Plus, what we want to hear about from Tesla and Alphabet during their earnings calls this week.
On this week’s episode of The Morning Filter, David Sekera and Susan Dziubinski unpack the latest inflation numbers and debate whether the numbers will influence the Federal Reserve’s interest rate decision later this month. They also discuss which company earnings reports matter this week (hint: Tesla TSLA and Alphabet GOOGL top the list) and which stocks look attractive after reporting last week. They cover key takeaways from bank earnings, fair value estimate changes for Nvidia NVDA and Advanced Micro Devices AMD, and what Morningstar thinks of the possible breakup at Kraft Heinz KHC, too.
Dave’s stock picks this week are a trio of names that’ve outperformed the market during the past year yet still look undervalued today.
Episode highlights:
Read about topics from this episode.
Read Dave’s 3Q Stock Market Outlook: Q3 2025 Stock Market Outlook: After the Rally, What’s Still Undervalued?
Follow Morningstar’s coverage of earnings season: Company Earnings
Learn more about Morningstar’s approach to stock investing: Morningstar’s Guide to Investing in Stocks
Read the full analyst earnings reports for Johnson & Johnson, Taiwan Semiconductor Manufacturing, and JPMorgan Chase.
Got a question for Dave? Send it to themorningfilter@morningstar.com.
Follow us on social media.
Dave Sekera on X: @MstarMarkets
Dave Sekera on LinkedIn: https://www.linkedin.com/in/davesekera
Facebook: https://www.facebook.com/MorningstarInc/
X: https://x.com/MorningstarInc
Instagram: https://www.instagram.com/morningstar...
LinkedIn: https://www.linkedin.com/company/5161/
Viewers who’d like more information about any of the stocks Dave talked about today can visit Morningstar.com for more details.
Read more from Susan and Dave:
Susan Dziubinski https://www.morningstar.com/people/susan-dziubinski
Dave Sekera https://www.morningstar.com/people/david-sekera
Subscribe to The Morning Filter to get notified when we post. We’ll see you next Monday!
Susan Dziubinski: Hello and welcome to The Morning Filter. I’m Susan Dziubinski with Morningstar. Every Monday before market open, Morningstar chief US market strategist Dave Sekera and I sit down and talk about what investors should have on their radars for the week, some new Morningstar research, and a few stock ideas.
Now, Dave and I are pretaping this episode on the morning of Friday, July 18, so our comments don’t reflect any news that may have happened on Friday or over the weekend. Dave, thank you for your flexibility on taping early so I could have some extra family time with my kids this weekend. Appreciate it.
David Sekera: Of course, Susan. I’m taking a little time off myself, heading up to Canada to do a little fishing with my son and some other people, so it’s all good.
Dziubinski: That’s great. All right. Well, then let’s kick off this week’s episode with your read on the inflation numbers from last week and what these numbers may mean for the Fed’s next move or lack of movement.
Sekera: Taking a look at CPI, it came in at a rate that was slightly faster than what had been in the prior month, but it did come in at least better than expectations. Taking a look at some of the numbers here, our US economics team noted there is a little bit of tariff-induced inflation, but really not a meaningful amount at this point. Now, PPI, on the other hand, did come in much lower than expectations. But either way, in my opinion, I just don’t think it’s going to change anything about the way the Fed is thinking right now.
The Fed still expects that tariffs will at some point start increasing inflation. I think ideally they want to see clarity as far as what the trade terms are, what the tariffs are going to be once all the negotiations are done, before they start making changes to monetary policy. From their perspective, I just don’t think that they see any need, or at least most of the members don’t see any real need to make any near-term moves.
When I think about their dual mandate, you know, inflation is still a bit above target, but I don’t think it’s above target worryingly so. The economy does seem to be like it’s slowing, but again, not slowing to the point where it’s all that concerning. The labor market is holding up better than expected. For example, nonfarm payrolls that came out last were better than what the market was expecting. The only thing is I just have to caveat everything I’m saying here.
Now, I sound like an economist, but the tariffs have caused a lot of economic dislocation. Personally, I’m not relying on the economic metrics all that much right now. They could change pretty rapidly over the next couple of months, whether or not we see the tariffs really starting to come through in the inflation numbers and whether or not the economy maybe starts slowing more than expected, which of course could hit the labor markets.
