Tuesday, January 29, 2008

Red Hat (RHT): I Buy

This morning I bought some Red Hat (RHT). I believe the stock is undervalued, the company is growing rapidly, and in addition this helped diversify my portfolio.

I have watched Red Hat for over a decade, and in a way it is responsible for my being a technology stock analyst and investor today (I warned against buying its stock back then). Red Hat went public in 1999 (See Wikipedia Red Hat article for more history). It was touted as another "next Microsoft." A leader in the commercialization of the "open-source" Linux operating system, the stock flew near the sun despite having tiny revenues and no profits. Along with many Internet related stocks its price crashed in 2000-2001 (See chart.) The stock price is up quite a bit since then, but is only about 1/20th of its peak price in 1999.

Red Hat is now a profitable, rapidly growing company, with reported Q3 revenues of $135.4 million, up 6% sequentially from $127.3 million and up 28% from $105.8 million year-earlier. [That would be their Q3 fiscal 2008, ending November 30, 2007]. See my full summary of the Red Hat December 20, 2007 analyst conference for a wealth of detail.

Like all stocks, buying Red Hat is risky. In Red Hat's case there is an increasing amount of competition in the Linux space. Novell is staking its future on Linux; IBM, and Oracle offer Linux, and Sun Microsystems offers Solaris in direct competition.

Red Hat has been in the Linux business a long time and has a large installed base and a sterling reputation as a service provider. It is still growing on a small base. It has introduced new services like JBoss and virtualization.

It also has a low P/E ratio for a growth stock. GAAP earnings in the latest quarter were $0.10 per share. That would annualize to $0.40. At $17.90 per share that would be a P/E of 45. But a broker trying to get a commission by selling shares would use non-GAAP earnings to get the P/E. Non-GAAP earnings were $0.19 per share, annualizing to $0.76, and giving a P/E of 24.

I believe Red Hat is likely to grow earnings faster than revenues, given their business model and the fact that it has been happening lately. I also believe Red Hat won't be hurt much by macroeconomic weakness because the main thing it is selling is a value proposition to its customers: Red Hat Linux lowers operating costs comparted to UNIX or Windows (which, of course, Microsoft disputes).

Well I could be wrong, but I think it is a good bet.

Keep diversified.

For more data see:

My Red Hat main page
NASDAQ Red Hat summary page

Sunday, January 27, 2008

Microsoft's Fourth Quarter

With Apple (AAPL) stock down Friday to $130 per share, off 36% from its recent peak of $202.96, folks might want to revisit the adage "slow and steady wins the race." Apple is a good profit generator and reported good Q4 2007 earnings recently, but its stock had been in its own private bubble. Its high PE ratio could only be maintained by the fiction of eternal rapid revenue and earnings growth. With iPod sales up only 5% from year-earlier (which I warned about: See Apple iPod Sales Decelerate?), Apple will probably continue to grow. But not at the rate it has seen since the iPod lifted it off its moribund pre-iPod base.

Even after Friday was over Apple's P/E ratio was 28.51. Microsoft had a very upbeat Q4 earnings report on Thursday, but its PE ratio at close of day Friday was a quite conservative 18 (I am using today's Nasdaq figures: be warned all PE calculations are not alike!).

See my Summary of Microsoft's January 24, 2008 Analyst Conference for details on Q4 2007 (their fiscal Q2 2008). Here I'll just highlight some issues.

Microsoft revenue was $16.37 billion, up 30% from year earlier. Basically everything sold well, from Xbox 360 consoles and games to Vista to business software like SQL Server and Office. This figure was turbocharged because in the December 2006 quarter some revenues were deferred for purchases of Windows XP that allowed a free upgrade to Vista.

Earnings per share (EPS) were $0.50, almost doubling the $0.26 of the year-earlier quarter.

Like Apple, Microsoft's business is somewhat seasonal. It is strongest in the back-to-school and Christmas periods. So for the March quarter Microsoft guidance on EPS is $0.42 to $0.45. Still, the earnings run rate is moving towards $2 per share per year.

Apple's earnings were also growing quickly, up 54% from year earlier.

A economist who believes in rational investors and pricing being automatically set by free markets would have trouble with these numbers. If what investors want is earnings, and Microsoft's earnings are growing faster than Apples, then Microsoft should have a higher PE ratio than Apple, not a lower one.

