Cabot Early Opportunities Issue: July 17, 2024

Stocks in This Issue

Portfolio Updates

Apple (AAPL) should report Q3 fiscal 2024 results on August 1 and is expected to signal a return to growth after a contraction last year and in Q2. Recent data shows iPhone sales in China did better than expected in May (+40% year-over-year). We jumped into the stock at a great time in mid-May and are already up over 20%. Apple has laid the groundwork for a significant upgrade cycle across iPhones, iPads and Macs, all of which are getting better AI-specific hardware and AI features. BUY

AST SpaceMobile (ASTS) is working to build the world’s first space-based cellular broadband network that can provide uninterrupted smartphone coverage across the globe. Its most direct competitor is Elon Musk’s Starlink, and there’s a very large global market given over 40% of the global population lacks cellular broadband. It has taken investment from AT&T (T), Google (GOOG) and, most recently, Verizon (VZ). Near-term, the company is trying to blanket the U.S. AST expects to launch its Block 1 (five BlueBird satellites) from Cape Canaveral shortly after they are delivered in the July – August time frame. Block 2 satellites are expected in late 2024 to early 2025. The company has been shuffling the management deck as it prepares to get commercial operations going and has also been communicating frequently with the market to drum up excitement and interest ahead of the Block 1 launch. This recent letter from the company’s CEO is worth a read. BUY HALF

Cava (CAVA) has pulled back on concerns about consumer spending at quick serve restaurants, leading us to take profits (40% gain) on part of our position last week. This morning CAVA has fallen below support near 84 so we’re booking profits on our final stake. I will continue to monitor the stock through earnings (expected around August 13) and beyond in case another buying opportunity presents itself. SELL REMAINING QUARTER

Celestica (CLS) will report next Thursday and is expected to deliver EPS of $0.81 (+47%) on $2.25 billion in revenue (+15.9%). The stock offers broad-based exposure to the tech infrastructure market, given it’s a supply chain specialist, serving original equipment manufacturers (OEMs) and cloud-based service providers – including the hyperscalers (MSFT, META, GOOG, AMZN, etc.) – with a full range of product manufacturing and supply chain services. BUY

FTAI Aviation (FTAI) pulled back last week but got back in gear over the last few sessions. Airbus (EADSY) delivery expectations were recently cut due to supply chain issues and this feeds perfectly into the FTAI story as the company specializes in engine maintenance and repair of engines for the Boeing 737 NG family and Airbus A320ceo family. Management recently took steps to internalize previously outsourced operations as well as to acquire the Lockheed Martin Commercial Engine Solutions (LMCES) from Lockheed Martin Canada. It’s a unique and still unknown story in the aerospace industry. Quarterly results come out next Tuesday. BUY

Kaspi.kz (KSPI) broke out to a fresh all-time high above 136 yesterday as the stock’s choppy but steady ascent continues. The company’s business model revolves around bringing customers onto the platform with frequent, repeat transactions (Payments, Bill Pay, etc.) then migrating them to higher profit margin products (Travel, eCommerce, Autos, etc.). New products like eGrocery are off to a good start, with Almaty (the largest city in Kazakhstan) launching about a year ago; it’s already used by over 30% of the city’s population. Just four months after the launch of Auto the segment sold five thousand cars and was profitable. In May, management said the company had around 15 million monthly average users and would like to get to 100 million. There is plenty of opportunity still in Kazakhstan but international expansion seems like an eventuality, probably by acquiring a partner. We’ll get an update on Monday when Q2 results come out. BUY HALF

Microsoft (MSFT) is set to report Q4 fiscal 2024 results on July 30. We’re looking for 14.6% revenue growth in the quarter, which would mean MSFT grew by 15.5% this year. EPS growth for the year should be about 20.5% ($11.82). The hurdle for fiscal 2025 guidance is $279.8 billion (+14.3%) and EPS of $13.36 (+13%). Shares of MSFT recently hit a new all-time high and have pulled back to their 25-day moving average line. BUY

