jp morgan emea 2010

Europe Equity Research 07 December 2009

EMEA Year Ahead 2010

Staying the course: Top Picks for the next leg of the recovery

Mislav Matejka, CFAAC

(44-20) 7325-5242 [email protected]

J.P. Morgan Securities Ltd.

See page 209 for analyst certification and important disclosures, including non-US analyst disclosures. J.P. Morgan does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision.

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Mislav Matejka, CFA (44-20) 7325-5242 [email protected]

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Investment Summary Given that developed world equity markets have rebounded almost 60% over the past few quarters, it might be tempting to project lackluster equity performance for 2010. After all, the pushbacks remain numerous. The equity valuation cushion has eroded with stocks trading at mid-cycle multiples, analyst EPS growth expectations appear punchy at face value, the consumer backdrop remains challenging, credit crunch aftershocks linger, there is likelihood of EM policy normalization ahead of the DM and the possibility of a more dramatic bond sell-off, capping equity performance, along the lines of the 1994 experience.

Despite this, we believe equities will deliver significant further gains in 2010, and look for 20% upside. We find investors to be skeptical regarding the durability of the unfolding economic recovery, but our view is that it will have legs, with an improvement in labour markets confirming its sustainability. In addition, the stabilization in the credit markets, signs of house prices troughing, steep yield curve and the rebound in corporate profitability are the positives.

The consensus European EPS growth expectations for the next two years call for 40-50% cumulative growth, which we think is achievable looking at the patterns of past rebounds and the relatively high profit margins at the trough. Equity valuations have recovered back to long-term averages, but we think there is a potential for further multiple expansion if the positive growth–inflation tradeoff prevails, where developed world central banks remain accommodative for longer, and inflation remains subdued.

In terms of trajectory, we think the 1st half of the year offers the better risk-reward, while the interest rate uncertainty might start hurting equity performance in the 2nd half.

Last December we advocated a rotation into Cyclicals out of Defensives, with top pick Basic Resources (see YA 2009). We continue to expect the outperformance of Cyclicals in 2010, but to a much lower extent than over the past few quarters. We believe relative earnings momentum will again become an important driver of performance, as well as the outlook on pricing margins, spreads between output prices and input costs. In addition, we think the yield compression theme will favour selected high yielding parts of the market. We prefer continental to UK stocks.

The Year Ahead process The goal of this document is to present our key strategy themes for 2010 using our analysts’ most and least favoured stocks.

The process started with the Strategy Team briefing analysts on the key themes for 2010 and macro-economic forecasts. Working within this established framework, analysts then presented their top picks and stocks to avoid to their sector heads.

The sector heads then filtered out key long and short ideas, which were presented to the Strategy Team. These stock ideas form the heart of this report.

JPM index target forecasts Target Current* % MSCI Europe 1300 1085 20% MSCI EMU 185 153 21% FTSE 100 6150 5246 17%

Source: Datastream, JPMorgan; Equity targets are based on 2011 EPS integer, and forecasted end 2010 12M forward P/E multiple * as at 27/11/2009

Risk-Reward remains positive for stocks

Expect 20% EPS growth in 2010 and 15% in 2011

Potential for further P/E re-rating

Yield compression to support rotation into equities in 2010

Cyclicals outperformance to continue, albeit smaller than in ’09

77 Analysts

11 Macro teams

22 Sector teams

https://mm.jpmorgan.com/servlet/PubServlet?skey=R1BTLTI0ODM3Mi0wLDExMSxBTkxZVFJTX01PUkUA&Name=GPS-248372-0.pdf

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Table of Contents Investment Summary ...............................................................3 The Year Ahead process..........................................................3 Top Picks and Stocks to Avoid ...............................................6 Equity Strategy Outlook...........................................................8 Staying the course – Remain OW equities...................................................................8 Pan-European Small/Mid-Cap Strategy Outlook..................18 Higher highs near term with stockpicking taking over the macro..............................18 Quantitative Strategy Outlook...............................................25 2009: the Value year ..................................................................................................25 CEEMEA Strategy Outlook ....................................................35 Economic Outlook..................................................................38 A recovery, but only a slow return to normality ........................................................38 Global Commodities Strategy Outlook.................................42 Rates Outlook .........................................................................44 2010: carry is the name of the game ..........................................................................44 European Equity Derivatives Strategy Outlook ...................46 Credit Strategy Outlook .........................................................49 Adapting to Change ...................................................................................................49 Global FX Outlook ..................................................................51 2010: New year, new lows.........................................................................................51 European Accounting Outlook..............................................60 Crunch time for convergence of standards.................................................................60

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Sector Overviews ...................................................................63 Autos .....................................................................................64 Banks ....................................................................................65 Beverages .............................................................................66 Building Materials ................................................................67 Capital Goods .......................................................................68 Chemicals .............................................................................69 Communications Equipment...............................................70 Food & Food Manufacture ...................................................71 Food Retailing ......................................................................72 Home and Personal Care .....................................................73 Insurance ..............................................................................74 Luxury & Sporting Goods....................................................75 Media .....................................................................................76 Oil Services & Equipment....................................................77 Pharmaceuticals...................................................................78 Property.................................................................................79 Semiconductors ...................................................................80 Steel.......................................................................................81 Telecom Services .................................................................82 Tobacco.................................................................................83 Transport and Logistics.......................................................84 Utilities ..................................................................................85

Top Picks ................................................................................87 Stocks to Avoid ....................................................................143 Strategy Dashboard .............................................................191

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Top Picks and Stocks to Avoid We list the top picks and stocks to avoid as chosen by J.P. Morgan’s sector heads for Europe.

Table 1: Top picks by sector heads Mkt cap P/E (x) EPS (lc) Div yield ROE Name Price Currency Rating Bn (lc) 09E 10E 09E 10E 09E % 09E % Autos Daimler AG 33.78 € OW 34.7 NM 25.5 -1.63 1.33 1.8 -4.7 Banks BBVA 12.5 € OW 47.0 8.7 9.4 1.44 1.33 3.5 26.4 HSBC 7.1 £ OW €124.1 14.2 10.0 0.50 0.71 3.6 12.7 Société Générale 46.5 € OW 34.4 53.2 11.6 0.87 4.00 3.0 10.2 UniCredito 2.3 € OW 38.2 22.2 11.8 0.10 0.19 3.8 10.4 Beverages Anheuser Busch InBev 33.2 EUR OW $80.61 19.9 13.6 2.50 3.66 0.9 N/A Building Materials Saint-Gobain 36.23 € OW 28.0 32.9 16.4 1.16 2.31 2.6 3.0 Capital Goods SKF 115.5 SEK OW 52.6 29.8 14.8 3.87 7.83 2.6 16.5 Chemicals Syngenta 266.4 CHF OW 26.2 15.1 13.2 17.5 20.2 2.9 18.3 Communications Equipment Alcatel-Lucent 2.25 € OW 5.1 NM 23.0 -0.04 0.10 0.0 1.0 Food & Food Manufacture Danone 40.00 Euro OW 24.5 17.1 15.3 2.34 2.61 1.4 11.1 Food Retailing Carrefour 32.32 Eur OW 22.7 16.3 14.2 1.98 2.30 3.4 10.1 Home and Personal Care Unilever NV €20.41 € OW 60.7 16.5 15.3 1.23 1.34 3.8 28.0 Insurance Swiss Re 47.8 SF OW 17.7 105.0 7.4 0.46 6.42 1.0 0.8 Fortis 2.8 € OW 6.6 6.9 16.1 0.41 0.17 0.0 13.4 Luxury & Sporting Goods LVMH 69.76 € OW 33.4 18.5 16.3 3.77 4.28 2 13 Media JCDecaux 15.15 € OW 3.35 170.8 37.8 0.09 0.40 5.1 2.3 Oil Services & Equipment Wood Group 307.8 p OW 1.62 12.7 13.6 $0.39 $0.36 2.1 15.4 Pharmaceuticals Roche 164.38 SFr OW 141 13.9 12.7 11.80 12.97 3.6 27 Ipsen 36.38 € OW 3 19.3 18.4 1.63 1.73 2.0 15 Property Big Yellow 370 p OW £483m NM NM 11.9* 11.3 0 2.7 Semiconductors ASML €20.55 EUR OW 8.9 NM 14.8 -0.36 1.39 1 -9.0 Steel ArcelorMittal €25.95 € OW 40.6 NM 11.1 -$0.70 $3.40 1.9 -0.7 Telecom Services KPN 11.83 € OW 19.1 8.8 7.8 0.91 1.11 5.8 7.7 Tobacco BAT 1847 GBP OW $60.4 11.6 10.6 153.2 168.0 5.4 38 Transport & Logistics Deutsche Post 12.5 EUR OW 15.1 14.5 10.3 0.86 1.21 4.8 7.5 Utilities Iberdrola Renov. 3.195 € OW 13.5 34.2 26.7 0.09 0.12 1.0 1.5 Source: Bloomberg, MSCI, J.P. Morgan estimates, Prices and Valuations as of November 30, 2009. * reported

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Table 2: Stocks to avoid as chosen by sector heads Mkt cap P/E (x) EPS (lc) Div yield ROE Name Price Currency Rating Bn (lc) 09E 10E 09E 10E 09E % 09E % Autos Fiat S.p.A 9.83 € N 10.4 NM 22.4 -0.02 0.44 0.0 -5.2 Banks Nordea 72.3 Skr UW €27.8 11.4 14.8 0.61 0.47 3.1 9.4 RBS 33.2 £ UW €32.6 NM NM -3.09 -2.58 0.0 -12.8 Beverages Diageo 1025 £p N $35.20 14.3 13.5 71.52* 72.28 3.6 N/A Building Materials Italcementi 8.91 € UW 3.1 20.1 26.7 0.44 0.33 1.0 7.4 Capital Goods Husqvarna 48.6 SEK UW 27.9 25.8 19.5 1.88 2.50 2.0 17.5 Chemicals Clariant 10.6 CHF UW 2.4 16.8 11.4 0.63 0.93 0.0 4.5 Communications Equipment Ericsson 66.90 SEK UW 213 19.8 14.0 3.38 4.79 2.8 7.8 Food & Food Manufacture Barry Callebaut 658 CHF UW 3.40 15.0 14.8 43.85 44.34 1.9 15.7 Food Retailing Sainsbury 321.9 GBP N 5.9 13.4 12.2 23.33 25.52 2.7 9.1 Home and Personal Care Oriflame SKr 411 € UW 2.15 23.5 18.9 1.67 2.07 2.7 54.4 Insurance Unipol 0.91 € UW 1.9 45.4 13.0 0.02 0.07 1.1 1.1 Luxury & Sporting Goods Hermès International 94.85 € UW 10.1 35.8 31.2 2.65 3.04 1 25 Media Lagardère 28.37 € UW 3.75 8.5 8.3 3.33 3.44 0.0 7.1 Oil Services & Equipment Acergy 83.55 Nkr UW 16.3 17.3 26.0 $0.85 $0.57 1.6 15.0 Pharmaceuticals AstraZeneca 27.17 £ UW 39 6.7 6.8 $6.44 $6.39 5.8 45 Property IVG 6.2 € UW €724m NM NM -0.61 -0.60 0 0 Semiconductors STMicroelectronics €5.39 USD N €4.7 NM 20.9 -0.78 0.39 2 -9.4 Steel Acerinox €13.79 € UW 3.5 NM 20.7 -0.92 0.67 3.3 -13.8 Telecom Services Telecom Italia 1.07 € N 18.8 10.3 8.7 0.10 0.12 4.7 7.2 Tobacco Swedish Match 150 SEK UW $5.3 15.3 13.5 9.80 11.12 3.1 70 Transport & Logistics Panalpina 64.2 CHF N 1.6 19.4 22.3 3.32 2.88 0.8 5.0 Utilities Drax 410.4 GBP p UW 1.5 7.8 5.9 50.91 66.84 3.6 8.1 Source: Bloomberg, MSCI, J.P. Morgan estimates, Prices and Valuations as of November 30, 2009. *reported.

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Equity Strategy Outlook Mislav Matejka, CFA AC (44-20) 7325-5242 [email protected]

Emmanuel Cau, CFA (44-20) 7325-1684 [email protected]


Staying the course – Remain OW equities With developed equity markets rebounding almost 60% over the past few quarters it might be tempting to project lacklustre equity performance for 2010, perhaps something along the lines of 1994, or 2004.

After all, equity valuations are back to historical averages, consensus EPS growth expectations for ’10 and ’11 at face value appear punchy, consumer backdrop remains poor, the withdrawal of a number of policy stimuli in 2010 will be a drag, the aftershocks of credit crunch linger and there is risk of a significant move up in bond yields, perhaps even a violent one, to name just a few potential negatives.

We find the majority of clients we speak to are highly skeptical of the sustainability of economic rebound. They see most of this year’s stabilization in activity to be artificial in nature and are struggling to find the driver of the next leg of recovery, beyond restocking.

While cognizant of the above highlighted headwinds, we believe markets will extend their ’09 gains over the course of the next year, and we are looking for 20% upside.

JPM forecasts real GDP growth to be above trend in 2010 in most parts of the world. We believe a clear turn in labour markets might be a catalyst to persuade investors to step in.

What will the drivers of the upside be? We think both the robust EPS growth as well as some further multiple expansion could support equity performance next year.

European consensus EPS growth forecasts for the next 2 years project 40-50% cumulative growth. We think these numbers are achievable, looking at the patterns of the past recoveries. Also, margins are troughing at a relatively high level due to a strong cost cutting drive, so the operational leverage to any kind of topline pickup could be substantial.

On a number of valuation metrics equities are back to long-term averages, but there is a potential for rerating above mid-cycle multiples. The catalysts for this could be the pickup in growth without the accompanying move up in inflation, and without a change in central bank stance. Equity yield still appears attractive vs other asset classes, and asset allocators’ drive for yield compression could underpin further rerating.

Figure 1: MSCI Europe in 2009

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MSCI Europe Source: Datastream, MSCI

Trajectory for 2010? Having been bullish on stocks this year, we took risk off the table on 1st Oct, looking for a consolidation, broadening and a rangebound market over the past few months.

We are closing this tactical “de-risking” call now and believe the market is ready to break out of the recent trading range and make new highs in this upcycle over the next 6-9 months. The near term catalysts are strong earnings reporting season, positive payrolls, rebound in leading indicators and increasing risk allocation into new year.

Following the potentially strong 1H, we think increased interest rate volatility might weigh on stocks in the 2nd half of 2010.

J.P. Morgan base case – economic recovery has legs

The macro data flow remains mixed, but our economists believe the foundations for the next leg of economic recovery are in place, and forecast most regions to deliver relatively high rates of growth in 2010.

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Table 3: J.P. Morgan Real GDP growth expectations %q/q, saar % oya 09Q4 10Q1 10Q2 10Q3 10Q4 2009 2010US 3.5 3.0 4.0 4.0 3.5 -2.5 3.2Eurozone 2.5 3.0 3.0 3.0 2.5 -3.9 2.5UK 2.0 2.0 2.5 2.8 3.5 -4.6 1.6Japan 2.5 2.5 1.5 1.5 2.0 -5.2 2.4China 9.1 9.0 9.5 9.3 8.7 8.6 9.5 Global 3.4 3.4 3.6 3.7 3.4 -2.5 3.3DM 2.9 2.8 3.1 3.2 3.0 -3.4 2.7EM 5.3 5.6 5.3 5.7 5.0 0.7 5.8Source: J.P. Morgan forecasts, as at 13/11/2009

The US real GDP growth is expected to be 3.2% in 2010, vs the Blue Chip consensus forecast of 2.7%, and Eurozone 2.5% vs 1.2% respectively. EM are projected to deliver robust rates of growth as well, at 5.8% in 2010.

Table 4: US and Euro area GDP growth breakdown %q/q, saar 09Q4 10Q1 10Q2 10Q3 10Q4 US Fixed Investment 1.8 4.1 4.8 7.8 8.4 Private Consumption 1.7 1.5 2.5 2.5 3.0 Net Trade* -0.2 0.1 0.1 0.2 0.1 Inventories* 1.8 1.1 1.3 1.0 0.3 Euro Area Fixed Investment 3.0 4.0 4.0 4.0 4.0 Private Consumption 1.0 1.5 1.5 2.0 2.0 Net Trade* 0.4 0.3 0.3 0.3 0.3 Inventories* 0.4 0.7 0.7 0.4 -0.1 Source: J.P. Morgan estimates, *contribution

Decomposing the overall growth rate, JPM forecast is that both the rebound in corporate spend as well as some pickup in consumer will contribute to growth, in addition to the inventory tailwind.

The investors are doubtful about the ability of these two areas to drive final demand, seeing consumers to be in continued deleveraging mode and not finding a need for capex rebound.

Labour market at the inflection point

Starting with the consumer, we think that the key catalyst which will change the cautious investor outlook is better labour market data.

In particular, US payrolls, the key sentiment setter, should move into positive territory early next year. We see 5 reasons for this:

Figure 2: US temporary jobs vs payrolls

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First, historically the increase in temporary hiring would call for a more benign payroll outlook going forward.

Figure 3: Global manufacturing employment vs IP

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Source: J.P. Morgan, H2 forecasts in dots

In addition, the move down in jobless claims, the pickup in the employment part of ISM, stabilisation in corporate profitability and the surge in productivity all suggest labour markets will start to turn positive in the not too distant future.

Don’t bet against Capex rebound

Figure 4: Capex as a share of GDP

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US Priv ate fix ed inv estment % of GDP Eurozone Nominal gross fix ed inv estment % of GDP (rhs) Source: Eurostat, BEA

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With regard to capex, the key pushback lies with the very low utilisation rates. The consensus view is that there is no need for new capex with all the spare capacity in the system, and because corporates have a low visibility of final demand.

However, we point out that the actual capex spend as a share of GDP is also at a record low, and the extreme readings of both the utilization rates and capex spend are just the reflection of the current stage of the cycle => the trough.

Figure 5: Lending standards vs non-residential capex -40

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US tightening in lending standards (adv 3q, rs) US non residential capex (%y oy , rhs) Source: Datastream, Federal Reserve

The key drivers of capex, bank lending standards, corporate profitability and the momentum in utilization rates are all suggesting an improvement ahead.

Already a number of corporates, among other Cisco, Rio Tinto and TSMC are indicating rising capex budgets.

Figure 6: Estimated contribution of fiscal policy to US GDP growth

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One of the drags to the growth recovery next year will clearly be the reversal of fiscal support, but our economists expect this effect to be initially gradual, and the largest impact not to start before Q1 2011.

Conditions in place for the upcycle

Thinking back to the beginning of this year, most investors identified two conditions that needed to be met in order to turn more positive: 1) credit stabilization, 2) house prices troughing. Both of these are tracking.

Table 5: Selected credit indicators, current vs peak levels

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change

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level of

TED spread 464 22 -442 Feb-07 3m Libor-OIS spread 366 12 -354 Jul-07 30-year Mortgage rate 6.63% 4.78% -185 Apr-09 US High grade spread 558 160 -398 Nov-07 US high yield spread 1929 748 -1181 Jul-08 European high grade spread 326 109 -218 Dec-07 European high yield spread 1727 498 -1228 Jul-08 US Credit Cards Fixed AAA ABS* 575 45 -530 Dec-07 US Auto (Prime) Fixed AAA ABS* 625 55 -570 Nov-07 CMBX NA.5 AAA Mid-Spread 848 359 -489 Nov-08 iTraxx Europe 5Y Crossover 1153 512 -641 Jun-08 Source: Datastream, J.P. Morgan, Bloomberg, *3-year spread to swap

The liquidity in credit markets is being steadily restored with most credit spreads back to the levels of 2007. These levels were consistent with much higher equity values than current. We acknowledge that confidence remains fragile, and aftershocks from credit crisis could shortcircuit the improvement we witnessed to date, but this should not be seen as a base case.

Figure 7: US and UK house prices

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S&P/Case-Shiller Home Price Index - 10-city , sa (%3mom, saar)

UK Nationw ide house price index , sa (%3mom, saar) Source: S&P/Case-Shiller, Nationwide

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The aggressive policy stimulus is producing the desired effect, driving asset reflation. The house prices in key markets appear to be stabilizing. While the volume of transactions remains low, the key impact from house price stabilization is on the consumer sentiment, and on the balance sheets. One way to deleverage in relative terms is for the asset prices to move up, which leaves debt levels appearing manageable.

