Four Stocks to Beat the Sell-Off

Declan is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

The rally from November lows has pushed many stocks toward rich P/E valuations, although the current spate of selling is doing its bit to bring these down.  However, opportunities remain in stocks well positioned to drive to new highs, even as stocks sell off around them. 

Eli Lilly (NYSE: LLY)

Eli Lilly took off in 2012 but holds a reasonable P/E ratio; its 14.8 compares favorably to an industry average of 18.5.  This despite a fall in revenue for 2012: dropping from $22.6 billion to $22.3 billion, which included a revenue miss in Q3 of 2012.  The drop in revenue was attributed to a patent exclusivity loss for Zyprexa (except in Japan).  This brought a 10% drop in sales volumes in the U.S. and a 3% drop in Europe

There is a concern its threadbare drug pipeline will be unable to compensate for patent exclusivity losses.  However, there were six approvals for drug treatments for Europe, Japan and Canada, which will open new revenue streams for existing drugs.  There are 13 molecules in Phase III trials, which may provide positive outcomes - although it's best to exclude these unknowns for now from the revenue scheme.

The big challenge will be the end of patent exclusivity for Cymbalta in December 2013.  The drug accounts for a quarter of Eli Lilly's revenue.  Despite the risks, the company still expects to meet minimum financial targets through 2014.  

The secret weapon could be its Animal Health Business, which added $2 billion in revenue.  This will become a larger component of earnings as earnings from its traditional drug sector fall (from loss of patent protection). 

Expectations for Q1 are on a par with Q1 of 2011 at $5.7 billion, which is ahead of reported $5.6 billion from Q1 in 2012.  With a negative PEG and forward P/E of 19.7 there are risks, but the potential revenue loss from Cymbalta may be overstated given the relative impact on the Zyprexa patent expiration, at least in the first year.

Beam Inc (NYSE: BEAM)

Beam did catch the early part of the December buying wave, but since mid-December the stock has stuck around $62 without mounting a serious challenge on breaking to new highs (beyond $65). The stock trades with a P/E of 26.2 compared to the industry average of 18.6; the higher P/E valuation is not unusual for a stock sniffing a move to new highs.

The company wisely reversed its decision to water down its whiskey.  Interestingly, while a hot news topic, investors were little moved by the story, and the stock remained tied to its $62 anchor. 

The company has had a good run since been spun off from Fortune, but it's well positioned to reward the faithful again. Comparable sales in 2012 were up 6%, exceeding its earnings target and that of analysts. Its bourbon division remains its core business, and has enjoyed the fastest growth over the past 2 years (which makes the company's initial decision to water Maker's Mark down ever more baffling).  Beam's scotch, cognac and tequila brands perform strongly in emerging markets, which complements its core bourbon market.

Digging deeper, the U.S. is carrying its core market at 3%-4% growth, with the U.K., German and Australian market barely registering any growth. Spain was particularly weak. In contrast, emerging markets enjoyed double digit growth (Russia, Eastern Europe, Brazil and China).  India accounted for 2% of revenues, but a compliance issue resulting in an investigation into its Indian business resulted in a $0.01 charge to its Q4 EPS.  Its Teachers scotch is the number 1 scotch in India, so while there are underlying concerns, the long-term prospects for the business in India remain favorable.

The company expects the same business trends to continue through 2013 (i.e. Emerging markets and U.S. to perform well, slow growth elsewhere).  Beam trades at a comfortable P/E premium, and this premium will fall as core earnings grow. Investors will view this as an opportunity and help take the stock past the $65 ceiling, which has kept it out of the news until the recent furor dropped it in.

CVS Caremark (NYSE: CVS)

CVS Caremark has traveled further along the rally path than the aforementioned stocks, but reached a block just shy of $53. Q4 earnings didn't set the world alight despite a 6% gain in quarterly earnings. 

Generic drugs, the bane of brand pharmaceutical companies such as Eli Lilly, also impact the pharmacies which supply them.  Because of generics cheaper price, revenues for pharmacies fall, but the offset is higher margins, which brings higher net incomes from those sales.  However, CVS Caremark managed to defy this logic by reporting a 11% growth in revenues.  This was in part due to a 9% increase in prescriptions filled, helped by a 4% rise in same-store sales.

The rise in same-store sales has in part, come from CVS's MinuteClinic.  The MinuteClinic provides treatment services for minor health conditions, in addition to performing health screenings and other services.  CVS operates 640 clinics, many of which operate within existing drugstores.  This offers revenue from the consultation in addition to revenues from prescriptions filled in-store. The provision of the Patient Protection and Affordable Care Act will likely increase utilization of this service as more people look to use health services.

The company has made tentative moves internationally, acquiring a privately held drugstore chain of 44 stores in Sao Paolo, Brazil.  The acquisition was of no "material cost" to CVS, and is tiny against the company's 7,352 drugstores in the U.S. But this foray into an emerging market space could lead to a more aggressive move into this space if it proves a success.

Going forward, the company raised guidance for 2013 by a couple of cents to $3.86-$4.00 range.  Operating in a more defensive side of the retail sector should provide some measure of protection during market sell offs. 

O'Reilly Automotive (NASDAQ: ORLY)

O'Reilly delivered big gains from the March 2009 low to a $107 peak in 2012.  The stock subsequently eased from the May 2012 peak as investors took money off the table.  However, Q4 earnings offered a timely boost to gap the stock back toward all-time highs.  

Within the sector, AutoZone (NYSE: AZO) is offered as the more attractive play, but O'Reilly may be better positioned to drive higher.  Buying volume in O'Reilly Automotive increased four-fold on the day earnings were released and the entire earnings-driven price gain held in the days since. 

AutoZone reaction to O'Reilly's earnings was a small bump in buying volume, and no significant move in price.  In fact, AutoZone has remained trapped within itself since the 2012 peak.  O'Reilly Automotive delivered a gross margin beat of over 50%, although its profit margin remained below 10%. Here AutoZone has a slight edge with a profit margin of 10.9%.  In addition, AutoZone's forward P/E of 12.3 is a shade ahead of O'Reilly's, 15.7.  But again, O'Reilly Automotive is pressuring all-time highs, something AutoZone hasn't yet managed. 

O'Reilly beat year-on-year revenue by 8.0%, on a 4.2% increase in comparable store sales.  This netted a 23% increase in adjusted diluted earnings per share, their 16th consecutive quarter of earnings growth.  Warm weather was blamed for lower sales, which dragged from the third quarter.  Recent storms in the Midwest will likely be blamed for lower sales (at the other end of the temperature scale), as the arrival of spring tends to kick start earnings season.  This will likely translate into a weaker Q1, but a stronger Q2.  However, adverse weather also means a greater number of repairs, so there could be an all around net gain.

Going forward, falling unemployment rates mean more people on the roads, which means more business for O'Reilly Automotive. The company is looking for miles-driven to increase over 2013.  Improvements in auto motor reliability means fewer repairs, but the flip side is the net value of required repairs has increased; these elements should offset over 2013. 

The company opened its 4,000th store in January, and has aggressive plans to open 190 net new stores for 2013.  However, optimism for a normalization in the weather may be a little premature. 

Summary

The November-February rally looks to be coming to a close, but this will mean new stocks will start coming to the fore. All four of the aforementioned stocks have enjoyed significant gains during the cyclical bull market kicked off in 2009, but have taken more of a back seat since the November rally. However, now may be their time to reassert their prior leadership, and should be closely monitored for new all-time highs. 


fallond owns shares of Eli Lilly & Co. The Motley Fool recommends Beam. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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