Expect the euro debt crisis to push up revenue and profits at Euro exporters--here are three early picks
07/27/2012 8:30 am EST
Nope. Not Hansel. Not Gretel.
I’m starting to nibble at the shares of Euro exporters.
I don’t think I can call a bottom in the euro--$1.20? $1.14? Parity with the dollar?—and I am very certain that we’re not going to witness anything like the end of the euro debt crisis in the next few weeks. But I think odds are tilted enough in favor of Euro exporters that it’s time to start buying initial positions in the best of class Euro exporters.
In fact, my logic here doesn’t depend on an end of the euro debt crisis or a quick recovery in the euro at all. I wouldn’t mind seeing the euro continue to stumble lower even after I’ve made my buys.
You see that’s what I’m counting on.
A continuing euro debt crisis works in favor of the stocks of Euro exporters by reducing the prices that customers who buy in dollars or yuan or yen or pesos or reais pay. That means the decline in the euro from $1.4419 on July 26, 2011 to $1.2134 on July 25, 2012 has made anything priced in euros almost 16% cheaper for anyone paying in dollars. That same trend has been at work for anyone paying in most of the world’s currencies.
The euro debt crisis has been an equivalent of a 16% sale for anyone paying in dollars. And we all know what a sale can do for demand. Especially if a company is selling against competitors who aren’t giving customers a similar price cut from a falling currency.
The euro debt crisis also works to inflate the revenue—and thus the earnings--of any company that collects dollars or yen or yuan from its customers and then translates those currencies back into euros on its income statement. Think of this as the other side of what is a problem for McDonald’s (MCD) and other U.S.-based, dollar-using companies. McDonald’s has said that the strong dollar will cost it 21 cents or so in revenue per share in 2012. Well, Euro exporters will pick up revenue per share as a result of the weak euro
And finally if you’re a dollar-based investor (or yen or reais or yuan) the euro debt crisis has given you another boost: your currency will buy more of a Euro exporter’s stock than it would have a month ago. It’s not just that a weaker euro means you can buy more widgets with your U.S. dollars. You can also buy a bigger hunk of a Euro exporter. And that would even be true if the stock in question hadn’t plunged in price—it’s euro price—because of the euro debt crisis.
Some caveats are in order before I give you any specific names.
- To take the biggest advantage of the effects of the euro debt crisis, you’ve got to buy the shares of companies that are priced in euros (or euro-pegged currencies such as the Swiss franc and the Danish krone) and that do business in euros. You won’t get the same effect if you buy companies priced in the Norwegian krone or the Polish zloty.
- Pay attention to where a company sources its products too. You lose much (or at least some) of the pricing edge from a falling euro if the company is paying a higher price to source its product in stronger non-euro currencies. Don’t make assumptions here. For example, until I did some digging I assumed that Spanish retailer Zara, owned by Inditex, must be doing most of its sourcing outside of Europe. That would drive up the prices that the company has to pay for the clothing it sells. Turns out that about 50% of Zara’s sourcing is from Spain and another 26% from elsewhere, Portugal for example, in Europe. Zara will feel the full effect of the weaker euro when it sells in New York or Tokyo.
- The danger, of course, is that the euro debt crisis will escalate in a way that takes down the share price of even the strongest Euro exporter. That’s why you want to nibble now rather than go all in and why you want to buy shares of the best exporters. You’re looking for exporters that are so good at what they do that trouble in their home market will be outweighed by gains in export markets. For example, shares of Finnish elevator company Kone (KNEBV.FH in Helsinki), the fourth largest elevator company in the world, are up 26.2% in the last 52 weeks.
- You’re also betting that the global economy isn’t about to head off a cliff. This play only works if you think that the U.S. and Chinese economies will be relatively stronger in the second half of 2012. That’s my read of the tea leaves. But if it isn’t yours—if you think the U.S. is headed back into recession and/or that China is headed for a hard landing--then these aren’t buys for you.
- As hard as it is to identify the best in class Euro exporters, once you’ve found them it can be tough to buy them. Some of the best trade only in the stock markets of their home countries. I’ve tried to list some picks that sell in New York, but don’t assume you can’t buy one of these stocks if it only trades in its home market. Online brokers have vastly improved their foreign desks and it never hurts to ask.
Here are three suggestions for current nibbling.
