Company Notes Digest 10.25.13

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A digest of some of the top insights that I’ve gathered from this week’s earnings calls.  Full notes can be found here.

The Macro Outlook

Mall REIT Simon Property Group may be sounding the alarm on growth (surprised me to read this):

“clearly, clearly, the general economy has slowed…the fact is, we’re not denying that the world — the U.S. has actually slowed.” ($SPG)

The low end is certainly slow:

McDonald’s was cautious:

“In the U.S., we continue to experience a bifurcation of the consumer base. McDonald’s core customers skew towards those customers whose disposable income is not rising as much and are spending a little bit less in QSR…we believe that this fourth quarter is still going to be relatively challenged” ($MCD)

Pawn shop operator Cash America also noted extra caution in its customer base:

“the customers that we talk to, they were out in the field, in our shops and surveys just indicate there, they’re very cautious about getting extended right now…customers are not taking the full collateral value of the merchandise…Say $150 on a piece of jewelry…They’re going to take something less than that…that’s also reflected in our redemption rates. The jewelry the people have left, they want to hold on to it. And they’re not borrowing quite as heavily on it, and are not forfeiting it at the same rates that historically we’ve seen” ($CSH)

Alan Mullaly doesn’t think we’re going back to peak auto sales for a while:

“as we start to satisfy that pent up demand over this next couple of years, [auto sales] will come down to more of a normal growth rate based on demographics and discretionary income, and we think that it’s going to be in the 16 million to 17 million range. I think the peaks that we’ve seen in the past that were fueled by a lot of factors as you know, we don’t expect to see. And I think that nice, steady rate that reflects those fundamentals would be welcome by all. And I think that’s the way we’re looking at that right now.” ($F)

If consumers don’t show up for Christmas, at least retailers are lean:

“Retailers remain focused on tighter inventory management.” ($HAS)

Late cycle businesses doing well though:

Freeport was positive on construction:

“Construction, both residential and commercial, automobile activity is very positive and despite all of the political uncertainties associated with economy, our business and our customers’ business in the U.S. in the current conditions is progressing well.” ($FCX)

Ford sold a lot of pickup trucks:

“the full-size pickup segment is doing well this year, particularly versus last year. It’s up over a point, and obviously as you mentioned that’s driven a lot by the housing market.” ($F)

Despite being a defense contractor, Raytheon seems to be on track.  Size helps:

“Financially, the shutdown impact was minimal…we’re raising our guidance for sales, EPS and cash flow for the year…while a larger company such as Raytheon has the ability to mitigate the impact to our workforces, our industry supply base does not. These companies are often small and minority owned, don’t have the same resources or flexibility to weather these ongoing budget storms.” ($RTN)

Oil rig manufacturer National Oil Well Varco is doing so well it’s capacity constrained:

“Strong orders continue to load up our manufacturing plants filling up the capacity we have been adding aggressively, which requires we continue to outsource more and to spend a little more than we would like to expedite equipment” ($NOV)

If you’re in the right business, it’s a good time to invest in capacity in part because others have so much capacity:

“I mean, our customers are pretty busy…the fundamentals are very strong, day rigs are strong, financings available, the shipyard infrastructure is offering holes at very, very low cost. The risk around building these things is low. And so you are seeing drillers go after that opportunity and grow their businesses by investing in these assets.” ($NOV)

Inflation remains weak:

“Commodities, whether on a year over year basis or quarter to quarter, are pretty benign. So no, I don’t think commodities are anything to look at.” ($F)

“in the current more benign commodity environment that we have certainly seen this year and so far moving into next year, we’re going to continue to expect and see progress on the gross margin line” ($CL)

International economies are on the upswing:

Europe’s trajectory improving:

“we are beginning to see improved revenue trajectory across many of the geographies, particularly Europe…Europe is a major driver of the business as it makes up a large percent of our overall revenue.” ($MAN)

China continues to be a surprisingly strong consumer of copper:

“China remains, of course, the important global user of copper and the source of copper growth globally. The demand in China during this year has been stronger than many people expected. The Chinese are confident about their economy going forward, and all our indications from our business there is optimistic.” ($FCX)

And a strong consumer of automobiles too:

