Sun's Rally Fades As Q4 EPS Misses

| About: Sun Microsystems (JAVA)

The big after hours rally in Sun Microsystems (JAVA) shares yesterday, which took the stock up more than 10%, has now largely faded, with Street analysts nearly unanimous in their doubts about the near-term prospects for the company.

After the close yesterday, Sun announced that revenue for its fiscal fourth quarter ended June was $3.725 billion to $3.8 billion, with gross margin in the 44%-45% range. Sun expects non-GAAP profits of 25-35 cents a share. The Street had been looking for $3.8 billion and 27 cents. While the pre-announcement was more or less in line with the consensus, the knee-jerk reaction from investors was to bid up the share in relief that the quarter wasn’t considerably worse. On second look, however, they seem less sure that the quarter was so impressive.

One key point is that the Street practice has been to include restructuring charges in its estimates; but Sun backed them out. Do the adjustment, and Sun seems to have suffered a big miss in the quarter, rather than the solid report it appeared at first glance. Quite a few analysts this morning trimmed price targets and estimates; the Street, in short, is acting like Sun missed the quarter. If Sun was trying to shore up sentiment, the effect was short-lived.

Here’s a rundown on some of this morning’s commentary from the Street on JAVA:

  • Tom Smith, Standard & Poor’s: Repeats Sell rating. “Gross margin was narrower than our outlook, restructuring charges were higher and GAAP EPS was lower.”
  • Keith Bachman, BMO Capital: “We believe that Sun did miss expectations,” he writes. Adjusted for restructuring charges, he says the real number for the quarter is about 20 cents, versus his estimate of 25 cents. “We believe Sun’s representation of non-GAAP is new and inconsistent with current Street models,” he writes. “We include both stock option expnense and amortization of acquire intangibles in our estimates and we believe that most Street estimates do as well.” Bachman says that revenues, net of FX, likely declined by 6%-7% year over year. He rates the stock Market Perform.
  • Ben Reitzes, Lehman: He also notes that the company’s non-GAAP estimate excludes 7 cents a share net charges, and so is not compatible with the Street consensus. He cut his price target on the stock to $11, from $14. He dropped his FY June ‘08 estimate to 81 cents from 84 cents; ‘09 goes to 90 cents from $1.15.
  • Mark Moskowitz, J.P. Morgan: He keeps his rating at Underweight. “We submit that the revenue and non-GAAP EPS ranges suggest the company was anxious to dispel recent bear mongering that Sun’s operating model was under incremental duress,” he writes.
  • Jeff Fidicaro, Merrill Lynch: He maintains his Underperform rating, and cuts his target to $11.50, from $14. Fidicaro had been looking for 28 cents in the quarter; in his view, the pre-announcement was a miss. “Revenue growth will prove difficult in a decelerating macro economy, which could cause the company to take longer to achieve some of the cost savings leverage that the Street is anticipating,” he writes.
  • Richard Gardner, Citigroup: One of the rare bulls on the stock, with a Buy rating and $20 price target. “While these results are definitely better than the Street had feared, they call into question management’s previous targets of growing revenue while holding gross margin flat in FY ‘09, both of which are reflect in current consensus estimates,” he writes. Gardner likes the stock long term, but sees little upside unless management can “outline a credible roadmap to $1 in FY ‘09 EPS.”
  • David Bailey, Goldman Sachs: He stays Neutral and advises avoiding the stock, with year-over-year revenue declines and gross margin compression raising risks for FY ‘09. He cut his 2009 EPS estimate to 95 cents from $1; for 2010 he goes to $1.10 from $1.24. His price target goes to $10 from $10.50.
  • Scott Craig, Bank of America: He also notes that on a comparable basis, EPS was 10-20 cents, way below the Street estimate of 27 cents. He also says that gross margins “disappoint,” below the 47.6% he had expected. He says Sun still requires significant restructuring. Craig maintains a Buy rating and $17 target.

JAVA today is up 24 cents, or 2.73%, to $9.04. The stock traded at close to $10 in after hours trading last night.