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earnings follow-ups, plus bull/bear and macro discussions +3


With the bulk of earnings season is behind us now (don't expect to hear anything from me on SCON or EMAN tomorrow unless there is something truly surprising - but questions are welcome), I'd like to follow up on with some notes and macro comments. 

First, a correction on my Resonant commentary, where I had said that the Murata deal potentially represents the end of dilution.  That's essentially true, but it's worth noting that warrants are still out there, per the following (edited) table from the just-filed 10-Q:

 
Exercise Price
 
Expiration Date
 
Issued and Outstanding Warrants as of June 30, 2019
Consulting Warrants
$0.01
 
6/17/2020
 
6,667

Financing Warrants
$3.35
 
6/17/2020
 
62,530

Underwriting Warrants - Public Offering 2016
$4.25
 
9/9/2019
 
122,175

Private Placement Warrants - September 2017
$4.85
 
9/28/2020
 
1,966,319

Placement Agent Warrants
$4.85
 
9/28/2020
 
98,846

 
 
 
 
 
2,256,537

The Underwriting Warrants should expire in a few weeks, leaving $4.85 as a price cap in-line with the below $5 pricing for RESN that I've always cited.  At a fifth of a percent of shares outstanding, the Financing Warrants are trivial.  If anything, they represent a minimum price target for me over the next year, assuming Resonant hits its milestones, rather than a speed bump.  That's all the more true in light of Resonant's latest press release, which says that the company's designs are now available via third-party software already used by Murata.  In addition to underscoring the important and long-term potential of the Murata deal, this move could accelerate off-the-shelf design wins, and thus the revenue ramp that I've said is so vital.  For reference, management said on the call that it hopes to flip the current 80/20% sales split between custom and standardized parts deployments.  Of course, that seems likely to come with average margin contraction and the pace and geographics of 5G deployments is still a big concern in the context of the trade wars, as I've been discussing with a subscriber who referenced this article.  My response:

Nothing really new in the article, but it does voice a point that isn't heard enough in the media... that spectrum costs risk wrecking 5G rollouts.  It's part of why I've been more partial to component makers/designers like MACOM, or service providers like Nokia than the network operators when it comes to 5G.  Vodafone is one of the few that can maybe make the jump, and even its valuation has been pressured in the process.  CenturyLink is an ancillary that doesn't bear the spectrum costs, but a failed 5G won't help it either.

On a broader level, this is a symptom of the inevitable roll-up of debt through corporations to the government level, where there is no accountability and everyone gets hurt.

Nokia has been announcing more deployments and it is one of the few companies that is actually being helped by the trade wars.  In light of that, and all else being equal, I think we can expect to see shares keep poking above $5.50 as each quarterly dividend approaches.  Longer term the company does have promising research in key areas as well.

We'll see what the market brings, but unfortunately, all else is never equal.  I surmise that the trade wars will continue possibly right up until the next American elections over a year from now.  My reasoning is that the administrations in America and China find having an external enemy politically useful for distraction and social repression.  This should prove detrimental to the global economy and, in varying degrees, to most stocks other than NOK, BGCP & CVA, while America remains in denial about the causes of this and China builds technological independence and global influence. 

In this context, Westport may benefit from not being an American company.  To add detail to the directional notes I gave from the conference call, two other OEM partnerships are expected in the remainder of the year and increasing natural gas infrastructure is another confirming factor.  The latter point leads me to mention that multinationals like Shell & ABB, which has a new CEO that the market is cheering, should be less affected by the trade wars.  There will be more on Shell separately, but for now, I continue to find shares attractive below $60, especially ahead of Thursday's ex-dividend date, and RDS(A/B) price movement following that will be of interest.  I further note that natural gas pricing held steady, albeit at multi-year lows, in the wake of recent oil price gyrations.  However, all hydrocarbon companies will feel some effect from a trade war driven recession, and the longer term shift in energy.  Even Westport is relying on China and the partnership with Weichai, which should also begin to ramp toward the end of this year, to help build economies of scale. 

In the wake of this, pundits have been noting the importance of changes in yuan valuation, but since these are artificial, they have no predictive value.  I will continue to watch the euro closely, however, and I regard its resilience in the face comparatively poor trailing economic data as a good omen for European multinationals and other neutral businesses like Ebix, which has a new Australian deployment.  This matters because so much index value is tied up in just a few companies, which means that a rising or falling tide does not raise or lower all boats equally.  I've been discussing the (often misguided) flight to safety with other subscribers, and reiterate that the effect on stocks is different than it is for bonds.  I will leave you all with a transcript of those discussions for context, but note that many of the CTL comments were made BEFORE earnings and its drop below the bottom of my range.  Though the stock is oversold, immediate upside remains limited and this morning's edge computing announcement doesn't change that.  Invest carefully!

Esekla

For CTL, I have a hard time understanding people's abiding fascination with the stock after I've spelled out management's motives.  Yes, the yield is still good at current prices, but yield alone is not enough.  Perhaps the following conversation with another subscriber will serve to answer your question in terms of the appeal relative to other options?  Feel free to follow up if not.  As with most email chains, it may make more sense to read it from the bottom up.


