The Long and The Short of It

By Michael Hlinka                                          

         When you buy a share in a company, you’re purchasing a portion of its current and future profits. Because of this indisputable fact, I tend to believe the “A bird in the hand is worth two in the bush” perspective… What does this mean in simple English?

         It means: give me the company that’s generating ample free cash flow… right now… rather than the company that might deliver in the future.

         I’ll start with this month’s long selection: Verizon Communications Inc. (NYSE:VZ), which closed the month at USD $35.63.

         VZ is a very focussed company. It provides “communications, technology, information and entertainment products and services to consumers, businesses and government entities.” Its business is simple and understandable, and even more interesting is that VZ is currently at a multi-year low. Five years ago, its price was $50. Ten years ago, VZ was a $48 stock. Over this time, the company has been raising its dividend… so…. Then what explains the share performance?

         There’s a simple answer. (Isn’t there usually?) Sales have virtually flat-lined over the past decade, growing at less than 2% annually. The dividend has grown at a slightly higher rate: 2.5%, and this may be why so many investors and portfolio managers have “given up” on the company… and I would agree that you shouldn’t buy VZ at $50.

         At $35.63, the company is however much more attractive. Based on its current dividend, VZ is yielding 7.5% and the dividend is very, very safe. Over the past three years, cash from operations (CFO) has averaged USD$40 billion while capital expenditures have been USD$20 billion. Dividends paid out over that time have averaged a total of USD$10 billion. That’s pretty good coverage!

         This month’s “two in the bush company” is Amazon.com, Inc. (NASDAQ: AMZN), which closed the month at USD $120.58. I know, I know…  Are you actually suggesting that you short-sell AMZN? No, I’m not recommending an outright short sale, but I think that AMZN could be dead money for an extended period of time.

         Many investors don’t understand the business that really drives Amazon.  We generally think of it as an online retailer, and this is correct, but only to a point. It’s in fact the Cloud Computing segment that makes AMZN the powerhouse that it is. This segment is already slightly bigger than the retail segment, and its annualized growth rate over the past two years has been approximately 25%. Over in the “other” segment, product sales have grown by only 5%.

         But here’s what makes me nervous… really nervous… about AMZN right now: Labour relations. I think there’s a very good chance that many of its warehouses will unionize, and if there’s even the threat of a strike, it would collapse the share price. It appears that many of its white-collar workers are equally dissatisfied. On the day I’m writing this column, Amazon employees world-wide are walking off the job to protest recent layoffs, a return-to-work order, and the company’s environmental record.

         Amazon is an already expensive company with a culture that, at least from the outside, seems toxic… include me out for committing capital to it.

Bottom line(s):

• 2-year price target for VZ:                      USD $47.50 (currently USD $35.63)
• 2-year price target for AMZN:               USD $120.00 (currently USD $120.65)

All articles published by PAIP Canada Inc. are for informative purposes only and does not constitute advice. We recommending consulting by a subject matter expert before making any financial decision(s).