1st Quarter, 2010

The stock market, as measured by the S&P, is down 2% since the beginning of the year. It has not rewarded us for the good, and in some instances exceptionally strong, first quarter operating results achieved by our financially sound companies. Market participants apparently are ignoring the restrained confidence expressed by our companies’ realistic managers about their businesses’ ability to profit from revived demand from their customers. Instead, all eyes seemingly are riveted on the collapsing euro. The $940 billion rescue package for the euro assembled by the European Central Bank (ECB) on May 10 failed to calm fears of cascading defaults among the financially weak, debt-laden member countries of the European Union. On May 4, the ECB announced a $140 billion funding facility designed to contain the Greek crisis. It was a dud. The size of the successor rescue fund and reported recriminations voiced by government ministers involved in the rescue negotiations seemingly confirmed alarmists’ worst fears. Anyhow, reports about the imperiled finances of larger, heavily indebted countries in the currency union continue swirling through the market. Even we know that German banks own $240 billion of debt issued by Spain and $43 billion of Greek debt. U.S. banks hold only $60 billion of European sovereign debt. The reverberations emanating from Greece’s financial imbroglio serves as a reminder that our financial institutions, though strengthened by equity infusions, remain loaded with the complex, unsaleable debt they bought during the boom. Through the years, we have seen many vast injections of liquidity to quell financial panics, but none matching the scale reached recently. These buy time, at considerable cost, for teetering institutions and governments to restore their solvency. It is achieved more quickly, here in the U.S., however, when government stops “fixing” what went awry and people get back to business. We think J. M. Keynes observation in Chapter 12 of his General Theory on Employment, Interest, and Money, published in 1936 is apt for these times: “This means, unfortunately, not only that slumps and depressions are exaggerated in degree, but that economic prosperity is excessively dependent on a political and social atmosphere which is congenial to the average business man.”

C.H. Robinson Worldwide Inc.

CH Robinson’s first quarter total revenues of $2.1 billion rose 23% as truckload volumes rose 22% from the same period a year ago. Robinson’s net revenues of $332.6 million after deducting the cost of hired transportation declined 2% and earnings of 50¢ per share were flat. Truck net revenue declined 5.7% due to higher cost of hire, higher fuel prices and lower prices to customers. Nearly fifty percent of Robinson’s customers have contractually agreed upon rates which adjust to market rates over time. When market rates are rising, as they are currently, the net revenue margin compresses as Robinson honors its contractual commitments and concentrates on gaining market share and expanding its customer relationships. This is good business practice and strengthens customer reliance upon Robinson. Likewise, during periods of declining rates the net revenue margin expands, offsetting lower volumes. Net revenues from fruit and vegetable sourcing and freight forwarding rose 14% and 10% respectively during the quarter. The strong volume growth of 22% achieved by Robinson’s core trucking business is encouraging as it points to good execution by the company’s experienced managers. The company generated strong volume gains while keeping employee headcount stable as automation and process improvements at its 235 branches enabled Robinson’s people to become more productive. Robinson’s stock price is down 1% year-to-date.

CME Group Inc.

CME Group’s first quarter revenues of $693 million rose 7% and earnings of $3.62 per share rose 21% from the same period a year ago. Average daily volume rose 12% from a year ago to 11.5 million contracts. During the quarter interest rate, foreign exchange and energy contract volume rose 33%, 75% and 6% respectively while contracts based upon equity indexes fell 20%. The average rate per contract was 82¢, down 2% from a year ago. The U.S. Treasury issued more than $2 trillion in Treasury Bonds and Notes last year, up from less than $1 trillion during each of the previous four years. The current inventory of Treasury Notes and Bonds outstanding is $5.5 trillion. In 2010, the Treasury will issue another $2 trillion plus of Treasury securities while about $1 trillion will mature. Buyers of these securities will need to manage and hedge this interest rate exposure for years to come. Greater volatility in interest rate, foreign exchange, stock index and energy markets generally results in higher transaction volumes, revenues and free cash flow generation for CME. During April, average daily volume of 11.9 million contracts rose 31% from the prior year and May volumes are currently averaging 16.3 million contracts per day, up 53%.

