Tuesday, October 24, 2006

Color on quarter: Texas Instruments (NYSE:TXN)

Several firms are commenting on Texas Instruments (NYSE:TXN) after the co issued not-so-strong results and mixed guidance last night:

- Merrill Lynch notes Texas Instruments is a well-run company that is running out of margin leverage in an end market that is beginning to slow. It is a great company, but it has not been a money making investment for more than a year now. Firm expects the flat performance in the stock to continue.

The stock continues to be reasonably valued but no more, in firm's view. TI's status as default large-cap semiconductor holding, combined with the 17x earnings multiple, should keep the stock from going down, but they don't see where multiple expansion comes from. As the September quarter results illustrate, TI is operating at peak margins already.

Looking at the numbers, their 2007 GAAP earnings estimate settles at $1.89 on revenue growth of 10%. YoY operating earnings growth is 11%, but the per-share growth is higher as a result of TXN's continued aggressive stock buyback activity. Firm thinks consensus estimates may not be adequately factoring that in. They are initiating a 2008 earnings estimate of $2.20. Maintains Neutral.

- JP Morgan notes they believe guidance for 4Q06 is aggressive as book to bill was the
lowest in five years and the company is expecting higher turns than 3Q06. Firm also believes revenue and gross margins should decline again during 1Q07 as the inventory correction spills over in to 2007.

Notes they will consider upgrading TXN stock once they see evidence of a bottom in gross margins, which could happen during 1H07.

As a result, they are lowering C06 revenue estimate from $14.5 billion to $14.4 billion but raising C06 EPS estimate from $1.67 to $1.68 due to lower shares. Firm is also lowering C07 revenue and EPS estimates from $15.1 billion and $1.79 to $14.6 billion and $1.71.

TXN is trading at 3.4X its C06E sales, near the mid point of its historic range of 3.0 to 4.0 times sales. Firm is concerned on downside risk to estimates and therefore is reiterating Neutral rating.

- Goldman Sachs notes they remain cautious on TI's fundamentals and on the stock as inventory continues to plague the industry and believe another shoe could drop for TI, which would pressure its sales and margins. Firm prefer to recommend cyclical stocks like TI, when margins are nearing cyclical trough, allowing for operating leverage. While TI has done a good job improving its margin profile, they view current margins as being at their cyclical peak. Hence, the firm maintains SELL rating on the stock.

- Citigroup notes that TXN's guidance still leaves room for shortfall in analog revenues and corporate GM; mid-q update on 12/11/06 now a potential negative.

Handsets cited as concern, but the firm is not too worried given solid units at operators and OEMs. Analog not cited as a concern, but they ARE worried given -2% to -4% average decline cited by peer group.

Gross margin performing better than 4Q04, but downside exists to implied guidance given analog concerns and high inventories.

They anticipate near-term downside, in line with their cautious view stated on 10/09/06. But the firm continues to like TI on a long-term basis and notes that the inventory spike in 3Q04 marked a bottom in TXN. Would view any pullback as simply an enhanced buying opportunity. Maintains Buy and $36 tgt.

TI pointed to handsets as the main culprit behind its weak guidance. Specifically, inventory build at NTT Docomo, exacerbated by application processor share incursion by Renesas, is driving the weakness. Europe and North America were also cited as being sub-seasonal.

Recent results from handset vendors (Motorola and Nokia, as well as US operator Cingular) do not point to end-demand issues. We conclude therefore that TI is suffering mainly from inventory and share issues. Based on current information, significant uncertainty about TI's near-term outcomes in handsets persists.

Longer-term, the firm has concerns about the negative impact of Renesas' incursion into TI's share. However, we note that with TI's superior market share in 3G to date, they would have to lose 30% share at NTT Docomo to Renesas in order to grow below industry growth rates.

Notablecalls: Dose of reality from TI! Expect the shares to move lower in the coming months.

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