Priced for Imperfection
But even more puzzling to us are those tech companies that appear to be priced for imperfection, trading at below market multiples despite consistently exceeding analyst expectations. For example,what does it take to get an Apple investor really pumped up? Quite a bit, apparently. After reporting a 27% increase in revenue and a 40% jump in earnings on April 27th, Apple’s stock has plateaued around $130 per share.
The first quarter numbers were spectacular in many ways, but investors seem to have become immune to earnings beats from this reliable performer. Both revenue and earnings were stronger than hoped for and cash flow was extraordinary. Cash generated from operations was up 41%. Apple hit a soft patch in the first half of fiscal 2014 (year-end September) when cash flow was flat. Since then, thanks to the release of the iPhone 6 and 6 plus, cash is piling up at Apple’s doorstep. At quarter end Apple had $193 billion dollars of cash.The debate rages on as to how Apple can best use that mountain of cash. Despite spending $12 billion buying back shares during the first half of the year and increasing its dividend by 10%, investors are squawking that the cash needs to be put to better use. Legendary investor Carl Icahn penned an open letter to Apple management besieging them to repurchase more stock. In the perverse world of investments, companies often get penalized for holding on to too much cash. The idea is that this valuable asset (cash) is sitting idle on the balance sheet instead of being used to generate returns. Too much unused cash drags down the return on equity of a stock. Carl Icahn believes Apple’s stock is worth $240. If this target comes to fruition, buying back shares at the current level of $128 would be a wise investment.
Apple’s dominance in high end smartphones remains unchecked. Two quarters after their September release, the iPhone 6 and iPhone 6 plus continue to reel in the dough for Apple. Sales of iPhones were up a remarkable 55%. Lest investors or consumers grow bored, rumors of the release of Apple’s next iteration, the iPhone 7, are already being tossed out. Another product development was the April release of the long anticipated Apple Watch. As of today the watch is still not available for sale in Apple stores.
In a nod to marketing the watch as a piece of luxury jewelry, customers must make an appointment to try on the watch in stores and then order it for future delivery. Although the jury is still out on the long term success of Apple’s watch, developers aren’t waiting to hear reviews. Management touted that 3,500 apps were available for use on the watch at release date. This compares to a mere 500 apps available at the release of the first iPhone and 1,000 apps for the first release of the iPad.
Apple continues to exhibit all the characteristics of a company prospering from innogration. Innovative products are continually being developed internally and via acquisition. The success of these products fuels the positive cash cycle for future research and development. Apple is an original member of the STI investment portfolio and merits a STR rating of 6.5.
On the other hand, we understand why investors have been slow to embrace Ricoh (OTC: RICOY) as it continues to grapple with turning around a massive ship in choppy waters. Ricoh is one of the largest integrated printer companies in the world. Annual sales of roughly $18 billion are only slightly less than the $19 billion reported by industry heavyweight Xerox. As a foreign company Ricoh reports earnings less frequently than its U.S. based counterparts. On April 28th the company earnings for the year ending March 2015 as well as the quarter ending March.
For the year, Ricoh’s revenue was up almost 2% but its earnings were down 4%. Domestic Japanese sales were flat versus last year. Revenue for the rest of the world was up nicely but after adjusting for foreign exchange valuations would have been flat. Ricoh continues to tinker with its product development to grow revenue. It should not shock any investor that demand for large scale corporate printers and copiers is a stagnant business. However, Ricoh is attempting to reinvigorate sales with the introduction of specialized production printing options. Customized formatting options for billing and direct mail templates can help Ricoh expand sales to new customers. Scanners still are a source of growth as companies must digitally convert and warehouse the stacks of paper documents that still litter our desks.
Although Ricoh is a global company, 60% of its sales are still generated from Japan. The Japanese economy has been shrinking rapidly due to a draconian increase in its consumption tax. That tax was increased by 60% from 5% to 8% in April 2014. Another massive increase to 10% slated for October 2015 has been delayed as Japanese Prime Minister Shinzo Abe ponders how to counteract Japan’s withering GDP. Poor economic numbers have a secondary influence on Ricoh as well. Lousy economic performance hurts the value of the yen. A weakening yen translates into lower earnings for U.S. investors. The yen lost 15% of its value versus the dollar in Ricoh’s fiscal 2015 year and has shrunk another 4% since then. Management’s guidance for 2016 is predicated on a slight improvement in the value of the yen.