CME shares have declined 6% this year despite the solid first quarter results and strong contract volumes in April and May. We infer that the almost daily news flow coming from the House and Senate regarding Financial Services Regulatory Reform makes investors apprehensive about the impact this might have on CME’s customers’ trading volumes. The imposition of position limits could be detrimental. Conversely, the changes proposed for the OTC markets could bring additional business to the CME and its clearing house. Overall, CME’s transparent regulated exchange and clearing house is positioned to benefit from the regulatory overhaul, but the latitude given to regulators and lack of precise definitions create uncertainty for all.

Automatic Data Processing

ADP’s fiscal third quarter earnings declined 1% to 79¢ per share on revenues of $2.4 billion, up 1% on a constant currency basis. Foreign exchange contributed roughly 2% to ADP’s reported revenue growth while lower interest on client’s funds reduced growth by 1%. Employer Services revenues of $1.8 billion grew 1% with modest U.S. growth among small to medium-sized companies and growth in Europe. ADP’s payroll and tax filing business declined 3% while add-on services grew 8%. Client retention increased 1.4% for the first time in seven quarters, an important indication that the core business is improving. Professional Employer Organization revenues grew 15% to $378.5 million driven by higher healthcare pass-through revenues as well as a 5% increase in the number of employees covered to almost 206,000.

Management reported that the company’s key metrics are stable to improving and that the company continues to spend on new products to improve long-term growth and profitability. Run and Workforce Now are two new products for small to medium-sized businesses that provide additional services such as HR and benefits similar to services provided to large customers. Joining a larger group of other small customers to secure benefits provides customers a rapid payback. To facilitate this growth ADP is increasing its sales force, the majority of which is focused on the small to medium-sized companies. The increasing complexity of managing healthcare benefits with the passage of healthcare reform legislation could be a catalyst for expanding relationships with existing customers and attracting new ones. ADP’s stock price has declined 5% since the beginning of the year.

Global Payment Inc.

Global Payment’s revenues rose 6% and earnings per share rose 18% excluding the positive impact of foreign currency. Revenues from the U.S., Canada, Europe and Asia-Pacific rose 5%, 13%, 26% and 18% respectively, which includes the beneficial impact of stronger Canadian and U.K. currencies relative to the same period a year ago. Foreign currency boosted revenues by $18 million overall or 5% to $399 million resulting in reported revenue growth of 11%. Global’s U.S. direct merchant acquiring business generated 14% transaction growth. The average dollar value of each card transaction processed declined 6% year-over-year, a small improvement from the 9% decline experienced last quarter. The North American operating margin of 20.8% would have been lower compared to the year ago margin of 21.1% without the benefit of the 16% increase in the Canadian dollar relative to the U.S. dollar. North American margins may move lower because Global’s U.S. growth is dependent upon ISO’s (independent selling organizations) which are effective sellers to small businesses but garner lower than average incremental margins. The impact of lower North American margins are being offset by expanding international margins which reached 27.4%, up from 24.4% a year ago.

Global’s 22% year-to-date stock price decline has been compounded by uncertainty raised by the Durbin Amendment recently added to the Financial Regulatory Reform Bill passed by the Senate. The Amendment, though vague and ambiguous, could result in the Federal Reserve setting interchange rates on debit cards issued by banks. Since Global, as a merchant processor, passes through interchange to its merchant customers, any change mandated by the Federal Reserve or by Visa and MasterCard should not hurt Global directly but government set prices for private industry is not good. Regulation of interchange rates would lower costs for large merchants but not small businesses or consumers.

Verisk Analytics Inc.