Netflix (NFLX) reports tomorrow and is expected to deliver revenue of $9.53 billion (+16.4%) and EPS of $4.74 (+44%). That result would put the company on track to generate full-year revenue growth of 15% and EPS growth of 53%. Over the last couple of weeks many analysts have increased their price targets for Netflix, which doesn’t have a legacy business model to defend/protect (like the cable TV companies), is already the undisputed champ in the streaming TV market and has still-unknown potential in advertising (monthly average users on the ad tier grew from 23 million in January to 40 million in May). Netflix’s total net user additions in Q1 was 9.3 million and, at the time, management suggested Q2 would be lower. Street expectations range from 5 million to over 8 million. We will find out tomorrow. HOLD HALF

Rivian (RIVN) stock has continued to work its way higher in the weeks after the VW partnership/joint venture announcement. The VW investment(s) are welcome indeed; now we wonder about the sticky details of the deal and what the end game is. Will Rivian ultimately become absorbed into VW? Will it design vehicles and make some parts, but VW (or others) will manufacture the vehicles? The Normal, IL plant is probably “good enough” for a number of years from a capacity perspective (Q2 production/deliveries was 9,612/13,790 vehicles). Does this deal mean the Georgia plant is no longer needed (i.e. future vehicles manufactured by partner(s))? Lots of questions yet to be answered. The conversation will pick up again on August 6 when Q2 results come out. Management is expected to confirm 2024 production guidance of 57,000 vehicles. This is still a risky stock, however, the story has gotten better and expectations for lower interest rates should continue to provide a tailwind. Keeping at buy, for now. BUY

SharkNinja (SN) keeps rolling out the new products, the newest addition being a frozen drink maker, the SLUSHi. Recent Nielson point-of-sale data suggests sales for the company have picked up relative to Q1, though keep in mind this doesn’t include e-commerce numbers (where SN has a lot of exposure, generally in a positive way). Earnings should be out around August 22, so right after the August Issue. The stock is still a buy. BUY

Soleno Therapeutics (SLNO) submitted its New Drug Application (NDA) to the FDA for DCCR (Diazoxide Choline) tablets for the treatment of Prader-Willi Syndrome on schedule just before the end of June. The drug compound has Breakthrough and Fast Track Designations, as well as Orphan Drug Designation, and management requested Priority Review of the NDA. The FDA has 60 days to determine if the NDA is accepted for review (i.e. by the end of August). If Priority Review is accepted that means a target review period of six months. Shares have moved back near all-time highs in the low 50s over the last two weeks, partly due to the NDA filing and partly because biotech stocks have caught fire. HOLD HALF

Vertiv Holdings (VRT) has begun to suffer as money rotates out of some of the big outperformers and into other areas (like small caps). With earnings coming out on July 24 (next Wednesday) there could be a near-term catalyst for shares. However, I’m inclined to protect our hard-earned gain (currently around 73% on our remining stake) so we will fully exit VRT today. While this could prove to be a mistake if shares rally next week, the reality is we have indirect exposure to the datacenter market elsewhere. SELL REMAINING HALF

What to Do Now

Lean bullish, but also recognize we’ve just enjoyed a significant rally and some profit taking is very likely. Protect profits on some positions (we sell our remining stakes in VRT and CAVA today).

Rising expectations for rate cuts (market now expecting two to three by year end) and a Trump victory (more market-friendly) have led to a broadening out of the market’s strength and rallies in previously underperforming areas of the market.

That said, don’t buy with reckless abandon. There is a lot of junk moving higher and ongoing rotation out of some of the big YTD outperformers and tech. But at the same time, don’t overthink it for quality names. Similar to last month, we are leaning into the strong market with stocks that have share-moving catalysts, until the trends change.

