Company Notes Digest 1.13.17

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Each week we read dozens of transcripts from earnings calls and presentations as part of our investment process. Below is a weekly post which contains some of the most important quotes about the economy and industry trends from those transcripts. Click here to receive these posts weekly via email.

Earnings season really kicks off next week, but there were a few companies that reported this week that had interesting things to say. We also reached back into last week for some calls that we missed while we were on hiatus.

Overall optimism about the economy is running high. Corporations and the stock market are especially excited about the prospect of lower corporate taxes. However, not as many people are focused on the other side of tax reform. House Republicans have proposed a “border adjustment” tax as part of their tax plan. The border adjustment tax would prevent companies from deducting foreign COGS from their taxes. If it passes it could be a major paradigm shift for the current structure of the economy and redesign the global supply chain. However, it could take some time before tax reform is addressed. Obamacare is apparently up first.

The Macro Outlook:

Companies are excited about tax reform

“I could spend all day on tax reform. Maybe I’ll hit two of the things that obviously we find very, very positive in terms of some the items being proposed now…the lowering of the corporate tax rate would be a good thing…And then the other one is obviously what they’re talking about relative to overseas earnings and repatriation…For us, this is potentially a really big positive…It gives us huge capital firepower as a corporation for all of the things that we talked about, to return capital to shareholders; to do strategic business development; to invest in our business. It’s a huge potential positive for us.” —Pfizer CFO Frank D’Amelio (Pharma)

All things equal, lower taxes mean higher valuations

“I hope everyone walks away and has the same concept that we do that lower taxes are definitely a good thing in relation to our company and the valuation of our company. The base concept that a…lower tax rates drive higher future net income and enhance cash flows is a very solid concept and should lead to an increase in value.” —KB Home CEO Jeff Mezger (Homebuilder)

But there are going to be other taxes too

“You want to move your plant and you think, as an example, you’re going to build that plant in Mexico and you’re going to make your air conditioners or your cars or whatever you’re making, and you’re going to sell it through what will be a very, very strong border — not a weak border like it is — we don’t even have a border. It’s an open sieve. But you’re going to sell through a very strong border — not going to happen. You’re going to pay a very large border tax. ” —President Elect Donald Trump (Government)

Republicans have already proposed a “border adjustment” tax

“One specific aspect of a proposed Republican tax reform plan called border adjustability could potentially disallow a deduction for foreign sourced COGS or cost of goods sold…we are told that other companies that should be concerned about this are just waking up to the whole matter” —Constellation Brands CEO Robert Sands (Beverage)

This would be a major change

“this sort of tax reform really isn’t about just setting up back office accounting departments to manage the new tax code. This kind of tax reform would require a time horizon that would allow companies to change their entire supply chain.” —Constellation Brands CFO David Klein (Beverage)

A huge percentage of many companies’ COGS are foreign sourced

“right now our U.S. based component of our beer COGS, inclusive of freight, is about 40%. I mean 60% of the COGS is from Mexico.” –Constellation Brands CEO Robert Sands (Beverage)

“about 12% to 15% of our cost of goods sold comes directly from outside the U.S. And we believe that…U.S. purchases that are actually foreign sourced it’s roughly about 40%.” –MSC Industrial CFO Rustom Jilla (Industrial Distributor)

You could turn the whole supply chain on its head

“Some of the things being talked about are pretty exciting in terms of the combination of tax and incentives for exports. So you could just turn the whole supply chain around and it could be a big win for some companies that have experienced in international trade.” —Greenbrier Companies CEO Bill Furman (Railcars)

Ultimately it’s too early to say what the tax system will look like

“In any case we will not have a new tax system tomorrow morning, it will take months and we will have time to see how this will shape over time…now it’s too early to distract how people – to do things, which should probably will never happen before the end, the mixture will be completely different.” —Walgreens Boots Alliance CEO Stefano Pessina (Pharmacy)

Obamacare is probably going to be prioritized over tax reform anyways

“I mean it’s probably a year off at best…We can only tell you what our legislators have been telling us, right. But the first thing that’s going to happen in Congress, which you are seeing right now is Obamacare…So Congress has a lot on its plate right now. And to work through all of the details and get [tax] legislation like that passed, well, Congress is telling us it’s going to be a while in any event. And it is clear cut and again this is literally what we have been told by the leaders that Obamacare is the first thing on their plate…And that’s going to take a while.” —Constellation Brands CEO Robert Sands (Beverage)

Meanwhile the industrial economy continues to stabilize

“the environment…is showing potential signs of stabilizing. We’ve also seen increased optimism from our customers over the past couple of months” —MSC Industrial CEO Erik Gershwind (Industrial Distributor)

“I think since the election, there is a lot more activity in positioning by major customers who might have been on the sidelines” —Greenbrier Companies CEO Bill Furman (Railcars)

The improvement is broad based and a long time coming

“It has been at least three years since we’ve seen anything resembling this…This stabilization has been pretty broad…machine and equipment folks, primary metals, metal fabrication. All of those are seeing an improvement over the last couple of months. I think some of that is driven by oil and gas” —MSC Industrial CEO Erik Gershwind (Industrial Distributor)

