Who's Who in PowerPicks 2006

S&P's analysts exlain why they expect their favored stocks to perform strongly in the new year

By sector, here are the 40 members of Standard & Poor's PowerPicks 2005 portfolio -- the collective "best ideas" of S&P's equity research staff (see BW Online, 12/30/05, "S&P's Top-Shelf Selections") -- and a brief investment rationale from S&P for each:

Consumer Discretionary

Coach (COH ): We continue to see ample opportunities for this designer and marketer of premium accessories for both men and women, and expect that Coach will experience additional market share gains in the $4.8 billion U.S. luxury handbag and small leather goods market. We also see significant growth opportunities overseas. S&P projects five year compounded EPS growth of 25%, well above the company's industry peers.

Home Depot (HD ): We expect the world's leading home improvement retailer to benefit significantly from the reconstruction efforts following Hurricane Katrina. In addition, expansion opportunities abroad, as well as a concerted effort to increase its presence in the $410 billion professional market, should help reduce the company's dependence on the domestic housing market. Trading at a discount to peers and the S&P 500 on p-e and p-e-to-growth (PEG) ratios, we think the shares offer compelling value.

Kohl's (KSS ): We believe Kohl's will generate solid revenue growth in coming years, driven by an ongoing focus on more exclusive, higher quality merchandise, and better tailoring of products to reflect regional market preferences. We think the company has opportunities to streamline its cost structure, and look for above-peer EPS growth of 16% over the coming five years. In our view, the stock is undervalued relative to its peers.

Standard Pacific (SPF ): We believe this homebuilder's growth prospects and risk profile are not reflected in the stock's current valuation, and see significant upside potential during 2006. We like the company's geographic presence and believe that the company's Florida operations will benefit results over the long term. Priced well below our homebuilding coverage universe average on a forward (i.e., based on forecasted earnings) p-e basis, we think the shares are compelling.

Consumer Staples
Constellation Brands (STZ ): With our expectations for continued strength in the U.S. wine and spirits market and the imported beer segment, we expect double-digit revenue growth for Constellation over the next three years. We believe the company's diversification enhances its growth prospects and minimizes its risk exposure. With the stock trading at a discount to its slower growing peers, with think the shares are undervalued.

CVS (CVS ): We look for CVS to benefit from synergies as it integrates 1,200 acquired Eckerd drugs stores. In addition, we expect sales to benefit from moves to increase the convenience of its store base as it converts to stand alone locations, increases operating hours, and adds drive-though service. We forecast margin improvements from increased sales of generic drugs. We expect the shares to close the valuation gap with peers and think the stock is undervalued based on our discounted cash flow model.

Procter & Gamble (PG ): We believe this global consumer products giant is well positioned across many product categories, and expect that results in 2006 will benefit from the integration of Gillette's operations, new razor innovations and improving operating margins. In our view, the shares, trading at an approximate 20% discount to their 10-year average p-e, are a compelling investment.

Wm. Wrigley Jr. (WWY ): We believe that the recently acquired Kraft confectionary brands -- which include Altoids and Lifesavers -- will contribute to strong top and bottom line growth in 2006 and beyond. We believe the shares are attractive given our view of the company's relatively high and improving operating profitability, strong balance sheet, dominant and growing market share, and impressive global distribution infrastructure.

Energy
Canadian Natural Resources (CNQ ): We expect the company to increase production via new projects ramping up in West Africa. In addition, we believe the development of the Canadian Oil Sands project is ahead of schedule and on budget. When the project is completed in about seven years, we expect it to double its current production. Based on our enterprise value to EBITDA (earnings before interest, taxes, depreciation, and amortization) analysis, we think the shares are undervalued relative to industry peers.

Chevron (CVX ): As Chevron's Gulf of Mexico production is restored in early 2006, and upstream (oil and gas exploration and development) contributions from its 2005 acquisition of Unocal are realized, we project the company's upstream production will climb 7% in 2006. Downstream (i.e., refining and marketing), Chevron holds considerable capacity to refine lower cost heavy oils, and we expect strong refining margins over the next three years. Trading at a discount to its peers on an enterprise value (market capitalization plus net debt) to EBITDA multiple, we think the shares are undervalued.

Cimarex (XEC ): We favor the company's approach to exploration, which we see as a disciplined method of evaluating geologic formations and risk assessment. In our view, the company's drilling prospects provide substantial opportunities to increase its reserves and production levels. While the shares trade in line with the company's peers on a p-e basis, they trade at a discount on an enterprise value to EBITDA basis, which we think is unwarranted.

Nabors Industries (NBR ): This Barbados-domiciled company, the world's largest oil and gas land drilling contractor, should continue to benefit in 2006 from rising energy prices, increased drilling activity and higher day rates for land drilling work, in our opinion. We believe the stock trades at a discount to peers on a number of important valuation metrics, and expect this to narrow during 2006.

