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Friday, October 24, 2008

Crazy talk

The SOX opened this morning at 202, which is slightly below the 2002 low.

Normally I think historical references like that are stupid and mean nothing. You can't compare time periods as if they have relevance. Times change. But the semiconductors are an interesting case study for this environment.

In 2002, we were on the backside of the dot com bubble. I was managing a book for a hedge fund that had ballooned from 100 mil to a billion over a year – the hedge fund, not my book. My book was 200mm. Anyway. The semiconductor business was absolutely horrendous. Every quarter, companies would guide lower. Broadcom was trading at 9, down from 200. Corning, who is now the largest producer of flat panel glass in the world, was at a dollar and people were worried they'd go bankrupt. Amazon was a single digit stock. It was freakin' bleak, my friends. Capital spending kept dropping, bank financing was virtually non-existent. The IPO market was utterly dead. So I'm looking at the chart and wondering if the future prospects for semiconductors are really worse now than they were in 2002 coming off 2001. And I have a lot of trouble getting to that.

The consumer may wind up unalterably shell shocked from the sheer asset devastation occurring in everything he or she owns. And my guess is there isn't going to be much of a bounce. I still think at the bottom no one wants to buy them. No one wants to look at them. That's how it was in tech then. That's how it's going to have to be in fertilizers, steels, oils and banks. People will not run to buy these stocks every day and jam them up 10% because recovery is imminent. It's just not what happens. CNBC will not have its highest ratings in history. No one will care anymore.

I really like the valuations in semiconductors. But I don't see a bottom in the broad market yet. It's a tough spot.


Thursday, October 23, 2008

I don't like posting this chart at all

Converging lines at around 7400 in the DJ average. I wish it said something more encouraging... but it doesn't.

Micron and Sandisk

Look. The memory business blows. It's terrible. Everyone in it is struggling to stay alive. There's a lot of focus on the demand picture because of the impending depression.

Historically, you buy these stocks on giant capacity reductions. We're seeing them in unprecedented droves. We also saw expansion to the upside on unprecedented levels so there's probably more coming down the road. At some point, these stocks will start to respond to it -- the ones that will survive, that is.

Sandisk trades at a 2 billion dollar market capitalization here. They pull down 500mm a year in royalties alone.

Samsung is likely to slash their capex forecast by 50% soon. When that happens, I kind of think the memory producers will rally. That's what used to happen before everything was going to zero, anyway.

Semicaps see significant memory cutbacks

Lam Research last night reported a precipitous decline in business, guiding next quarter down 30-35% on revenues. Memory still represented 72% of the current quarter's 440 mil of revenues in the face of unprofitable economics in the DRAM and NAND markets. Their prior official forecast was for up memory in Q4. Mattson, a smaller semicap with a big memory book, forecast a 40-60% decline in business for next quarter.

Samsung is widely expected to take a hatchet to memory capex at some point in the not too distant future. Analysts seem to be gearing up to make the "this is as bad as it gets" call when Samsung, the number one buyer of semiconductor equipment, slashes their forecast. Sandisk and Micron also cut their capex budgets by as much as 65%. No question, the downward velocity of the cuts is going to peak... but that doesn't mean there's an upturn on the horizon.

In an uncertain environment, investors will want to see some indication that things can get better. The stocks are historically cheap. They are still extremely memory dependent. The foundries are also suffering from lower order rates and their capex for next year is likely to moderate. My guess is there's no hurry to buy these. It's good to see reality come to play into the forecasts.

Wednesday, October 22, 2008

The problem with Apple (AAPL)

Spectacular quarter relative to expectations that we all knew were too low. They threw out numbers when they guided last quarter that were far below what most analysts considered feasible. They claimed they had new innovative products that would create 300 bps of gross margin downside. Then they never shipped that product -- or it never existed in the first place -- it's unclear what happened exactly and Apple is terribly secretive about new products so who knows if we'll ever find out what it was.

