Apple/Intel Deal: Too Much Hype

The buzz today was focused on the confirmation of previous reports that Apple (AAPL) will begin using Intel (INTC) chips in its computers, after years of an exclusive partnership with IBM (IBM). In addition to IBM, former Motorola subsidiary Freescale (FSL) is also seen as a loser in this deal, as they manufacture those chips for use in Apple products.

While this shift is interesting, and certainly reiterates the notion that IBM has been long extincted as far as technology bellwethers go, the investment impact should be downplayed in my opinion. Nothing about this change is going to meaningfully boost, or hurt, corporate profits for any of the major players.

Apple isn’t going to sell more computers simply because they sport “Intel Inside.” Additionally, Apple only accounts for 2 or 3 percent of total business for IBM and Freescale. Intel has been deemed the “biggest” winner of all, but Apple only has a little more than 3% of the world market for personal computers.

All in all, anything more than a slight move in the share prices of these companies, based on the Apple/Intel partnership, should be seen more as hype than substance.

Sun Micro-StorageTek Merger Warrants Mixed Reviews

Once a high tech high flier, now-struggling hardware maker Sun Microsystems (SUNW) hopes its planned $4.1 billion acquisition of StorageTek (STK) will help boost its languishing $3+ stock price. We can judge this deal two ways, from a financial perspective and from a strategic perspective.

First, the finances. Sun will pay $4.1 billion in cash ($37 per share) for STK, which has over $2 billion in annual sales. Sun has a war chest of more than $7 billion in cash, so an all-cash deal makes sense since they have the financial flexibility to avoid diluting existing shareholders. Even better, though, is the fact the StorageTek has $1 billion in cash of its own, so the actual price of the acquisition of the storage business itself is more like $3.1 billion, which equates to about 16 times trailing twelve month net income. All in all, Sun got a good deal.

However, money isn’t everything. Since Sun Micro currently is 5 times the size of STK, StorageTek’s net income will only add about 6 cents to Sun’s annual EPS. The reason why its share price is under $4, though, is because the company isn’t making money on its $11 billion in annual revenue. Until Sun can boost margins and turn its main business profitable, investors will have a very hard time justifying bidding up the stock. The cash cushion was providing a floor with a lack of profits, but that cash has been decreased significantly.

Most Ridiculous Item of the Day

Mark Klee, a technology fund manager, on why he doesn’t own shares of Google:

“We don’t own Google. The valuation is just too high for us. We do own Yahoo, though, Google’s main competitor.”

So Google stock is too expensive, but he owns Yahoo. As a mutual fund manager, you would think Klee would understand how silly this view sounds to anyone who follows these two companies. Google trades at 50x 2005 earnings and 39x 2006 profit expectations. Yahoo’s ’05 and ’06 multiples are 65x and 51x, respectively.

I’d love to know why Yahoo is cheap enough for him to own, but Google’s valuation is too high, especially when Google is growing faster. As far as GOOG’s $14 jump today, to an all-time high of $255 a share, I still think the stock has more room to run. I would not be surprised to see $300 by year-end, at which point I will most likely take some money off the table.

InfoSpace Authorizes $100 Million Buyback

Evidently the board of InfoSpace (INSP) sees the same type of value in its stock that I do. The company has announced it will buyback up to $100 million of its shares in the open market. With a $1 billion market value, this represents 10% of the company’s outstanding shares. Quite meaningful if you ask me.

Although I have noticed the magnificent balance sheet InfoSpace possesses, the stock’s pre-buyback announcement price of $29 a share shows that many investors clearly have not. By buying back stock and increasing the company’s earnings, Wall Street hopefully will see how undervalued the shares really are.

With $384 million in cash and no debt on InfoSpace’s balance sheet as of March 31st, shareholders need not worry that the $100 million investment will hurt the company’s ability to grow. At $30 per share, the stock remains dirt cheap and a very attractive acquisition candidate. A buyout at 20x earnings, net of cash, would amount to $48 for each INSP share.

