Kinetic Concepts (NYSE:KCI): Buzz Growing on Strattice Performance in the Breast; Lowering Estimates

JP Morgan has a very interesting note on Kinetic Concepts (NYSE:KCI), discussing the issues with Strattice dermal matrix:

KCI has what we believe to be a growing issue with the performance of its Strattice dermal matrix in breast reconstruction. Over the last few weeks, we’ve consulted with a number of leading surgeons in the field of post mastectomy breast reconstruction. Many of these surgeons are advisers to KCI, all are customers, and several were early adopters of Strattice and are considered thought leaders in their field. On the back of these discussions, it seems that while Strattice works well in areas such as hernia repair, where there is sufficient microvascularization, it is not integrating as well in the breast, and there is a higher rate of complications.

On several fronts this presents a challenge for KCI. For starters, Strattice has become in relatively short order the company’s leading growth driver. Since its introduction in 1Q08, sales have climbed to more than $85M annualized and are likely to surpass $100M in the back half of the year. Strattice has in part cannibalized Alloderm, but it’s also expanded the market, as Alloderm has been and remains capacity constrained. The introduction of Strattice has allowed KCI to promote its products for new applications and, for the first time, expand internationally. What’s important as well is that Strattice has much higher margins, by our estimates 15-20% higher than Alloderm. Thus, the shift from Alloderm to Strattice not only enables the company to overcome the capacity constraints of manufacturing and marketing a cadaver-based product, but it substantially improves the company’s profitability.

..

Since its launch, KCI has aggressively promoted Strattice in both hernia repair and breast reconstruction. Hernia repair is today 70% of the company’s regenerative mix (Alloderm + Strattice), with reconstruction comprising the other 30%. Strattice’s uptake in breast has been significant. In fact, on the company’s 2Q call, management on multiple occasions highlighted the progress in breast reconstruction, indicating that demand was exceeding expectations. Part of what’s helping Strattice in both breast and hernia repair is not only wider availability, but (a) its availability in larger size grafts and (b) it’s less expensive than Alloderm for the hospital.

The problem is that in breast reconstruction adverse event rates with Strattice are in practice running higher than expectations. Surgeons we spoke with that have done large numbers of Strattice implants indicate that the porcine graft does not incorporate as well as Alloderm. Integration is taking longer, and the number of cases where Strattice fails to incorporate is leading to more revisions. Surgeons indicate a higher seroma1 rate with Strattice and a higher rate of post-implant infections.

Firm is lowering estimates on KCI as following:

Action: While the impact on total revenue & EPS estimates is rather small, it is never a good sign if the main growth engine runs into trouble. KCI shares have had a nice run after 2Q09 results, in part thanks to growth at Lifecell. Would expect the shares to see some weakness in the coming days as some of the most optimistic expectations need to be reset.

Fannie Mae (FNM) and Freddie Mac (FRE): No Underlying Value Remains

FBR Capital is reminding investors that they believe there is no fundamental value remaining in FNM & FRE:

Fundamental value does not support shares. The government has already invested almost $100 billion in the GSEs, with a $51.7 billion capital infusion for Fannie and $45.9 billion for Freddie. Ultimately, we believe there are no "free lunches," and this capital must be repaid if the GSEs are ever going to be stand-alone entities in the future. However, credit costs are digging Fannie and Freddie further in the whole, and we believe both companies are under-reserved to face future losses. As of 2Q09, Fannie's nonperforming loans totaled $170 billion against reserves of only $55 billion, implying a 32% coverage ratio. Likewise, Freddie's nonperforming assets totaled $77.5 billion with reserves of only $25.2 billion, or a 32.5% coverage ratio. With serious delinquencies continuing to rise at alarming rates, we would expect continued NPA pressures to drive reserves higher.

Future of the GSEs still undecided. The future of the GSEs remains a large question mark, and to our understanding, we will not get an answer anytime soon. The Administration is keeping discussion about the GSEs behind closed doors, and inklings of potential decisions have not really been leaked. They tested the waters in July with the "good bank/bad bank" scenario, and we heard that the response was very negative. As such, it sounds like the Administration is back to the drawing board. Congress iswaiting for the Administration to take the lead, but President Obama's team will not table the issue until after the FY 2011 budget is delivered on February 1, at the earliest.

Most likely scenarios. In the Treasury's white paper on financial reform, six scenarios are discussed as future outcomes for the GSEs. The key decision is whether Fannie and Freddie will be private companies, essentially arms of the government, or whether they will be "quasi-private" and retain their hybrid business model. In our view, the most likely scenario is that the GSE's operations will be split up, and Fannie and Freddie will be spun out of the government as mortgage insurers with small portfolios; the majority of the portfolio would likely remain in the government's hands.

Action: It is usually not a very good idea shorting into such a huge rally. Some might even call it suicidal. However, with AIG tanking on Friday and getting some beating again in the pre-mkt, the other crap financials should follow the lead. I'd expect see the shares of FNM & FRE at least 10% lower today.

Energy Conversion Devices (NASDAQ:ENER): Bounce play?

Haven't seen any analyst comments yet, but got a feeling that Energy Conversion Devices (NASDAQ:ENER) is a bounce play at current $11.9 level of pre-mkt. Yes, the guidance for next quarter is fugly (F1Q10 in line with F4Q09 - 4Q was $51.4 mln vs $67.8 mln consensus), but more importantly, guidance for full FY10 looks quite decent. Seems to me that mgmt is seeing things getting better the in 2010 but keeps the expectations low for near-term not to dissapoint. With current issues widely known, one should look at what's to come when the dust settles.

I've started buying here at $11.90 and will add if the price drops.

Whirlpool (NYSE:WHR): Upgraded to Outperform at Cowen

Cowen is upgrading Whirlpool (NYSE:WHR) to Outpeform:

Conclusion: We are upgrading shares of WHR from Neutral to Outperform as we believe a stabilization in demand trends next year, combined with the ongoing improvements in the company's cost structure, should help EBIT margin revert closer to historical levels. Management has been proactive in reducing fixed costs as domestic appliance shipments have now shrunk 22% from peak levels set in 2005. WHR also stands to benefit from a weaker dollar, which we believe will add $246MM to the top line in FY10. At only 9x our new Street high FY10 EPS estimate and 7x our FY10 EV/EBITDA estimate, we see significant value in shares of WHR, as growth and ROIC should dramatically improve when the economy recovers.

Improvement in Demand Could Benefit FY10 Operating Margins By 150bps. We estimate that declines in unit shipments have lowered operating margins by 300bps during 1H:09 due to fixed cost deleveraging and lower capacity utilization. We project global unit shipments to decline only 1% in FY10, which should by itself drive 150bps of margin recovery.

We Believe Operating Margin of 6.7% Is Achievable By FY13, Equating To Over $10 in EPS. Our FY09 and FY10 operating margin estimates of 3.7% and 5% are substantially below what we believe to be normalized margin of 7.9% set in 2001. Demand stabilization, productivity improvements, efficiencies related to the 2006 Maytag acquisition, and high cost plant closures should support a gradual reversion to historical margins.

The Street Is Massively Underestimating FY10 Profitability. Our FY09 EPS estimate of $3.97 stands at the high end of management's guided range of $3.50 to $4.00. Our FY10 EPS estimate is raised 92% to a Street high of $7.07, 60% above current consensus of $4.46. Our FY10 estimate revisions are based a stabilization in sales, improved gross margin and lower SG&A spending due to massive restructuring efforts.

