David Phillips on Biomet
Posted by Eddy Elfenbein on August 22nd, 2006 at 9:46 am

David Phillips at 10-Q Detective looks at Biomet (BMET), one of our Buy List stocks:

Biomet is in the midst of several major product launches and management anticipates that the Company will continue to be rolling out instruments at least early into fiscal 2007.
Looking ahead, Biomet said it remains “comfortable” with analysts’ sales and earnings estimates of $513 million to $530 million and 43 cents to 45 cents per share for the first quarter of fiscal 2007, and $2.15 billion to $2.22 billion and $1.85 to $1.95 per share for fiscal 2007.
The Company’s valuation looks attractive. The Common Stock’s valuations are priced at multi-year lows. For example, BMET’s P/E is only 17.5 times forward May 2007 consensus estimates of $1.87 per share [low end]. This is a 38.5% discount to its trailing five-year mean multiple of 28.5 times earnings. And with an estimated forward five-year EPS growth rate of 15.0%, the Company’s PEG multiple is an attractive 1.2 times [in line with its peer group multiple, which includes Stryker Corp., Zimmer Holdings, and Smith & Nephew].
Value investors might also note the predictable 30% operating margins, and the 20.4% return on capital (compared to its cost of capital of 5.8%).
Tempering these valuations, however, is the boring—in your face—thesis that there are few catalysts on the event horizon to expand valuation multiples (such as a turnaround in its EBI operations or margin improvement gains).
Patient investors with a longer-term view might consider the current price as an entry point, but (with a dividend yield of 0.90%) we prefer to put our dollars to work elsewhere.
In April 2006, the Company confirmed that it hired investment banker Morgan Stanley to help explore future strategies, including a possible move to put itself up for sale. Analysts have cited Medtronic and Smith & Nephew as potential buyers. The asking price for Biomet, should it decide to sell, could be more than $10 billion—or approximately $44.40 per share.

Andy Young and Wal-Mart
Posted by Eddy Elfenbein on August 21st, 2006 at 11:58 am

Many of Wal-Mart‘s (WMT) critics overlook the fact that the company’s shares haven’t done particularly well over the past few years. Since the beginning of 2003, the stock is down 10% while the S&P 500 is up over 40%. Of course, that may please some of critics.
The company has embarked on a much-needed PR compaign. As I said before, this may be the world’s first PR campaign that itself needs a PR campaign. Now Andrew Young has defended the company due to its bigotry:

Young was asked whether he was concerned Wal-Mart causes smaller, mom-and-pop stores to close. “Well, I think they should; they ran the `mom and pop’ stores out of my neighborhood…But you see, those are the people who have been overcharging us, selling us stale bread and bad meat and wilted vegetables. And they sold out and moved to Florida. I think they’ve ripped off our communities enough. First it was Jews, then it was Koreans and now it’s Arabs; very few black people own these stores.”

Charming. Young is a former UN ambassador and winner of the Congressional Medal of Freedom. (Hat tip: Ideoblog via DealBreaker).

To the Beach
Posted by Eddy Elfenbein on August 18th, 2006 at 6:56 am

That’s enough for me. I heading to Newport.
I’ll be back Monday. Have a great weekend!

Dell’s Earnings
Posted by Eddy Elfenbein on August 17th, 2006 at 4:13 pm

Dell (DELL) just reported earnings of 22 cents a share, in line with its lowered (um, dramatically lowered) guidance. For last year’s second quarter, Dell earned 38 cents a share. Sales were up 4.9%, not much higher than inflation.
The stock was briefly above $23 a share earlier today, but it will certainly open lower tomorrow. The stock may be a little cheap in the near-term, but I really underestimated the problems at Dell. Worst of all, I no longer find management credible. Their reassurances have all come to nothing.
Here’s a thorough look at Dell I did when earnings came out last quarter.

S&P 1300!
Posted by Eddy Elfenbein on August 17th, 2006 at 12:58 pm

One of the unusual characteristics of this market is that stock prices have continued to lag earnings growth. I can’t think of a bull market before when price/earnings ratios have declined as the market wore on.
Thanks to the market getting head-butted in the chest this summer, the market’s price/earnings ratio fell to 15, a level it hadn’t seen in over 11 years. Since then, the market has snapped back and the S&P 500 just broke 1,300 for the first time in three months.
Here’s how the S&P 500 and earnings have done since 1990:

The left scale is the for the S&P 500. The right scale is for earnings. I rigged it so when the lines cross, the p/e ratio is exactly 20.
Notice how much higher the blue line is compared with the peak from six years ago. Profits have soared but the index is still much lower. Here’s what the market’s P/E ratio looks like:

