Stocks

Barron’s 2018 Roundtable Notes: Abby Joseph’s Stock Picks – Long China Railway Signal & Communication

Abby Joseph

Goldman Sachs

For all the Barron’s 2018 Roundtable articles click here.

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Notes:

Occidental Petroleum (OXY) $77.47 ($74.55 when published)

  • Energy hasn’t been a good-performing industry, yet it is one with high tax rates and will benefit from tax reform.
  • In addition, it could gain from the expected rise in commodity prices.
  • Occidental, a niche player in the exploration and production industry, has two things going for it: production growth and a notable dividend yield.
  • Production growth typically is about 5% to 8%. It could be even better over the next couple of years.
  • Operating costs look like they might be going down some 10% to 12% over the next few years.
  • The final fundamental piece for Occidental is that it has a good presence in midstream chemicals, which is another area where there will likely be some demand and pricing gains
  • We expect free cash flow to rise; the pre-cash-flow yield, 3% in 2017, is likely to be about 5.6% in 2018 and 5.8% in 2019. The stock trades for $74.55. The current dividend yield is 4.2%.
  • Balance sheet not strong but improving.
  • The fact that earnings and cash flow will be improving is helpful. Occidental had a tax rate of 38% to 39%. But that will be going down, which will be helpful.
  • Current cash on hand is about $1.8 billion, and net debt to equity is about 39%. Our analyst isn’t expecting huge price appreciation, but the total return is attractive because of the dividend yield, which is supported by strong cash flow.

Samsung Electronics (005930.Korea) KRW 2,458,000 (KRW 2,606,000 when published)

  • Samsung sells consumer products and has significant exposure to the semiconductor market. We are expecting strong global demand, which will be favorable for Asian exports. About three-quarters of Korea’s exports are active semiconductors, and Samsung plays an important role in that.
  • Tight DRAM market, which is a good chunk of what Samsung does. The previous concerns about oversupply and pricing on NAND seem to be less significant.
  • Samsung is known not just for semis, but for consumer products.
  • In 2018, the price/earnings ratio, based on our analysts’ estimates, is 7.2 times earnings. Price to book value is 1.4 times, the dividend yield is 2.8%, and the return on equity is in excess of 20%.

AbbVie (ABBV) $105.84 ($101.11 when published)

  • Biotech company. It is steady and has a dividend.
  • It has a strong pipeline and an interesting cash-deployment story.
  • Over the next 10 years or so, we think it will generate about $180 billion in free cash flow. Of that, $110 billion is currently unallocated either to dividends or announced share buybacks, so management has some options.
  • AbbVie also has an attractive free-cash-flow profile relative to some competitors, because it doesn’t need to spend as much on capital expenditures, in part because it has already done that.
  • AbbVie has a strong pipeline, primarily in oncology and also autoimmune.
  • Although it has a superior growth profile, the stock sells at a discount to peers. The dividend is 2.9%. On 2018 estimates, the P/E is 15.3, and on 2019, the P/E is 12.5. We think it has more to offer in total return, as well.

China Railway Signal & Communication (3969.Hong Kong) HK$6.05 (HK$6.31 when published)

  • This fits with the long-term China story about increasing infrastructure, but also their plan to assist other countries in expanding their infrastructure. This is a significant part of the Chinese charm offensive. China is making friends with neighbors and others by providing know-how.
  • There is a need to build transport systems and, in some cases, reconfigure them. CRSC provides new systems and has a tailwind from the replacement cycle.
  • It’s a rolling stock. Rolling stock lasts a long time—longer than the signal systems. Basically, rolling stock can last decades, signaling systems eight to 12 years. The company already has a replacement cycle under way for some of the systems installed a few years ago.
  • The breakdown of business: 80% is rail and 20% is construction, in which CRSC keeps track of equipment and the movement of things.
  • Because the company has already invested heavily, some of its free cash flow might support a higher dividend than it currently pays. The expectation for analysts is that this stock will perform well because of growth in sales and earnings, along with a P/E rerating.
  • Sales growth estimated for the year just ended was about 23%; the forecast for 2018 is in excess of 30%. We estimate the earnings growth for last year at 20%, and for this year at 25%. It has an ROE of 15%. The current dividend yield is 1.8%. If the current P/E of about nine times rerates, it could head toward those of other signal companies that trade closer to 11 to 12 times.
  • Currently, 90% of CRSC’s business is domestic, but China has its eye on increasing exports, and there are possible new projects already under discussion in Indonesia, Singapore and Malaysia, Hungary, Russia, and Thailand.

Mondelez International (MDLZ) $44.46 ($43.23 when published)

  • It went through all kinds of iterations, most recently a restructuring under Irene Rosenfeld. She is handing over the baton, but leaves an interesting legacy, and a strong foundation.
  • Mondelez is at an inflection point that should see it performing in a much better way.
  • Mondelez is trading around $43. Earnings growth looks pretty good. For 2017, our estimate was $2.12 a share; in 2018, we are estimating $2.31, and for 2019, $2.51. The P/E was 20 times in 2017, probably 18.5 times this year, and 17 in 2019.
  • Free-cash-flow yield is about 4.4% this year and about 5% next year. Mondelez’s dividend yield is about 1.9%, and the ROE is 13%. Currency was previously holding back earnings, but the expectation is that in the second half of 2017 and now, it is a bit of a tailwind.
  • The new CEO is Dirk Van de Put, and he has described his role as fine-tuning. Most of the big changes have already occurred, and they are just waiting to do the final implementation

Article by Brian Langis