For next quarter they threw out another terrible number relative to consensus. I have to tell you, the Apple data has weakened significantly over the last month (but its not unique to them). I've heard statistics like September foot traffic in the stores is down 15%. NPD data indicated iPods shrank 3% y/y in September even with a total refresh of the line. Macbooks, which accelerated to 30% y/y growth in July and August saw their y/y growth rate halved to 15%. The blowup in the credit market is clearly the culprit behind the slowdown. The company said this is a tough economy to game and they want to be conservative... and that's why their guidance is weak. I totally hear that and I think it's prudent.

I'm looking at the stock up 8 and wondering why they're not getting believed. It didn't blink last night before shooting up 10. The Apple cult is undeniably the strongest in the stock and consumer electronics market. There is an undying faith in their ability to innovate and deliver easy to use products that take the technology out of the picture and let the user access their content without having to be a programming geek. And that's great.

Apple products remain overpriced relative to other offerings. Apple stock price, while cheaper than it once was, is still at a premium to its peers (if you can call its competition peers). Apple, while always cautious when they guide, may actually be telling the truth this time. Their business (along with everyone else's) has lost a lot of momentum. iPod may be in a dangerous slide. iPhone is a great product but there's no next act for it near-term -- 3G is as far up the curve as they go for now. Admittedly, the stock has been pounded to its 2007 lows in the face of much success.

This is a market of broken faith. Kool aid drinkers die in this environment. I'm struck by the lack of pause from investors. They're great, don't get me wrong. And they're notoriously conservative about their outlook. However, the world has changed. I think they could have been even more conservative than they were in light of the September data. I don't like the stock here at all.

The valuation trade

I'm finding it really hard not to buy tech. I look at EMC, for example. They report 20 cents, better than expectations. They guide next quarter to 30 cents with the street at 24 cents. This company is trading at an extremely low multiple. I don't know who is selling it here at 10.20. It doesn't make sense to me.

I'm starting to see stocks find levels off bad news. Broadcom lowered guidance and is up a dollar and change. I was short this stock 3 months ago at 29 and if anything numbers have gone up since. The market multiple contraction seems very extreme in tech.

Admittedly, the data just stinks right now. Retail has fallen off a cliff and theres a lot of enterprise caution out there -- with good reason. I find myself buying, though. I'm still short stocks... just not tech.

I wonder if I'm just falling for the valuation trap.

Sandisk chart

This is the last stand in the stock at 10.50 pretty much. I withdraw my negative opinion here.

Tuesday, October 21, 2008

Samsung walks away from Sandisk

Well, there you go. Same situation as Microsoft/Yahoo. A non-binding bid, a rebuff, a lousy quarter and a walk away. I said I thought Samsung would be hard pressed not to lower their bid. They decided instead to pull it all together. Sandisk management is gonna be in tro-uble!

Under $10 I'm interested... but consider that a non-binding interest.

Here's the letter from Samsung to Sandisk:

October 22, 2008

Board of Directors
SanDisk Corporation
601 McCarthy Boulevard
Milpitas, CA 95035

Attention: Dr. Eli Harari, Chairman and Chief Executive Officer
Mr. Irwin Federman, Vice Chairman and Lead Independent



Dear Eli and Irwin:

After nearly six months of efforts to pursue a transaction with no
meaningful progress, we are withdrawing our proposal to acquire
SanDisk. I am disappointed that we have been unable to reach an
agreement on our proposal. I continue to believe that a combination
of our two companies would have created a superior global brand, an
unparalleled technology platform and the scale and resources to drive
convergence in the marketplace. Had we been able to execute on our
proposal, your shareholders would have received full, fair and
certain value for their shares and your employees and other
stakeholders would have benefited from a broader platform and a wider
range of opportunities.

Nevertheless, we have obligations to our own shareholders which
require that we take a disciplined approach, particularly with
respect to significant initiatives such as this. That disciplined
approach requires that we squarely face the growing uncertainties in
your business, which may continue to deteriorate in this difficult
economic environment and further impact your standalone value. Your
recently announced third quarter results serve only to illustrate
this risk. Your surprise announcements of a quarter billion dollar
operating loss, a hurried renegotiation of your relationship with
Toshiba and major job losses across your organization all point to a
considerable increase in your risk profile and a material
deterioration in value, both on a stand-alone basis as well as to
Samsung. As a result of these developments, we are no longer
interested in acquiring SanDisk at $26/share.

