Message-ID: <20440868.1075852645697.JavaMail.evans@thyme> Date: Thu, 30 Aug 2001 11:44:33 -0700 (PDT) From: david.morris@lehman.com To: larimore@enron.com, jordan.larimore@lehman.com Subject: The Morning Market Call - Thursday August 30th, 2001. Mime-Version: 1.0 Content-Type: text/plain; charset=ANSI_X3.4-1968 Content-Transfer-Encoding: 7bit X-From: "Morris, David C." @ENRON X-To: Larimore, Jordan R. X-cc: X-bcc: X-Folder: \JSKILLIN (Non-Privileged)\Deleted Items X-Origin: Skilling-J X-FileName: JSKILLIN (Non-Privileged).pst <> Abbreviated Call. - No Comments From The Local Guys! The 30 -year bond yield is 5.36%. The 10-year is trading at 4.77%. The 5-year is trading at 4.32%. Spot crude oil is trading at $26.65 p/b. Natural Gas - Henry Hub - is trading at $2.38 p/mcf IMPACT CALLS Ivex Packaging(IXX) 3 - Market Perform J. Tiss, .212.526.3521 Cut Rating to Neutral On Big Price Run (A) OLD NEW STREET P/E Price: $19.35 EPS 2000 N/A $1.06 N/A N/A 52 Wk Ra: $20 - 8 EPS 2001 $1.20E $1.20E $1.22E 16.1 Mkt Cap: $394.7MM EPS 2002 $1.35E $1.35E $1.39E 14.3 FY: 12/31 Price Target $18 $18 Rank 2 3 *Cut rating on Ivex Packaging to 3-Neutral from 2-Buy based on a 227% price increase in the past year and a valuation that appears quite full. *While we acknowledge that the earnings are still somewhat depressed and price increases plus raw material cost declines will help the next 2 quarters, these positives appear priced in. *Stock currently at 7.9x '01 EV / EBITDA vs pack univ at 7.4x & 20-year sector average of 7.5x. *We continue to like the company a lot and believe that Ivex has done an excellent job of creating longer term shareholder value and will continue to deliver. *End market demand appears slightly positive but is slow, although restructuring and aggressive cost cuts should allow further improvement in EPS. *We are maintaining our $18 target (7.5x '01 EV / EBITDA), and our EPS estimates of $1.20 and $1.35 in 2001 and 02 respectively. FOCUS STOCKS Caterpillar Inc(CAT) 3 - Market Perform J. Tiss, .212.526.3521 Recent News Flow Underlines Neutral Thesis OLD NEW STREET P/E Price: $51.17 EPS 2000 N/A $3.02 N/A N/A 52 Wk Ra: $57 - 30 EPS 2001 $2.62E $2.62E $2.71E 19.5 Mkt Cap: $17.8B EPS 2002 $3.00E $3.00E $3.45E 17.1 FY: 12/31 Price Target $50 $50 Rank 3 3 *With Caterpillar shares in the $50 range, they appear to be boldly forecasting a solid snap-back in 2002 equipment demand--which is far from certain. *Deere shares in the low $40's are in roughly the same position although it is easier to make a case for pent up demand in the farm equipment sector following 3 lean years. *It appears to be a good time to revisit out thesis and reexamine some of the conclusions to see if they still stand up 6 months later and if they are relevant for the next 12-18 mos. *We remain comfortable with our neutral ratings on both Cat and Deere, buy rating on Ingersoll Rand and strong buy rating on Joy Global. Sun Microsystems(SUNW) 3 - Market Perform D. Niles, .415.274.5252 Revs & GMs Even Worse Than Expected; EPS Cut By 47% (C) OLD NEW STREET P/E Price: $13.43 EPS 2001 N/A $0.44 N/A N/A 52 Wk Ra: $65 - 13 EPS 2002 $0.32E $0.17E $0.34E 79.0 Mkt Cap: $45.4B EPS 2003 $0.55E $0.34E $0.59E 39.5 FY: 6/30 Price Target N/A N/A Rank 3 3 *Yesterday, Sun gave guidance that revs in the US were slightly below plan with Europe and Japan the main culprits. They are now forecasting revs to be below $3.7B with lower GMs and a small operating loss. This is even worse than we previewed Monday. We have lowered CQ3 revs from $3.9B to $3.5B, EPS from $0.02 to ($0.02), FY2002 revs from $18.0B to $15.9B and EPS from $0.32 to $0.17. *Sun believes that this is not a company specific issue and that all computer hardware vendors are having difficulties. IT demand is significantly lower than 6 weeks ago and deterioration in the global economy has affected sales cycles and the ability to close deals in the pipeline. *The macro issues in the US seem to be spreading to Europe and Asia for most tech companies and we still have 50% of the quarter left to do. This has been our thesis since early this year and we expect it to get worse before it gets better. We remain cautious on the computer hardware group. COMPANY/INDUSTRY UPDATES Altera Corp(ALTR) 3 - Market Perform D. Niles, .415.274.5252 No Surprise, 3Q Guidance Unchanged (C) OLD NEW STREET P/E Price: $29.96 EPS 2000 N/A $0.96 N/A N/A 52 Wk Ra: $67 - 19 EPS 2001 $0.38E $0.38E $0.36E 78.8 Mkt Cap: $11.9B EPS 2002 $0.40E $0.40E $0.38E 74.9 FY: 12/31 Price Target N/A N/A Rank 3 3 *As we previewed on Tuesday, Altr reaffirmed Q3 guidance of revs down 15-20% q/q and GMs of 63-64% and said nothing else. Though we