Twelve Large Cap Stock Picks

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Includes: ACN, FCX, FRX, HOG, MCO, MRO, NUE, OXY, SCCO, SPGI, VLO, XOM
by: James Cullen

Here is an updated list of my top twelve large cap buys - I consider a large cap any stock with more than $10 billion in market capitalization. The list is ordered by market cap size, as of the close Tuesday:

1. Forest Labs (NYSE:FRX) - $11.8B

Cash flow is healthy (over $850 million in FCF last year), the balance sheet is solid (net cash position is 13% of the market cap), and despite generating a return on equity in excess of 15% every year after 2000, FRX has retraced the gains seen immediately after announcing favorable news about its Lexapro patent litigation and now sits just 6% above its 52-week low.

2. Harley Davidson (NYSE:HOG) - $11.9B

It has been almost a month since Harley acknowledged something many people already knew: dealer inventories were high, and something had to give. The reduced guidance has left the stock at a 2-year low. HOG is undervalued.

3. Moody's (NYSE:MCO) - $13.5B

The winces I receive when I tell people Moody's - a credit ratings company - is a better bet than Apple (NASDAQ:AAPL) is the first hint I'm on to something. But is this a value, or a value trap? Considering the stiff competition in the credit rating space from all of Moody's two competitors, the 35% average return on assets, the 54% average operating margins, and the chance to get this stock at more than decade low multiples of earnings and cash flows, I lean to the former. I also can't ignore that Berkshire Hathaway owns 18% of the company. This isn't reinventing the wheel, just buying an excellent business (something I'm not alone in thinking) at a very favorable price.

4. McGraw Hill (MHP) - $17.3B

Remember that whole thing about Moody's (MCO) having two competitors? Here is the other, albeit in a more diversified form. McGraw-Hill also has interests in textbook publishing (ask any college student what they think about book prices), magazines (BusinessWeek), and consumer information company J.D. Power and Associates. A decade-long average return on equity of 29% and operating margins of 18.6% show that this is a consistently profitable business, and shares trade at a 2-year low at 12.75x free cash flow.

5. Nucor (NYSE:NUE) - $17.8B

The quant model including this cyclical steel producer, although I'm more wary of this than any other play listed here. I'd like to see some insider buying to convince me that NUE is still cheap, but the only Form 4s I see show selling in small amounts. A ten-year average return on equity of 13.4% isn't terrible, but hardly what the 20%+ figure I'm generally looking for. Tepid enthusiasm here.

6. Accenture (NYSE:ACN) - $23.8B

A hint: a business whose business is teaching other businesses how to be good businesses, is probably a good business. Accenture's motto is "high performance, delivered," and with a five-year average return on equity above 65%, I think they do an excellent job delivering for shareholders. Departing from the bottom picking seen above, ACN actually trades 9% off its 52-week high around $40. Then again, I liked it at $30 too, and given the 8.6x FCF multiple for this double-digit grower, $40 is going to look cheap when this goes to $50.

7. Southern Copper (PCU) - $36.5B

I like copper. Everything I've looked at with respect to copper suggests supply, demand, and new potential for new capacity to come on-line favors the big producers through at least 2010. PCU isn't a bad play, but there is a better one.

10. Freeport McMoRan (NYSE:FCX) - $40B

Yes, I skipped out of order, but I couldn't miss the opportunity to segue. Freeport is the absolute best metals play in the market. At $69 I said it was going to $85, at $85 to $100, and from there to at least $130. Freeport owns the best developed copper mine in the world (Grasberg), the best undeveloped copper mine (Tenke), and the Phelps Dodge merger has consistently been underappreciated by the market. China needs copper, America needs copper, and those economies are going to continue to be strong for the next several quarters because the policymakers won't allow anything else. If that means surging inflation in China or debasing the US dollar, Freeport has huge gold reserves as well.

8. Valero (NYSE:VLO) - $37.2B

Valero is another stock whose assets I think the market continues to undervalue - in this case, refining capacity. Compared to Tesoro (TSO) or Frontier (NYSE:FTO), Valero's BPD refining capacity is given a steep discount. The crack spread has been narrowing of late and VLO has pulled back, but I don't see demand for petroleum derivatives coming down anytime soon, nor are new refineries going to spring up across the country. VLO becomes a $75 stock on the next upturn in the crack spread.

9. Marathon Oil (NYSE:MRO) - $38.8B

The thesis on Marathon is essentially the same as Valero; there remains a large contingent of analysts who believe that we are going back to $35-40/barrel oil. I don't see that happening. Feel a theme developing into the close?

11. Occidental (NYSE:OXY) - $53.2B

Occidental is an upstream independent oil and gas company, and for being in a "cyclical" industry the 10-year average return on equity of 20.3% is very good. I'm slightly cautious here because I don't know much about Occidental's particular fields, which range into South America, Libya, and Pakistan as well as Middle Eastern nations.

12. Exxon Mobil (NYSE:XOM) - $513B

As I finished compiling this list of "$10 billion+ companies," I found it ironic that the last company had a market cap nearly twice that of every other company combined - the others sum to $301.8 billion, if you're wondering. For a company like Exxon Mobil to generate the kind of financial performance that they do from their diversified and far-flung energy empire is a testament to how well-run they are. While I don't want to get too gushy about XOM because my mother might read this and I don't feel like debating environmental issues - I'll note the ten-year average 24.4% return on equity and the $30 billion yearly in share buybacks funded from free cash flow - and let you figure out how long it will take XOM to tack on another $100 billion in market cap. When I said XOM had 50% upside last year to $90, I got that crazy look I now get when I talk about Moody's (
MCO). A sign? Take it for what you will.

Disclosure: none