Some Stocks to Consider as the U.S. Pushes to Reclassify Cannabis

Ruth Saldanha: The U.S. is pushing to reclassify cannabis. Which stocks should you buy right now? Best Buy stock is cheap. Is this company the best buy for your portfolio? And for all the dividend fans out there, we have three undervalued dividend stocks for you to consider. This is Investing Insights.

Welcome to Investing Insights. I’m your host, Ruth Saldanha. Let’s get started with a look at your Morningstar headlines.

Salesforce Soars Among the Clouds

Salesforce CRM delivered another good quarter. The cloud-based software company’s revenue grew 11% year over year in its fiscal second quarter. It hit $8.6 billion. Revenue and profitability came in ahead of Morningstar’s expectations. For the fiscal year, Salesforce has raised its top- and bottom-line forecasts. It also repurchased almost $2 billion worth of stock during the quarter. Most of its cloud services grew annual recurring revenue by 50% or more. Meanwhile, professional services remain weak, and the overall demand environment remains challenging. Margins can still expand even as the tech firm invests in AI. While better revenue helped, cost cuts like layoffs from January bolstered margins on this quarter, and should continue to do so for the rest of the year. Morningstar thinks Salesforce is worth $255 per share, up from $245 per share.

United Auto Workers Vote to Approve a Strike

An overwhelming majority of United Auto Workers members voted to approve a strike against automakers GM GM, Ford F, and Stellantis STLA. While this doesn’t guarantee a strike, it does allow workers to immediately strike after the union’s contract with each company expires on Sept. 14. The union’s demands include a 40% pay hike and the restoration of pensions for new hires. The union also wants to represent joint venture electric vehicle battery plants being built by the companies, along with top union wages. Morningstar thinks a strike against Stellantis is the most likely outcome. However, the UAW president says a simultaneous strike against all three automakers is possible. This comes as Hollywood writers and actors continue their monthslong strikes. UPS UPS offered workers a new contract to avert a walkout. At the same time, retail workers at some Trader Joe’s and Starbucks SBUX locations have organized. Morningstar Inc.’s editorial director for sustainability Leslie Norton says strikes can cause extra risks for investor portfolios. Everything from business interruptions to reputational impact can cause harm. More workers are striking at a time when inflation is hurting wages and income inequality persists. The COVID-19 pandemic also put a spotlight on the importance of employees. For more, read “As UAW Strike Looms and Labor Unrest Surges, Risks to Portfolios Grow,” at Morningstar.com.

Best Buy’s Better Q2

Best Buy BBY posted solid fiscal second-quarter results even as the outlook for shopper spending remains murky. The consumer electronics retailer reported nearly $9.6 billion in sales. The drop in sales online and at U.S. stores open for at least a year was less severe than Morningstar expected. Management’s decision to lower its full-year sales forecast remains concerning, though. This appears to signal that ongoing challenges remain for Best Buy shoppers. They are making fewer trips and are sensitive to how much they’re shelling out. Best Buy may find it hard to grow sales as quickly as its labor and rent expenses increase. It’s hard for any retailer to get an edge on price with so many ways to buy consumer electronics. Best Buy will likely struggle to maintain its historical operating margin, even as it adds higher-margin revenue streams like Best Buy Ads and Best Buy Health. In addition, its co-branded credit card profit-sharing revenue will likely fall in the back half of the year and into fiscal 2025. Morningstar forecasts that Best Buy won’t recover to prepandemic profitability until 2027. Our analyst trimmed his estimate of what he thinks Best Buy’s stock is worth from $100 to $95. Shares still look cheap.

U.S. Department of Health and Human Services Recommends Rescheduling Cannabis

It’s been a tough time for cannabis stocks as growth has been slower than most have expected. But at the end of last month, the U.S. Department of Health and Human Services recommended to the Drug Enforcement Administration that cannabis be rescheduled to Schedule III from Schedule I, which means moving it from a category that includes drugs like heroin and ecstasy into a less dangerous category. What does this mean for the cannabis stocks we cover? Kristoffer Inton is a consumer equity strategist at Morningstar Research Services. He’s here today to tell us what he thinks of this development.

Kris, thanks for being here today.

Kristoffer Inton: Thanks for having me, Ruth.

Saldanha: Let’s start by asking, what did this latest announcement mean for cannabis stocks?

Inton: Well, technically, it doesn’t mean anything yet, because nothing has actually happened. What it means, though, is it’s probably the most optimistic sign for progress on loosening the outright U.S. federal prohibition on cannabis. And so, if there is a rescheduling of cannabis, this could mean a couple of things for the industry, particularly for the U.S. multistate operators. Potentially, they could list on one of the U.S. major stock exchanges. They could probably pay more normal tax rates rather than the extremely high tax rates they pay now and potentially get access to more regular financial services as well.

Canadian Cannabis Companies

Saldanha: Now this is a U.S.-specific announcement, but a leader in this space has been Canadian cannabis stocks. What does this announcement potentially mean for Canadian cannabis companies?

