THE BUCKINGHAM RESEARCH GROUP
`Research Notes for February 5, 2003
`
`Important disclosure information (relative to NASD Rule 2711) about The Buckingham Research Group’s rating system, risks, and
`potential conflicts of interest appear at the end of this material (or contact your investment representative).
`
`Allergan (AGN-$59.89)
`STRONG BUY FY Ends Dec. Target: $80
`FY03 EPS From/To: $2.30E/NC vs. $1.88A LY
`FY04 EPS From/To: $2.80E/NC
`Next Q EPS (Mar-03) From/To: $0.53E/NC vs. $0.43A LY
`*Estimates and Actuals Reflect Pharma-Only for 2002, 2003 & 2004.
`David G. Buck (212) 922-2136 / dbuck@buckresearch.com
`
`AGN Shares Could Weaken on News of Botox-Related Lawsuit but Shares Remain Strong-Buy
`
`(Div./Yield: $0.36/0.6%)
`(Consensus: $2.31E)
`(Consensus: $2.86E)
`(Consensus: $0.53E)
`
` (cid:120)
`
` Strong Buy-rated Allergan (AGN) announced that it has been sued along with an outside
`physician by a California couple alleging that use of Botox to treat migraines (an off-label use)
`caused a “chronic medical condition.” We have not seen the lawsuit; however, Allergan defended
`the safety profile for its Type A botulinum toxin product and vowed to defend itself and avoid
`settling what it termed a “frivolous” lawsuit. Botox remains an important driver of Allergan’s
`growth. We expect the European Union to approve Vistabel (European name for Botox Cosmetic)
`shortly. We believe that some negative publicity including litigation was inevitable for a drug that
`grew 42% in 2002 to nearly $440 million. Allergan’s insurance will cover litigation costs. Botox
`(34% of sales) should grow by 29% for 2003 based on geographic expansion and growth of both
`cosmetic use (40% of sales) and therapeutic use (70% of sales).
`(cid:120) The April launch of Restasis for therapeutic dry and the second quarter filing of Diquafasol
`(dry eye) by Inspire Pharmaceuticals (to be marketed by Allergan) are upcoming catalysts. For
`2003, we expect Restasis revenues of $27 million (about 2% contribution to sales) while Allergan’s
`combined dry eye franchise should generate nearly $50 million in 2004 revenues (2.5% of sales).
`We also expect Phase II data on oral Tazorac for acne in May followed by Phase III data for oral
`Tazorac in psoriasis in July. The acne and psoriasis markets represent conservatively $500 million in
`market potential for Tazorac which had 2002 revenues of $85 million as a topical cream.
`(cid:120) Growth outlook and price target remains intact. Our target remains $80 per share, based
`upon a 35x multiple of our 2003 EPS estimate of $2.30. At current prices, Allergan trades at just
`over 1x its growth rate, a discount to a historical PEG ratio of 2x for branded pharmaceutical
`companies. We see Allergan remaining a 22-25% growth company despite the likelihood that the
`Company will repurchase the Bardeen R&D vehicle, thereby eliminating R&D reimbursement
`revenues to Allergan and improving quality of earnings.
`
`
`
`1
`
`ALL 2048
`MYLAN PHARMACEUTICALS V. ALLERGAN
`IPR2016-01128
`
`

