Engines of Growth

In this edition of the Smart Investor newsletter, we examine a leading Aerospace and Defense industrial company.  But first, let us delve into the latest Portfolio news and updates.


Portfolio Stock Updates

Evercore ISI analysts said that Amphenol Corporation (APH) could be the next big winner in the AI race, as Nvidia’s (NVDA) newly introduced rack-scale systems rely on a sizable amount of the company’s inputs. According to Evercore, “APH is well-positioned to benefit from the large investment in AI solutions by providing highly complex and efficient connectors for AI servers and networking.”

❖ Taiwan Semiconductor (TSM), the world’s top chip foundry, secured $6.6 billion in grants and $5 billion in loans from the U.S. Department of Commerce under the CHIPS and Science Act. The funds are intended to support TSM’s plan to build a third production facility at its Phoenix, Arizona site, further boosting chip manufacturing operations in the U.S. The company’s first Phoenix fab is on track to begin production in the first half of 2025, and a second is under construction.

❖ GE Aerospace (GE) stock soared after it completed its split from GE Vernova (GEV), with several analysts initiating coverage with a “Buy” rating.

❖ General Dynamics (GD) won another U.S. government contract, this time for a systems modification to the Abrams battle tank. The three-year contract is valued at $12.4 million.

❖ Dell Technologies (DELL), which we added to the Portfolio two weeks ago, has surged since then, capitalizing on accelerating demand for its AI servers, as well as on several new growth-supporting initiatives and collaborations. In addition, the stock has been propelled by reports of a strong rebound in the global PC market in Q1, which follow a two-year slump.

❖ Super Micro Computer (SMCI) announced a further expansion of its product portfolio, launching IoT and embedded systems that boost performance and increase power efficiency for AI applications at the remote edge. This fast rollout of various AI-related solutions cements SMCI’s central role in the AI revolution. While the company’s stock has seen a 24% decline from its peak in March, it is a natural pullback after a 740% surge in the past 12 months. Smart Portfolio investors have seen a 255% gain on the stock since we purchased it in November.


Portfolio Earnings and Dividend Calendar

❖ The Q1 2024 earnings season has begun, but Smart Investor Portfolio companies are not scheduled to report in the coming week.

❖ The ex-dividend date for General Dynamics (GD) and TD SYNNEX (SNX) is April 11th, while for GE Aerospace (GE) it is April 12th, and for EMCOR Group (EME) it is April 15th.



New Buy: Howmet Aerospace (HWM)

Howmet Aerospace Inc. provides advanced engineered solutions for the aerospace and transportation industries in the U.S. and internationally. The company operates through 57 facilities located in 23 countries around the world, though roughly half of its sales come from the U.S. 

Headquartered in Pittsburgh, Pennsylvania, the company traces its roots to 1888 with the founding of Arconic, which for many years was a manufactured products subsidiary of the aluminum giant Alcoa. Arconic spun off from Alcoa in 2016 and split up into two companies – Arconic and Howmet Aerospace – in 2020. Arconic retained the aluminum sheet, plate, and extruded products businesses, while Howmet became a pure-play engineered solutions company in the fields of aerospace and transportation.

Today, HWM is a Fortune 500 company with a market cap of over $27 billion and annual revenues of $6.6 billion.


Engineering Revenue Growth

The company’s operating segments are Engine Products, Fastening Systems, Engineered Structures, and Forged Wheels. The Engine Products segment, responsible for 49% of total revenue, is a world-class producer of aero engine and industrial gas turbine components. The Fastening Systems segment, which provides 20% of company revenue, holds the number one global position in aerospace fastening systems, and a leading position in commercial transportation fasteners in North America. The Forged Wheels segment, responsible for 18% of revenue, is the number one global producer of forged, aluminum heavy-duty truck wheels. The Engineered Structures segment, which provides 13% of revenue, is a global leader in highly engineered, multi-material structures for aircraft, as well as a top producer of titanium aero ingots and mill products.

