L-3 Communications Stays a Buy

Strong second quarter 2008 operating and financial results at L-3 Communications Holdings Inc. (LLL) wherein the company delivered growth across its business segments along with a healthy backlog position and a favorable industry outlook prompted management to raise 2008 sales, operating margin and earnings guidance.

Earnings were also boosted by the sale of a non-core product line and favorable ruling in its dispute with OSI Systems. This growth trend is expected to continue through 2008-09 due to an impressive product portfolio. Earnings growth will come through both organic and accretive acquisitions. Accordingly, we reiterate our Buy recommendation on LLL common stock with a six-month target price of $111.

Price appreciation to our near-term valuation target, combined with $0.30 per share quarterly dividend which we deem to be sustainable and secure based upon low projected earnings payouts represents annualized total return potential of 16.3%.

The company's funded backlog increased 15% to $11 billion, with a book-to-bill ratio of 1.13 during the second quarter. LLL stock currently trades at a discount relative to comparable defense industry peers. L-3's free cash flow is expected to be at least $1.2 billion for the full-year 2008. In the first half of 2008, the company repurchased $500 million worth of its stock.

Brasil Telecom Still Attractive

We are keeping our current Buy recommendation on Brasil Telecom (BRP). The company posted better-than-expected results in the second quarter of 2008, and the short-term outlook remains positive. The company also has solid cash flow, decent operating margins in the wireline business, and an attractive valuation.

Additionally, the growth in the wireless and the broadband segments are encouraging and should continue in future quarters. Moreover, the merger with Telemar and the voluntary public tender offer creates a positive environment for the stock in the very short term. Finally with the creation of a subsidiary in Colombia recently, the merged company is planning for international expansion as well.

BRP is trading at 7.8x our 2008 EPS estimate, a huge discount to the industry mean and median, and an enterprise value to EBITDA (a more common valuation metric for the telecom industry) of just 2.6x our 2008 estimate. The EV/2008 EBITDA valuation remains well below the industry mean, and is lower than the historical range of 3.0x to 6.0x for most of the wireline Latin American telecom operators.

Additionally, BRP is trading at just 0.7x its price/sales ratio, well below the industry median and also below other Latin American telecom operators. We think the stock is trading at a highly attractive valuation.