`

`THE BUCKINGHAM RESEARCH GROUP
`Research Notes for February 5, 2003
`
`
`Cisco Systems, Inc. (CSCO-$13.20)
`(Div./Yield: Nil/Nil)
`ACCUMULATE FY Ends July Target: $19 (From $18)
`(Consensus: $0.54E)
`FY03 EPS From/To: $0.57E/$0.60E vs. $0.39A LY
`(Consensus: $0.60E)
`FY04 EPS From/To: $0.70E/$0.74E
`(Consensus: $0.13E)
`Next Q EPS (Apr-03) From/To: $0.14E/$0.15E vs. $0.15A LQ
`(Consensus: $19.2B)
`FY03 Revenue (US$ B) From/To: $19.5E/$19.1E vs. 18.9A LY
`(Consensus: $20.9B)
`FY04 Revenue (US$ B) From/To: $21.8E/$21.1E
`(Consensus: $4.76B)
`Next Q Revenue (Apr-03) From/To: $4.84E/$4.72E vs. $4.71A LQ
`Calendar EPS: 2001A=$0.18; 2002A=$0.54; and 2003E=$0.64. The Buckingham Research Group makes a market in the securities of
`Cisco Systems (CSCO).
`Gina Sockolow (212) 922-1815 / gsockolow@buckresearch.com
`
`EPS Ahead of Consensus; Raise EPS and Maintain Accumulate
`
` (cid:120)
`
` Accumulate-rated Cisco Systems (CSCO) reported above-consensus fiscal 2Q03 EPS of $0.15 on
`sequentially flat sales of $4.71 billion, due to a higher gross margin and lower operating expenses.
`(cid:120) CSCO’s fiscal 3Q03 outlook was cautious, citing weakness in January, and management repeated the
`January 2003 quarter guidance of 0% to –3% for sales, lower gross margin and flat operating costs.
`(cid:120) We are raising our 12-month stock price target for CSCO to $19 per share (from $18), based on a
`P/E multiple of 30x, reflecting projected 30% annual EPS growth, and our revised estimate for
`calendar 2003 EPS of $0.64 (from $0.62).
`(cid:120) We are maintaining our Accumulate rating and raising our above-consensus EPS estimates from
`$0.14 to $0.15 for fiscal 3Q03; from $0.57 to $0.60 for the July 2003 fiscal year (FY2003) and from
`$0.70 to $0.74 for FY2004 to reflect a lower sales base offset by higher gross margin expectations.
`(cid:120) We estimate revenue at $19.1 billion in FY2003, up 1%, and $21.1 billion, up 10%, in FY2004 from
`$18.9 billion in FY2002 to take into account a $500 million run rate in Andiamo sales combined
`with pull-along sales of other switches and routers by the end of FY2004.
`(cid:120) See our full note for more details.
`
`
`
` •
`
`Crompton Corp. (CK-$5.97)
`(Div./Yield: $0.20/3.4%)
`ACCUMULATE FY Ends Dec. Target: $7 (From $8)
`(Consensus: $0.58E)
`FY03 EPS From/To: $0.60E/$0.45E vs. $0.48A LY
`(Consensus: $0.85E)
`FY04 EPS From/To: $0.60E/NC
`(Consensus: $0.10E)
`Next Q EPS (Mar-03) From/To: $0.10E/$0.05E vs. $0.06A LY
`EPS at last peak (1999) = $1.55 (pro forma). Analyst, associate or a member of household have a financial interest in any class of
`common equity securities, warrants or options of the subject company.
`John E. Roberts (212) 210-0064 / jroberts@buckresearch.com
`
`CK Reports 4Q02 In Line; Reducing Estimates & Target
`
` Accumulate-rated Crompton Corp. (CK) reported 4Q02 EPS of $0.09 versus a loss of $0.10 per
`share last year, in line with expectations. We are, however, reducing our EPS estimates for 1Q03
`from $0.10 to $0.05 and for the full-year 2003 from $0.60 to $0.45. We are also introducing a 2004
`EPS estimate of $0.60 at this time.
`• We maintain our Accumulate rating on CK. Our revised stock price target of $7 per share represents
`a 15.5x P/E multiple on our reduced estimate of $0.45 for 2003, which is in line with other peer
`
`2
`
`