Financials
Capital One Financial (COF ): In our view, the company's recent acquisition of Hibernia provided extension of the branch network into attractive and potentially high growth markets, while adding new distribution capabilities for existing products and diversifying its loan portfolio. We think the combined entity is poised for strong growth in 2006 and believe Capital One remains a viable acquisition candidate. The shares, recently priced at a forward p-e multiple discounted to both its historical range and our calculation of a fair acquisition price, are undervalued in our opinion.

Goldman Sachs (GS ): We think Goldman has a solid competitive advantage, due to the global footprint of its investment banking franchise, the breadth of its sales and trading revenues, and the growth of its asset management business. We think gains in the financial advisory, equity underwriting and merchant banking business will more than offset projected declines in the fixed income business in fiscal 2006 (ending November). Priced below its historical p-e multiple, we think the stock is compelling.

Hartford Financial Services (HIG ): We view this multi-line insurer as a well managed franchise with a number of positive catalysts, including an improved pricing environment for property-casualty insurance, and protracted favorable demand for savings and retirement properties. We think the shares are undervalued versus peers on a price/EPS, price/tangible book value, and p-e to growth (PEG) basis.

IndyMac Bancorp (NDE ): We believe the company's hybrid thrift/mortgage business model provides the company with sustainable earnings growth through various interest rate cycles, and therefore expect strong results in 2006 regardless of a possible slowdown in the U.S. housing market. We believe the stock's valuation does not fully incorporate the company's exposure to the thrift segment, and look for significant expansion of its valuation during 2006.

MetLife (MET ): In our opinion, this diversified life and health insurer will benefit from the favorable revenue growth and improving underwriting margins we see in 2006. In addition, we think the Travelers Life & Annuity acquisition will help drive international growth, particularly in Japan and Europe. We believe the stock is attractively valued relative to its peers and on a forward PEG basis.

Simon Property Group (SPG ): We believe this real estate investment turst (REIT), which owns and operates shopping centers, will continue to post strong operating results in 2006, as continued economic expansion and healthy retail conditions drive higher occupancy levels and rent growth. We think the stock will continue to benefit from our expectation that the Federal Reserve is nearing the end of its interest rate tightening cycle. We see 2006 funds from operations per share, a key measure of REIT poritability, reaching $5.38, up from an estimated $5.00 in 2005.

Strategic Hotel Capital (SLH ): Our bullish 2006 outlook for hotel property owners is based on solid leisure and business travel assumptions boosting the recovery for the lodging industry. We believe this REIT will be among the beneficiaries of this trend, and believe the stock is undervalued relative to our calculation of intrinsic value.

Health Care
Aetna (AET ): We believe Aetna will generate EPS growth of about 20% over the coming three years, driven by an expanding product portfolio, disciplined premium pricing and continued focus on operating cost controls. We believe the company will continue to make strategic acquisitions in order to further broaden its product and service offerings, and think the stock is undervalued relative to its managed care industry peers.

Covance (CVD ): S&P believes the contract research organization (CRO) marketplace will remain robust in coming years, reflecting increased outsourcing of clinical trials by the global pharmaceutical and biotechnology industries. The shares were recently priced in line with CRO peers, but we think a premium is warranted by the company's more diversified product offerings and higher projected growth rate.

Eli Lilly (LLY ): We view Lilly as the best positioned company in the domestic large cap pharmaceutical group, based on our opinion of the company's existing product line, the absence of major patent expirations until 2011, and its robust R&D pipeline. The stock trades at a modest p-e premium to its peers, but we believe the current valuation does not fully reflect the company's promising drug pipeline.

Endo Pharmaceuticals (ENDP ): Over the coming decade, we expect to see increased demand for pain management therapies for both chronic conditions and surgical procedures. We believe Endo, a leading provider of pain management drugs, will greatly benefit from this rising demand. We expect sales growth in both sales and earnings over the next three years, and believe the stock is undervalued relative to its peers.

Hologic (HOLX ): In our view, Hologic represents one of the more compelling small cap names in our medical device coverage universe, with projected three-year sales growth of 18% and earnings growth of 24%. We believe the conversion of the global mammography market to digital from analog will continue to drive the company's performance.

Myriad Genetics (MYGN ): We like the company's predictive medicine testing business and look for double-digit sales gains over the coming three years. In addition, we think the company's product pipeline has improved and we have positive views on Flurizan for Alzheimer's disease, a drug currently in Phase III clinical testing with results anticipated by 2007.

Industrials
Danaher (DHR ): We believe the company has an attractive revenue growth outlook in 2006, aided by continued economic growth and strategic acquisitions. We believe Danaher has substantial opportunities for operating margin expansion and look for accelerating earnings growth in 2006. The stock appears compelling to us based on a combination of historical and peer comparative p-e analysis.

Ingersoll-Rand (IR ): We view this global industrial conglomerate as a timely play on continuing momentum in capital spending, given the company's late-cycle end markets, diverse product offerings and powerful cash flow generation ability. We also see internal productivity improvements and product innovations supporting our growth projections. The stock is priced below the historical average and peer group p-e multiples, and we find it undervalued based on our discounted cash flow model.

