It seems that there ain’t nobody working at the markets except bears and chickens. The horrendous selling last week carried forward into blue Monday. Stocks fell, sending the DJIA fell below 10,000 for the first time this year, as speculation that the Federal Reserve may increase its benchmark interest rate as soon as next month fueled concern profit growth will slow. The DJIA lost 127 points (-1.3%) to 9,990, closing below 10,000 for the first time since December 10. Citigroup shares dropped after the world's largest financial company said it will set aside $4.95 billion in the second quarter to cover a settlement with investors in WorldCom and other legal costs. Exxon Mobil and other energy stocks fell along with a slide in oil prices. The S&P 500 Index shed 11 points (-1.1%) to 1087. The Nasdaq dropped 21 points (-1.1%) to 1896. Almost nine stocks fell for every one that rose on the New York Stock Exchange. Some 1.9 billion shares changed hands on the Big Board, making it the busiest trading day since Jan. 29.
Top Stories . . . Citigroup, the world's biggest financial-services company, will set aside $4.95 billion in the second quarter for legal costs, including a settlement with investors in long-distance telephone company WorldCom.
Crude oil futures fell from a 13-year high after Saudi Arabian Oil Minister Ali al-Naimi called on the Organization of Petroleum Exporting Countries to increase production quotas to protect the global economy.
The dollar rose against the yen and 13 other major currencies as rising bond yields and the prospect of higher interest rates in the U.S. prompted some investors to sell Asian stocks and buy dollar-denominated debt.
U.S. Treasury notes rose for the first time in a week as a tumble in global stocks led investors to government debt.
MCI Inc., which completed the biggest bankruptcy reorganization in history last month, had a first- quarter net loss of $388 million as sales plummeted because of increased competition for corporate customers.
Quotes of Note . . . ``Stocks will be driven quite a bit going forward by what happens to interest rates. Everybody knows rates will go up. The question is when and by how much.'' Brett Gallagher, who helps oversee $6 billion as head of U.S. equities at Julius Baer Investment Management.
Gurus . . . On the weekend financial shows, Bernie Schaefer told the Nightly Business Report the market has topped out, as good news becomes bad news. He would be buying speculative calls in ChevronTexaco and Taser, with puts in Best Buy.
On the Rukeyser Show, Margaret Patel, who runs a high yield bond portfolio, says she favors bonds in Freeport MacMoran, Tesoro, and HCA Inc. Recommendations from the panelists include Sierra Health, Motorola, Carpenter Steel, Covad, Jabil, and Affymetrix.
Recommendations on the Brenda Buttner Show included Hasbro, AU Optronics, Texas Instruments, Valassis, Impax Labs, and Ascential Software.
Barron's interviews Douglas Whitman, a proprietor of Palo Alto, Calif.-based Whitman Capital, for his stock picks. Mr. Whitman has spent the past 10 years tracking down bargain technology stocks for investors in his $100 mln-plus hedge fund. Net of fees, Mr. Whitman produced a compounded return of better than 20% over the past decade. The fund currently owns Keynote Systems and PCTel. Mr. Whitman also likes Marvell Technology, Qlogic, DSP Group, Citrix Systems, Flextronics, Polycom and Ceva. The fund manager also says that the telecom industry has finally showed some signs of a pickup in spending. Mr Whitman says that Marvell Technology has been spending heavily into power management area, which will become an important business for them later this year. That leads them into new markets, competing with companies like Linear Technology and Analog Devices. They have already announced a number of wins in that market. According to Mr. Whitman, a current example of an overpriced stock is PMC-Sierra.
SW Bach chief strategist Peter Cardillo feels the stock market is going through a period in which it is "technically weak but fundamentally very strong." He believes the market is "nearing a bottom" to the downtrend that it has seen over the past several weeks. "Obviously, the interest rate fears continue to climb and it's quite obvious now that it seems rates may go higher in June and so what we're seeing here is the global markets beginning to adjust to a higher interest rates environment and as a result of that we saw Tokyo come in sharply lower and we just followed suit."