Well, in case you had not noticed, investors are not entirely rational, and auction pricing of stocks drives prices away from equilibrium in the short run.

There are many details that can be picked apart in the Microsoft and Apple stories to justify bullish and bearish attitudes towards the stocks. But overall, Apple is a pet stock just as its technologies are driven by fashion over function. Microsoft is boring. The only reason to own Microsoft stock is to make money.

The death of Microsoft has been much heralded. Many companies that were going to kill Microsoft are themselves dead. The Internet did not kill Microsoft, and neither did Google. Oh, sure, it still might happen. Microsoft has a very, very, broad set of offerings; failure in one area can be made up in other areas.

Because of the current liquidity scare both companies stock prices now look undervalued to me, and that is true of many technology companies.

The most important thing is not whether you have a lot of Apple stock of Microsoft stock, but how smart you are in diversification. Diversification hedges your bets, but you still want to be careful in the selection of each and every stock in your portfolio.

I own Microsoft stock and have worked freelance for Microsoft. I don't own Apple stock, but have friends and family that own Apple stock and/or work(ed) for Apple.

More data:

My Microsoft main page
My Apple main page

Thursday, January 24, 2008

Gilead Preps for Atripla in Europe

Gilead Sciences (GILD) reported a good, but not outstanding, 4th quarter of 2007 in its analyst conference on January 23, 2008 [See my summary of the Gilead conference].

There were 2 key take-aways. Revenues and net income would have been much better if royalties from Tamiflu sales (from Hoffmann-La Roche) had not dropped by about 1/2 from the previous year and 28% from Q3. Tamiflu revenues are delayed by a quarter, so this was really about Q3 sales. The flu season and the bird-flu situation have both been relatively mild this year. This is one of the risks of those who sell therapies: you don't do well when people are not sick.

Direct sales of Gilead products, mostly for HIV infections, did great. They were up 35% from year-earlier mainly on gains in Atripla, a once-a-day, three-drugs-in-one-pill medication. Almost all this income was from the United States.

In 2008 Gilead will be ramping sales in Europe. There may be Q1 revenues, but countries will come in one at a time, with some not producing income to Q4 or later.

That means, most likely, big gains in Gilead revenues and net income in 2008. Which leaves the company's stock (which I own some of) looking undervalued to me at current prices. According to its Nasdaq summary page, the PE (price to earnings ratio) at this moment is 27.4, which is quite reasonable for a company with rapidly growing profits.

In addition, Gilead has a huge amount of cash ($2.72 billion) and a strong pipeline of possible future medications.

To see more of my writing, including summaries of past analysts conferences, see my Gilead page.

For some help on investing in biotechnology stocks, see my Biotechnology Investor Help page.

Sunday, January 20, 2008

AMD Beats Expectations

Wall Street's gleeful expectations of the demise of AMD, and return of monopoly profits at Intel, were shattered when AMD delivered its Q4 results on Thursday, January 17, 2008. While AMD is far from being out of the woods, its situation is much better than most analysts thought.

The headline numbers offered an excellent demonstration to paying attention to the difference between GAAP and non-GAAP numbers. Revenues under both systems were the same, $1,77 billion. That was up 8.5% from the previous quarter but flat from Q4 2006, so it mainly represents the seasonal nature of the personal computer business.

GAAP net income was negative $1.77 billion. That would normally mean a company spent twice as much money producing and selling its goods as it was able to sell the goods for.

But non-GAAP net income was negative $9 million. Losing $9 million in a quarter is not good, but it is a far cry from a $1.77 billion loss.

The difference has to do with AMD's acquisition of ATI in 2006 for over $5 billion. At the time that seemed more than ATI was really worth, but AMD thought it was worth it to obtain ATI's graphics chip and motherboard chipset (the chips that make the microprocessor of a computer work with other chips on the board that holds them all) capabilities. Unfortunately ATI's competitor NVIDIA came out with new product that kicked ATI's behind in 2007.

So for Q4 2007, under GAAP rules, AMD admitted they paid to much for ATI, writing off $1.6 for lost "goodwill." You can still look at it two ways. AMD admitted they lost $1.6 billion. Or they had already paid for ATI back in 2006, so this is what is called a non-cash charge.

