Drip
Portfolio Report
Thursday, February 19, 1998
by Jeff Fischer
([email protected])
ALEXANDRIA, VA (Feb. 19, 1998) -- Shares of our first purchase, Intel Corp. (Nasdaq: INTC), rose above $90 today, a level that the stock hasn't seen since last October (except for last week, in a fleeting moment). The stock was upgraded by BT Alex. Brown to "strong buy" from "market perform," but Intel primarily rose due to strength in Dell Computer (NYSE: DELL). Dell announced earnings above estimates and stated that it expects sales in Europe to climb by at least 47% this year.
Sales growth at a particular company is an individual thing, but strong sales in Europe for Dell helped ease the minds of computer-issue investors who are worried about Asia. As we saw from Intel's last quarter, an increase in European sales helped buffer a decline in Asia for our CPU King, as well.
The jump in Intel's share price gives us a fine opportunity to look at the valuation of the stock. Intel has been the primary factor behind the young Drip Port's 15.9% rise this year, and Intel is also the reason that we're already making money, having covered the $70 in start-up costs incurred. (The historical numbers show the portfolio in negative territory, even though it is worth more than the $1,200 put into it so far. This is because the money invested later is given less weight in our accounting process than the money invested earlier. There's more on this in an article about our Accounting.)
At $90 per share, Intel trades at 22.9 times 1998 earnings estimates of $3.92 per share, and 19.6 times estimates of $4.59 per share for 1999. The company grew earnings per share over 30% last year on a 20% rise in revenue, but I would still hesitate to say that Intel is inexpensive at this price. It appears reasonably priced. Earnings this year are expected to rise just slightly from 1997, and a 17% increase is expected next year. Long term, Intel should continue to grow at about the same rate as the PC market (which is expected to grow 18% to 20% annually -- though low-end PCs might not be factored into this growth rate correctly), and we should expect to see Intel continue to trade at a slight premium to this growth rate. Or, right about where it is now.
Sure, with Windows NT 5.0 and Intel's Merced chip both being released in 1999, Intel could grow earnings much more quickly than the typical PC market growth rate (as it did last year, growing EPS 33%), but this will depend largely on product mix and prices. For one, though, the server and workstation market is expected to grow 35% to 40% annually over the next few years due to Windows NT 5.0.
There are other factors, too. The stock market could continue to be strong, giving leading stocks higher valuations, or Intel could continue to top earnings estimates, as it did last quarter. But over time, the stock is probably going to trade at a slight premium to Intel's (and the PC market's) growth rate. There's no reason for it to trade excessively higher and there's no reason for us to wish for that. Why pay more for the stock each month?
With a market cap of $148 billion at $90 per share, Intel trades at nearly 6 times sales, 7.3 times the book value of $12.19 per share, and 31 times the free cash flow that we found the company created in 1997. This is a far cry less expensive than Microsoft (Nasdaq: MSFT), a stock that trades at over 50 times free cash flow, but the business models are quite different. Microsoft's largest capital expenditure is arguably its employees (including the generous employee stock options that are an ongoing "expense" that shareholders indirectly suffer). Intel spends a great deal more on capital equipment investments, so, in part for this reason, the market grants it a lower valuation.
Over the next twenty years we'll probably see Intel trade, regularly, at around, say, 14 to 15 times trailing earnings after earnings per share growth declines to this rate of, hopefully, sustainable growth -- if it does decline. While in a different market environment the stock could trade much less expensively no matter what the growth rate is (as could all stocks). So, keep in mind that great companies are often granted premiums, but even great companies come to earth if the market isn't attractive to investors. That would be fine with us, for the most part, because we'd be buying more each month and because we've hopefully begun to buy at reasonable prices anyway.
With several analysts upgrading Intel over the past two weeks and with the subsequent rise in share price, we'll probably continue to see a strong but volatile stock. We'll be sending our money to buy more Intel and Johnson & Johnson (NYSE: JNJ) on Saturday. We'll again send $50 to each.
Johnson & Johnson reached a new all-time high yesterday, rising above $70 per share. That stock trades at 25 times 1998 earnings estimates of $2.76 per share, and 22 times 1999 estimates of $3.14 per share. We might soon send $100 per month to Johnson & Johnson (and skip Intel) for a while just to somewhat even up our two holdings. Intel -- because it was the only stock that we owned for several months -- is a disproportionately large part of the portfolio. And, hey, on this simple valuation measure, J & J is attractive at this price if it can match 1999 estimates -- especially compared to other leading healthcare firms.
Have a Foolish evening... and visit the message boards (linked in the top right) if you have questions!
--Jeff Fischer
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