While I regret that we were unable to work together to achieve a
business combination that would have created new opportunities for
all of us, we wish you the best in meeting the challenges ahead.


Yoon Woo Lee
Vice Chairman & CEO
Samsung Electronics Co., Ltd.

Hewlett Packard (HPQ) NPD data disturbing

Frankly, all the NPD data was pretty disturbing with the market showing a dramatic slowdown as 401k's and house prices imploded and the headlines were full of significant financial institution failures.
PC growth was 1.2% y/y on unit growth of 6.7% y/y. HP revenue declined 3.9% y/y on a 3% y/y unit increase. This compares to a trailing 3 month historical average of 31.6% y/y. That is an extremely sharp deceleration. Printers, both hardware and cartridge, also declined. This was the slowest showing HP has had in the last 2 years. Understandable, but not pretty. About a month ago when HP reported I suggested shorting it when they reiterated guidance and said they saw no slowdown. Their guidance remains very vulnerable to a downward revision.



Caterpillar. That's right. Caterpillar.

I don't often write about stocks outside of technology except when I'm ranting about the collapse of the financial system. Since this relates to CAT's financing operations, I figured I'd rant a little.

I recently went into the SEC database and did a keyword scan of a number of permutations of factoring receivables. This is a common industry practice in retail. It's also been a very common business for semiconductor capital equipment companies in the past. Factoring receivables is when you're owed a bunch of money and you sell the receivable to someone else at a discount to generate cash for operations. Instead of you waiting to get paid, the party that ultimately buys the receivable waits to get paid. My thought was if banks are having trouble borrowing from each other, trying to sell accounts receivable has to be almost impossible.

Caterpillar and Deere came up as pretty frequent and large factorers. As both companies are leveraged to the construction market and commodity prices through their farming units, they seem like they're very vulnerable to the current environment.

CAT says accounts past due over 30 days spiked from 2.5% to 3.6% in the current quarter. That could be the beginning of a big problem for them. If credit quality is deteriorating and they're reliant on markets widely perceived to be under significant pressure, credit rating downgrades can't be far behind and that could send their financing operations into a tailspin.

I'm short some CAT.

Texas Instruments (TXN) guides significantly lower

So about 6 months ago I was railing on Texas Instruments because of their distribution model -- my theory was when the cell phone market slowed down they wouldn't see it as quickly. I suggested multiple quarters of underperformance due to a slowing cell phone market. Last night, Texan guided Q4 numbers well below the street and sounded pretty darn awful. They probably miss for another couple of quarters -- they're a very slow boat and it takes a long time for industry corrections to work their way through their model.

A lot of ongoing weakness is suggested by semiconductor valuations at this point but the group tends to trade on direction of orders. Orders are still headed lower in the space. The multiples can keep bleeding.

Monday, October 20, 2008

Sandisk tonight

Their quarter is going to be an absolute disaster. Pricing was worse than they guided. Product gross margins were expected to be around zero – that sounds like wishful thinking. Selling part of their fab investment to Toshiba for a billion dollars smells like they envision a protracted recovery and need to show people they have cash to survive it. I like them divesting those assets because I think they make the company impossible to value – the Toshiba JV is most of their cost of goods and its an off balance sheet item. It's extremely investor unfriendly.

The wildcard here is Samsung, which has sent a letter to the board saying they want to acquire the company for $26. Sandisk rejected them cold the first time around. I wonder, though, if the quarter is as bad as I think it is, and if the chart really does trade to $9 like it says it will… will they be able to justify not trying to take the offer?

I think the offer shouldn't be there in its prior form – and selling the fabs probably cemented a lower bid. Samsung is in the power seat here, much the way Microsoft is with Yahoo. Sandisk, by rejecting the bid, has told shareholders they can do better themselves – but the quarter will likely indicate otherwise. There should be a lot of shareholder pressure to consider Samsung's offer. And Sandisk is going to be in a tough spot trying to tell investors why they won't pursue it.

The stock is interesting under $10 after a blowup. That may be very wishful thinking. I think for the stock to work you need Samsung alive and I think they'd be really silly not to bid much lower. I think it's going to take a very strong stomach to hold it after this number. I don't own it.





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