Alpharma Currently Overvalued

Alpharma, Inc. (ALO) is a pharmaceutical company with operations in human and animal pharmaceuticals. With the sale of the generics business and the upcoming sale of the API business, Alpharma is focusing on establishing itself as a specialty pharmaceuticals company.

We expect 2008 to be another transitional year for the company, with earnings declining significantly mainly due to increased SG&A spend related to the launch of Flector Patch. In the absence of any potential catalysts, investor focus will remain on the launch and acceptance of Flector Patch.

Although we expect earnings to rebound in 2009, we remain concerned about Kadian's growth prospects and the sales ramp of Flector Patch. With the sale of its generics business, Alpharma is working on establishing itself as a specialty pharmaceuticals business.

The company recently entered into an agreement for the sale of its API business for $395 million. This deal makes sense as the API business had been struggling over the past couple of years, mainly due to increased competition and pricing pressure. This deal should provide Alpharma with funds to expand its pharmaceutical product portfolio in existing as well as new therapeutic areas.

The transaction is expected to close in the second quarter of 2008. With the loss of revenues and operating income from the API business, we expect the deal to be EPS dilutive in 2008.

However, we are leaving the API business in our model for the time being; we will revise our model once the company provides updated guidance at the time of the closing of the transaction. Alpharma shares are currently trading at 55.1x our estimated calendar year 2008 EPS of $0.46. We believe the shares are over-valued at current levels. We rate the stock a Sell with a $20 price target. Our price target is based on 32.3x our 2009 EPS estimate.

Arpita Dutt, CA, contributed to this report.

Near-Term, Hold Osiris Therapeutics

Osiris Therapeutics, Inc. (OSIR) is a company founded to commercialize stem cell products from adult bone marrow, a readily available and non-controversial source. The company is making significant progress with stem cell therapies.

Osteocel remains the only stem cell product on the market, and thanks to recent expanded manufacturing capacity, the product should be in position to continue its solid growth in the coming years. The potential for Prochymal is enormous if several of the phase III trials in Graft vs. Host Disease (GvHD), Crohn's Disease (CD), as well as early-stage programs in acute MI and Type-1 diabetes, pan out.

Both opportunities are significantly under-served and offer large market potentials, especially for a novel biologic therapeutic like Prochymal. Mid-stage data in acute myocardial infraction and type-1 diabetes also looks encouraging. These are potentially blockbuster indications, although our enthusiasm is tempered based on the early-stage nature of the data.

The $224.7 million contract win with Genzyme (GENZ) from the U.S. Department of Defense was fantastic news, although the headline number of $224.7 million inflates the actual economic value to Osiris. If Prochymal can eventually receive FDA approval for acute radiation syndrome (ARS), this could be a very profitable venture for management.

We are excited about the potential that Osiris has with its pipeline. However, things are still a little early and our income statement shows continued operating losses for the next few years. Management burned $46.5 million in cash in 2007 ($15 million in the fourth quarter) and as the phase III Prochymal program continues we expect the need to raise cash perhaps later in 2008 or definitely in 2009. In the meantime, we see $12 as fair value and rate the shares Hold.

Upgrading O2Micro to a Buy

O2Micro International Limited (OIIM) has a strong position in the notebook computing market and a growing position in the LCD monitor and LCD TV markets. Management has focused investments into these new vertical markets, attempting to broaden its product portfolio. 

The LCD TV markets represent an opportunity to grow its revenue base and boost margins to the low sixties. The shares are currently trading at an 11.8x multiple of its 2008 earnings estimate (P/E). The long-term potential of many of the new products being developed and deployed should drive future growth. Earlier design wins are expected to begin contributing revenue in 2008 and have done so.

The company is expected to launch new products in the LCD/LCD TV, battery management and VPN/firewall areas through the remainder of the year. The persistent weakness in the notebook segment may signify a fundamental shift in the product mix of the company. However, new products have begun to reverse the slide in notebook sales. Consequently, we believe the stock will trade at the higher valuation metric levels. Hence, we are upgrading the shares of OIIM to a Buy rating with a price target of $13.

Community Health Eating Costs

Community Health Systems, Inc. (CYH) is the largest publicly traded hospital management company in the U.S. As anticipated, 4Q07 largely reflects the impact of the FY07 Triad acquisition. We are encouraged by same-store comps and management's planned divestment of hospital assets to lower long-term debt.

On February 21, 2008, CYH announced 4Q07 financial results. The company reported a 4Q07 net loss from continuing operations of $70.6 million, or $0.75 per share, compared with a net income of $53.6 million or EPS of $0.57 in 4Q06. The quarter's consolidated results included costs related to the acquisition of Triad in 3Q07, which reduced adjusted EBITDA by $166.4 million, income from continuing operations by $105.4 million or $1.12 per share.

These costs included increased allowance for doubtful accounts due to an increase in the number of patients qualifying for charity care and the number of patients who are indigent non-resident aliens. On an adjusted basis, excluding Triad, income from continuing operations was $34.8 million (down 36.7% year-over-year) or EPS of $0.37, compared with income of $54.9 million, or EPS of $0.58 in 4Q06.

We retain a Hold rating at current levels pending further signs of progress on the integration front. We have valued Community Health Systems on a forward price/earnings (P/E) basis, as well as a comparison to similar firms in the healthcare facilities sector.