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The Good Business Portfolio: 2019 2nd Quarter Earnings And Performance Review

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Includes: ADP, BA, DIS, EOS, FCX, GE, HD, JNJ, MCD, MO, OHI, PM, SLP, TXN, V
by: William Stamm
Summary

The portfolio of good company businesses is performing 6.8% better than the Dow average year to date of 10.97%, for a portfolio total gain of 17.77%.

The objective of the portfolio is to create a balanced portfolio that is, not income, not dividend growth, not bottom fishing, not value but balanced among all styles of investing.

The 22 businesses comprise 99% of the portfolio with the other 1% in cash, and the average total return over the Dow average for the 56-month test period is 31.67%.

Of the 22 companies in the portfolio, earnings of 21 beat or meet their first-quarter earnings estimates, and one missed the earnings estimate.

This article is a review of the 2019 second-quarter earnings and 2019 YTD performance of The Good Business Portfolio (My IRA portfolio). So far, this year is a good year even with Boeing (BA) having a temporary dip, which is the portfolio's largest position. Earnings data for some of the top positions in the portfolio and recent changes to the portfolio are included in the earnings section.

Guidelines (Company selection)

The Good Business Portfolio guidelines are used to create a portfolio that is a large-cap balanced portfolio between the different styles of investing. Income investors take too much risk to get their high yields. Bottom-fishing investors get catfish. Value investors have to have the foresight to see the future. Over many years, I have codified 11 guidelines for company selection. These are guidelines and are not rules. For a complete set of guidelines, please see my article, "The Good Business Portfolio: Update to Guidelines, August 2018". They are meant to be used as filters to get to a few companies on which further analysis is done before adding them to the portfolio. So, it's all right to break a guideline if the other guidelines indicate a Good Company Business. I'm sure this eliminates some really good companies, but it gets me a shortlist to review. There are too many companies to even look at 10% of them.

You see from the portfolio below that I want a portfolio that is defensive, provides income, and does not take significant risks. I limit the portfolio to 25 companies, as more than this is almost impossible to follow. I have 22 companies in the portfolio, so the portfolio does have open slots.

Portfolio Performance

The performance of the portfolio created by the guidelines has, in most years, beat the Dow average for over 26 years, giving me steady retirement income and growth. The table below shows the portfolio performance for 2012 through 2018 and 2019 YTD.

Year

Dow Gain/Loss

Good Business

Beat Difference

Portfolio

2,012

8.70%

16.92%

8.22%

2,013

27.00%

39.70%

12.70%

2,014

6.04%

8.67%

2.63%

2,015

-2.29%

5.68%

7.97%

2,016

13.38%

8.68%

-4.70%

2,017

25.10%

21.28%

-3.82%

2,018

-5.63%

-4.33%

1.30%

2019 YTD

10.97%

17.77%

6.80%

In a great year like 2013, the portfolio did fantastically. In a normal year like 2014, it beat the Dow by a fair amount. So far this year, the portfolio is ahead by 6.8% total return above the Dow average gain of 10.97%, for a total portfolio gain of 17.77% which is good with four months to go in the year and the Boeing recover yet to begin. The present volatility because of the trade conflicts will stop someday, and the company fundamentals will continue to shine this year and years to come for the portfolio of good businesses.

Companies in the Portfolio

The 22 companies and their percentage in the portfolio and total return over a 56-month test (starting Jan. 1, 2015, to 2019 YTD) period are shown in the table below. This time frame was chosen since it included the great year of 2017 and other years that had a fair and bad performance. The Dow baseline for this period is 44.24%, and 16 of the positions easily beat that baseline. The other six are companies that did not beat the Dow baseline but are still great businesses. I limit the portfolio to 25 companies and generally let the winners grow until they reach 8%-9% of the portfolio, and then I trim the position. The three companies in trim position are Home Depot (HD) at 9.33% of the portfolio, Omega Health Investors (OHI) at 8.85% of the portfolio and Boeing (BA) at 11.92% of the portfolio. Therefore BA, OHI, and Home Depot are now in trim position, but I am letting them run a bit since they are great companies. I start the companies at a base percentage of the portfolio of 1% and add to the position if they perform well during the next six months. At 4% of the portfolio, I stop buying and let the company percentage of the portfolio grow until it hits 8%, then it's time to consider trimming the position.

