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Jacobs Engineering Group – Taking a Constructive Long-Term View

October 14, 2009 | About:
JEC:NYSE --- Oct. 14, 2009 - $44.60

52-week range: $26.00 (Nov. 20, 2008) - $54.71 (Jan. 6, 2009)


Jacobs Engineering Group provides engineering, procurement, construction, and maintenance services to a wide range of customers, including oil and gas, chemical, pharmaceutical companies as well as for U.S. federal government agencies. Most work takes place in the USA, U.K. and Ireland.


Jacobs has had an enviable long-term record of increasing sales, earnings and book value. They have done this all with internally generated funds. As of June 30th they held $1.059 billion in cash against less than $48 million in total debt.


Here are their per share (split adjusted) numbers as reported by Value Line:




FY (end Sep.)


Sales


C/F


EPS


B/V


Avg. P/E


2002


41.59


1.32


0.99


6.30


17.5x


2003


41.33


1.46


1.14


7.54


17.1x


2004


40.51


1.44


1.13


8.86


19.3x


2005


48.47


1.71


1.29


9.81


20.2x


2006


62.90


2.08


1.64


12.03


23.4x


2007


70.49


2.85


2.35


15.34


21.6x


2008


91.70


3.98


3.34


18.30


24.1x





Zacks sees FY 2009 and FY 2010 EPS at $3.26 and $2.98 respectively. That takes into account both the slow economy as well as the less than robust market conditions in the oil and gas industry.


That puts the trailing multiple at about 13.7x and the forward year’s P/E at< 15x. Compare those with the historical P/E valuations in the prior 7 years from the chart above. A return to about 17 times what should be cyclically low FY 2010 earnings would bring these shares back to over $50 again.


Value Line projects EPS of $4.60 over the next 3 - 5 years. Morningstar assigns a current ‘fair value’ of $53 /share. Standard and Poors assigns JEC their highest (5-Star) rating and carries a 12-month price target of $57 /share. Value Line also notes that Jacobs Engineering has 90th percentile rankings in both ‘price growth persistence’ and ‘earnings predictability’ (with 100th being best).


How can you best play a high-quality stock like Jacobs when you feel the year-ahead earnings will be lower? Consider buying the shares and selling LEAP options for 2012.


Why so long? By then earnings should be picking up with the broader economy. If you leave both the shares and the options alone through their early 2012 expiration (and things go as expected) you will get tax deferment on the gains until you file your tax-year 2012 Schedule D in April 2013.


Jacobs has a fairly high (1.45) Beta making options premiums quite attractive for sellers.

Here’s a play that looks quite good to me right now…






Cash Outlay


Cash Inflow


Buy 1000 JEC @$44.60 /share


$44,600




Sell 10 Jan. 2012 $50 calls @$10.30 /sh.




$10,300


Sell 10 Jan. 2012 $50 puts @$14.30/sh.




$14,300


Net Cash Out-of-Pocket


$20,000








If Jacobs Engineering rises to at least $50 (+12.1%) by the Jan. 2012 expiration date:

· The $50 calls will be exercised.

· You will sell your shares for $50,000.

· The $50 puts will expire worthless.

· You will have no further option obligations.

· You will end up with no shares and $50,000 cash.


That would be a best-case scenario gain of $30,000/$50,000 or 150% profit

on shares that only needed to rise by 12.1% over the 27-month term of this trade.

That’s a very nice annualized return.


What’s the risk?


If JEC fails to rise to $50 by expiration date in Jan. 2012:


· The $50 calls will expire worthless.

· The $50 puts will be exercised.

· You will be forced to buy another 1000 JEC shares.

· You will need to lay out an additional $50,000 in cash.

· You will end up with 2000 shares of JEC.




What’s the break-even point on the whole trade?


On the original 1000 shares it’s their $44.60 /share purchase price

less the $10.30 /share call premium = $34.30 /share.


On the ‘put’ shares it’s the $50 strike price less the $14.30 /share

put premium = $35.70 /share.


You average cost would be $35.00 /share.

JEC could drop by as much as $9.60 /share or (-21.5%) without

causing a loss on this trade. While it’s not impossible that Jacobs could be that low it seems unlikely. The absolute lows in calendar 2006 and 2007 were $33.60 and $38.30 respectively on EPS of $1.64 and $2.35. Book Value has increased about 80% since 2006 and EPS by almost 99%.




Disclosure: Author is long JEC shares and short JEC options.

About the author:

Dr. Paul Price
http://www.RealMoneyPro.com
http://www.TalkMarkets.com

Visit Dr. Paul Price's Website


Rating: 4.5/5 (6 votes)

Comments

DaveinHackensack
DaveinHackensack - 4 years ago
Most work takes place in the USA, U.K. and Ireland.USA = bad economy.