“The top line performance in China was really remarkable. Through the first nine months, wholesales were up 51%. The share was growing. Revenue strong, inventory’s in great shape. So the China story is an incredibly positive story” ($F)

Caterpillar is convinced that China will not implode (but I’m not sure how much I trust their forecasts lately…):

“China will not implode. It will continue to attract iron ore and some coal” ($CAT)

The rest of the emerging markets seem slower though:

“Asia looks more positive, led by China, but India will probably remain challenged until the next year’s election that are coming.” ($ABB)

Financials

Loan demand remains middling:

“The bottom line is, pipelines remain fairly strong, line utilization remains fairly weak. And it’s just really hard to figure out. There’s no compelling change in the direction either — certainly not getting dramatically weaker. But there’s no evidence that the sentiment in loan demand is growing stronger out there that we can see, either.” ($ZION)

But deposit growth is so strong that ZION wants to turn depositors away:

“we don’t want to drive deposits out by driving customers out. And it’s basically existing customers leaving more cash with us…we’re providing — let’s just say about as little an incentive for them to do that as we can conjure up.” ($ZION)

Regional banks are still trying to significantly change their loan exposures:

Decreasing exposure to construction loans:

“new construction commitments have been fairly strong for the last several quarters…[but] total new unfunded commitments increased only 1% sequentially as we’re hitting self-imposed concentration limits in some construction loan types in some markets.” ($ZION)

Trying to fill the gap with more consumer and C&I:

“Strategically, that is — we would like to grow consumer to a somewhat larger percentage of the total, and the 2 natural areas for us to do that are…resi mortgages, both first and equity lines, the other is credit card…So less CRE, more consumer and lots of C&I is what we’d like the portfolio to look like.” ($ZION)

And other specialty products:

“the specialty areas where we have been investing and expanding, where we have significant expertise…Some of these specialty areas that have been particularly strong for City National include, of course, our very strong entertainment division.” ($CYN)

Subprime customers still don’t have access to credit in bank channels:

“quite frankly, I’m not seeing a lot of available alternatives that work for our secured customer, secured loan customers out there. So I’m not aware of any new bank products that would compete with our secured loan products. And clearly, I guess, there is some movement in the subprime auto space. But basically, our demographic profile in our surveys with customers, I don’t really believe that’s having an impact on this consumer.” ($CSH)

The environment also doesn’t lend itself to a lot of M&A:

“Frankly, I like the position we’re in now, the base that we’ve got and the geographies we’re in and the businesses that we’re in. And we’re more focused really on organic growth…I do tend to think that sellers still overvalue the worth of their businesses. And I also think that you’re seeing activity, but you’re likely to see it kind of more amongst the smallest banks who I think are particularly challenged in this environment” ($CYN)

Financial capital is searching for returns in places it doesn’t belong, like P&C insurance:

“The securitization of non-tail risks is having an impact on cat business and those large property risks. There’s lots of people who have investment portfolios who are looking for non-related risk profiles, and therefore, you’re seeing an increase in cat bonds and other kinds of behaviors. That’s going to continue to impact back on the business.” ($WRB)

Ultimately these alternative capital suppliers don’t have the domain expertise and are going to get burned:

“I think these capital suppliers who are entering the business entirely based on models and forecasts are going to find out that human judgments actually are of value and important. And a number of them will get badly burned as they step away from the highly forecastable pieces of the business to other parts. So yes, they may step and put their toe in the water in other things, and I can assure you it will be extremely costly and short-lived.” ($WRB)

Low investment returns mean that underwriting profit is even more important:

“whereas historically, people would say, if you’re right at a 93%, 94%, 95%, [combined ratio] you’d get a good return, today, that number is 88%, 90% kind of a number to get a good return on your capital.” ($WRB)

Consumer

Consumers may have depleted their gold stock:

“we’ve seen some of those independent gold buying stores begin to close…it’s not so much what happens with price of gold, quite frankly, my belief is that there has been a significant amount of gold volume that has been scrapped over the last 5 or 6 years and people don’t have excess stuff to bring in. So even if gold went $2,000 an ounce…I don’t expect to see significant jump in overall gross profit…just because I don’t believe in volume of gold people would be willing to dispose of is anywhere near the level than it was in 2006 and ’07 when this process began.” ($CSH)