Verisk Analytics delivered strong first quarter results. Revenues of $276.2 million rose 12% while earnings of 29¢ per share rose 16% from the same period a year ago. Recent acquisitions added less than one percent of total revenue growth. Risk Assessment revenues, which generated 49% of total revenues, grew 4% despite industry-wide property and casualty premiums in commercial insurance lines dropping 4% in 2008, the year that influences 2010 revenues. Decision Analytics, which generates 51% of revenues, rose 22% from a year ago. These results demonstrate the strength of Verisk’s franchise and its strong customer relationships. Decision Analytics revenues are broken down into three components; fraud detection, loss prediction and loss quantification. Fraud detection solutions, which comprise more than half of Decision Analytics revenues, rose 23% driven by growth in mortgage fraud detection. Fourteen of the largest twenty mortgage originators are Verisk customers. Industry-wide, mortgage fraud verification at the point of origination has reached one-half of new mortgages underwritten, versus less than 10% of new mortgages two years ago. Verisk fraud detection solutions are also utilized by mortgage insurers when mortgage holders default on their loan. Verisk counts five of the top six mortgage insurers as customers. Loss prediction products rose 19% on usage of the company’s weather, climate and catastrophe models and healthcare analytics products. Finally, loss quantification revenues rose 21%, as losses from storms drove higher transactional activity. Verisk stock has moved up slightly since purchased.

Express Scripts Inc.

Express Scripts’ first quarter earnings of $1.01 per share, not including 7¢ of non-recurring acquisition costs, rose 14.7% over earnings of 88¢ per share reported in the first quarter of 2009. Gross profit increased 35% to $719 million with the addition of the Department of Defense and NextRx business. The generic fill rate for the quarter was 70.1% up from 67.7% last year with the home delivery generic fill rate rising 2.5 percentage points to 59.4%. The generic fill rate for home delivery is lower than that for the retail network because many of the drugs patients receive by mail still have patent protection. These rates will increase when several blockbuster branded drugs lose patent protection in 2011 and 2012. Express Scripts announced that it had successfully integrated 15% of NextRx members onto its platform without any complaints or any impact on service levels for other clients. This fine execution provides a strong base for future success as the company develops behavior-based tools to reduce the $163 billion wasted annually in the U.S. healthcare system when people use high-cost branded drugs and do not adhere to their therapies. An Express Scripts study of 58,400 diabetes patients found that patients that switch from retail to home delivery and continue to get their prescription drugs in the mail for at least six months reap both medical and economic benefits. These patients increased their adherence level from 70% to 84.8% and their diabetes-related medical costs fell from $340 to $306 per month. The company leads the industry in the use of evidence-based research to develop its innovative tools to reduce drug costs while maintaining health outcomes. Express Scripts’ stock price has risen 16% since the beginning of the year.

Varian Medical Systems Inc.

Varian Medical Systems reported good fiscal second quarter results with earnings rising 14% to 73¢ per share over the same period last year. Revenues rose 6% to $586 million including a 3% contribution to revenue growth from foreign currency. Oncology Systems’ orders rose 13% to $476 million with international orders accounting for 58% of the total. Net orders rose 70% in Asia and 15% in Europe resulting in 34% growth in international orders over the second quarter of 2009. This strong international growth offset a 10% decline in orders from North America where hospital capital spending remains constrained.

On April 14, Varian launched the TrueBeam® platform for radiosurgery and image-guided radiation therapy. TrueBeam® is a completely new treatment platform that establishes a new level of synchronization between patient positioning, motion management and treatment delivery and also checks the accuracy of the beam every 10 milliseconds throughout the treatment. The increased output of the radiation source reduces the treatment time for complex treatments such as head and neck radiosurgery from 40 minutes to 5 to 20 minutes. TrueBeam® is designed to treat lung and liver tumors where treatment must be fully synchronized with the tumor position throughout the treatment. Varian has already sold two of these $4.0+ million systems and has orders for 15 more. Management expects that this system will grow to 30% to 50% of all new machine orders in the next several years. Upgrades to the company’s existing line of radiation sources that resulted from research performed as part of the development of TrueBeam® will encourage faster replacement of Varian’s installed base of 5,900 machines. Varian’s stock price is up 6% since January 1.

IDEXX Laboratories Corp.