Drivers of the upside – Corporate profits to grow 20% in 2010 and 15% in 2011

Table 6: Consensus EPS growth estimates for MSCI US, UK and Eurozone EPS %yoy 2010/09e 2011/10e US 21.5% 19.0% UK 20.0% 20.0% Eurozone 24.3% 21.1% Source: IBES

The consensus is already projecting relatively punchy EPS growth rates for the next two years, for Europe at 24% and 20% in 2010 and 2011 respectively. Our own forecasts are somewhat lower than these, but earnings delivery should continue to be seen as a source of support for the markets next year.

Table 7: 2011e Consensus EPS estimates vs peak level of 2007, MSCI indices

2007 EPS 2011e EPS 11e vs '07 US ($) 75 85 13% UK (£) 174 155 -11% Eurozone (€) 18 16 -12% Source: IBES

We put forward 3 reasons why strong EPS growth rates over the next 2 years should be expected. First, the growth rates are elevated partly because of base effects from ’09 lows. The level of European earnings that consensus is projecting for 2011 is still expected to be below previous peaks.

Figure 8: S&P500 EPS fall and rebound around past recessions

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Second, analyzing the past earnings cycles, the size of the eventual EPS rebound tended to be positively correlated with the size of the initial EPS fall.

Figure 9: MSCI Europe EPS fall and rebound around past recessions

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In the two charts above we plotted the US and European EPS movements in the past cycles. On the horizontal axis we put the magnitude of EPS fall from peak to trough in the past downturns, while on the vertical axis we have the corresponding size of the EPS rebound in the first two years of recovery. Adding the current (2009) consensus projections to the chart shows that these forecasts are not inconsistent with historical patterns.

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Figure 10: Europe EBIT margins

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Europe ex -Financials EBIT/Sales Source: Datastream, MSCI, IBES, bottom-up aggregated

Third, one should expect relatively robust EPS rebound due to the high operational leverage that companies possess. They have aggressively cut costs in this downturn, with margins stabilizing at much higher levels than last time around. Any potential rebound in top line could lead to significant EPS growth delivery.

Figure 11: Eurozone EPS growth vs J.P. Morgan model forecast

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EMU trailing earnings (%y oy ) Earnings model forecast (%y oy ) Source: Datastream

Our model for earnings which uses global activity proxy, margin proxy and currency impact is projecting 20% EPS growth in 2010 and 15% in 2011. The headwind from further Euro strength is shaving off some of the EPS growth.

Drivers of further P/E rerating

Figure 12: MSCI Europe 12m Fwd P/E

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MSCI Europe 12m Fw d P/E median Source: IBES

European equities have already rerated from 8x forward P/E at the low to 13x currently, to trade in line with historical averages. The question is whether they will stop there, or overshoot.

Figure 13: European dividend yield gap

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Source: Datastream, MSCI

Looking at the equity dividend yield vs government bond yield, equities still appear attractive. Despite the rally over the past few quarters, the yield gap is as positive as it was at any point since March 2003.

We acknowledge that this type of comparison is theoretically flawed, and the Japanese experience in 90-ies is an example of a market where low bond yields did not drive sustainable P/E expansion.

However, we think there is a potential for equities to overshoot their historical average valuation multiples next year, in the same way that they undershoot them in 2009. The catalyst for this would be the favourable growth – inflation/rates tradeoff.

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Figure 14: US headline CPI vs oil price

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JPM view is that the inflation will remain subdued for a long time. True, we think there will be some pickup in headline CPI in the 1H of 2010, to a range of 2-3% yoy rate due to WTI base effects, but beyond this, we do not expect any inflationary pressure. Inflation is a lagging indicator of growth, and lack of pricing power, weak labour markets, weak credit generation, dramatic size of output gaps are just some arguments in favour of low core inflation rates.

If this forecast materializes, then the case for central banks to remain accommodative for longer could strengthen.

Figure 15: Shape of the US yield curve and recessions

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NBER dated recessions Yield curv e (10y r - Fed funds) Source: Datastream, NBER

With yield curve near record steep, this could drive further yield compression in various asset classes, and facilitate further equity multiple expansion.

Figure 16: European P/E multiple and J.P. Morgan forecast

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Actual Europe 12m fw d P/E (%y oy ) Forecast Europe 12m fw d P/E (%y oy ) Source: Datastream

Our regression model suggests there could be some P/E multiple rerating into next year due to low interest rates and subdued inflation, while Euro strength is a negative.

Market trajectory in 2010

Table 8: Non-farm payrolls at times of first Fed hike

End of recession Payrolls

1st Fed Hike Payrolls

# mths positivepayrolls

Apr-58 -274 Jul-58 125 1 Feb-61 -127 Nov-61 222 7 Nov-70 -110 Jul-71 63 5 Mar-75 -270 Aug-77 238 26 Jul-80 -263 Oct-80 280 3 Nov-82 -124 Mar-84 275 7 Mar-91 -160 Feb-94 201 24 Nov-01 -292 Jun-04 81 10 Average -203 186 10 Median -212 212 7 Source: Datastream

We note that Fed has historically not started normalizing policy stance before 7-10 months of positive payrolls. Assuming payrolls turn positive in Q1 of next year, the earliest the Fed would start withdrawing policy support would be 2H of 2010.

This creates a window of opportunity, a 6-9 month period where the macro data flow should be broadly supportive, with an improvement in labour markets persuading investors that recovery is becoming sustainable, and before there is clear need for liquidity withdrawal by central banks.

14



Figure 17: Standardized S&P500 performance around the 1st hike in the aftermath of recessions

85

87

89

91

93

95

97

99

101

103

105

-12M

-10M -8

M

-6M

-4M

-2M

1st h

ike

+2M

+4M

+6M

+8M

+10

M

+12

M

1st hike Av erage S&P500* Median S&P500*

Source: Datastream, *re-based to 100 on the day before the 1st hike, since 1971

We note that historically equities tended to fall every single time post the start of Fed tightening. However, this would not be a game changer.

Therefore, in terms of trajectory we think 1H could be stronger, with a potential equity weakness discounting the start of Fed rate increases in 2H.

The risks

Clearly, there are significant risks around the base case forecast, given that to some extent we are in unchartered waters, and the aftershocks of the credit crunch are lingering.

Figure 18: S&P500 vs US 10Y bond yield in 1994

5.0

5.5

6.0

6.5

7.0

7.5

8.0

8.5

Jan-93 Jul-93 Jan-94 Jul-94 Jan-95 Jul-95

400

450

500

550

600

650

US 10y Bdy S&P500 (rhs) Source: Datastream

Perhaps our outlook on G4 central banks remaining accommodative for longer is too benign. There is a risk of significant bond market sell-off, along the lines of 1994, which could hurt equity performance.

Figure 19: MSCI China and European Metals & Mining performance in May 2006

31

32

33

34

35

36

37

38

39

40

Mar-06 Apr-06 May -06 Jun-06 Jul-06 Aug-06

0.22

0.23

0.24

0.25

0.26

0.27

0.28

MSCI China Metals & Mining rel to Europe (rhs)

MSCI China dow n 20%Met&Mining dow n 23%, 13% v s MSCI Europe

Source: Datastream, MSCI

In addition, the EM central banks could start hiking ahead of DM to tackle perceived asset bubbles, hurting the market sentiment, similar to the summer of ’06.

But the key risk in our view is to do with growth, a double dip, where the consumer remains in de-leveraging mode. If there is no topline growth next year, margins will fall further and equities could crash again.

Scenario analysis

Table 9: Base Case, Upside and Downside Scenario Prob. Mkt.prf Assumptions

Strong growth recovery without policy tightening. Earnings surprise on the upside.

30% 40% Equities rerate significantly. Upsid

e “G

oldi

lock

s”

Cyclical and Financial sectors continue to outperform strongly.

Recovery proves sustainable, markets start to discount hikes in 2H.

50% 20% Earnings grow 20% at market level. Modest multiple expansion. Ba

se ca

se

“Rec

over

y co

ntin

uing

”

Beta outperforms, but marginally.

Final demand rebound fails to follow restocking.

20% -40% World falls into deflationary trap, consumers undergo a significant and protracted process of balance sheet repair. Do

wnsid

e “D

oubl

e- d

ip”

Cash is king, only the defensive sectors outperform, but even they fall significantly in absolute terms.

Source: J.P. Morgan

15



Positioning and themes 1. OW Europe vs. US …

Table 10: Regional Sector Neutral valuations Sector Neutral 12m fwd

P/E Premium / Discount P/E

Premium / Discount

LT avg discount

US 14.9 Europe 12.7 -14.7% 13.3 -10.9% -6.1% EMU 12.4 -16.6% 13.1 -12.0% -4.5% UK 12.5 -16.3% 13.2 -11.4% -11.0% Japan 19.7 31.8% 21.3 42.6% 39.3% Source: Datastream, IBES, J.P. Morgan

We find European equities attractively valued vs their US counterparts, while at the same time European profit margins have closed the gap with the US.

Investors are skeptical, they see Europe as the “last in - last out”, but European corporates are as leveraged to global growth recovery as US ones. In addition, our economists project larger growth surprise in Eurozone vs the consensus, than in the US, at 1.3%, vs 0.6%.

… and Germany within Europe

Figure 20: Dax vs Europe, since March '09 and March '03

95

100

105

110

115

120

125

130

trough +1m +2m +3m +4m +5m +6m +7m +8m +9m +10m +11m +12m

Dax rel to Europe in 2003 Dax rel to Europe in 2009

Source: Datastream, re-based to 100 on 12 March '03 and 09 March '09

German equities have performed only in line with the rest of Europe this year, despite Germany being joint largest global exporter, neck to neck with China at 1.7trn USD exports. In 2003 German stocks were significant outperformers, and we think at some point in the current recovery they should outperform again.

2. OW Cyclicals vs Defensives, but expect much smaller outperformance than in 2009

We think Cyclicals will continue to outperform Defensives in 2010, but the likely size of their outperformance will be much smaller, because of 2 issues among others.

Figure 21: Cyclicals relative to Defensives vs ISM

-30%

-20%

-10%

0%

10%

20%

30%

96 97 98 99 00 01 02 03 04 05 06 07 08 09

-50%

-40%

-30%

-20%

-10%

0%

10%

20%

30%

40%

50%

Europe Cy clicals rel to Defensiv es (%6mom) ISM (%6mom, rhs) Source: Datastream, J.P. Morgan

As the relationship above shows, the relative performance of Cyclical and Defensive sectors is correlated to macro momentum. The bulk of the acceleration in macro momentum has happened, which means a less significant relative outperformance of Cyclicals vs Defensives going forward.

Figure 22: Relative P/E - Cyclicals vs Defensives

0.6

0.7

0.8

0.9

1.0

1.1

1.2

1.3

1.4

1.5

95 96 97 98 99 00 01 02 03 04 05 06 07 08 09

Europe Cy clicals 12m Fw d P/E rel to Defensiv es av erage +1stdev -1stdev Source: Datastream, IBES, J.P. Morgan

Second, Cyclicals could derate vs Defensives, from current stretched relative multiples. If our 2010 economic outlook proves to be correct, the earnings of Cyclical sectors will significantly beat Defensive earnings, but we also think that they will undergo relative P/E derating, capping the size of their outperformance.

16



3. Relative EPS momentum to work in 2010

Table 11: European sectors relative EPS momentum and performance

% time rel perf and rel EPS momentum

are positively correlated 2010e rel EPS

%yoy Energy 87% 8% Healthcare 80% -17% Staples 73% -13% Financials 67% 11% Utilities 67% -21% Telecoms 60% -18% Materials 53% 20% Discretionary 53% 52% IT 47% 34% Industrials 40% -5% Source: Datastream, MSCI, IBES, * since 1995

Three European level 1 sectors have historically exhibited a strong correlation between their relative performance and relative EPS momentum: Energy, Pharma and Staples.

Energy stocks tended to outperform the market when their EPS growth was stronger than the market and vice versa 87% of the time, Pharma 80% and Staples 73%.

Next year Energy earnings are likely to deliver stronger growth than the broader market, supporting OW on the sector. For Staples and Pharma, it is the opposite.

4. Pricing margin squeeze

Figure 23: Euro-area Food CPI - PPI differential

-6%

-4%

-2%

0%

2%

4%

6%

8%

96 97 98 99 00 01 02 03 04 05 06 07 08 09

Eurozone Food CPI - PPI (%y oy )

Source: Eurostat

A number of sectors benefited this year from a collapse in input costs, while at the same time their pricing remained relatively robust, lagging the downturn in volumes. This created a positive pricing effect on margins.

We think this tailwind will reverse next year, where input cost pressure will reappear, but corporates will be unable to pass it on due to significant spare capacity. Sectors such as Chemicals and Food producers might be at a disadvantage here.

5. Yield compression

Table 12: Dividend vs corporate bond yield (%)

Dividend

yield High grade

yield Difference LT

average Utilities 6.0 3.8 2.2 -1.0 Telecom 5.7 3.7 1.9 -2.1 Energy 5.1 3.8 1.3 -1.7 Real Estate 4.7 4.0 0.7 -2.0 Chemicals 3.4 3.1 0.3 -1.7 Staples 2.9 3.4 -0.6 -2.3 Capital Goods 3.0 3.9 -0.9 -2.1 Transport 2.7 3.9 -1.2 -2.1 Technology 2.5 4.0 -1.5 -3.5 Autos 1.5 3.1 -1.6 -1.7 Building Materials 2.1 3.9 -1.9 -2.3 Source: Datastream, J.P. Morgan

We believe a theme for 2010 will be the asset allocation switch into equities, following the initial move out of cash, first into bonds and then into credit. The yield compression might drive the better performance from some selected high yielding parts of the market, see our report “Search for yield could drive further P/E rerating in 2010”, dated 11 November 2009 for more details on this.

6. Return of M&A

Figure 24: M&A volumes and equity performance

-100%

-50%

0%

50%

100%

150%

200%

91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09

-50%

-40%

-30%

-20%

-10%

0%

10%

20%

30%

40%

50%

European Deal Value ($m) %y oy 6mma MSCI Europe %y oy 6mma (rhs) Source: Datastream, Dealogic

https://mm.jpmorgan.com/servlet/PubServlet?skey=R1BTLTM0MzkzMi0wLDExMSxBTkxZVFJTX01PUkUA&Name=GPS-343932-0.pdf

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17



Corporate balance sheets are in a relatively good condition and profit margins are stabilizing at high levels. With reopening of credit markets, we believe it is reasonable to expect the pickup in M&A volumes. As the chart above shows, the key driver of M&A activity, after all, is the improvement in equity market itself.

7. “Quality” to perform in 2010

Table 13: Factors that have worked for outperformers* in 2Q, 3Q and 4Q 09 to date 4Q09 to date

Quintile Rel PerfMV

weight

Peak totrough rel perf

ND/Equity %ch EPS RoE P/E P/Book Div Yield

Q1 10% 24% 1% 0.3 7% 13% 14.4 1.9 2.8%Q2 3% 27% 3% 0.5 3% 14% 14.1 2.0 3.1%Q3 -3% 23% 4% 0.6 3% 13% 13.2 1.9 3.2%Q4 -7% 16% 6% 0.5 1% 12% 14.1 1.5 3.4%Q5 -14% 9% -1% 0.3 0% 9% 13.1 1.2 2.3%

3Q09

Quintile Rel PerfMV

weight



Q1 22% 14% -7% 0.4 2% 8% 10.9 0.9 3.0%Q2 7% 17% 0% 0.3 1% 10% 12.1 1.2 3.1%Q3 0% 22% 3% 0.7 3% 13% 12.6 1.7 3.5%Q4 -7% 24% 8% 0.5 0% 14% 12.8 1.9 3.6%Q5 -17% 22% 13% 0.4 -3% 16% 11.8 1.8 4.0%

2Q09

Quintile Rel PerfMV

weight



Q1 34% 13% -8% 0.5 -9% 9% 7.1 0.6 4.5%Q2 14% 13% -2% 0.3 -4% 11% 9.8 1.0 4.2%Q3 4% 24% 4% 0.6 -4% 14% 10.6 1.5 4.4%Q4 -4% 22% 8% 0.4 -2% 14% 10.1 1.5 4.4%Q5 -13% 29% 11% 0.4 0% 14% 10.5 1.4 5.1% Source: J.P. Morgan, MSCI, 12m Fwd IBES estimates, *Q1 is the top quintile which includes the top 20% performing stock during the quarter

In 2009 our focus was on the beta, Value and the biggest fallers in the downturn. While “low quality” was the outperformer this year, into 2010 we think that the drivers of stock selection will become positive EPS momentum, higher ROE, Growth, etc.

The table above breaks the European stocks in 5 groups, with Q1 being the best performers in the quarter, and Q5 the worst. During the second and third quarter, the best performing stocks (Q1) were small caps, low ROE, Value, biggest fallers in downturn, and the ones with the most negative EPS momentum.

This is starting to change in the 4th quarter, where larger caps, Growth, higher ROE and positive EPS momentum are outperforming.

8. Own selected DM growth exposure, don’t focus just on EM growth

Bullishness on EM vs DM is widespread. We feel a greater positive surprise will be Eurozone growing 2% next year, rather than China 10%.

EM have significantly outperformed DM over the past year, and their valuations have rerated.

Table 14: Central Bank rates outlook for key developed and emerging countries Forecast

Current Dec

09 Mar

10 Jun

10 Sep

10 Dec

10 Developed US 0.125 0.125 0.125 0.125 0.125 0.125 Euro Area 1.00 1.00 1.00 1.00 1.00 1.00 UK 0.50 0.50 0.50 0.50 0.75 1.00 Japan 0.10 0.10 0.10 0.10 0.10 0.10 Emerging Brazil 8.75 8.75 9.75 10.75 10.75 10.75 Chile 0.50 0.50 0.50 1.00 2.00 3.50 China 5.31 5.31 5.31 5.31 5.58 5.85 India 4.75 4.75 5.00 5.25 5.25 5.25 Korea 2.00 2.00 2.25 2.50 2.75 3.00 Turkey 6.50 6.50 6.50 6.50 7.50 8.00 Poland 3.50 3.50 3.50 3.50 4.00 4.50 Czech Republic 1.25 1.25 1.25 1.75 2.50 3.00 Source: J.P. Morgan estimates

In addition, EM central banks are more likely to start normalizing policy rates ahead of DM, potentially negatively impacting the sentiment.

Therefore, while growth will continue to be stronger in EM than in the DM, it is a consensus trade and EM policy tightening could happen ahead of DM. We think it is worthwhile looking for companies exposed to US/Europe demand which are not pricing in much recovery, and not purely searching for EM leverage.

18



Pan-European Small/Mid-Cap Strategy Outlook Higher highs near term with stockpicking taking over the macro The last 3 yrs has put SMid investors to the test. When we turned UW on SMid-Caps back in Jul ’07, we never imagined that the correction that would follow would take the MSCI Small Cap Index down 63% — we found ourselves particularly questioning our UW stance during 2008, a yr in which the index experienced five >10% rallies. In our opinion, it is much easier to maintain conviction at present and we reiterate the OW stance we have maintained since Feb ’09, for even after this 9 mth 67% rally, most signals point to a mkt that will reach higher highs near term:

• The Macro Remains Supportive (most data points still show seasonal improvement, the yield curve is steep and steepening, and interest rates are likely to remain low for most of 2010).

• Fundamentals Are Weak but Improving (IBES calls for 5.7% avg sales grw, 23.6% avg EPS Grw), SMid-Caps have seen 6 consecutive mths of upward upgrades and 3 of upward revisions, and 4Q09 is likely to be a better than expected reporting season).

• Valuations Continue to Strongly Indicate BUY. P/E 09E IBES of 17.5x is a 1.4x discount to its 20-yr avg, despite 09E earnings being cycle trough. P/B valuations of 1.9x imply a 23% discount to the 2.5x hist avg.

• Technicals Suggests Opportunity Still Exists. As a % of pre-recession highs, this is still the second worst sell-off in equities since 1940, and seasonality suggests Jan and Feb have historically been the strongest mths of the yr for SMid-Caps (up 2.9% and 2.6% on avg and 79.2% and 70.8% of the time respectively).

• Buy-side Sentiment Is Another Significant Positive Driver. Expectations of a sustained rally + inflows + 2009 underperformance + more risk appetite (new yr = 12-mth horizon) = Investment.