Landstar (LSTR ): S&P expects that this non asset-based truckload carrier will continue to benefit from steady U.S. economic growth, as well as additions to its agent locations. In our opinion, Landstar will continue to generate superior return on assets, equity and invested capital relative to most other transportation companies, yet the stock is priced below the company's peers on forward p-e and p-e-to growth (PEG) metrics, and below our calculation of fair value derived from our discounted cash flow analysis.

Manitowoc (MTW ): We believe Manitowoc's principal business of domestic cranes is in the early stages of what will likely be a multiyear recovery, following several years of weakness in that market. Potential upside in that business is also complemented by comparatively stable growth in Manitowoc's foodservice equipment business. We find the share undervalued using both our relative value and discounted cash flow analyses.

Robert Half (RHI ): Labor markets have rebounded at a decent pace for the past two years, but at a slower rate than traditional recoveries. We thus think this staffing company will benefit from an extended labor cycle. We also expect Robert Half to be aided by its focus on the accounting and finance fields, as we think well-publicized corporate governance problems in the business will heighten focus on these areas. We find the shares undervalued on a relative value basis.

W.W. Grainger (GWW ): This global distributor of industrial and commercial supplies will likely, in our view, experience continued strong demand, better efficiencies related to new distribution centers and branches, and cost savings via new accounting and telecommunications systems. We think the shares are undervalued relative to peers on a p-e basis, and they are priced below our discounted cash-flow (DCF)-based calculation of intrinsic value.

Information Technology
Altera (ALTR ): We expect this fabless maker of programmable logic devices, or PLD chips, to benefit from the ongoing capture of market share from non-programmable semiconductor categories in 2006 and 2007. We see diverse end-markets, a strong balance sheet and a falling tax rate as additional positive factors. We find these shares attractively priced based on our historical price-to-sales and p-e analyses.

Electronic Arts (ERTS ): S&P anticipates that this market leader for home entertainment software will benefit from recent and upcoming launches of gaming consoles. In addition, we think Electronic Arts has the most diversified brand library in the industry, and we think the company's strong balance sheet provides added appeal. We see significant upside potential based on our enterprise value to sales and discounted cash flow analysis.

Fiserv (FISV ): One of the world's largest providers of technology systems and services to the financial services industry, Fiserv also offers solutions for the administration of health plans. We expect significant growth in coming years, driven by expansion of products and services and strategic acquisitions. The shares look attractive to us based on our discounted cash flow analysis, and relative p-e and PEG parameters.

Motorola (MOT ): In our opinion, Motorola is well positioned to grow its handset and broadband businesses and utilize free cash flow to retire long term debt, fund strategic acquisitions and possibly repurchase common stock. Priced below peers on a forward p-e basis, we find the stock compelling at current levels.

Seagate Technology (STX ): We see this leading provider of hard drives benefiting from an expanding product line, our view of manageable inventory levels and a less volatile pricing environment. We also think a burgeoning consumer electronics market should continue to bolster growth opportunities in 2006. In our opinion, the shares are compelling, trading at a significant discount to the S&P 500 on a calendar 2006 p-e basis and below our DCF-based calculation of intrinsic value.

Materials
FMC Corp. (FMC ): S&P sees this diversified producer of industrial, specialty and agricultural chemicals benefiting from its major position in soda ash; we expect ongoing improvement in the fundamentals for that chemical, coupled with continued price hikes. We are also positive on the company's improving balance sheet and see the possibility of a cash dividend or stock buyback in 2006. We view the stock as underpriced, as it trades below its peers based on p-e and cash flow multiples.

Telecommunications Services
CenturyTel (CTL ): This rural carrier's wireline prospects are favorable, based on our view of limited competitive pressures from wireless and cable carriers. During 2006, we see growth coming from vertical service integration and the allocation of free cash flow towards common stock buybacks. We expect that CenturyTel will acquire additional access lines during 2006, and believe management has a strong track record of making sound strategic deals.

Utilities
Duke Energy (DUK ): We view the pending $9.0 billion acquisition of Ohio-based utility Cinergy favorably and believe this merger combined with improved power pricing and an ongoing expansion in the company's natural gas operations will drive solid earnings growth over the coming three years. We also think the planned sale of power plants in the Northeast and West will provide an incremental lift to earnings.

FPL Group (FPL ): S&P believes that this electric utility, which provides electricity to over 4.0 million customer accounts throughout Florida, will generate EPS growth of 15% through 2007, driven by a sharp increase in earnings from its non-regulated independent power unit FPL Energy. We expect that FPL Energy, the leading producer of wind power in the U.S., will continue to benefit from an expanding number of wind power projects.

READER COMMENTS

Biggar is director of North American equity research, and Gold a senior portfolio group analyst, for Standard & Poor's Equity Research Services

All of the views expressed in this research report accurately reflect the research analyst's personal views regarding any and all of the subject securities or issuers. No part of analyst compensation was, is or will be, directly or indirectly related to the specific recommendations or views expressed in this research report.
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