2nd Quarter, 2020

The year 2020 has proven to be extraordinary for our financial markets with the United States Treasury actively creating money. These sums are not small. The $3 trillion deficit created by the Trump Administration’s CARES Act is so large no one talks about it. This newly created money has flowed into our economy and securities markets, lifting prices in almost all securities markets, but especially in ours. This “New Money” has resulted in a plethora of newly devised financial instruments along with arcane strategies to leverage these creations. These newly created instruments, like their predecessors throughout past centuries, encourage speculation that wipes out the speculators using them. Because our markets have not experienced an unusual rise, no one seems worried. We believe we all should be concerned about the possibility that this vast increase in arcane tradeable securities and derivatives has a history of inflicting pain on unwary speculators. Our comments are meant to remind ourselves and you that we are mindful of the dangers.


Microsoft reported strong fiscal fourth quarter and full year 2020 operating results driven by its deep enterprise customer relationships and robust consumer demand for laptops and services to help people work, learn and play from home. Quarterly revenue rose 13% to $38.0 billion and earnings of $1.46 per share rose 7%, excluding a $2.6 billion one-time tax benefit in Microsoft’s fiscal 2019 fourth quarter. For the year, revenue of $143.0 billion rose 14% and earnings of $5.76 per share increased 21% on a comparable basis. Microsoft’s Commercial Cloud revenue jumped 30% in the quarter to $14.3 billion and 36% in the year to $51.7 billion, or 36% of Microsoft’s total revenue. In Commercial Cloud’s fourth quarter, revenue from enterprise subscriptions to Office hosted on Microsoft servers grew 19% and new corporate users grew 15%, reflecting the company’s continued success adding new customers and converting existing subscribers to higher pricing tiers with more services. Azure revenue surged 47% primarily from growth in the consumption of Microsoft’s computing power by enterprises that pay more as they use more. With many office workers still working remotely, many of Microsoft’s enterprise customers have increased their usage of technology to add resilience to their businesses and enable innovation.

In More Personal Computing, quarterly revenue and operating income grew 14% and 15%, respectively, to $12.9 billion and $4.1 billion from healthy consumer demand for Surface tablets and laptops and Xbox videogaming. Consumers purchased Microsoft’s devices to work and attend school at home, driving Surface revenue up 28% to $1.7 billion and revenue from consumer versions of the Windows operating system up 34%. Time spent by users logged in to Windows 10, its newest operating system, rose 55% in the quarter. Microsoft also continues to invest in its Xbox gaming platform to handle more gamers playing from internet-connected devices such as phones and PCs in addition to its Xbox console. During the fourth quarter, revenue from Xbox Game Pass’ 10 million subscriptions, in-game purchases and advertising rose 65%. Gaming generated revenue of $11.6 billion in 2020, 8% of Microsoft’s total revenue. The total return on Microsoft’s stock is 31% since January 1.

IDEXX Laboratories

IDEXX Laboratories’ second quarter revenue of $638 million was 4% higher than the comparable quarter a year ago and marked the upturn in the company’s business which is evident in the company’s diagnostic recurring revenues. They declined 16% in April and then rose 8% in May followed by a 30% increase in June. Visits of sick animals to IDEXX clinics contributed 75% of IDEXX US diagnostic revenues which were down only 1% during the second quarter and contributed to the 6% gain in same store clinical visits during the first three weeks of July. IDEXX’s instrument placements remained high during the quarter as it placed 165 new Catalyst instruments at new and competitive North American accounts and 536 at new international accounts. During the quarter, IDEXX also placed 545 Hematology instruments and 275 SediVue instrument placements bringing the total installed base of SediVue instruments up to 9500. These successes resulted in an 18% increase in second quarter profit to $1.72 per share. The company’s improved profitability has encouraged management to consider discontinuing salary reductions implemented earlier this year. IDEXX’s stock price is up 39% since the start of the year.