`

`THE BUCKINGHAM RESEARCH GROUP
`Research Notes for February 5, 2003
`
`company stocks with economic- and petroleum-sensitive earnings. We note that CK’s EPS reached
`$1.55 as recently as 1999.
`• Ethylene-propylene diene-monomer rubber (EPDM, 11% of sales) is especially petroleum-sensitive.
`Polymer additives (32% of sales) are feeling inventory cycles of plastics in which they are used.
`Plastic processing equipment (7% of sales) is suffering from low customer capital spending.
`• Volume grew 5% in 4Q02 versus 4Q01. Polymer additives grew 7%, polymers grew 6%,
`organosilicones grew 7%, crop protection grew 11%. Equipment sales volume declined 10%.
`• Refined products remain in divestment discussions, and we believe this business will eventually be
`sold for near $100 million ($0.87 per share). We believe the company also continues to evaluate
`much larger divestments.
`
` (cid:120)
`
` Yesterday, after the close, Neutral-rated I-Many, Inc. (IMNY) reported fourth quarter and year-end
`2002 results inline with the pre-announced range. Revenue of $11.7 million was 1.2% above our
`estimate of $11.5 million, 12.2% below our prior estimate of $13.3 million and within the pre-
`announced range of $11.3-$12.5 million. December quarter EPS of $(0.09) was a penny better than
`our estimate, $0.03 per share worse than our original estimate and within the pre-announced range of
`$(0.08)-$(0.11) per share.
`(cid:120) Guidance for 1Q03 calls for revenue of $11-$13 million and a loss of ($0.09)-($0.04) per share. No
`guidance was given for the full 2003 year (FY03). When IMNY pre-released its 4Q02 results several
`weeks ago, we suspended our estimates, pending the release of final results. After reviewing our
`model, we have decided to be very conservative in our estimates, and we have lowered our revenue
`estimates for 1Q03 and FY03 from $12.2 million and $54.6 million, respectively, to $11.9 million and
`$51.2 million, respectively. We are also lowering our 1Q03 EPS estimate from ($0.04) to ($0.07), and
`our FY03 estimate to ($0.17) from our prior (under review) estimate of $(0.08).
`(cid:120) Although we believe there is limited downside to the stock from current levels, there is also little to get
`excited about in the near-term, as we believe I-many will continue to face a challenging environment.
`We are maintaining our Neutral rating.
`
`
`
`
`
`I-Many, Inc. (IMNY-$1.25)
`NEUTRAL FY Ends Dec. Target: $1
`FY02 EPS From/To: $(0.18)E/($0.18)A vs. $(0.12)A LY
`FY03 EPS From/To: $(0.08)E/($0.17)E
`Last Q EPS (Dec02) From/To: $(0.10)E/($0.09)A vs. $0.01A LY
`Next Q EPS (Mar03) From/To: $(0.04)E/($0.07)E vs. $0.01A LY
`FY02 Rev. ($ mil.) From/To: $54.5E/$54.7A vs. $56.1A LY
`FY03 Rev. ($ mil.) From/To: $54.6E/$51.2E
`Last Q Rev. (Dec02) From/To: $11.5E/$11.7A vs. $13.8A LY
`Next Q Rev. (Mar03) From/To: $12.2E/$11.9E vs. $15.0A LY
`Ken Kiarash (212) 210-0063 / kkiarash@buckresearch.com
`
`IMNY 4Q02 Results Inline With Pre-Announced Range – Maintain Neutral
`
`(Div./Yield: Nil/Nil)
`(Consensus: $(0.17)E)
`(Consensus: $(0.12)E)
`(Consensus: $(0.09)E)
`(Consensus: $(0.06)E)
`(Consensus: $55.9M)
`(Consensus: $54.7M)
`(Consensus: $13.0M)
`(Consensus: $13.3M)
`
`3
`
`

`

`THE BUCKINGHAM RESEARCH GROUP
`Research Notes for February 5, 2003
`
`Jones Apparel Group (JNY - $29.50)
`ACCUMULATE FY Ends Dec. Target: $40
`FY02 EPS From/To: $2.80E/$2.81A v.s. $2.31A LY
`FY03 EPS From/To: $3.05E/NC
`Next Q EPS (Mar-03) From/To: $0.84E/NC vs. $0.77A LY
`Reported Q EPS (Dec-02) From/To: $0.49E/$0.50A vs. $0.25A LY
`Lee Backus (212) 922-5529/ lbackus@buckresearch.com
`
`Remain With Accumulate Based On Valuation Although License Dispute Could Weigh On The Stock
`Near Term; JNY Reported On Plan 4Q02 EPS Of $0.50, Confirmed FY03 EPS Of $3.05
`
`(Div./Yield: Nil/Nil)
`(Consensus: $2.80)
`(Consensus: $3.07)
`(Consensus: $0.86)
`(Consensus: $0.50)
`
` •
`
` We continue to rate the shares of Jones Apparel Group (JNY) at Accumulate, although we
`acknowledge that the dispute between Ralph Lauren and JNY could weigh on the stock until there is
`some settlement. With the stock at this level however, we believe that any resolution of the dispute
`will be a positive for the stock. Even if JNY loses the Lauren line after December 31, 2003 (a
`scenario that we believe is unlikely), the stock is currently selling at a multiple of about 10X the
`resulting EPS estimate for 2004. We believe that the dispute will probably be resolved with JNY
`paying a higher royalty fee for the Lauren line after December 31, 2003. Our 2003 EPS estimate of
`$3.05 would remain intact under any circumstances. If for some reason the issue is not settled so
`that JNY retains the Lauren line after the end of this year, our 2004 EPS estimate of $3.30 would
`probably have to be reduced but we would expect that there are certainly other businesses that could
`fill at least part of the void (the worst case scenario would be a 2004 EPS reduction of $0.50). A
`higher royalty rate starting next year (the more likely scenario) we estimate would impact next year
`by no more than $0.10 per share.
`• JNY is a diversified company, Lauren represents approximately 13% of sales and an estimated 17%
`of operating profits. JNY has been very successful in growing earnings through accretive
`acquisitions. We expect that JNY will continue to use their very high cash flow ($449 million or
`$3.18 per share in 2003) to make additional acquisitions.
`
`
`
`MEDTRONIC, INC. (MDT-$43.10)
`STRONG BUY FY Ends April Target: $60
`FY03 EPS From/To: $1.40E/NC vs. $1.21A LY
`FY04 EPS From/To: $1.68E/NC
`Next Q EPS (Jan-03) From/To: $0.36E/NC vs. $0.30A LY
`Robert M. Goldman, CFA (212) 922-5506 / rgoldman@buckresearch.com
`
`Strong Buy Reiterated Despite Reimbursement Concerns
`
`(Div./Yield: $0.25/0.58%)
`(Consensus: $1.41E)
`(Consensus: $1.64E)
`(Consensus: $0.35E)
`
` •
`
` On Monday, February 3, the Center for Medicare and Medicaid Services (CMS) posted information
`to be discussed on Wednesday, February 12, at a meeting of the Medicare Coverage Advisory
`Committee (MCAC).
`• On that day, the MCAC will discuss the possibility of granting a national Medicare reimbursement
`code for the prophylactic use of implantable cardioverter defibrillators (ICDs) for heart attack
`survivors (the MADIT II population). There will be a public review period following the Feb. 12,
`2003, meeting prior to any MCAC decision being implemented.
`• The CMS analysis posted February 3 takes issue with the exclusion criteria in the MADIT II trial,
`the Guidant-sponsored trial that concluded “in patients with a prior myocardial infarction and
`
`4
`
`

