Why Are Israeli Stocks on Wall Street Out of Favor?

by: Shlomo Greenberg

Several of the most promising Israeli companies traded on Wall Street are not meeting investors’ expectations, to put it mildly. Oscar Gruss & Son, for example, has released an interim report on the some of the companies it covers. The report mentions companies such as Alvarion Ltd. (Nasdaq: ALVR), AudioCodes Ltd. (Nasdaq: AUDC), Check Point Software Technologies Ltd. (Nasdaq: CHKP), ECI Telecom Ltd. (Nasdaq: ECIL) and ECtel Ltd. (Nasdaq: ECTX). On the basis of data I’ve collated and on the basis of their excellent technologies, there is no reason why the shares of these companies should be behaving the way they are.

Comverse Technology Inc. (Nasdaq: CMVT), Retalix Ltd. (Nasdaq: RTLX) and Zoran Corp. (Nasdaq: ZRAN) could also be included in the list of good and promising companies whose shares, especially over the past year, fail to to live up to this description. Add companies such as Given Imaging Ltd. (Nasdaq: GIVN) and Syneron Medical Ltd. (Nasdaq: ELOS), and even Elron Electronic Industries Ltd. (Nasdaq: ELRN), and it turns out that there’s a real problem that requires an answer. The question is why investors suddenly neglected companies with such great potential, including some that have demonstrated quite strong business success. Why have all of these companies, once the darlings of investors, analysts, and commentators, now apparently fallen into disfavor?

In my opinion, there are several reasons for this situation. The most important factor causing situations like these is the financial media, in which I include the various analysts, commentators, and mavens. Investors are a less important factor. In my opinion, the biggest difference between Check Point at $24 and Check Point at $17 is in the eye of the beholder, and beholders are influenced by the analysts and commentators who feed off each other’s weaknesses and hesitancy.

Take Check Point for example. Its sales have risen every year since 2003. Sales totaled $432,5 million in 2003, $515 million in 2004, $580 million in 2005, and are predicted to reach $581 million in 2006. The company’s net profit has risen from $244 million in 2003 to $320 million this year. The company is energetically buying back its shares, and still has $1.2 billion in cash.

Check Point is one of the top Israeli shares that has generated almost nothing for investors. The share opened 2003 at $16, and reached $19 in March of that year. In other words, since March 2003, investors have done nothing, and the only thing that has changed has been the share price. The company’s economic value is much better now than it was then. How many companies in the world can show balance sheets like those of Check Point? How many companies in the world can create such margins? They can be counted on the fingers of one hand, with a couple of fingers left over. So why hasn’t the share responded? Mainly because of fear that growth will stop.

Furthermore, talented Oscar Gruss analyst Ehud Eisenstein wrote, “We reiterate our ‘Hold’ recommendation for the share at a target price of $20. The target price represents a 30% discount on the average p/e ratio of the companies operating in Check Point’s field. We believe that, as a technology investment, the lack of a growth catalyst will overshadow the share in the foreseeable future.”

This basically says it all. Analysts and commentators have concluded that they do not see how Check Point will grow in the near future, so the share is valued at two-thirds of the value of its competitors. I saw a similar case recently in a competing company. There is room to legitimately ask why IBM Corp. (NYSE:IBM) recently acquired Internet Security Systems Inc. (Nasdaq:ISSX) for $1.3 billion in cash, rather than buying Check Point. Under the deal, IBM is paying $28 per share for Internet Security Systems, representing a p/e ratio of 29 for 2006 and 25.7 for 2007. When IBM announced its offer, Internet Security Systems was traded at $20 per share, giving it a p/e ratio of 20.7 for 2006 and 18.3 for 2007. Check Point published a better financial report than Internet Security Systems, and has a much better balance sheet.

Until the acquisition offer, Internet Security Systems’ share behaved much like the share of Check Point, and the opinions of the analysts covering the company were remarkably similar to the opinions of the analysts covering Check Point. (Presumably, most are the same analysts.) So why did IBM acquire Internet Security Systems, when for the same price ratio, it could have acquired Check Point, a much better company? I have no idea, but there are now rumors that Hewlett Packard (NYSE:HPQ) is considering acquiring Check Point. If Check Point is priced at a 30% discount compared with its competitors, and if a company like IBM paid a premium of over 40% for a company that is not as good as Check Point, that means that, if tomorrow Hewlett Packard were to offer to buy Check Point, it would be for around 70% above the current price, no? In other words, $30 per share. If that is the case, why give a “Hold” recommendation at $17.50?

What I want to stress again is that economic quality isn't what determines a share’s price, but rather the odd combination of analysts and commentators. Since Check Point’s management isn't forcibly buying companies, as analysts would like, the story gets started about “lack of initiative, lack of aggressive growth, and marking time.” This line will last until Check Point buys something, or, alternatively, until some buys it. But at Check Point’s current price, as with the other companies I mentioned at their price, buying is worthwhile, and the values must sooner or later find expression.

Published originally by Globes [online], Israel business news - www.globes.co.il
© Copyright of Globes Publisher Itonut (1983) Ltd. 2006. Republished on Seeking Alpha with full permission.

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