IDEXX Laboratories stock price jumped 10% to an all-time high of $66.60 on April 23, the day the company announced its first quarter earnings. The stock price has risen 16% since the beginning of the year. The company reported strong first quarter results with earnings up 28% to 55¢ per share over the same period a year ago. Streamlined instrument manufacturing processes and an array of lean processing initiatives in the reference lab business lifted earnings 3¢ per share above management’s expectations. Revenues of $268.5 million rose 9% and foreign exchange added 4% to revenue growth. The company reported double-digit sales increases in both its in-clinic diagnostic instruments and its digital x-ray systems. Vets are investing in new technologies to improve the efficiency and profitability of their practices even though clinic revenues rose only 1% over the first quarter of 2009 and patient traffic fell 1%. Management expects growth in visits and revenues to be gradual and tied to increases in consumer spending and confidence.

IDEXX also announced the third quarter launch of ProCyte Dx, a high volume hematology instrument. While it will enter a controlled launch during the third quarter, IDEXX expects the launch to be faster than the Catalyst Dx because the instrument was developed through a partnership with Sysmex, a Japanese company that is a global leader in the manufacture of high volume hematology systems for human diagnostics. In addition, university veterinary clinics have run over 70,000 tests on the system over the last 18 months. The ProCyte Dx runs a complete blood analysis in two minutes. A clinic with both a Catalyst Dx and the ProCyte Dx can run a complete blood chemistry and a complete blood count in 8 minutes from the time the blood is drawn from the pet. IDEXX also introduced Real Time Care Protocols, a preferred customer program that offers incentives to expand the size of the diagnostic panels vets run on a patient. This unique rebate program requires the use of IDEXX’s unique information systems because it tracks and reports diagnostic test usage through the IDEXX VetLab Station and SmartService. The IDEXX VetLab Station manages the laboratory information for the all of the diagnostic instruments in the lab and connects to the vet’s practice management software to upload patient information and billing charges. Over 3,300 clinics use SmartService, IDEXX’s on-line technical support service which connects through the VetLab Station. It allows IDEXX to troubleshoot instrument issues and download new software remotely.

Gen-Probe Incorporated

Gen-Probe reported first quarter revenue of $135.4 million, an increase of 17% over the first quarter of 2009. Earnings were 45¢ per share, an increase of 13% excluding a milestone payment of $8.2 million from Novartis in the first quarter of 2009. Strong sales of the Aptima assays for Women’s Health contributed to Clinical Diagnostics sales of $76.9 million, an increase of 29%. Sales of transplant and influenza diagnostics from recent acquisitions also contributed to the quarter’s revenue growth. Blood screening sales rose 11% to $49.6 million. A clinical study of Gen-Probe’s PCA3 test, which measures the level of a protein present in higher amounts in prostate cancer cells, continues to support the efficacy of this assay. This 2,400 patient study confirmed the results of earlier clinical trials which showed that higher PCA3 scores correlate with a higher likelihood of prostate cancer and with a higher likelihood of more aggressive cancer in patients who have elevated PSA levels and a negative biopsy. It also confirmed that a high PCA3 level is a more accurate predictor of the presence of prostate cancer than elevated PSA levels. Gen-Probe completed enrollment of 500 patients in its U.S. clinical trial and expects to file the pre-manufacturing agreement with the FDA in the third quarter. Gen-Probe’s stock price is down 7% since late March.

Techne Corp.

Techne’s fiscal third quarter sales of $70.3 million increased 1.8% operationally over the same period last year with foreign currency adding 1.8% to revenue growth. The company reported earnings of 75¢ per share which does not include a one-time tax benefit of 12¢ per share. Earnings per share were 74¢ for the fiscal third quarter of 2009. Biotechnology net sales rose 2.0% during the quarter to $46.2 million with sales from pharmaceutical and biotech companies growing 2.0% and sales from academic labs increasing 3.5%. The small Asia/Pacific distribution and China businesses reported 12.6% and 10.3% revenue growth respectively. Lower sales to pharmaceutical customers led to a decline of 1.9% in European sales during the quarter, while currency lifted sales in U.S. dollars 4.7% to $19.2 million. This small sequential increase over sales of $18.8 million during the fiscal second quarter suggests that business in Europe is improving slowly. Higher sales volumes raised gross margin 60 basis points to 79.5% over 78.9% in the same period last year. Techne generated $79.5 million in cash flow from operations during the first nine months of the year and invested $3.5 million to remodel the laboratories in the Minneapolis facility and to purchase lab and computer equipment. Techne’s stock price is down 12% since January 1.