Below we provide a brief summary of our top down views on European SMid-Caps. In short, we see two areas where ’10 may differ from ’09: a) our belief that the strong half in the equity mkt during ’10 is likely to be 1H10; and b) our belief that ’10 will be a yr where performance will be more driven by stock picking than the macro.

How to position?

• OW SMid (on an absolute return basis)

• N SMid (relative to Large)

• OW Value (vs Grw) (our Halibut Screen — see our SMid Trilogy)

• OW Quality Balance Sheets (our Golden Geese Screen — see our SMid Trilogy)

• OW Cyclicals (vs Defensives)

• Expect stockpicking to take over the macro — two stocks we highlight from our Radar (included in our Monday weekly publication titled “The SMid Week Ahead”): Deutsche Lufthansa (LHA GR/Not Covered/€10.65) and Rhön Klinikum (RHK GR/OW/€16.42).

Small/Mid-Cap Strategy

Eduardo Lecubarri AC (44-20) 7325-1213 [email protected]

Anders Bergman (44-20) 7325-5346 [email protected]


We reiterate the OW stance we have maintained since Feb and believe 1H10 could be strong, driven more by stockpicking than the macro

Figure 25: # of Pan-European SMid-Caps trading at:

1634

1018

367

589

460

0 500 1000 1500 2000

P/3-Yr High<70%

P/3-Yr High<50%

P/3-Yr High<30%

P/B <1x

P/E 09E<10x

Source: Bloomberg, Datastream, Factset and J.P. Morgan Calculations

mailto:[email protected]

https://mm.jpmorgan.com/servlet/UserDocsHelperServlet?action=openpdf&docId=GPS-340797-0




19



The macro remains supportive Most data points still show seasonal improvement. We believe there is a gap between perception and the macro-economic reality today. Perception seems more bearish than the data would suggest. While in recent mths we have started to get some weaker macro economic data points here and there, the majority of them continue to point to seasonal improvements on a mthly basis. In fact, last mth, for every data point that showed a sequential decline, there were 2 that showed improvement (see Figure 9 on Pg 11 of The SMid Trilogy report we published on Nov 6th).

And interest rates help. There is ongoing concern about a macro-economic double-dip taking place in 2010. Such a situation could not only take the equity market down significantly from current levels, but it could potentially bring us all the way back to the financial unrest of early Mar or even worse, as governments no longer have the liquidity needed to help get us out of such a crisis. With this in mind, we find it highly unlikely that governments will choose to raise rates in the absence of a strong economic recovery. In our opinion, there is a strong likelihood that economic grw and inflation will remain anemic during much of 2010, keeping interest rates low (a belief shared by our economics team – see Figure 26 below). This would undoubtedly continue to push the flow of funds from gold and cash into higher yielding asset classes (with equities being the winner).

Figure 26: Interest Rate Forecast — J.P. Morgan's Economics Team

0.125% 0.125% 0.125% 0.125% 0.125%

0.50% 0.50% 0.50%

0.75%

1.00%1.00% 1.00% 1.00% 1.00% 1.00%

0.0%

0.2%

0.4%

0.6%

0.8%

1.0%

1.2%

4Q09 1Q10 2Q10 3Q10 4Q10

JPM

Est

. Bas

e In

tere

st R

ates

US UK Euro

Source: J.P. Morgan

Moreover, and as we see in Figure 27 below, not only the short end, but the overall shape of the yield curve remains highly supportive for equities. Historically, steeper yield curves have coincided with stronger 12-mth fw returns for Pan-European SMid-Caps. At present, the yield curve is not only steep but steepening.

JPM Economists expect rates to remain largely unchanged in 2010 — something that would keep funds flowing into equities


20



Figure 27: Price perf analysis of MSCI Small Cap Europe vs the Yield Curve (10-yr less 5-yr EMU Gov. Bond Index) — 1995-Present MSCI Europe Small-Cap Perf. vs Yield Curve (10-Yr less 5-Yr EMU Bond Index Yield)

Interest Rate Delta between 10-Yr & 5-Yr EMU Bonds (Mthly) Frequency (% of Total Periods) % Periods Up MS CI S C Avg Perf

0.20

0.38

0.56

0.74

0.92

1.10

1.28

1.46

1.64

1.82

1 15 29 43 57 71 85 99 113 127 141

Num ber of m onths (cum ulative)

Yiel

d Cu

rve

(10-

Yr -

5-Yr

EM

U Bo

nds)

Delta betw een 10 Yr & 5 Yr Bond Ylds1 M th agoLatest

21%

20%

57%

14%

69%

70%

92%

94%

73%

0% 50% 100% 150%

% Periods Up

% Periods Up

-13.9%

-19.8%

0.1%

-13.1%

2.6%

11.9%

23.2%

24.1%

23.6%

-40.0% -20.0% 0.0% 20.0% 40.0%

12-m th avg return (%)

12-month return

10%

7%

10%

16%

10%

17%

9%

12%

8%

0% 5% 10% 15% 20%

Frequency

% of Total Periods1.87

1.86

Source: Bloomberg, Factset, Datastream, and J.P. Morgan Calculations

Fundamentals are weak, but improving Fundamentals could be turning the corner in 2010 (although we are still not out of the woods). IBES expectations call for Pan-European SMid-Caps to deliver sales grw of 5.7% on avg next yr, compared to 23.6% avg EPS Grw. While expectations may be starting to be somewhat demanding, we remind investors that 4Q09 EPS estimates remain modest — YoY EPS grw is expected to decline sequentially in 7 of 10 sectors within the S&P 500, something that seems hardly possible given that 4Q08 was dismal. We therefore view 4Q09 expectations as undemanding, and believe that a better than expected reporting season, together with the ongoing reality of upgrades and upward revisions could help to push Pan-European SMid-Caps higher during the first months of the yr.

Figure 28 below shows the % of Pan-European SMid-Caps upgraded vs those downgraded on a mthly basis (while Figure 29 shows those with upward revisions vs downward revisions). As we can see in the charts, November was the 6th mth in a row with more companies upgraded than downgraded, and the 3rd mth in a row, and in more than a yr, with more experiencing upward revisions than downward revisions to their IBES 09E EPS.

Figure 28: % of Companies with Revised IBES Consensus Recommendations — Pan-European SMid-Cap Universe (~2K Stocks)

39.5%

25.9%

37.1%38.1%37.8%34.2%35.0%

30.7%

36.2%

33.8%31.6%

35.7%

28.8%31.6%30.5%

33.0%34.0%

29.0%29.9%

23.3%

29.7%

25.3%

23.6%

24.2%25.0%

23.3%

30.2%24.2%

29.4%

20.2%

29.4% 28.5%31.3%30.5%30.6%

34.9%

27.1%

35.4%

37.5%37.7%37.9%

47.1%

40.0%40.9%42.0%

40.0%38.5%

25.5%

23.5%

19.5%17.7%

22.5%21.9%

27.3%

22.0%21.7%

50.4%

23.0%

18.9%

53.5%

15%

25%

35%

45%

55%

Jun 07 Jul 07 Aug 07 Sep 07 Oct 07 Nov 07 Dec 07 Jan 08 Feb 08 Mar 08 Apr 08 May 08 Jun 08 Jul 08 Aug 08 Sep 08 Oct 08 Nov 08 Dec 08 Jan 09 Feb 09 Mar 09 Apr 09 May 09 Jun 09 Jul 09 Aug 09 Sep 09 Oct 09 Nov 09

% o

f cov

ered

Co'

s upg

rade

d / d

owng

rade

d (IB

ES)

% of Cos Upgraded % of Cos Downgraded


The overall shape of the yld curve is steep and steepening — something that historically related to strong SMid returns

Undemanding 4Q09 expectations and the positive momentum in sell-side revisions and upgrades could help take SMid-Caps higher during the start of 2010

21



Figure 29: % of Companies with Revised IBES Consensus 09E EPS — Pan-European SMid-Cap Universe (~2K Stocks)

27.6%31.3%

41.5%

47.9%43.7%

57.1% 57.3%

70.7%

63.8%

57.4%

33.2%

38.1%38.5%

34.2%29.5%31.4%

30.2%

39.0%34.4%

29.2%24.5%

20.5%17.3%

22.8%20.0%

15.4%19.1%

27.4%

18.6%

27.1%25.8%

27.1%

23.3%24.0%

32.8%30.8%

35.2%

40.4%

36.1%36.6%

40.5%43.5%45.0%41.7%

31.5%26.9%

48.9%

68.8%71.0%72.1%78.1%

64.1%

39.4%

40.0%44.2%

56.7%

49.5%46.5% 44.1%

49.6%

15%

25%

35%

45%

55%

65%

75%

Jun 07 Jul 07 Aug07

Sep 07 Oct 07 Nov 07 Dec 07 Jan 08 Feb 08 Mar 08 Apr 08 May 08 Jun 08 Jul 08 Aug 08 Sep 08 Oct 08 Nov 08 Dec 08 Jan 09 Feb 09 Mar 09 Apr 09 May 09 Jun 09 Jul 09 Aug 09 Sep 09 Oct 09 Nov 09

% o

f Co'

s with

revis

ions

to 09

E EP

S (IB

ES)

% of Cos Revised Up % of Cos Revised Down


Valuations continue to strongly indicate BUY We see valuations as the main driver of further gains among Pan-European SMid-Cap stocks. At present, the SMid universe trades at a P/E 09E IBES of 17.5x, a 1.4x discount to its 20-yr avg, despite 09E earnings being cycle trough. P/B valuations tell a similar story, with a current avg valuation of 1.9x which implies a 23% discount to the 2.5x hist avg (see Figure 30 below).

Figure 30: Pan-European Equity Valuations 20-Yr Avg July 13th, 2007 Current

20-Yr Avg Abs

Rel to20-Yr

Avg Abs

Rel to20-Yr

AvgValuation (SMid-Caps) EV/ Sales LTM 1.35x 2.15x 0.79x 1.20x -0.02x P/E LTM 18.87x 25.32x 6.45x 17.50x -1.37x P/E Yr+1 15.41x 20.08x 4.67x 14.80x -0.61x PEG (P/E LTM / Yr+1 Grw) 1.13x 1.82x 0.68x 1.16x 0.03x P/BV 2.47x 2.88x 0.41x 1.91x -0.56x

Valuation (Large-Caps) EV/ Sales LTM 1.75x 2.50x 0.74x 1.56x 0.10x P/E LTM 19.40x 20.61x 1.21x 16.63x -2.77x P/E Yr+1 16.28x 18.29x 2.01x 14.63x -1.65x PEG (P/E LTM / Yr+1 Grw) 1.44x 2.26x 0.82x 1.44x 0.01x P/BV 2.68x 2.99x 0.31x 2.18x -0.50x* Current LTM denotes 2009E and Yr+1 denotes 2010E

Shaded = AttractiveShaded = Attractive


Technicals suggests opportunity still exists The technical picture also remains favorable. Despite the significant rally experienced by most indices since Mar 9th, as a % of their pre-recession highs, this is still the second worst sell-off in equities since 1940 (see Figure 31 below).

Valuations remain the key driver of upside for SMid-Caps, which currently trade at a 7% and 23% discount to their hist avg valuations on a P/E LTM and P/B basis

22



Figure 31: Performance from pre-recession highs during first 12 mth of equity mkt recovery following recessions

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Similarly, the seasonal headwinds we encountered in June and Oct now become tailwinds. As we can see in Figure 32 below, Jan and Feb have historically been the strongest months of the year since 1985, with Pan-European SMid-Caps delivering an avg return of 2.9% and 2.6% and ending in positive territory 79.2% and 70.8% of the time respectively.

Figure 32: Mthly Performance of Pan-European SMid-Caps — 1985 to 2008

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As a % of pre-recession highs, this is still the worst equity sell-off witnessed since 1940

Jan and Feb have historically been the best mths for SMid-Caps (up 79% and 71% of the time respective and by 2.9% and 2.6% on avg)

23



And buy-side sentiment suggests SMid PMs are buyers In addition to the reasons we have outlined above, we believe buy-side sentiment could be a significant positive driver this time around. Everything else being equal, we prefer to go against consensus views. But this time is different. In our latest survey of SMid-Cap PMs (published Nov 5th), 94% of respondents told us they were experiencing inflows. With funds coming in, PMs are likely to act on their beliefs and thus the consensus view is likely to be materialized. Interestingly, 79% of respondents told us they expected the equity mkt to reach higher highs through year end, with close to half of respondents already believing the rally will continue into 1H10.

Moreover, most investors have an incentive to seek further returns. 2009 will likely be remembered as a yr of unusual opportunity for investors (maybe a once-in-a-lifetime chance). With 71% of equity funds in Europe underwater vs their benchmark (and 38% of all equity funds up <20%), we believe investors are likely to seek performance in the early stages of 2010 (as a new yr and a 12-mth horizon on its own could increase their risk appetite).

Figure 33: YTD Returns of European Equity Funds

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24



How to position While we believe SMid-Caps will reach higher highs in the near term, we believe the next leg up in the market could likely be driven by those areas that a) have underperformed during this sell-off, b) offer attractive valuations, c) and are experiencing improving fundamentals (i.e. sell-side upgrades and upward revisions). With this in mind, we recommend:

• OW SMid (on an absolute return basis)

• N SMid (relative to Large)

• OW Value (vs Grw) (our Halibut Screen — see our SMid Trilogy)

• OW Quality Balance Sheets (our Golden Geese Screen — see our SMid Trilogy)

• OW Cyclicals (vs Defensives)

• At the stock level, we expect stockpicking to take over the macro as the key driver of performance in 2010. For stock specific ideas, please refer to the following (available in our Monday weekly publication titled “The SMid Week Ahead”):

The Radar (our short list of high conviction long and short ideas). The Radar has delivered a performance of +52.0% since launch, outperforming the MSCI Small Cap Index by 7,030 bps. Among the stocks in the Radar we highlight Deutsche Lufthansa (LHA GR/Not Covered/€10.65) and Rhön Klinikum (RHK GR/OW/€16.42).

The Compass (contrarian calls from our sectors analysts that are generating alpha). The Compass is up 58.9% since launch, outperforming the MSCI Small Cap Index by 7,650 bps.





25



Quantitative Strategy Outlook 2009: the Value year 2009 has been a bumpy ride for Quant funds: they started the year well above water, then all seemed to fail during the March/April “trash rally” and finally they have turned out to be quite efficient into year end, recuperating most of the previously generated losses1.

While this bumpy ride will be remembered by many, we will probably all agree that 2009 will be remembered as “the” Value year.

After extremely poor performances in 2007 and 2008, followed by a weak start of the year, Value came back “with a vengeance”.

Figure 34: VALUE (as defined by Book Value) – Returns (SECTOR NEUTRAL)

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The stock market rally taking place in March and April indeed witnessed a strong bounce in the price of companies trading at depressed (bankruptcy?) levels and Value is heading into the close of the year generating slightly south of 30%.

1 For more information, see “Quant Factors – A Global Analysis of Recent Performance”, May 2009.

Equity Quant Europe

Marco Dion AC (44-20) 7325-8647 [email protected]

Matthew Burgess (44-20) 7325-1496 [email protected]


26



While this Value rally was in no way predicted or foreseen by us, it is quite interesting to note that it has coincided – as historically expected – with the Valuation spread narrowing significantly (ie contraction in the dispersion of valuations in the market)2.

Figure 35: Dispersion of valuations in the markets

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During this period of strong outperformance of Value Factors, others Factors encountered extreme volatility.

As mentioned in our note covering the March/April rally (“Quant Factors – A Global Analysis of Recent Performance”, May 2009), some Factors even suffered losses not witnessed over 15 years of backtests.

As the chart below displays, Price Momentum was the biggest loser in 2009.

While we expect Price Momentum to indeed fail at inflection points, we were extremely surprised by the magnitude of the move: regardless of the region and sector analysed, we find that Price Momentum lost an average of 40% over the 2-month period (March and April).

2 See “Value/ Growth: Introducing our Style Switching Model” (April 08) for more info on the systematic approach to Value or Growth selection using the change in dispersion of valuations.

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Figure 36: Factor Performances in 20093

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As the chart above and table below show, the returns achieved by Quant Factors during this time were of gigantic proportions.

The dispersion of these returns also turned out to be a problem for most Quant funds. As most funds use a mix of the different Factors presented, they found these “extreme” performances difficult to manage as the returns tended to cancel each other out without trimming the volatility of the funds.

Table 15: Factor Performances in 2009 (SECTOR NEUTRAL) Factor 2009 Returns Value 27.4% Price Momentum -49.4% Earnings Momentum -26.2% Quality -16.2% Risk 32.0% Beta 37.4% Source: MSCI, Factset, Bloomberg, J.P. Morgan

3 Most commonly used Factors in Europe, market and sector neutral; rebalanced every month and focusing on the top/bottom 10% of the European universe (positions being equally weighted)

28



2010: a Stock-Picking year As the above table illustrates, Factor selection and weights turned out to be a question of “survival” in 2009 for Quant funds.

In 2010, we do not expect a recurrence of the same issues and instead we strongly expect (bottom-up) stock-picking to be the main characteristic of equity markets.

Rationale for a “2010 = stock-picking year” As stated, we strongly believe that company fundamentals are going to be relevant and primordial again to investors.

The reasons behind our opinion are:

1. Macro themes should be less dominant in 2010.

The Quant community often uses the dispersion between sector returns as a proxy for defining macro/micro regimes taking place in the market.

It is indeed well-acknowledged that if the markets focus on macro ideas and themes, the difference in sector returns will be vast whilst the dispersion of stocks within sectors will be quite small (people will play top/down sectors and not care much about the bottom/up characteristics of stocks they invest in).

On the other hand, if investors focus on micro/fundamentals, the dispersion of stock performances within sectors should be broad while the dispersion of sector returns will be relatively small (people will care about stock fundamentals and probably try to be “sector neutral”).

As shown by the chart below, the dispersion between sector returns has decreased significantly since the end of April.

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Figure 37: Dispersion of Performances between Sectors

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This change in market “interest” and perception (from macro to micro) was also translated into a (small) pick-up4 in the dispersion of stock returns within sectors.

Figure 38: Dispersion of stock Returns within sectors

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4 The small increase is due to using 2 years of weekly returns in the calculations. We see this dispersion as increasing more dramatically in 2010.

30



We think that the dispersion in sector performances should continue to decrease over the course of next year and that the dispersion of stock performances within sectors should increase in a more significant manner.

2. Consensus data is again usable by investors.

We argued last year that one of the reasons for the failure of Quant strategies was their high reliance on consensus forecast data and the fact that consensus numbers were – as agreed by most market participants – completely erroneous.

As the chart below shows, it took close to 6 months (early 2009) for consensus data to reflect the sharp fall in prices translating the economic slowdown.

With consensus data being completely wrong (for the last 4 quarters), we can easily understand why investors were unable and unwilling to rely on consensus data and preferred therefore instead to focus on macro themes5.

Figure 39: Net Revisions6

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While it took a long time for analysts to cut their forecasts to realistic levels, we have however noticed that since the end of March 09, analysts finally seem confident and comfortable enough with their numbers to start upgrading their growth prospects.

5 Almost as a choice “by default”. 6 ie (Nbr of upgrades – Nbr of downgrades) / (Nbr of upgrades + Nbr of downgrades)

31



This return to “normality” and realization of growth expectations gives us more confidence going forward that consensus data can be trusted.

As a result, we strongly believe that investors have found, and should keep on finding, self-belief in consensus data for their stock selection process and that stock-picking should therefore keep on providing superior returns to investors using the data correctly.

3. The dispersion of valuations in the market remains high, favouring a bottom-up Value approach.

As previously mentioned, the dispersion of valuations in the market is still fairly high. This means that extremely cheap as well as extremely expensive stocks can be found simultaneously in the market.

Figure 40: Dispersion of valuations in the markets

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This translates into significant opportunities being present from a relative value perspective.

With those cheap/expensive arbitrage opportunities in the market, we again strongly believe that stock-pickers will get “naturally” attracted to the markets and try to take advantage of anomalies.

32



Similarities with 2003 and 2004 To justify our opinion and bring some historical analysis into perspective we compare the recent Factor returns with those generated during the bear market of 2002 and trough of 2003.

While we agree that a single data point analysis is not statistically significant, this “anecdotal” analysis could at least help us understand how close or far from reality our opinion stands.

