Citigroup modestly bullish on tech recovery, convertibles in sector

By Ronda Fears

Nashville, Sept. 12 - Following Citigroup's technology conference last week, convertible analyst Lynn Hambright remains modestly bullish on several credits in the segment.

Agere Systems Inc., Ciena Corp., Jabil Circuit Inc., Juniper Networks Inc., Maxtor Corp., RF Micro Devices Inc., Tech Data Corp., TriQuint Semiconductor Inc., Electronics For Imaging Inc. and Corning Inc. are all on Citigroup's recommended portfolio of convertibles.

Representatives of those companies also presented at the Citigroup tech conference last week.

"Overall, we found companies optimistic but still unwilling to call a table-pounding (official) recovery. Business appears stable but capacity still exists," Hambright said.

"Virtually every company we saw believes they are well-positioned for the upturn - should it come. What a difference a year makes."

Near-term, Citigroup's credit view looks for continued stability and modest improvement in revenue, helped along by new product introductions and seasonality.

"We would expect continued improvement in EPS from past restructuring initiatives taking hold, lower restructuring expenses in general and, for manufacturing companies, lower depreciation charges flowing through the cost-of-goods line," Hambright said.

"We've previously postured that a near-term improvement in credit was possible due to the above, even without a drastic improvement in end markets. There is no change to our belief."

The analyst stressed, too, that an increase in unit demand would most likely result in operating leverage for companies that are able to spread their fixed costs over a greater number of units.

Top-line growth, however, is another story, being not only affected by unit volumes but pricing power and exchange rates as well.

"We would expect astute convert investors to hone in on improvements in profitability as there is more to the story than simply the top-line," Hambright said.

"We would also expect a return to the 'devil is in the details' mentality for research and issue selection. However, rather than ascertaining survival like last year, we would expect the 'details' to be 1) competitive positioning and 2) the source of revenue and/or profitability improvement."

Hambright's comments from the conference on tech names in the firm's recommended convertible portfolio are as follows: (Stock and convertible prices are in parentheses.)

Agere 6.5% due 2009 ($3.25/135.35): It was a full house, albeit one of the smaller rooms, but interesting to note the equity investor interest in this equity sensitive name. At 60% vol, Hambright thinks the implied credit spread of 680 basis points over Treasuries is still too wide relative to its semiconductor peer group.

Ciena 3.75% due 2008 ($6.96/83.95): Hambright was hoping for a little more enthusiasm but likes it for the 8.17% yield to maturity. She is considering whether the 530 basis points credit spread over Treasuries is fair.

Jabil Circuit 1.75%, with a 2004 put ($28.20/101.58): Downside is limited at 2 points, credit is stable, there is a valuable call option and the issue has high gamma. Hambright said she understands the company would like to retire these bonds.

Juniper Networks 4.75% due 2007 ($16.79/93.59): High cash balance, comfortable with credit. Yield to maturity is 6.83%. Hambright expects a repurchase of this issue. Vol 65%, credit spread 445 basis points over Treasuries.

Maxtor 6.8% due 2010 ($11.37/137.47): Hambright says Citigroup continues to like the credit of this name and believes a rational pricing environment is favorable for this equity-sensitive name. Vol 55%, credit spread 475 bps.

RF Micro Devices 1.5% due 2010 ($9.81/138.74): Results of the company's cost savings initiatives are showing. This bodes well for credit and profitability for this equity sensitive name. Vol 55%, credit spread 480 bps.

Tech Data 2%, with a 2005 put ($32.07/92.69): Strong balance sheet and operating metrics, with $16.8 billion in revenues. There's opportunity for improvement in profitability. Yield to put is 5.48%.

TriQuint Semiconductor 4% due 2007 ($6.81/86.45): Citigroup likes the yield to maturity of 8.6%, pricing with a vol of 55% and a 622 bps credit spread. Hambright thinks the credit is more solid but 2007 is a bit long. The shares have seriously outperformed.

Electronics for Imaging 1.5%, with a 2008 put ($23.59/107.37): Strong balance sheet, improving profitability, opportunities for growth, low premium and high option value.

Corning 0%, with a 2005 put ($8.53/74.62): Hambright really liked the story she heard and wanted to get involved but also wanted to do further research before jumping into the more traded equity-sensitive flavor. The company would like to retire this issue.

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