Next week will be relatively slow with few economic releases due out and only a handful of stocks to post their quarterly earnings. The Bank of England’s policy meeting will be in focus as BOE Governor Mark Carney hinted that the bank may start raising interest rates sooner than expected earlier in June. Geopolitical tension will remain a factor for markets as the crisis in Iraq looks no closer to being solved and Ukraine and Russia continue to work towards a permanent ceasefire agreement. World powers will continue negotiations with Iran over the nation’s disputed nuclear program with the July 20 deadline quickly approaching.
Key Earnings Reports
Next week investors will be waiting for several key earnings reports including Wells Fargo & Company WFC, Alcoa Inc. AA, Family Dollar Stores, Inc. FDO and Infosys Limited INFY.
Wells Fargo & Company
Wells Fargo is expected to report second quarter EPS of $1.00 on revenue of $20.80 billion, compared to last year’s EPS of $0.98 on revenue of $21.38 billion.
On May 19, Nomura gave Wells Fargo a Buy rating with a $60.00 price target, noting that the bank’s risk management has kept it in positive standing with regulators.
“We expect WFC’s upcoming May 20 investor day to serve as a positive catalyst and would be accumulating shares into it based on our view that the company will take the upper limit of its payout ratio well above the high end of its current 50-65% target range. We expect the market to be positively surprised by the magnitude of the increase. We don’t see WFC’s CET1 ratio falling below 10.0% so long as the company is bound by a 65% upper limit on its payout ratio. We don’t expect WFC to take its payout ratio anywhere near 100% and instead view an upper limit of ~80-85% as more likely; this would keep WFC’s CET1 ratio comfortably above 9.5%. Astute risk management has helped WFC shine brightly before regulators, and we think that will be enough.”
On May 22, The Buckingham Research Group gave Wells Fargo a Neutral rating with a $50.00 price target, saying that the company’s investor day on May 20 provided good insight into the company’s future plans.
“After WFC’s analyst day, we see a greater commitment to net capital return and better than expected leverage to higher rates adding to LT value in WFC shares. 1) WFC hosted an investor day Tuesday, with management providing insight into key operating segments and detailing aspirational financial goals. 2) Overall, we were impressed with mgmt.’s equal focus on risk management and growth (and its ability to execute on both). There is no change to our thesis on the stock, and we remain cautious on the industry outlook this year for revenue. 3) WFC kept profitability targets unchanged with an ROA target of 1.3%-1.6%, an ROE target of 12%-15%, and an efficiency ratio range of 55%-59%. 4) WFC is targeting a net payout ratio of 55%-75%, up from prior target 50%-65%, with WFC expecting to exceed 55% this year, reflecting the firm’s capital ratios being at or above its targeted levels.”
On May 21, Morgan Stanley gave Wells Fargo an Equal-Weight rating with a $53.00 price target, noting that the company was likely to meet its goals for 2015 ROE and capital return.
“Post crisis mortgage underwriting stronger than we expected: Mortgage NCOs on post 2008 vintages are running at <0.05%. Loans originated post 2008 are of significantly higher quality (Avg FICO 769 vs. 678 pre 2009, avg LTV 62% vs. 84%, % 1st lien 94% vs. 73%). Out of 143k loans made, only 134 are 60+ days delinquent. WFC also revised total over the cycle NCO guidance from 100bps to 75-80bps. We took total NCOs down $280mn in 2015. Expect WFC opens the credit box a little, but credit likely surprises positively given consumer strength. Execution on cross sell important, drives our 5% revenue CAGR (ex mtg): Cross sell is up in all of WFC’s businesses, and mgmt is focused on improving this by improving its branch reach (number of products used goes up with customers who frequent branches) and increasing primary customers (up 5% y/y) who are 2.2x more profitable Stronger net payout ratio guidance of 55-75% (vs. 34% in 2013) in-line with our expectations: We expect net payout ratio of 61% in 2014 and 69% in 2015 as WFC is already above its B3CT1 target. WFC increased its target B3CT1 from 9% to 10% given the likelihood of a higher domestic SIFI buffer, the Fed’s more conservative stress test assumptions and higher op-risk as it exits parallel run.”
Alcoa Inc.
Alcoa is expected to report second quarter EPS of $0.12 on revenue of $5.66 billion, compared to last year’s EPS of $0.07 on revenue of $5.85 billion.
On June 27, Sterne Agee gave Alcoa a Buy rating with an $18.00 price target. The analysts at Sterne Agee noted that the company has a huge opportunity for growth in the aerospace sector.