Companies continue to experiment with new forms of advertising:

McDonald’s stresses more digital engagement:

“Technology is going to be a big part of our future, particularly digital engagement with consumers. And so you’ll hear us and see us talk much more about digital engagement with consumers.” ($MCD)

Colgate sees opportunities at retail:

“even though it may not be popular because there’s still this feeling that if it goes to trade spending, it’s bad advertising. And if it comes below the line as we were all brought up, it is somehow good advertising. The fact of the matter is with the techniques available to you today, you can foster some incredible engagement that is brand building and trial generating with our consumers at the retail level.” ($CL)

Consumers want more transparency in what they’re eating:

“Customers want to hear more about transparency. They want to hear about provenance and where the food is from. So those things we’re very proud of at McDonald’s, and we’ll continue” ($MCD)

There are two tiers of fast food in China:

“the Chinese typically, in tougher economic times, they typically revert to what we would call CQSR, Chinese QSR, noodle shops, etc., than they do Western QSR-based companies.” ($MCD)

Technology

No signs that the PC decline is abating:

“this PC platform decline is deep enough and we don’t see anything underlying that that’s changing right now.” ($LOGI)

So Microsoft is focused on the cloud:

“the importance of our hybrid cloud. Within especially our server business, our ability to power the cloud whether you want to run it, you want a service provider to run it or you want to use ours, is really an incredibly powerful story” ($MSFT)

Healthcare

Too early to draw conclusions, but so far demand looks robust on the exchanges:

“given that we are just 3 weeks into the open enrollment period, it is really too early to draw any definitive conclusions…We can say that initial interest in exchange products appears robust. As a point of reference, during the first week of open enrollment, we received over 35,000 calls into our service centers, which is more than double our historical weekly volume for individual business. In the second week, this increased to nearly 45,000 inbound calls as consumer awareness began to ramp up across the regions.” ($WLP)

The tough launch for the exchanges wasn’t totally unexpected, and is under control:

“we’ve been working on this for a couple of years now. We knew that there would be some choppiness going in. We’ve hired bubble staff, we have a number of folks ready to assist our customers, working through the issues, and we’re not at all surprised by the initial activity” ($WLP)

Thousands of people are now getting their DNA sequenced:

“This quarter, we shipped more than 3,000 whole human genomes, close to a 90% increase from the 1,600 genomes in the prior year period. This quarter saw orders for more than 10,000 genomes, a new record.” ($ILMN)

More commercial buyers are entering the market for sequencing products:

“more than 50% of MiSeqs were ordered by nonacademic customers due to enthusiasm from pharmaceutical, translational and clinical segments…We certainly have seen increased demand for instrument purchases for the routine research going on in the biopharmaceutical industry and we get orders for the labs around the world on a routine basis.” ($ILMN)

Don’t get too excited yet though, there’s still a ways to go before mass adoption:

“there will be, if you fast forward a couple of years, an opportunity to develop technologies for doing screening of patients entering hospitals, as an example, triage. But no one can quite do that yet…we’re still probably a ways away from putting sequencers in community hospitals.” ($ILMN)

Materials, Industrials, Energy

20% Excess supply of pressure pumping equipment in North America:

“the North America market continues to have excess supply of pressure pumping equipment, and although this is improving, we anticipate pricing pressure will continue as contracts review during the next quarter or so…We are still in an oversupplied market today. With as much as 20% excess pressure pumping capacity. ” ($HAL)

But increased efficiency may help to alleviate the problem by opening previously uneconomic basins:

“I would add this rig efficiency phenomenon that everyone is being talking about we believe ultimately will grow the pie. It’s going to make some of the less economic basins now more attractive and more economic and so with ample financial resources and kind of growing opportunities perhaps in another basins you know we think that’s a pretty good backdrop to see expansion sometime out there in 2014.” ($NOV)

Shale exploration seems to be consolidating in the US:

“A few years ago dozens of speculative shale plays were being probed today these are coalescing down to a handful to a handful of the most profitable” ($NOV)

There’s still a lot of frontier abroad though (very interesting explanation of why shale production came to North America first):

