Neff on KOMG
Komag, Inc.
(KOMG-$31.88-Peer Perform)
Downgrading from Outperform to Peer Perform Owing to Slower
Demand and Easing Constraints; Lowering Estimates
• DOWNGRADING TO PEER PERFORM. Owing to weaker demand and easing in supply
constraints, leading to a reduced outlook, we’re downgrading Komag from Outperform to Peer
Perform. Keep in mind that we view the HDD sector as “growth cyclicals” which implies
higher volatility and an accentuated focus on change at the margin.
• WORRISOME CHANGE IN TONE. In an 8K filing today, Komag noted that demand has
been slower than normal seasonality, and - of greater concern - supply/demand for media is
now reasonably in balance, which is a material change from prior commentary on continued
media tightness (and HDD vendor comments on constraints thru year end). Komag indicated
that some of prior media tightness may have related to HDD vendors buying in anticipation of
share capture from STX/MXO.
• LOWERED GUIDANCE. While Komag still expects finished disk capacity of 39mm in 3Q,
it now sees revs of flat to up 3% seq (vs. prior outlook of up 5%) given reduced units, and a
net margin of 14-16% (vs. prior guidance of 16-17%) due to lower capacity utilization (now
running at mid-90% level), which implies EPS of $0.98-$1.15 (vs. previous $1.17-$1.24).
• NEGATIVE IMPLICATIONS FOR HDD VENDORS. Given the apparent increase in
availability of media, which had been a stabilizing factor for the HDD industry and helped
promote price discipline, we see the news as incrementally negative for HDD vendors (STX,
WDC).
• LOWERING ESTS. Given a reduced revenue and margin outlook, we’re lowering our post-
option EPS for ’06 from $4.90 to $4.45 and for ’07 from $5.35 to $4.30.
• LOWERING RATING. Relative to other tech sectors, HDDs are highly sensitive to capacity
trends, where tight capacity promotes stability and vice versa. Since capacity constraints are
easing, we will continue to closely track the implications of a changing supply/demand
balance. On valuation, applying an 8x P/E multiple (consistent w/ peer group) on our ‘07 EPS
implies fair value in the low/mid $30s. |