`

`THE BUCKINGHAM RESEARCH GROUP
`Research Notes for February 5, 2003
`
`advanced left ventricular dysfunction, prophylactic implantation of a defibrillator improves survival
`and should be considered as a recommended therapy.”
`• Neutral-rated Guidant Corp. (GDT-$32.65) will respond to the CMS analysis, and the issue will
`be discussed at the MCAC meeting on February 12, 2003.
`• To us, no argument that the CMS reasoning is flawed will offset the reality, it seems to us, that CMS
`is heading in a direction to not fully reimburse for MADIT II patients. Moreover, the CMS concern
`may discourage device implantation in MADIT II patients and lead to less state-by-state coverage.
`Investors would be well suited, in our judgment, to somewhat moderate their projected sales growth
`rate assumptions for all ICDs suppliers.
`• We cover both Guidant and Medtronic. We view GDT as much more leveraged to the MADIT II
`argument as compared to MDT. We reiterate our STRONG BUY rating on MDT, based on the
`following.
`o We project FY2004 aggregate sales growth for MDT of 15%.
`o Embedded in our projection is our estimate (unchanged) of FY2004 ICD sales growth of 18% (to
`$1.4 billion).
`o Were ICD sales growth in FY2004 to only equal 7% (about the market growth rate prior to the
`report of MADIT II trial results), our Medtronic ICD sales projection for FY2004 becomes about
`$1.3 billion and our aggregate sales growth projection about 13.5%. More likely, ICD sales
`growth for MDT in FY2004 will be somewhere between 7% and 18%, depending on what the
`MCAC says on February 12, 2003.
`o We are attracted to MDT shares, in large part, based on the company’s well-diversified growth
`portfolio, as indicated in table below.
`
`
`
` •
`
`Monsanto Co. (MON-$17.65)
`(Div./Yield: $0.48/2.7%)
`NEUTRAL FY Ends Dec. Target: $17 (From $19)
`(Consensus: $1.43E)
`FY03 EPS From/To: $1.45E/$1.20E vs. $1.10A LY
`(Consensus: $1.75E)
`FY04 EPS From/To: $1.50E/NC
`(Consensus: $0.32E)
`Next Q EPS (Mar-03) From/To: $0.30E/$0.15E vs. $0.33A LY
`Analyst, associate or a member of household have a financial interest in any class of common equity securities, warrants or
`options of the subject company.
`John E. Roberts (212) 210-0064 / jroberts@buckresearch.com
`
`Reducing Estimates for MON; Neutral Rating Maintained
`
` Neutral-rated Monsanto Co. (MON) reported 4Q02 EPS of $0.31 versus $0.09 last year, essentially
`in-line with expectations. However, we are reducing our EPS estimates for 1Q03 from $0.30 to
`$0.15, and for the full year 2003 from $1.45 to $1.20. We also are introducing a 2004 EPS estimate
`of $1.50 at this time.
`• We have revised our stock price target to $17 per share (from $19), based on a 14x P/E multiple on
`our lowered estimate for 2003 EPS of $1.20 and in line with many other stocks in our Specialty
`Chemicals coverage universe. We believe that MON’s book value near $19 per share, and near 10%
`free cash flow yield, should support the stock near current prices.
`• Sales declined 14% from 4Q01 for Roundup products, and declined 7% for other non-seed products
`(other herbicides, milk growth hormone, etc.). The Roundup decline reflects increased generic
`competition in the U.S., and reduced sales in Latin America due to credit risk management.
`• Seed & Genomics revenues rose 16% from 4Q01. This helped overall North American and Latin
`American sales (including Roundup) to be up 1-2%. Sales in the smaller Europe-Africa area rose
`
`5
`
`