Dow Baseline

44.24%

Company

Total Return 56 Months

Difference From Baseline

Percentage of Portfolio

Cumulative Total

Percentage of Portfolio

Boeing (BA)

143.63%

99.39%

11.92%

11.92%

Home Depot (HD)

107.83%

63.58%

9.33%

21.25%

Omega Health Inv. (OHI)

19.65%

-24.59%

8.85%

30.10%

Eaton Vance Enhanced Equity Income Fund II (EOS)

55.57%

11.33%

7.87%

37.97%

Johnson & Johnson (JNJ)

37.56%

-6.69%

7.63%

45.60%

Walt Disney (DIS)

56.64%

12.40%

7.53%

53.12%

Automatic Data Processing (ADP)

111.02%

66.78%

6.80%

59.92%

McDonald's Corp. (MCD)

151.51%

107.27%

7.09%

67.01%

Texas Instrument (TXN)

149.63%

105.39%

6.05%

73.06%

Ingersoll-Rand plc (IR)

96.21%

51.97%

5.31%

78.37%

Altria Group Inc. (MO)

13.61%

-30.63%

4.49%

82.86%

Philip Morris INTL INC. (PM)

24.32%

-19.92%

4.57%

87.43%

Digital Realty Trust (DLR)

105.65%

61.40%

3.97%

91.41%

General Electric (GE)

-54.96%

-99.20%

1.34%

92.75%

Danaher Corp. (DHR)

117.02%

72.78%

1.20%

93.95%

Freeport-McMoRan (FCX)

-49.58%

-93.82%

0.90%

94.85%

American Tower (AMT)

133.41%

89.17%

0.95%

95.80%

Realty Investors (O)

60.04%

15.80%

0.59%

96.39%

Lockheed Martin (LMT)

177.11%

132.87%

0.81%

97.20%

Simulations Plus (SLP) *

531.34%

487.10%

0.96%

98.16%

Visa (V)

116.80%

72.55%

0.38%

98.54%

PepsiCo Co. (PEP)

53.18%

8.93%

0.59%

99.14%

*Not included in average

Average Above

31.67%

Dow

One mistake I admit to making is, I hold a position too long when it starts to go bad. My first job out of college was with GE, and I loved working for them testing the LEM (Lunar Excursion Module). GE has some great products, but the misleading accounting of the past has taken its toll. GE will be good over time, but the new management (Mr. Culp) needs time, about a year more to see the gains from the reorganization of GE's companies. He has already penned a deal that will reduce the debt by $21 Billion with a sale to Danaher Corp. for one of their companies. The graphic below shows the Dow average/100 for the past five years, a fair chart with nice gains as the United States economy is growing again with better-increasing growth.

Chart Data by YCharts

The above is the full list of my 22 Good Business positions. I have written individual articles on all of these businesses, please see my full list of articles if you are interested.

Earnings and Company Comments

For the second-quarter earnings season, the 22 portfolio companies did well with 18 beating earnings estimates, 3 matching estimates (EOS, MCD, MO) and 1 below estimates, DIS missed estimates because of costs related to their new streaming business which will take at least a year to start making money, but the revenues were up strongly.

Boeing is the largest holding in the portfolio at 11.92%. Boeing will be pressed to 15% of the portfolio because of it being cash positive on 787 deferred plane costs at $938 Million in the first quarter of 2019, an increase from the fourth quarter. Boeing has dropped in the last four months because of the second 737 MAX crash, and I look at this as an opportunity to buy BA at a reasonable price. On July 19th, BA said that they expect to have the 737 MAX flying by the early fourth quarter, and BA went up $16. The second-quarter earnings report was real bad, and BA lost $25 over three days. S&P CFRA has a one-year target of $450. BA is a long-term buy and has a backlog of over seven years. So far this year, they are not beating Airbus (OTCPK:EADSY) in orders because of the 737 MAX being grounded. The second-quarter earnings (released 7/24/2019) was $-5.82, beating the expected by $0.84 and lower than last year of $2.33, with revenue decreasing 35.1% year over year, a poor report. Boeing has completed the software fix for the 737 MAX and will submit it to the FAA within a couple of weeks. Until the 737 MAX gets flying again, Boeing will be under pressure, but I think this creates a good buying entry point. I was getting greedy with Boeing and have let it get to 16% of the portfolio, where I trimmed Boeing in February 2019 to keep it under 16% of the portfolio.

On 7/16/19, Johnson & Johnson's earnings were above expected at $2.58 compared to last year at $2.10 and expected at $2.44. Revenue beat expected revenue by $170 million, with total revenue down 1.3% at $20.56 billion. The strong dollar is hurting JNJ, but they are still growing and have plenty of cash to buy companies and continue their growth. JNJ will be pressed to 9% of the portfolio because they're so defensive in this post-BREXIT world. Earnings in the last quarter beat on the top and bottom lines. JNJ is not a trading stock but a hold forever. If you want a hold forever top-notch medical supply company with a growing 2.8% dividend (57 years of increases), JNJ is for you.

On 8/20/2019, Home Depot earnings were expected at $3.08 and came in at $3.17 and compared to last year at $3.05, a great quarter Y/Y. Revenue missed compared with expected by $170 million, a small amount compared to the total revenue. Total revenue was $30.84 billion, up 1.2% Y/Y. HD had a good report. HD will be pushed to 10% of the portfolio then trimmed down to 9%. HD is a great business, but they must start to expand its foreign business to get good growth going forward.