Patterson Companies Inc.

Patterson’s earnings for the fiscal fourth quarter ending April 24, 2010 registered a 13% quarterly gain – the largest achieved by the company during the past two years. The 52¢ per share earned during the quarter brought earnings for the fiscal year up to $1.79 per share, 5% higher than the $1.69 earned in fiscal year 2009. In reviewing the results, Patterson disclosed that its sales of dental digital imaging systems, including its new cone beam 3D cameras, rose 18% during a quarter when dentists’ purchases of basic equipment such as chairs, cabinets and lights continued to contract by as much as 20% in some categories. Patterson’s emphasis on encouraging its reps to concentrate on dentists proficient at using technology to improve patient results and their practices’ profits, paid off during the quarter. The number of dentists keenly interested in attending company sponsored seminars explaining the value of technology for their practices during the quarter surpassed the numbers at prior meetings. Many seminars focused on understanding how to utilize the 3D camera interface with CEREC, the chairside tooth restoration system Patterson distributes. There now are 11,000 CEREC systems installed in North America. Although CEREC sales were 10% below the prior year level during Patterson’s fiscal fourth quarter, the decline reflects a lull in sales promotions. Sales for the fiscal year were up 15%, an increase the company expects to replicate this year. Patterson’s management remains cautious about the persistence of the improved sales achieved by its businesses, because customers remain hesitant about making new capital investments. Sales of dental consumables, which constitute a third of the entire company’s sales are recovering slowly. Patterson’s veterinary and medical rehabilitation/sports medicine businesses have achieved sustainable sales increases and improved operating margins. Management believes its medical business is positioned well to profit by utilizing the systems it has built to eliminate costs from acquisitions. Patterson’s stock price is up 6% since the beginning of the year.

Stryker Corp.

Stryker’s first quarter earnings of 80¢ per share increased 12.7% from the prior year. Revenues of $1.8 billion were up 12.4% on a reported basis and 8.7% in constant currency. The December 2009 Ascent Healthcare acquisition contributed 2.3% of the growth. Ascent reprocesses and remanufactures medical devices which provides cost savings and reduces medical waste for hospitals. MedSurg revenues of $722.2 million grew 12.2% with Ascent and a one-time order contributing 6% of the growth. Stryker reinforced its commitment to its $200 million three year manufacturing compliance program which has just completed its second year. An important tangible result of this program is the resolution of the final two FDA warning letters regarding the company’s manufacturing processes and compliance requirements.

Orthopaedic sales grew 6.4% to $1.1 billion in the quarter comprised of 9% domestic and 3% international growth. Three out of four businesses grew at or above 8% aided by new product launches in the knee and spine businesses. In 2009, Stryker narrowed its international knee business by eliminating country specific implants across Europe, which should drive more profitable international growth going forward. New product launches in the spine business led to sales growth of 8%.

Stryker’s hip business grew 4% in the quarter and is poised for stronger growth next year. The company lost market share in this business because about ten years ago it made a strategic decision not to offer a metal-on-metal hip implant, due to metal ion toxicity concerns. While metal-on-metal implants now account for one-third of the market, Stryker’s new hip implant has superior wear and performance characteristics to metal-on-metal implants while improving surgical efficiency and addressing the toxicity concerns. This example represents the systemic approach Stryker is taking throughout its Orthopaedic and MedSurg businesses as it develops new products and evaluates market opportunities. Stryker’s stock price has risen 5% since the beginning of the year.

SGS Group

SGS shares have declined 4% year-to-date because investors worry that profit generated by the company in the Euro zone will fall when translated into the strong Swiss Franc. SGS operations in Euro-based countries contribute 31.7% of company profit. Financial results for SGS will be reported in July for the first half of 2010. The company remains on track to deliver profitable growth this year.

Mettler-Toledo International Inc.