Dziubinski: You have a few economic reports on radar this week, including new and existing home sales and durable-goods orders. Why are you watching these reports, and are there any others that you’ll be keeping an eye on?
Sekera: Now, to some degree, I’m watching these a little bit more than I typically do because it is so hard reading in the larger headline numbers what’s going on with the economy. In this case, I’ll be watching the durable-goods orders just to see how they’re coming out and whether we think that’s going to impact reported GDP for the second half of the year. Now, you have to remember there is a lag time, and depending on the type of durable good, but it’s on average you know three to nine months between when you see the changes in durable-goods orders from when it actually starts to impact the broader economy.
Looking at the last couple of reports there’s been some huge swings here, We had a big increase in March that was everyone that was trying to front-run the impact of all the tariffs, and then you had the giveback in April when there was a big decrease, and then of course it swung back again in May, but that was really due to a surge in aircraft orders for Boeing BA planes. At this point, the consensus for June is for a big decline, for it to be down to 11%. In this case, if it does come in better than expected, that may indicate the economy may not necessarily slow as much as expected as well.
Now, taking a look at the housing market, housing, of course, is a very meaningful part of GDP overall. Housing has been on a slightly slowing trend probably over the past 52 weeks or so. New home construction and that multiplier effect have a big impact on the GDP. Then existing home sales, I’ll watch that just because when you have turnover in existing homes, that leads to a lot of remodeling, a lot of purchases for appliances and other goods. That spending also has a multiplier effect as well.
Lastly, I’m also going to keep an eye on the PMI reports. That’s the Purchasing Managers Index, both the services and the manufacturing components. These are indicators if activity is expanding or contracting. As a reminder for people that are listening to this episode, it’s what’s called a diffusion index. So, if the number comes in above 50, that indicates that the economy is expanding. If it comes in below 50, that means that the economy is contracting.
Dziubinski: All right. Pivoting over to some companies that will be reporting earnings this week. Let’s start with Tesla. There’s always a lot going on with Tesla. We already know that second quarter deliveries were down year over year. We also know that Tesla has started robotaxi testing. What do you want to hear about?
Sekera: Well, not only are second quarter deliveries down year over year, but I think that’s now the second quarter in a row of declining deliveries. Now, having said that, I quickly spoke with Seth [Goldstein, Morningstar senior analyst]. He said that’s actually in line with his 2025 forecast. Deliveries are down overall about 13% for the first half of the year. He just thinks that really indicates that the current product lineup at Tesla is probably close to market saturation. I know one of the big things that he’s going to be listening for will be any updates on the timing to launch Tesla’s new affordable vehicle. I think that affordable vehicle really is going to be the key to the valuation of this company, at least over the short term. Taking a look at our model, we expect that Tesla can ramp up the affordable vehicle sales up to 1 million annually by 2028.
Now, to put that in perspective, it looks like we’re currently estimating total vehicle sales this year of 1.7 million, growing to 2.7 million in 2028. That’s a really large part of our assumptions there. Then I also just want to hear what’s going on with the robotaxi testing, what steps they still need to take to get the full launch. If that were to come up faster than expected, that could be a good bump for the stock here in the short term. At this point, our view is that Tesla won’t be able to see full robotaxi launch until 2028.
Dziubinski: I just encourage our audience: Seth Goldstein, who’s Morningstar’s analyst on Tesla, is very prolific with his stock analyst notes on Tesla. If you are interested in Tesla stock, I really think I’d recommend Seth’s work. I’m not just saying that because I’m employed by Morningstar. Anyway.
Sekera: But yes, that too.
Dziubinski: That too, yeah. Now, Tesla’s stock has been on a real roller-coaster ride this year, and as we’re taping this, it’s down about 20% year to date. How does it look from a valuation standpoint heading into earnings?
