Financial Review

A Tale of Three Stocks

Financial Review

DOW + 19 = 16,339
SPX + 17 = 1904
NAS + 57 = 4316
10 YR YLD – .02 = 2.18%
OIL – .21 = 81.85
GOLD + 8.70 = 1247.90
SILV + .16 = 17.53

A nice bounce in the S&P 500 index and the Nasdaq Composite. For most of the session, the Dow was in negative territory, clawing its way to positive, barely. There are 3 stocks that had a compelling story today.

We start with IBM, which reported its third-quarter results; a 10th consecutive period of falling sales, marked by weaker performance in growth markets. IBM said its long-standing forecast of earnings per share of $20 for 2015 is no longer achievable. IBM lowered its forecast for free cash flow. The company said it was selling its money-losing chip-making business to GlobalFoundries, a move to further cut costs and focus on its more profitable, faster-growing businesses. Once upon a time, IBM was a pioneer in advancing semiconductor technology, its manufacturing capability fell behind others that produced chips in large volume, but now they will have to pay GlobalFoundries $1.5 billion to take the chip division, while taking a $4.7 billion charge. IBM has been divesting slower-growing and unprofitable businesses, but like many older tech companies, it is caught in the middle; sloughing off the old and expensive without yet having a foothold in the new.

Some customers are trying to move more of their corporate-computing functions to the cloud. The arrival of cheap cloud computing means that corporations don’t need IBM’s big, expensive mainframes. And even if IBM does catch up, the cloud might be such a thin-margined industry that it can’t sustain the profit margins IBM had been telling investors to expect. IBM talked about growth in cloud computing of 50%. But the company’s faster-growing businesses can’t offset its aging businesses. Revenue in hardware systems, including its Z Series mainframe systems, fell 15%. In addition, the once faster-growing services business was off 3%.

IBM earned $3.68 a share on revenue of $22.4 billion, down from earnings of $4.04 a share on $23.3 billion in sales a year ago. Wall Street analysts had forecast IBM to earn $4.31 a share, with sales of $23.37 billion. IBM also cut its earnings outlook for the year to between $15.97 and $16.31 a share from its previous forecast of $18 a share, and said it would no longer stand by its “road map” to reach earnings of $20 a share for 2015. Under previous Chief Executive Samuel Palmisano , the company had pledged in May 2010 to double its earnings to at least $20 a share by 2015 by more aggressively pursuing business in software and high-growth emerging markets.

The company also hinted it may cut back on the massive share buyback program that helped support its earnings targets. In the third quarter, IBM bought back $1.7 billion in stock. The company had $1.4 billion remaining under its current repurchase authorization at the end of September and said it would ask to boost that figure at this month’s board meeting. They might have been better served putting that money into R&D. Sometimes short-term shareholder value leads to longer-term shareholder loses. IBM down 12.95 = 169.10. (-7%). Big Blue is bleeding blue.

Sears Holding, up 6.55 = 34.96 (+23%). Why was Sears up today? It’s a smoke and mirrors move. Sears is bleeding cash; today they got a transfusion of capitol, but this is still one very sick puppy. Sears announced its intentions to conduct a rights offering of units, including senior unsecured notes and warrants. The company will offer shareholders debt and stock warrants worth $625 million, which can be exercised in five years. The exercise price for the rights offering of shares will be the same as the October 17 closing market price of $28.41.

The rights offerings that the company has announced will include 8% senior unsecured notes due 2019, along with the rights to purchase company’s common stock. Sears expects to raise $625 million out of this offering. Sears needed to raise some money because they are burning through cash. The reason they are burning through cash is, well have you been in a Sears store lately? No. Well, that’s why.

The move today also indicates that the cash burn during the quarter might have been higher than the company’s expectations, in turn, urging the company to raise additional capital through these sources. Moreover, the company might be facing pressure from its suppliers to make payments, causing it to try and improve liquidity. And beyond keeping the doors open, why the need to raise cash?

Well, hedge funds are now running Sears, and it has been a bad bet, so now they’re going into salvage mode; scraping cash from the bottom of a barrel. This in addition to already selling its Lands’ End unit, and most of Sears Canada. The bottom line is that Sears needs a big turnaround, and you won’t get that from hedge fund managers; what they will do is slowly and surely chop it up and sell it off.

