This week’s Friday Update includes our comments on earnings from Berkshire Hathaway (BRK/B), Duluth Holdings (DLTH) and Viatris (VTRS). We’ll provide more comments on Viatris as well as Kaman (KAMN), Vistra Energy (VST) and Holcim (HCMLY) next Friday.
Earnings updates:
Berkshire Hathaway (BRK/B) – Recommended at the end of March 2020 in the depths of the market’s pandemic-driven sell-down, Berkshire Hathaway is an exceptionally well-managed financial and industrial conglomerate.
Berkshire reported operating earnings of $7.3 billion, up 45% from a year ago. On a per-share basis, the company reported operating earnings of $3.27/share, up 52% from a year ago, helped by a 5% lower share count. The earnings were about 11% above the consensus estimate. Insurance underwriting and Other (including Kraft Heinz, Pilot, Berkadia and others) returned to profitability compared to losses a year ago, while the Railroad, Utilities and Energy segment profits and Other Businesses profits rose about 13% each. Berkshire has so many very different businesses that picking among the stronger and weaker segments isn’t particularly meaningful. We’d note, however, that Geico’s auto claims trends are deteriorating as more drivers hit the roads, similar to but perhaps more severely than its competitors.
Berkshire bought back $6.9 billion of its shares in the fourth quarter and $27 billion for the full year. Despite this, the company still ended the year with $144 billion in cash and equivalents, of which $120 billion was held in U.S. Treasuries. This sum is about half of one percent of the entire publicly held national debt. Berkshire has found little in the way of public or private equities that it finds attractively valued, largely due to the effect of low interest rates. Book value per share ended the year at $227.34, up 20.5% despite the repurchases.
The annual letter was interesting as always, but short on edgy nuggets. The legendary annual meeting will start on April 29.
Berkshire shares have risen 10% year-to-date and are up 78% from our initial purchase at $183.18 about two years ago. While the shares trade at a sizeable premium (142% of book value), it is difficult to make a solid case for selling them, so we retain our Hold rating.
Duluth Holdings (DLTH) – This retailer of rugged workwear and outdoor gear struggled with a disjointed and overly aggressive store expansion strategy. Duluth ousted the CEO in September 2019, brought the founder back to the CEO seat on an interim basis, terminated the failed strategy, and hired a new, permanent CEO in May 2021. The company has immense opportunities – its challenge is to strike a successful balance between pursuit and execution.
The company reported reasonable fourth-quarter results. It provided fiscal-year 2022 guidance for 6% revenue growth and 7% Adjusted EBITDA growth, but this guidance was mildly disappointing relative to consensus estimates. Also, capital spending will increase sharply to $57 million from the pandemic-depressed $15 million spend in 2021, which was higher than we or other investors anticipated. The shares slipped about 2% in a weak market. Duluth is making progress but we anticipate that this recommendation could take another year or two to reach its full potential and could eventually be worth more than our $20 price target.
In the quarter, revenues of $271 million rose 6% from a year ago and were about 3% light relative to the consensus. Earnings of $0.53/share fell 21% but were 13% better than the consensus. Adjusted EBITDA of $33.0 million fell 14% but was about 11% higher than the consensus. Revenues continue to grind higher as the company recovers from the pandemic and as its starter-steps to boost consumer awareness start to take hold. The decline in EBITDA was due to increased investments in marketing and personnel and higher freight costs. However, its EBITDA margin is reaching the highest levels since the company went public.
Duluth has largely accomplished the retrench/stabilization portion of its turnaround. By stopping its overly aggressive new store strategy, stabilizing its logistics and focusing on its core business, the company is now on a sounder footing. Duluth is now in its growth stage, with three priorities: product development, bolstering its logistics and developing its insight and analytics through investments in tech and talent. These initiatives, led by the new CEO Sam Sato under the “Big Dam Blueprint” strategy, are laying the foundation for Duluth to reach and support its goal of $1 billion in annual sales (about 33% higher than this past year’s revenues).