Sekera: This stock has had a lot of impact in the price just because of Elon Musk and what he’s been doing over the past year or so. I think with this one, you really just need to get away from that headline noise, focus on the fundamentals. I did open up our equity model here, took a look through. So right now, just to give you some perspective, our compound annual growth rate for revenue over the next five years is about 14% per year. We are looking for additional margin expansion on top of that. That gets us to a compound annual growth rate for earnings over the next five years of 24%. So, pretty strong earnings.
Now, even after incorporating all of that, we do think the stock is still overvalued, at this point. Trades at a 30% premium to our fair value. It’s a 2-star-rated stock. We are looking for earnings this year of $1.64, but again, this is very much a growth stock, so you’re really not buying it based on this year’s earnings. Taking a look at 2028, that was the year that we expect kind of that $1 million in affordable sales for the affordable vehicle to roll out. Our earnings per share is up to $4.26 by that point in time. But again, it’s still a very highly valued stock, even using essentially $4.25 in 2028, the stock’s trading at 75 times 2028 earnings.
Dziubinski: Alphabet also reports this week, and this is a stock that’s been a pick of yours quite a few times in the past year. What do you want to hear about from management here?
Sekera: I have a couple of notes here from the analyst who covers this stock. Specifically, he’s going to want to hear any commentary about the generative AI search, really what’s going on with monetization rates there. But, of course, what’s going on with the overall search business and the health of the search overall.
With Google Cloud, just how the performance has been going there. Now, overall, Google Cloud, we think it still remains supply-constrained in the short term, that there’s still a lot more demand than they’re able to handle at this point. We do expect acceleration in the second half of 2025 as additional capacity comes online. I think we just want to make sure that that’s still an accurate forecast at this point.
The other thing you noted is that we’ve been hearing some reports that Google has been more successful in courting AI startups to come to their cloud platform. We’ll want to see if that’s starting to show up in the results just yet. Then lastly, with YouTube, one of their other really big divisions, any discussion covering generative AI and how that may be impacting that business.
Specifically, there are a couple of different features that he pointed out, the auto translation, ad campaign creation, creator tools for video editing and creation. He thinks that longer term, this is going to end up helping to increase the average revenue per user as these features are used more and more. So really, a couple of different things going on here, but overall, it’s just really going to be just kind of a run-of-the-mill general update for the quarter.
Dziubinski: Alphabet stock still looks really undervalued, according to Morningstar. Do you think anything could come out of either the earnings results or the call that could maybe act as a little bit of a catalyst for the stock?
Sekera: We shall see. I’m looking at it from two points of view. From the fundamental point of view, I think anything that helps alleviate the market concerns that artificial intelligence search could eat away at Google search business over time. I think that’s still a very large concern within the marketplace and part of what’s keeping the stock price down. But the other thing that really still is keeping the stock price from moving up is all the regulatory issues that are going on. I think anything that management could say that could make the market more comfortable that the company won’t be broken up or that the regulatory constraints won’t necessarily meaningfully reduce the economic value of their individual businesses.
I think that also could help the stock price as well. As you mentioned, it is undervalued. It’s a 4-star-rated stock at a 23% discount. We do rate the company with a wide economic moat. And this is one of the ones where it’s actually that wide mode is based on four of the five moat sources, so a very wide economic mode here, and a stock we rate with a Medium Uncertainty Rating.
Dziubinski: ServiceNow also reports this week, and this stock was a pick of yours in spring. What do you want to hear about from the company, and how does that stock look heading into earnings from a valuation perspective?
Sekera: I think the stock has been a pick of ours a number of times over the past couple of years. Now this quarter, I just want to hear and really understand if the company is still kind of tracking in line with the heightened guidance that they gave last quarter for the second quarter and the full fiscal year. Again, I just want to make sure that everything is kind of on track there.
In my opinion, when I think about this company and having talked to Dan Romanoff, who covers it, I still think this company is one of the early plays on those companies that are able to utilize AI to drive top-line growth. They’re incorporating it into their existing products and services, they’re increasing the economic value to their clients, so I’ll be listening for any discussion on the performance of AI that they’re rolling out in their existing products but as well as any other expansion or other use cases of AI to further enhance that economic value, which is really what’s going to be the strength of this company going forward. We’ll want to hear what the run rate for AI growth is. I know last quarter they noted that AI-related deal sizes grew 33% over the year-ago period, so I would like to still hear that same kind of growth rate or better.
