In fits and starts, the U.S. economy appears to be gaining steam.
Recent economic reports have been giving mixed signals -- the consumer is feeling better while manufacturers retrench a bit -- but on balance, the recent trends hint at GDP growth in excess of 2.5% in the second half of this year and perhaps near 3% by next year. The challenge for investors is to find companies that are poised to grow in tandem with the economy.
I screened every company in the S&P 400, 500 and 600, looking for companies that have recently seen their 2013 earnings per share (EPS) outlooks boosted and are now expected to boost EPS by at least 20% in 2014 and again in 2015. Two industries are heavily represented in this group: energy and housing.
Housing Industry Profits Are Set To Rise
Anticipated strong profit growth may already be reflected in a lot of these stocks. The PHLX Housing Sector Index has risen from 80 in October 2011 to a recent 209. And some question whether the housing market is truly poised for better days ahead, expressing concern that an eventual rise in mortgage rates or an unleashed supply of homes coming out of foreclosure will dampen recent gains in housing prices.
You'll also find a brightening profit picture in the oil and gas industry, thanks in part to firming natural-gas prices. Higher prices have boosted the cash-flow prospects of energy producers and strengthened demand for equipment providers alike.
Yet another two dozen companies outside of energy and housing are poised for solid profit gains. In a bid to pair growth with value, I narrowed this group to any stocks trading for less than 15 times projected 2015 profits. In effect, these companies have a PEG (the P/E ratio divided by the earnings growth rate) ratio well below 1.
These companies are generating profit growth through either organic top-line growth or impressive cost controls.
For example, take biotech firm Celgene (CELG). At the end of 2012, Celgene met with analysts and explained how its current pipeline of drug candidates should help the company generate nearly $10 a share in EPS by 2016. Analysts went home, crunched the numbers and quickly started gushing about the stock, resulting in a 58% gain in the stock thus far this year.
Defense contractor Huntington Ingalls (HII) is taking the opposite tack: Sales are barely budging as plans to build new ships get pushed out, but a focus on expenses has led management to predict that operating margins will rise from 5.3% in 2012 to 9% by 2015.
Running through the stocks on the table above, a few other names stand out as being both timely and a good value.
1. Calgon Carbon (CCC)
This company provides equipment used to scrub power plants of key airborne pollutants or disinfect both drinking water and wastewater. A tightening regulatory environment is providing a lift to both segments. Demand for air-scrubbing carbon spiked nicely higher as power plants were retrofitted to cut emissions of mercury, sulfur dioxide and other airborne pollutants.
And the company's UV-based water-filtration systems is now starting to see firming demand as well, especially in the maritime industry. The EPA now requires all ships that navigate U.S. waters to implement ballast-water treatment systems
To be sure, neither segment will ever be a fast grower. But moderate growth, coupled with steady margin gains, is helping to deliver fairly robust bottom-line growth. Per-share profits are expected to rise at a solid clip in 2013 and 2014 and then really take off in 2015 as those regulations start to tighten further. In support of the brightening outlook, a pair of company directors recently acquired a collective $250,000 in company stock at an average price of $17.30.
2. Pentair (PNR)
This company has a slightly similar focus, making water-quality processing equipment, along with other flow-control gear. Like Calgon Carbon, organic growth is unimpressive, but a recent merger with the flow division of Tyco International (TYC) is helping to sharply boost margins. Pentair is applying its lean manufacturing techniques to many of the Tyco factories, which is setting the stage for solid bottom-line growth.
After digesting a recent quarterly earnings report, analysts at Citigroup noted, "Although it is only its second quarter as a merged company, management is already ahead of schedule on cost synergies and raised its 2013 cost synergy target from $90 million to $100 million, adding confidently that it has already identified all of the savings targets." Shares have begun to strengthen but still trade for just 12 times projected 2015 profits.
Risks to Consider: The projected profit gains for these companies are largely predicated on a firming U.S. economy, and as a result, would likely be subject to downward earnings revisions if the economy began to cool.
Action to Take --> As noted with the Celgene example, investors crave growth and predictability. Companies with erratic profit growth will always be penalized, but these steady profit growers looked poised to move higher if the U.S. economy continues to strengthen.
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