Value Line assigns Financial Strength ratings across a spectrum from A++ (Highest) to C (Lowest). Generally speaking, the largest companies with the strongest balance sheets get the highest scores. Factors considered in making a rating determination include balance sheet strength, corporate performance, market capitalization, stability of returns, and business outlook, among others.
The covering analyst reviews a company’s Financial Strength rating quarterly. If he or she believes a change is needed, the recommended change is brought to the attention of a senior analyst. The covering analyst must then defend the decision based on his or her knowledge of the company and its industry. If the analysts are in agreement, then a change is made.
The Financial Strength rating and a stock’s Price Stability rank are the two main components used to determine Value Line’s proprietary Safety Rank, which measures the total risk of a stock relative to the approximately 1,700 other stocks under Value Line review.
Although a company’s Financial Strength rating is just one factor among many that investors should consider, it is an important one. Moreover, shareholders should take particular note of changes in this rating—both up and down. Value Line subscribers have access to our complete list of Financial Strength upgrades and downgrades each week in the Selection & Opinion section of the product. Noted here, however, is a recent upgrade awarded to Intuit (INTU) and a downgrade to Netflix (NFLX)
Intuit develops, markets, and supports personal finance, small-business accounting, tax preparation, and other consumer software products & services that enable individuals and businesses to automate financial tasks. As of fiscal 2011 (years end July 31st), the Consumer Tax division accounted for 34% of total revenues, followed by Financial Management Solutions (18%), Employee Management Solutions (12%), Accounting Professionals (10%), Financial Services (9%), and Other (17%).
We believe that fiscal 2012 share net will climb this year, partially because the Small Business Group, including Financial Management Solutions and Employee Management Solutions, is benefitting from an expanded customer base, impressive client retention rates, and incremental price increases. Another positive here is ongoing demand for the QuickBooks online product. Elsewhere, the Consumer Tax unit has generated decent results. Indeed, customers are more willing to adopt online tax preparation methods, prompting Intuit to aggressively enter this dynamic marketplace. Given these favorable business trends, we raised the Financial Strength rating one level, to A+.
Last May, the company completed its acquisition of Demandforce, an e-mail marketing firm, for almost $424 million in cash. This purchase, one of the biggest conducted by Intuit over the past several years, is estimated to be neutral to moderately dilutive to earnings per share in both fiscal 2012 and fiscal 2013 (reflecting integration expenses). But synergies might well result in accretion to the bottom line in fiscal 2014 and beyond. Demandforce technology, which enables small businesses to communicate with customers online, fits nicely into Intuit’s expansion plans.
Netflix is the largest online entertainment subscription service in the United States, with more than 100,000 DVD titles for rental. The company has smaller operations in Canada, Latin America, and Europe. At present, there are more than 27 million streaming members and roughly 10 million DVD customer accounts.
Earnings per share stand to decline substantially in 2012, compared to last year’s figure. That’s partially because of management’s willingness to use funds generated from the domestic business to finance expansion in faster-growing international markets. (Norway, Denmark, Sweden, and Finland are targeted for later this year.) This strategy of sacrificing short-term profitability for long-term gains might well prove successful going forward, but there are uncertainties. For one thing, it is difficult to determine, at this juncture, the total costs associated with international expansion. Moreover, the company operates in a highly competitive market, which is subject to rapid technological change. All things considered, it seems that the bottom line may barely stay in the black this year, at a nickel a share, quite a drop from the 2011 tally of $4.16. Consequently, we dropped Netflix’s Financial Strength rating by one notch, to B++, which is in the middle of our scale.
Nevertheless, Netflix remains well positioned in its industry, and the popularity of the online streaming service ought to continue to drive member growth, leading to higher revenues and an earnings recovery over the 2015-2017 time frame. As a result, the stock offers strong, long-term rebound potential at the recent quotation. But risk-tolerant investors need only apply here, given the relatively low Price Stability rating. In fact, during 2011, these shares soared to an historic high of $304.80, but tumbled to a low of $62.40, after management announced a decision to split the streaming and DVD-by-mail services into two separate plans. That move increased prices considerably for customers using both services.
At the time of this article’s writing, the author did not have positions in any of the companies mentioned.