Taking a look at the stock, it is only trading at a 5% discount to fair value. This is a stock that I would keep on your shortlist to watch. It’s a stock that, when it does dip down into 4-star territory, does not stay there very long. According to Dan, he still thinks this company is one of the most attractive in the tech sector. He just thinks it still has some of the best combination of growth, value, and a strong balance sheet.
Dziubinski: There are a couple of defense companies reporting this week. We have Northrop Grumman NOC and Lockheed Martin LMT. And Lockheed, in particular, was a pick of yours on our May 19 episode of The Morning Filter. What are you going to be listening for?
Sekera: Just updates on their outlook. Unfortunately, I do think there is a very strong tailwind globally for defense spending. We have increased defense spending going on here in the United States, and a lot of commitments among NATO members to increase their spending on defense as well. Then, even on top of that, commitments to increase defense spending by a lot of our other allies in the Middle East and Asia.
I’m also going to be listening to see if they give any kind of clues on margin expansion potential. I think that they should be able to get pretty good fixed-cost leverage off of those ongoing higher sales levels. One of my only real concerns here in the short term is whether or not they have the capacity to be able to handle this additional demand as it comes online, or are they going to have to build out additional capacity. And if so, how much is that going to cost, and how long would it take? And if that could maybe keep margins a little bit lower in the short term before you get that margin expansion in the medium to longer term.
Dziubinski: Talk about valuation briefly, Dave, on Lockheed and Northrop Grumman as we’re heading into earnings. Either one look attractive?
Sekera: Actually, both of them look attractive. Lockheed is a 4-star-rated stock at a 14% discount, 2.8% dividend yield, wide economic moat, Medium Uncertainty. Northrop, almost identical. It’s a 4-star stock at a 15% discount, a little bit less of a dividend yield at 1.8%. But again, a company we rate with a wide economic moat and a Medium Uncertainty.
Dziubinski: On to some new research from Morningstar then about big bank earnings from last week. Dave, how did the market respond to earnings and what does it tell investors?
Sekera: Taking a look at all four US mega banks, they all significantly beat consensus estimates, you know, top line and bottom line, although Bank of America BAC may be a little bit lighter on the top line than what people would have liked to have seen. Taking a look at JP JPM and Bank of America stock, initially sold off a little bit, looks like it’s come back, but I’d say that stock really has just kind of turned around since earnings. Citibank C, on the other hand, did trade up 7%. Wells Fargo WFC, the market wasn’t very happy. I think that one was down a little bit over 3%.
Taking a look at our valuations, our valuation on JPMorgan unchanged. Our valuation on Citibank, the analyst there plans to raise the fair value by the high- to mid-single-digit percentages. We did have some slight bump-ups on both Wells and Bank America. With Wells going up to $72 a share from $69, and Bank America going up to $46 a share from $43.
Now, taking a look at the individual business lines of the banks, I mean, for the most part, they beat in every single one of their business lines. The exception there was net interest income, which generally missed with most of these banks, and I think that’s why most of these bank stocks are either struggling to head higher like JP and Bank America or selling off like Wells, where I think the market was most disappointed in that interest income. The exception there is Citibank. They did have higher net interest income, and that’s why the stock has been rallying ever since. And my, how the times have changed.
Just thinking back when we first started this show a couple of years ago, I remember the market just hated Citibank. It was one of the most undervalued of the big banks. It was one of our best value plays across the entire marketplace. It traded at a 20% discount to tangible book value, and now the stock is trading at a pretty large premium over our fair value. So again, just shows as a long-term investor how sometimes it does take a while for some of these things to work out, but in this case, it certainly has worked out like our analyst team has expected.
Just to wrap things up here, the thing I’m always really listening for is going to be the economic outlook. In this case, listening to [JPMorgan Chase CEO] Jamie Dimon seemed to me I think he was a little bit less pessimistic this quarter than he was last quarter regarding his economic outlook. I think we see that kind of in the bank’s results here. Their provision for second-quarter losses was below expectations. Their net charge-offs and the reserve build were less than projected as well. In this case, not bringing those provisions up tells me that the bank is seeing the economy not necessarily fall off a cliff, where they think they need to increase their expectations for defaults.