Johnson & Johnson

Johnson & Johnson’s second quarter sales of $18.3 billion fell 8.8% in constant currencies during the second quarter of 2019, excluding the impact of acquisitions and divestitures. Consumers’ and patients’ responses to COVID-19 affected the performances of all of J&J’s businesses during the quarter. Consumers purchased more Tylenol and Listerine and fewer sunscreen, cosmetic and skin care products contributing to a 3.6% decline in Consumer Health’s sales to $3.3 billion. Delayed diagnoses and slower new patient starts because of office closures and access to physician-administered drugs reduced Pharmaceuticals’ revenue growth by 3.0 to 3.5 percentage points. Sales for the quarter rose 3.9% to $10.8 billion. Diagnostic testing and IV drug administration for oncology patients returned to pre-COVID levels in June.

Medical Devices’ revenue of $4.3 billion dropped 32.5% from the revenue reported a year ago. Orthopaedics revenue was down 34% to $1.4 billion because of restrictions on deferable procedures such as hip and knee replacements. Less recreation and travel reduced the number of trauma surgeries performed during the quarter. Revenue from J&J’s Vision business fell 39.3% to $695 million as fewer people either started wearing contact lenses or purchased replacements. Cataract surgeries fell 55% during the quarter. Surgery revenue fell 32% to $1.6 billion. Surgery rates in the categories in which J&J operates returned to 85% to 90% of pre-COVID levels in the U.S. by the end of June.

Johnson & Johnson continues to make steady progress on the development of its coronavirus vaccine. On September 3, 2020, a team of researchers led by Beth Israel Deaconness Medical Center in Boston, MA, who are developing the vaccine with J&J, published a paper in Nature Medicine that showed that Syrian golden hamsters, which are more susceptible to severe pneumonia and death when exposed to the coronavirus than are primates, developed strong neutralizing antibodies after getting the vaccine. Higher antibody levels correlated with fewer symptoms and lower virus levels in the lungs and other organs. Fewer vaccinated animals died. These data support the efficacy of the vaccine. J&J plans to start a Phase III clinical trial with 60,000 patients in mid- to late-September.

Second quarter adjusted earnings per share of $1.67 were 35% lower than a year ago. The Pharmaceutical and Consumer businesses achieved pre-tax income margins of 44.3% and 24.5%, increases of 2.5 and 3.1 percentage points, respectively. Favorable product mix and lower SG&A costs contributed to the improvement in Pharmaceuticals’ margins. Planned prioritization and optimization of brand marketing expenses lifted Consumer’s margins. Medical Devices’ margin fell to 1.2% as the sales decline resulted in idle manufacturing lines and continuing overhead costs. The total return of Johnson & Johnson’s stock is 4% since January 1.


Visa’s fiscal third quarter operating results were significantly impacted by travel restrictions caused by the COVID-19 pandemic. Revenue and earnings per share of $4.8 billion and $1.06, respectively, declined 17% and 23%. At the end of June, 189 out of 217 countries were partially or completely closed to foreign visitors causing travel-related spending on Visa cards to plummet by 78% during the quarter. The substantial reduction in travel and ongoing virus-related business closures or limitations in some parts of the world also severely hampered spending on entertainment, fuel and restaurants. In the U.S., these spending categories, which comprise about one-third of Visa’s payments volume, declined over 50% in April and started to recover by July.

U.S. credit card spending declined 30% in April and partially recovered to a decline of 8% in July and August. The sharp drop in travel and leisure spending contributed to the decline because more affluent customers tend to use credit cards instead of debit cards for these purchases. U.S. debit card spending only dipped by 5% at its April nadir and returned to growth of 25% in July and August. The U.S. government’s Economic Impact Payments and enhanced unemployment benefits helped the recovery in debit spending. For the quarter, U.S. credit payments volume of $417 billion dropped 21% and debit payments volume of $532 billion rose 8% for total U.S. payments volume of $949 billion, down 7% from a year ago. Globally, Visa payments volume of $2.0 trillion declined 10% in constant dollars. Growth in online shopping and spending in less discretionary categories such as food and drug stores, home improvement and certain retail goods partially offset the travel and leisure spending declines. These categories also comprise one-third of Visa’s U.S. payments volume and have grown by more than 15% each week since mid-April. In e-commerce, where cash and check are ineffective, spending excluding travel has risen by more than 25% since the second half of April.

In response to the lower payments volume caused by the pandemic, Visa management reduced operating expenses by 5% to $1.8 billion in the quarter while maintaining investments in its technical infrastructure and in growth areas such as Visa Direct, where transactions rose over 60% in the quarter, and in security, data analytics and other value added services, where revenue rose more than 12%. The total return on Visa’s stock is 10% since January 1.