“Alcoa's stock has appreciated 40%+ ytd, which can in large part be attributed to aluminum commodity markets stabilizing and the generational change over to automotive aluminum sheet. However, we believe Alcoa's ~$5 billion aerospace exposure provides the next leg, with the Firth acquisition only accentuating this opportunity. Therefore, by incorporating Firth as well as an improving aerospace outlook we are raising our price target to $18 from $15, and reiterate a Buy rating. 2Q14 Earnings Preview: Our $0.13 EPS estimate for 2Q14 is $0.01 above consensus. Engineered Products & Services (EP&S) operating metrics are expected to top $200 million for the first time in 2Q14 as a re-engaging aerospace supply chain provides ample tailwind to achieve this target. Global Rolled Products operating metrics are expected to increase 20% sequentially, although union negotiations and start-up costs for the Saudi venture are headwinds. We continue to believe Ford (F, $17.20, Buy--Ward) is pulling rolled product in preparation for the F-150 rollout. Last, on the commodity business LME pricing has been strong and premiums have held; however, with a 60-day lag in pricing, 2Q14 will not enjoy the full benefit.”
Morgan Stanley gave Alcoa an Equal-Weight rating on June 23, saying that the company is likely to improve in the third quarter due to stronger pricing among metals.
“Maintaining 2Q at $0.13 after marking to market. We start from $0.09 in 1Q, adjust it lower by half a penny for higher share count, deduct $0.01 for FX, and another half a penny for upstream guidance. We then add $0.02 for higher aluminum pricing, $0.01 for higher premiums, $0.02 for higher downstream earnings, and $0.01 for productivity improvements. Special charges, related to closures in Australia, are expected to continue into 2Q. Around $0.14 possible in 3Q. Compared to 2Q, spot metal prices are indicating a QoQ ~$0.02 lift to earnings, offset by weaker alumina (~$0.01) and seasonally weaker downstream (~$0.01). But Ma’aden & Davenport ramp up could add another $0.01.”
Stifel gave Alcoa a Buy rating on June 26, noting that although the company’s acquisition of Firth Rixson was expensive, it would be worth it in the long run.
“This morning, Alcoa (AA, Buy, $14.87) announced it would purchase Firth Rixson, an aerospace engine component producer, from Oak Hill Capital Partners for $2.85 billion in cash ($2.35 billion) and stock ($500 million) and an additional $150 million in potential earn-outs. The acquisition price implies an EV/EBITDA multiple of 8.1x based on the targeted EBITDA of $350 in 2016. This compares to the current peer group average of 8.6x for 2014 (per our colleague Steve Levenson). While Alcoa did not provide 2015 EBITDA estimates, we believe next year's EBITDA will be considerably lower given the need to reach qualification at its Georgia Isothermal Press facility (which should take 12-18 months). Firth Rixson enhances Alcoa’s position in the global aerospace market, a strong value-add end market in Alcoa’s downstream Engineered Products & Solutions segment. Firth Rixon had $1 billion in revenue in 2013, with 75% generated from the aerospace market and the remainder divided between the industrial gas turbine, commercial transportation, and oil & gas markets. In the aerospace and commercial jet markets, Firth Rixson's offerings in engine rings and forging components complement Alcoa’s existing products. Alcoa said the addition of Firth Rixson doubles the company’s product offerings on several jet engine platforms, adding an incremental $1.6 billion in revenue by 2016. During the conference call, management highlighted Firth Rixson’s capabilities in specialized isothermal forging technology as a justification for the relatively high acquisition multiple. Alcoa expects demand for high-tech isothermal forging products, which improve fuel efficiency and reduce emissions, will triple over the next eight years.”
Family Dollar Stores, Inc.
Family Dollar Stores is expected to report third quarter EPS of $0.89 on revenue of $2.62 billion, compared to last year’s EPS of $1.05 on revenue of $2.57 billion.
Merrill Lynch gave no rating to Family Dollar on June 9, following activist investor Carl Icahn’s move to take a 9.4 percent stake in the company.
“Following the disclosure after market on Friday that Icahn has taken a 9.4% stake, resulting in press speculation that he may push for a combination with DG, we have conducted a preliminary analysis of potential synergies and estimate that DG could pay up to $80/share for FDO in a cash and debt-finance acquisition, which would be 1) accretive in 2015 and 2) keep DG’s leverage to within 3.5x excluding merger synergies and 2.8x including synergies, preserving its investment grade rating. We note that DG has not commented on a potential transaction and we are not suggesting interest on their part. While we believe shareholders of both companies could be favorable toward a potential combination at the right price, the main uncertainty in our minds is whether or not DG’s management would be willing to undertake such a transaction, given the execution risks involved. In fact, we have never seen a listed retailer within 11,000 stores purchase a troubled retailer with over 8,000 stores. DG’s shareholder base is also much more fragmented than that of FDO. We note that FDO has just issued a one-year shareholder rights plan which caps ownership of all shareholders to 10% (without paying a control premium for all shares), increasing the uncertainties surrounding the situation.”