We’re not big fans of its new product development, as it risks diluting their efforts on the core brands, risks confusing customers with too many brands, adds operating and marketing complexity and has a speculative element. However, we’ll yield to management’s expertise and adopt a “trust but verify” approach. We are more favorable toward the logistics initiatives, as these provide more tangible revenue and expense benefits. If the company does reach $1 billion in revenues, its margins will be higher because of its spending on a new fully automated distribution center in Georgia and others elsewhere. While we are a bit wary of the $50+ million price tag, the value seems clear and Duluth has the cash flow to fully fund it.
We like the spending on talent and technology to help it understand, manage and accelerate its revenue-building and efficiency initiatives. Duluth is finally becoming digitally savvy – this can only help it reach its goals, particularly in its awareness-building marketing efforts.
The base business continues to grow: it’s active buyer customer base is 14% higher than two years ago (pre-pandemic), while its customer loyalty remains high. Its shift to digital marketing is succeeding in bringing in new customers, which is producing more sales and better gross margins. Duluth seems capable of finding new customers and keeping its existing ones – a critical base for its survival and growth. Its new product innovations are being well-received. We are big fans of its new approach of selling in third-party locations like its placement in over 100 Tractor Supply stores (seems to be working so far) and is adding at least one other third-party selling location.
Near term, sales will be subdued as Duluth has seen slow shipments of its spring inventory and it has less clearance inventory available for bargain-hunters (with a partial offset that its profit margins will be higher from sales of more fuller-priced inventory). The longer-term story remains intact.
The balance sheet remains robust with more cash than debt, including its financial leases and TRI debt, providing a solid footing for the company’s growth plans.
Viatris (VTRS) – Viatris was formed in November 2020 through the merger of pharmaceutical generics producer Mylan, N.V. and Pfizer’s Upjohn division. Investors worry about its declining revenues, limited drug pipeline visibility, elevated debt, loss of exclusivity for Lyrica and Celebrex in Japan, and reforms to China’s volume-based procurement programs. We see Viatris as an undervalued stream of reasonably stable free cash flow. As evidence of this stability is produced, along with better capital allocation, governance and transparency, we see strong potential for a higher share price.
Viatris reported reasonable fourth-quarter results, provided disappointing guidance and announced what amounts to a complete reset of the investment story as it has a deal to sell its biologics business for cash and stock, will be selling other businesses, and will be investing heavily to become a specialty pharma company. All of this was too much for shareholders, who sold the shares aggressively, down 30% over the subsequent two trading days. We are still digesting this shift but for now retain our Buy rating.
Revenues of $4.3 billion fell 2% compared to year-ago pro forma results and were in line with estimates. Adjusted net income of $0.80/share rose 49% from a year ago (no comparable year-ago results) and was about 7% above estimates. Adjusted EBITDA of $1.4 billion rose 39% but was about 4% below estimates.
Viatris technically exceeded its full-year 2021 guidance but made a mind-bending array of adjustments, totaling $5.7 billion, that converted a $(1.3) billion GAAP loss into a $4.5 billion adjusted profit. While much of this was understandable and acceptable, Viatris buried $900 million of adjustments in the “Restructuring” bucket and $175 million in “Other Special Items.” It had the gumption to remove $62 million for a “Clean Energy Investments Pre-Tax Loss” which seems to be recurring (was $48 million in 2020) and an on-going part of Viatris’ business. The management team is corroding its credibility with these kinds of generous adjustments.
The reported results were overshadowed by weak 2022 guidance, with revenue and EBITDA headed lower, which would also be perhaps 1-5% below consensus estimates. It wasn’t clear exactly how much of its to-be-divested businesses would factor into the declines. There appears to be higher erosion in its core products, adding to our wariness.