Action: Wow, the new FY10 EPS estimate really caught my eye. Current range is $3.50 to $5.25.. and now Cowen says $7.07. Unreal. Of course, these are sell-siders' numbers and real expectations are higher, but you don't see estimate raise of that magnitude too often. Continued talks of cash for appliances should also help.

I expect the shares to hit at least $64 today.

Cerus Corporation (NASDAQ:CERS): Upgraded at Avondale

Avondale is upgrading Cerus Corporation (NASDAQ:CERS):

We are upgrading our investment rating on Cerus Corporation to Market Outperform as there have been severalkey developments for the company in terms of product acceptance and regulatory advancements. These positives,along with the company's recent capital raise and an overall heightened awareness of infectious agents in the bloodsupply, provide more stability to Cerus' story as it continues its lengthy quest to bring pathogen inactivation to themainstream. We look for near term catalysts to include (1) the continued adoption of the company's INTERCEPTtechnology overseas, (2) the signing of a strategic partnership to advance clinical trials in the U.S., (3) thepresentation of data from its Phase I red cell trial, and (4) the continued focus on pathogen reduction as a majorpriority for blood safety.

Price target goes to $5 from $2.

Action: This will probably go nuts. $2.50 anybody?

Affymax (NASDAQ:AFFY): Cowen's Non-Consensus Idea

Cowen is highlighting Affymax (NASDAQ:AFFY) as one of their non-consensus ideas:

Consensus View: The typical investor ignores Affymax. Some do so simply because they view the company as too early in its lifecycle, while others are concerned that lead candidate Hematide's Phase III trials may not succeed. Nearly all think that Hematide's commercial prospects are uncertain as it will compete against the entrenched epoetin franchises of Amgen and Johnson & Johnson, and therefore will struggle to gain share.
Our View: We think Affymax is likely to be one of the best-performing small cap biotech stocks over the next 6-12 months. Biotech investors are keenly focused on events occurring within a couple of quarters, and all four of Hematide's Phase III trials will report results in Q1:10. As Hematide will challenge the Epogen/Aranesp/Procrit franchise, one of biopharma's most successful, in the $4B renal anemia market, all investors will need to form an opinion of its prospects. Therefore Affymax will become very topical, and we expect just the increase in visibility will drive outperformance. Moreover, we believe that as investors do real work on Hematide, they will be pleasantly surprised by what they find. We recently checked in with 6 anemia physician consultants who have been involved in Hematide's development. They are unanimous in their opinion that Hematide's 4 Phase III trials will succeed, and support FDA approval. They believe its once-monthly administration is a significant advantage in the $1B predialysis market and therefore expect it to capture share. While its competitive advantage in the $3B dialysis market is less clear, the nearly-certain introduction of bundled reimbursement in 2011 will create the opportunity for Hematide to take share by competing on price. Our DCF analysis suggests Affymax is pricing in 2016 (peak) U.S. sales of just $280MM - $360MM, representing approximately 7-9% of the market. Should investors come to believe that Hematide could take more substantial but still minority 20-30% share of the kidney disease ESA market, Affymax's stock would appreciate by 100-200%.

Action: Looking at the chart I wouldn't say AFFY is that ingored. After all, the stock is trading near the 52-week highs and is almost certain to make a new high today with the help from additional spotlight from Cowen. They make a good case for the stock and highlighting a stock as potential double or triple tends to attract some new money.

It is very thin name, too thin to be involved with meaningful size.. but if you're able to get some shares early on, you should be able to unload these at least 1 point higher when the rest of the crowd comes chasing the shares.

Or maybe I'm just too bored. It has been really slow this week and I don't see anything even mildly interesting today.

China Nepstar Chain Drugstore (NYSE:NPD): Cut to Sell with $4 target at Roth

Roth Capital Partners is downgrading shares of China Nepstar Chain Drugstore (NYSE:NPD) to Sell with $4 target following quarterly results and special dividend announcement yesterday:

Trimming revenue est following another quarterly miss. NPD 2Q09$78.2mm revenue missed estimated $86.2mm for the 2ndconsecutivequarterly miss, attributed to 1) Drug retail sales slowdown amid unfavorablemacroeconomic conditions which struck hardest in Guangdong and YangtzeRiver Delta, where most of Nepstar's stores are located, 2) Exclusion of salesfrom 355 Yunnan JZJ drug stores previously included in 2008 revenue. Welower our 2009 forecast to $327.5mm (-6% yoy) from previous $351.4mm(0% yoy). We forecast 15% 2010 sales growth, down from previous 20%, to$376.6mm revenue for lack of near-term drivers for drug retail business andthe meaningful-sized M&A and store openings (on average, ~400 storescontribute to $0.01/ADS annual earnings).

Gross margin compression expected as EDL impacts roll in. We forecastgross margin decrease due to the change in competitive landscape forNepstar from the price regulation in hospitals' pharmacies by the health carereform zero premium policy. While Nepstar caters to middle/upper middleclass consumers who are less dependent on pricing stipulation, we anticipate1-2 pts of gross margin compression in combination with a relatively rigidopex >40%. The diversification of the portfolio into high margin,nutraceuticals and non-pharmaceutical products may partially buffer thisimpact.

Special dividend. As we applaud mgt's decision in returning cash($1.50/ADS before year end) back to the investors, we believe it acquiescesthe challenges to generate favorable return on capital, at least near/mid term.

Downgrade to Sell rating, Maintain $4 PT. While we highly regard mgt'sefforts in making sound decisions in store closings, cost cutting, M&A anddividend paying, we see slow recovery in drug retail business in both macroand micro aspects. Our comparable analysis assigns 13x multiple to Nepstarthat values the business at $2.10/ADS based on 2010 earnings. Adding$1.90/ADS forward cash to reach our $4.00/ADS price target.

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Morgan Stanley is also commenting:

Cutting 09 sales further by 10% and EPS by 29%: NPD just reported 2Q09 results with revenue and EPS missing our estimates. Investors may respond positively to the special dividend of $1.5/share, but this is also a reflection of the difficulty in identifying good store acquisition targets. Given the 2Q09 miss and slow export recovery, we believe business is unlikely to rebound strongly in 2H09. We have reduced our sales forecast by 10% and EPS by 29%. However, we have raised our PT from US$5.3 to US$5.8 to reflect improved ROE. Although the new PT represents 20% downside from current levels, we are maintaining our EW rating on NPD shares due to the high volatility of the stock.

Action: After initial pop on special dividend and headline EPS number the stock gave back most of the gains yesterday. This downgrade makes sure that the rest of the gap is also erased. These comments make me wonder who the hell was buying it yesterday. Sure, special dividend is nice, but that's about all there is positive. Estimates are cut across the board and these aren't just some cosmetical corrections to make the DCF model look nice again.

Morgan Stanley has highlighted NPD as short-term short idea several times this year. Given their comments I would expect them to issue another short idea today or in the coming days. After all, their target is 20% below the current share price. Given the volatile nature of this stock staying at Equal-Weight makes sense, after all you cannot shuffle ratings back and forth all the time.. but short-term short recommendation would be suitable for those clients interested in trading idea. Of course, this is pure speculation on my part.

To sum it up: anything above $7 early today is short with covers starting at $6.8. Heck, it might do $6.6 today given the weakness in China today.