Table 16: Factor Performances (annualised) during bear markets and troughs

2002 2008 2003 2009 2004 2010Value 28.7% -25.1% 10.2% 17.6% 14.2% ?Price Momentum 46.1% 33.9% -29.6% -49.4% 10.0% ?Earnings Momentum 24.8% -3.6% -6.6% -26.2% 4.2% ?Quality 13.9% 11.3% -16.6% -16.2% 2.6% ?Risk -20.3% -28.4% 16.6% 32.0% -6.4% ?Beta -35.8% -14.5% 16.6% 37.4% -10.0% ?Leverage -7.7% -26.8% -0.4% 3.8% 2.1% ?


From this very quick analysis it transpires that a lot of Factor behaviors from the past 2 years have many similarities with their performance around the previous trough7.

It seems indeed that except for the magnitude of the returns (and consensus data failing more than historically conceived) the comparisons are pretty staggering.

7 While the analysis of the behaviours exposed around the troughs does not exhibit “surprising” results, it is of course obvious that they were in no way expected and managers would have only been able to take advantage if they had timed “perfectly” the market bottom.

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What does it mean for Quant Managers? If we had to make conclusions from this very simple historical comparison – keeping practicality at the back of our mind – we would therefore argue that:

1. Stock-picking should indeed be back in favour in 2010 with Beta and (High) Risk Factors failing (matching their historical expected performances).

2. Value should work best, followed by Price Momentum, Earnings Momentum, Quality and Leverage.

3. The average stock to buy should therefore (again) be a cheap stock with a good price trend, a robust balance sheet and on which analysts are becoming more and more bullish8.

4. Most commonly used Factors should be working pretty well for Quant managers, making us believe that multi-Factor Models should work in an efficient manner next year.

If we had to ‘pick’ Factors, what would we overweight? As point 4 above states, we strongly believe that Quant managers should have a successful 2010.

While our job is not to give opinions on which Factors should/shouldn’t work9, we thought that a “Factor picking” exercise would be interesting at this stage of the cycle:

1. Value

As per Figure 40, it seems that while the dispersion of valuations in the market has narrowed down significantly since the Feb 09 top, there are still considerable opportunities in the market from a valuations perspective.

As historically it seems that Value cycles last a decent amount of time, we do not expect the valuation dispersion spread to close back to levels where we would consider opportunities have been “arbitraged away” before the end of next year.

In this current environment, we would therefore gladly stay overweight Value10.

8 The opposite holds for the average stock to short. 9 We indeed consider our job to be to develop empirically tested systematic investment ideas. 10 Amongst Value metrics, we would favour earnings based Factors: Earnings Yield, Earnings Yield Forecasts etc

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2. Earnings Momentum

Unless the world economy encounters a “double dip” (scenario which seems unlikely according to our economists), we think analysts should be in a position to receive a clear message from companies they cover regarding their growth, margins and upcoming earnings.

With the environment being more predictable, companies should also be more easily “modelable” and translated into more reliable investment recommendations.

While we have proven in a previous report11 that the change in earnings forecasts is key for alpha generation, we intuitively think that this should get translated into more value being added onto Earnings Momentum based signals.

3. Price Momentum

As explained in our October paper (“Price Gaining Momentum - Reasons to be bullish on Price Momentum”), we think that going forward Price Momentum should start ‘behaving’ again as an Alpha signal and not like a mere Beta play.

Investigating the recent performance of Price Momentum, we found that the Beta exposure and various other Factor exposures that our Long and Short Price Momentum portfolios exhibited were extreme (high level of Beta, high level of operating leverage etc).

We also explained that as we use 12 months as our widow for the computation of our Price Momentum Factors, the (severe) market action over the previous 12 months window can be crucial.

We find that with the market having generated positive returns over a 12 months basis for the first time since December 2007, the stock selections produced by our Factor was less “financial crisis” dependant and was actually made of stocks chosen for their idiosyncratic Alpha characteristics.

We were pleased to see this argument translate into profits for October (+5.3%) and November (+3%) and strongly believe Price Momentum will be an efficient source of Alpha in Multi-Factor Quant Models going forward.

11 “How to Improve Earnings Momentum Strategies – Investigating Factor Timing, “Analyst True Calls” and “Real Activity Index””, June 2009.

35



CEEMEA Strategy Outlook Deanne Gordon AC (27-21) 712-0875 [email protected]

J.P. Morgan Equities Ltd.

We are positive on CEEMEA equities. Within our global EM portfolio we are overweight Russia and Turkey.

Overweight Turkey - Secular and cyclical We believe that Turkey could outperform EM and CEEMEA as structurally lower inflation and interest rates result in a higher trend; India in the mid-90s is good example of this. The IMF standby program, if signed, should ease Turkey’s reliance on external financing and reduce the crowding out of the private sector. These improved fundamentals are neither reflected in valuations or relative performance. Turkey’s forward PE of 9 is at a significant discount to MSCI EM's 13. The index has marginally underperformed MSCI EM year to date. Since mid-March 2009, the local currency index is in line with MSCI EM.

Higher trend growth and lower interest rates are positive for Turkish banks, a large part of the benchmark. We forecast an acceleration of earnings growth from 10-20% in 2010E to 20-30% in 2011E.

The risks to this call are: deterioration in global credit markets and/or delays in negotiating a deal with the IMF are a threat. J.P. Morgan forecast a 2010 current account deficit of 2% of GDP.

Overweight Russia – Beta fueled by oil Our Russian overweight is driven by a combination of the rise in oil prices and the wish to remain high beta for now. This is a high risk strategy. It is a momentum strategy with a rising 50 and 200 MVA for oil. We will cut the overweight if the oil price breaks below its MVAs.

Dubai World restructuring – global market reaction overdone We believe the reaction of the global equity markets to the recent Dubai World restructuring announcement [1] has been overdone and feel going forward there is an increasing need for differentiation between Dubai and the other MENA markets.

In our view the government’s intention is to limit the issue to Dubai World (incl. property developer Nakheel) and federal support is likely to be more selective going forward. Federal unity is evident from the USD5bn in bonds recently taken up by two Abu Dhabi banks for the Dubai Financial Support Fund (‘DFSF’) and reaffirming statements from the U.A.E. Central Bank to support liquidity of the U.A.E banking system.

We accept that the issue could have been communicated to financial markets in a better way but believe that the reaction of the financial markets to this news creates attractive opportunities for investors in our preferred MENA names with no or little exposure to Dubai.

Figure 41: Turkey – Structurally low policy rates and inflation

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Figure 42: Mexico - second highest GDP swing (11pt) in 2010

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[1] According to a press release of the Government of Dubai, Department of Finance, on 25 Nov-09, the Dubai Financial Support Fund (‘DFSF’) is spearheading the restructuring of Dubai World and Dubai World intends to ask all providers of financing to Dubai World and Nakheel to ‘standstill’ and extend maturities until at least 30 May 2010.

36



Better economies in 2010 We forecast a strong growth rebound in CEEMEA in 2010 as these countries leverage off the Euro area recovery. J.P. Morgan’s Economics team forecasts real GDP convergence to regain momentum by 2011. Central European economies are leveraging the Euro area recovery, helped by more competitive currencies. The driver of the recovery in markets will rotate from a compression of risk premium to earnings revisions in our view.

Growth recovery to trend J.P. Morgan’s developed world growth forecast for 2010 is for a sharp recovery to 2.7%oya from -3.4% in 2009. More dramatically, we forecast a bounce in EM growth to 5.8% in 2010 from 0.6% in 2009. CEEMEA real GDP growth is forecast to jump to 4.5%oya in 2010 from -5.3% in 2009 – in line with trend GDP growth. Yet for 2010 our economists foresee great differentiation across countries, with only Russia and Nigeria predicted to grow faster than potential, while Turkey should come close to trend growth.

In Russia, we forecast a sharp jump in GDP growth to 5%oya in 2010 versus trend growth of 4% driven by strong oil prices, falling interest rates and an expected recovery in consumption spending.

In Turkey we forecast real GDP growth of 5%oya in 2010 versus trend growth of 5.5%. We believe an IMF agreement will be reached in early 2010 and ease the fiscal crowding out of private sector borrowing and boost consumer and business sentiment. We believe an IMF deal will lead to better growth prospects for the business community, which could lead to more investment and employment. We believe with an IMF loan, corporate loan growth will reach 17.5% in 2010, while fixed capital formation could expand 10.6% (from an estimated -16.5% in 2009).

In South Africa we forecast a recovery in real GDP growth to 3.0%oya in 2010 from -2.0% in 2009, driven by better external conditions, an inventory rebound and the "halo effect" of the 2010 FIFA World Cup.

In CE-3 we forecast a recovery to trend in 2011. With global trade flows picking up and Germany set to outperform, the scene is set for a continued recovery in CE-3 industrial output and exports in our view. In CE-3 trade balances have improved rapidly thanks to better terms of trade and falling import volumes. While the

positive terms of trade effect should reverse given rising commodity prices, our economists still forecast the oil deficit will be below 2008 levels. A recovery in Germany to average growth of 3.5%oya should boost CE-3 exports

Overall, J.P. Morgan’s FX Strategy team remains bullish on CEEMEA forex in 2010.

TRY and RUB should benefit from lower fiscal deficits and US dollar weakness. The CBR has fought RUB appreciation by cutting interest rates and shifting the currency’s corridor by just 5 kopeck for each US$700M intervention. In addition, it has hinted at intra-corridor intervention and the imposition of controls to curb inflows. The CBRT also intervened through daily auctions but, for TRY, retail buying of US dollars has been the force preventing appreciation. We believe that the forecast strong recovery will reduce the switch from TRY to USD plus persuade the CBR that a stronger currency is sustainable. Further USD weakness – seen at EUR/USD 1.62 by mid-2010 – should push down USD/RUB, both directly and via higher commodity prices.

For Poland, J.P. Morgan’s above-consensus growth expectation should lead to a reduction in perceived fiscal risks and support a reversal of PLN’s large undervaluation.

For HUF and RON, positions are just too underweight in relation to their recent transformations. Our FX strategy team believes that, according to our monthly surveys, investors are not positioned for the improvement in Hungarian and Romanian fundamentals. Hungary and Romania, both under IMF/EU programs, recorded two of the region’s most improved external imbalances in 2009. Romania’s current account deficit is forecast to narrow to 4% of GDP in 2009 from 12.3% in 2008. Hungary’s current account deficit is forecast to have narrowed to c1% of GDP in 2009 from 8.4% in 2008.

For CZK, our FX team sees no clear growth, valuation, and positioning or yield argument for a directional view on the currency. Meanwhile, the unpredictability of the BoI has suppressed interest in ILS, despite positions being underweight and the currency being undervalued.

Our FX team forecasts a rangebound ZAR in 2010, ending both 2009 and 2010 at 7.40 versus the USD, being underpinned by carry trade and commodity currency appeal. But being high beta, the rand is vulnerable to a reversal as the dollar moves to a stronger footing in 2H10.

37



Relatively accommodative monetary policy Inflation remains within acceptable limits in most CEEMEA countries and currency strength should further underpin a relatively easy monetary policy stance in the region. With the exception of Israel (off a very low base) and Czech, we forecast largely flat short rates in the region until late 2010. In fact, standouts are the rate easing we forecast in Russia, Hungary and Romania. We see Russia cutting rates by 175bp by the end of 2010 and Romania cutting rates by 100bp by end 2010. We forecast Hungary rate cuts of 150bp in 2010.

Risks to our CEEMEA view 1. Dubai World debt moratorium impacts investors

confidence in MENA

2. Risk appetite fades, driving investors back into low-beta defensive markets like SA and Israel.

3. Falling commodity prices weigh on Russia and SA.

4. Rapid rise in inflation across CEEMEA resulting in more rapid tightening

5. Delay in IMF package negotiation for Turkey.

Table 17: CEEMEA Consumer Prices (% oya, average)

2009E 2010FRussia 11.8 7.5South Africa 7.2 4.8Turkey 6.1 5.7Poland 3.5 2.3Hungary 4.2 3.5Czech Republic 1.1 2.6United States -0.4 1.7Euro area 0.2 1.0Source: J.P. Morgan estimates.

Table 18: Rate Outlook for CEEMEA (%) Current End-09E End-10E Policy Stance 09 CEEMEA 4.78 4.44 4.87 Flat Russia 4.75 4.00 3.00 Easing South Africa 7.00 7.00 7.50 Largely flat Poland 3.50 3.50 4.50 Largely flat Turkey 6.50 6.50 8.00 Largely flat Czech Rep 1.25 1.25 3.00 Tightening Hungary 7.00 6.00 5.50 Easing Romania 8.00 8.00 7.00 Easing Israel 0.75 0.75 4.00 Tightening Source: J.P. Morgan estimates.

38



Economic Outlook David Mackie AC (44-20) 7325-5040 [email protected]

Malcolm Barr (44-20) 7777-1080 [email protected]

JPMorgan Chase Bank N.A, London Branch

A recovery, but only a slow return to normality The worst recession that Western Europe has experienced since 1950 is now over. After contracting at an average annualised pace of 5.8% from the autumn of last year to the summer of this year, the Euro area economy expanded at a 1.5%ar pace in the third quarter. And, although the UK continued to contract through to September, we are confident that the economy started to expand again in the fourth quarter. This expansion in economic activity is likely to be sustained for the foreseeable future.

However, an end to the recession does not mark a return to normality. The recovery in demand will be held back by a reduced appetite for debt accumulation by households and nonfinancial corporates, and tighter lending standards imposed by banks. Even though interest rates will be held at an unusually low level for an extended period, there is unlikely to be a powerful credit cycle. An additional headwind will come from the fiscal side; the need for public sector deleveraging will ensure a significant and sustained fiscal tightening which will last for several years. Meanwhile, the supply side of the economy has been severely damaged by the financial crisis and the deep recession. A significant part of the decline in actual GDP over the past year looks likely to be a permanent loss in the level of potential. In addition, the ongoing growth rates of potential GDP are likely to have declined by around half a percentage point relative to what prevailed before the crisis.

This all adds up to our theme, bouncing towards malaise. Although we expect GDP to increase in the coming couple of years by more than the consensus, the upswing will feel very muted relative to the depth of the recession and the magnitude of the policy support. Economies are bouncing, but a sense of malaise will persist for a while.

A solid cyclical expansion lies ahead The recession just ending was a very deep one. From peak to trough, the level of GDP fell by 5.1% in the Euro area and by 5.9% in the UK. Normally after a deep recession, we would expect a strong upswing, as inventory adjustments end and as households and corporates discover that they have cut their spending on durables by too much. The muted cyclical upswing in demand that we anticipate—relative to the depth of the recession and the magnitude of the policy support—reflects the secular headwinds from a more cautious attitude toward debt accumulation, deleveraging in the banking sector, fiscal tightening, and sliding growth potential. These headwinds will influence the growth dynamic in two ways: first, the underlying trend in income growth over the medium term will be lower than in the past; and second, the cyclical dynamic of demand around growth potential is likely to be more muted than usual.

The business cycle upswing typically has two stages. First, a bounce in output as inventory adjustments end and a rebound in spending on durables from depressed levels in response to an improvement in permanent income expectations, lower interest rates and an easing of credit availability. These changes require some accumulation of debt, reduced debt repayment, or reduced accumulation of financial assets. Second, there is a shift to expansion where households and corporates push spending to new levels by stretching beyond their current incomes in response to developments in confidence, asset prices and financial conditions. This generally involves a solid credit cycle.

In the current environment, both of these stages are likely to be affected by secular headwinds. On the one hand, there is likely to be a more restrained attitude toward debt accumulation, reflecting a decline in permanent income expectations, reduced expectations of rates of return on assets, and an appreciation of the greater volatility of both incomes and asset prices. On the other hand, even though the environment for banks is improving, bank lending standards are likely to remain on the tight side for an extended period. The financial accelerator mechanism whereby banks are inclined to ease lending standards in response to higher asset prices will be dampened by a renewed appreciation of the volatility of both incomes and asset prices. Also, banks will be restrained over time by a move to a tighter regulatory environment, which will likely force them to hold significantly more liquid assets and equity capital.

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Figure 43: Global trade recovering from depressed levels Index, Global PMI export orders

30354045505560

98 00 02 04 06 08 Source: Markit Group

Even though the upswing in demand is expected to feel very muted relative to the depth of the recession and the magnitude of the policy support, we nevertheless have a growth forecast that is somewhat ahead of the consensus. There are a number of reasons for this. First, we are putting more emphasis on the powerful cyclical dynamics that are at work after a deep recession. For the Euro area, this involves a strong bounce back in global trade from very depressed levels and a recovery in corporate spending after severe cutbacks. Second, we believe that saving rates have moved up by enough to create sufficient free cash flow for households and corporates to delever should they feel the need to. It is also important to recognise that the easy policy stance, low interest rates and the expansion of central bank balance sheets, has eased the pressure to delever in a disruptive way. This is particularly important for the UK and Spain. Third, we would emphasise that it is the flow of new credit that matters for demand, rather than the level of bank lending standards. It is still early days, but access to credit does seem to be improving at the margin. And fourth, we would stress that the lesson from history is that the malaise from a financial banking crisis shows up more often than not in a depressed level of GDP relative to what it would otherwise have been, rather than a depressed growth rate of GDP once the cyclical trough has been reached.

Figure 44: Euro area bank lending starting to turn the corner %3m saar

-5

0

5

10

15

20

2004 2005 2006 2007 2008 2009

Household loans

Nonfinancial corporate loans

Source: European Central Bank

The shock to potential GDP One critical feature of the outlook is the impact of the banking crisis and recession on both the level of potential GDP and its ongoing growth rate. It is widely recognised that banking crises and deep recessions have lasting implications for the supply side of the economy. Deep recessions cause premature scrapping of the capital stock, an erosion of existing labour skills and the discouragement of new entrants into the labour force. When dysfunction in the financial system is also part of the recession dynamic, potential GDP can be damaged by less efficient redeployment of resources from contracting to expanding sectors, and less availability of finance for productivity-enhancing research and business start-ups. Decomposing the decline in actual GDP that has been experienced over the past year into cyclical and structural components, and calibrating how the growth of potential GDP has changed, are challenging exercises, but they have enormous implications for the outlook for demand, inflation and monetary policy.

Our approach has been to examine the data on the evolution of actual GDP, various direct measures of resource utilization and the behaviour of inflation to form a view of how the output gap has evolved. By definition, the fall in GDP that is not reflected in a wider output gap represents a permanent loss of potential GDP. For the Euro area, we estimate that over the past year the level of potential GDP has declined by around 0.2%; in the UK, we estimate that the level of potential GDP has declined by around 2.4%. This means that the output gap is smaller than it would otherwise have been had all of the decline in GDP over the past year been cyclical.

Table 19: GDP, potential output, and the output gap over the last year

Output gap

in 2Q08 (%of GDP)

GDP since 2Q08 (%)

Output gap in 2Q09 (%

of GDP) Change in

output gapChange in

potentialEuro area 1.65 -4.78 -2.88 -4.53 -0.22UK -0.25 -5.65 -3.46 -3.22 -2.35

Source: J.P. Morgan

Nevertheless, there is a significant amount of slack in the Euro area and the UK. In the Euro area, we would put the output gap at around 3% of GDP, a little wider than what was seen as a consequence of the recessions of the mid 1970s, the early 1980s and the early 1990s. Meanwhile, in the UK, we estimate the output gap at around 3.5% of GDP. This is wider than what was seen in the mid 1970s and early 1990s recessions, but not as wide as what was seen in the early 1980s recession. In addition to a

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permanent drop in the level of GDP, our analysis suggests that growth potential has also fallen in the Euro area and the UK, by around half a percentage point relative to the pace that prevailed before the crisis. This suggests that the output gap will close more quickly than it would have done previously.

Core inflation set to fall The sizeable output gaps suggest that there will be a significant amount of disinflation in the coming twelve to eighteen months. For the Euro area, the disinflation should be a reasonably steady process and our forecast anticipates core CPI inflation reaching 0.6%oya by the end of 2010. Since the current recession began, core CPI inflation has fallen from 2.7%oya to 1.1%oya. While perhaps around half of this move reflects the impact of sharply lower energy prices, there has also been a significant amount of underlying disinflation. Even though growth has started to recover, this underlying disinflation will continue; in general, the disinflationary process continues for quite a while after recessions have ended.