Inton: Canadian cannabis companies, they’ve been listed on the U.S. major exchanges, so the New York Stock Exchange as well as Nasdaq. But in order to keep that listing, they’ve purposefully not sold THC in the U.S. Doing so would have threatened those listings. If this rescheduling occurs, that potentially allows them to sell THC in the U.S., which could see them entering the much larger American market. But that would also probably mean that they would need to either acquire assets or open things directly. And the U.S. multistate operators in this interim period have become quite big and strong. So, it wouldn’t be a straightforward easy task for the Canadians to compete here.

Cannabis Stocks Look Cheap

Saldanha: Cannabis companies have been some of the cheapest in our coverage universe globally, and that has led some to think that they might be a contrarian pick. Before we talk about that, what have been some of the reasons for this lag?

Inton: A multitude. I think that, one, is that the growth has probably been a little slower than most have expected, especially on the U.S. side. I think a lot of folks would have expected some movement on the federal prohibition by now. On top of that, when you have slower growth than expected, a lot of the companies, particularly a lot of the Canadian-licensed producers, grew their expenses too fast, and so profitability has been hard to achieve. And then a few of these as well have just had too much leverage. And in order to deal with that leverage, especially with the high-interest-rate environment we have now, they’ve been dealing with it by issuing a lot of equity. And so, it’s been diluting shareholders a lot as well.

Cannabis Stock Outlook

Saldanha: Finally, what are your expectations from these stocks going ahead, and what’s your top pick in this space?

Inton: We do expect some softening around federal prohibition in the U.S. eventually, and that would allow these companies to act a little more normally in terms of access to financial services, listing, and paying lower taxes. The growth is still going to be coming for the industry. The illicit market is still multiples larger than the legal market. And so, the opportunity for growth is still there. And I think that profitability will keep coming and that we will see more growth for the industry overall. For our top picks in the industry, we favor the U.S. multistate operators, so Curaleaf CURLF and Green Thumb GTBIF, both trade at 5 stars. They are direct beneficiaries from any change in U.S. federal prohibition. Among the Canadians, we see value among Cronos CRON, Tilray TLRY, and Aurora ACB. But again, these companies don’t directly benefit from a change to U.S. federal prohibition.

Saldanha: Great. Thank you so much for joining us today, Kris.

Inton: Thanks for having me, Ruth.

3 Dividend Stocks for September 2023

Saldanha: Dividend stocks have a lot of competition these days, as high yields on fixed-income securities have brought investors back to that side of the fence. However, there are many diehard dividend fans out there, and for you, Morningstar Inc.’s investment strategist Susan Dziubinski highlights three stocks from Morningstar’s Dividend Yield Focus Index that look undervalued today. Listen in.

Susan Dziubinski: Hi. I’m Susan Dziubinski with Morningstar, filling in for Morningstar DividendInvestor editor David Harrell. In this monthly dividend series, we take a look at stocks that are popular with dividend investors.

Today we’re focusing on three stocks from Morningstar’s Dividend Yield Focus Index that look undervalued today. The Morningstar Dividend Yield Focus Index tracks the top 75 high-yielding stocks that meet our screening requirements for quality and financial health.

Our first undervalued dividend stock is Pfizer PFE. We don’t think the market fully appreciates Pfizer’s ability to offset major patent losses over the next five years. Second-quarter results were mixed, due to lower COVID-19 vaccine and treatment sales. But Pfizer has contingency plans in place to cut costs if COVID-related sales don’t improve in the third quarter. We think Pfizer’s dividend is where it should be, as the company targets close to a 50% payout in dividends as a percentage of normalized earnings, which is on track for a mature industry. We think Pfizer stock is worth $48 per share.

Our second undervalued dividend stock is Medtronic MDT. Medtronic is the largest pure-play medical-device maker. It’s a key partner for its hospital customers, thanks to its diversified product portfolio aimed at a wide range of chronic diseases. We think Medtronic’s plans to spin off its patient monitoring and respiratory innovations businesses will only help the company pivot toward faster-growing markets. Medtronic has raised its dividend for 46 consecutive years. We think shares are worth $112.

Our final undervalued dividend stock is Gilead Sciences GILD. The drugmaker generates outstanding profit margins with its HIV and HCV portfolio, and its portfolio and pipeline support a wide economic moat rating from Morningstar. Second-quarter results came in strong. The company has steadily increased its dividend over time; its payout ratio hovers around 50%, which we think is reasonable. We think shares are worth $97.

I’m Susan Dziubinski with Morningstar. Thanks for watching, and we’ll see you next month.

Saldanha: Thank you, Susan! That’s all for this week’s episode. Don’t forget to subscribe to Morningstar’s YouTube channel to see new videos about market news, personal finance, and investment picks. Thanks to podcast producer Jake Vankersen, who puts this show together. I’m Ruth Saldanha, an editorial manager at Morningstar. Thank you for tuning in to Investing Insights.

Read About Topics From This Episode

Salesforce Earnings: Strong Margins, Share Buybacks, CRPO Growth Drive Good Quarter

UAW Strike Likely at Stellantis, and Striking All the Detroit Three at Once Is Possible

Best Buy Earnings: Solid Quarter Overshadowed by Weak Industry Environment; Shares Remain Cheap

Cannabis Shares Rally On Recommendation for Less Stringent Prohibition

Morningstar strategist David Whiston, senior analyst Dan Romanoff, and analyst Sean Dunlop contributed to the research behind this segment.