strongly believe they are tracking to the lower end of guidance we did not expect a change in guidance given the back-end loaded nature of Q3 and the hope that things improve. *There were no details but given their poor August, there would not have been much good to say. There is continued weakness in their telecom end market as underscored by WorldCom group yesterday cutting its cap ex for 2002 to $5.5 from $7.0B in 2001. In the data processing end market, Sun confirmed that demand continues to worsen and we are lowering revs by $2.1B for FY02 to $15.9B. *Xlnx will give their update on Sept. 10th and we expect no change in their guidance (revs down 20-25% q/q) though things are tracking to the higher end of their range which they should mention. Both stocks remain expensive. Oil & Gas T. Driscoll, .212.526.3557 Exploration & Production: Falling gas prices could hurt E&P's *We continue to remain cautious about the outlook for natural prices (as well as E&P share prices) because of growing natural gas supply combined with weak natural gas demand. We believe that the average E&P stock fairly discounts a long-term natural gas price forecast of about $3/MMBtu - but with the September gas contract falling as much as $0.165 to $2.25/MMBtu yesterday we believe that near-term stock price performance is likely to be negative. Investors are prepared for short-term natural gas price weakness - however if the price gas-price weakness is sustained we believe that E&P shares will be under increased pressure. VeriSign Inc(VRSN) 2 - Buy I. Hernandez, .415.274.5395 Reiterating 2-Buy on Best Large Cap Idea (C) OLD NEW STREET P/E Price: $38.69 EPS 2000 N/A $0.32 N/A N/A 52 Wk Ra: $214 - 26 EPS 2001 $0.63E $0.63E $0.63E 61.4 Mkt Cap: $8.2B EPS 2002 $0.95E $0.95E $1.04E 40.7 FY: 12/31 Price Target $70 $70 Rank 2 2 *We are reiterating our 2-Buy rating and $70 price target. VeriSign remains our top large cap idea and we would be aggressive buyers at current levels. *Recent pullback below $40 (40x FY02 EPS) provides great entry point to establish positions. *VeriSign remains one of a few companies able to provide investors with revenue and EPS visibility due to its unique services model and deferred revenue model. A major catalyst going forward for earnings growth is our expectation of expanding operating margins from 14.6% to over 30% by 2003. *We believe the introduction of new top-level domains, ".biz" and ".info" in Q4 provide catalysts to maintaining and increasing the deferred revenue growth, an important metric with investors. *We attribute yesterday's selloff to speculation re: the revenue contribution of recently acquired Exault. After discussing the acquisition with management we view the contribution as immaterial to our model. Paper & Forest Products P. Ruschmeier, .212.526.9898 MEA/W Merger Bullish For Consolidation Trend *We recommend aggressive purchase of MEA (Strong Buy) and W (Buy) as the announced combination between the companies should create an estimated $1.95 BB ($9.83 per pro-forma share) of shareholder value. The deal also supports our Strong Buy on SPP and our Buy rating on BOW. Technical selling related to hedges on long positions of MEA and W is possible on numerous large-cap companies such as IP, WY, and GP but we view technical weakness as a buying opportunity for fundamental investors. *The MEA/W combo should create $1.95 BB of value (6.0X synergies of $325 MM) or $9.83 per pro-forma share. *Non-strategic asset sales are likely and we estimate rationalization of at least 125K tons (1.2% U.S. supply) of coated paper capacity. *We estimate only a 20% probability the deal is broken up. Gaming & Lodging J. Minor, .617.342.4120 Lodging Industry RevPAR Falls Further in July, -6.0% *Yesterday, Smith Travel Research released July lodging industry data showing RevPAR declined further in July, down -6.0%, worse than the -4.1% decline of June. The "upper upscale" segment where most public companies are concentrated was down -10.9% vs. -7.2% in June. While most lodging companies expected 3Q01 RevPAR results to be slightly below 2Q01 levels, this is not an auspicious start to 3Q01. With numbers like this, it's hard for us to say you have to own the lodging stocks. But, we still expect our downward earnings revisions will be less painful than the S&P's overall, which should allow continued outperformance for the lodging stocks. With the least downside risk, Marriott remains our favorite. REITs with strong, safe yields like HMT and FCH are also still attractive. International Game Tech(IGT) 3 - Market Perform J. Minor, .617.342.4120 IGT - S&P 500 Add, FTC Inquiry, Maintain 3-Rating OLD NEW STREET P/E Price: $52.72 EPS 2000 N/A $1.77 N/A N/A 52 Wk Ra: $66 - 28 EPS 2001 $2.80E $2.80E $2.79E 18.8 Mkt Cap: $3.9B EPS 2002 $3.10E $3.10E $3.19E 17.0 FY: 9/30 Price Target N/A N/A Rank 3 3 *Yesterday after the close, it was announced that IGT shares will be added to the S&P 500 Index and removed from the S&P 400 Index. Our derivatives team expects a muted positive reaction in the shares. Also, IGT announced that the FTC has requested additional information on its proposed acquisition of SLOT. While such information requests are common, it may signal that the transaction will not just be "rubber stamped". We continue to see IGT's earnings growth decelerating as current growth drivers abate (California, new unit shipments) and we question other growth sources (no acceleration in the replacement cycle). So, we reiterate our 3-Market Perform and would use high volumes and price strength related to the S&P 500 addition as an opportunity to pare holdings. *S&P announced that IGT will be removed from the S&P 400 and added to the S&P 500. Our derivatives team expects a net buy of 3.941 mil shares, or about 4.3 days of volume. Our team notes that while an S&P 500 addition is usually a positive, when combined with a move out of the S&P 400, the reaction is generally muted. Advanced Fibre Comm.(AFCI) 1 - Strong Buy A. Green, .212.526.3860 A Summertime Visit With Advanced Fibre (C) OLD NEW STREET P/E Price: $26.25 EPS 2000 N/A $0.59 N/A N/A 52 Wk Ra: $54 - 12 EPS 2001 $0.08E $0.08E $0.09E 328.1 Mkt Cap: $2.2B EPS 2002 $0.35E $0.35E $0.35E 75.0 FY: 12/31 Price Target $30 $30 Rank 1 1 *This note briefly highlights some of the datapoints from our meetings with members of AFC's management team yesterday. *The meetings could best be described as educational as much of the discussion stemmed around the company's strategy, regulatory issues in the market, AFC's manufacturing process, the competitive landscape, and new technologies. *We would point out, however, the that time spent was also reassuring as the tone conveyed by management was both confident and optimistic, and we saw products labeled for shipment to a number of carriers, both international and domestic, including Sprint, a number of Independents, as well as both Verizon and SBC. *We continue to rate AFCI shares 1 Strong Buy and reiterate our $30 price target. David C. Morris Sr. VP Lehman Brothers 713-652-7112/800-227-4537 dcmorris@lehman.com Disclosure Legend: A-Lehman Brothers Inc. managed or co-managed within the past three years a public offering of securities for this company. B-An employee of Lehman Brothers Inc. is a director of this company. C-Lehman Brothers Inc. makes a market in the securities of this company. G-The Lehman Brothers analyst who covers this company also has position in its securities. Key to Investment Rankings: This is a guide to expected total return (price performance plus dividend) relative to the total return of the stock's local market over the next 12 months. 1 = Strong Buy (expected to outperform the market by 15 or more percentage points); 2=Buy (expected to outperform the market by 5-15 percentage points); 3=Market Perform (expected to perform in line with the market, plus or minus 5 percentage points); 4=Market Underperform (expected to underperform the market by 5-15 percentage points); 5=Sell (expected to underperform the market by 15 or more percentage points). This document is for information purposes only. We do not represent that this information is complete or accurate. All opinions are subject to change. The securities mentioned may not be eligible for sale in some states or countries. This document has been prepared by Lehman Brothers Inc., Member SIPC, on behalf of Lehman Brothers International (Europe), which is regulated by the SFA. ?Lehman Brothers, Inc. ------------------------------------------------------------------------------ This message is intended only for the personal and confidential use of the designated recipient(s) named above. If you are not the intended recipient of this message you are hereby notified that any review, dissemination, distribution or copying of this message is strictly prohibited. This communication is for information purposes only and should not be regarded as an offer to sell or as a solicitation of an offer to buy any financial product, an official confirmation of any transaction, or as an official statement of Lehman Brothers. Email transmission cannot be guaranteed to be secure or error-free. Therefore, we do not represent that this information is complete or accurate and it should not be relied upon as such. All information is subject to change without notice. - MF August 30th 2001.pdf