The scale of its strategic reboot was a surprise and leads us to wonder if this stock is worth keeping. In its 89-page PowerPoint slide deck, Viatris’ management provided some rationale for selling its primary growth segment (biologics) and the $3.3 billion price which includes a $1 billion stake in privately held India-based buyer Biocon Biologics, its plans for another $6 billion in sales proceeds from other divestitures, its raising of its R&D spending by over 5 percentage points of revenues (more than double the current rate), and its strategy to focus on selected pharma segments all while reducing its elevated debt.
Basically, the company is offloading average but cash-generation-rich assets and raising its expenses now in the hope that it can generate faster and higher-profit yet speculative growth in a few years or so. Management promises to assuage shareholders by trimming debt, continuing its dividend and repurchasing shares.
For now, with the shares washed out, we are taking some time to rethink this stock but are retaining our Buy rating in the meantime.
Friday, March 11, 2022 Subscribers-Only Podcast:
Covering recent news and analysis for our portfolio companies and other topics relevant to value/contrarian investors.
Today’s podcast is about 14½ minutes and covers:
- Brief commentary on earnings reports.
- Comments on other recommended companies:
- Several recommended companies are suspending operations in Russia
- General Electric (GE) – reaffirmed its 2022 guidance
- Toshiba (TOSYY) – CEO replaced by 3-year company executive
- Baker Hughes (BKR) – rig count went down last week
- Vistra Energy (VST) – Qatar Investment Authority takes 5% stake
- Marathon Oil (MRO) – approaching our recently raised $24 price target
- The side-effects of the Ukraine invasion are lifting many recommended stocks but hurting others like Adient (ADNT) and LambWeston (LW)
- Elsewhere in the Market:
- Federal Reserve Bank completes its QE program. Side-effects are probably underestimated.
- Market seems to assume the Ukraine invasion will be settled without much further market impact. We’re not quite so sure.
- Final note:
- Thrilled that Major League Baseball has resurrected the 2022 season.
Please know that I personally own shares of all Cabot Turnaround Letter recommended stocks, including the stocks mentioned in this note.
| Market Cap | Recommendation | Symbol | Rec. Issue | Price at Rec. | 3/10/22 | Current Yield | Current Status |
| Small cap | Gannett Company | GCI | Aug 2017 | 9.22 | 4.49 | 0.0% | Buy (9) |
| Small cap | Duluth Holdings | DLTH | Feb 2020 | 8.68 | 12.66 | 0.0% | Buy (20) |
| Small cap | Dril-Quip | DRQ | May 2021 | 28.28 | 39.89 | 0.0% | Buy (44) |
| Mid cap | Mattel | MAT | May 2015 | 28.43 | 23.09 | 0.0% | Buy (38) |
| Mid cap | Conduent | CNDT | Feb 2017 | 14.96 | 4.38 | 0.0% | Buy (9) |
| Mid cap | Adient plc | ADNT | Oct 2018 | 39.77 | 35.08 | 0.0% | Buy (55) |
| Mid cap | Lamb Weston Holdings | LW | May 2020 | 61.36 | 51.33 | 1.9% | Buy (85) |
| Mid cap | Xerox Holdings | XRX | Dec 2020 | 21.91 | 18.82 | 5.3% | Buy (33) |
| Mid cap | Ironwood Pharmaceuticals | IRWD | Jan 2021 | 12.02 | 11.72 | 0.0% | Buy (19) |
| Mid cap | Viatris | VTRS | Feb 2021 | 17.43 | 10.12 | 4.7% | Buy (26) |
