Still Hold Merck

Merck (MRK ): Maintains 3 STARS (hold)

Analyst: Herman Saftlas

Merck's Q1 EPS rose 13% to $0.71, in line with consensus. Sales were up 28%, boosted by a 51% gain in Merck-Medco revenues, plus by gains in newer drugs such as Vioxx (Merck's second largest drug), and Zocor. However, the 31% Vioxx gain was below expectations, raising doubts that Merck's newer drugs will offset some $2 billion in generic erosion in other lines. Gross margin was 37.9% vs. 45.4%, reflecting a higher proportion of lower-margin Medco revenues. This week's South African decision to import cheap generic AIDS drugs is adverse for the drug industry. Merck is priced below the average drug group price-to-earnings multiple.

Boeing (BA ): Maintains 2 STARS (avoid)

Analyst: Robert Friedman

Boeing's outsized EPS spurt reflects a combination of 63% climb in commercial aircraft deliveries and ongoing productivity improvements. But S&P says the high delivery rates are not sustainable. Also, with Airbus's aggressive productivity initiatives, it's hard to see how Boeing will capture long-term productivity-related savings, given the fiercely competitive aircraft market. Boeing may also have a hard time posting meaningful earnings/returns from forays into expensive satellite service ventures. S&P calculates that Boeing is trading at a 15%-plus premium to fair value.

eBay (EBAY ): Maintains 4 STARS (accumulate)

Analyst: Scott Kessler

Online auction giant eBay posted Q1 EPS (pro forma) $0.11 vs. $0.02, $0.03 above consensus and in line with S&P's high-end estimate. Revenue rose 79%, with strength in key metrics: users, gross merchandise sales and listings. Margins widened, reflecting customer support and website operation improvements. Both EBay's Fixed-price "Buy It Now" feature and the unit, which just announced four new sales categories, are doing very well. As other Internet firms have cracked and collapsed under the pressure of the dot-com crash, ebay is rock solid and getting stronger. S&P is upping the 2001 EPS estimate $0.04 to $0.42 and raising the 2001 revenue estimate 9% to $730 million.

Sun Microsystems (SUNW ): Reiterates 3 STARS (hold)

Analyst: Megan Graham-Hackett

Sun posted Q3 EPS (pro forma) of $0.08 vs. $0.13, in line with S&P's estimate and above the Street's $0.07 mean. Revenue gained 2%, below S&P's estimate, partly on Sun's efforts to lower its inventories. U.S. revenue was down 15%. The company's 41.6% gross margin vs. 52.4% was below S&P's 44.9% estimate due to lower volumes, but was offset by lower expenses. Bookings were down 11% year over year, and off 27% vs. Q2. Sun sees flat Q4 revenue vs. Q3, in line with estimates, and sees fiscal 2002 revenues up 15%. S&P is cutting the fiscal 2002 (June) estimate $0.03 to $0.46, and reducing the fiscal 2002 estimate $0.11 to $0.56. At 37 times S&P's fiscal 2002 EPS estimate and given Sun's strong market position and growing opportunity, S&P recommends hold shares.

Gateway (GTW ): Maintains 2 STARS (avoid)

Analyst: Megan Graham-Hackett

Gateway posted a Q1 operating loss of $0.01 vs. $0.36 EPS, excluding larger than expected one-time charges, in line with expectations. Revenue fell 15% to $2.03 billion vs. S&P's $2.1 billion estimate as units were down 12%. But gross margin were at 18.5% vs. 21.6%, above S&P's estimate. The PC maker still sees breakeven results for the remainder of the first half of 2001, but S&P sees lower revenue. The company won't give revenue guidance for 2001, and cites the difficult PC market and likely intensifying pricing pressures. S&P thinks Gateway is too optimistic on second half unit growth as the company expects to gain share. S&P is keeping its below-consensus $0.25 2001 EPS estimate. With shares trading at 72 times this estimate and with clouded visibility, S&P recommends avoid.

Microsoft (MSFT ): Reiterates 3 STARS (hold) Analyst: Jonathan Rudy

Microsoft posted Q3 EPS of $0.44 vs. $0.43, $0.02 above lowered expectations. Revenues rose 14% to $6.5 billion, ahead of estimates. The world's largest software firm sees low double-digit revenue growth for fiscal 2002 (June). Microsoft lowered the fiscal 2001 worldwide PC forecast to 7% from 10%, but says it continues to see strong opportunities for server products. Investment income was $706 million. S&P is initiating its fiscal 2002 EPS estimate at $1.90, or $1.54 excluding investment income. At 40 times S&P's $1.80 2001 EPS and with 10-12% core business growth, S&P would not add to positions.

Nortel Networks (NT ): Maintains 3 STARS (hold)

Analyst: Ari Bensinger

Nortel posted a Q1 loss per share of $0.12 vs. EPS of $0.12, in the range of lowered guidance. Revenues fell 2%, with the U.S. market down 23%. As expected, optical inter-city weakened (down 25%), and transport spending shifting to the metro market, which more than doubled. Wireless Internet surged 38%, as companies prepare for the era of 2.5G and 3G formats. With lower production levels, Nortel's gross margin dropped to 30.1% from 41.2%. The company will cut 20,000 employees by mid-2001. Nortel estimates that excess capacity can last only four more months. S&P recommends hold for recovery potential.

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