UK = worse economy

Ireland = awful economy.

Maybe that's all priced into this stock, I have no idea. But Ireland's economy in particular is among the hardest hit of any developed country now.

Dr. Paul Price
Dr. Paul Price premium member - 4 years ago


Dave,

When things looked good in those geographic areas JEC shares traded at $99.60 and $103.30 peak prices (in 2007- early 2008).

At today's price it look cheap. With the extra cushion from the options it looks even better.
DaveinHackensack
DaveinHackensack - 4 years ago
Fair enough, Paul. You know more about this company than me. Just pointing out for those who are unaware that those two countries aren't in great shape economically now.
rharmelink
Rharmelink - 4 years ago
To give the 150% return some context, using a similar position and calculations on SPY:

DescriptionOutflowInflow
Buy 500 SPY @ $108.08 / share$54,040
Sell 5 Dec 2011 $120 call @ $8.50 / share$4,250
Sell 5 Dec 2011 $120 put @ $22.10 / share$11,050
Net Cash Out-of-Pocket$38,740
Cash proceeds from exercised call$61,000
Dividends$2,552
Total Return103.5%
Dr. Paul Price
Dr. Paul Price premium member - 4 years ago


rharmelink,

Your math is wrong. If your prices are correct...

Net Outlay $38,740 less $2,552 in dividends = $36,188.

$61,000 - $36,188 = $24,812 profit

$24,812 / $36,188 = 68.56% NOT 103.5%
rharmelink
Rharmelink - 4 years ago
The dividends can't be subtracted from the initial outlay -- they will be paid over the 26 months between now and the end of 2011. But you're right -- I did double-book the options, as I thought you were doing, but it appears you're not. My apologies. How about:

DescriptionOutflowInflow
Buy 500 SPY @ $108.08 / share$54,040
Sell 5 Dec 2011 $120 call @ $8.50 / share$4,250
Sell 5 Dec 2011 $120 put @ $22.10 / share$11,050
Net Cash Out-of-Pocket$38,740
Cash proceeds from exercised call$61,000
Dividends$2,552
Total Return64.0%


valueworldguru
Valueworldguru - 4 years ago
JEC took a hit today. Does the above thesis still hold and make it an attractive buying opportunity.
Dr. Paul Price
Dr. Paul Price premium member - 4 years ago


I wrote some Jan. 2012 $50 puts today.
Adib Motiwala
Adib Motiwala - 4 years ago
I was using the same strategy of buy- write as well as writing Put options, however i was doing it for 1 month expiration. The 2nd month i got hit when JEC took a hit. I now own shares at $45 minus the option premiums collected for 2 months.

Should I sell covered call for 2012 now or wait for it to cover to 40's ? I dont want to write PUTS and add to my holding in case JEC is still down.
Li Na
Li Na - 4 years ago
Hold the shares and wait to write calls until the price is better.
Adib Motiwala
Adib Motiwala - 4 years ago
In the calculation of out of pocket total, how come the margin to be maintained or cash for the Cash Covered put is not taken into consideration ? The return changes drastically if that is accounted for
Dr. Paul Price
Dr. Paul Price premium member - 4 years ago


Shares of Jacobs Engineering rise after upgrade to ‘Overweight’ at JPMorgan

JEC $45.97

NEW YORK (AP) — Shares of Jacobs Engineering Group rose Wednesday after a JPMorgan analyst upgraded the stock, predicting the company will be among the engineering and construction firms to recover from the recession the soonest.

The stock climbed $1.44, or 3.3 percent, to $45.68 in afternoon trading.

Analyst Scott Levine lifted his rating on the stock to “Overweight” from “Neutral,” suggesting Jacobs’ margins should stay stronger that most of its peers, despite a heavily competitive industry. He raised his earnings forecast for this year and next, citing his expectation of improving construction demand and a belief that Jacobs should see its margins hit their worst point within the next few quarters.

Levine also noted the company’s strong balance sheet should allow it to pursue acquisitions. Recent partnerships should also position the company for growth in new markets, he said.
Dr. Paul Price
Dr. Paul Price premium member - 4 years ago


Takeover rumors are flying on JEC.

Shares are up 6.3% on these unsubstantiated reports.

Stay tuned for future developments.

joetong420
Joetong420 - 4 years ago
Interesting if the rumor becomes fact and not fiction.

If a false rumor, JEC goes back to lower 40s. Value play...if you got patience.

Expected takeunder price is always low...at most 55-58. If you're a long-term holder since 2008, buying at 75-100, that's a loss.

GLTA.

superguru
Superguru - 4 years ago
Great call on JEC, Dr. Price. We do not appreciate you enough for bringing all these excellent investment opportunities.

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