`

`THE BUCKINGHAM RESEARCH GROUP
`Research Notes for February 5, 2003
`
`12%, and in Asia-Pacific declined 21%. Weather conditions in Asia (drought in Australia, etc.) have
`caused recent Asian results to be weak for a number of Ag. Products producers.
`• The press release did not comment on U.S. approval for root-worm protected corn. We believe
`investors are expecting a modest amount of U.S. planting in 2003, with a significant ramp up in
`2004.
`
`
`
`99 CENTS ONLY STORES (NDN-$24.00)
`NETURAL FY Ends Dec. Target: $22
`FY02 EPS From/To: $0.83E/$0.83A vs. $0.69A LY
`FY03 EPS From/To: $0.99E/$0.98E
`FY04 EPS From/To: $1.20E/New
`Reported Q EPS (Dec-02) From/To: $0.28E/$0.28A vs. $0.23A LY
`Next Q EPS (Mar-03) From/To: $0.20E/$0.19E vs. $0.18A LY
`John Zolidis (212) 922-0149 / jzolidis@buckresearch.com
`
`Remain With A Neutral Following 4Q02 Results; Cutting 2003 EPS Estimate One Cent to $0.98
`
`(Div./Yield: Nil/Nil)
`(Consensus: $0.84E)
`(Consensus: $1.00E)
`(Consensus: $1.20E)
`(Consensus: $0.28E)
`(Consensus: $0.20E)
`
` •
`
` Neutral-rated 99 Cents Only Stores (NDN) reported 4Q02 EPS of $0.28, in-line with our estimate
`and the street consensus. However, bottom-line results were aided by a lower than expected tax rate.
`• NDN provided revised guidance for 2003 and maintained its 25% and 20% square footage and EPS
`growth projections, respectively. However, a majority of new store openings will occur in the
`second half, and costs related to the company’s new Texas distribution center will pressure results
`over the course of the year. We are lowering our 2003 EPS estimate by one cent to $0.98 (in-line
`with the low end of guidance) but are concerned that these figures may prove to be a bit of a stretch.
`• We remain with an Neutral rating on NDN and maintain our stock price target of $22 per share,
`which is based on a 22x P/E multiple (or a PEG ratio of 1.1x) and our 2003 EPS estimate of $0.98.
`Even with yesterday’s 11% decline, NDN shares continue to trade at a premium to growth and at P/E
`multiples higher than those almost every other retailer. While we agree that NDN has an extremely
`productive store model, and a huge opportunity for long-term growth, we believe the shares are
`overvalued given near-term risks associated with growth into new markets and operational
`challenges attached to opening and integrating a second distribution center into the company’s
`systems.
`
`
`
`Royal Caribbean Corp. (RCL-$15.20)
`STRONG BUY FY Ends Dec. Target: $30
`FY03 EPS From/To: $2.00E/NC vs. $1.79A LY
`Next Q (Mar-03) EPS From/To: $0.35E/$0.33E vs. $0.27A LY
`Helane Becker (212) 922-5523/ hbecker@buckresearch.com
`
`RCL: Maintain Strong Buy: Reducing Q1 Estimate Due to Additional Cancellation
` Royal Caribbean Corp. (RCL) common shares continue to be rated Strong Buy. We continue to
`believe these shares can sell at 15x estimated 2003 EPS of $2.00 or at a stock price target of $30 per
`share.
`• RCL reported yesterday that it would cancel a third cruise due to a propulsion problem on the
`Infinity. We had previously reduced our Q1 EPS estimate by $0.05 to $0.35 on the cancellation of
`two cruises on this ship and now will reduce the estimate by an additional $0.02 to $0.33 per share.
`
`(Div./Yield: $0.52/3.4%)
`(Consensus: $1.88E)
`(Consensus: $0.27E)
`
` •
`
`6
`
`