Dziubinski: Now, your top pick among the banks also reported last week, and that’s U.S. Bancorp. What did you make of the results and the market’s response? And is the stock still a pick?
Sekera: Again, just like the others, they beat consensus both top and bottom line by a pretty wide margin. Now, like the other mega banks, net interest income was a little bit light. U.S. Bank, the stock sold off maybe about 1% after earnings. In this case, we do expect that the top line for 2025 will probably be at the low end of management’s guidance. Now, having said that, the company’s expense control has been bolstering their margins here in the short term, so that should offset the lower net interest income in order to keep earnings up.
Really, no other meaningful takeaways here after reading through our research. I kind of suspect, and this is my own personal opinion, kind of like with JP and Bank America, the stock did sell off immediately after earnings, but then ended up recovering, kind of getting back to kind of that unchanged level. At this point, it still remains our pick among the US banks. Looks like we’re maintaining our fair value at $53 a share. So that leaves it at a 15% discount to our fair value, enough to put it in 4-star territory and a pretty healthy dividend yield here at 4.4%.
Dziubinski: Johnson & Johnson JNJ put up good results and the stock popped afterward. What did Morningstar think of the report?
Sekera: Yeah, I mean, that 6% pop was a pretty nice run for a company this size after earnings. It was really just due to the fundamentals. Management did bump up their guidance for top-line growth up to 4.8% from 3.8%, looking for earnings-per-share growth of increasing that to 8.7% from 6.2%. So, we accounted for that in our model. We increased our fair value up to $172 a share from $164.
I think we also touched up maybe some of our growth trajectories on a couple of their drugs. We think it has maybe a little bit stronger outlook than what we had modeled in before. Lastly, we also noted here that regarding tariffs, we think J&J is in a pretty good position. Most of their US-bound products are already made in the US. The company already has a plan in place in order to be able to move all the rest of those that are produced internationally into the US within the next five years.
Looking forward, we do expect J&J’s research and development pipeline has a couple of different things in there that we see will be able to contribute over the next couple of years to be able to help offset some of the patents that are expiring. So, really kind of the same thing that we’ve talked about on this stock in the past just coming to fruition. Still, to me, kind of a core-holding stock.
Dziubinski: Given the pop in price and the increase in the fair value, is J&J stock an attractive stock to buy, or at the current price, is it more of a watchlist candidate?
Sekera: It really just depends on what you need in your portfolio. The stock right now is kind of right on that border between a 4-star-rated stock and a 3-star-rated stock. If it were to dip much from here, then it certainly would be on my own personal radar. But at this point, it trades kind of right at that 5% discount. So with that Low Uncertainty, it depends on what you’re looking for. A 5% discount for a stock like this I think is attractive, but it’s not necessarily something I think investors have to really focus on today.
Again, wide economic moat, Low Uncertainty, 3.2% dividend yield. This is just the kind of stock where I don’t think it’s ever going to be a shoot-out-the-lights kind of stock where you’re going to see huge runs on it. But from a long-term investor perspective, I still think it’s a core holding for most portfolios.
Dziubinski: Morningstar raised its fair value estimate on Taiwan Semiconductor TSM by about 6% after earnings. What impressed in the results, and is the stock a buy?
Dziubinski: Short-term strong quarterly results indicate demand for artificial intelligence is still red-hot. But more importantly, the company did raise its full-year growth guidance to 30% from the mid-20% area. The results provided just more evidence to support our forecast that gross margins will continue to keep expanding up into that high 50% area as well. When I think about the combination of that higher top-line growth, more margin expansion yet to come, that was enough to increase our fair value up to $306 per share from $262 per share. So it’s a 4-star-rated stock trading at 20% discount.
Dziubinski: Now, ASML stock dropped after earnings as the company has tempered its growth forecast. What does Morningstar think of that report and any changes to the fair value estimate on the stock?
Sekera: The company did beat consensus numbers, but the outlook here in my mind is kind of the opposite of what we saw from Taiwan Semi. So management guidance, very guarded. The quote that our analyst published here that he pulled out from the company was “While we still prepare for growth in 2026, we cannot confirm it at this stage.” The market did not like hearing that whatsoever.