Management estimates that Ricoh can grow revenue 7.5% in 2016 and earnings 20%. While this may appear frivolous, there is a real chance Ricoh can grow earnings nicely next year. With such a huge revenue base, Ricoh can hit that earnings target if they keep expense growth to 5% next year. This seems quite plausible as the company has a program in place to streamline corporate functions to keep expense growth in check. In the most recent March quarter, for example, operating expenses were up only 4%. The real trick for Ricoh, however, will be meeting that revenue target. We have yet to see evidence that revenue growth is perking up. In its last quarter of the fiscal 2015 year, revenue dropped 1.7%.
The stock offers a healthy 2.2% dividend yield and trades at a relatively low PE of 12. Although cash flow generation was down in 2015, it was still four times the amount needed to cover the dividend payment. Despite a 5 for 1 stock split in January, the volume traded on Ricoh is still very thin with daily trading volume averaging only 9,000 shares. Ricoh is down 5% since inclusion in the original Smart Tech Investing Portfolio on 12.16.13 and carries an STR rating of 11.4
Biotech UpdateBy J. Duarte MD
In this issue:
- The Big Picture: Biotech Sector Chart Review
- In Depth: Follow UP: Buy Alert Neurocrine Biosciences(Nasdaq: NBIX)
- Portfolio Update
- News Update: ASCO Bounce Possible
The Big Picture: Biotech Seems Poised For Big Move
The biotech sector continues to act well, especially when compared to the S & P 500 which has been increasingly volatile of late as investors fret about the Federal Reserve’s potential raising of interest rates. NBI is within striking distance of a break out. A sustained move above 3900 could take the index into the mid 4500 area in a few weeks. We remain positive on the sector for now, while acknowledging that the overall stock market is in a difficult position.
Portfolio Update
In Depth: Reiteration of Buy Alert on Neurocrine Biosciences. (Nasdaq: NBIX)
Buy Alert – Neurocrine Biosciences. (Nasdaq: NBIX BUY at 46, Stop loss 36) Neurocrine Biosciences still looks ready for a potential breakout and could move to the 55-58 area. The stock, which we originally highlighted in our 5/29/15 update held up quite nicely in a volatile market last week. The technical action in the stock suggests that a big move is on the way. It is difficult to predict the direction of any move, but given the current market and the generally bullish tone of the biotech market, the odds favor an upside move.
Here is the story. NBIX is in late Phase III trials for a drug aimed at treating endometriosis, a painful condition in pre-menopausal women that causes painful menses due to the growth of uterine endometrial tissue growing outside the uterus. The company licenses the drug Elagolix to Abvie (NYSE: ABBV), formerly known as Abbot Pharmaceuticals. If Elagolix continues its success in clinical trials it would be worth $575 million in licensing fees to Neurocine. Bullish analysts have predicted a potential $1.2 billion dollar market for Elagolix.
Elagolix has competition from of oral contraceptives and other long standing treatments that cost less. There have been some studies that suggest that the margin of improvement of symptoms of Elagolix, although statistical significant, may not be clinically significant in a large enough number of patients.
Neurocrine remains a research dependent firm for its revenues and has no net income although it has narrowed its losses recently. NBIX has $31 million in cash on hand and 198 million in total assets with only 34 million in liabilities. That puts it in a viable position at this stage of its development. Its market cap is 3.75 billion. It has a negative cash flow and sold $138 million worth of stock in 2014 to finance operations.
As we stated last week, this is a highly speculative stock and it should be bought only by investors that are comfortable with higher than average risk. Yet, if Elagolix confirms its efficacy, and can deliver a pleasant surprise we may see a nice move up. More important, if the biotech sector starts a broad move, we expect to see NBIX go along for the ride.
Emergent Biosolutions (EBS) (Buy 5/11/15 MPP* 30.63 – 5/29/15 Closing price 32.16) – EBS shares remained within striking distance of a breakout in the week of June 5. The news front was quiet this past week but the company has been making some strategic moves and has been benefitting from an overall positive tenor to the biotech sector. There seems to have also been some positive vibe on the shares based on the news of the Pentagon’s shipment of live Anthrax by mistake. This story seems to have some legs. EBS makes BioAnthrax, a preventive anthrax vaccine and is working on a new generation of the vaccine.