RBC Dain Rauscher technical analyst Bob Dickey believes the stock market's latest pullback is "much closer to a bottom than a start," given that several technical measures are showing the most oversold conditions in over a year. The Dow industrials and the Nasdaq Composite are both trading below what he sees as support at 10,000 and 1,900, respectively, but noted that the indexes need to close below those levels to confirm a "break." The Dow was last down 134 points at 9,984 and the Nasdaq was shedding 27 points to 1,891. Dickey added that it may be "too late for aggressive protective measures, and that the next important analysis will be in identifying a possible bottom," which he expects to see over the next two weeks.
Of Note . . . The dollar rose near to an eight month high against the yen.
Fridays Sell Sell Sell . . . To provide perspective on Friday's breadth debacle, since 1999, we have had just nine days of 4-to-1 or higher. Friday was just the fourth 6-to-1 or greater margin in that time. The most dramatic climax sell-offs in market history came on October 27, 1997, when NYSE declines demolished advances by 2992 to 159, an 18-to-1 margin. That day marked one of the peak moments of fear during the Asian Financial Crisis, and some of the consternation this time around deals with the impact of a Chinese slowdown on the rest of Asia. A China slowdown will lower commodity prices, which would be a negative for emerging market economies that depend on revenues earned in the commodities markets. Emerging market bonds have also been punished by the end of the Carry Trade, where investors borrow at rock-bottom short term rates to fund a highly leveraged position of higher yielding long term securities.
Interesting . . . The Wall Street Journal reports that William Poole, president of the Federal Reserve Bank of St. Louis, warned that investors may be ignoring the potential dangers connected with the debts outstanding of Fannie Mae and Freddie Mac, which total about $1.7 trillion. While stressing that "on the basis of information I have, no crisis is at hand" at the two company's, Poole said at a conference in Chicago last week that investors seem to treat the debt of the two company's "as if there are no possible risks that might strain [govt-sponsored enterprise] capital positions." The article says the risk is that a surge in interest rates could leave their cost of funding above their interest income from mortgages, which is the trap that destroyed many U.S. savings and loan institutions in the 1980s.
China . . . The NY Times reports that the Chinese govt warned on Sunday that AIDS was continuing to spread rapidly in the world's most populous country, and it announced "urgent measures" to improve prevention and education efforts that include holding local officials directly responsible for curbing the disease. "Those officials breaching duty or hiding epidemic reports will be severely punished," stated a 12-page circular from the State Council, China's cabinet. The official New China News Agency released the circular on Sunday.
Oil Prices . . . Saudi Arabia's oil minister said OPEC should boost production quotas by 6.4 percent to prevent rising prices from hurting the world economy, sending oil prices to the largest drop in five months.
Market Comment . . . Will rate hikes help or hurt?
Friday’s strong job numbers confirmed the upward inflection point and increased the chance of Fed rate hikes. Friday’s strong job numbers are good news for the economy, for continued rapid growth in corporate. The economy accelerated sharply in February from an already-fast growth rate, an environment inconsistent with the 1% Fed funds rate. Friday’s strong job numbers confirmed the upward inflection point and increased the chance of Fed rate hikes starting in June.
• Equities will have to choose whether they prefer job growth or the 1% interest rate – they can’t have both. The strong job numbers are good news for the economy, for continued rapid growth in corporate profits, and therefore for equities.
• Rate hikes should act as an accelerant for the economy. With interest rate still very low, the prospect of rate hikes is likely to encourage inventory rebuilding, new investment, and a healthy “get-it-while-you-can” acceleration in lending activity.
• The bond market has now priced in rapid rate hikes over the next two years -- roughly a 3% Fed funds rate by mid-2005 and 4.25% by mid 2006.
• Financial markets have seemed to operate smoothly during the recent bond sell-off, sharply repricing assets without too much disruption.
• The dollar’s recent strength (gold is now at $383 versus $430 on April 1) lowers the risk of a substantial inflation. Expect the multi-year inflation problem to be mild.