What I’m looking at right now and looking at the performance of Taiwan Semi versus ASML just tells me that demand for AI is still voracious here in the short term. But I think maybe there’s some more concern out there about just how much more capacity needs to get built out over the next couple of years. Specifically, how many of these extreme ultraviolet lithography machines that ASML makes will really be needed in order to satisfy that amount of demand over the next couple of years, and when those machines need to be up and running.
So, we’re forecasting only 5% top-line growth here in 2026. We do expect that it will step up over the next couple of years thereafter up into the low teens in 2027 and 2028. But it is interesting to see the divergence in performance between Taiwan Semi, who’s the company that’s actually manufacturing semiconductors today, versus ASML, which is the company that makes the manufacturing equipment for someone like Taiwan Semi in order to make the AI GPU. So again, I find this interesting and something still closely to watch.
Dziubinski: Then is ASML stock a buy today?
Sekera: We made a slight reduction in our short-term and our medium-term estimates because of the slower guidance here in the short term that led us to lower our fair value by 3% to $950 per share. It’s still a 4-star-rated stock at a 22% discount. The stock is still undervalued at this point, but I think in order for this stock really to start to work looking forward, I think we’re going to have to hear more confidence from management as to the timing of demand for their products and when that really starts to pick up pace. Until that happens, I don’t know if the stock is really going to be one that’s going to be set up to rally much over the next couple of months or next couple of quarters until we get that confidence.
Dziubinski: Staying with the AI theme, Morningstar raised its fair value estimates on both Nvidia and AMD last week on news that both companies would be back in business in China soon. Talk about those fair value increases and tell us if either stock looks like a buy.
Sekera: I think the news was really unexpected by not only ourselves, but pretty much the entire market, and I think that’s what led to those stocks rallying. That certainly was the catalyst for us to increase our fair value as well. The sales of those H2O chips were banned 90 days ago. Nvidia actually was writing off $5.5 billion because of that. And they missed out on, you know, tens of billions of revenue over that period.
Putting those sales back into our model was enough to be able to increase our fair value on Nvidia by 20%, so it’s now $170 per share fair value estimate, and then also increase AMD by 17%, taking our fair value up to $140 a share. And then also increase AMD by 17%, taking our fair value up to $140 a share. Having said that, the stocks rallied a lot as well. So, they’re still both in that 3-star territory. I think Nvidia right now is closer to our fair value estimate, whereas AMD in the marketplace is probably closer to the upper end of that 3-star range. Between the two, Nvidia is probably more attractive as it trades closer to our fair value.
Dziubinski: Pepsi PEP stock was up after the company reported a beat on earnings and revenue, held its forecast, and it also announced details around a turnaround plan. What did Morningstar think of all that? And is the stock attractive?
Sekera: This is one where I think it was a pick of ours on the May 5 episode, so one we talked about on that episode. So, if you have an interest in the stock, it’ll be more detailed if listeners want to go back to that one. I think in this case, looking at the stock market action after earnings, I think the market is just very encouraged by the sequential volume increases in both the snacks business and the beverage business. I think that helps alleviate a lot of the market’s concern that the GLP weight-loss drugs have been weighing on consumption. I think the market also appreciated the 6% increase in international sales.
So, the takeaway here, our analyst noted that she expects that our fair value will increase in that low-single-digit percentage as she touches up her financial model. Even after the stock surging 7.5% after earnings, it was still rated 4 stars last I checked.
Dziubinski: We ran out of time on last week’s episode to talk about the potential breakup news with Kraft Heinz. Dave, take us through the news and Morningstar’s take on the news.
Sekera: So, there were reports out there that Kraft is evaluating strategic actions to unlock shareholder value. More specifically, in this case, discussion about maybe splitting up its operations into its component parts. At this point, no change to our fair value, but hopefully this will be a catalyst indicating that the market is just starting to really recognize how undervalued a lot of these food companies are.