Pent-up demand in China for Mettler-Toledo’s products along with an earlier-than-expected opening of many economies in Europe contributed to the company’s good second quarter results. Sales to biopharma, packaged food and chemical companies as well as testing labs remained strong as the company identified thousands of customer sites with growth potential through the analysis of its internal and external data sources. Sales declined 4% in local currencies over the second quarter of 2019 to $691 million. Sales in the Americas and Europe fell 7% and 5%, respectively, while sales in China rose 8% contributing to a 1% rise in sales in Asia. The company’s pricing and productivity initiatives contributed to a 0.2 percentage point increase in the quarter’s gross margin to 57.6%, up from 54.6% a year ago. Increased use of on-line sales tools, less travel and lower variable compensation reduced selling, general and administrative costs by 7% from a year ago to $190 million. Earnings per share rose 3% to $5.29.

Mettler-Toledo’s Process Analytics business had a strong quarter and helped keep the decline in Laboratory’s quarterly revenue to 4%. This business provides real-time measurement of key process control parameters in bioprocessors and in pharmaceutical manufacturing processes that require ultrapure water. The company recently introduced fast and easy-to-use sensors that measure concentrations of oxygen and hydrochloric acid gas in reaction vessels to ensure that chemical manufacturing processes remain safe. Process Analytics has consumable sales because the sensors degrade over time and must be replaced. Mettler’s Intelligent Sensor Management software provides real-time diagnostic information while the sensor is working. The software delivers more accurate measurements and helps avoid process downtime. Process Analytics is one of Mettler’s fastest growing and most profitable businesses. Mettler-Toledo’s stock price has risen 25% since the beginning of the year.


Alphabet’s second quarter revenue of $38.3 billion declined 2% from the second quarter of 2019 and was flat after adjusting for currency fluctuations. Earnings per share of $8.54, excluding net gains and performance fees on equity security investments, declined 27% as large fixed costs such as the depreciation of Google’s enormous investment in datacenters increased independently of revenue. An 8% decline in advertising revenue to $29.9 billion caused the company’s revenue decline. Advertisers reduced spending broadly in response to the COVID-19-related economic contraction. Google focused on providing relevant and up-to-date information about the illness in over 70 languages in 200 countries, including displaying 12,000 testing centers in 20 countries on Google Search and Maps. As Search activity returned to more commercial topics, Google supplied information about local businesses including take-out, curbside pickup, updated operating hours and virtual services. By the end of June, Search revenues were even with those from a year ago despite the sluggish recovery in travel spending which prevented further growth.

The decline in ad revenue was mostly offset by a 31% rise in Alphabet’s non-advertising revenue to $8.4 billion, 22% of Alphabet’s total revenue and up from 17% a year earlier. Non-ad revenue growth was driven by Google Cloud Platform, Play Store purchases and YouTube subscriptions. Play Store purchases rose 35% while Google Cloud revenue rose 43% to $3.0 billion. Google Cloud’s expanded enterprise sales force successfully secured longer contracts from businesses choosing Google to improve operating efficiency on Google’s infrastructure, or to spur innovation using Google’s data and analytics tools. Google’s backlog, primarily from future contracted services to be provided by Google Cloud, reached $14.8 billion at the end of the quarter, up 30% in just six months, with half to be earned over the next two years and half to be earned thereafter. Alphabet’s stock price has risen 14% since January 1.


ADP reported good fiscal fourth quarter results despite an unprecedented global employment decline and a 10.8% decline in the number of employees being paid on ADP’s existing client payrolls in the U.S. Revenue during the quarter of $3.4 billion declined 2% on an organic constant currency basis from the same period a year ago while adjusted earnings of $1.14 per share were flat. A strong focus on controlling expenses, along with the benefit of previous efficiency initiatives and a reduced share count from its share buyback program, drove the good results in this difficult operating environment. For the full fiscal year ending June 30, ADP’s revenue of $14.6 billion and adjusted earnings of $5.92 per share rose 4% and 9%, respectively, on the same basis from the prior year. PEO (professional employer organization which provides a comprehensive HR, benefits, payroll and regulatory compliance solution) revenue of nearly $1.1 billion during the quarter rose 4% as average worksite employees decreased 3% to 548,000. Interest earned on client funds declined 22% to $115 million during the quarter as average fund balances of $24 billion declined 8% and the average interest yield declined 30 basis points to 1.9%. The Fed’s zero interest rate policy will continue to negatively impact ADP’s interest earnings as maturing AAA and AA securities are reinvested at lower yields. As a result of disruptions to most businesses caused by COVID-19, ADP’s new business bookings declined 67% in the quarter and 21% in the fiscal year.

