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Category Archives: Technology
emerging markets: political risk in India
the home field advantage
No company ever goes into a foreign country expecting a level playing field. There are always going to be rules–written and unwritten–that favor the home team. This is the flip side of the belief that you’re always going to have at least a slight advantage over a foreign company in your domestic market.
One exception–if you’re hoping that the foreigner will buy your domestic business. Chances are he’d be willing to pay over the odds. But it’s equally likely the government will force a sale to a domestic competitor. Around the world, that’s just the way it is.
in sports
We see this all the time in sports.
Olympic judging.
Your favorite baseball team plays an away game. You can be sure the field will be manicured to minimize the home team’s weaknesses and your strengths. The visitor’s dugout in San Francisco is, unusually, on the first-base side of the field? Why? It faces right into the frigid wind off the bay.
The home town timekeeper will make the game clock in basketball or hockey run fast or slow, as the home team requires.
Even the referees will exhibit a home-town bias, perhaps influenced by crowd noise.
what’s not cricket
Some actions are beyond the pale, however. One such appears to be happening right now in India.
In 2004, when Vodafone was still intent on ruling the world, it entered the Indian cellphone market by buying an interest in an existing player from Hutchison Whampoa. Aware that if the transaction were done in India it would trigger a capital gains tax of around $2.9 billion, the parties did the deal offshore.
The Indian Tax Department ruled that the tax was still due. Vodafone refused to pay and lengthy litigation ensued.
Two months ago, the Indian Supreme Court ruled in Vodafone’s favor–that no tax was due.
proposed retroactive tax law change
On Saturday, the Financial Times reported that in its annual budget the Indian government proposes to change the tax law, retroactive to April 1962, to make offshore transactions involving multinationals and Indian subsidiaries subject to domestic capital gains tax.
Although the proposed change, if implemented, will have much wider implications than for Vodafone alone, it is being widely seen as aimed directly at the UK telecoms company.
The issue of course, is that Vodafone has played on the home field and won–but the losing side is trying to change the basic ground rules five years after the fact, in a way that turns victory into defeat.
I think it’s ironic that this situation is arising just as the Indian government has decided to try to woo foreign portfolio investors for the first time. If the budget documents are not just bluster and parliament makes the retroactive tax law change, that would seem to me to dim substantially the appeal to foreign investors of India’s large domestic population. The negative effect could last for many years. For emerging markets investors, then, I think the Vodafone situation bears close watching.
searching for yield in a zero Fed funds rate world
conventional wisdom
Two traditional general rules about the appropriate allocation between equity and fixed income are:
1. Take your age in years. That percentage of your assets should be in fixed income; the rest can be in equities. A thirty-year old, for example, should keep 30% of his assets in bonds and 70% in stocks. A seventy-year old should have the reverse proportions.
2. For a retiree, figure what your yearly expenses are. Keep enough fixed income so that the interest earned will cover these expenses; the rest can go into riskier assets like stocks.
Neither rule applies in today’s world, however, at least in my view.
Only a lottery winner has the luxury of using #2. Fifteen years ago, when the 10-year Treasury was yielding 8%, $1.25 million worth of them would generate $100,000 in interest income. Nowadays, you’d need a $5 million investment to earn the same.
Both rules subject the follower to considerable risk as/when interest rates begin to rise. My friend Denis Jamison deals with this subject in detail in his recent posts on PSI. …his conclusions.
my quandary
One of my former employers notified me recently that I’m being removed from participation in its fixed income pension plan. I can either take lump sum distribution or buy an annuity. I’ve chosen the former, which I’m rolling over into an IRA.
I want to keep the IRA money in income-generating assets, to counterbalance to some degree my growth investor desire to own stocks.
Believe it or not, it takes a month for my old company to process my request. Also, quaintly enough, it will issue a physical check and send it in the mail to my IRA account. Looking on the bright side, this gives me some time to figure out what to do.
So I’m looking for dividend-paying stocks. I’m not the only one, of course. And with this account I’m starting at a time when the search for such equities by individual investors is close to entering its third year. Has everything been picked over already?
first thoughts
My preliminary look around for information has turned up two interesting articles:
-the first comes from BCA Research, an independent organization headquartered in Canada (BCA stands for Bank Credit Analyst, its best-known publication). BCA continues to be very fundamentally sound. At one time it served primarily individuals and was somewhat technically-oriented and decidedly bearish in tone. Not so much any more. Today’s clients are mostly institutions.
In a February 2nd article titled US Equities: The Total Return Trap, BCA opines that traditional high income stock groups–utilities, telecom and REITS–are currently overvalued. It recommends looking for yield among pharmaceuticals, integrated oils and hypermarkets.