Deutsche Bank was also cautious following Icahn’s purchase and gave Family Dollar a Hold rating with a $57.00 price target on June 8.
“FDO will likely trade near the high-end of its 52 wk range as Carl Icahn now has a 9.4% beneficial stake (1M shares owned - balance through call options) with plans to enhance shareholder value via the "pursuit of operating initiatives or the exploration of strategic alternatives." With industry headwinds mounting, we believe sector consolidation makes sense, but mgnt. teams have so far resisted. FDO's underperformance to DG presents an attractive opportunity, but how to close that gap has proven elusive. Buying FDO, in our view, must be based on the level of confidence in Icahn being a change agent.”
On June 9, Jefferies upgraded its rating for Family Dollar to Buy from Hold with a $79.00 price target, citing the potential deal between Family Dollar and Dollar General as reason for its optimism.
“We are upgrading both DG and FDO based on the potential for a deal that results in a combination and large synergies are realized. A recent 13D revealed that Icahn Capital LP has accumulated a 9.4% stake in FDO. With multiple activists holding big positions, we could see FDO respond to shareholder pressure by changing management and board members or putting the company up for sale.”
Infosys Limited
Infosys is expected to report first quarter EPS of $0.76 on revenue of $2.13 billion, compared to last year’s EPS of $0.73 on revenue of $1.99 billion.
On April 25th, Jefferies gave Infosys a Buy rating, noting that the company will likely grow in the future, but that investors should beware that IT consulting sector is exposed to several risks.
“Infosys is at a stage where most financial metrics are at their worst. Growth has been volatile; margins have fallen 450bps (in the last 13 quarters) despite a currency tailwind. We believe that given the recent reset of expectations for next year, an improvement in either growth or margins would be perceived a positive. Turnaround hopes are hinged on Chairman Murthy. Infosys has guided to a 7-9% y/y $ rev growth for FY15 on the back of a soft 2HFY14. The implied CQGR of 2.1-2.9% is achievable. However after the recent set-back, stock price will gain momentum only after revenue growth accelerates. We believe that near term performance would be limited by the cautious commentary (on rev / margins / soft 1HFY15). That said, the fact that retail vertical was the main culprit (temporary weather issues) for the slowdown leaves potential for a sharp revival in Infosys’ revenue trajectory. It is trading at 13x FY16E, a 25% discount to TCS. While this is reflective of the growth lag (it grew 12% CAGR in FY09-14 vs TCS’ 17%), downside post the soft 4QFY14 is limited. Given the low current expectations and demand recovery likely next year, Infosys has room to surprise positively. However, risks of continued growth volatility and impact of management churn may linger. We use 15x FY3/16e PER to derive a PT of INR3,675. We assume coverage with a Buy. Risks: 1) global economic slowdown; and 2) rupee appreciation.”
Economic Releases
Next week’s economic calendar will be relatively quiet with most data coming from Europe and Asia. Chinese data will be under the microscope as Beijing’s mini-stimulus plan appears to be kicking in. In Europe, investors will be looking at price pressure as the bank’s aggressive easing package in June slowly takes effect. Eurozone inflation remained dangerously low in June, something that could push the ECB into implementing a large scale quantitative easing plan if it continues.
Daily Schedule
Monday
- Earnings Releases Expected: Grupo Televisa S.A TV
- Economic Releases Expected: Japanese current account, eurozone investor confidence, Spanish industrial production, German industrial production
Tuesday
- Earnings Expected: Bob Evans Farms, Inc. BOBE, Alcoa Inc. AA, Container Store Group TCS
- Economic Releases Expected: Chinese CPI, Chinese PPI, US consumer credit, US redbook, French trade balance, British industrial production, British manufacturing production
Wednesday
- Earnings Expected: WD-40 Company WDFC, MSC Industrial Direct Company MSM, CHC Group HELI
- Economic Releases Expected: Chinese trade balance, Australian unemployment rate
Thursday
- Earnings Expected From: Family Dollar Stores, Inc. FDO, Progressive Corporation PGR, PriceSmart Inc. PSMT
- Economic Releases Expected: Bank of England interest rate decision, British trade balance, Italian industrial production, French CPI
Friday
- Earnings Expected From: Wells Fargo & Company WFC, Infosys Limited INFY
- Economic Releases Expected: German CPI, Spanish CPI, US Federal Budget Balance
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