Markets & Finance

S&P Downgrades Red Hat


Red Hat (RHAT): Downgrades to 2 STARS (sell) from 3 STARS (hold)

Analyst: Jonathan Rudy, CFA

We expect further pricing pressure for Linux software and services. We believe this could negatively impact shares of open source software provider Red Hat over the near-term. Additionally, we believe that valuation remains a concern, with Red Hat trading at a notable premium to peers on an enterprise value-to-sales basis of 14 times. Due to these competitive and valuation concerns, we recommend that investors sell Red Hat shares. We are lowering our 12-month target price to $10 from $13, on relative enterprise value-to-sales and p-e-to-growth.

Fannie Mae (FNM): Maintains 2 STARS (sell)

Analyst: Mark Hebeka, CFA

The Wall Street Journal reports that Fannie Mae may have to recognize an additional $2.8 billion in losses on its derivatives portfolio. If recognized, these losses would bring Fannie Mae's derivative-related losses up to about $12 billion, further hampering its regulatory capital, which is already below its minimum requirement, according to OFHEO. While we are a bit skeptical of the size of the potential losses, we believe there are still many issues that could hurt Fannie Mae during its attempt to correct accounting procedures and restate earnings. We are keeping our 12-month target price at $57.

News Corp. (NWS.A): Reiterates 5 STARS (strong buy)

Analyst: Tuna Amobi, CPA, CFA

News Corp. raises fixed exchange ratio on tender for non-voting shares of 82%-owned Fox (FOX 33.60 ) to 2.04 from 1.90, a 2% premium on last night's close. We had expected a modestly higher bid, as 8% appreciation in Fox shares since Jan. 10 announcement had erased the initial premium. We believe the looming court hearing on a shareholder motion to block the tender provided the impetus for the sweetened offer. After News Corp.'s domicile change to U.S., we still believe the Fox tender, which could be completed in March, should facilitate integration of its global asset portfolio.

Nortel Networks (NT): Maintains 3 STARS (hold)

Analyst: Kenneth Leon, CPA

We believe it is difficult to forecast a financial outlook for the near-term, which has delayed reporting financial results. The company's next financial update is expected to be released on Mar. 14, but its third-quarter 2004 results will not be filed until the end of March. In addition, full-year 2004 results will not be filed until the end of April. Nortel has not disclosed when it will release results for the first-quarter of 2005. We are lowering our 12-month target price to $3 from $3.50, to reflect growing concern about Nortel's competitive ranking. Despite shares priced below peers, we would not add to positions.

Hovnanian Enterprises (HOV): Reiterates 3 STARS (hold)

Analyst: William Mack, CFA

Hovnanian posted January-quarter earnings per share of $1.25, vs. 87 cents, below our $1.32 estimate amid wet weather in California. We are raising our fiscal 2005 (ending October) earnings per share estimate to $7.35 from $6.57 based on sales momentum we see continuing, and boosted by two recent acquisitions. We are maintaining our 12-month target price of $60, after applying a p-e multiple of about 8.2 times to our new fiscal 2005 earnings per share forecast. This new target p-e, in line with peers, has been reduced to reflect our view that acquisition and joint venture profits, rising as a percentage of the total, are of relatively lower quality.

Cablevision Systems (CVC): Reiterates 3 STARS (hold)

Analyst: Tuna Amobi, CPA, CFA

Shares are down sharply today as Chairman C. Dolan, in a surprise move, ousted 3 directors and tapped 4 new directors including Liberty Media Chairman J. Malone. The move renews concerns about Dolan's quest to fund remaining "Voom" DBS assets with the pending sale of Rainbow 1 satellite to Echostar. With no deal after the Feb. 28 deadline on the "Voom" letter of intent, the 8-K says Dolan will brief board by Mar. 7 on financing a search, which seems to us an uphill task. Separately, per the 8-K, the SEC on Feb. 28, 2005 opened an informal inquiry on Cablevision trades around the Rainbow spin-off suspension and deal with Dish.

Fox Entertainment Group (FOX): Reiterates 3 STARS (hold)

Analyst: Tuna Amobi, CPA, CFA

News Corp raises tender swap ratio for rest of 82%-owned Fox to 2.04 class A shares from 1.90, implying $34.27 per Fox share based on last night's close. We expected modestly higher bid, with implied 2% premium on new offer making up for 8% Fox appreciation since the Jan. 10 announcement, which erased initial premium. With hearing on class action challenge likely in mid-March, the tender could be completed soon thereafter. Meanwhile, we do not think pending recommendation of special committee of the Fox board, either way, would be fatal to completion. Our 12-month target price is $35.


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