The company derives 50% of its revenue from its Commercial Aerospace business, 15% from Aerospace-Defense products, 21% from its Commercial Transportation division, and the rest from its Industrial and Other solutions. The Aerospace business is the company’s fastest-growing product line, having registered 2023 revenue growth of 20%. The second-fastest revenue growth driver is its Industrial division, while Commercial Transportation has seen steady, but relatively slow growth in single digits. Sliced by business segment, Howmet’s revenue growth is led by Engine Products and Fastening Systems, its largest business segments.


Surging Earnings, Lower Debt

In February, Howmet Aerospace released its Q4 and full-year financial results, receiving praise from Wall Street analysts. The company exceeded revenue and earnings-per-share expectations for both periods yet again. In fact, HWM’s quarterly EPS results trounced analysts’ projections in all quarters since the split-up from Arconic, with the single exception of Q3 2020.

In 2023, the company saw a 17% growth in total revenue, primarily driven by growth in the commercial aerospace market of 24%. Adjusted operating income increased by 22%, with operating margin expanding to 18.6% and the EBITDA margin widening to 22.7%. Howmet’s 2023 Adjusted EPS surged by 31% from the previous year. The company reported a record FCF of $682 million and an ending cash balance of $610 million.

HWM features very high capital efficiency ratios, placing it in the top 20% of its industry. In addition, its operating, net profit, and FCF margins are significantly higher than average for the U.S. Aerospace & Defense industry.

Robust profitability and strong cash generation allow Howmet to pursue business expansion, compensate its shareholders, and improve its debt position. During the last year, HWM allocated $475 million towards debt reduction and refinanced $400 million in debt, resulting in improved net debt-to-LTM EBITDA ratios and lower interest payments. These developments led S&P Ratings to upgrade the company’s debt to investment grade level.


Robust Guidance, Optimistic Business Outlook

As a result of a blockbuster year and building on contracts and demand data, Howmet’s management has issued updated guidance for 2024, which analysts perceived as conservative, given past results. The company pencils in revenue growth of ~7%, FCF growth of ~8%, and adjusted EPS growth of ~17%.

Howmet also projects higher capital expenditures this year, rising by over 25% from 2023, as the company plans additional investments in capacity expansions, as well as various cost-saving and efficiency-improving projects and technologies. In 2024, total Capex is expected to include significant Engine Products and Forged Wheels capacity expansions.

Despite the strong competition, Howmet holds leading positions in most of its markets, with its market-share growth supported by technological expertise, underscored by over 1,500 patents it holds, as well as the high quality of its products and high production capacity. Thus, higher Capex is expected to add to its already strong revenues, increasing competitiveness in the market. At the same time, its market-leading position increases HWM’s pricing power, which is evident from its wide margins. In addition, long-term contracts with customers increase the visibility and stability of the company’s revenue streams.

The company forecasts strong revenue growth will continue this year, led by its commercial aerospace business. HWM also expects healthy growth in 2024 in its defense aerospace and industrial end markets. Its commercial transportation revenues are projected to be softer than other segments, but the management foresees a rebound next year.


Balanced Capital Allocation

Besides business expansion and balance sheet strengthening, Howmet is committed to increasing shareholder value through dividends and buybacks. The company has been paying dividends since its formation in 2020, increasing the payouts since 2022. The latest increase was in November 2023, when the payout was hiked by 25%, illustrating the company’s confidence in future cash generation . Although HWM’s dividend yield is still low at 0.27%, its exceptional cash generation and profitability metrics hint at an outlook of strong growth on the horizon.

In addition, Howmet has been compensating its shareholders through share repurchases. The company has a buyback program in place, of which about $697 million is still available. In 2023, HWM repurchased $250 million of common stock, retiring approximately 5.2 million shares.