Mettler-Toledo’s first quarter sales were $416.7 million, an increase of 6% in local currencies with a 5% contribution to growth from currency. Earnings rose 13% to $1.10 per share over the same period last year. Sales increased 11% in the Americas and 15% in Asia while falling 1% in Europe. Laboratory and Industrial sales rose 9% and 7% respectively, while Food Retailing sales fell 5%. Strong sales of analytical instruments and pipettes contributed to the growth of the Laboratory business. Strong product inspection sales in North America and sales of industrial scales in China lifted Industrial sales. Sales rebounded strongly in the first quarter because most of Mettler-Toledo’s business is replacement business and their customers deferred replacing equipment when sales declined abruptly a year ago. Disciplined sourcing programs controlled material costs and pricing gains realized through Mettler-Toledo’s targeted sales programs helped deliver a 2.1 percentage point increase in gross margin to 52.3%. Mettler-Toledo’s stock price has risen 10% since the beginning of the year.

Mettler-Toledo continues to build the profitable Rainin pipette business with the launch of new products and by leveraging its global sales and service teams. The company recently launched the Rainin Liquidator 96, a manual pipefitting system for high throughput applications in life science labs. This portable instrument can fill a 96 well plate simultaneously in less than a minute and a 384 well plate in about a minute and a half. It uses Rainin’s proprietary LTS tips which require less force to dispense liquids and help prevent leaks. Mettler-Toledo’s global direct sales force sells and services its pipettes. Pipette calibration and service is critical to ensure accurate dispensing. The calibration labs are temperature and humidity-controlled to ensure proper calibration. They are also ISO 17-025 certified which is important to regulated pharmaceutical and food and beverage companies. Customers send their pipettes to the labs and receive them back in two days. Mettler-Toledo offers comprehensive services which include preventive maintenance, managing inventories of pipettes and tips and offering training programs. The recent acquisition of its U.K. pipette distributor strengthens Rainin’s international sales force and should contribute to the ninth year of double-digit sales growth in international markets.

Donaldson Inc.

Donaldson’s fiscal third quarter sales of $497 million and earnings of 62¢ per share rose 20% and 82% respectively from depressed levels a year ago. Excluding restructuring charges in each period, earnings of 65¢ per share rose 63% from the prior year. Engine filter sales of $293 million rose 31% with on-road and off-road filter growth of 55% and 22% respectively while aerospace and defense filter sales declined 9%. The pick up in off-road filter sales is the result of additional sales of new construction and mining equipment that contain Donaldson filters and a modest increase in farm equipment sales. Replacement filter sales rose 44% and represented 60% of total Engine sales. Higher equipment utilization and customer adoption of its difficult to copy innovative new filters lifted Donaldson’s highly profitable after-market sales. Industrial filter sales rose 3% to $115 million, gas turbine filters declined 4% to $43 million and disk drive filters and specialty membranes surged 43% to $47 million. Asia’s 25% sales gain led geographic growth followed by Europe and the Americas which experienced growth of 17% and 10% respectively.

Donaldson’s stock price is up 4% year-to-date. Donaldson’s restructuring efforts have enabled the company to reduce operating costs even as sales rebounded strongly from a year ago. Donaldson’s difficult decisions to reduce more expensive manufacturing facilities, such as a plant in Germany, while continuing to invest in new plants in China, the Czech Republic and India, results in a leaner operating structure and improved profitability now and in the years ahead. The company’s restructuring initiatives are now complete.

EnCana Corporation

The first quarter of 2010 marked EnCana’s first full quarter after its earnings became wholly dependent upon its North American gas production. Adjusted for last November’s split-out of its Canadian oilsand and U.S. refining assets, EnCana’s earnings of 56¢ in this year’s first quarter compare favorably with the 72¢ earned a year ago on its natural gas assets. This year, hedging gains on contracts to sell gas at $6.14 per mcf contributed 30%, or 17¢ to EnCana’s earnings. Gains on hedges at $9.22 per mcf a year ago amounted to 54¢, or 75% of EnCana’s earnings then. Proficiency in carefully hedging the risk of adverse price fluctuations to protect shareholder capital is an essential part of EnCana’s disciplined capital management. The company currently holds hedging contracts at $6.01 per mcf covering 60% of its remaining 2010 scheduled production. It also owns contracts at $6.50 per mcf protecting 27% and 25% of its planned production in 2011 and 2012. Natural gas production during the quarter rose to 3.3 billion cubic feet per day, 3% above the year-ago quarter.