NEW STOCKS

Magnite (MGNI)

If you’re interested in a technology at the heart of Netflix’s (NFLX) strategy to grow its advertising tier, Magnite (MGNI) should be right up your alley.

The AdTech company operates an omni-channel sell-side advertising platform that’s used by content publishers to monetize their ad inventory across mobile, desktop and connected TV (CTV).

With the industry moving toward automated/programmatic ad execution – Disney (DIS) and Paramount (PARA) say 50% by the end of the year – Magnite is in a sweet spot, as this is its specialty.

The company’s platform combines an ad server with a supply-side platform (SSP). This makes it a more defensible player since it doesn’t really matter what technologies publishers are using to buy ads.

Processing trillions of ad requests every month, Magnite appears on track to become the preferred partner for the agencies and demand-side platforms (DSPs) buying ads, as well as the publishers selling them.

While it’s still a small player (market cap is only $2.2 billion), Magnite’s platform gives ad buyers a viable alternative to the Walled Gardens, the technology ecosystems where tech giants like Alphabet (GOOG), Meta Platforms (META), Amazon (AMZN) and Apple (AAPL) control all the user data and ad options.

A recent exclusive partnership (announced in May) with Netflix (NFLX) and MediaOcean illustrates the potential. Some analysts see the deal adding as much as $15 million to Magnite’s 2025 revenue, ramping up to $45 million in 2026. By 2028 it could be delivering $200 million, depending on how Netflix’s ad tier does with subscribers.

To put that in context, Magnite is expected to generate $608 million in revenue this year (+11% over 2023).

Management says Netflix will likely be its biggest client by the end of next year. But clearly, this isn’t a Netflix-only story.

Recent news that Telus (TU) will use Magnite’s ad server for its Free Ad-Supported TV (FAST) and online video advertising inventory is just another recent win, coming on the heels of smaller deals with United Airlines (UAL) and CairoRCS.

The bar has been set for revenue to grow by almost 11% both this year and next, with EPS growth soaring 52% this year (to $0.82) then a more modest 15% next year.

The Stock
MGNI came public in the mid-teens in 2014 and had some tough days over the following years, at one point falling below 2.0. But then the pandemic and online entertainment boom propelled shares higher until they peaked just north of 64 in early 2021. That wasn’t a normal operating environment at all, and MGNI sold off hard, landing near 6 in October 2022. Shares were then volatile through 2023 as the market tried to figure out how the whole digital advertising environment would handle the transition from pandemic to somewhat normal. There was a head-fake rally this past February after the Q4 earnings report, then MGNI enjoyed another one-day bump after the Q1 2024 report. The real move came after the deal with Netflix was announced (MGNI went from 9 to 12 in two days), and the stock has stayed strong since, moving above 15 this week. Given the volatility and Netflix’s earnings this week, we’ll put MGNI on the Watch List for now. WATCH

Modine (MOD)

When I think of Modine (MOD) I recall the big forced-air garage heater I put in as a temporary heat source when renovating an old farmhouse back in 2004.

That image of Modine as a fairly basic, old-school HVAC and refrigeration (HVAC&R) company is probably not uncommon among people loosely familiar with the name.

But Modine has evolved a lot in recent years, becoming more of an industrial technology company with exposure to notable mega-trends like data centers for AI, cloud computing, energy efficiency, grid electrification and even EVs.

A strategic transformation, which began in 2021, has helped to refocus Modine on growth markets and also drive a number of divestments from non-strategic markets. The end result is considerable earnings and cash flow growth.

In short, this is one mid-cap HVAC company worth taking a swing at.

The “new” Modine has two operating segments: Climate Solutions (44% of revenue, grew 4.3% in fiscal 2024) and Performance Technologies (56% of revenue, grew 5.2% in fiscal 2024).

The Climate Solutions segment includes all the equipment and services for residential, commercial and industrial heat transfer, HVAC and refrigeration markets (heat pumps, boilers, furnaces, radiators, coolers, etc.), as well as data center cooling markets.