• The acceleration in the economy improves the budget outlook and increases the chances that the key tax rate cuts on capital gains, dividends and marginal income tax rates will be extended in a second Bush administration.
• The acceleration of the economy, accompanied by interest rate hikes, increases Asia’s growth prospects substantially, reducing one of the market’s recent worries about slowdowns in China and Japan.
Here are some further thoughts:
Is the household sector a net creditor?
The household sector is a net creditor, meaning its liquid assets exceed its liabilities. In addition, the maturity of its assets is shorter than the maturity of its liabilities. Thus, as a whole, the household sector will be a substantial beneficiary of rate hikes.
The data on this is in the Fed’s flow-of-funds table B100 “Balance Sheet of Households and Nonprofit Organizations.”
• At the end of 2003’s fourth quarter (the latest data available), it shows liquid assets of $19.8 trillion. This includes household deposits (mostly time and savings) of $5.3 trillion, credit market instruments of $2.5 trillion (various bonds), corporate equities of $5.7 trillion and mutual fund shares of $3.3 trillion.
• Total liabilities are $9.8 trillion, of which $6.8 trillion are mortgages.
• On net, liquid assets are $10 trillion more than total liabilities, with a shorter maturity. Certain heavily leveraged parts of the economy will be squeezed, especially households and corporations without substantial income which have borrowed heavily at floating rates to fund longer-term assets. We think the beneficiaries of job growth, strong corporate profits and rate hikes heavily outnumber those hurt by rate hikes. Actual rate hikes will reduce the uncertainty about this assessment.
Where did the household sector get the liquid assets?
There has been a big misunderstanding about the consumer’s health in recent years. Some argue that the consumer didn’t save much. This is factually incorrect. The consumer benefited broadly from the low unemployment and falling prices of the late 1990s. They saved a portion of the gains.
• The personal savings statistics severely understated consumer savings in the 1990s by excluding gains on equities, houses, and mortgage refinancings. When adjusted, the savings rate has been relatively stable over the last decade. The adjusted savings rate shows a similar picture to the Federal Reserve’s flow of funds data which also shows a high level of interest earning liquid assets.
• In his February 23 speech to the Credit Union National Association, Fed Chairman Greenspan explained that the consumer has a strong balance sheet (strongly implying to us that a rate hike would not be disruptive): “Overall, the household sector seems to be in good shape, and much of the apparent increase in the household sector’s debt ratios over the past decade reflects factors that do not suggest increasing household financial stress. And, in fact, during the past two years, debt-service ratios have been stable.”
• Household net worth has reached new records, as have household assets and household debt.
What might equities do during rate hikes?
NO one knows for sure. They should respond to corporate profits, which will grow strongly with the economy.
• In 1994, U.S. equities rose until the first rate hike. The S&P fell about 6.3% after the second rate hike. It also fell 3.1% at year-end 1994 after a 0.75% hike (which caused two-year Treasury yields to rise close to ten-year yields, a near inversion of the yield curve).
Economic conditions for equities are better now than in 1994 and the equity sell-off has come earlier.
• The global expansion is more synchronized than in 1994, creating a stronger platform for corporate profit growth.
• Global dollar GDP rose 12% in 2003 and should rise another 12% in 2004 (versus 2.4% in 1993 and 7.4% in 1994).
• As compared with 1994, the levels of nominal and real interest rates in the U.S. and abroad are much lower.
• Inventory levels are also much lower, arguing for a more sustained (and profitable) snapback process than in 1994.
Financials . . . Citigroup, the world's largest financial company, will set aside $4.95 billion in the second quarter to cover legal costs, including a settlement with investors in the bankrupt WorldCom. Exxon Mobil and other energy stocks fell along with a slide in oil prices. Citigroup said part of the reserve will cover a payment of $2.95 billion, or $1.64 billion after-tax, to resolve the WorldCom lawsuit. The rest will go toward a potential settlement of litigation by investors in failed energy trader Enron Corp. and other pending lawsuits.
