The widely predicted recession has not officially arrived yet, but the nation's economic slowdown and the brutal markdown of stock prices following the Iraqi invasion of Kuwait has prompted investors to ask, "What stocks have the best chance to survive in a recession?"
I put that question to several stock analysts who follow companies in the Baltimore-Washington-Richmond region.
Their answers focused on traditional "defensive" stocks such as retail food and drugstores, food manufacturers, health service companies and firms that provide key consumer services.
But they noted that while a stock may be recession-resistant, it may still decline in a declining market. However, if a firm's profit picture remains strong when other companies are weakening, the "defensive" stock will decline more slowly and rebound more quickly.
Here are some of the "defensive" stocks that area analysts like:
Giant Food Inc. of Landover, which operates 150 stores in the Washington-Baltimore area. In good times and bad, the analysts said, people still have to eat. And food is one of the last places that consumers will trim spending during hard times. That fact is likely to keep cash registers ringing at Giant Food -- although some of Giant's affluent customers could look for cheaper prices if they begin to feel the pinch.
Analyst Robert Winer at Johnston, Lemon & Co. said he expects earnings to grow 12 percent to 14 percent a year in the next several years and he figures that Giant will earn $2.03 a share for the current year, ending Feb. 28. Giant earned $1.80 last year.
Winer said that profits recently have been rising more rapidly than sales as Giant begins to absorb and pass along the higher labor costs incurred in its September 1989 labor contracts.
Even though Giant's stock is off 11 percent so far this year, the shares increased in price an average of 35 percent a year between 1985 and 1989.
During the past 52 weeks, the stock has sold at between $32.375 and $23.375 and closed Friday at $25.375 or about 13 times earnings, compared with the average of about 15 for the Standard & Poor's 500. With a 60-cent-a-share annual dividend, the stock has a 2.4 percent yield.
Smithfield Foods Inc. of Smithfield, Va., is another "defensive" stock, Winer said. Smithfield is the nation's sixth largest processor and packer of pork, producing pork, ham, sausage, bacon and hot dogs under several labels, including Esskay, Gwaltney, Hamilton, Luter and Smithfield.
A key reason for his optimism, Winer said, is that he sees a combination of falling hog prices and higher selling prices in the next few years, which should improve Smithfield's profits. For fiscal 1991, ending in April, Winer looks for $1.25 a share in profits. For the 1992 year, he forecasts $1.70.
Smithfield had a peak profit year in 1988, when it earned $1.86, only to see it drop to $1.32 in fiscal 1989 and to 81 cents (adjusted for gain) in fiscal 1990.
On a $13 share price, the stock is selling for 16 times the 81-cent earnings, higher than the market average. But if the firm gets to $1.25 earnings level, that could lower the ratio to 10 times earnings.
On a 52-week basis, the stock has sold between $14.50 and $10. The firm pays no dividends, although it has been buying back its own stock, which has something of the same effect, Winer said. The stock is up 10 percent this year and gained an average of 56 percent a year between 1985 and 1989.
One risk factor for the stock may be the cost of water pollution improvements required by the State of Virginia, which eventually could cost the company 9 cents to 13 cents a share on its earnings.
"We believe that our case for Smithfield's profit potential and the cheap valuation of the stock leave sufficient room for the company to absorb these pollution-related costs," Winer said.
McCormick & Co. of Hunt Valley, Md., the longtime maker of spices, should keep its flavor through bad economic times, said Clifford Ransom, research director for Ferris, Baker Watts Inc. in Baltimore.
Ransom, in fact, likes the stock at $21 and says he would be an aggressive buyer at under $20. The stock, which has a 52-week range of $26.875 to $18, closed Friday at $20.75. With a 48-cent annual dividend, the stock was yielding 2.3 percent, and selling at 15 times earnings.
McCormick is an international firm, with operations in many countries. It saw an 84 percent improvement in its share price in 1989 on top of a 54 percent improvement in 1988, as the company sold off some of its real estate and reorganized its operations.
The strength of the company shows up in its stock price performance. At a time when many stocks are down 20 percent or more, McCormick is down only 7 percent.
Ransom expects the company, which earned $1.22 per share in 1989, to earn $1.45 this year and $1.70 for next year.
Moving to the drugstore category, analyst Michael L. Mead of Legg Mason in Baltimore believes that the Rite Aid Corp., headquartered in Harrisburg, Pa., will remain solidly profitable in a recession-like economy because customers are not likely to cut back on either prescriptions or health and beauty products.
"Demand for the services and products will remain strong even in a soft economy," Mead said.
Rite Aid, which operates 2,355 stores in the Eastern United States, has a significant presence in this area, with 184 stores in Maryland, 169 in Virginia and four in the District. The company rang up sales of $3.2 billion in fiscal 1990, which ended last March. Sales and profits have been rising in the current year, and Mead is looking for $2.60 a share in profits for fiscal 1991, up from an adjusted $2.29 last year.
Over the years, Rite Aid has expanded by acquiring drugstores, bookstores and automotive supply stores and has gotten rid of its video rental departments. But the company still draws 95 percent of its sales and profits from the retail drug operations. Of the drug sales, 43 percent was from prescriptions.
Rite Aid shares, which closed Friday at $32.875, are trading at 13 times earnings, with a 2.7 percent yield on its 90 cent annual dividend.
In a slightly different vein, the investment story at PHP Healthcare Corp. of Alexandria should make an investor's heart beat a little faster, reports Steve Newby of Newby & Co. of Rockville.
PHP supplies medical services and personnel for the Department of Defense and for state and local agencies. PHP's business has been growing rapidly, especially as the military services move toward privatizing health care. One Navy study, Newby said, showed that the Navy was spending $175 for a patient visit when PHP could do the job for $60 a visit.
New contracts coming into PHP are expected to boost the company's revenue from $81 million last year to $100 million this year. Newby expects the company to earn $1.15 to $1.25 a share from operations for the coming fiscal year, ending April 30, up from 71 cents.
One nontraditional stock that should be included in the "defensive" list is ERC Environmental and Energy Services Co. of Fairfax, according to Peter C. Keefe, research director at Johnston, Lemon & Co. ERC sells its services to companies that face problems of environmental contamination, radioactive waste cleanup and nuclear facility management.
Keefe said he expects the market for environmental services, and also for ERC, to grow at 20 percent a year for the next three years.
"Because most purchases of environmental services are not discretionary, ERC's business should feel relatively little impact in a recession," Keefe said.
Keefe believes that ERC eventually will be acquired by Ogden Corp., which already owns 69 percent of the company. Ogden got the stock when it acquired ERC's former parent, ERC International Corp., in January. A reasonable purchase price, Keefe said, would be $19.20 a share, or 20 times his 96 cents per share estimate for 1991.
The company earned 61 cents last year and Keefe is looking for 80 cents this year. At $11.50 a share, the stock is selling for 19 times last year's earnings, and 14 times this year's projected earnings. Thus far this year, ERC shares are up about 7 percent, after a 51 percent rise last year.