The data center market has been the fastest growing lately, rising from 8% to 12% of company-wide revenue in fiscal 2024 (ended in March). Customers include large colocation and cloud service providers, hyperscalers, and telecom, healthcare and commercial real estate customers.

Three recent strategic acquisitions, Napps (air and water-cooled chillers, condensing units and heat pumps), Scott Springfield Manufacturing (air handling units for hyperscale data centers) and TMGcore (liquid immersion cooling technology), combined with internal development of data center cooling technologies, are helping Modine go deeper into this high-growth market.

The Performance Technologies segment makes solutions using air and liquid-cooled technologies (radiators, condensers, fan shrouds, etc.) for vehicles, stationary power and industrial applications (think trucks, agriculture equipment, power generators), as well as solutions for zero-emission and hybrid vehicles (think battery and electronic cooling equipment for buses and off-highway machines).

When Modine reported Q1 fiscal 2025 results on May 21, management said total revenue grew by 25%. Data centers (+40%) did the heavy lifting against a 5% decrease in the Performance Technologies segment, where lower sales of automotive products were partially offset by strength in EV battery cooling solutions and a few divestitures totally eliminated a few revenue sources.

As we look forward, it’s fair to expect both air and liquid-cooled data center solutions will propel the bulk of Modine’s near-term growth, resulting in roughly 7% company-wide revenue growth this year ($2.58 billion expected) and next. EPS should grow at least twice as fast, suggesting EPS of 3.71 this year (+14%) rising to 4.39 (+18%) next year.

Earnings should be out on July 31.

The Stock
MOD has had a lot of ups and downs over the decades since it came public, but the stock has had a massive change of character since mid-2022 when it was trading near 20. Since then shares have risen to the 115 level with only two notable consolidation phases; last August – October (MOD was mostly in the 39 to 52 area) and this March through June (MOD was up and down in the 80 to 110 area). In the last two weeks, MOD has lifted off the 100 level to make new highs above 110. We’ll jump in here anticipating the strength to continue. BUY

Nova, Ltd. (NVMI)

One of the big semiconductor capital equipment conferences, SEMICON West, took place last week.

Since the event there have been a number of analyst notes discussing how the industry will address the surging demand from AI-related markets, new chip manufacturing processes and materials, and broader confidence in a wafer fab equipment (WFE) recovery cycle.

All of this points to an extended cycle for companies with exposure, including KLAC, AMAT, LRCX and, our current Watch List semi-cap company, Nova (NVMI).

On the flip side, a Bloomberg report today asserts that the U.S. is considering tough trade restrictions on advanced semi technology exports to China. The report suggests the U.S. could try to convince allies to limit companies’ service and repair work on restricted equipment already in China.

It’s driving a selloff in chip names today, including NVMI, which generates around a third of its revenue from China (according to FactSet).

With this somewhat volatile backdrop and earnings coming up in early August, it may be a mistake to get involved at all. But this could also be a short-term buying opportunity, so we’ll step in today with a half-sized position and see how it goes.

If you’re new to the story, Nova is a mid-cap manufacturer of semiconductor capital equipment. It specializes in dimensional and materials metrology (measuring) solutions for process control used in semiconductor manufacturing.

With intense demand for the next generation of complex chips for AI applications, there is a need for new manufacturing equipment, not to mention a movement to bring some semi manufacturing back to the U.S. (reshoring).

This plays well for Nova, which has a portfolio of high-precision metrology tools (78% of 2023 revenue) and related services and software (22% of revenue) that help integrated circuit (IC) manufacturers manage yield through the semi fabrication process.

The company’s solutions are particularly important when the market is moving fast, as it is now, to transition from one complex technology node to the next.

Each jump to the next node requires more processes and greater capital investment per wafer.