`

`THE BUCKINGHAM RESEARCH GROUP
`Research Notes for February 5, 2003
`• The Infinity is an 18-month old ship, and thus still under warranty, and RCL will probably get relief
`from the manufacturer. However, this process could take months or years.
`• For the first quarter, management is somewhat cautious on the outlook, saying yields would be up by
`2%-4%. We were estimating an increase of 3%-4% in our 1Q03 EPS estimate of $0.33 vs. $0.27 a
`year ago. For the full-year 2003, management indicated it remained comfortable with the current
`consensus estimate of $2.01 per share, in line with our estimate of $2.00.
`
`Watson Pharmaceuticals (WPI-$30.02)
`STRONG BUY FY Ends Dec. Target: $37
`FY03 EPS From/To: $1.85E/NC vs. $1.63A LY
`FY04 EPS From/To: $2.13E/NC
`Next Q EPS (Mar-03) From/To: $0.44E/NC vs. $0.34A LY
`EPS Estimates for 2002, 2003 & 2004 Exclude Goodwill Amortization Per New Accounting Rules
`David G. Buck (212) 922-2136 / dbuck@buckresearch.com
`
`Company Ends 2002 on Positive Note; Expect Accelerating Earnings Growth
`
`(Div./Yield: Nil/Nil)
`(Consensus: $1.80E)
`(Consensus: $2.05E)
`(Consensus: $0.42E)
`
`
`
` (cid:120)
`
` Watson Pharmaceuticals reported 4Q EPS that topped expectations by $0.01, but were at the
`high-end of the pre-announcement range. Throughout 2002, Watson met or exceeded
`expectations. We expect an acceleration of growth in 2003 with expected EPS of $1.85 (+14%), the
`high end of Watson’s $1.75-$1.85 per share range. We remain with EPS estimates of $1.85 for 2003
`and $2.13 for 2004 with just minor tweaks (our full model is part of our full Company Comment).
`Our 1Q 2003 EPS estimate of $0.44, remains $0.01 above Watson’s guidance range. We expect a
`return to 15-20% EPS growth for Watson and our price target of $37 represents a 20x multiple of
`2003 earnings. As a reminder, Watson’s earnings power is understated due to non-cash amortization
`charges. We estimate free cash flow per share of $1.81 for 2003 and $2.05 for 2004. At current
`prices, Watson shares trade at under 17x free cash flow for a yield of 6%. We would continue to
`purchase WPI shares.
`(cid:120) The expected approval of Oxytrol (overactive bladder) and drug launches are the key catalysts
`for Watson. We expect an approvable letter by the end of this month for the Oxytrol overactive
`bladder drug, with an approval expected during 2Q 2003. The Company will launch this drug
`initially with its own urology sales force followed by the addition of up to 380 reps by 3Q 2003. We
`expect this drug to post 2003 revenues of $45 million with peak sales of $250-$300 million. Watson
`should receive FDA approval or re-launch as many as 12 generic drugs in 2003, leading to generic
`revenue growth of 17% for 2003. Women’s Health posted 2002 revenues of $343 million (+41%,
`28% of company sales). Growth opportunities remain despite generic competition from
`Accumulate-rated Barr. Watson is launching three oral contraceptives under license from Ortho and
`the division should benefit from growth in PapSure (cervical cancer screening) and Alora (HRT)
`which have no generic risk.
`(cid:120) Pipeline drugs include nail fungus patch. Watson indicated that it has filed patent applications for
`its nail fungus (onychomycosis) patch, which we believe to be fluconazole and Watson should file an
`NDA for this drug by first half 2004. One mild negative was the delay in the fentanyl lozenge
`cancer pain drug. The FDA is requiring a carcinogenicity study that could delay the program
`by two years, potentially a positive for Cephalon, marketer of Actiq. Somerset’s (Watson/Mylan
`joint venture) Emsam antidepressant should be filed with the FDA during 2003.
`
`
`
`7
`
`