Frontline Ltd. (NYSE:FRO): Beware of a Short Squeeze Ahead of Earnings - JP Morgan

JP Morgan is calling for a short squeeze in the shares of Frontline Ltd. (NYSE:FRO) ahead of earnings on this Friday:

Potentially stronger-than-expected 2Q09 rates could result in an EPS surprise . . . . SFL’s 2Q09 profit-sharing revenue came in $2.8 million above our forecast as we believe that FRO employed several of its vessels on short-term contracts throughout 2Q (likely for storage purposes) at rates that far exceeded the soft spot market levels. After backing into the implied rates earned on those vessels (and leaving all else unchanged in our model), we believe that FRO could easily exceed the recently raised average Street forecast of $0.03 and the losses estimated by many analysts (ourselves included).

. . . and lend support to FRO’s dividend-payout potential. There has been significant doubt among investors and analysts regarding the sustainability of FRO’s recent $0.25-per-share dividend distribution. Indeed, we believed that FRO might be forced to suspend its dividend in the 1Q09 release as the company had unfunded capital commitments that exceeded $1 billion. FRO has since canceled orders, removing more than half of these capital commitments, and if it has a greater-than-expected profit in 2Q and there are any potential further newbuild cancellations, we believe that FRO may be able to maintain its dividend again in 2Q, which may catch some investors by surprise.

Near-term catalyst risk outweighs reward to a short position, in our view. EPS upside to estimates across the shipping space in the 2Q09 earnings season has been greatly rewarded with large share-price gains, particularly for those stocks with material short interest. Given FRO’s 7% short interest (as a percentage of the float) and a potential EPS beat on Friday, we believe the near-term-catalyst risk outweighs the reward to a short position this week. We reiterate our longer-term Underweight rating on FRO shares given the company’s highly levered balance sheet as well as its high operational exposure to the extremely soft tanker spot market, which should result in severely challenged earnings results for the remainder of 2009.

Action: I like this call a lot, especially due to the Underweight rating JP Morgan has on the stock. Highlighting near-term catalysts contrary to their longer-term view adds credibility.

What to do with the stock? Must say tanker stocks are difficult to trade, they are bound to squeeze on downgrades & give back gains after upgrades. Frontline is also listed in Europe making the opening price dependent on European trading. So the best way to play it is probably buying right after the open unless overall market or sector collapses.

PAREXEL International (NASDAQ:PRXL): Upgraded at Barclays

Barclays Capital is upgrading the shares of PAREXEL International (NASDAQ:PRXL):

We are upgrading shares of PRXL today to 1-Overweight and raising our price target from $11 to $17. We are adjusting our FY10 estimates (Parexel is on a June fiscal year), although this is largely to reflect the change in revenue recognition for the acquired Clinphone business that the company announced with F4Q results two weeks ago. This disclosure unnerved investors and helped drive the shares down 10% from last week and more than 21% from its recent highs; this compares to the Russell 2000’s up 2% and 3% over those same corresponding time periods. The abrupt shift in the accounting treatment for IVRS contracts (the majority if Clinphone revenues) was obviously unexpected and raised some concerns about management since this change is coming more than twelve months after the Clinphone acquisition closed. Still, we don’t believe there was any sleight at hand and this was simply a case of sloppy execution.

The effect of the accounting change is to defer earnings out of this fiscal year into FY11 and mask the underlying strength of the business which continues to grow and generate cash for the company. More significantly, we believe that Parexel’s global footprint is becoming increasingly important to clients and is a competitive advantage in winning new business. While Parexel’s new orders have been pressure in recent quarters, as the entire CRO industry has, Parexel’s bookings have held up reasonably well, and certainly better than PPD. We expect trial starts to pick up next year, and by extension demand for clinical trial services, given the fact that with few starts this year and obviously some clinical trials concluding, budgets will be able to accommodate more new trials. We recognize some timing risk regarding our upgrade on the eve of the expected Pfizer/Wyeth and Merck/Schering Plough mergers, but we see greater risk of missing a window of opportunity as investors seek out "recovery stories" as well as limited downside at the current valuation. Our new $17 price target represents 16x our new CY10 estimate of $1.04.

Action: It is relatively quiet today and not many calls to choose from. While this call lacks any near-term catalysts and is rather based on leap of faith, it does clarify some confusion regarding revenue recognition for the Clinphone business. I also kind of like the chart, it looks like breaking the recent range could bring on technically oriented traders targeting $14. Not saying it goes there today, but wouldn't surprise me if it does.

Is Solar Heading for Value Destruction? - Jefferies

In what is probably the biggest call of the day, Jefferies is downgrading Solar sector:

Investment Summary
We expect rapid growth in solar volumes, but a downward pricing spiral and lack of discipline around capital deployment leave us cautious on cell and module manufacturers. Materials providers (ex silicon) appear better positioned to benefit from rapid growth.

Pricing War?
We see the current downward spiral of pricing continuing. While accompanied by reduced production costs, we believe this could lead to weaker-than-expected '10 ests and concerns about value destruction in the sector. In our view, liberal Chinese lending practices encourage over-production and capacity expansions in a market that needs rationalization. While falling ASPs bring markets closer to grid parity, it could also result in the threat (if not actual) political backlash to incentives, as European PV manufacturers are being hurt by the Chinese competition with the help of European taxpayers' and rate-payers' money. While end markets are showing signs of recovery, they are slow and do not appear ready to support the levels of volume production being planned for 2010 (thus our expectations for continued ASP pressure). Even if declining silicon prices help PV companies maintain unit gross margins, much lower ASPs make them more dependent on chasing volumes to support the marketing and distribution networks necessary to drive growth.

Resetting Price Deck.
We are updating our solar models to include faster ASPs declines, using quality Chinese modules as our benchmark. Our new ests call for ~20-25% declines by 4Q09 v2 Q09 and another 15-20% by 4Q10. Please see the text of this note for more details. Note that differences in quality, power levels, style and financeability can lead to big variations in ASPs off this baseline and some manufacturers have been able to maintain substantial premiums.

We are reducing our ratings on Ascent Solar (ASTI), China Sunergy (CSUN), Energy Conversion Devices (ENER), Suntech (STP) and Solarfun (SOLF) to Underperform from Hold. First Solar (FSLR) and SunPower (SPWRA/B) go to Hold from Buy. Evergreen Solar (ESLR) goes to underperform from Buy. We are maintaining our Buy rating on MEMC (WFR).

Action: Pricing war is not exactly new information, but the call is strong enough to send some doubters looking for exit. Expect to see pressure in the mentioned stocks all day. Beware that it is late August and option Friday, so funny things can happen today.

PS looks like Merriman is upping SPWRA to Buy from Sell. On some other day I might highlight this call and expect the stock to be strong.. but today I think of it as a potential help for getting fills for shorts in SPWRA at higher levels.

Exide Technologies (NASDAQ:XIDE): Upgraded at Thomas Weisel

Thomas Weisel is upgrading Exide Technologies (NASDAQ:XIDE) to Overweight from Market Weight:

What’s New: We recently spent time with Exide management on the road, following which we came away impressed with management’s willingness to go through with tough but necessary restructuring efforts, their expected payback in the form of significantly improved gross margins and adjusted EBITDA in the back half of the current fiscal year, and the company’s strong positioning exiting FY10 should an economic recovery trigger a pickup in demand in FY11 now that demand appears to have bottomed out.

Why It Matters: Based on the expected closure of plants in France and the U.K., and management’s clearly communicated resulting estimated cost savings of $98mn on an annualized basis, we see Exide exiting FY10 at an annualized (adjusted) EBITDA run rate of over $200-250mn that is not dependent on a pickup in demand trends. In hindsight our previous EBITDA estimates were overly conservative given management’s expectations for a significant sequential improvement in (adjusted) EBITDA in F2Q10, and y/y improvement in 2H FY10. We now have more confidence in the expected cost savings. As a result, we are raising our FY10 adjusted EBITDA estimate to $170mn from $130mn. We see potential for (adjusted) EBITDA of $250-300mn in FY11 should an economic recovery trigger an uptick in demand, particularly in the industrial network and motive power businesses.

