LSI Corp. "Semi"-Attractive

LSI Corporation (LSI) continues to build on its leadership in Serial Attached SCSI (SAS) and RAID on Chip (RoC) technologies. The revenue drivers from these new technologies are coming through but will become more meaningful in late-2008/early-2009 time frame when share gains in hard disk drive space begin to accelerate. Until then, headwinds from a deteriorating macroeconomic environment remain a significant risk for the story.

LSI reported revenue of $692 million, above consensus expectations of $665 million. The company guided Q3:FY08 to a midpoint of $710 million in revenue above consensus expectations of $693 million, supported by seasonal Q3 expectations and relative strength at LSI storage customers. The upside surprise this quarter was the resilience of LSI's end markets and position coupled with stability in the company's business model.

While the company guided a contraction in gross margins in Q3:FY08, this largely represent normal mix shift within LSI's portfolio in 2H:08 and guidance remains in line with the company's long-term target. With now four healthy quarters back-to-back, LSI appears to be building up to earnings momentum and may maintain steady top-line growth in an uncertain overall demand environment.

LSI's technology offering and scale in storage remains positive and it is likely that management will eventually be able to extract the potential benefits of the Agere synergy. But, in the meantime, valuation remains highly stretched. Despite its current business woes, LSI has significant opportunities in the Storage chip, system and the software markets, with sufficient depth and breadth of products to compete effectively.

Q3 forecast suggests that the company's restructuring and cost reduction benefits continue to be offset by gross margin pressure. Other risks include integration problems associated with Infineon (IFX) and Agere and/or any penetration by Marvell (MRVL) at key storage accounts. Consequently, we maintain our Hold rating on shares of LSI with a revised target price of $7.00, which is 14.0 times our 2008 EPS estimate and lower than the industry median.

Union Pacific Est Bumped Up

We are retaining our Hold on Union Pacific Corporation (UNP). Our target price is $80. UNP posted second quarter EPS of $1.02, up 24% year-over-year and better than consensus of $0.92 and our estimate of $0.91, largely due to higher-than-expected revenue growth.

We are raising our 2008 diluted EPS estimate from $4.07 to $4.15, near the high end of the management's increased $4.00-4.20 range and our 2009 EPS estimate to $5.00 from $4.75. UNP should benefit from higher rates on contract renewal pricing and improved productivity, which should offset expected volume weakness and higher fuel costs.