Don Lato, president of Padlock Investment Management
Focus: North American stocks

MARKET OUTLOOK

After a very turbulent summer, many stocks and markets are reaching new highs again this month. Concerns about inverted yield curves, trade disputes and an imminent global recession have abated in part or in whole. Green shoots of improving economic activity in Europe combined with the still strong consumer-led economy in North America have combined to allay many concerns and allowed the underlying strength of the bull market to re-assert itself.

Third quarter earnings were expected to be down year-over-year again, but the magnitude of the decline has been reduced as over 70 per cent of companies reporting so far have surprised to the upside. With a more positive earnings outlook for the fourth quarter, continued progress on the trade front and global economic activity slowly improving, we may be seeing a trough in earnings and continued higher stock prices. Padlock therefore remains constructive in its view that commitments to equities should be maintained.

TOP PICKS

BORGWARNER (BWA:UN)
Last purchased in May at $44.31.

Impacted by slow growth in the auto sector combined with trade concerns, BorgWarner’s stock price has lagged the overall market for the last 18 months. In spite of declining earnings in the sector, the company has fared far better than almost all of its competitors. It’s gained significant market share over the last couple of years, with its growth in the hybrid and electric market buoyed by several new product innovations. It was announced earlier this week that Borg Warner has developed a new dual clutch system that eliminates the need for a second electric motor in traditional electric vehicles. A contract starting in 2022 with a major global original equipment manufacturer was also announced. With a price-to-earnings (P/E) multiple of 9.8 times next year’s earnings, the stock is well priced for both the short and long term.

HAMILTON THORNE (HTL:CV)
Last purchased in June 2018 at $0.90.

Hamilton Thorne is among the 10 largest companies in the very fragmented global in-vitro fertilization (IVF) industry. The two largest companies control approximately 30 per cent of the $1-billion IVF market, with HTL projected to have sales in the $50-million area next year. For a multitude of reasons, the industry is expected to enjoy 5 to 10 per cent organic revenue growth over the next several years. HTL has grown organically and through acquisitions and there are a number of smaller players that could be acquired at very low valuations that would be accretive to HTL’s earnings growth. The company trades a very reasonable enterprise value to earnings before interest, taxes, depreciation and amortization (EBITDA) multiple of 10.8 times 2020 EBITDA compares very well to the industry leader Vitrolife AB at approximately 30 times.

ULTA BEAUTY (ULTA:UW)
Last purchased in September at $230.

Ulta has been a market darling for many years, but fell dramatically following the release of its second quarter results on Aug. 29. Despite having year-over-year earnings growth of over 12 per cent, the company missed analysts’ second-quarter earnings forecast by 1.5 per cent and provided guidance for slower-than-expected growth over the short term. Earnings are still growing through solid same-store sales and new store openings with another 80 new stores expected to be opened this year, but that was not enough to prevent the stock from falling almost 30 per cent on the day after the release. Ulta is still expected to grow earnings much faster than the overall market and at18.2 times next year’s earnings and now trades at just above the market multiple of 17.2 times. Confidence in the stock was enhanced earlier in the month when one of its directors, Charles Heilbronn, increased his position to over 2 million shares by purchasing over 240,000 shares for total consideration of almost $60 million.

PAST PICKS: DEC. 21, 2018

BORGWARNER (BWA:UN)

• Then: $33.77
• Now: $38.90
• Return: 15%
• Total return: 17%

PAREX RESOURCES (PXT:CT)

• Then: $15.10
• Now: $18.39
• Return: 22%
• Total return: 22%

APPLE (AAPL:UW)

• Then: $150.73
• Now: $243.02
• Return: 61%
• Total return: 63%

Total return average: 34%

WEBSITE: padlockinvestment.com