Sears officially files for bankruptcy, a top-ten global defense company is formed, and political tensions with Saudi Arabia have the potential to send crude oil prices higher.
By Kris Rosemann
At one time it was the largest retailer in the US, but Sears Holdings (SHLD) has fallen a long way to its filing for Chapter 11 bankruptcy protection early October 15. Real estate investment trust Seritage Growth Properties (SRG) is facing selling pressure as it generates roughly 30% of signed lease income from Sears properties, and a report released earlier this month from Reis noted that US mall vacancies hit 9.1% in the third quarter of 2018, a seven year high. Sears’ Chapter 11 filing marks the twelfth retail bankruptcy in 2018, which come after more than twenty retailers filed for bankruptcy in 2017. While strength in consumer spending has helped boost the results of some retailers (XRT) of late, investors should not lose sight of the fact that e-commerce disruption continues to have a substantial impact on the long-term health of traditional retail.
A new leader is being formed in the global defense technology sector as L3 Technologies (LLL) and Harris Corporation (HRS) have agreed to join forces in an all-stock merger of equals. L3 shareholders will receive 1.3 shares of Harris for each L3 share owned, which will result in Harris shareholders owning 54% of the company at closing, expected in mid-2019. The to-be-combined company, L3 Harris Technologies, will be the sixth largest defense company in the US and a top-ten defense company in the world with revenue, EBIT, and free cash flow generation of $16 billion, $2.4 billion, and $1.9 billion, respectively, expected in the calendar year 2018.
The increased scale resulting from the merger combined with a well-balanced portfolio, geographically and strategically speaking, is expected to help drive $500 million in annual pre-tax synergies in year 3, which is projected to drive free cash flow generation to $3 billion by year 3. L3 Harris Technologies expects to have a reasonable level of financial leverage at closing with a net debt-to-EBITDA ratio of 2.2x, and management expects to maintain an investment grade credit rating as well as a dividend policy consistent with that of Harris as a standalone, with payout ratio guidance coming in at 30%-35%. As standalone entities, both Harris and L3 Technologies have solid Dividend Cushion ratios at or near 2.
Tensions between Saudi Arabia (KSA) and the US surrounding the disappearance of a journalist at the Saudi consulate in Istanbul continue to have energy investors on edge as the potential for geopolitical issues to send crude oil prices (USO, OIL) materially higher remains present. Saudi Arabia has threatened to take action with respect to working to drive oil prices higher should it face any sort of punishment from the case, but the nation appears to be cooperating with Turkish officials. Meanwhile, South Korea did not import any crude oil from Iran for the first time in more than six years in the month of September as US sanctions on Iran draw nearer. Though the South Korean market is not all that noteworthy in itself, the US’ influence on geopolitical issues and specifically dynamics impacting global crude oil markets is the important takeaway.
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Kris Rosemann does not own shares in any of the securities mentioned above. Some of the companies written about in this article may be included in Valuentum’s simulated newsletter portfolios. Contact Valuentum for more information about its editorial policies.