EnCana’s owns 12.7 million net acres containing proven gas reserves of 12.8 trillion cubic feet. Most of its reserves are found in six of the most prolific natural gas basins in North America in large, contiguous acreage positions. These large tracts enable EnCana to achieve economies of scale that lower costs as it applies proven technologies to extract a progressively higher percentage of the gas in place from a single drilling location. In two of its basins, the company is accessing the gas in place on 640 acre sections (1 square mile) by drilling 14 to 16 wells from one location with horizontal extensions longer than a mile through the gas bearing shale or tight sandstone formations. Injection of a pressurized water and sand mixture into the gas bearing formation through more than twenty locations along the pipe gets the gas flowing. Centering drilling in one location reduces costs and the environmental impact. Only one access road, one pond for water recycling, one pipeline, and one storage crew and management structure is required. EnCana’s goal of doubling its natural gas production over the next five years depends upon its diligent imposition of disciplined cost controls to cut its production cost per mcf by 20% each year. Its current cost is less than $2.75 per mcf. EnCana’s stock price has declined 6% since the beginning of the year.

Cenovus Energy Inc.

Cenovus’ operating earnings for the quarter ending March 31, its first as an independent company, were 47¢ per share compared to 55¢ earned on comparable assets a year ago. Operating earnings exclude unrealized hedging gains which were $106 million higher at quarter end this year than a year ago. Cenovus has hedged 70% of its planned 2010 natural gas production at $6.07 per mcf and 20% of its oil production at $76.99 per barrel. The earnings decline results from slightly lower realized gas prices, despite gains on hedging contracts and operating losses at the two U.S. refineries it jointly owns with Conoco. No U.S. refineries made money during the first quarter, including Exxon’s.

During the quarter, Cenovus’ jointly-owned operation at Foster Creek became Alberta’s largest producer of bitumen through application of the steam assisted gravity drainage (SAGD) process. It is also the first SAGD site to achieve payout for royalty purposes. Although that results in a royalty rate increase, it is a positive milestone. Production of 51,000 barrels a day at Foster Creek net to Cenovus during the quarter was 96% higher than a year ago.

An independent engineering firm, McDaniel Associates, which has evaluated Foster Creek’s bitumen production potential since 1996, released at the end of April its revised estimate of Cenovus’ bitumen reserves at its two producing Athabasca sites, Foster Creek and Christina Lake. It determined that these sites contain 1.35 billion barrels of economically producible reserves. Through the application of existing techniques, Cenovus’ implementation of cost effective solutions to increase production were evident again in the current quarter when it reported that 12% of its current production at Foster Creek came from wedge wells. This practical innovation drains oil that otherwise would remain in spaces between the main wells recovering heated bitumen and water from the injected steam. Cenovus’ industry leading steam-to-oil ratio dropped further during the quarter to 2.3:1. Cenovus stock has risen 3% since the start of the year.

Exxon Mobil Corp.

Exxon’s stock price decline of nearly 11% since the start of the year largely results from a drop of over 11% since the explosive sinking of the Deepwater Horizon drilling rig, contracted by BP, caused the discovery well it was completing to spew oil uncontrollably into the Gulf of Mexico. BP’s inability to stop the flow or otherwise contain the oil appears to be an ecological and economic disaster. It harms all offshore producers irrespective of their safety record.

Before the disaster, Exxon’s stock drifted as though it were weighed down by the impending issuance of 8% more stock to acquire XTO, the largest owner of proven onshore U.S. unconventional natural gas reserves. The merger is scheduled to close by the end of June. Thereafter, Exxon can restart its significant stock repurchase program. The current short position in Exxon exceeds 88 million shares. At quarter end, Exxon’s cash-on-hand had risen to $13.7 billion. The company raised its quarterly dividend payable on June 10 by 5% to 44¢.