For the UK, the inflation outlook is a lot more complicated. In the near term, higher indirect taxes, higher energy prices and the pass through from a lower currency will push CPI inflation above 3% from early next year. Given the transitory forces at work, this move will likely be discounted, even though it will probably elicit an open letter from the central bank governor to the chancellor explaining why inflation is more than 1%pt above the target. Given these dynamics, inflation will not fall to a level below the central bank’s objective until the middle of next year. Assuming no further indirect tax increases, inflation would then likely slide to just below 1% during 2011. However, given the fiscal pressures, we expect further indirect tax increases in 2011, which will keep inflation around 1.5-2% until 2012.

Although sizeable output gaps exist at the moment, the combination of a solid recovery in demand and a slower growth rate of potential suggests that the current output gaps will close relatively quickly. For the Euro area, the output gap looks likely to have closed by the first half of 2011; for the UK, it will take until 2012. This suggests that extremely subdued inflation will not last indefinitely. For the Euro area, core inflation is likely to start rising again from the second half of 2011; this will happen a bit later in the UK.

Table 20: Recession damage to the level of potential output by end-2011 %q/q, saar

% of GDP Euro area -3.4 UK -6.3

Source: J.P. Morgan

A gradual monetary and fiscal tightening The outlook for demand and supply are significantly different to anything we have seen before. This is also true for monetary and fiscal policy. Fiscal deficits have got to very extreme levels. In the Euro area this year we expect a fiscal deficit of 6% of GDP, while in the UK we expect a deficit of 12% of GDP. Deficits of this level are clearly not sustainable. While some portion of these deficits is clearly cyclical, and will unwind as the output gap closes, there is a large structural component which can only be eliminated by outright fiscal tightening. We expect this to begin in the UK in 2010, and in the Euro area a year later. Fiscal tightening is likely to be sizeable and to extend over several years, which will act as a headwind on demand growth.

Meanwhile, monetary policy has been driven deep into uncharted waters as a consequence of this crisis. Policy rates are close to zero and central bank balance sheets have expanded dramatically. At some point, both of these dimensions of monetary policy will need to be normalised, although the timing is likely still some way off.

The ECB has tried to keep a separation in its mind between conventional monetary policy (aimed at the inflation objective) and unconventional monetary policy (aimed at the dysfunctionality in the credit intermediation process). This gives a clear road map for the exit strategy, with the central bank’s balance sheet shrinking, and operations returning to normal, before the main policy rate is hiked. Before the crisis, the ECB tried to keep the overnight rate in line with its target policy rate by offering fixed amounts of liquidity at variable rate auctions. The auctions were for one-week and three months, with roughly two thirds of the liquidity provision at one week and one third at three months. As a response to the crisis, the ECB now offers unlimited liquidity out to one-year at the policy rate of 1% (against a broader collateral pool). As a consequence, the actual overnight rate is well below the ECB’s target policy rate, and the money market term structure is flatter than it would

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otherwise have been. Our expectation is that by early 2011, the ECB will want to have returned the operating procedure to the situation that prevailed before the crisis.

The first of the non-standard measures to go will be the twelve month tender. Around the middle of next year, we expect the ECB to cancel the six month tender and move the three month tender back to fixed amounts at a variable rate. We expect it to continue to offer unlimited amounts of liquidity at the one week and one month tenders at the policy rate of 1%, but nevertheless the actual overnight rate is likely to rise towards the policy target and the money market yield curve is likely to steepen. In early 2011, we expect the ECB to stop providing unlimited liquidity at the one week and one month tenders and to go back to offering fixed amounts at variable rates. This would take the ECB back to its normal operating procedures, with the one change that the one month tender is likely to be kept. Thus, from early 2011, the ECB will have realigned the actual overnight rate with the policy target, and will be ready to change the policy target as the inflation outlook evolves. We would expect some tightening of the policy rate during 2011, perhaps by around 150 basis points. The amount of tightening will be influenced by the degree of fiscal consolidation that is undertaken across the region. Regarding the outright purchases of covered bonds, the amounts involved are small enough for the ECB to offset the additional liquidity provided during its regular operations.

In contrast, the Bank of England has viewed quantitative easing as a natural extension of conventional monetary policy, motivated and calibrated by the objective of hitting the inflation target. Although presented somewhat differently, this would suggest an exit strategy similar to the ECB’s: shrinking the balance sheet and then hiking the policy rate. In actual fact, we believe that the Bank of England will move on both dimensions simultaneously, and somewhat earlier than the ECB. We expect the first rate hike to occur in the autumn of 2010 along with the start of outright gilt sales. The reason why the Bank of England is likely to move on both fronts at the same time is that it will be difficult to sell the gilts it has acquired quickly. When QE ends, the Bank of England will likely own around a third of the conventional gilt market: thus, its holdings will be large relative to the underlying liquidity in the market. While the Bank of England will be able to raise its policy rate, due to the ability to pay interest on excess reserves, it will nevertheless face two challenges: first, how to calibrate the appropriate policy rate in an environment where the size of the balance

sheet is much larger than normal; and second, whether to sterilise some of the excess reserves by liquidity absorbing operations. Again, because fiscal policy is likely to be tightening in 2011, we expect the Bank of England to move its policy rate up only gradually; by the end of 2011, we expect the bank rate to be 2.25%, an increase of 175 basis points.

The pace of this policy normalisation process will not only be determined by growth and inflation surprises, but also by developments in asset prices, money and credit and by the pace of fiscal consolidation. Inflation developments next year are particularly important in keeping policy rates low. Our judgement is that, based on a traditional Taylor rule, the appropriate policy rate is still positive in both the Euro area and the UK. In an environment of growth improvement, a decline in inflation is necessary to prevent the appropriate rate from rising. Inflation developments will be easy to read in the Euro area, but somewhat harder in the UK given the transitory forces at work. Developments in asset prices in particular will likely be viewed as a signal about whether the excess liquidity that has been created is fuelling pronounced portfolio reallocations across the private sector. To the extent that this happens, both the ECB and the BoE will want to remove or sterilise the excess liquidity earlier than otherwise. This would affect the exit from the unconventional aspects of monetary policy, but we would not expect asset prices to drive the actual policy rate.

Table 21: Simple Taylor rule exercise for the Euro area: appropriate policy rate, end 2010

Potential GDP growth, annualised 1.0 1.5 2.0

1.0 -0.5, 1.1 -0.8, 0.7 -1.2, 0.3 1.5 -0.1, 1.4 -0.5, 1.1 -0.8, 0.7 2.0 0.3, 1.8 -0.1, 1.4 -0.5, 1.1

Actual GDP growth, annualised 2.5 0.7, 2.2 0.3, 1.8 -0.1, 1.4

Source: J.P. Morgan The two numbers in the boxes refer to two inflation scenarios: 0.0% and 1.0% (oya)

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Global Commodities Strategy Outlook Lawrence Eagles AC (1-212) 834-8107 [email protected]

Jennie Y Byun (44-20) 7777-0070 [email protected]

J.P. Morgan Chase Bank, NA

A conviction that strong growth in developing countries will in short-order return the commodity market to the state of tightness seen over the past five years remains the primary driver behind the dramatic recovery in commodity prices in 2009 and seems set to continue into 2010. High levels of global liquidity and low nominal and real interest rates are not only stimulating a demand recovery, but are contributing to dollar weakness and inflationary fears and are creating a low opportunity cost environment in which to invest in commodities. As such, many commodities are seeing fresh physical “demand” from corporates, government entities or investors (predominantly the latter two). However the impact of such inventory building is significantly scaled according to the ease with which commodities can be stored – precious metals are clearly one of the easiest in terms of cost per unit of weight, followed by the base metals. Agricultural commodities, crude oil and natural gas are however much harder for the non-professional to access, with natural gas probably at the lower end of the scale.

Inventories are a great leveler, essentially carrying surplus spot supply from the present to the future. As such, the outlook for 2010 for commodities encompasses not just supply and demand over this period, but also medium term balances, and the outlook for the dollar and real interest rates.

However, these inventories have to be financed by a forward premium (contango), which decreases the spot returns. As such, commodity selection and positioning along the curve will be extremely important in determining the overall return to commodity investments. Given the inventory dynamics and the weaker dollar trend it is also extremely difficult to get too bearish of commodities which are in surplus. As such, we will be re-examining our price forecasts in our 2010 outlook in the next week.

Figure 45: 2010 JPMCCI Price Forecast

-3.00% -2.00% -1.00% 0.00% 1.00% 2.00% 3.00% 4.00%

Agriculture:

Industrial Metals:

Precious Metals:

Energy :

JPMCCI Index

Source: J.P. Morgan

The crude oil market remains contained within narrow confines. Saudi Arabia is calling the tune, releasing more oil to the market at $80 bbl when inventories are already high, and without a change in official OPEC policy. That places a natural cap to prices. The $80 bbl cap is being reinforced by Chinese refiners, who receive a lower retail price adjustment from the government if the price goes above this level. While high global liquidity should prevent prices from falling too far near-term, there are some concerning supply side developments that could over-awe the demand side growth in the coming year. Demand is seen contracting around 1.6 mbd in 2009, but should rebound by around 1.3 mbd in 2010, led by developing world growth. However, the prospect for a rapid rebound in Nigerian output, following an improved security situation, together with new field additions in Angola and the possibility of a political deal to allow Iraqi investment to proceed raises the prospect of much higher OPEC output to balances that already show a broad balance in 2010.

US Natural gas has been severely impacted by both the economic downturn and a competitive surge in productivity, supplies and inventories. 2010 is expected to be a rebalancing year (production should bottom some time in the first quarter of 2010 and then rise in the second half of 2010) but despite our economists’ predictions of a cold winter in the East, we still expect to come out of winter with another record high level of inventories. Add to that increasing LNG output, and it remains hard to be bullish on natural gas next year.

Industrial metal demand in OECD countries remains weak. A strong surge in China and emerging Asia is now losing momentum but remains strong in absolute terms. Heading into 2010, we expect OECD countries to embark upon a restocking process given extremely low working inventories, but that process is only likely to

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gain momentum in Q2. Until then we expect to see physical demand for industrial metals remain soft - with markets in surplus - and inventories on the LME to rise, across the board.

Supply continues to respond to the high price levels; mine output is growing and refined metals production is now moving back to pre-crisis levels (is actually at record levels in China). This means that even with a modest demand recovery in OECD countries in 2010 the markets will remain in a modest surplus. However most of this surplus will move into private sector marketing channels (that is, LME stocks are likely to fall in the Q2-Q3 period in the least, and stabilise in Q4). All base metals have upside risk in Q2 but likely to remain robust in the meantime.

The low level of global interest rates and significant global liquidity is allowing the market to carry the high level of inventory (record in aluminium, nickel and reasonable in copper, zinc and lead) with relative ease and equilibrate that timing mismatch.

When the process of interest rate normalisation commences during 2010 the market will be less willing (perhaps able) to carry so much inventory levels and that material will be released into spot markets as physical demand is improving. The net will cap, or even reverse prices, in our opinion beginning in the Q3 or Q4 period in 2010.

Gold currently (and all precious metals) are being driven by significant global liquidity, low US interest rates and a weak USD. We expect that dynamic to remain in play until mid 2010 as the market will likely continue to trade the "policy mistake" thesis: the Fed and other central banks will be too slow to raise rates and reduce liquidity levels, entrenching inflation risks and further supporting asset prices. Although gold is at a record in nominal USD terms we see little to no reason (other than positioning) as to why the rally cannot continue. Central bank communication is making the long gold (and asset reflation argument) compelling.

Fundamentally the gold price appears "over valued" but with the current demand from consumers (jewelery/industrial) and investors this is unlikely to be binding. Investor concern with inflation risks is the overwhelming flow. We target a move in gold towards $1250 - $1300 in the coming months.

Agri-commodities also have a mixed set of fundamentals. Typically, the link between the business cycle and agricultural prices is looser than other commodity sectors. However, the relatively stronger position of many key emerging markets economies should serve to support the agricultural demand base.

The grains and oilseeds have a more comfortable inventory position than they have had for a while, but there are still price risks. Wheat is probably most comfortable but corn (and feed in general) inventory would not remain comfortable with major supply shocks. Vegetable oils, like palm oil and soybean oil, have greater potential for outperformance. The inventory cushion is modest and even gradual growth in biofuels and edible demand would leave the market untenably tight should production decline.

The softs – sugar, coffee and cocoa – each have supply issues that have, or can, boost prices. Sugar’s supply squeeze is the most mature but has potential for large price spikes in early 2010. Beyond that the default case is that we’ll see a substantial production response later in the year and prices will ease. Still, that easing is likely to result in less backwardation rather than full swing back to contango. Coffee has a quality issue as the current and prospective supply of high quality Arabica beans (the ICE contract grades) looks limited and will at least keep supply taut. Cocoa is enjoying a re-stocking rally now but there are more fundamental medium-term concerns about supply. Markets are sceptical that the current global plantation could quickly re-fill inventory from any further crop problems and the lead-times on new supply are long. That leaves the market with significant risk skew to higher prices.

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Rates Outlook Gianluca Salford AC (44-20) 7325-4334 [email protected]


2010: carry is the name of the game An out-of-consensus macro view shapes our trading themes: our economists expect a string of 3% GDP growth from 09Q3 to 10Q3, to be accompanied by very low inflationary pressures courtesy of the spare capacity created by the recession. We recommend investors to stay long the market as long as the constant maturity 2Y rate is above 1.3%, to benefit from the very attractive carry protection in a low for long environment, whilst minimizing exposure to capital losses due to mean reversion when interest rates are too low.

Our working assumption is that the ECB will not increase the refi rate in 2010, and extra liquidity in the system will remain abundant until at least midyear. We therefore expect EONIA and repo rates to remain close to 0.40% in the first part of the year and to rise only gradually in the second half of the year. We project the 2Y Schatz at 1.55% by the end of June, below the current forwards (Table 22) and within the range of the past six months. Our forecast in H2 is driven by rising EONIA expectations at a 1Y forward horizon as we approach ECB tightening (our economists expect 75bp of tightening by mid-2011).

The low-for-long period between mid-2003 and end-2005 sets the template for trading the short end of the curve. Over that period, 2Y rates traded in a broad range as the market swung between more easing and tightening, driven by volatile economic data and stable inflation. Playing the range was crucial: quartile analysis is very telling: long duration trades initiated when the 2Y yield was in the bottom quartile performed very poorly on a 3M horizon, with just a 7% success ratio, but the success ratio was close to 50% in the second quartile and above 80% for the remaining quartiles with a sharp increase in the realised P&L.

We find little value in strategic curve trades as the traditional drivers are suggesting only mild flattening, not enough to beat the forwards:

1) The 2s/10s curve is directional to the level of short term interest rates, we expect the ECB to stay on hold and 2Y rates to rise only modestly, with a small flattening bias.

Table 22: Interest rate forecast JPMorgan interest rate forecast and spread vs. forwards; % unless otherwise stated

Q2 vs. Q4 vs.26-Nov Q1 Q2 Q3 Q4 fwd (bp) fwd (bp)

Refi 1.00 1.00 1.00 1.00 1.00 n/a n/aEONIA 0.35 0.35 0.35 0.60 0.85 -51 -452Y 1.25 1.45 1.55 1.85 2.05 -24 -245Y 2.25 2.45 2.53 2.78 2.95 -13 -210Y 3.17 3.30 3.35 3.50 3.65 -5 330Y 3.94 4.00 4.00 4.10 4.15 -5 02s/10s (bp) 192 185 180 165 160 19 2710s/30s (bp) 77 70 65 60 50 0 -3

Table 23: Bond indigestion is unlikely in 2010 Change in net supply and net demand vs. 2009; JPMorgan forecast; €bn

EMU govts 75 Foreign investors 20SSA 26 Commercial banks -135Gov. guaranteed -221Total -120 Total -115Net supply - net demand -5As % of total gross issuance -0.4%

Net supply vs. 2009 Net demand vs. 2009

Table 24: Key trades under different economic scenarios Recommended trades based on expected performance given the macro outlook; central scenario in bold; ++ = strong conviction trade

high growth low growthlow inflation duration long long ++

curve neutral flattenerintra-EMU spreads tightening ++ neutral

high inflation duration short neutralcurve flattener steepener

intra-EMU spreads tightening widening

Figure 46: Intra-EMU spreads have moved in line with risky asset performance since the beginning of the crisis Average* 10Y cash spread to Germany vs. Stoxx350 index of European financial stocks; bp and points

0

20

40

60

80

100

120

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Nov07 Feb08 May08 Aug08 Nov08 Feb09 May09 Aug09 Nov09

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Average 10Y cash spreadEuropean financial stocks index rhs inv.

* Average of Austria, Belgium, Finland, France, Greece, Ireland, Italy, Netherlands, Portugal and Spain.

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2) Despite renewed fears of supply/demand imbalances developing next year, we expect, the technical picture for €-denominated high quality bonds to show a balance (Table 23) with a neutral impact on 2s/10s. On the supply side, we forecast net issuance of high quality bonds to decline by €120bn compared to 2009. On the demand side, we estimate aggregate demand for high-quality €-denominated bonds to decline by roughly €115bn in 2010 vs. 2009. Foreign investors and banks hold roughly 30% each of Euor area government bonds. We expect foreign net buying of government bonds to increase by around €20bn in 2010 to €120bn, the main driver being the improvement in the EM current account surplus and the ongoing resistance to significant FX appreciation. However, we expect net buying from banks to decline by €135bn due to much better growth in 2010 vs. 2009 (bank holdings of government bonds are correlated with the economic cycle).

3) We expect inflation expectations to remain constant as has been the case for the past few years, with neutral impact on 2s/10s.

4) The Euro curve typically shows sensitivity to the US curve, with the historical beta around 1/3. Our US strategists are forecasting an unchanged spot curve, with a neutral impact on Euro 2s/10s.

We therefore forecast 10Y German rates at 3.35% by the middle of 2010 and 3.65% by the end of the year.

Intra-EMU cash spreads to Germany have been broadly driven by the perception of systemic risk over the past two years (Figure 46). In our central forecast, 2010 will be characterized by above trend (and well above consensus) growth, yet the ECB will be on hold due to low inflationary pressures. In other words, it should be the best macro environment for a reduction in systemic risk, thus favouring a general compression in spreads. If this macro view pans out, we expect a compression of the average 10Y spread to Germany to 50bp by mid-2010, roughly 25bp tighter than current levels.

In the UK, 2009 was a year of unconventional policy measures, with the Bank of England embarking on a £200bn asset purchase programme to support the beleaguered economy. Looking ahead into 2010, we expect the BoE to end its policy of extraordinary monetary stimulus as signs of a global recovery in output take hold. In the words of one MPC member, the massive monetary stimulus provided by the BoE has partly provided “insurance against catastrophe risk” and with financial market disaster seemingly averted it is unlikely that such a large insurance policy will be needed over the coming year. We expect modest policy tightening of 50bp in the later half of the year and 2Y gilt yields will likely drift higher.

The end of Bank of England gilt purchases will remove a large source of demand from the gilt market, which combined with heavy expected gilt issuance could result in a supply/demand imbalance (Table 25). Other gilt market participants are unlikely to step in to fill the gap at current market levels and we expect 10Y yields to move higher over the year - we target the 4.40% level by the end of 2010. Throwing fiscal concerns and election risk into the mix could result in increased market volatility around the middle of the year.

Table 25: Mind the gap Expected level of gilt holdings by investor type in 2010*; JPMorgan projections

Amt, £bn ProportionBanks + building soc 49 5%BoE 195 20%PF + Incos 235 25%Foreign CB 50 5%Foreign other 58 6%Other Financial 173 18%

Total 761 79%Gilt market end 2010 960 100%Gap** 199 21%

2010

* based on projection that size of gilt market by end of 2010 is £960bn ** Gap = Estimated gilt market size – projected demand Source for all tables and charts: J.P. Morgan

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European Equity Derivatives Strategy Outlook* Global Head Equity Derivatives And Delta One Strategy Marko Kolanovic (44-20) 7325-6935 [email protected]

J.P. Morgan Securities Inc.

European Equity Derivatives Strategy Adam Rudd, CFA AC (44-20) 7325-6935 [email protected]

Bram Kaplan (44-20) 7325-8183 [email protected]


In 2009 we witnessed the largest decline of market volatility since the end of the Great Depression. This decline was the mirror image of an equally large increase in volatility in 2008 (Figure 47).

Figure 47: Market Volatility and US Recessions 6-M Realized S&P 500 volatility since 1870

0%

10%

20%

30%

40%

50%

60%

70%

80%

1872 1891 1911 1930 1950 1970 1989 2009

Source: J.P. Morgan Equity Derivatives Strategy.

