shares for a big Free Cash Flow Yield.

 

 

Positives from last nights earnings announcement and conference call:

 

 

-->>"several of our clients have indicated to us that they expect to increase their marketing spending during the second half of our fiscal year. This anticipated increase in client spending coupled with our continued emphasis on expense management gives us confidence that our second half operating income performance will improve over the first half of the fiscal year."

 

 

-->> "During Q2, we announced our expansion into the Middle East and North Africa with the acquisition of DMS, or Direct Marketing Services, in the kingdom of Saudi Arabia and United Arab Emirates. What’s most exciting about this developing market is where less than 1% of the $3 billion in advertising spend goes towards the targeted marketing like the services Acxiom provides"

 

 

I like that interest expense was down to $5.4million for the quarter from $8.6million a year earlier, due to lower average balance and lower interest rates (to the tune of 1.7%!). Adding Depreciation and Amortization back to operating income, the company covers its interest expense 11.5 times. Nice.

I do NOT like that cash collection was unimpressive. Days sales outstanding (DSO's) were 62, up from 56 in March but still an improvement from last September's 68.

 

 

Wall Street earnings per share(EPS) estimates for the year ended March 2010 are currently right around my estimate of 50cents. I'm reducing my D&A (Depreciation & Amortization) estimate and boosting my CAPEX (Capital Expenditures) number, which results in me taking my Free Cash Flow estimate down to $120million. Probably conservative, but that's fine. Netting out the $167million in balance sheet cash, this company still has a 17% FCFY (Free Cash Flow Yield). That's a great deal for a company whose operational improvements are largely in front of them. I'm still long the shares, and think they'll head higher.

(Disclosure  - Long ACXM)