Upgrading from Market Weight to Overweight: Given that the company is still in turnaround mode with significant interest and depreciation expenses as well as capital expenditure, we believe investors use an EV/EBITDA multiple when valuing Exide. We see a 6x multiple on our FY11 EBITDA estimate as reasonable, driving our revised price target of $11 and hence the Overweight rating. To be clear, our upgrade to Overweight is not driven by growth catalysts, rather for long-terminvestors on valuation based on improving EBITDA metrics from cost reduction efforts, which position the company very well for an anticipated economic recovery in 2H CY2010.

Valuation: Our 12-18 month price target of $11 is based on a 6x EV/EBIDTA multiple on our FY2011 estimate.

Raising estimates: We are raising our FY10 adjusted EBITDA estimate to $165mn from $135mn. Our corresponding revenue and GAAP EPS estimates go to $2.51bn/$(0.91) from $2.51bn/($1.18). We are establishing our FY11 revenue and EPS estimates of $2.64bn and $0.58 respectively. Our adjusted EBITDA estimate is $242mn.

Action: This came out after the close and I just had to post it right away. This call and the stock have all the ingredients for a huge rally tomorrow:
* very volatile stock - check
* low market cap compared to revenues and EV, just the way momo crowd has liked recently - check
* hot sector - check
* upgrade that makes sense and has some real research behind it - check
* high price target - check

This stock can go up 10+% tomorrow in a heartbeat. Only thing keeping me from expecting even more is today's rally - there might be some quicter hands wanting to lock profits early on.

Mueller Water Products (NYSE:MWA): Upgraded at BB&T

BB&T is upgrading their rating on Mueller Water Products (NYSE:MWA) to Buy from Neutral:

Upgrading to Buy (1). We believe the long-term story remains attractive, and the near-term outlook is showing notable signs of improvement. While the market is currently discounting both a potential housing bottom and further significant erosion in nonres construction, we believe the outlook for both markets will improve over the next year or so. Concerns remain, to be sure, as evidenced by the depressed stock price, but we expect fundamentals to start to improve going forward, pushing EPS and the stock price considerably higher. Simply put, we’ve seen enough stabilization to rule out a dire scenario, and believe we’ll miss it if we wait for confirmation of a housing and nonres rebound. As such, we are upgrading to Buy (1) from Hold (2) and initiating a $6.00 price target.

Solid long-term story. We believe the long-term outlook remains bright, based in large part on (1) huge water infrastructure demand estimated at $335B over 20 years, and (2) MWA’s leading positions in oligopoly markets with solid barriers to entry.

Near-term outlook improving in many ways. Business conditions remain incredibly challenging, and we are not calling for a quick return to growth. However, we are encouraged near-term by (1) stabilization in the water infrastructure and housing markets, (2) significant under absorption and raw material headwinds abating, (3) pricing holding up and easy volume comps coming, and (4) solid FCF and further de-levering despite the worst macro conditions in memory.

EPS power. MWA sees 20% EBITDA margins under more normal conditions, which won’t likely be “normal” until 2012, when housing and nonres should be much more robust. We estimate that MWA could generate EPS power of close to $1.00 assuming a 20% EBITDA margin, or $0.65 using a more conservative 17% margin. We typically wouldn’t discount potential EPS power that far out, but we see value in a $3.73 stock with the potential for $1.00 in earnings.

Action: Long story short: forgotten stock trading at less than $4, near-term improvements, good long-term story, $1 EPS power - good enough in my book for a buy. Would expect the stock to trade above $4 today.

Alcoa (NYSE:AA): Downgraded at Goldman Sachs

Goldman Sachs is taking down their rating on Alcoa (NYSE:AA):

What happened
We are downgrading Alcoa to Neutral as the share price is near our target of $13, and we do not see much upside from current levels. Aluminum fundamentals remain weak, with inventories at historically high levels, and there is enough excess aluminum capacity around the world that could be brought online, which could cap rising aluminum prices. We recommend investors rotate into Conviction Buy Freeport McMoRan in light of our more bullish view on copper. Since being added to the Buy list on May 15, 2009, Alcoa shares are up 36.1% vs. S&P 500 up 8.8%. The stock fell 58.5% in the last 12 months vs. S&P 500 down 22.6%.

Current view
We added Alcoa to our Buy List on May 15, 2009 on the belief that share prices more than reflected the weakaluminum fundamentals at the time. In addition, aluminum demand has a high beta to global GDP and the commodity has historically performed well in recovering economic environments. While aluminum prices and Alcoa shares have since risen, exchange aluminum inventories have also increased by over 15%, and we believe fundamentals are now even less appealing. As the world economy recovers, we believe the different supply-demand dynamics of aluminum and copper will become more transparent and set the stage for a period of differentiated performance among the base metals with copper leading, aluminum lagging, and the correlation among the metals breaking down. In contrast to aluminum where we see challenging, structural issues, we believe that copper is the best positioned among base metals as sharp demand increases, coupled with constrained supply, will manifest in sharp commodity price upside. For more details, see our piece, “Copper: cyclical and structural winner – resuming FCX with CL-Buy.” It is important to note that while we believe aluminum will remain challenged for the foreseeable future, trading opportunities may win over structural issues from time to time, as we argued in our May call.

Action: While it is basically a valuation call only lacking any catalysts that I would usually expect from a call I highlight, I like the set-up for today. We have China markets getting whacked again, especially metals sector, futures are down and got a downgrade from Tier-1 house. Add this up and I can see AA trading close to $12 levels today, down from current $12.40 in the pre-mkt.

Those who think AA is already too low for their taste might want to take a look at other metal stocks with higher China exposure - SCHN for example. There were some not so good #s out from Chinese steel producers today. Take a look at SCHN call from Morgan Stanley on Monday from archives.

Schnitzer Steel (NASDAQ:SCHN): A Potential Slowdown in China Could Affect Ferrous Scrap Demand

Morgan Stanley is making a negative call on Schnitzer Steel (NASDAQ:SCHN) based on potential slowdown in China:

Impact on our views: Last week we saw some early indicators that Chinese construction steel demand could be slowing at the margin. Construction steel prices declined nearly 10%, the first weekly price decline since May. In addition, inventories ticked up 2% and China switched from a slight net importer to a slight net exporter of steel in July. While a major deterioration in Chinese steel fundamentals is not our base case, we would like to highlight how a modest slowdown could affect shares of underweight SCHN. Of the companies we cover, SCHN is the most directly levered to steel demand in China. In Q2, 85% of the company’s ferrous scrap sales fed the export markets, and we believe a significant portion of their export sales were to China, as China became the largest importer of scrap globally in the first half of 2009. A decline in Chinese scrap imports could potentially offset any volume gains from domestic mill demand and weigh on pricing.

Our July downgrade was based on our view that margins could compress below historical norms and that valuation appears rich. We believe there is excessive scrap processing capacity relative to scrap demand and scrap generation levels in the current weak economic environment. Scrap processors will need to compete for a reduced amount unprocessed scrap, driving up buy prices, as fixed asset lives extend. Similarly, scrap processors will face increased competition when selling to mills since mill operating rates are likely to remain below normal, leading to reduced pricing and margins Finally, valuation appears expensive. The stock is trading at 8.2x 2010 EBITDA and 6.9x 2011 EBITDA. The group is trading at 6.9x and 5.3x, respectively. SCHN historically trades at 6.5x forward earnings.