Kone (KNEBV.FH) What’s startling to me about Kone, the Finnish maker of escalators and elevators, isn’t that the stock is up 26% in the last year during the euro debt crisis, but that shares have climbed as worries that growth in China is headed for a hard landing have increased. Sales from the Asia-Pacific region made up 27% of revenue in 2011, up from 17% in 2009. And Kone hasn’t backed away from China: In May the company doubled its ownership in its GiantKone joint venture. What’s helped Kone in China and during the euro debt crisis is the way that sales of new elevators and escalators work in concert with maintenance contracts for that equipment. When sales of new equipment falter, revenue from maintenance on existing installations fills the gap. Globally, Kone converts about 80% of its new orders into maintenance contracts, the company said in May. In China the conversion rate is about 60%. Although Kone doesn’t seem to be having much trouble with new orders. On July 19 the company raised its guidance for 2012 to an operating profit of 760 million to 820 million euros. Operating income for the second quarter rose to 208.5 million euros versus the consensus forecast of 200 million euros. Group revenue will climb by as much as 13% in 2012. The stock sells at a trailing 12-month price-to-earnings ratio of 20.4 and pays a dividend of 2.77%.
Luxottica (NYSE ADR: LUX). You can see the effects of the euro debt crisis on just about every line of Italian eyewear-maker Luxottica’s May 7 quarterly earnings report. Net sales rose by 14.9% from the first quarter of 2011—or 11.1% at constant exchange rates that subtract the effect of the weak euro and the strong dollar. Net sales for the company’s retail division, which includes the company’s LensCrafters and Sunglass Hut chains, rose by 16%--or 10.1% at constant exchange rates. And the weak euro couldn’t come at a better time for the company. Luxottica has just launched its line of Coach-branded eyewear. The initial stocking sold out and the company projects going from $0 to $60 million in sales in the first year—and guess where Coach’s brand is strongest? In the strong currency economies of the United States, Japan, and China. And the company’s growth has been so strong in emerging economies—36% year over year in the first quarter of 2012—that Luxottica isn’t suffering too badly from getting just 6% growth in Europe. (And 9% in the United States in that quarter.) Plus in the euro debt crisis Luxottica gets to reap the benefits of manufacturing operations balanced between China and Italy. The stock is up just 3.03% in the last 52 weeks. The shares trade at a multiple of 21.56 times projected 2012 earnings per share and carry a 1.87% yield. Yesterday, July 26, Luxottica reported that second quarter net income grew by 20.6% and revenue increased by 15.2%. Sales in Italy and Spain fell by 4%. (Luxottica is a member of my Jubak Picks 50 portfolio http://jubakpicks.com// )
DANONE (DANOY in New York and BN.FP in Paris). The French seller of yogurt, bottled water, and baby foods has been pummeled by the euro debt crisis. The latest hit came on July 19 when the company said that falling yogurt sales in Spain and the Southern Europe as hard-pressed consumers switched to cheaper brands would result in a 0.5 percentage point drop in operating margin in 2012 from 2011 levels. The shares of the New York-traded ADR have tumbled by 8.7% from the close on July 19 to the close on July 25. The stock is now down 21.9% in the last 52 weeks. But DANONE isn’t just yogurt and its not just a European company anymore. The company’s four biggest markets in 2011 were France and Russia at 11% of revenue each, and Spain and the United States at 7% of revenue each. But 51% of DANONE’s sales now come from emerging markets (and 38% from Western Europe.) Sales in Asia have grown at a compounded annual rate of 14.5% from 2008-2011. The company is the leading seller of bottled water in Asia, for example. The ADRs trade at 15.07 times projected 2012 earnings per share and pay a 3.17% dividend. (The dividend is paid once a year and was paid in May 2012.)
I think these three nibbles are enough to get you started. There is still lots of volatility ahead of investors in Europe. Don’t eat too much now. You don’t want to wind up in the oven with the witch do you?
Full disclosure: I don’t own shares of any of the companies mentioned in this post in my personal portfolio. The mutual fund I manage, Jubak Global Equity Fund http://jubakfund.com/ , may or may not now own positions in any stock mentioned in this post. The fund did own shares of McDonald’s as of the end of March. For a full list of the stocks in the fund as of the end of March see the fund’s portfolio at http://jubakfund.com/about-the-fund/holdings/