Medivation (MDVN) (Buy 5/11/15 MPP 124.11 – 5/29/15 Closing Price 118.04) – Medivation took a hit last week as the market was disappointed with results of a breast cancer trial of Xtandi, the company’s testosterone blocking agent. The decline could be temporary, given that Xtandi continues to gain ground in its FDA approved indication in the treatment of prostate cancer. As we reported previously, Medivation’s prescription volume for Xtandi is increasing ahead of expectations as urologists are increasingly prescribing the medication, expanding the base beyond oncologists.
Repligen (RGEN) (Trading Buy 4/20/15 – Median Purchase Price 33.23. Buy 5/11/15 Median Purchase Price 38.45 – 6/5/15 Closing Price 38.61) – Repligen continued its recent consolidation, giving those who have yet to buy a chance to move into the shares. RGEN remains well positioned in the current hyper growing research market as it is a leading manufacturer of one use filtration systems for the separation on antibodies. Dr. Duarte used the consolidation to enter a position in RGEN last week.
Bio Rad Labs (NYSE: BIO). Buy (5/18/15 – MPP) 146.25 – 6/5/15 closing price 148.08). Bio Rad bucked the overall market trend last week closing higher and may be gathering momentum. The company makes testing equipment. BIO is expected to introduce a new line of diabetes testing equipment in Europe this fall.
Trend Following ETF Model Remains on Buy Signal
Ishares Nasdaq Biotech ETF (IBB) (Buy 5/11/15 MPP 352.96 – 6/5/15 Closing price 367.04) and ProShares Dynamic Biotech and Genomics ETF (PBE) (Buy 5/11/15 MPP 55.80 – 6/5/15 Closing price 57.94)- Our trend following ETF based trading model continues to act well. And although individual names in the sector have seen some volatility the ETFs remain fairly solid. IBB is weighted more toward the large cap biotechs on the Nasdaq while PBE has smaller companies as well as some NYSE stocks as components.
*MPP – Median Purchase Price
News Update: New Biotech ETF to Launch
According to ETF Trends.com, a new biotech ETF could land as early as the second half of the year. The new offering would focus on companies that focus on cancer immunotherapy related products. The ETF will be based on the “Loncar Cancer Immunotherapy Index (LCINDX), which was developed by Loncar Investments founder Brad Loncar and is calculated by Indxx,” and “seeks to track the combined performance of a basket of companies that develop therapies to treat cancer by harnessing the body’s own immune system.” The fund’s holdings are expected to mirror the index’s holdings and will include Merck (MRK), Astra Zeneca (AZN) as well as newer companies such as Advaxis (ADXS), the largest weighted stock in the index.
Amgen, Regeneron and Sanofi could see big moves based on the expected FDA decisions on two new cholesterol drugs. The drug Evolocumab is from Amgen Inc. and Alirocumab from Sanofi SA and partner Regeneron Pharmaceuticals Inc. Both drugs are aimed at lower LDL, the bad cholesterol and would compete with the current cholesterol gold standard medication class, the statins. Statins are good at lowering cholesterol but can cause major side effects including muscle aches. The catch is that the new potentially approve d remedies are injectables. Although we don’t own any of the stocks directly, they are holdings of IBB and PBE in one form or another, so we could see the prices on our ETF trend following model be affected.
[Dr. Joe Duarte has been a professional investor and independent analyst since 1990. He has appeared on CNBC, has published articles on Marketwatch.com and has been widely quoted in the major media including The Wall Street Journal and Barron’s magazine. He is author of “Trading Options for Dummies,” 2nd Edition, “Trading Futures for Dummies” and eight other books. His second book was “Successful Biotech Investing.” Disclosure: Dr. Duarte owns shares of Emergent Biosolutions (EBS), Repligen (RGEN) and the PBE ETF as of 6/5/15. Dr. Duarte may actively trade biotech stocks and ETFs at any time for his own portfolio. He will fully disclose his holdings in this space.]
Next Wave Portfolio Update
We are thrilled with the performance of many of our holding in our Next Wave portfolio, but three of them have appreciated so much in such a short period of time that we are changing their status to ‘Hold’ until further notice, and raising their stop loss prices to protect some of those gains.