Our base case forecast is that the volatility of global equity indices in 2010 will marginally decline relative to the volatility realised in the second half of 2009. Our expectation is that the average realised volatility of the S&P 500 in 2010 will stay in a ~15-20% range, with similar levels expected for major European indices.

* In the United States, this information is available only to persons who have received the proper option risk disclosure documents. Please contact your J.P. Morgan representative or visit the Option Clearing Corporation’s website: http://www.optionsclearing.com/publications/risks/riskstoc.pdf

A key risk to our base case is posed by an increase in volatility related to an abrupt end of quantitative easing and a potential increase of interest rates. These changes could cause a volatile adjustment of prices for assets that have been supported by central banks’ programs or by speculators taking advantage of record-low dollar financing rates.

A lesser risk, in our view, is a complete relapse of growth and a double dip recession scenario. This scenario would materialize if governments and central banks fail to provide adequate support despite the signs of a weakening economy. A double dip recession would likely cause large sell-offs of equities and cause realized volatility to increase to a 30-40% range.

The market price of volatility (implied volatility) is usually different from actual market realized volatility. Therefore one needs to forecast not merely realised volatility, but also the spread of implied to realised volatility that is determined by supply and demand for options. Figure 48 shows the price of 3-month S&P 500 volatility, as well as its spread over its ‘fair value’ (subsequent realised volatility) over the past 25 years. It is apparent that implied volatility has typically traded at a premium (3-month volatility traded at a premium 79% of the time over this period). While selling index options would have been profitable most of the time, losses incurred during the crash of ’87 and the 2008/2009 credit crisis would have caused significant and potentially devastating losses to naked sellers of volatility. Given that events of this magnitude occur relatively infrequently, the current high levels of risk aversion continue to favour systematic sellers of volatility.

Figure 48: In Addition to Realised Volatility, Investors Need to Predict Supply/Demand that Contributes to the Cost of Insurance

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http://www.optionsclearing.com/publications/risks/riskstoc.pdf

http://www.optionsclearing.com/publications/risks/riskstoc.pdf

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Dividend Futures have presented excellent opportunities for investors in 2009. Implied dividends fell to distressed levels during late 2008 and early 2009, as hedge funds and investment banks delevered. The arrival of fundamental investors in the dividend futures market happened just as equity markets began to stabilise and companies delivered earnings that were better than had originally been feared. The “pull-to-realised” effect for short-dated dividends means that a dividend futures contract is increasingly driven by fundamentals, as opposed to technicals, as it approaches expiry, and this has driven short-dated dividend futures to converge toward our fair value estimates (Figure 50). Since we published our comprehensive analysis on dividend investing (“Dividend Swaps”, 18 May 2009), Euro Stoxx 2010 dividends have rallied by 42%, compared to the Euro Stoxx itself which has rallied by 18%.

Figure 49: 2010 dividend futures have converged towards our fair value estimates, just as 2009 dividend futures had done by around March Euro Stoxx implied / estimated dividend (index points)

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110130150170190210

Nov-06 May-07 Nov-07 May-08 Nov-08 May-09 Nov-09

2009 Div idend Future2009 Div idend Estimate2010 Div idend Future2010 Div idend Estimate


We see substantial upside potential for 2011 dividend futures, and suggest that investors roll their long 2010 positions to the 2011 expiry. Based on J.P.Morgan analyst dividend-per-share estimates for the Euro Stoxx 50 constituents, the aggregated dividend expected to be paid by the index is 125 index points in 2011, offering around 23% upside from the current dividend future level (Figure 50).

Figure 50: We see 23% upside potential for 2011 dividends, and suggest that investors roll long 2010 dividends Euro Stoxx Implied / Estimated Dividend

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2009 2010 2011 2012JPM Estimate 115.8 111.8 125.3 141.7Dividend Future 115.8 106.7 102.5 101.9Upside Potential 5.2% 23.0% 39.1%

Source: J.P. Morgan Equity Derivatives Strategy. Correct at close of business 27 Nov 09.

Stock Option Strategies. Our “Rangebound” methodology has proven to be successful for selecting stocks on which to sell options in 2009. Figure 51 shows the relationship between the rangebound ranking of a stock and the subsequent profit / loss from a short 1-month at-the-money straddle (short put plus short call) position. We believe this methodology provides a useful tool for those investors call overwriting single stock positions, and complements our recommendation to own and call overwrite high (and steady) dividend yielding companies. For further details on our recommended strategies for 2010, see “Global Equity Derivatives Outlook”, 3rd December 2009.

Figure 51: Rangebound methodology has been effective in 2009 Average P/L of short 1-month straddle (as % of notional)

y = -0.0006x + 0.0225

R2 = 0.3711-5%-4%-3%-2%-1%0%1%2%3%4%

0 10 20 30 40 50 rangebound rank Source: J.P. Morgan Equity Derivatives Strategy. Data through 23-Nov-09


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Risks of common option strategies

Not all option strategies are suitable for investors; certain strategies may expose investors to significant potential losses. We have summarized the risks of selected derivative strategies. For additional risk information, please call your sales representative for a copy of "Characteristics and Risks of Standardized Options". We advise investors to consult their tax advisors and legal counsel about the tax implications of these strategies. Please also refer to option risk disclosure documents

Put Sale. Investors who sell put options will own the underlying stock if the stock price falls below the strike price of the put option. Investors, therefore, will be exposed to any decline in the stock price below the strike potentially to zero, and they will not participate in any stock appreciation if the option expires unexercised.

Call Sale. Investors who sell uncovered call options have exposure on the upside that is theoretically unlimited.

Call Overwrite or Buywrite. Investors who sell call options against a long position in the underlying stock give up any appreciation in the stock price above the strike price of the call option, and they remain exposed to the downside of the underlying stock in the return for the receipt of the option premium.

Call Purchase. Options are a decaying asset, and investors risk losing 100% of the premium paid if the stock is below the strike price of the call option.

Put Purchase. Options are a decaying asset, and investors risk losing 100% of the premium paid if the stock is above the strike price of the put option.

Straddle or Strangle. The seller of a straddle or strangle is exposed to stock increases above the call strike and stock price declines below the put strike. Since exposure on the upside is theoretically unlimited, investors who also own the stock would have limited losses should the stock rally. Covered writers are exposed to declines in the long stock position as well as any additional shares put to them should the stock decline below the strike price of the put option. Having sold a covered call option, the investor gives up all appreciation in the stock above the strike price of the call option.

Pricing Is Illustrative Only: Prices quoted in the above trade ideas are our estimate of current market levels, and are not indicative trading levels.

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Credit Strategy Outlook Stephen Dulake AC (44-20) 7325-5454 [email protected]

J.P. Morgan Securities Ltd

Adapting to Change This year, we have taken a somewhat more thematic approach to writing the outlook for the year ahead. Specifically, we believe that a number of trends have begun to emerge over the past 12 months which are permanent or quasi-permanent in nature. In a sense then, while we have written with the market outlook for the next 12 months foremost in our minds, we believe that some of the themes we discuss will likely have a longer shelf life which extends beyond 2010.

In terms of these trends: David Mackie, J.P. Morgan’s Head of Western European Economics, discusses how an end to the recession does not mark a return to normality; rather, that a significant portion of the loss in GDP seems to represent a permanent loss in the level of potential. Roberto Henriques writes how the regulatory capital reform process is likely to be the major transformational event and represents part of a wider strategy by governments in terms of creating mechanisms whereby they ultimately may no longer be forced providers of capital of last resort. This is a major structural change which will impact risk pricing across the entire bank liability structure. Gareth Davies looks at the new bank regulatory landscape from the perspective of the secured lending markets; covered bonds are set to move into the ascendancy relative to classic securitisation, where we see the costs of issuing and investing rising.

From a credit strategy perspective, we look at the impact of all of these changes on companies and what this means in terms of funding and liability management, for both large-cap investment grade businesses and the leveraged credit universe. The bottom-line is a lot more bond issuance, and on a multi-year basis. We forecast gross euro-dominated high grade Non-Financial issuance to be €200bn in 2010 and €180bn in 2011. This is about double the average run over the past decade. For euro high yield, we forecast €35bn of issuance in 2010. This would represent a record year.

We examine the future of credit derivatives and see a resumption of synthetic structured credit activity as one of the ‘wildcards’ for 2010. From a market structure perspective, we believe that most of the document and trading standards changes we have seen over the past year are done. The market is now likely to focus on further reducing systemic risk through the use of central clearing. We do not believe that clearing is the answer to all ills nor that take-up by clients will be a foregone conclusion.

From the perspective of investing in credit markets over the next 12 months, we see ourselves transitioning into a low-return environment after the exceptional gains of this year. Spreads are fairly valued and our Rates Strategy colleagues see market rates rising modestly over the coming year. We forecast high grade returns of around 3% and high yield returns of 7-8%. 2010 is, we think, an alpha year rather than a beta year for credit markets. However, low return doesn’t necessarily mean low volatility, in our view. We see the potential for risk markets to swing from pillar to post next year as market participants oscillate from fearing inflation to fearing deflation, for example. Against this backdrop, we think there’s a continued case for implementing tail hedges.

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High Conviction Trades for a Low Return World We highlight the top trades from the European Credit Research team. We group the trades under three banners: Macro and Index Trades; Industry and Single Name Trades; Tranche and Structured Credit Trades.

Macro and Index Trades • iTraxx payer spread portfolio hedge

• Long US versus Short Europe: Buy iTraxx payer sell CDX payer

Industry and Single Name Trades Industrials • Saint Gobain versus CRH relative value switch

• Sappi versus Stora relative value switch

• Lafarge versus Saint Gobain relative value trade

• Top European Chemicals shorts as M&A momentum looks set to accelerate

• Glencore versus ArcelorMittal relative value trade

Autos • Long risk Selective “280bp+” Auto Credits versus

Single-Name Underweights

• FCE versus FMCC relative value switch

Property and Pubs • Long PEPR risk

• Buy subordinated bonds of Greene King, Marston’s, M&B

Financials • HSH Nordbank: Ship it in

• Buy Hypo Real Estate Tier 1

• Long RBSG Convertible Preference Shares and UT2

Consumers • Long risk Brewers Basket Trade

• Long-short Consumer versus Non-Food Retail Basket Trade

TMT • Long risk KPN versus short TI

• Long risk ITV; short risk Bertelsmann

Structured Credit Trades • Long cash CLO AAA/first-priority tranches

• Short correlation trade: sell 10y S12 super senior protection delta-hedged

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Global FX Outlook John Normand AC (44-20) 7325-5222 [email protected]


2010: New year, new lows • The dollar will end this decade with its worst

performance since the 1970s. 2010 will mark a turning point, but not before the dollar approaches new lows versus the euro (1.62), the Swiss franc (0.91) and possibly the yen (82).

• Fed policy is partly to blame, since extreme rate environments have driven the dollar’s largest over/undershoots of the past three decades. Even though recovery is discounted and the dollar slightly cheap, cash stockpiles are enormous for this rate environment. Another $300bn in drawdown could occur, with the dollar still the chief casualty.

• This move is more than a carry trade, however. Other components of the US capital account are weak too (M&A/FDI, equity portfolio flows).

• The dollar is not yet in bubble trouble. Currency markets do not meet the usual criteria for bubbles – extreme valuation, momentum and leverage. Q1-Q2 also lacks the trigger for a reversal, namely a major downside shock to growth or upside shock to rates.

• If the Bank of Japan’s exit from QE in 2006 is any guide, this apparent stability could change in Q3 2010 as the Fed initiates its exit strategy. This policy shift should be worth a 5-10% dollar rally in H2.

• Until then, implied volatility should range between 10% and 14% (basis VXY for 3-mo implied), with spikes more likely in Q3 – Q4.

• Alpha strategies: This vol environment implies returns of 8% on carry, which is less than 2009 but still decent. Forward Carry returns will moderate from 2009’s 10%. Simple price momentum will struggle in Q3/Q4 when the dollar turns.

• Risks to the view: Corporates fail to spend; USD decline turns volatile, prompting intervention; China revalues +10%; inflation resurfaces; US mid-term elections impose fiscal discipline.

• Five global macro themes and top trades: USD will undershoot (worst-of basket on CHF, AUD, JPY); recovery is discounted but exit strategies are mispriced (GBP/CHF, AUD/NZD); the end of inflation targeting? (NZD/NOK); a CNY revaluation’s impact on G-10 FX is overstated (EUR/JPY); and long-term valuation gaps to close (EUR/SEK).

At its current pace of decline, the dollar will end this decade down 12% trade-weighted, its worst performance since Bretton Woods collapsed in the 1970s. As cold comfort, at least the 2009 bear market has been comparatively mild. The dollar has fallen only 5% trade-weighted this year and against 75% of currencies globally, compared to proper routs in the early 1970s, late 1980s and early 2000s when the dollar fell at least 8% and sometimes versus all currencies (Figure 52).

Figure 52: Ranking USD bear markets: annual change in trade-weighted USD vs percentage of currencies against which USD rose Based on annual spot movements of G-10 and emerging market currencies vs USD

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Naturally some think that the new year brings an inflection point, particularly since the dollar has become slightly cheap (4% trade-weighted on J.P.Morgan’s fair value model12). The dollar will turn in 2010, but not before nearing all-time lows trade-weighted and surpassing old lows versus the euro, Swiss franc and possibly the yen. The Fed’s rate stance drives part of this move, but reducing the dollar to a carry trade ignores much of the story. The US’s capital account leaks on several sides (direct investment, portfolio equity) such that Fed policy may not drive a sustained reversal unless the FOMC proves uncharacteristically aggressive – or disruptive – with its exit strategy.

We extend the trough in USD weakness from Q1 2010 to Q2 and move targets to 1.62 on EUR/USD, 82 on USD/JPY, 0.91 on USD/CHF and 1.02 on AUD/USD. GBP/USD will benefit from EUR/USD’s rise (peak at 1.74 in June), but underperform due to EUR/GBP rally to 0.94. These projections are more bearish than the USD lows we published this summer when we expected EUR/USD to peak at 1.50 and USD/JPY to trough at 89, 12 J.P.Morgan’s fair value framework is detailed in A new fair-value model for G-10 currencies, de Kock, September 6, 2008 and updated quarterly in World Financial Markets.

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but three issues have arisen since then. The Fed is proving more comfortable with a zero rate environment than almost every other G-10 or emerging market central bank but the Bank of England; cash positions (domestic and cross-border) remain too high for the 2010 interest rate environment; and reserve diversification has accelerated to a record pace. Although the structural arguments for a dollar collapse (even crisis) are less credible than the alarmists claim, cyclical dynamics are powerful enough to drive this overshoot of fair value, much like the late 1980s and in 2007/early 2008.

Since this move will occur within a low-inflation expansion, implied volatility should range between 10% and 14% (basis J.P.Morgan’s VXY13 for 3-mo implied vol). Spike risk centers on late Q2/early Q3 when the Fed begins implementing policy to reduce extraordinary liquidity, such as altering the FOMC statement or undertaking repo operations, even though rates are on hold until 2011. The Bank of Japan’s experience in 2006 highlights that exits from quantitative easing inject considerable uncertainty, even when rate hikes are small or distant. This volatility environment implies that alpha strategies such as carry will perform worse than in 2009 (predicted returns of 7% in 2010 vs 20% in 2009) but still benefit from the rise in cash rates in the current high-yielders. Forward carry (trading on rate momentum) also should perform worse in 2010(returns of 10%) but still gain. Price momentum will struggle in H2 when the dollar turns again.

The 2010 Outlook details these issues in six sections:

• global FX outlook outlining the case for a dollar overshoot, five global investment themes and the five most compelling strategic trades;

• measures of the global FX carry trade based on public and proprietary data;

• a macro model for implied volatility and projections for 2010 based on growth surprises, central bank surprises and investor leverage.

• long-term technical outlook for G-10 and emerging markets currencies;

• research notes on the major currencies and recommended strategic (12-month) trades/hedges; and

• hedging strategies for three tail risks over the next year–inflation surprise, a US funding crisis and US mid-term elections.

13 See Introducing J.P.Morgan’s VXYTM & EM-VXYTM, Normand and Sandilya, December 2006.

The bearish case: it’s more than carry Judging from market patter over the past several months, the dollar’s decline simply reflects a burgeoning, even bubble-like, carry trade. This statement is a half-truth. Shorts in low-yield currencies have revived as they always do post-recession, but exposure has climbed to only half its pre- Lehman size when measured across the range of investor-types such as dedicated currency managers, global macro hedge funds, CTAs, Japanese retail and US retail (see Global FX Carry Trade Tracker on pages 12-13).14 Balance of payments data on short-term capital flows (US T-bills, deposits and commercial paper) also suggests that dollar selling this year has been substantial but has not fully unwound crisis-related dollar buying. As markets turned in Q2, the US posted $90bn of net short-term capital outflows, an amount equivalent to a quarter of the $360bn of inflows from January 2008 to March 2009 as the credit crisis unfolded (Figure 53). More recent data are unavailable, but judging from other cash indicators which correlate well with balance of payments data (see Figure 59), it is unlikely that more than half of 2008’s inflows have been reversed.

Figure 53: Short-term capital flows: Most USD buying from the credit crisis has not been reversed Net short-term capital flows (T-bills, CDs and commercial paper) on a quarterly basis and as a four quarter rolling sum

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14 Several weekly and daily indicators for tracking the carry trade’s size and ownership are detailed in Keeping up with the Watanabes: Who drives the carry trade post-crisis?, Normand, May 15, 2009.

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Figure 54: Foreign direct investment: Stronger US corporate profits have revived net FDI outflows S&P500 corporate profits growth year-on-year versus US net FDI flows. FDI shown as four quarter rolling sum. Dotted line shows J.P.Morgan projections based on JPM earnings forecasts and the historical relationship between profits and net FDI.

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Other components of the US capital account are outright negative, or less dollar-positive than headline figures suggest. For example net FDI flows, which have been negative for most of the past decade, are deteriorating again. This development is cyclical: US corporates become more acquisitive internationally as profit growth improves, and this recovery is proving no different from previous ones (Figure 54). Indeed, the pipeline of pending cross-border M&A deals (announced but not completed) now stands at -$40bn for the US compared to net inflows for the Euro area ($60bn), Australia ($20bn) and UK ($10bn)

One hopeful spot is net equity inflows, but foreign buying is less dollar-bullish than it appears. Unlike the drain in equity capital that accompanied much of the 2002-2007 expansion, the US is now attracting equity portfolio flows on a net basis. Net purchases are high outright ($9bn per month) and relative to Japan (¥300bn or $3.3bn per month), but only a third of the €20bn ($30bn) per month which the Euro area gathers. Hence the negative correlation between equity movement and the dollar: the US attracts less global capital than other countries, even though flows are positive.

Central banks remain significant buyers of dollars but there is mounting circumstantial evidence that they are hedging their bets. Net official purchases of US securities run at roughly $50bn per month, which is high relative to the US’s trade deficit (roughly $30bn per month) but low compared to the nearly $100bn of forex reserves that emerging market central banks have been accruing monthly since June due to intervention (Figure 56).15 The difference suggests reserve diversification, which now runs at a record pace (see Reserve diversification is back, FX Markets Weekly, Sept 18, 2009).

If this story sounds familiar, it should. Similar capital account strains appeared after the 2001 recession when the dollar was cyclically weak due to low rates and structurally weak due to the current account’s size and its financing mix. Since little has changed since 2001 – except that the US current account deficit has dropped by half – dollar bearish during a recovery was the obvious view. Expensive, low-yield assets of debtor countries should typically fall in that environment either through carry trades or the hedging of long-term capital inflows. The greater challenge in 2009 was pegging the timing and strength of the recovery.

2010 dilemma: recovery discounted, USD cheap but cash piles enormous The 2010 outlook is more challenging for two reasons: recovery is mostly discounted, and the dollar is already slightly cheap. The average investor expects US growth of 2.8% over the next four quarters, up significantly from the 0.5% expected six months ago. Forecasts for other economies have risen significantly too and now stand at 1.2% for the Euro area, 1.4% for Japan, 5% for Emerging Asia and 3.5% for Latin America. In theory a further dollar decline should require another few quarters of upside growth surprises, since changes to growth expectations have been positively correlated with stock prices and negatively correlated with the dollar this decade (Figure 57 and Figure 58).

15 This figure controls for the valuation effect on reserve from a weaker dollar. We assume that central banks hold a roughly 25% allocation to euros, per the IMF’s COFER estimates.