ADP’s client satisfaction remains at or near record levels across the company as its employees use its innovative technology to provide service and support to respond to its clients’ needs. ADP continues to invest in product improvements and has responded to 2,000 legislative updates in 60 countries by implementing over 1,000 feature changes in its products. ADP also supported more than 400,000 of its clients who ran over two million Paycheck Protection Program reports for total loans of $115 billion. ADP’s customer responsiveness during the pandemic has made their needed services more valuable to companies who see the benefits of ADP’s expertise and service to help manage their employees during this time of uncertainty. Client retention of 90.5% for the fiscal year declined 20 basis points from record highs as small businesses struggle. Its mid-size customers’ retention remained at record levels and retention of its large customers rose. ADP’s net promoter score, which tracks customer satisfaction, reached record levels in June. The total return on ADP’s stock is -18% since the beginning of the year.


Mandated COVID-19 restrictions of in-restaurant dining, large entertainment events and travel depressed second quarter revenue of Ecolab’s Institutional business by 50% over the same period a year ago, while the company’s sales for the quarter of $2.77 billion fell 14% in constant currencies over the second quarter of 2019, excluding the impact of acquisitions and divestitures. Earnings per share fell 49% to 65¢ per share as a 16% reduction in volume reduced operating leverage. Reduced distributor inventories and the company’s decision to suspend second quarter lease payments for dishwashing machines for long-term customers reduced earnings per share by 6¢ and 10¢, respectively. Bad debt expense reduced earnings per share by 7¢.

Global Institutional sales of $710 million fell 36% as Specialty revenue growth offset some of the decline in Institutional sales. Increased demand for cleaning and sanitizing products contributed to 31% growth in sales to food retailers as grocery volumes soared during the April and May lockdowns. Demand for the company’s large-scale sanitizing programs contributed to 22% revenue growth of Global Healthcare and Life Sciences to $302 million. Global Industrial revenue fell 5% to $1.47 billion with reduced demand for transportation fuels leading to a 9% decline in Downstream revenue. That decline was partly offset by revenue growth in Food & Beverage as it continues to gain new customers. Operating income grew 28% to $282 million and the operating margin rose 4.5 percentage points to 19.2%, with about half of the growth coming from reduced sales bonuses and lower travel and entertainment expenses.

Ecolab’s Institutional transactions fell 80% in April, 30% in June and continued to recover in July and August. The company is preparing for hotel and restaurant re-openings with new programs to find and treat mold and legionella in HVAC systems and with the launch of its SMARTPOWER cleaning and sanitizing product for surfaces. It kills the coronavirus, influenza and food-borne bacteria in 30 seconds after application. The speed of action of this product enables workers to maintain enhanced cleaning programs that are audited as part of the Ecolab Science Certified program. This program drives heightened hygiene standards and outcomes with Ecolab’s customers and increases the comfort of guests who want to see that restaurants and hotel rooms are clean. The program also helps Ecolab sell more products. The total return on Ecolab’s stock is 8% since the beginning of the year.


After surging in the first quarter during the initial break-out of COVID-19, market volatility and CME’s trading volumes eased during the second quarter. Average daily volume (ADV) of futures and options of 17.6 million declined 16% from the prior year. Foreign exchange, metals and agricultural commodities contract volume fell 17%, 18% and 29%, respectively, while energy contract volume rose 4%. CME’s introduction of the Micro E-mini S&P 500 futures contract a year ago helped equity index ADV increase 60% to 5.6 million. The Fed’s strong monetary policy response to the pandemic, including the re-imposition of zero interest rates, led to a reduction in interest rate transaction volume by 61% to 6.9 million contracts. The Fed’s actions lowered volatility which reduces trading opportunities and the need to hedge short-term interest rate risk. This was the lowest volatility in the Eurodollar futures since the contract was created in 1987.