The company’s unremarkably good first quarter earnings had little effect on its stock price. Exxon’s 49% year-to-year earnings increase to $1.37 per share (before a 4¢ per share charge for retiree healthcare costs) is entirely attributable to it realizing an average oil price of $74 a barrel, 80% higher than last year’s average of $41. Production rose 4.5%. The company continued to increase liquefied natural gas (LNG) production on schedule from its joint venture with Qatar. Two-thirds of the output is sold under long-term contracts to Asian customers. The balance will be directed to markets in Europe where Exxon now operates two re-gasification terminals, one in South Hook, Wales with a capacity of 1.4 billion cubic feet per day, and a similar one offshore Italy in the Adriatic. Start-up of a third terminal on the Texas gulf coast with capacity of 2 billion cubic feet per day is scheduled to begin during the third quarter of this year. Exxon management expects their ability to ship gas to the highest priced market will suppress sudden surges in natural gas prices, which has made it seem an unreliable long-term fuel.

PepsiCo Inc.

PepsiCo’s first quarter earnings of 89¢ per share increased 23% from the prior year. Revenues of $9.4 billion and division operating profits of $1.4 billion on a constant currency basis increased 11% and 10% respectively from the prior year. Within its food and snack division, revenue growth was led by Latin America where revenues of $983 million increased 8%. Frito-Lay, accounting for 33% and 55% of company revenues and profits respectively, experienced the strongest profit growth of 9% driven by introductions of all-natural and lightly salted products. Joint promotion of new flavors of Doritos and Pepsi Max soda increased sales in convenience stores and contributed to revenue growth.

PepsiCo Americas Beverages’ revenues of $2.7 billion reflect the integration of its two largest independent bottlers acquired during the quarter. The transaction was completed close to the end of the quarter, so integration benefits will increase as the year progresses. PepsiCo expects the integration to deliver $125-$150 million of cost synergies this year and $400 million by 2012. PepsiCo continues to selectively target markets with notable products such as G Series Gatorade drinks, SoBe Life Water, Tropicana50 and AMP energy juice. The Asia, Middle East & Africa business, representing 11-12% of total revenues and profits, had strong revenue and profit growth of 18% and 12% respectively with particular strength in China from investments made to double manufacturing capacity and in the regional expansion of the blueberry-flavored Guo Bin Fen juice blend beverage developed specifically for the Chinese market. Marketing programs in China and India drove snacks volume up 13%. PepsiCo expects the second half of the year to be stronger than the first half. PepsiCo’s stock price has risen 3% since the beginning of the year.


Intel’s first quarter revenues and earnings of $10.3 billion and $2.4 billion, or 43¢ per share, were respectively 44% and almost 400% higher than results in the year-ago quarter. This achievement attests to Intel’s superb execution of an efficiency program begun in 2006. It removed $6.6 billion of non-essential, discretionary expense and pared the size of the company, while increasing the engineering headcount during the period. Software professionals now constitute 22% of Intel’s employees. They are responsible for making the Intel Architecture operate on all the company’s processors; no mean feat while the company launches more new products for more applications than ever.

Intel’s unmatched manufacturing prowess has enabled it to reduce the size of the connections on its processors from 65 nanometers to 45, and now 32 over the past four years. It is the only company in the world producing chips with such close tolerances. Each iteration compressing the connection size cuts unit manufacturing cost 40%, increases processor speed 25% and reduces power leakage by a factor of 10. Intel’s cumulative manufacturing experience enables it to accelerate the ramp to full scale production in 25 weeks compared to 50 weeks four years ago. Its production skills have enabled it to cut inventories by more than 30% because it can now fulfill customer orders in half the time it took before the efficiency program was fully implemented. During the past recession, demand for video spurred Intel’s sales of processors and chip sets for consumer devices while sales to business users fell severely as did other capital goods. Orders for servers and PC’s from business customers are now rising rapidly. The payback for a business user upgrading to an Intel server with a Nehalem microprocessor is 8 months! Over two-thirds of Intel’s sales are to Asian manufacturers. Only 14% goes to Europe.

On May 11 at Intel’s annual analyst meeting, Paul Otellini, the company’s CEO, announced unequivocally that Intel would achieve double digit revenue and earnings growth over the three years following this year’s strong recovery. Macroeconomic worries evidently have caused investors and traders to ignore his forecast. Intel’s stock price is up 6% since the beginning of the year.

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