Action: With stocks in China selling off again today and futures indicating weak start for the US markets as well, one is bound to look for potential shorts off that setup. Morgan Stanley provides us the stock and the catalyst. The stock is heading lower today, potentially cracking the $50 mark.. unless the market turns around once again - all the bets are off then.

Nanometrics (NASDAQ:NANO): upgraded on Intel win by Oppenheimer

Oppenheimer is making a major call on Nanometrics (NASDAQ:NANO) based on checks over the last several days that confirm NANO has won the thin-film/OCD (optical criticaldimension) shoot-out at INTC:

Based on recent checks, the 6-month-long shootout between KLAC and NANO for INTC's 22nm tool of record decision for thin-film/OCD metrology has culminated in a big win for NANO. Over 2010-12, INTC awarded NANO its 22nm business, equivalent to 60 tools, at an ASP of $1.3M, or a total consideration of ~$80M.

Near term, we estimate the impact to our '10 model to be modest, ~$5M for thin-film/OCD metrology in INTC's R&D/pilot line, with the remaining $75M evenly spread over '11-'12. Therefore, near term our '10 est moves up from a net loss of ($0.08) to $0.10--still conservative, excluding NANO's UniFire at INTC.

Longer term, NANO's win for INTC's front-end metrology business suddenly makes $1 in EPS power look realistic. We assume rev/qtr in its base business (ex INTC) can roughly double from ~$15M in Q2, to $30M, as wafer fab equipment spending recovers from $10-$12B in '09 to ~$20B in '11-'12E.

Action: This is what I call research! Great job by Gary Hsueh and Wenge Yang from Opco. Scoring a win at Intel over KLA-Tencor is a major catalyst for Nanometrics and they are the first to break the news. They also make a great case for $1 EPS power.. yet the stock is trading at less than $4.

Needless to say that I expect stock to be strong today even with futures indicating really weak day for overall market.

Select Comfort Corporation (NASDAQ:SCSS): upgraded at KeyBanc

KeyBanc is upgrading their rating on Select Comfort (NASDAQ:SCSS) to BUY from previous rating of NOT RATED. They believe shares are compelling, supported by improving macroeconomic trends, company fundamentals and liquidity outlook.

Sales Trends Improving. Select Comfort's sales have benefited from a number of factors. Mattress sales and consumer spending, in general, are showing signs of improvement. Mattress industry sales in June declined 12.0%, continuing the improving trends that began in May, based on the monthly ISPA data we receive. Furthermore, the higher-priced specialty category, in which Select Comfort operates, declined 18.8%, the best performing month in at least nine months. We believe the Company's new merchandise offering, with lower-price entry level models, is helping Select to drive incremental sales. More recently, SCSS reported that July sales declined 10%, with comps of +1%, putting the Company on track for its lowest quarterly sales declines since 2007, a trend that we expect to continue, especially if the consumer and the housing market improve.

Margins Improving Despite Sales Declines. Despite ongoing sales declines, SCSS is driving operating margin improvement through better gross margin and lower operating costs. Gross margin has benefited from the product re-design (featuring lower-price entry level models), lower commodity costs and supply chain expense reduction. Furthermore, aggressive selling, marketing and store operating cost reduction have enabled expense leverage in spite of sales declines. The Company has closed 51 stores (12% of the chain) and plans to close another 15 by year-end. We believe many of these expense efforts will be permanent, enabling significant leverage should sales continue to improve.

Earnings Outlook Positive. Our new 2009 estimate of a loss of $0.02 is $0.06 above consensus and our new 2010 estimate of $0.14 is $0.12 above consensus. These estimates assume the proposed sale of shares to Sterling Partners is complete. There are currently four analysts covering the stock and we represent the only BUY recommendation. Furthermore, a number of analysts have dropped coverage of the stock in the last year. We believe the Company is relatively underfollowed and underanalyzed as a result of the smaller market cap and questionable liquidity position earlier this year.

Balance Sheet Significantly Improved. SCSS continues to operate under short-term waivers to comply with covenants associated with its $75 million credit facility. While this may scare some investors away, we believe it adds an interesting liquidity discount to the stock that is likely to further dissipate with improvement in fundamentals. The balance sheet is much stronger than at year-end; debt stands at $44 million, down from $79 million at year-end. The Company has agreed to a $35 million investment from Sterling Partners, which could further strengthen the balance sheet. However, given the overall improvement in the economy and SCSS's balance sheet, we believe the risk of a bankruptcy is now behind us, even if the Sterling investment does not go through.

Sterling Investment a Win-Win Scenario. SCSS shareholders are in the process of voting on a proposed sale of 52.3% of the Company to Sterling Partners at a price of $0.70 per share (for $35 million), with the vote scheduled to conclude by August 27. We view this deal as a win-win situation. If the offering is approved by shareholders, the balance sheetimproves significantly. Even adjusting for dilution from the deal, we believe shares are attractively priced. However, if the deal is rejected, we believe SCSS could raise capital (or perhaps continue to operate on its revolver) at rates that would be much less dilutive for EPS. While some liquidity overhang would remain with the Company operating under waivers, such a scenario could have positive implications for EPS and potentially be a catalyst for the stock.

Action: I like this call by KeyBanc. They make a good case for owning the shares even after the great rally over the past few weeks. Add some momo to the mix and we can see the shares making a new 52-week high today.

Garmin (NASDAQ:GRMN) added to Goldman Sachs Convicion Sell List

Goldman Sachs is making a negative call on Garmin (NASDAQ:GRMN), adding the shares to the Convicion Sell List:

Source of opportunity
We are adding Garmin shares to the Americas Conviction Sell List as we see roughly 30% downside to our price target of $23. We see meaningful risk to Street estimates in 4Q09 and 2010 driven by our view that the U.S. PND market will deteriorate faster starting in 4Q and gross margins will normalize around 41%, much lower than current levels. Additionally, valuation is expensive with the stock trading at 19X our CY10 EPS estimate (15X Street EPS), a slight discount to the group despite being the only company in our sector with declining earnings next year. We see 13X as a more appropriate multiple given the company's earnings growth trends.
Catalyst
We expect GRMN to move closer to our price target as we believe the market is overestimating the sustainability of the company’s strong 2Q gross margin performance last week. Additionally, much of the anticipated unit strength in 3Q is likely driven by channel fill from newer products, and not a reflection of improving sell-through trends. More importantly, our recent channel checks point to continued weakness in ASPs, supporting our view that PNDs will follow similar a unit/ASP trajectory to other commodity consumer electronics such as PDAs and digital cameras. This, coupled with increasing smartphone cannibalization, will likely drive significant downside to Street estimates in 4Q and 2010.
Valuation Our 12-month price target is $23 based on our sum-of-the-parts valuation ($4/share for its PND business, $15/share for its non-PND business, and $5/share in net cash). We would note that our estimates and valuation reflect improving trends in the company’s non-PND business segments.

Action: Garmin has seen pretty much everything going its way recently: better than expected gross margins for the quarter, channel refills driving unit growth, strength in tech stocks and renewed love for anything car-industry related together with high short interest driving the shares. Pretty much a perfect storm.. but the tide might be turning now.

I like this call from Goldman, I think it makes great sense and also the setup is right. We all know what happens to tech stocks with falling margins and margins are coming down from 2Q levels. Also, Nasdaq looks really topish near-term..

My only problem is getting decent fills without going too low. Would like to get short around $31.5, but might have to take anything above $31 not to be left on the sidelines. If the mkt doesn't go flying today after yesterday's sell-off, would expect to see stock falling around 7-8% today close to $30 level.

