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Upgrades, outlook spark Compaq shares

Shares in the computer maker climb, after a pair of analysts upgrade the company in the wake of its fourth-quarter earnings report.

3 min read
Compaq shares moved up Wednesday, after a pair of analysts upgraded the PC maker in the wake of its fourth-quarter earnings report.

Shares closed regular trading up $1.80, or 9 percent, to $21.85.

The computer maker reported an operating profit of $515 million, or 30 cents a share, on sales of $11.5 billion--not exactly blowout numbers but better than the company and most analysts had expected.

Company executives reduced the expected sales growth to between 6 percent and 8 percent for 2001 but were comfortable with the current First Call consensus profit estimate of $1.17 a share

On Wednesday, several analysts issued positive comments not only about the fourth-quarter results but also about the company's strategy to eschew market-share gains in favor of salvaging acceptable profit margins.

Lehman Brothers analyst Dan Niles upgraded Compaq from a "market perform" rating to "buy," mainly on the strength of the company's "realistic" revenue outlook and margin stability.

J.P. Morgan's Walter Winnitzki boosted the stock from a "long-term buy" rating to "buy."

"The company will not chase market share but will continue to focus on making changes to improve its profitability, which will translate into slower but more profitable growth," he wrote in a research note. "We believe the valuation should rise commensurate with the progress in transitioning to an enterprise systems company and note that it is currently only about one-half other comparable companies."

Dell Computer, Apple Computer, Hewlett-Packard and Gateway have all warned of declining sales and earnings heading into 2001. Slowing demand, a general cooling of the economy and eroding profit margins have all conspired to cripple their earnings and respective stock prices.

Compaq is facing the same issues, but analysts said its mix of high-end computers, servers and services makes Tuesday's earnings report more palatable.

Compaq executives said gross profit margins will actually improve in 2001 to around 25 percent, up from 23.5 percent in fiscal 2000, mainly because its enterprise sales can offset the diminishing margins in its core PC business.

In these uncertain times for PC sellers, even a modest increase in margins is a reason for optimism. Underscoring the company's preference for quality over quantity, IDC reported that while Compaq's PC shipments only improved 4 percent in the fourth quarter, its PC sales improved 8 percent.

"We agree that the near-term outlook is murky but still like prospects for business spending on IT, particularly in (the second half of 2001) and particularly for Intel/NT servers," Mark Specker, an analyst at Wit SoundView, said in a research note.

"The new dollars that Compaq generated in (fiscal year 2000) carry substantially higher gross margins and lower costs than the corporate average," he wrote. "The leverage this analysis suggests Compaq has regained in its business is striking."

Specker reiterated his "strong buy" recommendation Wednesday.

S.G. Cowen's Richard Chu wasn't ready to give Compaq a thumbs-up at this point.

"First-quarter (earnings-per-share) guidance of (21 cents) seems optimistic to us,'' he wrote in a note to clients. Given the reduced sales outlook, he said, the profit outlook "is dependent on significant improvement in gross margins, (and is) thus at risk given likely aggressive competitive pricing in the PC market."

Analysts were also put off by Compaq's net loss of $672 million, or 39 cents a share, in the quarter, mainly a product of its $1.8 billion charge to write-off losses from investments made in struggling companies such as CMGI.

As it stands now, analysts polled by First Call expect Compaq to earn 20 cents a share in its first quarter and $1.17 a share in the fiscal year on sales of $46.3 billion.