Stock picks: Stocks poised to do well as the economy slowly reopens
While the rate at which the economy recovers is still largely unknown, we do know there will be companies that more quickly rebound. Below are some details on stocks to consider as the economy reopens.
The coronavirus pandemic will continue to weigh on the economy and companies for some time. However, companies that are able to weather the storm, may come out stronger than before.
In my day to day, I monitor and maintain departmental equity working lists, recommends stocks for clients and provides equity research and analysis for internal customers. Below, I share my top stock picks for companies that may have gotten beaten down but are particularly poised to profit as we get back to normal after the coronavirus pandemic.
Top stock picks as the economy reopens:
The impact from Covid-19 is putting significant pressure on several of Disney’s segments with sporting events getting cancelled, theme parks closed, and movies getting pushed out. Despite all the challenges, we expect the firm to generate positive cash flow in 2020 and supported by a strong balance sheet with over $30B in liquidity. We view Disney’s announcement to forego its next dividend payment as move not done out of financial necessity, rather a good faith move to forego a $1.6 billion-dollar dividend payment while furloughing over 120,000 employees. As sports return on a limited basis, we expect ESPN to be the quickest asset at Disney to recover to normal.
Disney is transitioning its business model to a media conglomerate that is in line with the evolution of the media industry. The stock is down 30% from its all-time high achieved in 2019. Except for DIS+, Disney’s businesses (Parks, Cruises, ESPN, Studios, etc) have been shut down from Covid-19. Disney has an iconic brand that will prevail through these challenging times. Disney has a consistent ROIC profile of about 15%. While we wait for global economies to begin normalizing, DIS+ is gaining subscribers at a rapid rate which will fuel earnings growth in the mid 2020’s. We don’t expect theme parks to return to normal until a Covid-19 vaccine is widely available. The timing of a vaccine is unknown and is one of the big factors weighing on Disney’s stock as theme parks represent 30% of revenues. As global economies return to normal, we think Disney has the potential to trade up to $150/share based on 30x $5 in EPS power.
Covid-19 related store closures will significantly impact the short-term fundamentals for Starbucks. As reopening occurs, Starbucks will be challenged as the firm serves a high volume of customers that dine-in as a meeting place. Starbucks is one of the best positioned restaurants to adapt to a new normal with a strong drive thru presence and a digital platform that is supportive of carryout orders to help offset some of these challenges. We think Starbucks is in a strong position to recapture sales quickly when stores in the U.S. re-open given their experience in China where they have a sizeable store base and have implemented sanitary protocols as stores have already begun re-opening. The stock is down 25% from its all-time high achieved in 2019.
The Starbucks brand is driven by excellent customer affinity, consistent coffee, and an industry leading digital platform. The firm has a superior growth profile led by 6% global net new store growth and a mid-single digit same store sales growth profile. In a normalized environment, this strong sales growth leads to double digit earnings growth. Favorable store economics support this growth as new stores in the U.S. have a 50% Return on Investment profile and new stores in China have a 77% Return on Investment profile. We think Starbucks can trade at $90/share, about 17% upside from the current price, based on 30x (about 5yr avg) $3 in EPS power.
Ecolab is a global leader in the cleaning and sanitation industry and several of the firm’s end markets have been devastated by Covid-19, including restaurants and hotels. In the near term, we expect Ecolab’s earnings to hold up much better than its customers. For example, restaurants still need Ecolab’s cleaning and sanitation products even if they are only open for carryout or delivery. The stock is down 10% from its all-time high reached earlier this year.
Covid-19 will decrease demand for 22% of Ecolab’s sales that are derived from Full-Service Restaurants and Lodging. Covid-19 will increase demand for 33% of Ecolab’s sales that are in the food and beverage, healthcare, and food retail industries. The firm has a diversified global customer base with nearly 3 million customer locations. As some of Ecolab’s largest end markets begin to open up for business, we think demand will recover significantly. Moreover, Ecolab will benefit as a leading sanitation company. We think Ecolab can trade to $250/share based on 35x earnings power of just of $7/share.
NextEra could see a fall in power usage by its commercial clients due to Covid-19. Additionally, the collapse in fossil fuel prices makes the economics more challenging for wind and solar power generation. Commercial exposure is 35% of revenue within its regulated utility segment (65% of overall revenue). Overall commercial exposure is 20% of total revenue. The stock is down around 20% from its all-time high reached earlier this year.
The selloff in the stock has been largely based on a shift in sentiment vs changing revenue and earnings trends. NextEra’s forward P/E ratio has fallen from 31x to 25x despite unchanged revenue and earnings forecasts over the last 60 days. We think this change in sentiment on NextEra is unwarranted as we continue to view the firm as a best in class renewable energy firm with strong secular earnings and dividend growth. NextEra has differentiated growth in the utility sector. Additionally, residential power demand (60% of regulated utility sales) may benefit from increased work from home trends. NextEra traded with a dividend yield of 1.8% earlier this year. Currently, the dividend yield is 2.5%. If the firm can hold its valuation multiple and grow its dividend by just 8% per year (5-year dividend CAGR is 12%) than the total return potential is about 10% per year.
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This article is for informational purposes only and is not intended to be investment advice. The projections in this article are based on information as of a specific time and are subject to change. Please contact your investment advisor with any questions.