2HRS2GO: Lone voice doesn't halt SCI upswing
There's a rebel in every crowd.
Consider SCI Systems (NYSE: SCI), one of the largest players in the contract electronics manufacturing industry. Three brokerage firms reiterated "buy" or "strong buy" ratings on the stock, and one firm (Lehman Bros.) upgraded it to "strong buy" from a "buy," following the company's report of first quarter earnings on target with consensus estimates of 56 cents per share. SCI says it remains on track with previously announced expectations for fiscal 2000.
Yet that burst of confidence from the company and other analysts didn't stop Warburg Dillon Read's Scott Heritage from downgrading SCI this morning, to "hold" from a "buy" rating. Although SCI met First Call's first quarter consensus, Heritage expected more, both for earnings per share (58 cents vs. actual results of 56 cents) and revenue ($1.8 billion vs. $1.66 billion).
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Operating margins of 3.77 percent also fell below Warburg's estimate of 3.84 percent. SCI saw an operating margin of 3.86 percent last year.
Heritage is sticking to earnings estimates of $2.63 per share for the current fiscal year and $3.03 per share for 2001, but in his view, too much of SCI's revenue still comes from PC manufacturers, who generated 42 percent of the company's first quarter business. PC outsourcing is a mature trend, as opposed to a rapid growth field, and there's general uncertainty about PC sales for the next few quarters.
The lonely brokerage stance gets little credence on Wall Street today: shares of SCI were up almost 13 percent in early afternoon trading.
Investors (at least I assume they're investors; CEM companies usually aren't traders' favorites) take encouragement from the fact that SCI, though still reliant on PCs, is getting more business from contract manufacturing industry's latest growth segment: communications.
During yesterday's conference call, SCI executives said they expect PC business to fall to 38 percent of overall revenue in the second quarter, while network and telecom equipment makers provide as much as 24 percent, up from 20 percent in the first. "SCI could be viewed as making a remarkable transformation with the majority of its revenues coming from the communications market by the second half of 2000," note Bear Stearns analysts Thomas A. Hopkins and Andrew Huang, who recommend shares with a "strong buy" rating.
Also worth noting is the set-top box market, a rapidly expanding field that chipped in 12 percent of SCI's first quarter business.
SCI also said it expects to name new executive hires -- perhaps a CFO or chief operating officer -- within 10 days. Filling key posts will help focus SCI's strategy on growing markets, the Bear Stearns analysts believe.
A steady growth picture doesn't necessarily mean the stock is worth buying -- one look at the Internet sector can tell you that. Fortunately for anyone thinking of getting in now, SCI is cheap.
The market knocked down SCI shares earlier this year because of concerns about Y2K projects affecting the entire CEM industry, even as SCI began a major expansion and modernization program. Worries have dissipated, but SCI hasn't come back. The company trades at a 50 percent discount compared to other top contract manufacturers, notes Robertson Stephens analyst Keith Dunne, who maintains a "buy" rating on the stock.
"The worst is clearly over, in our view, yet SCI is off almost 35 percent from its 52-week high compared to an average of about 10 percent for most large, Best of Breed EMS companies," he writes.
Even with today's increase, SCI trades at a relatively mediocre (at least for tech stocks) multiple of 18 times this year's estimated earnings or 14 times next year's. You won't find many comparably strong technology businesses so affordable.
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