The Wall Street Journal reports that Fannie Mae reached an accord with the SEC that will allow the company to avoid restating results. The compromise will require Fannie to adopt a new method of accounting for certain securities backed by manufactured-housing loans and aircraft leases -- a demand made last week by Fannie's regulator, the Office of Federal Housing Enterprise Oversight.
SunTrust Banks (the eighth-largest U.S. bank) and National Commerce Financial announced the signing of a definitive merger agreement; the merger is expected to be cash accretive to STI earnings immediately and GAAP accretive beginning in 2006. Based on the price of STI at the close of business on Friday, the transaction is valued at $33.46/NCF share, for a total transaction value of $6.98 billion. The total consideration consists of approximately $1.8 billion in cash and approx 77.5 million STI shares; the deal is expected to close in 4th quarter.
Prudential downgrades Citigroup to Neutral-Weight from Overweight; firm says Friday's jobs report increases the chance for earlier rate increases, and says Citi's announcement a $5 billion after-tax legal charge for Enron, Worldcom, etc (despite prior assurance that it was properly reserved) not only reduces management's credibility but also reduces the amount of excess capital that C has available for acquisitions. Also, firm says 1st quarter results were not as good as expected, and they were waiting for 2nd quarter to be a break-out quarter, yet now they think that 2nd quarter will not be so clean.
Barron's highlights REITs shares that have been pummeled by interest-rate fears. The article suggests that the selling is overdone. The company's mentioned favorably include: GGP, CPG, SPG, SRQ, CRE, RSE. The company's mentioned negatively include SMT, AEC, AIVand EOP. In a separate article, AHT is mentioned as a recent IPO that has gone nowhere. Also highlighted is HMT that plans some acquitions, using its stock as currency.
Diversified . . . Barron's highlights Tyco, which had a blowout March Quarter, suggesting good news for the company could keep coming for some time. According to the article, CEO Edward Breen appears to be achieving all the efficiencies that his predecessor, the disgraced L. Dennis Kozlowski, claimed to be fostering but never instituted. Says Merrill Lynch analyst John Inch: "Koz knew how to acquire businesses but not how to run them -- Breen is really starting to deliver." The stock is poised to deliver, too. Mr. Inch and Prudential's Nicholas Heymann see the stock hitting 35 within 12 months, up another 25%. Mr. Heymann was positively ebullient about the company in a report he put out after last week's earnings release. "Every once in a while, things seem to come together so well for co's that you find it hard to believe," he wrote. He compared the turnaround of Tyco to a film of Humpty Dumpty seen in reverse, where all the pieces come rapidly together as Humpty levitates from the ground back to his perch.
Oil & Gas . . . Saudi Arabia's oil minister said the Organization of Petroleum Exporting Countries should increase quotas by 6.4%, causing the biggest drop in crude oil prices in more than a month. Saudi oil minister Ali al-Naimi said OPEC should boost its output target by 1.5 million barrels per day, from 23.5 million now.
Energy . . . RBC Capital downgrades Devon Energy to Sector Perform from Outperform. Devon recently lowered its full-year production guidance due to disappointing results from E. Boomvang, and early payout in its production sharing contracts resulting from high crude prices. The firm thinks the stock holds only average upside from current levels. The firm believes that the combined effects of rising LNG imports, demand destruction, and drilling activity will moderate gas prices over time, and that rising US crude/refined product inventories, combined with growing OPEC and non-OPEC supply will cool over-heated crude markets.
Barron's highlights Williams as it steps out of the post-Enron shadows, shedding debt and expanding production. Two years ago, it lined up $900 million of rescue financing, but the company has repaid that costly Hail Mary financing and can borrow money at 7% from the capital markets. By 2nd quarter of next year, it should have trimmed its debt load to $8 billion. Annual interest expense, which was $1.3 billion last year, should fall to a less-onerous $690 million in 2005. The improved finances give Williams the flexibility to focus on its remaining businesses. "Over two years, I think this is a $15 to $20 stock," says Scott Soler, an equity analyst at Morgan Stanley. He argues that the market is undervaluing Williams' assets, including its gas reserves.