Six months ago we identified FireEye (NSDQ: FEYE) as “The One Tech Stock to Own in 2015“, and since then its share price has done nothing but go almost straight up. On that day it closed at $28.56, and ended last week at $51.03 for a gain of 78% in only six months! As much as we love this company, we think its share price has gotten a bit frothy so we are bumping up its stop loss price to $41 and holding off on accumulating more shares until its financial performance catches up with its share price.
Likewise, we are thrilled with the 55% gain we have experienced in Gigamon (NYSE: GIMO) since adding it to our portfolio on March 16th of this year, so we are moving its stop loss price up to $29. And we love the 105% profit in Silicon Motion Technology Corp. (NSDQ: SIMO) since its addition to the portfolio in April of last year, but it too is now fully valued and has been moved to a hold with a revised stop loss price of $29.
Please do not misinterpret our actions; we still like all three of these companies very much, but as we discussed at the top of this issue sometimes the price of certain tech stocks can get a bit ahead of their value, at which time it is only prudent to raise your stop loss prices and let them breathe for a while. We are very much looking forward to the day that we can resume our active buy recommendations for these three companies, but at current prices we feel they are fully valued.
NASDAQ Composite Index:
Friday, June 5 = 5,068.46
Trailing 12 months = + 19.5%
Trailing 7 Days = – 0.0%
Trailing 4 Weeks = + 0.4%
Weekly Portfolio Performance
| STI Portfolios | |||||
| INVESTMENTS | (close px) | (close px) | |||
| stock | symbol | 29-May | 05-Jun | Return | |
| 1 | Apple | AAPL | $130.28 | $128.65 | -1.25% |
| 2 | AT&T | T | $34.54 | $34.57 | 0.09% |
| 3 | CA Tech | CA | $30.45 | $29.67 | -2.56% |
| 4 | Cisco | CSCO | $29.31 | $28.58 | -2.49% |
| 5 | Intel | INTC | $34.46 | $31.84 | -7.60% |
| 6 | Micron | MU | $27.93 | $26.59 | -4.80% |
| 7 | Microsoft | MSFT | $46.86 | $46.14 | -1.54% |
| 8 | Oracle | ORCL | $43.49 | $43.49 | 0.00% |
| 9 | Qualcomm | QCOM | $69.68 | $68.26 | -2.04% |
| 10 | Ricoh | RICOY | $10.39 | $10.37 | -0.19% |
| 11 | Verizon | VZ | $49.44 | $47.23 | -4.47% |
| Portfolio Average | -2.44% | ||||
| NEXT WAVE | (close px) | (close px) | |||
| stock | symbol | Return | |||
| 1 | FireEye | FEYE | $46.57 | $51.03 | 9.58% |
| 2 | Gigamon | GIMO | $30.76 | $33.25 | 8.09% |
| 3 | Marketo | MKTO | $29.83 | $29.46 | -1.24% |
| 4 | Nice Systems | NICE | $62.70 | $66.03 | 5.31% |
| 5 | Nimble Storage | NMBL | $25.88 | $27.10 | 4.71% |
| 6 | Paycom S’ware | PAYC | $34.76 | $35.40 | 1.84% |
| 7 | Silicon Motion | SIMO | $35.46 | $34.60 | -2.43% |
| 8 | Splunk | SPLK | $67.62 | $68.66 | 1.54% |
| 9 | Teradata | TDC | $38.94 | $39.17 | 0.59% |
| 10 | Varonis Systems | VRNS | $20.18 | $21.44 | 6.24% |
| Portfolio Average | 3.42% | ||||
| EQUITY TRADES | (close px) | (close px) | |||
| stock | symbol | Return | |||
| 1 | Emergent Biosolutions | EBS | $31.86 | $32.16 | 0.94% |
| 2 | iShares NASDAQ Biotech | IBB | $365.89 | $367.04 | 0.31% |
| 3 | Lattice Semiconduictor | LSCC | $6.26 | $6.42 | 2.56% |
| 4 | Medivation | MDVN | $132.05 | $118.04 | -10.61% |
| 5 | OmniComm | OMCM | $0.17 | $0.18 | 5.88% |
| 6 | PowerShares Dynamic Biotech | PBE | $57.81 | $57.94 | 0.22% |
| 7 | Repligen Corp | RGEN | $40.76 | $38.61 | -5.27% |
| Portfolio Average | -0.85% |