Zoltek (NASDAQ:ZOLT): Color on quarter

While Zoltek (NASDAQ:ZOLT) does not have too much sell-side coverage, we still have two firms out commenting the results from last night:

- Sidoti notes sales fell 33% to $30.3 million in 3Q:F09, from $45.0 million in the previous year. The revenue decline was led by a decrease of 33.6% in the carbon fiber segment sales to $25.0 million, a sequential decline of 13.5%. The softer sales in the carbon fiber segment are related to a slowdown in the wind energy market, which combines for 57% of the company’s total revenue. Delays in wind energy projects await financing and government stimulus. We expect wind energy sales to remain weak for the remainder of F2009 and 1H:F10. By our model, the carbon fiber segment will fall 28% in F2009 to $112.3 million (from $156 million in F2008). Therefore, we reduce our F2009 estimate to a loss $0.01 (from EPS of $0.13) and reduce our F2010 EPS estimate to $0.28 (from $0.44). We also introduce our F2011 EPS estimate of $0.44, which assumes sales growth of 20% to $148.3 million.

We consider ZOLT’s growth potential through F2011 to be reliant on a recovery in the wind energy market. Meanwhile, with 57% of ZOLT’s revenue coming from two wind energy customers, concentration risk is high, in our opinion. We would reconsider our rating if the shares fell below $5 with no change in fundamentals.

- RBC says they expect significant stock downside:

RBC fundamental thesis #1 is playing out: despite mgmt denials, companysuffering significant price erosion as wind turbine developers delayincorporating carbon fiber into their blade designs, but more importantly, webelieve, based on our channel checks, customers are transitioning to other fiber suppliers (SGL, Grafil, Tenax) as concerns on Zoltek fiber quality increase.
RBC fundamental thesis #2 playing out: excess capacity fromhigher-quality aerospace fiber suppliers is being dumped on Zoltek's industrial grade market.
Mexican Plant Idled: Company incurring large fixed costs on recentlyretooled Mexican plant, with little near or medium term outlook for demand.
Balance Sheet Risk: We believe structurally lower demand, reduced marketshare for Zoltek, and higher fixed asset costs will likely continue todeteriorate company's balance sheet, potentially requiring additional capitalinfusions.

Action: This is ugly mess and I have to agree with RBC about the stock coming under significant pressure today. If you can get fills for shorts above the $9 level it should be worth taking. The potential recovery is way too far away - 2H2010 at best, so there should be plenty of investors wanting to get out today. 20% haircut should be appropriate for today and would expect the stock to stay weak in the next few weeks.

MBIA Inc. (NYSE:MBI): downgraded to Underweight at JP Morgan

JP Morgan is making a huge call on MBIA Inc. (NYSE:MBI), downgrading the stock to Underweight from Neutral:

We are downgrading MBIA to Underweight, as we believe ultimate CDO, RMBS and CMBS related losses will eventually overwhelm capital, as the company continues to operate in run-off. We believe recent accounting to record a $1.1B recovery from a law suit that is uncertain, in conjunction with the impact of FAS 157, has skewed GAAP earnings and book value to represent a company that appears to be stabilizing. We calculate tangible book value (or deficit rather) at June 30, adjusted for the $1.1B estimated law suit gain and FAS 157, was ($40.22) per share. Although we believe it will be some time before cash at the HoldCo runs out, it is difficult to envision a scenario where there is much capital remaining for shareholders given expected future losses at the consolidated operating company.

Accounting for future legal recoveries appears aggressive given uncertainty of outcome. MBI posted a $1.1B ($3.50/shr after tax) reserve release on the expected recoveries from its lawsuits against Countrywide and ResCap. We have no doubt the company believes its claim is valid, but to book a gain of such magnitude for a suit that will last at least three years appears aggressive. This decision created material additional book value as well as statutory capital, despite the highly uncertain outcome, with the amount discounted at just ~1.7% rate.

ALM business still materially underfunded, generating negative spread. The market value of the unencumbered assets at MBI’s ALM business totaled $1B, while unsecured liabilities totaled $3.8B. The company expects a near full recovery of principal value in its investments to solve this issue, despite 37% of total assets on a cost basis consists of ABS, RMBS and CDO collateral.

We believe MBI will take significant future impairments on its synthetic CMBS portfolio. The synthetic CMBS CDO portfolio totaled $35.1B in par outstanding in 2Q. This portfolio is primarily '06/'07 vintage reference credits with a significant portion originally rated BBB. Due to a lack of disclosure, it is difficult to estimate total loss with accuracy, but we believe it will be several billion dollars ultimately.

Given run-off state and substantial level of negative book equity, we see little value for the equity. We are thus downgrading shares to Underweight.

Action: Tangible book value at ($40.22) per share? That's right, negative and by a mile, according to JP Morgan. Difficult to say with such a wild stock, but I would expect this call to hurt the stock real bad. If we weren't in official "squeeze the heck out of shorts"-mode, I'd say 10+% today.. But with a stock suspect to have a squeeze any second of day, I'd rather be cautious.

I'd say anything in 5% range of yesterday's close is still a short.. with covering area just above the 10% mark.

American Axle (NYSE:AXL): Buckingham making a positive call

Buckingham Research is out with a very positive call on American Axle (NYSE:AXL), saying to buy the shares ahead of scheduled interest payment on August 11th:

We reiterate our STRONG BUY rating and $9 price target ahead of AXL’s scheduled interest payment on August 11th. We believe if management makes its interest payment, investors could likely rally AXL shares, as many will anticipate an eventual permanent positive resolution regarding the company’s credit facility issues. We continue to believe a credit agreement will likely be reacted with accelerated payment terms by GM. Moreover, we no longer believe this investment is “binary”, given the current stock price. We would be aggressive buyers of AXL ahead of Tuesday’s interest payment, with the understanding that this investment is speculative in nature.

We continue to believe there is a 75% chance that management will make its scheduled interest payment of ~$7M on the company’s 5 ¼ debt due 2014. AXL’s bonds have rallied considerably over the past week (up ~57%), which we view as a positive sign that management will make its interest payment and that an eventual finalization of a more permanent credit facility.

As management stated, they DO NOT need the approval from the lending group under the current waiver agreement (set to expire on August 20th), but the lending group could elect to terminate the waiver if they object to management electing to make the payment. We believe it is highly unlikely that the lending group will vote to terminate the waiver agreement set to expire nine days after the scheduled interest payment, as the creditors are very cognizant of the likely market reaction of management’s decision to make the payment. We believe the stock rallies considerably and improve alternative methods,( i.e. an equity issuance as last resort) to improving the company’s capital structure outside a formal bankruptcy process

Some facts – (1) historically, management has never put a press release or 8-K filing out stating when it has made interest payments in the past, and we don’t expect them to Tuesday and (2) the interest payment is due by the end of business (presumably banking hours) on Tuesday August 11th and is made through fund transfers. We are simply stating these facts to set expectations correctly, given the volatile nature of the stock recently. Additionally, we are expecting to channel check bond holders to see if the payment was make on August 11th. In the event the interest payment is not made, we believe the stock will react very unfavorably, but management would still have another 30 day to make the interest payment.

We believe GM will be willing to accelerate payment terms in an effort to improve AXL’s near-term liquidity given the importance of GMT900 production and its expected profit contribution to GM. Additionally, the UAW, which owns a significant stake in GM, likely want to preserve their pension and OPEB benefits. Lastly, normal bankruptcy processes typically are full of significant risks, including potential production disruption and accessing DIP financing. We believe the estimated $100M improvement in liquidity to AXL dramatically minimizes the potential cash outlay and the associated GM’s profit loss risk if AXL were to file for bankruptcy.