It's not like the ATI acquisition was all folly. AMD actually has, at least for the present, a strategic advantage over rival Intel because of it. Intel makes processors and chipsets, but only low-end graphics chips. NVIDIA makes high-end (and low-end) graphics chips and chipsets. Only AMD can deliver all three to computer makers: advanced microprocessors, chipsets, and high-end graphics chips.

The other part of AMD's report that was a surprise to most of us was the "Barcelona" quad-core Opteron processor situation. Bacelona chips had been delayed in Q1, and an error was found in the chips, so AMD announced it would not be making general shipments until Q1 2008. Actually the error was easily fixed in the Linux operating system, so large data centers that had been waiting for the chips decided to buy them despite the bug. Nearly 400,000 were shipped. Of course the revenues from most of those won't show up until Q1 2008.

Because of the quad-core shipments ASPs (average sales prices) were up for processors, and number of units shipped were up as well. Graphics revenues were up, but not so much.

Intel, of course, has fairly decent chips out now, in many ways playing catch-up to AMD designs, but having an advantage of introducing 45nm (higher transistor density) technology before AMD. But AMD is sampling 45nm chips, so the race is hardly over. On the Intel side they are working to catch up with AMD and NVidia in graphics capabilities.

With demand for personal computers (mostly for business use) exploding in India, Russia, China, Saudi Arabia and other rapidly developing nations, there is room for both AMD and Intel to grow. Behind in technology, and having been forced to cease, or appear to cease, illegal marketing practices due to an AMD law suit, in 2006 Intel started a brutal pricing war to keep its market share. In 2007 Intel introduced better chips and relented on pricing issues, which allowed it to start raking in money again. AMD has benefitted from the easing of pricing pressures, but must regain a clear technology lead if it is to be free from that danger in the future.

AMD's stock price received a nice pop on Friday after the Q4 results announcement, but the stock price is way down from its 2005 price. AMD is a risky investment, but management believes AMD will turn profitable in Q3 2008. If that is true, the stock is significantly undervalued at today's price.

I own AMD stock.

See my notes on Thursday's AMD analyst conference
See my main AMD page, with links to more articles
My Intel main page

Wednesday, January 16, 2008

Intel Disappoints, But Stock is Undervalued

Sell-side analysts (those who work for Wall Street brokerage houses that make commissions by getting clients to buy and sell stocks) did not like Intel's Q4 results or forecast for 2008. Pricing by auction in the stock market made the price of Intel stock plunge today (by 12.25%) - no one wants to buy, if at the end of the day you can buy cheaper. In addition Intel stock was already cheap, like most stocks, because of the current liquidity squeeze.

In the Intel v. AMD tech war, I favor AMD, both because it is the traditional underdog and because it was innovating processor design in the opening years of this decade, which benefits everyone who uses personal computers. I think AMD stock is way cheap right now, but that does not blind me to the value of Intel stock.

If you want a lot of detail on Intel's (INTC) Q4 results and management's explanations, take a look at my analyst conference summary.

Here I'll focus on a couple of points. The first in Intel's guidance on Q1 2008 margins. Margins are the difference between revenues and expenses, so at a given level of revenues, higher margins are good. Intel expects margins to dip in Q1. The Wall Street geniuses acted like that was a big surprise and a reason to dump Intel stock.

But there are two main things accounting for the Q1 margin dip. First, demand for CPUs for microcomputers is seasonal, always peaking in Q4. Q1 revenues are expected to be lower; with many costs fixed, that in itself will lower margins.

Second, Intel sold its cell-phone processor division to Marvell (MRVL) last year. It made 2007 a trying year for Marvell because they paid cash for it. It was great for Intel because they got cash for a money-losing unit (Marvell expects it to become profitable in the very near future). Under the agreement Intel would continue manufacturing the processors until Marvell could arrange offshore manufacturing for them. That transition began in Q4 2007 and will be completed in Q1 2008 except for some legacy processors that Marvell did not think it worth tooling up to produce. Those legacy processors will still be sold by Intel to Marvell.

The margins were good on the Marvell processors, but now those revenues will go away. So the best guidance Intel can give is that Q1 revenues will be weaker than is the norm for the season.