“The second major shale market encompasses basically the rest of the world outside North America. Here is where infrastructure is less developed, we view this market as considerably less evolved with tremendous potential and work to be done that will likely span a generation. It is not coincidental that the shale revolution was born on the continent with 2/3rds of the world’s working rigs and the highest level of geologic understanding. Shale plays unconventional plays are by definition marginally economic requiring established efficient oil services infrastructure capable of earthing a well the cost of which is marginally exceeded by the value of the hydrocarbons produced from it at some reasonable expected commodity price.” ($NOV)

And if we tap out of opportunities on land, then take to the sea:

“you take all the floaters that were in existence prior to 2005 and you add all the floaters built since 2005 and you add all the floaters that are on order to be built. You are almost up to half of the rigs working in the state of Texas to go out and drill up the rest of the – two-thirds of the planet covered by deepwater. So we think that’s again a huge opportunity.” ($NOV)

Investors and CEOs have two different views of the mining sector:

“I was sort of struck by the two different views at LME, a lot of people with investors and who follow the investor community were really pessimistic about metals in general and about copper because of this expectations of supply coming on stream, then as I talk to end users and customers and traders and other company CEOs, you know, the theme that came back was, hey, demand is stronger in 2013 than we expected, premiums are strong.” ($FCX)

Freeport argues that copper markets are still relatively tight:

“even as the situation of where there’s as much concerns about the global economic market, about new supplies and we see a copper market in fundamental that’s relatively tight…My point is, that the longer-range story about the copper business is intact. Demand from global development and global economic growth over time will be strong and supplies will continue to be challenged.” ($FCX)

Mining companies are still producing, they’re just not investing in expansion:

“We’re still seeing strong mine production. In fact, some of the big mining companies are setting production records…in my discussions with these guys, it’s been pretty bullish in terms of what they see for existing mines in the scope of a very bearish situation for any expansion. Any expansion in the near-term is dead. It’s over. It’s not going to happen. But they are really focused on increasing productivity, getting a lot more mine production out with less resource. That’s one of the reasons I think we’ve seen fewer replacement sales and aftermarket sales frankly in the last few months.But they are all fairly optimistic on existing mine production” ($CAT)

They may also be holding back on maintenance in order to produce better near term results:

“We do think that mining customers are delaying some maintenance and repair. They’re working hard to improve for this year their results and we certainly understand that. We’re taking a lot of cost action that’s pretty short-term focus as well. But that kind of behavior can’t go on forever. So it’s probably increasing the likelihood that the further out you go, the needs for rebuild and repair are going to go up.” ($CAT)

Miscellaneous Nuggets of Wisdom

It’s tough to really know what your competitor is up to:

“trying to figure out what your competitors do is a Rubik’s Cube.” ($WRB)

In insurance you don’t know your cost of goods sold up front:

“The fact of the matter is that we are in a business where we do not know our cost of goods sold until after the sale has been made.” ($WRB)

Underwriting property casualty insurance is a lot like investing (I strongly believe all investors should study the property/casualty insurance industry):

“what I would suggest to you is that oftentimes where the market has gotten the ugliest is oftentimes where you will see the greatest or the most severe reaction and the pendulum will swing farthest going in the other direction, and you just need to make sure that you don’t jump back in prematurely.” ($WRB)

Cyclical business models necessitate flexible cost structures:

“I mean, this is an industry that goes up quickly, it goes down quickly. What you need to be able to do is flex your costs, and that we’ve worked pretty hard to do.” ($CAT)

Businesses can adapt to a lot of different environments, they just need confidence that the rules wont change:

“I just know that American industry really likes to have some finality in what we do. And if you give us a number, we know how to put our strategies and plans in place to make that happen.” ($RTN)

Short term discounting isn’t a sound long term strategy:

“our belief is that you build categories by building brands, which is a combination of building your base business and adding relevant innovation. We do not believe that the short-term pricing activity accomplishes that nor do we believe it is rational or sustainable.” ($CL)

Price is what you pay, value is what you get:

“In my experience, in price, when you buy that way, you don’t get all the capabilities you want, and so they’re going to have to deal with that…What people don’t realize is that life cycle costs really run into these decisions. And if you don’t take that into account, you’re going to be really sorry with some stuff you bought…you have to almost learn that lesson the hard way.” ($RTN)