Action: I have mixed feeling on this one. Buckingham's auto parts research team is respected among investors and with catalyst coming already tomorrow, would expect some buyers to step in. Also, troubled companies with huge debt & short interest have been favorites of the momo crowd lately. However, stock has already had a huge run and in the unlikely event of missing the interest payment longs would get slaughtered.
I would still expect buy-the-rumor kind of action today, so those with kamikaze tendencies might want to grab some shares early on.

Eli Lilly & Company (NYSE:LLY): downgraded at Goldman Sachs

While Goldman Sachs is raising their Pharma and Specialty Pharma view to Attractive from Neutral, the one rating change that stands out for me is rating cut of Eli Lilly & Company (NYSE:LLY):

Source of opportunity We are moving Eli Lilly (LLY) to the Americas Conviction Sell List based on our view that (1) long-term estimates are at risk due to the double patent cliff, thin pipeline, and the need to fund the early stage pipeline and support new product introductions beyond 2015; (2) the short-term outlook is at risk due to the Effient launch curve, which we believe will underwhelm based on our proprietary surveys; and (3) risk to LLY’s premium multiple, which trades at a 2015 P/E multiple of 14.2x vs. the sector average of 9.6x despite the dichotomy in relative growth profile with its peers.

Catalyst With a patent cliff now the largest in the industry and recent setbacks to its pipeline, we see significant downside risk to long-term estimates for which there is little offset. In the near term, the launch of Effient, an anti-platelet drug, is key to sentiment. Based on our survey of 50 cardiologists, we believe that the launch curve will underwhelm, and peak sales (to LLY) will reach only $500 million. While we acknowledge that Effient consensus projections have withered over the past year, this could prompt a market reassessment of LLY’s long-term EPS relative outlook (2011-2015: -14% vs. avg of -3%) and right-size its premium multiple (2015: 14.2x vs. avg of 9.6x). In addition, LLY’s relative positioning in the sector has weakened amidst industry deal activity to stabilize cash flows and cut excess fat.

Action: Upcoming patent troubles are widely known and would not generate much interest if not coming out of such powerhouse. What cought my eye was the negative view on the uptake of Effient, providing a near-term negative catalyst for the company. Expect the shares to come under pressure today, potentially going south of $33.

Smithfield Foods (NYSE:SFD): Morgan Stanley cutting estimates

Morgan Stanley is out with a negative call on Smithfield Foods (NYSE:SFD):

Investment conclusion: We are lowering our F2010 EPS estimate from -$0.95 to -$1.85 on lower lean hog prices and higher expected interest expense relative to our last model update. While corn and soybean meal costs have also declined and SFD’s pork margin should benefit from lower lean hog prices (as lean hogs are an input in this segment), this will not offset bleak lean hog price curve. With consensus expecting just a loss of $0.41, we are also issuing a negative trading call (RTI) as we do not believe that the stock will outperform as consensus estimates are likely reduced.

What's happened? Since SFD reported earnings on June 16th, front-month lean hog prices have declined by 14% and the lean hog futures curve now indicates that SFD’s F2010 average lean hog price could be ~$11/cwt lower than we previously expected. The current futures curve indicates that, on a cash basis, hog producers are expected to lose ~$40-$45/head for the remainder of C2009 and ~$30/head into spring 2010, with losses continuing through C2010 (though we acknowledge that the curve is fairly illiquid more than 6 months out).

Remaining Equal-weight. While liquidity concerns have been alleviated (for now, at least), we do not expect to see a positive catalyst that would allow for hog production to return to profitability in the foreseeable future. In particular, at current corn/soybean meal prices,lean hog prices need to rise to ~$69/cwt in order to hog producers to break even-- ~$22-23/cwt above current levels. As such, we see no reason for SFD shares to trade materially above its $12 tangible BV.

Investment Thesis Review: We are not constructive on the “long term” “normalized” outlook that consensus holds. While protein cycles remain intact, we believe that cost and demand curves have shifted such that producers will make less money for a shorter period of time at the top of the cycle and lose more money for a longer period of time at the bottom (while generating less cash flow due to working capital step-ups).

Firm is also issuing negative Research Tactical Idea:

We believe the share price will fall relative to the country index over the next 30 days.
This is because lean hog prices have traded down recently, which will prolong losses in SFD's hog production segment. We believe consensus estimates for F2010 need to be materially reduced in light of the recent trade off in lean hog prices, and the stock should underperform the S&P 500 as a result. Also note that we are reducing our F2010 EPS estimate from -$0.95 to -$1.85 (below the -$0.41 consensus estimate) as a result of lower lean hog prices and higher expected interest expense relative to our last model update. While corn and soybean meal costs have also declined and SFD’s pork margin should benefit from lower lean hog prices (as lean hogs are an input in this segment), this will not offset bleak lean hog price curve. We estimate that there is about a 70% to 80% or "very likely" probability for the scenario.

Action: Morgan Stanley's new F2010 estimate is by far the lowest on the Street (consensus stands at -$0.41 and the previous low was -$0.95 - also by Morgan Stanley). While the impact from the lower hog prices should not come as a total surprise, estimate cut of that magnitude is bound to raise some eyebrows. Add the newly issued Research Tactical Idea to the mix and we have a nice setup for a short. The stock will probably open flat at the open and see pressure afterwards, giving you about 5-10 minutes to get fills.
Target for covering? I'd expect around 5% move today so let's say $12. Would expect even more but book value at $12 limits the downside.

CardioNet Inc. (NASDAQ:BEAT) upgraded at Brean Murray

While there are plenty of firm out commenting Cardionet Inc. (NASDAQ:BEAT) after its 2Q09 results, I would like to highlight a call by Brean Murray, which should get plenty of attention today.

Results. Revenues for the second quarter were $38.3 million vs. our $40.2 million estimate. Gross and net margins (68.7% and 4%) were better than our estimates (67% and 3.2%). Hence, the company’s bottom line of $0.07 beat our $0.05 estimate.

Fundamentals of MCOT adoption defy recent bad news. In 2Q, new patient case starts grew 60% YoY and 15% sequentially to approximately 27,000 patients. The company negotiated 24 new contracts in the first half of 2009, bringing the total lives under coverage to 196.5 million.

We believe Highmark made an error. Highmark made the decision based on a hospital outpatient pricing scheme, not on provider-based data regarding the cost/benefits of the MCOT system. CardioNet is actively seeking to have Highmark reconsider its reimbursement level ahead of September 1, the date on which the new Medicare reimbursement of $754 would become effective. Moreover, the company is also pursuing discussions with CMS at a national level to establish a more robust, data-driven decision regarding a reimbursement level.

Two potential catalysts coming up this year. 1) Highmark may choose to reassign MCOT a higher reimbursement level ahead of September 1; our estimates conservatively assume that this does not happen. 2) CMS (with whom CardioNet is having separate discussions) may issue its own reimbursement level in November independent of Highmark. This reimbursement level may be the same or higher than that issued by Highmark – either way it should trump the Highmark decision.

Acquisition likely if reimbursement remains unchanged. Throughout this entire debate one thing has remained clear: MCOT is a valuable tool in the diagnosis and treatment of AF. It is at a nascent stage of growth, yet given the investments that STJ, MDT, and BSX are making in telemetry-based CRM devices, we are very confident that long-term telemetry systems have a place in the diagnostic arsenal. While the company is unlikely to reach profitability if the reimbursement rate is not raised to a more substantial level, we believe that the MCOT platform is a valuable addition to the framework of a more established company.