The Wall Street Journal reports that Southern backed away from plans for two of its utilities to buy electricity from Southern's own unregulated subsidiary, a move that represents a retreat from a strategy that has fueled recent earnings growth and shielded the Atlanta utility holding company from an industry downturn. On Friday, Southern notified the SEC that it intends to halt an arrangement under which two of its utilities, Savannah Electric and Georgia Power, would have bought large sums of electricity from a power plant called McIntosh that is being built by the company's Southern Power unit. The in-house arrangement appeared to some to be unusually favorable to Southern Power. Instead, Southern will seek the permission of the Georgia Public Service Commission to have the two utilities buy the partially built McIntosh plant for the amount thus far invested, roughly $440 mln. As a utility asset, it would earn a more limited profit for Southern than it would earn as a property of the unregulated unit.
Metals . . . Fold futures fell for a third straight session, touching a six month low, as gains in the dollar eroded demand. UBS lowered its forecast for the average gold price in 2004 to 422 an ounce, from 447. The dollar rose close to an eight month high against the yen, on prospects for rising rates.
Defense & Aerospace . . . Boeing’s, the No. 2 U.S. defense contractor, proposed $23 billion contract to lease as many as 100 planes to the U.S. Air Force for use as refueling tankers may be threatened after a report by the Defense Science Board said the aircraft may not be needed, the New York Times said.
The Wall Street Journal reports that an Air Force memo states Boeing's initial overture to hire a former Air Force official overseeing major Boeing contracts occurred in the presence of its former chief executive, raising questions about what top executives knew about a damaging ethics scandal. Last week, an Air Force spokeswoman indicated the August 2002 contact wasn't illegal because it was brief and informal. The Air Force now doesn't believe Mr. Condit participated in the exchange.
Education . . . . SunTrust Robinson Humphrey upgrades ESI to Buy from Neutral based on their view that: 1) earnings are likely to considerably exceed consensus, 2) the company's pro-cyclical curriculum should be increasingly attractive to potential enrollees, 3) the ongoing Dept of Justice investigation has already been dismissed by prospective students and is unlikely to have a material impact on ESI's operations, and 4) valuation is attractive.
Restaurants . . . McDonald's, the world's largest restaurant chain, said U.S. sales climbed 13.5 percent in April, helped by new menu items. Global sales at restaurants open at least 13 months rose 10.5 percent from the year-earlier period, while sales in Europe rose 5 percent after falling 2.9 percent in March.
Analysts visited McDonald's businesses in Germany, the U.K. and Spain last week as part of an investor trip. Overall, othere is optimism about the likelihood of a European turnaround in 2004, which we view as critical to the stock's performance, is increased. These three markets contributed an estimated 55% of 2003 European operating income or 20% of MCD's total operating income. There is a pan-European focus that is very much in line with what has worked so effectively in the U.S. Commonalities across the markets included multi-tiered menu strategies (value, combination or extra value meals, Happy Meals, and premium products), focus on service, and intense financial discipline on costs and returns on capital. There is great excitement about the new Salads Plus line in Europe. Germany began advertising in early April and results appear strong. U.K. advertising began April 16; sales have started more slowly than in Germany though
April comps are up. Spain completed the product rollout May 3 with advertising started May 6; anecdotal reports from store visits and expectations are strong. MCD plans to release April sales before the open this morning. Independent sources suggest that U.S. comps were very strong, beating our mid-to-high single digit expectations. Importantly, we are confident that European comps returned to positive territory, probably up 3%-5%. Salads Plus and other European initiatives raise confidence that positive comps and margin recovery can be sustained.
