I really have an active dislike for the term “blue-chip stock.”
Plain and simple: the term is outdated. A lot of large-cap familiar names are still called “blue-chip stock” when they are nothing of the kind. If you can’t rid the term “blue-chip stock” from your lexicon, then it should at least apply to a whole new stream of companies.
“Blue-chip stock” used to refer to companies that were constantly growing earnings in the high single-digits or more in terms of percentage, had a fortress balance sheet and were constantly innovating. The seven stocks I’m about to talk about have either none of these traits or, at best, have a really solid balance sheet.
Blue-Chip Stocks That Aren’t Really Blue Chips: IBM
Let’s start with International Business Machines Corp. (NYSE:IBM), a former blue-chip stock, which the world has left so far behind that even Warren Buffett sold out of his position.
IBM may be trying to expand its presence in cloud and security services, but its legacy businesses are toast. IBM seems more infatuated with spending money to repurchase its own overpriced stock.
EBIT has declined from $16.4 billion in 2015 to $12 billion last year. Free cash flow is terrific but the $132 billion valuation IBM is ridiculous for a moribund company.
Blue-Chip Stocks That Aren’t Really Blue Chips: General Mills
Let’s talk about cereal. Well, General Mills, Inc. (NYSE:GIS) isn’t just about cereal. It’s about all kinds of other consumer food brands, but these are food brands that consumers are running away from in droves.
The big push toward healthy eating has devastated the earnings power of companies like General Mills. I see nothing in the way of innovation or market pivot to make me think that things are going to change.
GIS stock as $1.75 billion in trailing 12 month net income, meaning the stock trades at almost 15 times earnings. The only problem is the average annual earnings growth analyst project over the next five years is a mere 6%.
Blue-Chip Stocks That Aren’t Really Blue Chips: Kellogg
Kellogg Company (NYSE:K) is not much better off. The doubling in net income to $1.27 billion last year from 2015 comes as a result of reduced cost of revenue and reduced SG&A expense, because revenues decline from $13.5 billion to $12.9 billion.
I think of Kellogg as an obsolete business, selling the same kind of unhealthy snack foods, cereal bars, crackers, cereals and frozen waffles, and yummy cookies it has for ages.
The problem is that the world has moved on. I don’t see any innovation happening here.
K stock trades at 13 times earnings, where that earnings growth is pegged at 6.8% on average over the next five years.
Blue-Chip Stocks That Aren’t Really Blue Chips: Johnson & Johnson
Johnson & Johnson (NYSE:JNJ) is probably one of the biggest names associated with being a blue-chip stock. The problem is the business has been anything but blue-chip stock worthy.
Mind you, I’m not scoffing at a business that generated $17.7 billion in net income last year. I am scoffing at paying 20 times net income for a company only generating 8% annualized earnings growth.
The 2.57% yield doesn’t make it any more attractive to me. I certainly won’t complain about the $16 billion-$19 billion in free cash flow it generates every year either, but I’m not going to pay twice for the company is worth.
Blue-Chip Stocks That Aren’t Really Blue Chips: Merck
Merck & Co., Inc. (NYSE:MRK) is in a position that is somewhat similar to JNJ. One of the reasons I prefer JNJ over MRK is that the former is a big seller of consumer products as well as being a pharmaceutical company.
Merck is only a pharmaceutical company. Again, not to complain about more than $5 billion in annual profit, but I don’t like the fact that free cash flow has fallen to $4.6 billion from almost $12 billion a couple of years ago.
Not only that, this so-called blue-chip stock was barely able to cover the dividend from free cash flow last year. Merch is trading at almost 30 times earnings against annualized earnings growth of less than 7%.
Blue-Chip Stocks That Aren’t Really Blue Chips: HP
I wasn’t even aware that HP Inc. (NYSE:HP) was still a business. It feels like a relic from a bygone age, still selling its personal computers, displays, software and printers.
Nevertheless, it actually still generates $52 billion in and I’m sure investors are happy with their revenue every year. Who knew? And it has a stable, if not impressive, bottom line.
HP generated $2.5 billion in profit last year, and routinely generates around $3 billion in free cash flow. It pays out about 1/3 of that as a dividend. What’s not to like? How about the P/E ratio of 15, a stock with annualized earnings growth of only 9%?
Blue-Chip Stocks That Aren’t Really Blue Chips: Walmart
Yeah, I’ll say it. Walmart Inc. (NYSE:WMT) is no longer a blue-chip stock. I’ve got a company whose net income has fallen from $14.7 billion in 2015 to $9.9 billion last year.
That’s an earnings decline, people.
Again, I’m not going to complain about the free cash flow of $18 billion, and ensure investors are happy with their piddling 2.4% yield.
But I’m not paying 25 times earnings for a company whose main competition is now Amazon.com Inc. (NASDAQ:AMZN) and whose earnings have been cut by almost one-third in the past two years.
Lawrence Meyers is the CEO of PDL Capital, a specialty lender focusing on consumer finance and is the Manager of The Liberty Portfolio at www.thelibertyportfolio.com. He does not own any stock mentioned. He has 23 years’ experience in the stock market, and has written more than 2,000 articles on investing. Lawrence Meyers can be reached at [email protected].