Pending Mergers Could Provide A Catalyst For Google Shares

As Google (GOOG) brushes up against it’s all-time high of just under $230 a share this morning, investors should avoid taking profits just yet. The next catalyst for Google, which could send it to $250, might be its addition to the S&P 500 index.

It’s difficult to know for sure when the company will be added, but there are 4 reasons to believe it will be sooner rather than later. Google’s sheer size (not to mention its performance) makes it a prime candidate to be one of the next technology-related companies added to the benchmark index. There are currently 4 pending mergers that should close in the next 6 months, with several possible in the next couple of months.

AT&T (T), Nextel (NXTL), Sungard Data (SDS), and Veritas (VRTS) are all current S&P 500 components and are set to be bought out shortly. Google would be a logical fit to replace one of them, most likely Sungard or Veritas. Such an announcement could very well give the shares another boost before the company reports their Q2 earnings in July.

Regardless of when the S&P 500 addition occurs, the stock should gain ground on the news given how many shares various index funds would have to purchase, based on Google’s current market cap of $63 billion.

Other news:

The stock’s price action certainly seems to indicate that Delta (DAL) will be the next Chapter 11 casualty in the airline industry. The shares have plummeted from $3.50 to $2.50 since yesterday’s earnings warning. They continue to have NO oil price hedges in place for the remainder of the year and beyond. Brilliant.

Great Quarter for Yahoo!

So much for the soft pricing on online advertising that RBC Capital Markets analyst Jordan Rohan cited in his negative comments toward Yahoo (YHOO) and Google (GOOG). Yahoo’s quarter came in meaningfully ahead of expectations, with EPS at 13 cents and revenue at $821 million, versus analyst estimates of 11 cents and $797 million.

The stocks of the online search and advertising companies are reacting very positively in after-hours trading. YHOO is up more than $2, with GOOG up $12, and INSP rallying 3% after a 4% gain during the regular session. No doubt that the shorts will be forced to cover before the latter two companies report their Q1 numbers.

Both Google and InfoSpace appear to be cheaper than Yahoo, so I’d stick with those two names in this sector.

Look at MCI Stock Go

Crappy companies these days seem to have a surefire way to get back on the road to riches. Go bankrupt!

Evidently, Kmart wasn’t the only company that could execute this wonderfully successful strategy. Now MCI, the company formerly known as Worldcom, is out of bankruptcy court and it’s stock is flying. Granted, shares of MCIP did get crushed right after emerging from the dead, but if investors timed their purchase well they could have made a nice chunk of change. The stock has doubled from its lows and now sits at post-fraud high of 26.

Contrasting the Kmart and MCI stories is very interesting, to me at least. Eddie Lampert and his hedge fund, ESL Investments, was able to buy half the company on the cheap when nobody else wanted it while it was in bankruptcy. I probably don’t have to tell you, but he has made 900% in two years as the stock has soared from 15 to 150.

It turns out that even though MCI was in the very same situation after their massive accounting fraud was uncovered, nobody swept in to take control of MCI. If they had, they would have gotten a relative bargain. Now we have Verizon and Qwest in a bidding war that is sending MCI stock to new highs.

Why weren’t these companies interested a year and a half ago? All of the sudden they are now and as a result will have to pay the price for such a boneheaded mistake. In any case, I highly doubt there is anywhere near the value in MCI that there was in Kmart.

Siebel Warning Slams Software Sector

In case you haven’t noticed, software stocks have been very weak recently and a profit warning from Siebel Systems (SEBL) last night only added fuel to the fire. The first quarter is always seasonally weak for enterprise software spending, so poor Q1 reports aren’t totally surprising. I am not a fan of SEBL, but other software names I do like, including Tibco (TIBX) and Ariba (ARBA), are feeling the pain in sympathy with the entire group. As 2005 progresses, business should improve and the stocks should rebound nicely. Today’s prices will be a gift in such a scenario.

