Upgrading OSI Pharma to Buy

We upgrade OSI Pharmaceuticals, Inc. (OSIP) to Buy from Hold, as we expect the biotechnology company to achieve sustainable growth in the next few years. While strong sales of its primary product -- cancer drug Tarceva -- continues to impress, we are optimistic of the revenue potential from the company's DPP-IV diabetes drug patent estate.

Despite the decision of the European Patent Office to revoke one of the company's European patents, we do not model a significant impact on the revenues from the DPP-IV patent estate. This class of drugs could bring $3 billion to $4 billion in the coming few years. Going forward, we see Tarceva sales continuing to grow outside the U.S., largely to the greater number of smokers in Europe and Japan. With seven clinical candidates in different stages of development, marketing partners like Genentech (DNA), Eli Lilly (LLY) and Roche and possible label expansions for Tarceva, OSI Pharma looks likely to shine in 2008 and beyond.

We also remain comfortable with the company's financial health. With $441 million in cash and cash equivalents, the company is looking to acquire research assets or additional technology in the near future. Moreover, current valuation is attractive. Our target price of $42 is derived by multiplying our 2010 EPS estimate of $2.71 with a P/E multiple of 20.9x and discounting back for two years using a discount rate of 15 percent.

Hold-Rated IVAC Target Lowered

We believe Intevac's (IVAC) foray into the semiconductor capital equipment market is still in its early stages, and the disk-drive component maker will need to invest in this business over the coming few years to be successful. The current challenging economic environment makes it a difficult time for entering the business as demand for equipment is waning. Although the future is bright for imaging, Intevac's recent entry into the segment may not be able to offset declining revenue from slowing sales of its 200 Lean magnetic disk sputtering systems.

With the upgrade cycle for sputtering equipment over, Intevac is now relying mostly on capacity additions for revenue. In the imaging business, its first semiconductor equipment Lean Etch should begin to ship later this year. However, without another technology upgrade cycle in sputtering equipment expected for several years, it will likely take some time for IVAC to achieve stellar results.

Being the only pure player in the sputtering equipment market, Intevac lacks direct competition. Over the longer term, there is upside based on the success of imaging and semiconductor businesses.