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Figure 55: The US’s net equity flows are weaker than Euro area’s but stronger than Japan Net equity inflows, 3-month moving average

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Figure 56: Global reserve accumulation vs foreign official purchases of US securities, $bn, 3-month moving average basis Global reserves calculated as sum for 15 emerging markets with reserves greater than $50bn, plus G-10 central banks which intervene (Japan, Australia, Norway and Switzerland). Foreign official purchases is sum of weekly Fed custody holdings of Treasuries, bills and Agencies plus TIC-reported holdings of corporate bonds, equities and short-term USD deposits.

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That move could occur next year because consensus forecasts are still low relative to the growth economies typically achieve in the first year of a recovery.16

In practice, the bar for dollar depreciation isn’t so high that it requires a growth upgrade. The reason is evidence of a still-sizable cash overweight. By now the market impact of excess liquidity is well accepted; the only disagreement centres on whether this process is natural and positive, or engineered and sinister. Central bankers call the move from cash to financial assets a “transmission mechanism” or “asset reflation” that stimulates growth through lower borrowing costs and

16 The first year of recovery brings growth twice the pace of the decline, implying that the US should be expanding by at least 6% in 2010. So while J.P.Morgan’s projections are more bullish than the consensus, they are more bearish than the historical norm.

positive wealth effects. Many investors characterise the switch more cynically as the wall of money, as if the move is inexorable but also irrational. It is neither. The flow continues as long as the growth and policy environment are stable, but not if they worsen. And the move is rational because investors tend to seek assets offering the highest risk-adjusted return. During a recovery, this asset is not cash, nor a low-yield currency of a debtor country.

The critical issues for 2010 are (1) what is the appropriate cash allocation, and (2) can benign asset reflation become a destabilising bubble. Figure 59 plots the two concepts of cash relevant for the dollar – one cross-border and one domestic. The cross-border series tracks US net short-term capital flows from the balance of payments, comprising T-bills, certificates of deposit and commercial paper (same series as Figure 53). Short-term capital inflows should rise if central banks are buying US assets for reserve accumulation, if investors buy dollars during a rising rate environment or if investors accumulate dollars during a financial crisis due to short-covering or flight to liquidity. The domestic series represents US household balances in retail money market funds, demand deposits or checkable deposits.

The two series ran counter to one another after the 2001 recession because recovery pushed funds from money markets into stocks (particularly international ones) and credit, while central banks purchased short-term USD assets as part of their intervention policy. The two cash measures converged during the crisis, reflecting the domestic switch from stocks and credit into US cash, US investor repatriation of non-US investments and foreign demand for dollars as flight to liquidity. Short-term capital inflows totalled $360bn from 2008 Q1 through 2009 Q1 while US household cash holdings rose by roughly $250bn over the same period. Note that the figures are not additive, since some of the household cash increase probably reflected repatriation of foreign equity investments.

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Figure 57: Each percentage point increase in the consensus view on US growth generates a 10% move in stocks… Monthly change in consensus forecasts on US growth vs monthly returns on the S&P500. Consensus projections based on monthly Blue Chip survey

y = 11.36x + 0.01R2 = 0.54

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Figure 58: …and -2.5% on USD trade-weighted Monthly change in consensus forecasts on US growth vs monthly returns on USD.

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Figure 59: Cross-border and domestic cash holdings of dollar still look too high relative to the rate environment USD billion, cumulative figures since January 1999 (starting point chosen by data availability). Short-term capital flow data from US balance of payments data. US money market and demand deposit data from Federal Reserve.

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Nine months into the dollar’s decline, cash liquidations are very advanced relative to their pre-Lehman levels, but balances are still too high for a zero-rate environment. US household cash has fallen by $250bn this year, mostly to fund bond purchases. (US retail has purchased $160bn of bonds, $65bn of credit but sold $21bn of equities year-to-date). This is the fastest pace of cash liquidations post-recession in the past forty years (Figure 60), and more than reverses the cash hoarding which Lehman’s bankruptcy inspired. But Lehman is the wrong anchor. Because household cash balances track money market rates with a lag, and since the funds rate is 200bp lower than it was in September 2008, cash balances should fall well below pre-Lehman levels. If the historical beta between cash balances and money market rates holds, another $300bn could flow into asset markets over the next year (Figure 61). Flows into US stocks would be dollar-neutral, but those into international equities, higher-yielding government bond markets (particularly emerging markets) or pure currency allocations (ETFs) obviously would be USD negative.

The path of cross-border short-term capital flows is harder to predict because they do not track the funds rate nor US vs rest-of-the-world spreads tightly. This disconnect reflects the offsetting sources of dollar demand in a low-rate environment: private investors sell USD to fund non-US investments, but official investors recycle some of these flows into US T-bills and deposits as part of their intervention practices. As a baseline we assume that the full amount which entered post-Lehman ($360bn) will be unwound. Only $90 was liquidated in Q2. Q3 data are not yet available but the correlation between US household cash and balance of payments flows (Figure 59) suggests that the process has another two quarters and tens of billions left to run.

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Calibrating an undershoot Projecting how far the dollar could fall in this environment requires calibrating an undershoot, since the dollar’s long-term drivers have not worsened materially. Short-term cyclicals drive this move. Our long-term fair value model based on some of the standard, quarterly variables – current account, net investment income, debt-to-GDP levels and inflation – suggests that the dollar is only 3% cheap in trade-weighted terms (Figure 62), even though it has fallen 15 % trade weighted since March.17. This aggregate valuation reflects offsets from an expensive euro (+6%) and yen (+10%) versus cheap sterling (-14%) and fairly-valued commodity currencies. Purchasing power parity approaches suggest that the dollar is much cheaper (7% below its long-term average) but pure price-based approaches to valuing currencies are flawed for reasons which are well-known: if an economy’s structure evolves over time, the real exchange rate will trend rather than mean-revert.

Figure 60: US retail cash positions have dropped this year more rapidly than after any recession of the past three decades x-axis shows number of months before and after the recession ends, with zero marking the last month of NBER-dated recessions. Y-axis shows US retail holdings of demand deposits, other checking accounts and money market funds indexed to 100 at t=0 (end of recession). Current series assume the 2008-09 recession ended Jun 2009.

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17 The same argument applies to credit and equities: markets are not expensive because they have experienced an unprecedented rally from their lows. Valuation must be judged relative to a market’s long-term drivers. For example, high-yield credit has rallied 1100bp from its wides in December 2008 but is still cheap since current spreads (750bp) overcompensate for the 4% default rate like this year. Equities are fairly valued despite a 65% rally from their March lows, since 2009 delivered earnings of $62 on an end-recession P/E of 16.5 implies an S&P target of 1010.

Figure 61: US household cash tracks Fed funds with a lag US household cash calculated as sum of retail money market funds, demand deposits and other checkable deposits (USD bn) plotted against Fed funds rate lagged one year.

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1800

1900

2000

00 01 02 03 04 05 06 07 08 09 100%

1%

2%

3%

4%

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6%

7%US household cash, $bn, lhs

Fed funds rate lagged 1yr, rhs

Source: J.P.Morgan

Deviations around fair value occur in every asset market. In FX they resurface each decade. Their duration is quite variable and they sometime bear no link the US business cycle. But they do share one commonality: overshoots tend to occur as a lagged response to an extreme policy environment (Figure 63). In the mid-1980s the dollar’s overvaluation reached 20% due to record interest rates under Volcker and record fiscal deficits under Reagan. In the late 1980s, the dollar’s undervaluation reached 7% following the three–year easing cycle which accompanied Plaza Accord intervention. In 2001 the dollar’s overvaluation reached 10% as a lagged response to the US rate advantage that persisted until that year. In 2004 the dollar undershot fair value by some 5% as the funds rate hit 1%. The extension of that move to 12% cheapness in 2008 occurred alongside unilateral Fed easing.

Given the historical experience, 2010 looks like a year of unfinished business as the dollar contends with the lagged effects of an extreme rate environment. True, the dollar’s current yield deficit versus the rest of the world (-1% as a weighted average) has closed from the -3% extreme of late 2008. But with two central banks having tightened in 2009 (RBA, Norges Bank), others to follow in 2010 (most emerging markets) and some to simply turn more hawkish (ECB), the rate deficit will widen over the next year. This environment could produce an overshoot as large as the typical ones, which delivered a dollar 10% cheap to fair value in trade-weighted terms, some 7% weaker than current levels. Normally such a move should be spread equally across the US’s major trading partners, but emerging market intervention and subsequent reserve diversification shifts more of the adjustment to G-10 currencies. For simplicity we assume G-10 currencies will appreciate roughly 8% by Q2 to 1.62 on EUR/USD, 82 for USD/JPY, 1.74 on GBP/USD, 1.02 on AUD/USD and 0.99 on USD/CAD.

57



USD reversal in Q3: The Fed’s graceless exit from QE may mirror the Bank of Japan’s in 2006 If extreme rate environments drive overshoots around fair value, then normalisation should drive a reversal. That normalisation could come in late Q2/early Q3 as the Fed begins to exit from exceptionally low levels of policy through some combination of FOMC statement changes and repo operations to reduce excess reserves. Rate hikes should wait in 2010, but that patience does not guarantee tranquil markets or a trend dollar decline through end-2010. The resulting rise in volatility against a backdrop of much larger dollar shorts could easily drive the dollar some 5-10% higher in Q3 and Q4. Indeed, the experience of Japan set the precedent for a messy, albeit brief, QE exit. Ahead of its first interest rate hike in mid-2006, the Bank of Japan began reducing commercial banks’ target for current account balances (excess reserves) from a record ¥35trillion. Although the BoJ had been explicit in stating that QE would end when Japan emerged from deflation – a notable contrast to the Fed and Bank of England’s vagueness – the liquidity withdrawal nonetheless sparked a 9% drop in USD/JPY and a 2 point rise in implied volatility in 2006 Q2 as short yen positions were covered (Figure 64 and Figure 65). Those moves reversed within three months, but the analogy to dollar-funded carry by the time the Fed begins to withdraw liquidity next year should be obvious. Despite the best efforts at transparency and signaling, the Fed’s exit is unlikely to be entirely graceful.

Figure 62: USD real effective exchange rate: Actual vs predicted Predicted value based on J.P.Morgan estimates as outlined in A new fair-value model for G-10 currencies, de Kock, September 6, 2008.

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actual fair value

Source: J.P.Morgan

Figure 63: USD deviations from fair value have corresponded to policy extremes of very tight or very loose Fed policy vs the rest of the world USD deviations from fair value (positive indicates overvaluation) versus spread between Fed funds rate and policy rates in the rest of the G-10 (weighted average).

-25%

-15%

-5%

5%

15%

25%

80 84 88 92 96 00 04 08-8%

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-4%

-2%

0%

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Fed funds spread to G-10 cash rates,lagged 1 year

Source: J.P.Morgan

Three misconceptions about the dollar Dollar bulls will counter that an undershoot is unlikely due to three constraints: most investors are extremely bearish, and therefore short; currency markets are experiencing an unsustainable bubble which will soon be punctured; and new lows on the dollar will motivate G-3 intervention. Each is a misconception. We address each in turn.

1. Everyone is bearish and therefore short. By the usual cover story test – a trend reverses once it becomes a cover story in the popular press – the dollar’s decline should have ended this fall. But despite the bearish dollar patter, there is little evidence that views are so extreme or positions so short that they should impede the current bear trend. Consensus expectations are, in fact, dollar-bullish, with end-2010 forecasts of 1.45 on EUR/USD, 98 on USD/JPY, 1.64 on GBP/USD, 0.88 on AUD/USD and 1.06 on USD/CAD. Even amongst the emerging market currencies, the only consensus bearish USD call comes against Emerging Asia (Figure 66). Being non-consensus in this instance is no great shame, since the average forecaster has been too conservative in anticipating USD weakness, even when they correctly predicted the dollar decline (Figure 67). This conservatism usually corresponds to positions, which is why many of the indicators tracked continue to evidence modest carry – and by extension short USD – exposure.

58



2. Currencies are in bubble trouble. Related to the fear of excessive USD bearishness and USD shorts is the characterisation that currency markets are experiencing a speculative bubble. The label has been applied to almost every asset market this year except housing, since equities, credit, some commodities and most high-yield currencies have posted unprecedented gains since March. Identifying asset bubbles ex ante is, of course, impossible. Many marketsexhibit tremendous price rises, but the only ones which earn the label of a bubble are those which crashed (Japanese real estate in the last 1980s, internet stocks in the late 1990s, housing in the 2000s). Thus we can only distinguish bubbles from more ordinary bull markets ex post.

Markets that crashed shared three characteristics, however: extreme valuation, extraordinary momentum and high leverage. 18 Applying this scratch test to currencies, the dollar flunks all sections. As noted earlier, the dollar is cheap, but far from the extremes of 10% - 15% undervaluation (Figure 62 and Figure 63). Short dollar/long carry positions have risen quickly but only to about half their pre-Lehman levels. And price momentum, measured as rolling 12-month returns, are far from the -10%to -15% annual moves which have marked turning points in the past (Figure 68). By Q2 2009 this scratch test could yield a different judgment, but for now, the currencies look like most other asset markets – heady but hardly bubble-like.

3. G-3 central banks would intervene at new lows for the dollar. Intervention is standard practice for many emerging markets central banks and some G-10 banks (SNB, RBA). The intervention which drives the USD trend, however, requires the Treasury, Bank of Japan and ECB. Our view on intervention during this dollar decline is the same as our view during the dollar’s 2008 rise: G-3 central banks will not intervene in currency markets unless FX moves raise volatility and drive other asset markets lower. The rationale is simple: G-3 policymakers know that intervention’s impact is fleeting without a sea change in monetary policy, such as Fed hikes. Japan also faces considerable domestic opposition to further USD accumulation.

18 See Are alternatives the next bubble?, Loeys, September 2006.

Figure 64: The end of Japanese QE in Q1 2006 prompted a spike in USD/JPY volatility… Commercial banks current account balances with Bank of Japan versus USD/JPY 3-mo implied vol

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BoJ reduces reserve balance targets

Source: J.P. Morgan

Figure 65: …and a liquidation of yen-funded carry IMM net speculative positions in JPY vs USD/JPY spot

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Source: J.P. Morgan

Figure 66: Consensus expectations for currency movements versus USD over the next 12 months %, positive (negative) indicates that the consensus expects foreign currency to appreciate (depreciate) versus the dollar by end-2010.

-9%

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NOK

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EUR

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AUD

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KRW IDR

TWD

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INR

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ZAR

Source: J.P. Morgan, Bloomberg

59



Where are we wrong? The most significant risks to the bearish view are the following:

1. Corporates fail to spend bumper profits, leading to a growth slowdown in early 2010. The dollar would appreciate as carry/cyclical trades are unwound.

2. The dollar’s decline becomes volatile, possibly due to a US financing issue next year. The dollar would rise versus the high-yield currencies and commodity currencies given the increase in volatility. The dollar would probably fall versus the euro and Swiss franc since the underlying cause of the move is a US sovereign risk issue. Eventually such a move could prompt G-3 intervention, but not before the dollar posts a sizable H1 fall.

3. A significant upturn in inflation. The consensus expect global inflation to turn higher in 2010, but to only 1.9% in the US and 1% in Europe. Dollar weakness and resulting commodity price strength render that projection a moving target, however, while the long-standing anxieties around fiscal policy and exit strategies raise questions about how much inflation expectations can or should decline. Whether inflation rises gradually (a low-volatility event) or abruptly (a high-volatility event) drives the feedback to currencies as the CPI trend evolves.

4. China surprises with a +10% one-off revaluation of the yuan. The immediate reaction would be a lower euro, since a stronger yuan would reduce China’s buying of non-USD assets as part of its reserve diversification. We suspect that such a policy move would be a low-probability event given China’s skepticism about the global recovery and its lack of meaningful inflation. We continue to expect the yuan to appreciate next year (forecast: USD/CNY at 6.58 by December 2010), but that baseline move is too modest and gradual to impact the euro. Only a significant- step-wise appreciation (10% or more) would impact EUR/USD.

5. A divided USD government after mid-term elections. Politics is rarely a consistent G-10 FX influence, but when fiscal policy is a central issue, elections assume greater importance. US mid-term elections in November could result in a divided Congress, which may then result in more conservative fiscal policy in 2011. Coming at a time when expectations of Fed tightening are building, this electoral outcome could aid the dollar’s rebound late in the year. See Risk scenario 3 .

Figure 67: Forecast errors: the consensus has been too conservative in forecasting USD weakness this decade Consensus error on G-10 and emerging market FX forecasts vs USD, where error is calculated as difference between actual rate and forecast r ate over horizons of one quarter to two years. A positive (negative) value indicates that the consensus underestimated (overestimated) foreign currency strength vs USD.

0%

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10%

12%

Current qtr 1 qtr ahead 2 qtrs ahead 1 yr ahead 2 yrs ahead

G-10 FX EM FX

Source: J.P. Morgan

Figure 68: Bubble test for excess momentum: USD’s move this year has not been excessive by historical measure Annual returns on trade-weighted dollar and 2-sigma bands

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30%

70 75 80 85 90 95 00 05

average plus 2 sigmas

average minus 2 sigmas

Source: J.P. Morgan

We are not worried about premature tightening, or a more meaningful shift to asset price targeting in the G-3 central banks that control global liquidity. Many smaller central banks already have cited asset price inflation as motivations for recent tightening, and the ECB has always expressed more concern about excess liquidity than the Fed. Even the most hawkish central banks, however, will avoid setting policy next year with asset prices in mind because few markets exhibit extreme overvaluation. Their comfort level may change in 2011 if price trends continue at the 2009 pace.

60



European Accounting Outlook Crunch time for convergence of standards During 2010, both the International Accounting Standards Board (IASB) and US Financial Accounting Standards Board (FASB) are committed to producing complete sets of new rules on accounting for financial instruments. This will be an important test of the effort to converge IFRS and US GAAP, prior to the proposed US adoption of IFRS. The SEC's "roadmap" for adopting IFRS requires a decision in 2011, but we think the likely direction may become clear during 2010. If the SEC decides to go ahead, large US listed companies may be required to adopt IFRS as early as 2014.

The IASB issued the first part of its new standard on financial instrument accounting (IFRS 9) in November 2009, which covered the classification and measurement of financial instruments. At present, EU listed companies are not permitted to adopt these rules as the EU has not yet endorsed the new standard. However, if the EU endorses IFRS 9 in 2010, companies will have a choice between the existing IAS 39 rules or the new IFRS 9 rules until 2013, when IFRS 9 becomes mandatory. If the EU proceeds with endorsement and European companies elect to early adopt IFRS 9, comparability of company results in the banks and insurance sectors may be reduced. The new rules abolish the "available for sale" category of financial instruments and in our opinion will probably result in greater use of amortised cost accounting (giving more stable, but arguably less relevant, balance sheet values). IFRS 9 also changes the accounting for some equity investments, such that only dividend income will be reported in the P&L and all other gains and losses (including realised gains/losses on sale) will be excluded from net income. This may influence company behaviour, for example it may encourage some companies to purchase higher-yielding equities or hold them over dividend payment dates.

IASB work plan The IASB also has a packed work plan of other projects which need to be substantially progressed during 2010 prior to publication of new standards in H1 2011. We expect more press and analyst comments about the potential impact of these accounting changes as the projects develop. These include:

• Lease accounting: The IASB is likely to require all leases to be reported on balance sheet, whereas current accounting rules treat operating leases as off-balance sheet liabilities. Impacted sectors may include hotels/leisure, retail, property, and airlines.

• Revenue recognition: New guidance may affect the way that long-term contracts or bundled goods and services are accounted for. Impacted sectors may include construction, industrials, oil services, and technology.

• Insurance accounting: The IASB is considering many changes to insurance accounting as the proposed new standard would, for the first time, provide comprehensive guidance on how IFRS reporting companies should account for insurance liabilities. One significant proposal is that deferred acquisition costs (DAC) would have to be immediately expensed rather than capitalised.

• Pensions: The IASB is expected to abolish the “corridor rule” which allows companies to smooth pension deficit recognition, often resulting in off-balance sheet liabilities. Impacted sectors may include airlines, autos, industrials, and banks, although pension deficits affect specific companies in many sectors.

Accounting & Valuation - Europe

Sarah Deans AC



Accounting & Valuation - US Dane Mott (1-212) 622 1443 [email protected]

J.P. Morgan Securities Inc.