Nova’s current X-Ray metrology (unique in the marketplace) and exposure to advanced packaging and High-Bandwidth Memory (HBM) are particularly compelling in the current environment.

Analysts see total company revenue growth of 16% this year ($601 million) and next, which implies 2024 EPS of $5.47 (+12.6%), potentially accelerating toward 16% in 2025.

Nova also has around $700 million in cash, suggesting it could pick off some smaller acquisitions to boost growth further. The company will report Q2 results on August 8.

The Stock
NVMI has been public since 2000 so it’s been through several semiconductor cycles. Beginning in 2023, NVMI’s pattern has been mostly higher highs and higher lows on the weekly chart. The biggest drawdown was 30% last fall after the stock hit 130, but shares bounced right back in November following earnings. There was a smaller pullback (about 16%) this spring (190 to 158). But once again, shares recovered after earnings and have powered their way to a new all-time high of 247, struck last week, just before today’s violent selloff.. BUY HALF

NuScale Power (SMR)

The Biden administration’s plans to fight climate change by decarbonizing the power sector face a new challenge. And it’s not Trump and J.D. Vance.

New technologies, including Artificial Intelligence (AI) and crypto mining, require a huge amount of energy. It’s projected that data centers alone could use up to 9% of total U.S.-generated electricity by 2030.

That’s a stunning projection, but they’re already using around 4%!

Beyond data centers, there are also 130 coal plants in the U.S. slated to be retired by 2050, growing demand for water desalination and, over time, greater need for clean energy to fill in the gaps from intermittent supply from wind and solar.

In other words, there’s no time to waste addressing rising electricity demand and climate change problems, and nuclear is on the list of solutions.

However, big nuclear power reactors are ungodly expensive and create a lot of controversy. Small modular nuclear energy reactors might be just the ticket.

This is where NuScale Power (SMR) comes in.

It is the only small modular reactor (SMR) company with a license to build from U.S. regulators. This gives NuScale a huge time advantage given that the time from submission to approval typically takes three years. No other company has even submitted for approval yet.

NuScale’s Power Module is vastly different from a traditional nuclear power plant.

For starters, everything that generates nuclear steam is contained in a single vessel, which includes the reactor core, steam generators and pressurizer. There are none of the coolant pumps and large-bore piping in complex, conventional reactors.

The modular design also means flexibility – power can be added to a location to match load growth.

NuScale has an established network of partners to help build its modules, including Doosan, PCC, Curtiss-Wright (CW), Honeywell (HON), Paragon and Sensia, among others.

The company is currently making the transition from pre-revenue to revenue generation, so money is coming in the door even though it doesn’t have any major projects generating nuclear energy.

This dynamic exists because of the extended timeline to design, permit, build, etc., and the amount of licensing, support, testing, training, etc. that’s required to get modules and a plant up and running.

Early-stage projects are planned around the globe, however, including in Europe (Romania, Poland, Bulgaria Czech Republic and Ukraine), North America (Ohio, Pennsylvania and Quebec), Indonesia and South Korea.

When exactly a facility will be up and running is not yet known, but NuScale is debt-free and is expected to see revenue jump 80% this year (to $41 million), then reach $200 million in 2025.

It’s a compelling story that we will learn more about before jumping in.

The Stock
SMR came public at 10 via SPAC IPO in May 2022 and, like most of the SPACs, completely fell apart in 2023. At its low point in January 2024, SMR traded well below 2.0. The stock began to benefit from the AI boom and talks of rising energy demand in March, and a quick trip to 10 after Q4 earnings opened a lot of eyes to SMR’s potential. Shares gave much of that rally back by April, but the hook had been set. SMR has enjoyed a sustained rally of higher highs and higher lows that began on March 20 at 5.0 and continues today, with the stock trading near 15. It’s a little too hot for us to touch right now, but I’m certainly intrigued and will be watching closely. Earnings should be around August 8. WATCH

Vertex (VERX) ★ Top Pick ★

I added Vertex (VERX) to our Watch List last month and the stock has been rock solid since, so we’ll add a half position ahead of the Q2 earnings report, scheduled for August 6.