–A February 5th piece in the Financial Times points out that significant dividend yields are available among stocks in the EU and in the Pacific. The article lists the following current yields on various FT regional indices:
Europe (ex the UK) 3.80%
UK 3.40%
Asia Pacific (ex Japan) 3.16%
Global 2.70%
Japan 2.51%
US 1.96%.
my first stops
My order of preference is: US, UK, Asia ex Japan, Europe.
I’m not so keen on Japan. I think companies there prefer to pile up cash rather than pay dividends. The high yield is more a function of wretched stock market performance than rising payouts.
I don’t have strong thoughts on the relative strength of the € vs. the $. My hunch is that the € is going to be relatively weak, though, undermining the attractiveness of any dividend payment to a dollar-oriented recipient. If we’re going to enter an extended period of economic stagnation in Euroland, much like the “lost decade(s)” in Japan, however–and I think that’s the most likely scenario–one can reasonably make the argument that, like the ¥, the € could show surprising strength. I just don’t know. Until I have more conviction, why take the chance?
The UK is a very income-oriented market and doesn’t carry the same degree of currency uncertainty as the Eurozone, in my opinion.
I’ve got a couple of weeks to do some research. I’ll write more as I make progress.
AAPL’s awesome 1Q12
the report
After the close of New York trading on Tuesday January 24th, AAPL announced results for 1Q12 (AAPL’s fiscal year ends in October).
The company reported its best single quarter ever, with diluted earnings per share of $13.87 on revenue of $46.3 billion. Sales were up by 73% year on year for the three months; eps were up by 116%. Wall Street analysts had been anticipating earnings of $10.16 per share. AAPL not only handily beat that figure, but also blew through the high end of the estimate range at $11.26.
Management’s (notoriously lowball) guidance for 2Q12 is for revenue of $32.5 billion and per-share profits of $8.50.
AAPL shares rose by 6.3% in the Wednesday market. On the surface at least, this strikes me as a tepid response to the numbers. More on this topic below.
the details
quibbles first…
–AAPL is another one of those companies that uses the week rather than the month as their basic unit of time. This creates a problem, because a year is equal to 52 weeks plus one day for regular years, plus two days for leap year. So companies like AAPL have to throw in an occasional quarter that has an “extra” week in it to keep their reporting year and the calendar in sync.
1Q12 was one of those adjustment quarters. Not only that, but the extra week was the high-volume sales period between Christmas and New Year’s Day. So AAPL’s sales for the three months were likely 10% or so higher than they would ordinarily have been.
–the introduction of the iPhone4S shifted revenue out of 4Q11 and into 1Q12, because AAPL ran down inventories of its older phones and consumers deferred iPhone purchases until the new model became available.
–don’t make the same mistake I’ve heard from Bloomberg radio commentators of saying that this quarter’s earnings were more than AAPL made in a whole year not that long ago. This sentiment is correct, but the comparison isn’t. AAPL changed its accounting treatment for iPhone sales a couple of years ago to recognizing all the profits from a sale (markup on the device + a share of revenue collected by the telecom company over the life of a contract) up front, rather than recognize them gradually over the (usually two-year) contract term.
…followed by stunning numbers (ex the iPod)
iPhone
In 1Q12 AAPL sold 37 million iPhones, with iPhone4S leading the way. That’s up 126% yoy, in a market that expanded by 40% over that time. It’s also 17 million more than AAPL’s previous record for a quarter. Sales would have been even higher except AAPL ran out of phones to sell in key areas.
iPhone 4S wasn’t available in China during 1Q12. It went on sale there earlier in the month. Demand has been “staggering.”
iPad
APPL sold 15.4 million iPads during the quarter, up 111% year on year. According to CEO Tim Cook, the launch of AMZN’s new Kindle lines has had no effect, good or bad, on sales.
Macs
AAPL sold 1.48 million iMacs and 3.72 million laptops, both records, during the quarter. Desktops were up 21% in units yoy; laptops were up 28%. Industry growth was zero.
iPods
This declining category of devices was up 133% quarter on quarter for AAPL, but down 21% yoy. iPod Touch remains the lion’s share of sales. APPL retains a 70% share of the MP3 player market in the US and is the top-seller in most other markets (not that any investor is going to buy AAPL’s stock because of the iPod anymore).
other stuff
Sales at the Apple Stores, which make up almost a third of retail revenue for AAPL, were $6.1 billion during the quarter. Average revenue per store was $1.7 million, up 43% yoy.
The iTunes store took in $1.7 billion.