CME’s revenues of $1.18 billion declined 7% from the prior year as the decline in clearing and transaction fees was partially offset by increases in market data, information services and other. Adjusted earnings of $1.63 per share also declined 7% from the prior year. Strength in CME Market Data came from an increase in professional subscribers as traders moved from work to home environments. CME Market Data is also increasingly being embedded in clients’ newly created automated trading solutions. CME has made its data more accessible to customers via CME Smart Stream which provides access to the data on the Google Cloud Platform. It is the first exchange to offer real-time market data via cloud native services which enables easier access and usage-based pricing. Despite the sales challenges caused by the pandemic by limiting travel and in person meetings, client engagement by CME’s sales organization was up 66% from a year ago via virtual meetings, webinars, online events, email and chat. New product innovation has been a key long-term driver of growth of CME. CME reintroduced its 3-Year Treasury Note future and launched options trading on the successful Micro E-mini S&P 500 contract in August. During the first half of the year, products launched in the past 10 years produced 3.2 million ADV, up 52% from the same period last year representing revenues of $193 million. The total return on CME’s stock is -14% since the beginning of the year.


Costco will report its fiscal fourth quarter and full year operating results on September 24, 2020. Management reported sales figures for the period ending August 30 on September 2. Sales growth accelerated during Costco’s sixteen-week fourth quarter rising 7.5% to $11.7 billion in May, 11.1% to $16.2 billion in June, 14.1% to $13.0 billion in July and 15.0% to $13.6 billion in August. Strong demand for Costco’s exceptional value on home appliances, consumer electronics, gardening equipment and fresh, dry and frozen foods drove this growth. Costco.com also performed well and benefited from consumers’ preference for e-commerce during the pandemic. E-commerce revenue rose 90.6% in the fourth quarter. The total return on Costco’s stock is 18% since January 1.

Varian Medical Systems

On August 2, 2020, Siemens Healthineers AG announced that it was acquiring Varian Medical Systems for $16.4 billion in cash or $177.50 per share. The companies have worked closely together since April 2012 when they signed an agreement to co-market each other’s products and to co-develop new ones. Varian developed a version of its first-in-class Eclipse treatment planning software for Siemens’ radiation systems as well as an interface to its ARIA oncology information management system. These new software interfaces make it easier for oncology clinics that used Siemens systems to switch to Varian’s software and to replace their aging radiation systems with Varian’s newer technology. As part of Siemens Healthineers, Varian’s researchers will have access to Siemens’ vast pool of images to create new digital and AI products and will gain access to Siemens’ large sales and service organization. The new sales organization will accelerate sales of Varian’s systems and software in low and middle income countries, which are most in need of more advanced cancer care. Varian expects the acquisition to close during the first half of next year. We are pleased that Siemens has recognized Varian’s work to transform the company. The acquisition is a win for shareholders, the company and, most of all, for cancer patients. Varian Medical Systems’ stock price has risen 22% since the beginning of the year.

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Capital Counsel’s investment strategy combines disciplined fundamental analysis with patient execution. We hope this letter helps you understand that stock selection is at the core of our investment strategy. We seek to invest in profitable well-managed companies that generate recurring free cash flow. These companies should possess strong balance sheets and earn attractive rates of return on shareholders’ capital. We know the companies and their proven execution focused managers well. They deal with problems openly and effectively, and have incentives aligned with shareholders. We evaluate the company, as an informed private buyer might, to determine the value of the business based upon its ability to generate free cash flow. We manage concentrated portfolios which have provided our clients with good long-term results. The financial strength of the companies held in client portfolios has lessened the drop experienced when markets decline.

Client portfolio holdings may change, and stocks of companies noted may or may not be held by one or more client portfolios from time to time. Investors should not consider references to individual securities as an endorsement or recommendation to purchase or sell such securities. Transactions in such securities may be made which seemingly contradict the references to them for a variety of reasons, including but not limited to, liquidity to meet redemptions or overall client portfolio rebalancing. Investing in the stock market involves gains and losses and may not be suitable for all investors. Investment return and principal value of an investment will fluctuate.