Valuation is compelling enough, given the risk/reward. Shares of BEAT are trading at 0.8x EV/S our FY10 sales estimate of $134 million. Our current model assumes that commercial and Medicare reimbursement levels stay static at $754. If the company is successful in arguing for a higher reimbursement level, the EV/S multiple would likely expand to a traditional medical technology multiple of 2x. An $850 (for the sake of argument) reimbursement level would lead us to raise our FY10 estimate to $148 million and an EV/S multiple of 2x gets us to our $14 price target. If reimbursement stays the same at $754, then we believe the company would be acquired for 2-3x sales, or $13-18 per share. The company ended the quarter with $44.5 million (or $1.83/share) in net cash.

Action: This call is giving me goosebumps! We have a beaten down stock with high short interest (standing at 15,8%) trading as if the story is broken. And then we have an analyst highlighting three major catalysts, each having the potential to send the the stock flying:
- higher reimbursement level from Highmark
- reimbursement deal with CMS
- outright acquisition of the company

This baby will fly today. I tend to be overoptimistic on such calls but 20% rally today would not surprise me. So I'm calling for a $9 stock today. Wonderful call by Jose Haresco of Brean Murray!

MannKind (NASDAQ:MNKD): Color on quarter

While technically MannKind (NASDAQ:MNKD) released its 2Q09 financial results last night, the focus of course was on Afresa, co's version of inhaled insulin. We have several firms commenting today:

- Natixis Bleichroeder notes MannKind announced that it plans to possibly switch to a new inhaler, called “Dream Boat,” even though the NDA for Afresa inhaled insulin is half way to its PDUFA date at the FDA. We find this a bit odd since the FDA will likely require a bio-equivalency study and, in our view, a new inhaler would delay the PDUFA date by at least three to six months from the current January 16, 2010. MannKind stated that it will let a potential partner decide whether or not to switch the inhaler, but we find the concept of switching at the last minute a bit confusing. The company stated that new inhaler is more efficient (20 units gives the plasma levels of 30 units from the previous inhaler), but we consider cost of goods for Afresa to be the least of its major obstacles. MannKind still would like to get a partnership deal signed by the end of 3Q09, but we remain unconvinced that a major pharmaceutical company would want to tread into waters abandoned by all other players. Aside from the possibility that a partner emerges, which could prove a long and painful wait, we see no compelling catalyst to provide upside potential to MannKind shares, and we would expect the company to eventually do a secondary offering on the recent share price strength, which could pressure the shares. We still do not believe that there will be a major market for Afresa, do not yet model a launch for the product, and reiterate our SELL rating on MannKind shares.

- Baird notes that there were no new news yet on partnership front. Management continues to characterize negotiations as advanced. We are not entirely sure what benefit MNKD sees inpublicly maintaining two separate goals for completing this -- with its "corporate" goal of end-09 and its "internal" goal of Q3-09 -- but find investors generally prefer clear expectations setting. In our view, if a deal slips into Q4-09, the stock could begin to suffer, and the longer this goes, the less likely it seems a partner would step right in front of the Jan-10 PDUFA date. New news included that the decision to launch Afresa with the new "Dreamboat" inhaler device or with the current MedTone device will be driven largely by the potential partner. The new device is about one-third more efficient in Afresa powder delivery and could lower COGS, but what regulators will require for its approval remains an important open item.

- Piper Jaffray notes the company reiterated its internal timeline to complete a pharma partnership agreement for Afresa by the end of 3Q09, though its stated corporate objective is to complete adeal by year-end. Although management continued to comment positively on the status of partnership negotiations, we remain cautious on a potential deal forAfresa, as we believe that major pharmaceutical companies may view the commercial risk for pulmonary insulin as high.

Management reminded investors of its efforts to develop a next-generationin halation device, known internally as "Dream Boat." The company has completed two Phase 1 studies with the device, which have demonstrated the device'simproved ease of use and efficiency (20 units produce an effect equivalent to 30units with the previous inhaler). The company is currently in talks with the FDA and prospective partners about the regulatory and commercialization pathways for this device. Though the device may improve patient compliance and product margins, we think it is unlikely to substantially improve partnership terms orpotential Afresa uptake. Moreover, a decision to launch Afresa after the approval of this new inhalation device may delay the company's anticipated revenue stream.

Action: So basically the results & conference call were non-event, with the exeption of introduction of Dream Boat.. or were they? I got a feeling that lack of partnership announcement may be taken as a negative sign or at least as an excuse for profit taking by some of the market participants.

My gut says MannKind wants a partnering deal to have meaningful upfront payment (Leerink Swann is modelling $100M upfront) to improve the cash balance and reduce cash burn out of Al Mann's personal pockets while the potential partners would rather see the deal based on meeting the sales targets. The miserable failure of Exubera is not too good of an advertisement for the sales prospects..

To make things even more complicated, it looks like MannKind is pushing its new Dream Boat devide that, while looking more sexy on the first sight with lesser device size and lower dose reducing COGS, is hardly a game-changer. It might create some confusion with the potential partners, delay the PDUFA date, but it won't make a difference where it matters the most - acceptance among doctors and manager care.

It is interesting to note how the analyst community is uncommonly scewed to the downside: plenty of negative ratings with targets such as $1 (by Natixis Bleichroeder) and $2 (by Piper Jaffray). The only positive firm seems to be Rodman & Renshaw, unfortunately I haven't seen their note yet. Don't want to put too much emphasis on price targets, but given how the analyst community is usually giving everybody a benefit of doubt.. it does raise some alarm bells.

Not a high conviction call, but would expect to see some profit taking in the stock all day long. Difficult to give any targets, but 5-10% of downside from yesterday's close would be my best guess.

Calgon Carbon (NYSE:CCC) upgraded by Piper Jaffray

Piper Jaffray is out with a big call on Calgon Carbon (NYSE:CCC), upgrading the shares to Overweight from Neutral:

Raising CCC shares to Overweight ahead of stabilizing trends in 2H09. Whilewe fully expect 2Q results to be weak, we recommend investors accumulate sharesof CCC as we believe the risk/reward profile has become compelling. Sincemid-April, CCC shares have fallen by nearly 33% while the S&P 500 hasappreciated by 14%. We believe investor expectations have been reset and wouldlook for commentary on the 2Q earnings call around stabilizing end market demand(albeit still at low levels) to serve as a positive catalyst.
Activated carbon can be deferred (and it is currently), but we expect demandto recover. In Calgon Carbon's largest market (municipal water), we believe thatpurchases are being deferred, particularly in taste/odor applications. As we look out6-12 months, we believe that demand will recover. Municipal water spend has beencurtailed industry-wide as utilities await allocation of stimulus dollars. As thisallocation process draws closer, we believe that municipalities will begin to moveahead with projects and normal upgrades – a positive for activated carbon &equipment (notably CCC's UV disinfection equipment) sales.
Mercury market presents upside at current valuations. While we continue tohave reservations around the mercury removal market, we believe the currentvaluation is providing a relatively inexpensive call option on the sizeable upsidepotential this market presents should a federal mercury removal mandate becreated. As we draw closer to state-level requirements on Jan 1, 2010, we believecontract awards will be announced and assuming CCC captures a reasonable share,this would present positive catalysts.

Action: Piper Jaffray has been one of the most bearish firms on the name and their upgrade is bound to generate interest in the stock. I believe anything below $13.20 early today is a buy and expect shares to go north of $13.50.