Trump wants to create jobs

“We’re going to create jobs. I said that I will be the greatest jobs producer that God ever created. And I mean that, I really — I’m going to work very hard on that. We need certain amounts of other things, including a little bit of luck, but I think we’re going to do a real job. And I’m very proud of what we’ve done.” —President Elect Donald Trump (Government)

But labor markets have tightened

“One of the major issues in America will be the labor pool. If we create more jobs in America where will the labor come from, because many factories in America today are having trouble filling slots for workers.” —Greenbrier Companies CEO Bill Furman (Railcars)

Tight labor markets are a precursor to inflation

“The industry continues to face cost pressures due to a shortage of labor within a subcontractor base. For 2016, our cost to build increased about 4.8% versus the prior year, roughly $5,000 per house. And we were able to cover most of these cost increases with higher prices” —KB Home CEO Jeff Mezger (Homebuilder)

International:

Rex Tillerson sees China as sometimes a friend, sometimes and adversary

“China’s economic and trade practices haven’t always followed commitments to global agreements. It steals our intellectual property and is aggressive and expansionist in the digital realm….China has proven a willingness to act with abandon in the pursuit of its own goals which at times put it in conflict with American interests…but we need to see the positive dimensions in our relationship with China as well. The economic well being of the two nations is deeply intertwined…We should not let disagreements over other issues exclude areas for productive partnership” —Secretary of State Nominee Rex Tillerson (Government)

British consumers are feeling fine about themselves, but down about the economy

“The consumer Brexit I think I’ve said over the last quarter has been sort of fairly stable at the top level. It’s bubbling around, consumers have actually felt quite good about themselves. But what I think is interesting, I think GfK highlighted this, is that what happened during the course of November and December was consumer confidence in the forward-looking economy came down substantially. And I think that there is this discrepancy in how they feel about themselves versus the economy and we’re not sure how that’s going to mature, but you will expect that much to mature over the next quarter.” —Marks and Spencer CEO Steve Rowe (UK Retail)

Financials:

Higher interest rates have not affected real estate markets yet

“Rates did pick up in November, they’ve kind of paused right now from that initial 50 basis point. And I heard some anecdotes about buyers moving to lock quickly that hadn’t locked. I’ve heard one story of a buyer who purchased now because of concerns that rates would go up. But in terms of our overall backlog…we really haven’t seen or heard anything yet on the rates having an impact yet.” —KB Home CEO Jeff Mezger (Homebuilder)

Consumer:

E-commerce customers tend to be more loyal

“Yes, our experience so far with our e-commerce customers is that they buy more, they have bigger baskets and they shop more often…and they also skew higher on our private label assortment that it really goes to the loyalty of that shopper.” —Supervalu CFO/CEO (Grocery Store)

Technology:

Monsanto hopes to have gene edited (CRISPR) products by the middle of the next decade

“So, I think first of all as you recognize there is a variety of gene editing tools. There is protein base. There is nucleic acid base. And just in the last few weeks, there has been a couple of publications on two brand new gene editing systems that have been discovered. In any case, what these tools allow you to do is to go in and precisely change basically any base pair or any gene in the crop. And so there are very powerful tool for making precise changes…I think they will allow us to further accelerate that rate of gain…we are now fully utilizing these tools and certainly by the beginning or middle of the next decade we will see these gene-editing products work their way into the marketplace. Really an exciting technology” —Monsanto CTO Robb Fraley (Agriculture)

Healthcare:

Trump singled out the Pharma industry in his press conference

“We’ve got to get our drug industry back. Our drug industry has been disastrous. They’re leaving left and right. They supply our drugs, but they don’t make them here, to a large extent. And the other thing we have to do is create new bidding procedures for the drug industry because they’re getting away with murder. Pharma, pharma has a lot of lobbies and a lot of lobbyists and a lot of power and there’s very little bidding on drugs. We’re the largest buyer of drugs in the world and yet we don’t bid properly and we’re going to start bidding and we’re going to save billions of dollars over a period of time.” —President Elect Donald Trump (Government)

But there’s no need to panic

“probably the outcome will be quite rational and at that time we will be able to organize ourselves and prepare our business to respond to the new environment. We don’t have to be taken by panic, just because the rules, mainly rules – the rules are changed. We have to wait for the changes and after rationally we will decide how to react without panicking.” —Walgreens Boots Alliance CEO Stefano Pessina (Pharmacy)

Pfizer’s CFO argues that our drug spending isn’t that out of step with other countries

” we don’t anticipate any major changes in how we do drug pricing…if you look at healthcare as a percentage of GDP, in the U.S. it’s about 17%. Of that 17%, about 2% is prescription drugs. If you compare that to the OECD countries, healthcare as a percentage of their GDP is about 6% to 7%, 1.5% of that is prescription drugs. There is not some big disconnect or big difference between what we spend on prescription drugs as a percentage of…GDP and what the OECD countries do.” —Pfizer CFO Frank D’Amelio (Pharma)

Industrials:

GM expects auto sales to plateau here

“we expect to see another strong year in 2017 from a US industry perspective. We had another record year in 2016. We think we are going to plateau at these kinds of strong levels. I think the fundamental drivers of what’s been driving the industry may change a little bit from a kind of credit driven tailwind into more of economic growth GDP type growth tailwind over the next number of years. Is there upside to the industry? Perhaps” —GM CFO Chuck Stevens (Automobiles)

Full transcripts can be found at www.seekingalpha.com