Barron's highlights Krispy Kreme after its 29% drop on Friday after a warning. According to the article, the stock is still probably not valued for a much slower growth path, even after Friday's nasty drop. Shorts have targeted the stock almost since the day it went public in early 2000. Even as the stock quadrupled in the midst of a merciless bear market, the short-sellers pressed their bets, always assailing the chain's ballooning valuation and heralding an end to its effortless expansion. Krispy Kreme remains at a 20% premium to the broad market multiple and looks even more expensive than larger, more seasoned restaurant chains such as Brinker International and Darden Restaurants.
Retail . . . SunTrust Robinson Humphrey downgraded Best Buy to Neutral from Buy, as they have concerns regarding the company's ability to drive earnings growth over the next 12 months given: 1) difficult sales and earnings comparisons beginning in Q2, 2) slowing square footage growth, and 3) the head-wind that higher rates could have on promotional finance offers and housing and, in turn, electronics and appliance sales.
Healthcare . . . VCA Antech buys National PetCare Centers for $76.5 million (less assumed debt), to be paid in cash. NPC operates 69 animal hospitals in 11 states with annual revenues in 2003 of $81.7 million. On completion of the merger, the combined entity will operate 316 animal hospitals in 36 states.
Drugs . . . First Albany says that Barr Labs has underperformed the group this year based on concerns regarding the OC business, macro industry issues, and the lack of near-term drivers. The firm believes these issues are already reflected in the stock and would be aggressive buyers at current levels. Barr has about 30 ANDAs awaiting approval and has strengthened its brand portfolio over the past few quarters. Also, the co plans to introduce two products in 2005 followed by potentially three new launches per year in 206 to 2008.
The Wall Street Journal reports that Merck disclosed it may owe the IRS up to $2.04 billion resulting from deductions it made on tax returns beginning in 1993. MRK disclosed the dispute in an SEC filing Friday, and said it may owe the government as much as $2.04 billion, including interest -- an amount that surprised corporate tax experts. The filing also said the IRS is proposing penalties, but MRK didn't disclose the amounts sought.
The combination of Abbott Lab's Humira with methotrexate in patients with active, long-standing rheumatoid arthritis resulted in significantly less structural joint damage and improved physical function and health-related quality of life, according to data published in the May issue of Arthritis and Rheumatism. "Newer treatments such as Humira represent a giant step forward from older therapies in their ability to slow or even halt joint destruction and allow patients to return to a more normal lifestyle," said Edward C. Keystone, M.D., study author, University of Toronto, Canada. This study was a trial that supported the U.S. and European approval of Humira.
Telecom . . . Sprint, the third-biggest U.S. long-distance telephone company by sales, said it plans to fire 2,550 workers to reduce costs, 550 more than previously planned. The cuts will cost as much as $90 million before taxes, Sprint said in its filing to the U.S. Securities and Commission.
XM Satellite filed for the resale of 10 million shares of its stock held by General Motors. The filing, dated late Friday, noted that the company has issued GM a warrant in January 2003 to buy up to 10 million shares, exercisable at $3.18, in connection with the establishment of a credit facility. GM had exercised the warrants in April 2004.