Qwest: Hang It Up Already

You would think a telephone company would know when and how to hang up a phone. It’s like a telemarketer; they’re going to give it a good shot, but at some point the odds are good the person you called is going to hang up on you and get back to their dinner. Reports indicate Qwest Communications (Q) is preparing a third offer to buy MCI Communications (MCIP). MCI has already agreed to be bought by Verizon (VZ) twice. Does Qwest really think the third time will be the charm?

MCI wants to merge with Verizon for many reasons, and most have nothing to do with price. If price was the main issue, Qwest would be winning this battle since all of their offers have trumped the Verizon deals that MCI accepted. You really can’t blame MCI for continually rejecting Qwest. The companies are like night and day. Verizon is the best telecommunications firm around. Qwest is one of the worst. Verizon has a very healthy balance sheet. Qwest is mired in debt. In fact, according the Qwest’s year-end 2004 financial statements, assets less liabilities equals a negative $2.6 billion.

No wonder they are desperate to do the MCI deal. If they don’t they’re in serious trouble. After going through bankruptcy court, MCI (formerly Worldcom) has cleared its books of billions in debt. Combining their improved finances with Qwest’s mess would make for a stronger, larger company. However, Qwest management didn’t get the memo yet; MCI isn’t going to merge with you. You can make another high-ball offer and go straight to the MCI shareholders for a vote. Only problem with that is, I don’t know a single person who would want to own shares in Qwest-MCI.

These desperation tactics make me want to short Qwest shares, as I don’t see either scenario (another failed buyout offer or ultimately winning by overpaying for MCI) as boosting shareholder value.

IAC/InterActive Blasted for Jeeves Buy

There have been some very interesting developments with the announced purchase of Ask Jeeves (ASKJ) by Barry Diller’s IAC/Interactive Corp. (IACI). You would think they were buying some money-losing start-up based on the backlash from the investment community.

Analysts are mostly negative on the deal, even though Diller is getting a very profitable search company at a discounted price. When you have a vast network of commerce-related Internet sites across the web, it seems to make strategic sense to buy a search company to complement them. After all, web surfers can ask Jeeves where to get a great rate on a cruise and he can send them to Expedia or HotWire, both owned by IAC/Interactive.

Even still, debt agencies Moody’s and Standard and Poor’s are putting IAC’s debt on credit watch, hinting they might cut the company’s bonds to junk status (they currently are rated one notch above junk), citing the cash outlay needed to pay for the acquisition and invest in the business going forward.

The funny thing is that IAC paying for Jeeves with stock not cash, ASKJ is profitable and cash-flow positive, and the deal will be accretive in 2005. Diller actually wanted to pay cash, but Jeeves’ management asked for stock instead. Yes, you heard that right. A second-tier Internet company wanted to take stock, not cash, when it sold out. That is the first time I’ve ever heard of that happening.

Management at ASKJ explained that they wanted to have the ability to capitalize on the prospects for growth at the combined company in the future, and having a stake in the new company would allow for that. If that’s not a ringing endorsement for IACI shares at $21 a share, I don’t know what is. I happen to agree that IACI shares look relatively cheap.

Okay, back to these credit outlook downgrades. It is true that Diller intends to buy back 60% of the shares issued to Jeeves, in order to ensure the deal is accretive to earnings in 2005. Isn’t this a good thing? The rating agencies seem to think that the $1.1 billion needed to do this is going to put the company’s balance sheet in dire straits.

Maybe they are looking at the $1.15 billion of cash on IACI’s balance sheet at year-end and thinking that their cash will be wiped out by this deal. However, the company also has $2.4 billion worth of short-term marketable securities (mostly fixed income) and $1.6 billion of long-term investments (maturities of greater than 1 year) on the books as well. Ask Jeeves even has $110 million in cash itself. This company is hardly scrapping for cash. Yet, the yields on the firm’s 7% notes have widened to 160 bp over treasuries.

All of this negative talk seems to be an overreaction to me. IAC is set to spin off its travel business, to be named Expedia, and the stock is sitting near multi-year lows. If it falls to $20, or if the bonds continue to trade poorly on comments from Moody’s and S&P, I think investors should take a close look if they would like some Internet exposure in their portfolios.