Esekla


On 8/7/19 7:35 PM, Esekla wrote:

For what it's worth, the CenturyLink call did not contain any alarms.  So, I'll reiterate that CTL is as good an inflation hedge as any near or below the low end of my range.  Perhaps that's all you're looking for, and there is still even a halfway decent chance that management won't rob you again when they eventually do cut a deal.

Conversely, for CVA, you're assuming that a deal won't happen.  I think one is likely, though not imminent.  Management's current projections don't include growth in the Philippines or elsewhere.  They only guide based on contracts they've already inked. 

That said, metals pricing is a concern, and natural gas pricing is a much bigger one.  I would take issue with your no dividend growth point, but for the latter, and I'm still not completely ruling it out even for next year.

I think your last bullet point is the most interesting, though.  Largely due to misinformation peddled by the likes of SA and Sohn, market investors clearly aren't pricing CVA as a utility, even though it is, with some of the safest cash flows (inflation adjusted long-term municipal contracts) of all no less!  However, if you remove the word "market" from the last sentence, I think the situation flips completely.  This exactly the sort of business that investors will want, both financially, with stable growing income, and technologically in that it solves problems that governments must address, despite NIMBY backlash.  I think the GIG deal was the first indication of that and the proliferation of the idea is now being seen in the form of the private renewable energy agreements that were discussed in the last call.  If that doesn't scream utility recognition, I don't know what does.  The market will catch up eventually.

Thanks for the notes.  With your permission, I may edit and publish this discussion as educational once we get past the earnings rush.


On 8/7/19 3:52 PM, Esekla wrote:

I think I've been clear that I think management intends to sell CenturyLink.  What sort of deal shareholders will get is anyone's guess, but it's already been made crystal clear that management isn't looking out for them in any way.  Thus, my range stands until we actually start hearing deal terms.


On 8/7/19 3:16 PM, a subscriber wrote:
I share your bearish outlook regarding the market. My concern with CVA:
  • Elevated leverage, albeit falling rates should help, but there isn't enough cash flow to fund grow and deleverage at the same time like AES
  • Metal pricing in a recession (would a presumed non-ferrous increase balance out ferrous decline?)
  • Growth will take longer further out as management continues to talk about "middle of next decade"
  • No dividend growth in the interim
  • Does CVA qualify as a utility would thought of as a safe haven by investors
Also, falling interest rates make CTL more interesting to me as it should make reaching it's targeted debt to EBITDA ratio range easier/quicker. I'm not bothered as much as you seem to be by management cutting the dividend. Given it's near the bottom of your $11-15 range it seems attractive. Where do you see it transacting in a few years?

On Aug 7, 2019, at 11:55, Esekla <esekla@crowdwisers.com> wrote:

For BGCP, I still do have some lines out.  I just wanted to note that the prospect of getting a reliable, insightful answer is tenuous.

Regarding AES, my target is mostly based on yield.  As per the notes at the top of that section, I usually look for at least 6%.  I'll cut that all the way to 4% in a down market for AES, due to its safety and the growth factors you mention.  Against them, I weigh the potential battery shortages I mentioned and/or slow recession build-outs, and extended weak natural gas pricing.  In this note, I mentioned that I could see AES rising to $16.80 before dumping it, which is essentially how I handled things.  With the stock now below that level, I see what you're getting at, but I don't see it as safer or better than CTY or CVA, as safety and growth comparisons.  That doesn't mean your points are wrong, but I do think they are more applicable to a rising or steady market.  My macro outlook is now overtly bearish, and hopefully this explains where I'm coming from, even though I also understand and see the value in your arguments.


On 8/7/19 10:40 AM, a subscriber wrote:
Understood regarding BGCP. I suppose we will have to trust management understands how important yield is to current shareholders. 

Regarding AES, how are you arriving at your target price? AES is confident they will continue to grow earnings  7-9% per year and the dividend 5% per year for the next three years. Not to mention the progress they've made since when you started covering them. Their LNG business has the potential to increase earnings another $.05 (which equates to potential ~35% dividend growth (over twice as much need to cover management's 15% dividend growth over 3 years). Furthermore, I see the drop in interest rates only helping their investment grade ratings as they are able to refinance debt lower improving cash flow. They continue to earn mid teens returns on renewable investments and have the growth from Fluence and Uplight . I can't help but think as AES continues to execute their equity will continue to re-rate toward typical utility multiples and they might receive a "renewable" premium. 

On 8/6/19 1:33 PM, Esekla wrote:

Well, I don't really have a source, as per the note below, just some requests out there.  For what it's worth, I published this morning's note because you are not the only person that I've heard this concern from.  So it's obviously on people's minds and deserves to be voiced.  I don't think it will materialize, but of course, I've on the wrong side of the hunt for yield before. 

As for AES, I don't think that's much of a drop.  It would have to get to the low teens in order to even start interesting me.

On 8/6/19 1:26 PM, a subscriber wrote:
Look forward to hearing the analysis from your source for BGCP. 

What are your thoughts on AES pricing given today's sell off and re-affirming guidance?