Credit analyst foresees Agere earnings beating estimates; sees stock cheap versus peers

By Ronda Fears

Nashville, Oct. 23 - Agere Systems Inc. will report an surprise on the upside when it reports earnings before the market open next Tuesday, according to CreditSights analyst Zhiping Zhao and he agrees with the company that breakeven is very close.

He suggests overweighting Agere credit and also said Agere shares are undervalued compared to peer stocks.

The Agere 6.5% convertible due 2009 was seen about 0.5 point softer with a bid of 147.25 at Thursday's open, versus the stock at $3.65, according to a buyside convertibles trader. The convert lost 3.5 points on Wednesday to 147.75 bid, 148.75 offered on the drop in the stock, as it is very equity sensitive.

"We believe that Agere will easily match its EPS guidance," Zhao said in a report, noting also that the company is closing the gap toward the breakeven point.

"In order for Agere to reach breakeven [after the June quarter], it only needed to reduce costs by less than $10 million per quarter. It recently completed a restructuring that included consolidating facilities in New Jersey and Pennsylvania. Therefore, it should easily meet or even potentially beat its own guidance."

Also, while Agere shares have risen in recent months, the analyst still sees the stock as cheap relative to its peers like Brocade Communication Systems Inc. in computer storage devices and Texas Instruments Inc. in wireless chips.

Zhao forecasts revenue of $497 million in the September quarter for Agere, a bit higher than the company's guidance for $479 million to $492 million. The analyst sees earnings of 1c per share, in line with the company forecast for breakeven to 1c.

"The positive revenue outlook is largely driven by strong performance of several end markets and customers of Agere," Zhao said.

Moreover, the analyst views Agere's picture as positive going forward.

"Strong seasonality in storage unit shipment and wireless should drive upbeat guidance for the December quarter," Zhao said, adding, "Completion of restructuring should help in EPS and cash flow."

Agere's two biggest customers, Maxtor Corp. and Seagate Technology, both reported strong September quarter unit shipments and offered upbeat projections, the analyst pointed out. Specifically, he noted that Seagate's unit shipments were up 34% sequentially.

"There are some concerns that HDD [hard disk drive] pricing may be softer than expected," Zhao said, noting that has caused some weakness in Maxtor shares.

"We emphasize that components supplied to HDD makers by Agere are very 'sticky,' and cannot be easily substituted. Therefore, the pricing pressure in HDD, if any, cannot be directly translated into price declines of Agere's components."

In fact, the analyst said lean storage inventories should help Agere.

In the wireless area, too, semiconductors are seeing strong September quarter results and present optimistic outlooks for the December quarter, Zhao said.

"Agere probably has 10% to 15% revenue from wireless baseband processors, [and] the wireless portion of the revenue at Agere is growing," Zhao said.

"We have argued that the wireless handset pricing has reached relative stabilization. This stabilization should benefit wireless semi manufacturers."

Indeed, he noted that Texas Instruments and RF Micro Devices Inc. reported strong September quarters and upbeat guidance.

There have not been significant spending increases in infrastructure semiconductors, the analyst said, but there seems to be some stabilization. Some network companies have seen and are projecting modest increases for the December quarter, however, like PMC-Sierra Inc., he added.

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