`

`THE BUCKINGHAM RESEARCH GROUP
`Research Notes for February 5, 2003
`
`webMethods, Inc. (WEBM-$10.66)
`ACCUMULATE FY Ends March Target: $14
`FY03 EPS From/To: ($0.04)E/NC vs. $(0.31)A LY
`FY04 EPS From/To: $0.19E/NC
`Next Q EPS (Mar03) From/To: $0.02E/NC vs. $(0.00)A LY
`FY03 Rev. ($ mil.) From/To: $202.1E/NC vs. $196.0A LY
`FY04 Rev. ($ mil.) From/To: $229.8E/NC
`Next Q Rev. (Mar03) From/To: $54.4E/NC vs. $50.7A LY
`Calendar year EPS: 2002A = ($0.06), 2003E = $0.15 and. 2004E = $0.30.
`Ken Kiarash (212) 210-0063 / kkiarash@buckresearch.com
`
`Investor Meetings Reaffirms Our Confidence in WEBM’s Leading Position
`
`(Div./Yield: Nil/Nil)
`(Consensus: ($0.03)E)
`(Consensus: $0.12E)
`(Consensus: $0.03E)
`(Consensus: $202.7M)
`(Consensus: $223.2M)
`(Consensus: $53.9M)
`
` (cid:120)
`
`
`
` Yesterday in New York, we hosted a series of investor meetings with management of
`webMethods. Key takeaways include:
`o webMethods 6, which was released in December quarter, has been received very well by end
`users, accounting for some of the recent success and continuing momentum in the current
`quarter. GA (general availability) of webMethods 6 will be at the end of current quarter. The
`management also indicated better-than-expected uptake of webMethods Business Manager and
`WorkFlow, which are sold as add on modules.
`o Operating margins should continue to improve due to leverage in WEBM’s business and
`financial model. WEBM’s management has not provided any specific guidance for revenue or
`margins beyond the current quarter, but our feeling is that the existing estimates are very
`conservative. We believe operating margins can settle in the 20%-plus range in the next 2-3
`years, after climbing to 10-20% range by the end of FY04 (our above-street consensus estimate
`assumes an operating margin of 7% in 4QFY04).
`o Public sector should continue to surprise on the upside. WEBM’s largest deal in the last quarter
`was with the state of Georgia. We expect similar deals to continue, at federal, state, and local
`levels, especially considering that integration remains a top priority for all enterprises,
`particularly in the public sector. Also, any additional trickle coming from the major increase in
`FY04 IT budget (up 15% to $60 billion) should disproportionately benefit smaller vendors such
`as webMethods.
`o Given that the March quarter is WEBM’s fourth fiscal quarter, we feel comfortable with our view
`that the company can meet, and even beat, current estimates. We have modeled for a modest 1%
`sequential increase in revenue in the March quarter. However, given that a meaningful number of
`WEBM’s quota-carrying sales people will start to hit their ‘accelerators’ in this quarter, we
`believe WEBM’s can once again exceed current estimates, both on top-line and bottom-line.
`(cid:120) We would continue to add to our positions in WEBM, as this leading integration software
`vendors continues to gain market share (see our report of February 3) against the weaker
`players and the space is rapidly consolidating around the three leading vendors, WEBM,
`TIBCO, and IBM.
`(cid:120) We are maintaining our Accumulate rating and price target of $14, based on a combination of DCF,
`PEG and comparables analysis (at $14 per share, WEBM shares would be trading at 2.3x EV/CY03
`revenue of $224 million).
`
`8
`
`

