Lowe’s Companies (LOW)

SSG and PERT A (05-06-2005) | Google Stocks | Company Website

Growth. Value Line (8 April 2005 report) projects revenue growth for LOW to be 14.5% and EPS growth to be 17%. Historic sales growth over the past 10 years has been between 18% and 20%.

Quality. Two of the key indicators of quality management, pretax profit margin and return on equity have shown steady increases over the past 10 years. See table from Part 2 of the stock selection guide.

The Robertson Quality Rating for LOW is 75.6 calculated as follows:
Value Line Financial Strength of A+ = 22.5
Earnings Predictability of 95 = 95 / 4 = 23.8
Projected Sales growth = (14.5 / 11.8) * (25 /2) = 15.4
Projected Profit Margins = (10.6 / 9.4) * (25 / 2) = 14.0

Valuation. 5-year projected EPS is 6.07. With a high PE of 25.1, projected high price is $152.40. With a low PE of 16.3, projected low price is 44.8. Using 25% / 50% / 25% zoning, LOW (currently $53.54) is buy below $71.70.

Negatives. LOW currently has a slightly negative free cash flow (cash flow form operations – capital expenditures). Home Deport (HD) its primary competitor has a positive free cash flow.

What Others Are Saying. A recent Motley Fool article discusses Home Depot and Lowe’s Companies. The author finds both HD and LOW attractive but prefers Home Depot as the market leader and notes it has superior margins and returns, and a lower relative price tag (with comparable bottom-line growth). Morningstar rates LOW with four stars, below average business risk, fair value estimate of $62 and a wide economic moat.
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Additional Shares Bought

We added to our positions today in PFE, CBH, FISV, BBBY and MXIM. With the additional shares, each company will represent about 6% of the total portfolio.

Using Value Line for PAR

The Value Line Investment Analyzer software can be used to calculate both project average return or “PAR.” The following discussion of PAR builds on several ideas presented by Mark Robertson of Manifest Investing at a class to the Washington, D.C., chapter of NAIC this past April.

PAR can be calculated from Value Line data two ways. First, using the projected 3-5 year EPS growth rate the trailing 12-months EPS can be projected out for five years. Multiplying the Value Line projected 3-5 year average PE by the projected 5-yr EPS provides an estimated 5-yr price. PAR is the compound annual growth rate using the current stock price as the present value (PV) and the estimated 5-yr price as the future value (FV) and adding to it the dividend yield.

PAR also can be calculated by using projected 3-5 year sales growth. The trailing 12-months sales can be projected out for five years. Multiplying by the Value Line projected 3-5 year net margin and dividing by the protected total number of common shares results in an estimated 5-yr EPS. As with the above calculation, multiplying the Value Line projected 5-yr EPS by projected 3-5 year average PE the provides an estimated 5-yr price. PAR is the compound growth rate using the present value and the future value and adding to it the dividend yield.

Here are examples of the above calculations using the 04 Mar 2005 Value Line data sheet for Johnson & Johnson. The data sheet is annotated with an explanation of the sales growth determination. The following key numbers are taken from the data sheet.

From the growth projections on the left side of the data sheet:

       Projected Sales growth = 9.5%
       Projected EPS growth = 12.0%

From the quarterly data, get the trailing twelve months (TTM) for sales and EPS:

       EPS TTM= 3.10
       Sales TTM= 47,348

From the projections for ’08 – ’10:

       Average Annual PE = 20
       Net Profit Margin = 20.7%
       Common Shares Outstanding = 2,800

From these numbers, we can calcute PAR. Assume the current price of $65.41 from the data sheet for these calculations.

Using 12% EPS growth:

       EPS 5yr = EPS TMM * (1 + EPS growth rate)^5
       EPS 5yr = 3.10 * (1.12)^5 = 5.46

       FV (price) = EPS 5yr * Avg Annual PE
       FV = 5.46 * 20 = 109.20

       PAR = (FV / PV) ^ n
       where period n is 5 years
       PAR = (109.20/65.41)^(1/5) – 1 = 10.8%

Using 9.5% Sales growth:

       Sales 5yr = Sales TMM * (1 + sales growth rate)^n
       where period n is 5 years
       Sales 5yr = 47348 * (1.095)^5 = 74537
       EPS 5yr = 74537 * .207 / 2800 = 5.51

Once you have projected five year EPS, the calculation for PAR is the same as for EPS growth.

       FV (price) = EPS 5yr * Avg Annual PE
       FV = 5.51 * 20 = 110.20

       PAR = (FV / PV) ^ n
       where period n is 5 years
       PAR = (110.20/65.41)^(1/5) – 1 = 11.0%

There are several ways to do these calculations. They can be done with a high school math calculator. Value Line Investment Analyzer allows the creation of user defined fields. The PAR calculations can be done in user defined fields. Alternatively, the Value Line data can be exported to a spreadsheet or data base and the calculations can be done there.

The advantage of calculating PAR is that it can combined with other parameters to screen the Value Line data base. For example, the attached screen is for all stocks in the Value Line 1,700 stock data base with a PAR of more than 15%, a Value Line Financial Quality Rating of B++ or better and an “RQR” quality ratings of 65 or higher. The screen yielded 61 stocks.

PAR is well suited for screening and for comparing stocks within a portfolio, especially when combined with a parameter that measures quality. It provides more consistent results and a better basis for comparison (than Total Return) — assuming that the future average annual PE is estimated in a consistent manner. It also allows for screening of stocks before doing an SSG. The PAR calculation in the SSG is simply based on the high and low PE assigned in Sections 4a and 4b, but that requires some judgment.

Deploying Available Cash

Here is our current portfolio sorted by the relative weight of our holdings. We are 8.2% in cash. We can purchase shares in an additional company and/or we can buy additional shares of companies we already own.

I’ll post the results of some recent screens showing quality and projected average return (PAR). Given the current market conditions, staying with quality stocks (e.g., quality rating > 65 and VL Financial Strength Rating >= B++) with high projected average return (e.g., PAR > 15%) seems like a good idea.

Quality Growth Screen

Here is a Quality Growth Screen using Value Line data. Projected average return was calculated from Value Line data in two ways One calulation sued projected EPS growth, the other used projected sales growth.

Evaluating Energy Stocks

Energy stocks are difficult to assess. The standard NAIC growth stock methodology does seem not work particularly well with energy companies since their revenues are driven in part by the pricing of the underlying commodity (oil or gas).

Kurt Wulff maintains the “McDeb” website which contains a weekly analysis of energy stocks. He was written up in Barrons earlier this year.

He has developed the McDep ratio which compares a company’s market value and debt to its present value. (“McDep” stands for market cap and debt to present value.) The ratio provides a useful way to compare energy companies and to assess relative market valuation.

In addition to preparing a weekly analysis called the “Meter Reader,” Kurt Wulff also profiles individual energy companies.

The site is free and does not require registration. The information on the site lags a week or two from when he provides it to his paying clients.

ChevronTexaco has a projected average return (PAR) of 10.4% and a quality rating of 64. More importantly, CVX has a McDep ratio of 0.77. This means that CVX is undervalued. A ratio of 1.0 would mean that ChevronTexaco’s market value and debt equaled its its present value. This McDep ratio calculation assumes $37 bbl oil. (This is a conservative assumption since futures contracts over the next six years are currently priced at $51 bbl.) See Wulff’s assessment of ChevronTexaco.