French Slam
Eric is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
It's not good to get on the bad side of the credit rating agencies. Following the downgrading of its sovereign debt by Standard & Poor's this past week, France is set to go through the usual grim cycle of budget cuts and the increased expense of taking on more debt. Like the eight other European countries receiving ratings cuts, French stocks by association will probably have to take a hit too. Many of the nation's companies are very domestically oriented in their business, so don't be surprised if they stay down for a while after being whacked.
The more internationally exposed French firms traded as American Depositary Receipts (ADRs) might escape some of that fallout. But does this necessarily make them good investment material? It depends. Let's take a look at some of the bigger names:
Drugmaker Sanofi-Aventis (NYSE: SNY) operates in a high-competition, capital-intensive industry dependent on The Next Big Discovery. The company is spread over numerous product categories and it's active in the some of the busiest markets in the world, including the US. Because of this global reach, the S&P downgrade probably won't affect it that much. More of a concern is the company's notable reduction in R&D expenses in recent times (these dropped by over $500 million, to $5.9 billion, in the two-year period from December 2008). On the bright side, SNY has posted healthy net margins of around 17% in the last two fiscal years, and analysts expect its EPS to grow by 76% over the next two. In spite of the R&D cuts, the company's business seems relatively steady, if unspectacular, and is not a bad play for investors who think it can discover winning medications with that diminished research effort.
Oil and gas major Total (NYSE: TOT) has jumped on the fracking bandwagon of late. For those familiar with the term only as a swear word on the TV series Battlestar Galactica, fracking in the O&G world is the extraction of oil from underground shale deposits using a high-pressure injection of chemicals and water. The industry is banking on this as the profit-moving future of their business, but it's still fraught with environmental concerns... and in these early days it hasn't yet produced a windfall of black gold for recent arrivals like Total. Nevertheless, the company just invested $2.3 billion for a stake in an Ohio deposit, and although TOT has plenty of the green stuff on hand, that outlay will put a hole in cashflow. Total stock, then, is probably a wait and see until the future of fracking becomes more apparent.
France Telecom (NYSE: FTE) is an old-line, recovering phone monopoly that still looms over its home country. It's made big strides in expanding its business around the world, carving out market share with its mobile offerings in high-competition battlegrounds like Britain. As a result, it currently offers a tempting dividend exceeding 9%. Compared to higher-flying rivals like Vodafone, however, it's still not quite as successful internationally and the growth of its net profit and that sweet dividend over the next few years is expected, by its own admission, to be anemic. Unfortunately, the same can't be said of its heavy debt load. There are many telecom plays of various shapes and sizes that have more potential for growth, so outside of that dividend there seems little need to bother with a lumbering ex-monopoly like FTE.
Utility provider Veolia Environnement (NYSE: VE) is an interesting beast. It's a venerable old company that has managed to fly the French coop and do brisk business in numerous challenging markets abroad, including the good old US of A. Its financial management is questionable (it's currently being vigorously sued for recent accounting missteps) and it had a bad 2011, but the company has its fingers in many pies including water and sewage, heating/cooling systems, transportation and trash removal. These are certainly not sexy activities, but they do pull in bucks, which the company is happy to share generously -- it has one of the highest dividend yields going, at nearly 14%. That's likely not sustainable given Veolia's debt position (more than 3x cash at the end of the last fiscal year), but the firm is a habitual dividend payer that always seems to find a way to return money to its shareholders. This, combined with its reliable if unglamorous business lines, makes it worth considering for income investors willing to ride out the company's bumps.
France isn't the flavor of the month just now, and like its downgraded brothers it probably won't be for some time. Contrarians and value players thrive on such situations, however, and for those folks the Gallic companies that have promising fundamentals are certainly deserving of a second look. Vive le France!
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