Taking a look at what’s happened over the past year, Kellanova K was bought out last fall. Just recently, we had Kellogg KLG announcing that it’s being bought out by a strategic buyer. Now, Kraft is looking at strategic alternatives. That tells me there are definitely strategic buyers out there. Probably also indicates to me, I think maybe private equity buyers are probably starting to sniff around, looking for deals as well. I think this is one area of the market where these companies are probably in play.
Dziubinski: And as you mentioned, Kraft Heinz stock remains quite undervalued. Do you think it’s a buy?
Sekera: I do. It’s a 46% discount to our fair value, 5.8% dividend yield, well into 5-star territory. And with more people looking around at the valuations in the food companies, this is one that we find very attractive today.
Dziubinski: All right. Well, it’s time for our question of the week. This question came to our inbox from Bruce, who asks, “Please ask Dave to explain the phrase ‘cost of equity.’”
Sekera: I think first, even before we get to that, we need to answer the question, what is the intrinsic value of a company, and how do you take that and come up with what you think the individual stock of that company is worth?
The way we look at a stock valuation is we first start off with what that intrinsic valuation is. The intrinsic value of a company is essentially what is the present value of all of the future free cash flow a company will generate over the course of its entire lifetime. To come up with that, we use a discounted cash flow model to forecast what those future free cash flows are going to be. We’ll have a specific time period that we have explicit forecasts. We have a stage two, stage three perpetuity model.
But again, we’ll take those future free cash flows, and we calculate the present value of those using the company’s weighted average cost of capital. Also known as the WACC. So, the question is then, “Well, what’s a WACC, Dave? The WACC is really going to be the blended cost of debt and equity, which is then weighted by the proportion of how much each is used in the company’s capital structure. So, the cost of debt, pretty easy to understand. That’s just really the blended interest rate that a company needs to pay in order to fund its debt, whether that’s loans from banks or bonds that are issued to investors.
Then that leaves us with the cost of equity. The cost of equity is going to be the estimated rate of return that a company intrinsically has to offer investors to compensate for the risk of investing in its stock. So, for a company whose stock is trading at fair value, what that tells me is that long-term equity investors would essentially be able to earn a long-term average return that’s similar to that cost of equity based on our projections that’s used in the weighted average cost of capital.
Dziubinski: All right, well, this is a reminder for our viewers and listeners that you can send us your questions at themorningfilter@morningstar.com. All right, we’re going to turn to Dave’s picks this week.
Dave’s brought us three quality stocks that have outperformed the broad market during the past year but that still look undervalued. Dave’s first pick is CNH Industrial CNH. Run through the numbers for it, Dave.
Sekera: So, at CNH, even after the run that stock has had, It’s still at about a 40% discount to our long-term intrinsic valuation. That’s enough to put it well into 5-star territory. Not necessarily a huge dividend yield here, only 1.9%. But for a company that’s a Medium Uncertainty, a narrow economic moat—the narrow moat being based on its switching costs and intangible assets, that kind of discount looks pretty attractive. And I like having stocks with that kind of momentum behind them.
Dziubinski: Now, CNH’s stock is up twice as much as the market during the past 12 months. Yet, as you pointed out, it still looks deeply undervalued. Why do you think the stock still has more room to run?
Sekera: First of all, for those of you that don’t know the company, CNH, old Case New Holland, is the world’s second-largest manufacturer of agricultural machinery. That makes up about 80% of its sales. But it’s also a major player in construction equipment, and that’s 20% of its sales. The company has kind of had some boom-bust cycles over the past couple of years since the pandemic. At this point, our analyst team forecasts that the worst of the downturn for agricultural equipment is really going to be this year, that 2025 will be that trough.
Then we expect to be able to start building back up to the run rate of revenue it had back in 2023 by 2028. That top-line growth will also allow for fixed-cost leverage. We’re expecting the operating margin back to those same kinds of levels. So, that should rebound. We’re only forecasting at $0.65 per share in earnings this year, but in 2026, that will rebound all the way up to $1.35, essentially double what it will make this year. If you look at earnings in 2026, based on that, the company is trading at less than 10 times earnings. So, very undervalued in our mind.