Weak worldwide demand for tech components gave AAPL a lot of buying clout for NAND flash and DRAM during 1Q12. As a result, the company’s gross margin was unusually high at 44.7%. To give a basis for comparison, full-year 2011 gm came in at 40.5%. This favorable development probably also boosted net income by 10%.
AAPL has $97.6 billion in cash on the balance sheet. Of that, $64 billion is being held offshore.
the stock
Trying to “normalize” 1Q12 eps by correcting for the extra week and the elevated gross margins, I come up with a figure of $11.50 or so for the quarter. If I had to guess, I’d peg full-year eps at least $40, even after a downward adjustment of 1Q12 results–meaning reported figures could be closer to $45 a share.
If I’m correct, AAPL shares are currently trading at, at most, 11x this year’s earnings, with 40%+ earnings growth in prospect. That strikes me as really cheap. Subtract AAPL’s cash from the equation and the forward multiple is 8.5x.
In contrast, WMT, which has nothing like the recent growth record or current prospects of AAPL, is trading at about 12x.
COH, a global semi-luxury company, whose stock has paralleled AAPL over the past year, and which has far better growth characteristics than WMT, trades at almost double the PE of AAPL. But even COH probably won’t grow as fast as AAPL this year.
Why the low valuation for AAPL?
I think Wall Street views AAPL as a firm built at present on a single product, smartphones. It perceives the global transition from feature phones to smartphones, which is at least part of what’s driving the company’s extraordinary growth, to be mostly played out. Therefore, investors theorize, AAPL will sooner or later–and probably sooner–be reduced to depending on replacement demand. When that happens, its earnings growth will shift into a much lower gear.
There’s some truth to this idea. Look at the breakout of AAPL’s revenues during the current quarter:
iPhone 53% of sales
iPad 20%
Macs 14%
iPods 6%
Music services 4%
Other stuff 3%
Total = $46.3 billion.
After iPhone and iPad, nothing else moves the needle that much. A half-decade ago, the iPod doubled the size of AAPL; the iPhone then doubled (a much larger) AAPL again. Can iPad perform the same trick for AAPL a third time? Eventually, maybe, as part of a transformation of the personal computer market over the next decade. But I’m not sure many people would like to bet on that.
And, of course, NOK and RIMM are reminders of how fast the tech world can change.
Potential pitfalls may be Wall Street’s current focus, but it’s by no means the whole AAPL story.
As I’ve been writing for some time, AAPL shares have suffered immense PE contraction over the last four or five years, both in absolute terms and relative to the market. According to Value Line, AAPL traded at a 40% premium to the market multiple in 2007 and a 60% premium in 2008. By my reckoning, AAPL is now selling at a 25% discount to the market–a much lower level than firms (like WMT) with weaker business models and balance sheets.
That’s actually the good news. The fact that a huge amount of potential future bad news seems to me to be already baked into the stock price is a powerful argument for owning the stock. In fact, I think the market is discounting a far worse future for AAPL than is likely to develop.
Can AAPL do anything to help its own cause? The company could begin to pay a dividend or split the stock. Either would give the shares a short-term boost. In the final analysis, however, all AAPL can really do is continue to post strong earnings to show that Wall Street fears are overblown.
INTC: 4Q11, prospects for 2012
the report
4Q11
After the close of trading in New York on Thursday January 19th, INTC reported 4Q11 results. Revenues came in at $13.9 billion. Profits were $3.4 billion, eps $.64. Both figures were down slightly quarter on quarter during what’s normally the company’s seasonally strongest period. Eps surpassed the Wall Street consensus of $.61, though. Wall Street’s habitually somewhat downbeat stance toward INTC was certainly influenced by the firm’s early December warning that near-term orders for its PC chips were being cancelled by device manufacturers who are unable to get enough hard disk drives to make new PCs.
On a non-GAAP basis (adjusting for acquisition-related goodwill), eps came in at $.68.
Investors were pleased with the results. INTC shares rose by about 3% in a flat market on Friday.
full year 2011
During 2011, INTC achieved lots of all-time financial highs, including: revenues at $54 billion; net income at $12.9 billion; eps at $2.39 (non-GAAP, $2.53).
one-time factors
There are two:
–Historically, INTC has used the week as the basic time period for its accounts rather than the month. Because 52 weeks x 7 days/week = 364 days, or not quite a year, this approach requires the company to have occasional 53-week years to keep their accounting in sync with the calendar. 2011 was one of those “extra-week” years. That probably added $.05 to 2011 eps.
(By the way, INTC has just shifted to the month as its basic time measure, so the “extra week” adjustment will no longer be necessary.)