Top Stock in its Industry

At the end of 2023, Morgan Stanley rated Howmet as its top pick in the Aerospace & Defense bracket. The firm’s analysts were on to something, as HWM surged 23% year-to-date, vastly outperforming iShares U.S. Aerospace & Defense ETF (ITA), as well as all other industry ETFs.

Over the past two months, several Wall Street analysts upgraded their price targets on HWM stock, rating it “Strong Buy” based on its prudent financial management, capacity enhancement, and strong market position, coupled with the solid outlook for continued demand for aerospace components as well as the company’s ability to navigate through industry-wide challenges.

HWM’s stock reached its all-time high on March 7, though since then it has given up some of its gains due to profit-taking. The decline of ~5% from the top offers a more comfortable entry opportunity, although the stock’s valuation is still somewhat high compared to the Industrial sector’s average. However, Howmet’s valuation comes at mid-range for its comparable peers from the U.S. Aerospace & Defense industry. Moreover, based on projected cash flows, HWM trades ~40% below its fair value, which suggests that there is a lot of value to be gained from the stock.



Howmet Aerospace is a rare find in the industrial space: a high-growth company with the profitability and capital efficiency metrics of an established corporation, combining high rates of business expansion with attractive and growing shareholder compensation. Its robust past performance and strong growth potential support a bullish case for the stock. As such, we believe it can be a valuable addition to the Smart Investor portfolio.



New Sell: Ulta Beauty (ULTA)

Ulta Beauty, Inc. is the largest specialized beauty retailer in the U.S. The company operates a popular beauty store chain, offering a mix of premium and mass-market brands through both physical stores and an online presence. Ulta Beauty serves almost a quarter of all adult women in the U.S., commanding 39% of the specialty beauty retail market.

Ulta is a well-managed, fundamentally strong company with zero debt and industry-beating capital efficiency metrics. It has surpassed analysts’ revenue and EPS estimates in all quarters in the past several years. This was also the case with the latest quarterly report, published on March 13, as the company clocked in three years of unprecedented growth in the beauty category.

However, that report also reflected underwhelming comparable sales in the quarter, followed by lackluster guidance, spooking investors. If that wasn’t enough, the company’s CEO added flames to the fire on April 3. Speaking at the JP Morgan Retail Round-Up Conference, Dave Kimbell said that the company sees increased pressures on consumers, including credit card debt, student loan debt, among others. The company management’s comments about “a slowdown in the total category across price points and segments” harmed the stock’s performance.

In addition, Ulta seems to have encountered stiff competition as of late, with its main rival Sephora’s aggressive expansion across the country and increased brand partnership. Ulta’s management acknowledged it lost some market share in the prestige makeup category and saw increased challenges in other categories. Analysts also questioned its plans for an expansion into Mexico, saying that it is unlikely to drive earnings growth, especially given that Sephora already has a significant presence in the country.

When we bought Ulta Beauty for Smart Portfolio back in November, the stock was trading at a large discount to its sector and industry. The run-up in the stock that followed pushed it to a premium price compared to the sector. Priced for perfection – as was the case in the past three years – Ulta suffered a strong pullback triggered by weak guidance.

Ulta remains a very well-run and profitable business, and we believe that the company will eventually overcome these difficulties. We are planning to reassess it for Portfolio reentrance when the dust settles. However, the updated guidance and the competitive landscape don’t bode well for its stock performance over the next several quarters, and therefore we believe it is appropriate to sell the stock and lock in the gains.



Portfolio Stocks Under Review

Regeneron (REGN): We take the company off the list, as the delay in its new cancer treatment approval is overshadowed by positive developments in other treatment areas. Besides, according to analysts, the FDA’s refusal to grant accelerated approval is just a slight bump on the road to the company’s plans to become a leader in oncology treatments. Thus, Regeneron’s other oncology treatment, linvoseltamab, has shown encouraging Phase 1/2 trial results. Meanwhile, its existing revenue drivers, eye medicine Eylea and eczema treatment Dupixent, continue to dominate their markets.