Down, down, down….
What’s interesting is that lower bond yields aren’t helping the market’s p/e ratio climb. Normally, lower bond yields allow the market to carry higher earnings multiples. Not this time.
Today, the market’s p/e ratio is about 15.6 (based on trailing operating earnings). That works out to an earnings yield of about 6.4% (1 divided by 15.6). The market’s earnings yield has most often been about 1% to 2% lower than the yield on the 30-year Treasury bond. Now it’s 1.4% higher. (Note: This is slightly different from the Fed model which uses estimated earnings).
Here’s how the earnings yield has fared compared with the 30-year Treasury:

The two lines seem to have mirrored each other until a few years ago.
Hey Eddy, I bet you can’t scatterplot that.
You guessed wrong my friend:

The horizontal axis is the 30-year Treasury yield. The vertical is the S&P’s earnings yield (the inverse of the p/e ratio). Up to about four years ago, the relationship was fairly strong (r^2=0.54). But the relationship has gone kablooey since then.
All the points north of 4.5% and west of 5.5% have come since 2002.
If the market’s earnings yield were to match the 30-year yield, the S&P 500 would have to have to be over 28% higher (or long-term yields would have to rise). On top that, earnings are still growing. By my estimate, profits for the S&P 500 should grow in the low double-digits for the rest of this year and 2007.

Home Depot’s Earnings
Posted by Eddy Elfenbein on August 17th, 2006 at 10:40 am

I have a few quick comments about Home Depot’s (HD) earnings. For some reason, people think this company is suffering much worse than it really is. (I defended the stock last month).
Home Depot has beaten Wall Street’s expectations for the past few quarters, and the company did it again on Tuesday. HD earned 93 cents a share, a penny better than expectations.
The company said its earnings will come in at the low-end of its guidance, which was 10% to 14%. Last year, HD made $2.72 a share, so the stock is now going for less than 13 times trailing earnings. If the company makes $3 a share this year (a 10.3% increase), then the stock is trading at about 11 times this year’s earnings.
I think investors are highly distrustful of the stock and they were ready to hear awful news. No such luck yet. I’m not a big fan of Bob Nardelli, but HD is a good stock at a good price.

July CPI +0.4%; Core +0.2%
Posted by Eddy Elfenbein on August 16th, 2006 at 8:25 am

Both are in line with estimates. Here’s how core and headline inflation have performed over the past few years:

Sorry folks, but we’re still not out of the inflation-fested woods yet.
The good news is that the year-over-year core rate is still lower than where it was during much of 2001. Over the last 12 months, the core CPI was up 2.69%.
The bond market is happy this morning, and the yield on the 30-year Treasury is now close to 5%. The 30-year briefly dipped below 5% earlier this month, but it didn’t hold. This time may be different.
For the record, Bernanke said that the Fed sees core CPI falling to 2.25% to 2.5% this year, and 2% to 2.25% next year. I don’t think that’s going to happen.
The chain-weighted CPI was flat for July, although that’s not a seasonally adjusted number, the data series is too new to see a clear seasonal pattern. For the last 12 months, the chain-weighted CPI was up 2.54%.
The Fed funds rate is now 2.56% above the trailing core CPI rate. That’s still pretty low for an expansion. During the 1990s, the economy was growing much faster than it is now, and real interest rates were much higher.
I think Lacker was right, the Fed needs to raise rates again.

Dell’s Battery Recall
Posted by Eddy Elfenbein on August 15th, 2006 at 1:48 pm

I just checked Dell’s Web site, and I’m in the clear. My battery isn’t one of the exploding ones.
Here’s more info from Dell on their battery recall.

Tame PPI Report
Posted by Eddy Elfenbein on August 15th, 2006 at 12:07 pm

The market is relieved today by a tame report on producer prices. The government’s PPI report showed that wholesale inflation rose just 0.1% last month. Economists were expecting a rise of 0.4%. Core wholesale prices fell -0.3%, the first decline since October.
Blomberg surveyed 60 economists, not a single one was expecting a decline in core wholesale prices. The S&P 500 is up slightly over 1%. The NASDAQ 100 is up close to 2%. Bond yields across the board are much lower. The best sector today is tech, and energy is the only sector that’s trading lower.

The Yield Curve’s Impact on Stock Prices
Posted by Eddy Elfenbein on August 15th, 2006 at 9:49 am

The yield curve has a dramatic impact on equity prices. The steeper the yield curve, the better stocks perform.
I looked at the S&P 500 data along with the yields on the 90-day and 10-year Treasuries. Since 1962, the yield curve has been negative (i.e., the 10-year minus the 90-day) for a total of five years. In that time, the market has lost about 37%.
In fact, the S&P 500 is net flat (not including dividends) for all the periods when the yield curve is less than 78 basis points, which is about one-third of the time. The yield curve hasn’t been that wide since last November.
Interestingly, the market also does poorly when the yield curve is at its steepest. At 286 basis points, the S&P 500 starts falling. Perhaps the market senses that the yield curve is about to turn around.
If you want to geek out on the data, here’s my spreadsheet. I used weekly data, and I compared the S&P’s return to the prior week’s yield curve.