Streetwise

Lauren Rudd

Sunday, September 25, 2011

Oh, To Have a Crystal Ball Again

“Persons pretending to forecast the future shall be considered disorderly under subdivision 3, section 901 of the criminal code and liable to a fine of $250 and/or six months in prison.”

                  Section 889, New York State Code of Criminal Procedure

A year ago I wrote that Wall Street was a terrifying place. Unfortunately, little has changed. Moreover, the same question is continually being asked of all who will listen, “This market is frightening; do you have any advice,” which enables one group to thrive and prosper...the psychics.

Oh, to be a soothsayer of such repute so as to know all the answers. Unfortunately, with the passing of Madame Marie, who is memorialized in the words of Bruce Springsteen’s song, “4th of July, Asbury Park (Sandy)” and who was actually arrested at one time under the above statute, I am completely out of crystal balls.

Nonetheless, there are countless prognosticators willing to offer up unsolicited opinions for a “small” cash payment on your part. They run the gamut from the biased and mundane to such nonsensical advice as, “sell everything and buy gold.” The result is a deafening din of ridiculous discourse.

Unfortunately, all the rhetoric in the world is not going to help your portfolio. What you need is a modicum of cool rationality, combined with a measure of forward thinking. Yet, if you are like many investors you feel that over the past several years Wall Street has shredded your life, your livelihood and burdened future generations with a crushing debt. Actually, it probably has but that requires a considerably longer dialogue than I have space for here.

Not to downplay the gravity of the current situation, but the ongoing economic recovery is analogous to that of a locomotive. Its initial motion is nearly indiscernible. But then it begins to slowly pick up speed, its wheels sometimes aided by sand to prevent slippage (analogous to stimulus programs). And in short order it gains traction and finally reaches undaunted speed despite pulling a mammoth load, in this case the national debt.

Meanwhile, you still have to deal with the current investment environment. You might begin by ignoring the perturbations on Wall Street while acknowledging that quality investment opportunities remain plentiful. One example is Varian Medical Systems (VAR), a company that manufacturers cancer therapy systems.

When I last talked about the company a year ago, my earnings estimate for the 2010 fiscal year ended September 30 was $2.93 per share with a 12-month price target on the shares of $69, as compared to a price back then of $59. The earnings number worked out fine with the Varian reporting $2.96 per share for the year. And the share price was rising steadily until last July at which time the shares were trading at about $69. Then Wall Street sort of fell apart and the shares recently closed at $50.96.

So how did Varian’s fundamentals perform? For the third quarter ending June 30, revenues increased 12 percent to $649 million. Net earnings for the quarter were $0.83 per share, up 12 percent from a year-ago. Total backlog increased by 10 percent to $2.3 billion and the company ended the quarter with $568 million in cash, debt of $18 million and shareholder equity of $1.5 billion.

Operating expenses were about even with the year-ago period at 21 percent of revenue. Third quarter operating earnings were up 7 percent to $140 million, or 22 percent of revenue. On a year-to-date basis, operating earnings were up 11 percent to 23 percent of revenue. Corporate guidance for the year is 10 percent revenue growth and earnings per share of between $3.42 and $3.45.

The intrinsic value of the shares, using a discounted earnings model with an earnings growth rate of 14.33 percent applied to earnings of $ 360.4 million and a discount rate of 15 percent yields an intrinsic value of $81 per share. The more conservative free cash flow to the firm model yields an intrinsic value of $111 per share. As previously mentioned, the shares recently closed at $50.96.