At the same time, Intel said their inventories are thin. And with demand in India, China, and Russia charging ahead, I think they are being cautious in their predictions. Technology is still a growth area, and computers, even if they morph into cell phones, are the heart of modern technology.

According to the Intel page at NASDAQ, the company has a PE ratio of 16.86, which inverts to earnings on stock of 5.9%. With Intel expected to grow revenues 10% in 2008, and net income (profit) growing faster than revenues, that is a bargain price.

Along the same lines, I think that NVIDIA stock is a bargain today. I'll write about NVIDIA again after I hear their what they have to say at their analyst conference.

By way of disclaimer, I own AMD stock, but not NVIDIA or Intel stock.

Keep diverse!

See also www.intel.com

Monday, January 14, 2008

Genentech (DNA) Stalls, Points to Pipeline

Genentech (DNA) tried to put a positive face on its 4th quarter of 2007 today in its press release and analyst conference, mainly by pointing to full 2007 numbers. Most companies would envy those numbers, but for Genetech the point to slowing revenue and profit growth. Comparisons between Q4 2007 and Q2006 are positive but the growth is minimal. Worse still, net income (GAAP basis) has declined slightly for two quarters in a row now.

This, and the bad news on Zetia today, illustrate the downside to investing in biotechnology companies, even relatively big, successful ones like Genentech. Sales of most of Zenentech's drugs have stalled for one reason or another. Of Genentech's top selling drugs only Avastin showed strong growth from Q4 2006 to Q4 2007, at 23% growth. Two drugs, Lucentis and Nutropin, showed declines.

The big hope is that the FDA will approve Avastin for breast cancer in February, but management was careful to say that while approval is possible, further study may be requested as well.

For more detailed notes on today's conference, see my Genentech January 14, 2008 analyst conference summary. For past summaries and other useful links see my Genentech main page.

On the other hand, Genentech is spending an astonishing amount of money on R&D and still turning in profits. Management says it is looking at the long run. They have 20 molecules they are testing for various indications. Plus many of their currently approved drugs are being tested for expanded indications. The long run looks bright; the question is: how much do you want to pay now to participate in the long run?

What with the current liquidity squeeze I'd say now is a good time for a long term investor to buy Genentech stock. Priced at $70.64 per share at the end of today, it had a PE ratio of 24.7(per NASDAQ, which usually uses non-GAAP numbers). That is cheap for what is usually a growth stock.

The dilemma is, wait for the Avastin breast cancer decision, or plunge in? If the decision is a go, the stock will pop a bit. If they require more study, there will be some sinking.

And if the liquidity crisis worsens, like most stocks Genentech will probably go down. On the other hand (hey, I coulda been an economist), if the Fed cuts interest rates sufficiently later this month, the liquidity squeeze could evaporate and those of us with "actual cash money" (as Faulkner's characters used to say) could find ourselves chasing after stock prices rushing back to normal.

Also useful: www.genentech.com

Friday, January 11, 2008

Liquidity Squeeze Is Opportunity

Despite the efforts of the Federal Reserve Bank of the United States and central banks in other nations, we are in a credit squeeze. In historic terms it is not much of a squeeze so far, but it could get worse if the U.S. economy enters a recession or the global economy slows down from its hot growth rate.

Credit is hard to come by, but strangely interest rates are not high and appear to be heading lower. That means cash is king. Many people who, by income or personal wealth measurements, are traditionally in the investor pool, have had to raise cash. They have had to sell what they could, and that has meant a lot of selling of good quality stocks, because those were the only liquid assets available to sell.

For those of us who saw that the housing market would decline at some point (it can hardly be said to have burst like a bubble, so far) and built up cash instead of getting deeply into debt, this is a golden, once-in-a-decade opportunity to get some great buys.

Pick almost any listed stock and do the math. Earnings of 7 to 8% are readily available in companies that are solid and growing; earnings of 5% are readily available in companies that are expected to grow rapidly (say 10% annual growth or more) over the next few years. Dividends of 3 to 4% are easy to find as well. Some stocks are so oversold that buying now should result in 50% to 100% total returns over a two year period.