Molina Healthcare (MOH): The stock is placed under review with medium urgency. Molina has been downgraded to “Sell” by BofA Securities analysts, who stated that Medicaid insurers are likely to witness margin pressure on “large portions of their membership,” impacting 2025 margins. In addition, analysts are concerned that if reelected, President Trump would place restrictions on Medicaid. In addition to the company-specific news, all Medicare Advantage providers have been under pressure in the past several days after the Biden Administration announced that final Medicare Advantage rates will remain unchanged in 2025. While Medicare is responsible for less than 20% of Molina’s revenue, the lower-than-expected rates are an additional hit to investor sentiment. The downgrade and the rate news led investors to take profits after MOH’s surge of 40% over the past twelve months.



Smart Investor’s Winners Club

*The 30% Winners Club includes stocks from the Smart Investor Portfolio that have risen at least 30% since their purchase dates.

The market continued to wobble during the past week, negatively affecting the Portfolio companies’ performance. However, our exclusive club’s ranks still include 14 stocks, as Amphenol (APH) rose through the threshold, replacing ULTA.

The Winners Club now includes SMCI, GE, AVGO, ANET, EME, CDW, TSM, AMAT, ORCL, STLA, GD, PH, ITT, and APH.

The next in line to enter the Winners’ ranks is now Check Point (CHKP) with a 28.6% gain since purchase. Will it close the gap, or will someone else outrun it to the finish line?



Smart Investor Portfolio

 Portfolio Return YTD
Portfolio Volatility (Beta) Portfolio Dividend Yield
17.26% 0.98 0.76%


New Portfolio Additions

Ticker Date Added Current Price
HWM Apr 10, 24 $65.85

New Portfolio Deletions

Ticker Date Added Current Price % Change
ULTA Nov 15, 23 $454.80 +12.26%

Current Portfolio Holdings

Ticker Date Added Current Price % Change
SMCI Nov 8, 23 $904.20 +254.03%
GE Jul 27, 22 $154.49 +176.47%
AVGO Mar 22, 23 $1334.08 +111.45%
ANET Jun 21, 23 $294.75 +94.54%
EME Nov 1, 23 $351.90 +70.52%
CDW Jun 29, 22 $254.25 +60.84%
AMAT May 31, 23 $210.41 +57.85%
TSM Aug 23, 23 $145.40 +55.03%
ORCL Dec 21, 22 $123.23 +51.20%
STLA Sep 6, 23 $27.25 +50.06%
GD Dec 22, 21 $288.84 +41.76%
PH Oct 11, 23 $561.35 +41.11%
ITT Oct 18, 23 $132.05 +38.26%
CI Jul 12, 23 $357.48 +33.05%
APH Aug 9, 23 $114.98 +30.01%
CHKP Jul 19, 23 $163.75 +28.61%
MOH May 3, 23 $379.97 +26.86%
TXT Nov 29, 23 $96.31 +25.22%
JBL Jul 5, 23 $136.53 +25.04%
CXT Oct 25, 23 $62.09 +19.96%
AIT Dec 6, 23 $195.75 +18.82%
VRTX Aug 2, 23 $404.48 +16.32%
MCK Dec 13, 23 $527.28 +14.10%
ACN Aug 16, 23 $334.45 +8.71%
DELL Mar 27, 24 $123.73 +7.92%
FLT Jan 17, 24 $303.26 +6.79%
FLEX Feb 21, 24 $28.83 +3.97%
ELV Mar 6, 24 $514.40 +3.22%
WRB Jan 31, 24 $83.74 +2.58%
REGN Feb 7, 24 $943.89 +0.65%
SNX Apr 3, 24 $116.31 -0.10%
COR Mar 20, 24 $238.57 -1.56%
AIZ Feb 28, 24 $178.80 -1.62%
J Mar 13, 24 $146.72 -1.65%



What’s Next?

Our next commentary will come out on Wednesday, April 17th, before the market opens.

Until then – we wish you a world of investment success!

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