`

`THE BUCKINGHAM RESEARCH GROUP
`Research Notes for February 5, 2003
`
`INDUSTRY COMMENTS
`
`
`
`
`
`AIRLINE INDUSTRY
`The Buckingham Research Group makes a market in the securities of Northwest Airlines (NWAC).
`Helane Becker (212) 922-5523 /hbecker@buckresearch.com
`
`Airline Industry: January Traffic To Date Slightly Better Than Expected
`
` •
`
` January traffic reports indicate that airlines’ load factors may be running a percentage point or two
`ahead of our expectations. We think some of this may be due to New Year holiday return traffic.
`• Also, unit revenues appear to be positive for the second month in a row. This is the first time this
`has happened in two years. The President week holidays later this month and the start of spring
`break in March could aid this possible pick-up off the bottom.
`In the next two weeks, we should know whether Swap-rated UAL Corp. (UAL-$0.91) will have to
`convert from a Chapter 11 to Chapter 7 bankruptcy filing. We think this is likely due to the
`company’s pension liabilities. We estimate that UAL’s underfunded pension liability is $4.0 billion.
`• United Airlines’ conversion to Chapter 7 would obviously aid American Airlines and Northwest
`Airlines. American itself has issues, and has approached its employees for $1.5 billion in wage
`concessions. Without those concessions, we believe that American would probably have to file for
`Chapter 11 itself by the summer. A Chapter 7 petition by United would buy American at least
`another year.
`• We continue to focus on AMR Corp. (AMR-$2.87), Northwest Airlines (NWAC-$6.15) and
`Continental Airlines (CAL-$5.75), all rated Accumulate, as all should benefit from either USAir’s
`or UAL’s Chapter 11 filings.
`
`•
`
`
`
`ELECTRIC UTILITIES INDUSTRY
`Jeffrey J. Hoffman (212) 922-5527 / jhoffman@buckresearch.com
`
`Recent Developments That Can Impact EIX and CPN
`
` •
`
` We reiterate our Strong Buy ratings on the shares of Edison International (EIX-$12.20) and
`Calpine (CPN-$3.33). We are maintaining our 2002 and 2003 EPS estimates for EIX of $2.03 and
`$1.60, respectively, and our stock price target of $20 per share, which is based on a 12x P/E multiple
`to our 2003 EPS estimate. We also are maintaining our 2002 and 2003 EPS estimates for CPN of
`$0.77 and $0.90, respectively, and our stock price target of $11 per share.
`• On a positive note, yesterday power prices and spark spreads in the Midwest and Northeast
`rebounded dramatically in front of colder weather expectations. Power delivery in the Mid Atlantic
`increased 36% to $55 per MWH, power delivery in western New York State increased 45% to $65
`per MWH, New York City increased 7.5% to $75 per MWH and power delivery in the New England
`Power Pool increased 11% to $62.13. Power prices had moderated with the recent warmer weather.
`The cold weather of January and the current price developments are positive for EIX’s Edison
`Mission Energy (EME) subsidiary, which is selling power into the Midwest spot market, and for
`CPN, which sells into all of the regional spot markets, and should positively impact 1Q03 earnings.
`
`9
`
`

`

`THE BUCKINGHAM RESEARCH GROUP
`Research Notes for February 5, 2003
`• On a negative note, yesterday Williams Companies (WMB–$3.25; Not Rated) announced it had
`sold a 170 MW power plant to Hoosier Energy for $67 million. This is mildly negative news. The
`sales price is approximately $394 million per KW, which is below the cost of construction. We
`estimate the current cost of construction for new gas plants at $500-$600 per KW. The low sales
`price reinforces to market view of a glut of power plant capacity. The market value of existing
`power plant capacity is one important factor considered by debt investors for refinancing current
`debt maturities. Since power plants are assets with 40-50 year operating lives and since it is
`generally recognized that the current national glut of capacity will be gone by 2005, we expect
`power plant asset values will recover to cost of construction valuations over the next two to three
`years. These developments impact both EIX and CPN in their refinancing negotiations.
`
`
`
`HEALTHCARE SERVICES & HOSPITAL MANAGEMENT INDUSTRY
`Jeffrey J. Hoffman (212) 922-5527 / jhoffman@buckresearch.com
`
`Hospital Stocks: Earnings Catalysts Remain Intact
`
` •
`
` We continue to rate the shares of HCA Inc. (HCA-$40.55), Health Management Associates
`(HMA-$17.80), LifePoint Hospitals (LPNT-$24.05), Triad Hospitals (TRI-$26.61) and Universal
`Health Services (UHS-$44.76) as Strong Buys. We continue to rate the shares of Tenet Healthcare
`(THC-$17.90) as Accumulate.
`• Earnings reports from this sector to date indicate that pricing and admissions trends continue to be
`robust. We expect to see this continue as LPNT and TRI report on February 18 and 25 respectively.
`• We feel yesterday HCA earnings report had two very important points. One is that commercial
`pricing continues very strong. With 80% of HCA’s managed care contracts renegotiated for this year,
`pricing increases averaged 7.5%. That compares to general expectations of increases of 5-6%. For
`2004, 25% of HCA’s contracts have been renegotiated with similar average increases of 7.5%. HCA
`has typically been an industry leader and a standard setter regarding pricing negotiations
`• Regarding admissions, HCA’s robust capital expenditures growth has been in response to its existing
`markets admissions growth. HCA spent $1.8 billion in 2002 vs. $1.42 billion in 2001. It will spend
`$2 billion this year and likely will spend more than $2 billion in 2004. These increases are for
`internal expansion and are in addition to its pending $1.3 billion acquisition of Health Midwest.
`• We believe these two developments are ind