Markets & Finance

S&P Keeps Hold on Hewlett-Packard


Hewlett-Packard (HPQ): Reiterates 3 STARS (hold)

Analyst: Megan Graham-Hackett

H-P announces restructuring plans, which it expects will yield annual savings of $1.9 billion. The associated layoffs were estimated at 14,500 employees, roughly in line with our 15,000 estimate. However, H-P's plan to execute this workforce reduction over the next six quarters was longer than we anticipated. The company sees savings of $900 million to $1.05 billion in fiscal year 2006 (October). On its conference call, H-P says its headcount cuts would be focused on support functions, and that 50% of the savings would be reinvested in the business and would offset price pressures. CEO Hurd said that while details still remain, the plan was based on what H-P wants to look like in 2008. We view this strategy as risky, since we believe slow roll-outs on headcount cuts threaten worker productivity, and given tech's ever-changing market dynamics, action should be swift and based on today's market realities. But at below-peers 0.9 times price/sales, we view H-P as fairly valued.

IBM (IBM): Reiterates 3 STARS (hold)

Analyst: Megan Graham-Hackett

Second-quarter earnings per share of $1.12 before items, vs. $1.01, beats our $1.02 estimate, as the Global Services segment gross margin and signings recovered better than we had forecast after missing in the first quarter. We think expectations were set low. Revenue overall was in line with our model, but hardware is a bit below, with mainframe sales off 24% from a year ago. We still see sustained execution in services and recovery in European business as key going forward. We are upping our 2005 estimate by 14 cents, to $4.80, but figure it is back-loaded. In line with peers at a price 1.5 times sales, we view IBM as fairly valued.

Ford (F): Reiterates 2 STARS (sell)

Analyst: Efraim Levy, CFA

The company posts second-quarter earnings per share of 47 cents, vs. 57 cents. While this is above our 31 cents estimate and recent Ford guidance, we are disappointed by the quality of the EPS, as we estimate that interest on tax refunds contributed nearly 32 cents. Although we expect third-quarter sales to benefit from the Ford "family" price promotion, we expect higher raw materials and lower pricing to hurt second half income. We expect lower vehicle sales volume for the year, even with additional new products coming to market. We are putting our $1.09 EPS estimate for 2005 under review for update later today.

Johnson & Johnson (JNJ): Keeps 4 STARS (buy)

Analyst: Robert Gold

Second-quarter operating earnings per share of 93 cents, vs. 82 cents, beat our estimate by 1 cent, aided by lower tax rate. Sales were $211 million above our forecast, mostly driven by strength in overseas pharmaceuticals and market-share gains in both the drug-coated coronary stent and orthopedic reconstructive implant segments. U.S. pharmaceutical sales, however, fell fractionally, largely on patent expirations. We still see 2005 operating EPS at $3.45 on expected sales of $52 billion. Regarding the pending Guidant (GDT) acquisition, J&J still sees regulatory okays by the third quarter, but recent product recalls by Guidant could delay the closing.

International Paper (IP): Reiterates 2 STARS (sell)

Analyst: Michael Jaffe

International Paper is up 12% this morning on news of its plan to focus on uncoated paper and packaging grades. We agree with the strategy of focusing on two grades we see as better-situated and in which IP has major positions. We also agree with the plan of using proceeds from intended sale of other businesses to reduce debt. But we think IP's desire to sell non-core businesses for $8 billion to $10 billion is ambitious. We also think primary grades are past the midpoint of their upcycle, and that IP is overvalued at 21 times our 2006 EPS forecast. We are raising our target price by $3 to $28, on relative p-e.

Merrill Lynch (MER): Reiterates 4 STARS (buy)

Analyst: Robert Hansen, CFA

Merrill Lynch posts second-quarter earnings per share of $1.14, vs. $1.05, matching our estimate. Results were aided by strong revenue growth in the investment banking and private client segments, as well as continued share buybacks. We see increased merger and acquisition and IPO activity benefiting EPS in 2005 and 2006, and we are raising our EPS estimates to $4.85 from $4.70 in 2005 and to $5.40 from $5.20 in 2006. Our 12-month target price goes to $68 from $65, or nearly 13 times our 2006 EPS estimate. We think Merrill's significant proportion of asset management and portfolio fees merit higher valuation, and we reiterate our buy opinion.

Avon Products (AVP): Downgrading to 3 STARS (hold) from 4 STARS (buy)

Analyst: Howard Choe

Avon posts second-quarter earnings per share of 69 cents, vs. 49 cents, 3 cents above our estimate. We believe the issues of channel-conflict concerns in China and the deceleration of growth in in Central and Eastern Europe will restrain Avon's performance over the next 12 months. We also think margins will be negatively impacted as Avon increases marketing spending. As a result, we are lowering our 2005 EPS estimate to $2.04 from $2.14, 2006's to $2.21 from $2.27, and our target price to $36 from $44. But despite near-term concerns, we would hold Avon, given our view of developing market opportunities and a p-e below peers.


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