IT Services . . . The Financial Times reports that IBM has raised the stakes in its battle with Microsoft by developing a software technology that would allow large corporations to bypass Microsoft OS's and applications on PCs or handheld computers. This is the latest of increasingly aggressive moves by IBM to grab market share as global information technology markets strengthen following three years of downturn. IBM's software technology, to be announced on Monday in New York, has the backing of leading technology companies, including Motorola, PeopleSoft, Adobe Systems and Siebel Systems. Top executives of these company's will announce plans for products that support the IBM software, providing large corporations with further alternatives to Microsoft business software applications. IBM calls the software technology "client middleware" - a type of OS that runs business applications on "clients" such as desktop PCs, handheld devices and advanced types of mobile phone. It is an extension of IBM's successful software strategy that has focused on dominating the markets for middleware - software used by corporations to run large IT systems and e-commerce operations
Network Equipment . . .Cisco’s 3rd quarter4 could show solid sequential revenue growth of approximately 4-5%. While this is better than consensus estimate of $5.55 billion and the company guidance range of 1 to 3%, recent street expectations have moved above the consensus. EPS could be $0.01 above the consensus of $0.18. The revenue strength is driven by increased activities in April, and healthy growth in the enterprise market in particular. Also contributing to the growth is the extra week of operations in the April quarter. There were some relative weakness in carrier sales and the optical product segment. GM is healthy or flat vs. last quarter due to favorable product shift to enterprise sales. Cisco has increased competitive pressure on other vendors by aggressively dropping prices for key products, while pressuring suppliers on component costs. It has effectively captured market shares in the April quarter. In the near future, Cisco could continue to turn up the heat on its competitors, especially Juniper. Cisco is likely to offer a slightly more optimistic projection than last quarter. Cisco could guide for q/q growth
centered around 4% to 5%. Strong U.S. employment figures will continue to support enterprise spending in the coming quarter. However, analysts are concerned that a company as large as Cisco will not be able to sustain this type of high growth in the long run. Cisco is trading 5.5x FY2005E revenue and 27x 2005 EPS. DCF analysis suggests that Cisco’s stock is
discounting 11.6% annual growth over the next 10 years. We think this appears slightly aggressive, given the growth limitations of a large company, peak gross margins, and high stock options expense. However, Cisco’s dominating position and execution provide the stock a reasonable premium.
Boxmakers . . . SG Cowen says that preliminary results from their survey of over 800 consumer households conducted last week indicate that Hewlett-Packard is gaining share (48.8% share of next 12-18 month planned purchases, compared 44.5% in December 2003 survey) in printers, especially in crucial inkjet "All in One" arena. In addition, the firm suggests that Dell's inroads are likely to come at expense of others. Looking past 2nd quarter results which will be reported on May 18th, several elements prompt the firm to be more positive on HPQ shares, such as: 1) the PSG overshoot is largely behind, 2) their new printer survey data is positive for HPQ, and 3) while they continue to be somewhat cautious regarding ESG, they think the shares generally discount a conservative view and the IT spending backdrop is favorable.
Nuance and Sun Micro announce today that Telus will offer a hosted voice automation solution that integrates both company's technologies. Telus, the largest telecom co in Western Canada and the second largest in Canada, will provide voice application integration and development, as well as ongoing maintenance and support for the hosted solutions.
Barron's highlights Lexmark, which was one of the few technology companies that managed to prosper during the industry's downturn. Although known for extreme caution, the CEO Paul Curlander has suggested that next quarter's sales should remain quite high, "high-single-digit growth to low-double-digit growth." It has been more than 2 years since the last time Lexmark told analysts that sales could exceed single digits. Behind the surge is a new partnership formed with Dell that includes the co putting its name on Lexmark printers and selling them, says analyst Laura Conigliaro of Goldman Sachs. While business with Dell accounts for only 6% of Lexmark's total rev, it may have contributed as much as 40% to the increase in Q1 revs, she says. CEO Paul Curlander downplays the closely watched deal with Dell. "We tell the investment community not to count on [the Dell relationship] for growth," he says. But growth from the deal may soon be impossible ignore. Several hardware analysts already have been bumping up their earnings ests. Conigliaro has increased her 2004 estimate to $4.05 a share from $3.85, suggesting that shares could hit 105. The stock isn't cheap as it trades at 23x the consensus estimate for '04 earnings, versus 18x for Canon and 14x for Hewlett-Packard. But article suggests that the revs and earnings growth could well justify that.
Semiconductor Equipment . . . JP Morgan upgrades Applied Materials to Overweight from Neutral and raises their 2004-05 estimates, saying the company grows moderately faster than the equipment industry, and has superior operations, financial management, and cash flow. According to the firm the stock trades at a premium forward P/E multiple to group average, but the firm expects a recovery in tech and equipment stocks to attract substantial large cap growth money and AMAT to be a leadership stock in group.