Part of my thinking is that, beyond the fact that VERX has been one of the few software stocks with momentum this year, the broader software group has begun to act better as the market rally broadens. This could help to give VERX a little extra punch beyond what the stock “deserves” based on what’s going on within the business.

On that front, nothing has changed over the last month. Vertex still offers tax compliance efficiency solutions that address major pain points to the biggest companies in the world.

Customers with extremely complicated tax operations turn to Vertex to automate their end-to-end indirect tax processes. The exit of a major competitor from the public market, Avalara (taken private), is likely greasing the wheels for customers to sign up with Vertex

Indirect tax includes sales tax, seller’s use tax, consumer use tax and value-added tax. It’s the biggest corporate tax category in the world. The biggest of the big retailers, Walmart (WMT), Costco (COST), etc., rely on Vertex to get the job done and comply with all the ever-changing rules.

The company is doing more business in Europe, has a new co-sell partnership with SAP (SAP), and has recently released Tax Calculation Service for Microsoft Dynamic. These initiatives should add incremental growth to Vertex’s already steady growth profile.

There is also an AI angle here, which could be a plus at a time when many software stocks are struggling because AI has the potential to be a threat to their business.

Vertex acquired a proprietary AI tech that’s mainly used to streamline tax categorization (mapping a customer’s SKUs for sales and use tax purposes), a time-consuming, manual and error-prone process.

The technology was acquired from a current partner (Ryan, LLC) and will only be available from Vertex, most likely through a separate add-on module with its own pricing.

Vertex has a solid profile with mid-teens revenue growth and EPS growth near 30%. In 2024 look for revenue to grow by around 15% to $657 million and for EPS to grow 35% to $0.53.

Earnings are expected on August 7.

The Stock
VERX came public in July 2020 at 19 and traded as high as 39 in early 2021. Then the bear market took over. Shares finally bottomed out near 10 in the middle of 2022. The recovery was choppy at first but began to smooth out in 2023, though there have been some 15% to 20% pullbacks along the way. The stock has been rising steadily over the last three months and recently lifted off the 35 level, where there was some overhead resistance from back in March. Let’s jump in. BUY

PORTFOLIO CHANGES SINCE LAST ISSUE

Recent sales were done to limit downside in positions we didn’t have gains to play with, and to take incremental profits.

On July 2 we exited Core & Main (CNM) for a 7% loss, on July 10 we sold half of our half-size position in CAVA (CAVA) for a 40% gain and this Monday, July 15, we stepped aside from BellRing Brands (BRBR) for a 10% loss.

Today we are selling our remaining half-sized stake in Vertiv (VRT) for a roughly 73% gain as well as our remaining one-quarter position in CAVA (CAVA) for a roughly 35% gain.

An updated table of all stocks rated BUY, HOLD and WATCH as well as recent stocks SOLD, is included below.

Stocks rated BUY are suitable for purchasing now. I suggest averaging into every stock to spread out your cost basis.

For stocks rated BUY A HALF, you should average into a position size that’s roughly half the dollar value of your typical position. We may do this when stocks have little trading history (for instance, IPOs), when there is more uncertainty in the market or with a stock than normal, or if a stock has recently jumped higher.

Those rated HOLD are stocks that still look good and are recommended to be kept in a long-term-oriented portfolio. Or they’ve pulled back a little and are under consideration for being dropped.

Stocks rated SOLD didn’t pan out, or the uptrend has run its course for the time being. They should be sold if you own them. SOLD stocks are listed in one monthly Issue, then they fall off the SOLD list.

Please use this list to keep up with my latest thinking, and don’t hesitate to email with any questions.

Active Positions

Recently Sold Positions

The next issue of Cabot Early Opportunities will be published on August 21, 2024.

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