But no one wants to be the chump who buys today just because a stock is a bargain, when it might be even more of a bargain tomorrow. That is the problem with auction prices: they are usually out of equilibrium.

A good strategy is to spread your buys over 2008. Predicting the bottom for the market is guesswork; for individual stocks there is no telling either.

If you buy in a linear fashion over the year you will get some stocks at rock bottom and all your stocks at less than they should be going for. When liquidity returns and valuations go back to normal, whether than be in Q3 2008 or Q3 2009, you'll be glad of the apparent risks you are taking now.

Earnings reporting season is upon us. I'll be posting regularly on the stocks I follow (see list), analyzing Q4 2007 and guessing at what 2008 will bring.

Don't get too excited about any one stock; always diversify (I have to remind myself of that, as much as anyone). It is a good time to buy a house, too, if you are planning to live in it. Except in a few special markets I don't think housing prices have declined enough to make them attractive to investors, given the exceptionally high real-estate transaction costs.

Thursday, January 3, 2008

Akamai (AKAM) bought

This is just to quickly note that I bought a small amount of Akamai (AKAM) stock yesterday. I have written quite a bit on Akamai (see my Akamai page). As long as I hold the stock you might want to consider a possible bias.

To sum up, Akamai has proven itself profitable these last few years. It is still growing rapidly. Its price to earnings ratio was too high for me 6 months ago, but it was quite reasonable yesterday (January 2, 2008).

I believe all the stocks in my portfolio are undervalued at this point, as are most of the stocks in U.S. stock markets. However, rather than adding to current positions, I am taking this opportunity to diversify.

The main dangers to Akamai's stock price are now competitive. It has proven that a special market - Internet content acceleration - can be very profitable. This means both bigger players (possibly Cisco, Google, or Microsoft) or a swarm of startups may try to grab this luscious pie. I am hoping that Akamai's lead in technology and customer satisfaction will allow them to fend off any near-term competition.

Akamai will be reporting its latest quarter results the end of January. As usual, I plan to listen to the analyst conference and post a summary at www.openicon.com.

You can also check out akamai's web site: www.akamai.com

Tuesday, January 1, 2008

Apple iPod Sales Decelerate?

According to an article (Holiday CE sales slower than last year) at EE Times Asia, sales of portable music players (MP3 players) declined in the U.S. during the first three weeks of the holiday shopping season. Of course Apple dominates this sector of the consumer electronics market with its iPod MP3 players.

Several caveats before you sell your Apple (AAPL) stock: I don't know how accurate this report is. If it is accurate, it is possible that Apple gained market share, that is the losses came out of other player makers like Creative Zen, Sony, or SanDisk.

But here are some numbers on the bad news: "Dollar sales of MP3 players between Nov. 18 and Dec. 9 were down 16 percent from the same period last year, while unit sales declined 9 percent, the NPD Group said."

With dollar sales down more than unit sales, it is very possible that people are tired of $400 iPods breaking or being stolen. They are buying down market.

And who wants an MP3 player now, who does not already have one? Plus the Apple iPod is getting pretty retro; it does not look innovative any more. Maybe kids have learned that they don't need the iTunes music service to load music into their iPods or non-Apple music players.

Apple won't give Q4 numbers to investors until January 22nd. Sales of iPhones and iMacs may make up for iPod weakness, if there really is any.

But Apple's stock is flying pretty high, maybe not bubble high, but investors have shown a great deal of confidence that it can only go up, and that usually happens before a fall. Apples P/E (Price to Earnings) ratio is over 50. That is justifiable only if Apple revenues and profits continue to grow at the hot pace of the last few years.

On the other hand, Apple has its fans. If Q4 numbers are weak they may not be deterred. Maybe Steve Jobs will announce some fantastic income stream for 2008. Maybe he wants Appleheads to buy iPhones instead of iPods now.

Still, I'd advise caution to anyone thinking of buying Apple stock right now. Congratulations to those of you who bought it in 2000, when the future looked bleak.

Always diversify your risk. Any stock that has become a disproportionate position in your portfolio should be whittled down.

I don't own Apple stock, and I own stock in competitors like AMD and Microsoft (but also in chipmaker Marvell that supplies chips for Apple products).

More data:

My Apple page
Apple corporate investor page
Nasdaq Apple data summary page