Semiconductors . . . The WSJ reports Intel is slated to introduce a new line of microprocessors for laptop computers on Monday, underscoring major changes in the way the company makes and markets its chips. The company said it will accelerate a radical move to place the equivalent of two electronic brains on one chip, canceling development on two other microprocessors that had been expected in 2005. Both actions reflect decreasing returns from the company's traditional method of boosting performance-shrinking the size of transistors to help improve a chip's operating frequency, or clock speed. But higher clock speeds consume more energy and reduce battery life on laptops. Rivals such as AMD and Transmeta, were able to use different approaches to boost performance with lower frequencies. As part of its efforts to step up marketing in stores, Intel is inviting retail-chain representatives of Best Buy and Circuit City Stores, among others, to a co event at the San Francisco Giants' baseball park. PC makers also are expected to adopt the new chips. "You will continue to see Centrino more and more across our product line, including consumer laptops," said Ajay Gupta, a senior director of notebook products at Gateway.
C.E. Unterberg upgrades PMC Sierra to Buy from Mkt Perform; firm says checks indicate that growth at China-based OEMs is particularly strong, as co's such as Huawei, ZTE, and Fiberhome aggressively promote their product in int'l markets against incumbent telecom OEMs. Also, firm's analysis of raw material inventory at network OEMs and CMS companies shows that inventories are essentially flat or very modestly up over last 4 quarters. Ttherefore, firm believes that Comm IC growth in networks is just beginning and has further room to go, and that investors may have overreacted, as seen by the drop in PMCS (-27% m/m, -38% q/q). Target is $18.
Software . . . Smith Barney upgrades BEA Systems to Buy from Hold based on valuation, but cuts their target to $13.50 from $15.50; firm believes the recent sell-off has been overdone, and are now already discounting a reduction in the rate of adoption of WL 8.1 (particularly around integration).
The Wall Street Journal reports that Microsoft claimed a breakthrough in the war against computer viruses after its cash-reward program led to the arrest of a German teenager believed to be responsible for the disruptive "Sasser" and "Netsky" programs. MSFT said the informants will together collect a $250k reward if the suspect is convicted, and the WSJ noted that the arrest is the first time a suspect has been nabbed under a reward program that MSFT launched in Nov, setting up a $5 million fund, in conjunction with Interpol, the FBI, and the Secret Service.
Smith Barney upgrades Quest Software to Buy from Hold based on valuation. They believe the sell-off is overdone; firm continues to believe that the company is positioned in a number of businesses that should do better as the economy recovers, and while their ests are below consensus, they still see 33% upside to their new $16 target (down from $17).
Smith Barney downgrades Autodesk to Hold from Buy based on valuation, but raises their target to $41 from $38. While they believe that the company will continue to benefit from improved end-market demand, the stock has tripled since its Aug 2002 lows, and with enterprise-focused vendors likely to show better earnings growth moving deeper into the cycle, they feel there are better opportunities elsewhere in the sector.
Video Games . . . UBS says that they are hearing from channel sources that Sony may drop the core PS2 price from $179 to $149, or as low as $129. The PS2 with the network adaptor could go as low as $149. Firm views this as good news for the industry, as Microsoft, which recently dropped the Xbox to $149, may have to react if Sony does cut prices. According to UBS, any move by MSFT would likely come at its Monday evening press conference or Tuesday after Sony's morning press conference. Firm believes the price cut by Sony would likely provide a big catalyst for the game publishers and would expect the whole sector to trade up if Sony drops its price, since most people are not expecting any Sony price cut until the fall. Game publishers with the most PS2 and Xbox exposure include THQI, ERTS, and ATVI.
Microsoft announced four years ago that it was getting into the video game business, skeptics questioned whether the world's largest software company could be anything but a distant second-best. While Microsoft remains an underdog in the battle against Sony , its Xbox is gaining ground: the No. 2 game console is expected to have outsold Sony's PlayStation 2 for the first time on a monthly basis in April, boosted by a price cut that made the Xbox cheaper than the PS2.
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