After the close of trade, Apple said net income was $8.47 billion in its fiscal fourth quarter ended Sept. 27 versus $7.51 billion in the year-ago period. Earnings per share rose more sharply, to $1.42 from a split-adjusted $1.18, because the company’s stock-repurchase program reduced the share count. Revenue rose 12% to $42.12 billion from $37.47 billion in the same period a year earlier. Analysts were expecting earnings of $1.31 per share on revenue of $39.88 billion. Apple started selling the new iPhone6 and iPhone6 Plus on September 19, and they sold 39.2 million; up from 33.7 million units a year ago. Gross margin was 38% in the September quarter, at the high end of the company’s estimated range. Guidance for October through December is strong. Apple finished the quarter with a backlog of orders, and production of the 6 Plus is increasing every week as the company works to balance supply with demand. Apple was up 2.09 = 99.76, and then added another 1.33 in after hours.

Also today, Apple launched Apple Pay. Here’s how it works. With Apple Pay, you’ll be able to hold your iPhone up to a credit card terminal then use Touch ID, Apple’s fingerprint technology, to make a purchase. You’ll also be able to buy stuff within apps, just by using Touch ID at the appropriate time during checkout. It works with iPhone6 and Plus, and the new iPads for apps only; or an older phone with the new Apple Watch. It only works in the US. Both of Apple’s latest phones have Near Field Communication (NFC) chips at the top end of the device. They also both have a separate chip called the secure element (SE). Each time you initiate a transaction, the SE generates a one-use code in lieu of transmitting your debit or credit card number. The secure element found in the iPhones are considered safe from hardware attacks. In fact, if a thief dismantled your phone, the secure element would sense tampering and immediately shut down.

Apple Pay current supports credit and debit cards from Bank of America, Capital One, Chase, Citibank, Wells Fargo and American Express. Support from over 500 more banks will be available later this year, and in 2015. There are already over 220,000 retailers that are compatible with Apple Pay, including McDonald’s, Whole Foods and Walgreens. More stores, including Staples and the Disney Store, will be getting on board later this year. And while that sounds like a lot of stores, it isn’t. You wouldn’t want to think that Apple Pay will replace credit cards and cash in the near future.

Mobile phone payment systems have actually been around for quite some time. If you have an Android phone, you could have been using Google Wallet for the past 2 years, but you probably didn’t. For some reason, when Apple does it, everybody jumps on the bandwagon, and the technology is expected to explode over the next 6 months. But even if Apple can convince consumers to take their money mobile, some merchants aren’t playing ball. Wal-Mart, America’s largest retailer, won’t support Apple Pay at launch. Instead, it and other big-box stores like Best Buy are developing a competing mobile payments platform called CurrentC, set to launch sometime next year. So there will be competition, and the sector will become fragmented.

And then there is the whole matter of setting up the pay system on your phone, and then changing the system if your card changes. And quite frankly, the whole thing seems like a big hassle. Just a reminder that cash still works in a pinch, and the battery never goes dead.

Not much in the way of economic data today, but New York Federal Reserve Bank President William Dudley had some interesting comments at a conference called, “Workshop on Reforming Culture and Behavior in the Financial Services Industry.” Dudley says banks should defer bonus payments for 10 years and tap the bonus pool to pay any regulatory fines.

Dudley asked, “How will a firm know if it is making real progress? Not having to plead guilty to felony charges or being assessed large fines is a good start.” If bad behavior at financial services firms persists, they will have to be “dramatically downsized and simplified so they can be managed effectively.” Dudley said banks should offer longer deferred pay in debt, rather than equity, and added that the bonus pot should be tapped to pay any bank fines so employees would be hit before shareholders.

Fed Governor Daniel Tarullo, the Fed’s top official overseeing bank supervision and regulation, also gave his view on bank compensation saying, “It is important that compensation arrangements, including clawback and forfeiture provisions, cover risks associated with market conduct and consumer protection, as well as credit and market risks.” Tarullo noted that while US bank regulators do not have the power to criminally prosecute, they can remove bank employees from their companies, positions and even the industry.

It almost sounds like the Fed is ready to get tough on banksters, after sitting on their hands for 6 years. Tough talk is good, action is better.

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