With the U.S. unemployment rate plunging to its lowest level in six years, and corporate earnings reports failing to surprise to the downside in big numbers, the broader market has had more than enough rocket fuel to continue its ascent toward a fresh all-time high. For skeptics like me, that's an opportunity to see whether companies have earned their current valuations.
Keep in mind that some companies deserve their valuations. Take wireless cell tower operator American Tower (NYSE:AMT) as a perfect example. American Tower is benefiting from a surge in smartphone demand, which is pushing the four largest service providers in the U.S. to the brink when it comes to transitioning from 3G services to 4G and 4G LTE capability. In lieu of needing more tower space, American Tower's revenue jumped 22.6% to $984.1 million in its first quarter while cash from its operating activities rose nearly 21% to $476.6 million. Best of all, as a REIT shareholders are entitled to receive at least 90% of American Tower's profits in the form of a dividend, while American Tower gets favorable tax breaks in return. High-growth REIT opportunities with a 1.5% yield don't come along often, so I'd suggest investors latch onto this one.
Still, other companies might deserve a kick in the pants. Here's a look at three that could be worth selling.
Package this one up for the pessimists
Remember not all companies that are worth selling are inherently bad. Sometimes it's just as simple as the valuation no longer being attractive. Such is the case with packaging solutions provider MeadWestvaco (NYSE:MWV), which I believe is delivering disappointing growth prospects based on its current valuation.
First, let's have a look at what MeadWestvaco is doing right. In its first-quarter results reported last week, it delivered a 15% increase in food and beverage EBITDA as well as a 45% jump in home, health, and beauty EBITDA. Earnings also soared on an adjusted basis to $0.23 per share from just $0.09 in the year-ago period. Capital spending declined nicely as well to $66 million from $115 million in Q1 2013 and was related to lower overall investments in its Covington biomass boiler, which was completed during the fourth quarter.
But there are other areas in this report that concern me. For one, MWV's top line grew by less than 1% to $1.32 billion. Furthermore, despite some modest volume improvement in its smaller home, health, and beauty segment, higher prices for its products compounded with lower costs really did the bulk of the work in boosting profits. Let's not forget that its bottom line was additionally aided by the $300 million accelerated share repurchase program entered into during the quarter. In other words, if you back everything out and focus solely on is MWV organic possibilities, you'll discover a company with very low-single-digit growth at best.
Does this make MWV a bad company? Not at all. But, does the company deserve a forward P/E of 18 even after repurchasing what amounts to close to 5% of its float when its growth potential is constrained by the health of the economy and weak foreign currency translation? That I'm not so sure of and would suggest investors stick to the sidelines until MWV finds a way to boost volume growth organically rather than relying on share repurchases and cost-cutting to do all the work.
Step away from merged airline!
Investing in the airline sector comes with a laundry list of worries and just a few short reasons to buy, yet investors continue to tempt fate with this sector on a daily basis.
The allure of the recently merged American Airlines Group (NASDAQ:AAL), the result of a combination of US Airways and American Airlines, is that its size will allow it to compete with major airlines better, and that it'll potentially have better pricing power with consumers and negotiating power when it comes to ordering new planes. Not to mention, reducing overlapping businesses could save the two quite a bit of money.
Then again, the airline sector requires mounds of capital investment just to produce razor-thin profits, so it's generally not a business buy-and-hold investors are going to be attracted to. American Airlines Group, for example, is lugging around $17.3 billion in debt, or a laughable debt-to-equity of 1,578% -- and that's after American Airlines restructured mind you! This debt can potentially make it difficult for the company to make any strategic moves in the future since it'll be so tied up in paying down its debt.
I think we also need to approach this from the angle of loyalty. While airlines across the board are relishing strong profitability, US Airways and American Airlines historically are among the least liked of the group. If not for United consistently taking the bottom spot in customer loyalty rankings, American Airlines Group would find itself dead last. According to The Wall Street Journal, in 2013 American Airlines Group ranked dead last in two-hour tarmac delays and occupied two of the bottom three spots with regard to flight cancellations. To me, this means when the industry does begin to roll over -- and we know from history that it will at some point -- American Airlines Group will likely be one of the first airlines to feel the pinch.
Loyalty rankings don't lie -- the American public isn't a fan of either US Airways or American Airlines. That's your cue as an investor to avoid this company and put your money to work elsewhere!
Flying high on rumors
Lastly, I'd suggest now could be the perfect time to consider parting ways with big pharma giant AstraZeneca (NYSE:AZN) following an increased and rebuffed offer from Pfizer (NYSE:PFE) of $106 billion.
As I initially discussed when the rumors of this deal were first made public, the combination of Pfizer and AstraZeneca does make strategic sense. The combined entity could save billions in expenses annually, although we'd likely be looking at years before it would fully realize these benefits. More importantly, AstraZeneca lacks a strong oncology pipeline while Pfizer's cardiovascular segment has weakened due to patent expirations. AstraZeneca, on the other hand, has an impressive diabetes and cardiovascular pipeline while Pfizer's oncology segment, both with existing products and inclusive of its developing pipeline, looks promising.
However, there comes a point where the risk-versus-reward scenario begins to sway back toward "risk," and I believe we're seeing that now. It's quite possible a third, even higher bid could come in from Pfizer, but it's also possible that AstraZeneca could stubbornly choose not to sell and stick to its current game plan. If you recall, AstraZeneca's game plan consists of maintaining its dividend and focusing on its pipeline while select drugs begin to fall off patent. This strategy is expected to yield a small decline in its top line in each of the next two years.
What's AstraZeneca's true value? Without a buyout, it's tough to say, but I'd venture a guess to say lower than where it's at now. I just don't see logically how investors can support a forward P/E near 19 with negative top-line growth when they could purchase a biopharma giant like Gilead Sciences, which is growing like wildfire and has a low double-digit forward P/E.
With what I suspect is minimal upside if a third bid comes in compared to substantial downside if no other bidders emerge, I would suggest investors take their profits and head for the exit.
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Sean Williams has no material interest in any companies mentioned in this article. You can follow him on CAPS under the screen name TMFUltraLong, track every pick he makes under the screen name TrackUltraLong, and check him out on Twitter, where he goes by the handle @TMFUltraLong.
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