Wednesday, July 20, 2005

LCD Makers May Woo Investors With Sector's Improved Outlook

By EVAN RAMSTAD Staff Reporter of THE WALL STREET JOURNAL July 20, 2005

It may be time to put a wager on the flat screen.
As flat-screen TVs get cheaper and more popular, it's tough to decide when to invest in their makers. Like other high-tech manufacturers, these companies experience volatile swings in profitability. The sector saw a longer-than-usual period of healthy profits a year ago -- which collapsed by this year's first quarter, when some manufacturers of the main screen component reported losses.
But profits are heading back up, and the overproduction fears that weighed on the industry last year have greatly eased. Investing when one senses a bottom has been reached makes sense in all cyclical industries, and some institutional investors jumped back into the flat-screen sector at the first signs of a turnaround, in January and February.
Today, the recovery appears even more solid, particularly in liquid-crystal-displays -- the largest segment with screens that go into cellphones and computers as well as TVs -- and is likely to last into 2006, giving more investors a chance to ride the cycle upward.
"We are entering a period of rapid margin expansion and profit gains," says Chong Kim, an analyst in Seoul for CLSA Asia-Pacific Markets who follows makers of flat-screen components. "That's without question. The accent will be on the scope and magnitude, but not the direction."
Shares of LG.Philips LCD, this year's sales leader in LCD screens by revenue, soared 40% in the first four months of 2005. They have declined since then, but are still up 22% for the year. Shares in other big panel makers, Taiwan's AU Optronics and Chi Mei Optoelectronics, are up 20% so far this year.
Frank Lee, a Deutsche Bank analyst in Taipei, said Friday in his latest monthly report on the industry that he expects LCD-related shares to move still higher as investors price in expectations for better profits in the second half of the year.
Japan offers one striking indicator. The nation is a leading indicator of flat-screen consumption because of its affluent but cramped consumers. LCD-TVs accounted for 52% of all sets shipped to Japanese retailers in May -- the first time flat screens surpassed ordinary tube TVs anywhere in the world.
Into this upbeat scene, Daniel Kim, a Merrill Lynch analyst in Seoul, injects a note of caution. He has long had a "sell" recommendation on LG.Philips, which he feels is overvalued at its current share price.
"Bulls and bears agree on strong volume growth," he says, though he adds that makers of other components face less competition and have greater pricing power than panel companies do. The strong market for LCD panels, Mr. Kim says, "is likely to be short-lived."
Companies in other parts of the business are thriving. Shares in Corning, the biggest maker of the tough, thin glass from which the panels are cut, have risen nearly 50% this year. And Genesis Microchip, which makes chips that control the pictures, is up 26%.
But the most telling sign of the industry's improved outlook is that sales of LCD-TVs in the first half of the year grew more than expected, causing manufacturers and analysts to raise forecasts for full-year sales by about 20%, to around 22 million units.
Desktop PC monitors and notebook screens account for most of the LCDs: 140 million screens were sold last year, compared with about 10 million for TVs. Still, manufacturers and investors are paying increased attention to the TV market, in which the screens are larger, more expensive and more profitable. In addition, most of the industry's capital investment in the past two years has been on factories to produce screens for TVs. After the strong first half for LCD-TVs, manufacturers are optimistic that the second half, when TV sales accelerate and climax during the year-end holidays, will be even better.
Volume efficiencies coming from the new flat-screen factories are driving prices of the key component lower, and that is spilling over to prices for the finished TVs. CLSA's Mr. Kim notes that average retail prices for LCD-TVs are now about four times that of ordinary TVs. For smaller and less expensive models, in the 51-inch-screen size and below, the LCD versions cost just two to three times as much. Not that many years ago, LCD-TVs generally cost about eight to 10 times more than ordinary ones.
Four years ago, when LCD computer monitors cost about three times as much as comparable tube versions, sales of the flat-screen models took off.
"It gains some form of traction or mass at that point where somehow, consciously or unconsciously, the new product is purchased by more people," Mr. Kim says.
At the same time, the steadier pricing environment for computer monitors is helping the LCD industry. After the sharp drops of late 2004, wholesale prices for 43-inch screens, the biggest sellers by volume, are up $20 to $170 from the start of this year.
So how high can the profits go, as the panel makers emerge from the latest downturn?
At Samsung Electronics, the No. 2 maker of LCD screens by revenue this year, history indicates there's significant room for profit growth. In the second quarter this year, its LCD business had operating margins of only 1%. Discussing second-quarter results with analysts last week, a Samsung executive said its average operating-profit margin from LCD production from 2000 to 2005, when the industry went through two full turns of its price and profit cycle, was 15%.
The company recently forecast improvement over the next six months, and its shares -- influenced also by perceptions of Samsung's chip and cellphone businesses -- have risen 3% in the past two days.


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