The Rating Game: Analysts Exit Exodus Too Late

At least seven brokerages forced to lower ratings on the company.
By Eric Gillin ,

If there were a red-headed stepchild in the world of Wall Street research, this week's candidate would be

Exodus Communications

(EXDS)

.

The company took some time after Wednesday's bell to tell investors that its second quarter would come in with $140 million in losses, and revenue down 10% from the first quarter. Needless to say, people were not impressed.

Unofficially, a grand total of seven brokerages were forced to lower their inexplicably positive outlooks on the company's stock, which is off more than 95% from its 52-week high of $69.

Fahnestock

,

Prudential Securities

,

First Union Securities

,

Merrill Lynch

and

Salomon Smith Barney

all dropped the company from lofty buy ratings to some version of neutral. Heck, before downgrading to market outperform,

Goldman Sachs

even had it on its U.S. recommended-for-purchase list.

Friedman Billings

, a small Washington, D.C., financial services outfit, had the company at a somewhat conservative accumulate rating prior to downgrading it to market perform. But of all the places dropping Exodus' ratings, Friedman wasn't the most conservative -- debt-rating outfit

Standard & Poor's

was, cutting the company's bond rating to "B-" and its convertible bonds to junk status at "CCC."

Not all analysts were reactionary. One duo actually gave advice

before

Exodus warned. Prudential and

Lehman Brothers

trimmed back the company's price target to $9 from $15 on Monday.

Play that again, Sam. Exodus hit a 52-week low of $1.18 on Thursday, way off from the $9 those two expect within a year.

It's the Words that Count. Wait, Just Count the Words. Fine Then, Do Both.

On Tuesday, when Salomon Smith Barney analyst Heather Bellini upgraded

Siebel

(SEBL)

to market outperform from neutral, investors cheered and sent the stock up 9.4%. But in the note, under a section called "opinion," Bellini used 515 words to spell out her now-positive stance on Siebel's stock. Under "risks to the upgrade," she used 396. But that's nothing -- there were 431 words in the disclaimer.

By her own admission, Bellini's upgrade was nothing more than a straight valuation call, despite all the well-reasoned arguments she put forth. At $38.29, Bellini liked the stock, which was trading at 66 times her 2001 earnings estimate. And that's that.

Well, not exactly. The previous night, rival

Oracle

(ORCL) - Get Report

used cost-cutting measures to beat earnings estimates by a penny. Management didn't think business would get any worse going forward, tossing yet another bone to the bottom callers whose hobbies include "jumping the gun," "crying wolf" and "hoping against hope." (

Deja vu

alert! Didn't we hear bottom calling without fundamental improvement in October 2000? Or was that February 2001?)

When Bellini's Siebel upgrade hit the market, the company sported a boffo opening of $43.16 -- 13% higher than where it closed 17 hours earlier.

The "I Do and Do and Do for You People and This Is the Thanks I Get" Award

Linux firm

Red Hat

(RHAT)

announced its first-ever profit Tuesday night, eking out a $600,000 profit for the first quarter. Revenue was up 18% from the previous year. And even though quarter-to-quarter revenue was off 5% -- when a company finally turns profitable, especially in this environment, it should receive goodwill from analysts, right?

Not always. On Wednesday morning,

W.R. Hambrecht

analyst Prakesh Patel dropped his rating on the company to neutral from buy. He'd expected revenue to come in at the company-established $27 million target. Instead, Red Hat came in at $25.6 million. But even worse, Patel didn't like that Red Hat CFO Kevin Thompson didn't reiterate his fiscal 2002 view of a 10-cent-per-share profit. Patel downgraded the company because of the lack of visibility.

In an interview, Thompson said he was "disappointed" about the downgrade and missing the $27-million revenue target, adding that Patel was the only analyst he didn't speak to after the company's conference call Tuesday night. The Red Hat CFO said he didn't reiterate guidance because he didn't want to make promises the company couldn't keep, especially given the limited visibility. "We're a management team that delivers on its goals," he said. "We just didn't believe it was prudent to give guidance at this point. We intend to make the right decisions so we can come through on our goals."

Line of the Week:

"We should have thought that the Street had figured out long ago that

Shaquille

O'Neal had a better chance of improving his free-throw percentage to 100% in the NBA finals than networking component and equipment providers had for making their guidance for the June quarter."

Research analyst Alex Gauna,

Banc of America Securities

, from a note about

Applied Micro Circuits

(AMCC)

. In it, he cut his estimates for the company's first quarter and fiscal 2002.

"I'll Be the Man Who Will Fight for Your Honor. I'll Be the Hero..."

Lehman donned shining armor a few times this week, rushing to defend companies hit by negative research from rival brokerages.

The trend started last Friday, when

Credit Suisse First Boston

dropped drugstore chain

CVS

(CVS) - Get Report

to hold from strong buy, saying it was having trouble finding clerks for its pharmacy department, which was putting a drag on sales. As a result, CVS dropped 13%. Monday morning, Lehman analyst Meredith Alder counterpunched, saying CSFB was reacting to an already established phenomenon that faces the entire industry, not just CVS. She reiterated her strong buy rating and the stock gained 2.4%.

Then on Wednesday,

Qwest Communications

(Q)

fell 4% after a

Morgan Stanley Dean Witter

report said accounting issues could cut into the company's earnings quality. The next day, Lehman analyst Blake Bath responded in all capital letters, telling investors that the issues raised by Morgan "DO NOT REPRESENT REAL IMPACTS TO Q's ABILITY TO GENERATE REVENUE AND CASHFLOW FOR INVESTORS." The stock gained back 3%.

Peter Cetera would be proud.

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