| Mid cap | Vistra Corporation | VST | Jun 2021 | 16.68 | 22.65 | 3.0% | Buy (25) |
| Mid cap | Organon & Co. | OGN | Jul 2021 | 30.19 | 35.98 | 3.1% | Buy (46) |
| Mid cap | Marathon Oil | MRO | Sep 2021 | 12.01 | 23.88 | 1.2% | Buy (24) |
| Mid cap | TreeHouse Foods | THS | Oct 2021 | 39.43 | 33.97 | 0.0% | Buy (60) |
| Mid cap | Kaman Corporation | KAMN | Nov 2021 | 37.41 | 41.29 | 1.9% | Buy (57) |
| Mid cap | The Western Union Co. | WU | Dec 2021 | 16.40 | 17.56 | 5.4% | Buy (57) |
| Mid cap | Brookfield Re | BAMR | Jan 2022 | 61.32 | 54.58 | 0.0% | Buy (93) |
| Mid cap | Polaris | PII | Feb 2022 | 105.78 | 110.69 | 0.0% | Buy (160) |
| Mid cap | Goodyear Tire & Rubber | GT | Mar 2022 | 16.01 | 13.05 | 0.0% | Buy (24.50) |
| Large cap | General Electric | GE | Jul 2007 | 304.96 | 91.33 | 0.4% | Buy (160) |
| Large cap | Shell plc | SHEL | Jan 2015 | 69.95 | 51.69 | 3.7% | Buy (60) |
| Large cap | Nokia Corporation | NOK | Mar 2015 | 8.02 | 4.85 | 7.5% | Buy (12) |
| Large cap | Macy’s | M | Jul 2016 | 33.61 | 24.76 | 2.5% | HOLD |
| Large cap | Credit Suisse Group AG | CS | Jun 2017 | 14.48 | 7.35 | 3.5% | Buy (24) |
| Large cap | Toshiba Corporation | TOSYY | Nov 2017 | 14.49 | 18.78 | 3.4% | Buy (28) |
| Large cap | Holcim Ltd. | HCMLY | Apr 2018 | 10.92 | 9.29 | 4.7% | Buy (16) |
| Large cap | Newell Brands | NWL | Jun 2018 | 24.78 | 21.96 | 4.2% | Buy (39) |
| Large cap | Vodafone Group plc | VOD | Dec 2018 | 21.24 | 15.79 | 6.5% | Buy (32) |
| Large cap | Kraft Heinz | KHC | Jun 2019 | 28.68 | 37.54 | 4.3% | Buy (45) |
| Large cap | Molson Coors | TAP | Jul 2019 | 54.96 | 50.34 | 3.0% | Buy (69) |
| Large cap | Berkshire Hathaway | BRK.B | Apr 2020 | 183.18 | 325.30 | 0.0% | HOLD |
| Large cap | Wells Fargo & Company | WFC | Jun 2020 | 27.22 | 49.01 | 1.6% | Buy (64) |
| Large cap | Baker Hughes Company | BKR | Sep 2020 | 14.53 | 36.74 | 2.0% | Buy (31) |
| Large cap | Western Digital Corporation | WDC | Oct 2020 | 38.47 | 46.59 | 0.0% | Buy (78) |
| Large cap | Altria Group | MO | Mar 2021 | 43.80 | 51.23 | 7.0% | Buy (66) |
| Large cap | Elanco Animal Health | ELAN | Apr 2021 | 27.85 | 26.38 | 0.0% | Buy (44) |
| Large cap | Walgreens Boots Alliance | WBA | Aug 2021 | 46.53 | 48.07 | 4.0% | Buy (70) |
Market cap is as-of the Initial Recommendation date. Current status indicates the rating and Price Target in ( ). Prices are closing prices as-of date indicated, except for those indicated by a "*", which are price as-of SELL recommendation date.
Please feel free to share your ideas and suggestions for the podcast with an email to either me at bruce@cabotwealth.com or to our friendly customer support team at support@cabotwealth.com. Due to the time limit we may not be able to cover every topic each week, but we will work to cover as much as possible or respond by email.
Disclosure: The chief analyst of the Cabot Turnaround Letter personally holds shares of every Rated recommendation. The chief analyst may purchase securities discussed in the “Purchase Recommendation” section or sell securities discussed in the “Sell Recommendation” section but not before the fourth day after the recommendation has been emailed to subscribers. However, the chief analyst may purchase or sell securities mentioned in other parts of the Cabot Turnaround Letter at any time.