–Thailand produces about 40% of the world’s hard disk drives. Massive flooding there during 4Q11 took many HDD factories out of commission. In early December, unable to build PCs without storage, device makers began to cancel orders for the INTC chips slated to go into those machines. INTC thinks we’re now passing the worst of the HDD shortage and that Thailand will be back at full HDD production late in 2Q12. INTC is adamant that component supply, not a falloff in demand, is the problem. Assuming the company is correct–and I see no reason to doubt it–the result of the cancellations has probably been to shift $.10 – $.15 a share in earnings for INTC from 2011 into 2012, as well as to make the firm’s 2o12 eps more second-half loaded than normal.
prospects for 2012
INTC expects another up year in 2012, with revenues advancing by “high single digits” and gross margins expanding by 1.5 percentage points to around 64%. Despite a massive increase in R&D spending to $10.1 billion this year (up by 21% from the 2011 level) this company guidance probably implies eps on a GAAP basis of $2.60 ($2.75, non-GAAP). If we correct for the one-time factors I’ve cited above, I read the guidance as being for flattish eps on, say, 5% revenue growth.
my thoughts
down Memory Lane
At the peak of the internet bubble in 2002, INTC was a $75 stock. It traded at 36x eps (a relative multiple of 2.4x the market) and yielded .1%. After a decade of wretched relative performance, the stock is now trading at less than 10x 2012 earnings, yielding 3.4% and at a price earnings multiple discount to the market of about 25%.
If you think that’s bad, in early October 2011 INTC was trading at 7.3x 2012 eps and yielding 4%+, more than the 30-year Treasury! Interestingly, despite Wall Street skepticism, INTC shares are enjoying their longest period (and one of only a few) of relative strength in the last decade.
where to from here? (I wrote this on Sunday January 21st)
I think there are four potential positive points to the INTC story:
1. valuation. …low PE, high dividend yield, massively cash generative operations
2. demand for PCs. …that emerging markets have reached wealth levels where average citizens are able to afford PCs. According to INTC, two-thirds of PCs worldwide are currently being sold to customers in emerging economies. None of these markets are as yet well-penetrated. So this business, INTC’s biggest by unit volume, appears to me to have much better growth prospects than is commonly thought. Ultrabooks, using reference designs supplied by INTC, may well be an added plus.
3. servers/the cloud. …the continuing evolution of the internet is creating strong demand both for the INTC chips that drive sophisticated servers for the cloud and for those used for general corporate purposes. These tend to be advanced (read: expensive and high-margin) chips.
4. INTC’s immense technology investments. …in 2012, INTC plans capital expenditures of $12.5 billion, in addition to R&D outlays of $10.1 billion. In 2011, those figures were $10.8 billion for capex and $8.3 billion on R&D. The two-year total comes to $41.7 billion!
Three possible consequences:
–increasing INTC’s already large technological lead over other manufacturers
–creating chips that will be accepted by makers of cellphones and tablets. For instance, Lenovo has announced its first INTC-powered smartphone for the mainland Chinese market.
–creating an environment for collaboration on design of increasingly complex multi-function chips, either with independent design firms or with device manufacturers. In other words, INTC would use its advanced chip fabs to attract and lock in customers. …like AAPL?
It seems to me that at $20 a share, Wall Street was factoring into the INTC stock price a belief that:
–none of its turnaround efforts would be successful,
–that the parlous state of the PC market in the US and Europe is indicative of the global market for these devices,
–that INTC parts will be displaced by ARMH components, and therefore
–that INTC will gradually go out of business.
the stock
To buy the stock at $20 a share, you’d only have to believe that stories of INTC’s demise have been greatly exaggerated.
At the current $26 or so, in contrast, it seems to me the price already factors in a grudging acceptance that the PC business may not be on its deathbed. I don’t think, however, that the value of the server business is fully reflected. Nor is there anything, in my view, for the possibility that ultrabooks may expand the PC category or that INTC will have any success cracking the smartphone or tablet market. Wall Street analysts are merrily downgrading the stock, meaning they don’t want to be seen as endorsing any of these possibilities.
$30 a share seems to me to be the next price objective. At that level, I think the idea that the current business, PCs and servers, is viable would be in the quote. But I don’t think there would be very much for new products. In addition, I don’t think that very many have considered the thought that, after more than a decade of foundry success, the economic winds may be shifting in favor of integrated design/manufacturing firms like INTC or Samsung.
My bottom line: INTC is no longer the one-way street it was in October, but I think it still has very attractive prospects. I have no desire to sell any of the stock I own. On the other hand, given the strong run it has made over the past four months, the size of my holding, and the possibility that good news probably won’t arrive before 2H12 begins, I don’t feel a powerful urge to buy today. I do think the stock will outperform the S&P over the coming year, though.