On 7/18/12019, Philip Morris's earnings were $1.49 compared to the expected of $1.34 and last year at $1.41. The revenue beat by $280 million from the expected, with total revenue at $7.7 billion, down by 0.4% year over year. Hold for now and only trim when PM becomes too large a percentage of the portfolio. Exchange rates and the strong dollar are causing PM (an international company) earnings to have a headwind, but they came through with good earnings. They pay a 5.5% dividend and are in a defensive business with growth to come from smokeless products, which had moderate growth this quarter but will go up since the FDA has approved their smokeless products in the United States, which is sold through MO.

On 7/10/2019, Simulation Plus earnings were $0.16 compared to expected at $0.14 and last year at $0.13. Total revenue was $9.94 Million up 16.3% Year over Year and beat expected revenue by $0.09 Million. This was a good report. This business breaks many of my guidelines, but when I saw what their business was, I had to buy a small position. Since my first recommendation about a year ago, SLP price has nearly doubled. I wish I had bought some more. They are in the business of helping decrease the time it takes to certify and test a new drug. This is a business that is right in the spotlight to reduce drug costs and still a buy, in my opinion.

In the portfolio, two companies are losing money over the 56-month test period - Freeport-McMoRan and General Electric.

FCX is a pure copper play and will go up when the China trade deal in concluded. FCX cash flow has recovered well and should be able to have a positive cash flow each year, even with the present lower price of copper. Copper demand is increasing each year with little new supply on the horizon. The portfolio did buy some FCX when it got down to $4.00/share, their assets were worth much more than $4.00, so this move did reduce the loss, but FCX still needs more time as copper prices will rise over time when the trade wars stop. FCX has closed the final long-term deal to export copper concentrate with the Indonesian Government. With copper at about $2.65/Lb., FCX is a good speculation at the present price. I have added a guideline to be careful of commodity companies as a result of the poor total return performance of Alcoa (AA) and Freeport-McMoRan. FCX has a positive cash flow even at these reduced copper prices and may be able to increase the dividend next year.

The other problem company is General Electric; GE has much-hidden value, and at the present price, it’s a buy for the deep value investor. The portfolio position is losing money and is behind the Dow over the test period of 56 months. On 7/31/2019, General Electric's earnings were at $0.17, compared to the expected at $0.12 and last year at $0.19. Total revenue was $28.83 billion, down 1.3% year over year, and revenue was in line. They are reorganizing, which should help if you are patient. They are almost all industrial now and have great products; time to grow the standard business. The new CEO is taking action, but it will take time to cut costs; hold for now and give the new CEO some time, he is acting and making deals to reduce the debt. The DHR deal will reduce debt by $21 Billion, a good step in the right direction, and he is also cutting personnel to get the earnings growing again.

Portfolio Management Highlights

The Good Business Portfolio trims a position when it gets above 8% of the portfolio. The five companies comprising the largest percentage of the portfolio are: Johnson & Johnson at 7.9% of the portfolio, the Eaton Vance Enhanced Equity Income Fund II at 8.3% of the portfolio, Home Depot at 9.5% of the portfolio, Omega Health Investors at 8.2% of the portfolio, and Boeing at 11.9% of the portfolio. Therefore, BA, EOS, JNJ, OHI, and HD are in or close to trim position, but I am letting them run a bit since they are great companies.

On August 19, I wrote covered calls against my Danaher (DHR) position to collect another premium. I like DHR, but it’s getting a bit pricey, and the covered calls give me some extra income and downside protection.

JNJ will be pressed to 9% of the portfolio because of its defensive nature in this post-BREXIT world. Earnings in the last quarter beat on the top and bottom line, and Mr. Market did nothing. In April, JNJ increased the dividend to $0.95/Qtr., which is 57 years in a row of increases. JNJ is not a trading stock but a hold forever; it is now a strong buy as the healthcare sector remains under pressure from lawsuits and drug price concerns.

Conclusion

The 11 guidelines referenced in the article give me a balanced portfolio of good companies that are large-cap and can grow their revenues, earnings, and dividends for years. They have the staying power to fix whatever goes wrong. In each case, the company has the size and good management to fix the problem. The portfolio has growth companies, defensive companies, income companies, and companies with international exposure, giving it what I call balance. Of the 22 companies in the portfolio, five are underperforming the Dow average in total return by more than 10%. All five companies are being hurt by the strong dollar since they are multinational and have a portion of their income coming from foreign operations. The portfolio is 6.80% ahead of the Dow average YTD with increases in earnings expected in the third quarter for almost all of the portfolio companies. When Boeing gets the 737 MAX flying again, that should give the portfolio a nice bump up. I intend to continue writing separate comparison articles on individual companies. I have written articles on all of the companies in the portfolio and others, and you can read them in my list of previous articles if you are interested. If you would like me to do a review of a company you like, please comment, and I will try to do it.

Disclosure: I am/we are long JNJ, HD, BA, MO, EOS, DIS, PM, GE, MCD, ADP, OHI, IR, TXN, FCX, DHR, PEP, AMT, DLR, V, SLP, LMT, O. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: Of course, this is not a recommendation to buy or sell, and you should always do your research and talk to your financial advisor before any purchase or sale. This is how I manage my IRA retirement account, and the opinions on the companies are my own.