I think a big concern here is going to be tariffs. From a tariff perspective, we think the company’s in a pretty good place. Two-thirds of the US goods are produced in the US. Only 20% of those components have potential tariff exposure, and even those are mainly from Europe. The other third of the goods imported from Europe as well. I think the general consensus is that even in kind of the tariff negotiations, wherever the negotiations lead us to with Europe are probably going to be less onerous than what you would see from Asia. We’re comfortable with the tariff perspective here as well.
Dziubinski: Your second pick this week is Medtronic MDT. That stock’s up about 18% during the past 12 months. Give us the key metrics on this one.
Sekera: This is one you and I have talked about for a long time, so it feels pretty good to see this one finally starting to work. It’s still a 4-star-rated stock at a 20% discount, provides that 3.2% dividend yield. We rate the company at the Medium Uncertainty and a narrow moat, the moat sources being switching costs and the intangible assets that it has, specifically the patents on its devices.
Dziubinski: The same question here, Dave. Why do you think Medtronic still has some gas left in the tank?
Dziubinski: I think what we’re seeing in the healthcare sector is a rotation within the healthcare sector itself. I think a lot of investors are getting out of the large pharma stocks. They’re getting out of the healthcare insurance stocks due to the policy uncertainty that we see in today’s environment. But yet they still have to have healthcare exposure, even if they’re underweight within their portfolio, in this case we think that the healthcare sector overall is undervalued. At this point, I think devices and medtech are probably some of the best plays here with that rotation going on.
When I take a look at our model here, I think the projections seem relatively conservative to me. We’re forecasting a little bit less than 5% top-line growth over the next five years. We’re getting a little bit of operating margin expansion here as well. But you’re only looking at earnings growth of 7.2% over that forecast period. The stock’s trading at 16 times our 2025 earnings estimate, under 15 times our 2026 earnings estimate, still getting a pretty good 3.2% dividend yield.
And then lastly, the company does appear to be buying back stock. And, of course, for a company buying back stock below its intrinsic valuation, that value should accrete to shareholders over time as well.
Dziubinski: Your final pick this week is a name we became all too familiar with during the pandemic. Zoom Communications ZM, give us the rundown.
Sekera: Four-star-rated stock, 20% discount, although I don’t believe they pay any dividend. Interestingly, we rate the company with a Medium Uncertainty. I think most people would have thought that would have been high. And we do rate the company with a narrow economic moat, its moat sources being on switching costs. But our analysts noted there is also an emerging moat source coming here as well from the network effect.
Dziubinski: And despite being up about 25% over the past year, Zoom stock is still undervalued. What’s Morningstar think the market’s missing here?
Sekera: I kind of like the setup here, taking a look at how this stock has traded over the past five years or so. Of course, when you think about Zoom, that stock just skyrocketed higher during the early years of the pandemic as everybody was trying to switch to video calls. Now, of course, that stock rose way too far. In our valuation model, it went well into 1-star territory.
In the years thereafter, the performance just couldn’t substantiate that kind of sky-high valuation, and the stock has slid pretty much thereafter. So, in my mind, this is one of those orphan names out there. Those investors who got burned on it back then really don’t want to look at it again. Otherwise, everyone else has just kind of forgotten about this company and forgotten about the stock. But yet, as you mentioned, we’re all still using Zoom today.
Memories on Wall Street, to some degree, are relatively short. I think we’re probably getting to the point where it’s been long enough since the stock has cratered that analysts are probably willing to now take kind of another new look at the name, kind of refresh their investment thesis. I look at our financial model, and it is just relatively kind of conservative here. We’re only looking for 3% top-line growth on average over our forecast period. We’re looking for some product expansion to include Zoom Contact Center, AI Companion, Zoom Phone, some other new services, which I think helps bolster the product overall. That also should lead to a little bit of operating margin expansion. Just to put the valuation in perspective here, it only trades at 13 times our fiscal-year 2026 earnings estimate.
Dziubinski: Well, thanks for your time this morning, Dave. Those who’d like more information about any of the stocks Dave talked about today can visit Morningstar.com for more details. We hope you’ll join us next Monday for The Morning Filter at 9 a.m. Eastern, 8 a.m. Central. In the meantime, please like this episode and subscribe. Have a great week