Flagship reports • Accounting Issues: An updated Q&A

Guide to Financial Instrument Accounting After the Credit Crunch, 12 Aug 09

• Replacement of IAS 39: New rules on financial asset classification and measurement issued, 12 Nov 09

• Deferred tax and tax losses: A short guide and bank sector case study, 04 Nov 09

• Banks' Fair Values: Review of Financial Instrument Disclosures, 29 May 09

61



New standards in 2010 The IASB will issue a new finalised rule on Joint Venture accounting, expected in Q1 2010, which will require companies to use equity method (associate) accounting for joint venture entities, rather than the current choice of equity accounting or proportionate consolidation. Although the new rule is unlikely to be mandatory until 2011 or 2012, we expect companies which currently use proportionate consolidation to start to switch over to the equity method once the new rule is published. This will affect sales, EBITDA, operating margins, net debt, and reported cash flow of companies which currently use proportionate consolidation (eg in the telecoms sector).

Finally, new rules on M&A accounting (IFRS 3 revised) become mandatory in 2010. These rules affect the accounting for deal-related costs, contingent consideration, step acquisitions, and purchase or sale of minority interests.

Other issues We also expect that corporate pension exposure will remain in the headlines during 2010, particularly in the UK. Although asset values have recovered during 2009, many companies are likely to report higher pension deficits at the end of 2009 compared to the end of 2008, mainly due to lower (AA bond yield) discount rates. We expect companies to continue to cut back pension benefits and address pension deficits through various methods.

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63



Sector Overviews Autos .....................................................................64 Banks.....................................................................65 Beverages .............................................................66 Building Materials.................................................67 Capital Goods .......................................................68 Chemicals..............................................................69 Communications Equipment ...............................70 Food & Food Manufacture ...................................71 Food Retailing.......................................................72 Home and Personal Care .....................................73 Insurance...............................................................74 Luxury & Sporting Goods....................................75 Media .....................................................................76 Oil Services & Equipment ....................................77 Pharmaceuticals ...................................................78 Property.................................................................79 Semiconductors ...................................................80 Steel .......................................................................81 Telecom Services .................................................82 Tobacco.................................................................83 Transport and Logistics.......................................84 Utilities...................................................................85

Unless otherwise stated, legal entity for all authors is J.P. Morgan Securities Ltd.

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64



Autos Prefer Luxury, US mass market exposure What is different now? • Liquidity is no longer a concern for European autos, but structurally little has

changed (i.e. no M&A, no significant capacity reductions in Europe); the situation is very different in the US, where we expect Detroit 3 capacity to decline by 1/3 by 2011, significantly improving medium-term profitability prospects in that market.

• After a year of relative strength (WE SAAR of ~13.5MM), we estimate WE volumes are poised to decline 8-10%, following the expiry/reduction of scrappage incentives; it could be difficult for mass market stocks to outperform when volumes decline; there is less noise in the US (payback from scrappage over); global luxury demand (which has not benefited from scrappage schemes) has shown signs of modest recovery in 2H09.

• Strong mass market retail volumes in 2009 supported prices in Europe; it is unclear if this will continue in 2010 as volumes decline; we think mass market OEMs (Fiat, PSA) are most at risk if pricing weakens.

2010 Roadmap • Volume outlook: we expect US SAAR to continue to increase gradually through

2010 (2009E: 10.5MM), Europe SAAR could experience strong declines in 1H10 (2009E: 13.5MM) before potentially recovering in 2H10.

• Any resilience in consumer demand (post scrappage schemes) could be a positive driver for stocks (expect visibility on this in 2Q10).

• We expect a bumpy earnings trend in 2010 – strong 1Q, weak 2Q (as production curtailed on scrappage demand payback) before a potential recovery in 2H10. 2010 earnings are still likely to be depressed; hence investors are likely to remain focused on 2010 EV/Sales multiples.

• 2009 Auto stock performance has been dictated by the rebound from trough multiples, improving cash flows/liquidity (thus lowering chances for equity dilution); 2010 stock performance is likely to depend on underlying consumer demand (post scrappage schemes).

How to position for 2010 and beyond We think, with the exception of the US, most geographies could see mass market volumes weaken near-term (esp. in 1H10) and therefore we continue to prefer luxury during this period, and prefer US exposure over other geographies (RNO (€32.2) over other mass market names). In our view, Daimler offers the best investment case on valuation, near-term earnings momentum and recovery in truck end-markets. We see the greatest potential downside in Fiat, given the lack of near-term positive catalysts (weak volumes post scrappage schemes, weak end-markets for CNH/Iveco, Chrysler recovery already priced in at US SAAR of 15MM, EBIT margins of 5-6%).

Top pick and stock to avoid Mkt cap P/E (x) EPS (LC) Div yield ROE Price Currency Rating bn 09E 10E 09E 10E 09E % 09E % Top pick Daimler AG 33.78 € OW 34.7 NM 25.5 -1.63 1.33 1.8 -4.7 Stock to avoid Fiat S.p.A 9.83 € N 10.4 NM 22.4 -0.02 0.44 0.0 -5.2 Source: Bloomberg prices as on COB 30th November, 2009, J.P. Morgan estimates.

Autos

Ranjit A Unnithan AC


Flagship reports • European Autos: Probing 2010 street

expectations, 16 Oct 09 • European Autos: Capacity Utilisation-

Structural Shift in NA; VW, Fiat to benefit, 28 Sep 09

YTD price performance vs MSCI Europe

405060708090

100110120130140

31/12/2008 28/02/2009 30/04/2009 30/06/2009 31/08/2009 31/10/2009

Autos MSCI Europe Source: Datastream, MSCI

MSCI Performance table 2wk 3mth YTD MSCI Autos -8.6% -2.5% 10.3% Weight in Europe 1.9% MSCI total market cap (US$bn) 129 Consensus 2009 P/E ratio - Consensus 2010 P/E ratio 22.0 Consensus 2011 P/E ratio 10.2 Fwd D/Y 1.5%

Source: Datastream, IBES, MSCI Prices and valuations as at 30 November 2009

65



Banks Preference for Credit Banks over IBs retained What is different now? The credit crisis is over with the perfect banking environment created by central banks – pumping in liquidity at close to zero interest rates leading to cheap financing for banks and dampening corporate bankruptcy volumes. The top-down backdrop has lead to the conclusion of phase I of the crisis – no more systemic banking risk: hence, valuation has moved from 0.6x to 1x tangible BV as the new ‘floor value’ for even the most distressed banks. Currently the focus is on phase II of the crisis – capital deficiencies: new expected capital requirements and shareholder demands of higher ‘core’ capital ratios estimated at 8% by 2011E in our view lead us to expect an additional $65bn of capital raisings plus RBS to replace government B shares and exit APS would require $50bn alone. Despite the headwind of capital supply coming into the market, we expect banks to perform well in 1H2010 with the backdrop of a perfect interest rate environment.

2010 Roadmap With our constructive top-down outlook for banks, within the banks we continue to retain our preference for credit geared banks over IBs. The rationale is our focus on moving from mark-to-market credit asset (i.e. IB exposure) to accrual exposures. We believe the trigger for a re-rating of credit banks is US money centre banks leading the way in asset quality improvement by the latest 1Q10E, which will also be discounted by European credit banks in terms of normalised provision PE multiples in our view. Our portfolio is highly exposed to this improving credit scenario through all 4 top picks. In terms of regulatory curve balls, we see more headwinds within the IB sector, expecting regulators to finalize proposals in 1H2010E. Credit geared exposed banks will see more limited impact from new regulations.

How to position for 2010 and beyond We see the quantitative easing strategy by central banks as a ‘window’ for banks to rebuild capital, but this is not a long-term investment case for the banking sector with the risk of i) higher cost of equity as we expect Treasury rates to increase and ii) tightening of liquidity as central banks will likely increase rates in 2011E. We position ourselves with stocks of i) high cashflow generation with material credit exposure gearing and at the same time low P/tangible BV to limit downside risk (SocGen, UCI) and ii) high growth emerging market exposure where banks will be more immune to the long-term structural de-gearing within G7 countries (BBVA and HSBC).

Top pick and stock to avoid Mkt cap P/E (x) EPS (LC) Div yield RONAV Price Currency Rating € bn 09E 10E 09E 10E 09E % 09E % Top pick BBVA 12.5 € OW 47.0 8.7 9.4 1.44 1.33 3.5% 26.4%HSBC 7.1 £ OW 124.1 14.2 10.0 0.50 0.71 3.6% 12.7%Société Générale 46.5 € OW 34.4 53.2 11.6 0.87 4.00 3.0% 10.2%UniCredito 2.3 € OW 38.2 22.2 11.8 0.10 0.19 3.8% 10.4%Stock to avoid Nordea 72.3 Skr UW 27.8 11.4 14.8 0.61 0.47 3.1% 9.4%RBS 33.2 £ UW 32.6 NM NM -3.09 -2.58 0.0% -12.8%Source: Bloomberg, J.P. Morgan estimates. Note: Nordea EPS in €

Banks

Kian Abouhossein AC


Flagship reports • Global Investment Banks: Regulatory

Proposal Analysis: Structural IB Profitability Decline, 09 Sep 09

• Global Investment Banks: Switching preference from IBs to Credit banks on regulatory changes, 09 Sep 09

• Spanish Retail Banks: Recovery still long way off but coffers look sufficient to avoid losses; upgrading POP, SAB, BTO to N, 07 Sep 09

• UK Banks: The Return of UK Investment Banking - A Review of Capital Requirements and Profitability Outlook, 21 Jul 09

• Italian Banks: Gearing to the interest rate cycle – OW for 2010, 10 Nov 09


30

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Banks MSCI Europe Source: Datastream, MSCI

MSCI Performance table 2wk 3mth YTD MSCI Banks -7.3% -3.5% 41.0% Weight in Europe 14.5% MSCI total market cap (US$bn) 961 Consensus 2009 P/E ratio 19.8 Consensus 2010 P/E ratio 14.4 Consensus 2011 P/E ratio 9.6 Fwd D/Y 2.7%


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Beverages Still better growth and more visibility in brewing cashflows What is different now? Following large-scale transactions in 2008, ABI, Carlsberg, Heineken and Pernod Ricard all have high levels of financial leverage and are focussed on generating cashflow to pay down debt before any further distribution to equity shareholders. However we think large-scale M&A will continue with FEMSA Cerveza potentially for sale (unconfirmed press reports have suggested SABMiller and Heineken could be potential acquirers) and Diageo indicating that it would be prepared to raise debt and equity capital to acquire assets.

In the brewing sub-sector volumes are declining in most mature and some emerging markets although the pace of decline is easing. Pricing momentum continues even as input cost pressures ease and we expect a positive “inflation differential” in 2010E. Cost savings programmes and synergy capture are fuelling double-digit EBIT growth and even faster earnings growth compounded by financial de-gearing. ABI and SABMiller are now the dominant players in key beer profit pools globally. In the spirits sub-sector the worst of the de-stocking impacts on volume seen in mature and emerging markets are now behind us but pricing is still very muted and mix, except in now recovering emerging markets, is still negative. Cost cutting is a relatively limited driver of margin expansion leaving organic EBIT growth for the major players Diageo and Pernod Ricard in low single digits to FY10E.

2010 Roadmap In brewing we are looking to see whether a more positive “inflation differential” can drive further margin upside. We also think investors are continuing to underestimate the strength and longevity of brewer cashflows with costs being driven down, improving working capital management and lower sustainable capex. In spirits, given relatively low operational gearing to volume, the key driver will be how quickly pricing power (after above inflation pricing over the last 2 years) and mix improvement returns, especially in mature markets.

How to position for 2010 and beyond We see ABI (OW) as by far the most attractive stock in our universe both for 2010E and beyond with superior growth driven by synergy capture from AB, falling input costs, robust pricing in key markets (US, Brazil), rapid de-gearing and falling interest costs and volume growth in emerging markets (Brazil and China). A CY10E FCF yield of 9.4% is well ahead of comparable staples peers in Europe and US despite faster growth and less risk in our view. We see Diageo as the least attractive large cap stock with limited top line growth and tough pricing comps and cost savings only just about recovering gross margin pressures.

Top pick and stock to avoid Mkt cap P/E (x) EPS (LC) Div yield ROE Price Currency Rating bn 09E 10E 09E 10E 09E % 09E % Top pick Anheuser Busch InBev 33.2 EUR OW $80.608 19.9 13.6 2.50 3.66 0.9 N/A Stock to avoid Diageo 1025 £p N $35.203 14.3 13.5 71.52* 72.28 3.6 N/A Source: Bloomberg, J.P. Morgan estimates. * reported number for 2009A

Beverages

Mike Gibbs AC


Vanessa Lai Min (44-20) 7325-4240 [email protected]

Flagship reports • Break for the border: Scenario analysis

of a potential acquisition of Femsa Cerveza by SABMiller or Heineken, 13 Oct 09

• Brewers: Time for another round, 16 Sep 09


5060708090

100110120130140150

31/12/2008 28/02/2009 30/04/2009 30/06/2009 31/08/2009 31/10/2009

Bev erages MSCI Europe Source: Datastream, MSCI

MSCI Performance table 2wk 3mth YTD MSCI Beverages -0.3% 9.8% 34.9% Weight in Europe 2.2% MSCI total market cap (US$bn) 150 Consensus 2009 P/E ratio 16.5 Consensus 2010 P/E ratio 14.6 Consensus 2011 P/E ratio 13.0 Fwd D/Y 2.1%


67



Building Materials Expecting 2H10 recovery – European housing exposure key What is different now? With the balance sheets repaired, the credit markets beginning to open up, and most lead indicators moving in the right direction, the improvement in the economic outlook is feeding through to the outlook for the building materials sector. Recent updates from the companies we cover suggest a weak trading outlook for the remaining part of 2009, with recovery expected in the second half of 2010. 12-month trailing P/E for the building materials sector in Europe fell from 17.9 in July 2007 to 5.3 in March 2009, but has since partially recovered to 15.3 currently.

2010 Roadmap Starting in 2006, the downturn in the US housing market spread within the developed world and also to the non-housing sector. In the emerging markets, any weakness has been comparatively small and short-lived, with the exception of Eastern Europe. Even in Eastern Europe there are early signs of recovery in Poland and Russia. Lead indicators on housing, though choppy, suggest improvement. We don’t expect recovery in the non-residential sector to occur soon. In our view, the issue with the non-residential sector is not as serious as it was in the previous downturn, as the excess of supply was less than in housing, as the sector had earlier this decade been hit by the dot-com bubble bursting. The majority of the infrastructure spending due to stimulus programmes is expected to take place in 2010, but we remain cautious due to the possibility that it will just be used as a substitute for other sources of funding. In the longer term we expect cut-backs in public spending on construction due to the growing size of public sector funding deficits.

How to position for 2010 and beyond Our top pick for 2010 is Saint Gobain, with almost two-thirds of the company’s sales being driven by the European housing market. We believe the company will be the major beneficiary when the European housing market recovers, which does not seem far away, given the improving outlook for the US housing market.

Italcementi is our key Underweight recommendation. France and Italy account for 38% of its mid-cycle EBITDA and we are forecasting that cement consumption in these markets will decline further in 2010. Also, Italcementi’s exposure to high-growth emerging markets is 43%, 15 percentage points less than the average for the 7 cement companies researched by the author.

Top pick and stock to avoid Mkt cap P/E (x) EPS (LC) Div yield ROE Price Currency Rating $ bn 09E 10E 09E 10E 09E % 09E % Top pick Saint-Gobain 36.23 € OW 28.0 32.9 16.4 1.16 2.31 2.6% 3.0%Stock to avoid Italcementi 8.91 € UW 3.1 20.1 26.7 0.44 0.33 1.0% 7.4%Source: Bloomberg, J.P. Morgan estimates Prices as at 30 November 2009

Building Materials

Mike Betts AC


Flagship reports

• Building Materials: Improving outlook. Increasing sector EPS estimates by 5-12%. Raising Ciment Francais and Eagle from UW to N. Lowering Holcim from OW to N, 08 Sep 09


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Construction Materials MSCI Europe Source: Datastream, MSCI

MSCI Performance table 2wk 3mth YTD MSCI Construction Materials -5.7% -3.2% 24.6% Weight in Europe 1.0% MSCI total market cap (US$bn) 67 Consensus 2009 P/E ratio 15.6 Consensus 2010 P/E ratio 13.9 Consensus 2011 P/E ratio 11.0 Fwd D/Y 4.0%


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Capital Goods 2010 is about top-line growth, pricing power and quality What is different now? Sector is emerging strongly from this recession… with strong balance sheets, high profitability and generally well managed, limiting the number of recovery stories but allowing investors to benefit from global growth themes in Emerging Markets, Infrastructure and Energy through quality investments.

…with Emerging Markets as a key driver... as utilization rates in the US and Europe stand at historic lows. By contrast, EM utilization rates are close to their long-term norm. Combined with healthier government finances this sets the stage for outperformance of EM capex early in a recovery.

… but with a changing competitive landscape…as EM companies reduce the technology gap and often supported by increased protectionism take a larger share of the pie at home and grow their export businesses. Western companies with strong local footprint in EM look better positioned to protect their margins.

… and with pricing risks increasing… as input costs will rise in 2010 and holding on to price will be a challenge. 2009 has been characterized by relatively resilient pricing, a positive, but pricing tends to turn only with a 1-2 year time lag to volumes. This is a normal development at this stage of the cycle.

… and a focus on secular growth themes which we could see in markets such as Oil & Gas or Mining where increased capex is required to generate the same output. We also like the Energy space as the focus on renewables and CO2 requires much higher investments per Kwh generated or used.

2010 Roadmap Top-line growth: 75% of the sector beat on margins in Q3 but almost none beat on top-line. Upside in 2010 needs to come from top-line where consensus ests. are still more modest when compared to margins. An IP recovery should start to feed through in Q4’09 while capex orders should start growing in Q1’10.

Initial re-rating completed: We do not expect a further multiple expansion for the sector as leading indictors such as the order/inventory index in the PMIs have peaked. The sector trades on 2010E/2011E EV/EBIT of 13x/10x. A further re-rating would require a material pick up in top-line growth.

How to position for 2010 and beyond Buy quality: Upside in 2010 needs to come from growth, not margins in our view. This favours quality names in the sector that are well positioned in terms of secular or geographic trends. The key drivers in 2009 were re-rating and margin surprises, which disproportionably benefit lower quality/lower margin names.

Our OWs for 2010 are: SKF, Siemens (€65), Alfa Laval (€93).

Top pick and stock to avoid Mkt cap P/E (x) EPS (LC) Div yield ROE Price Currency Rating bn 09E 10E 09E 10E 09E % 09E % Top pick SKF 115.5 SEK OW 52.6 29.8 14.8 3.87 7.83 2.6% 16.5%Stock to avoid Husqvarna 48.6 SEK UW 27.9 25.8 19.5 1.88 2.50 2.0% 17.5%Source: Bloomberg, J.P. Morgan estimates.

Capital Goods Andreas Willi AC ( 44-20) 7325-4853 [email protected]

Nico Dil (44-20) 7325-4292 [email protected]

Flagship reports • European Capital Goods, Framework

for Investing into the next Cycle, 03 Aug 09

• MAN, Fundamental Improvement in the Business Model, 09 Sep 09

• Siemens, Crisis as Opportunity, 12 Nov 09

• Philips, CEO for a Day – Finishing the Job, 17 Sep 09

• Global Power Market Review, 24 Feb 09

• European Trucks, Trucks for the long haul, 20 Mar 09

• Atlas Copco, Sandvik and SKF, Steep recovery in IP likely, 22 Jun 09


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Capital Goods MSCI Europe Source: Datastream, MSCI

MSCI Performance table 2wk 3mth YTD MSCI Capital Goods -4.8% 3.3% 22.8% Weight in Europe 7.4% MSCI total market cap (US$bn) 497 Consensus 2009 P/E ratio 17.0 Consensus 2010 P/E ratio 15.2 Consensus 2011 P/E ratio 12.5 Fwd D/Y 3.4%


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Chemicals See 2010E operating rates 10% below l-t average leading to weaker prices. Demand rebound in ag more sustainable What is different now? • Chemicals sector margins have rebounded farther and faster than we had

anticipated given the extent of the demand decline. However it remains too early, in our view, to state categorically whether or not the events of the past 12 months have fundamentally altered the structure of the Chemicals industry, either in terms of competitive landscape and therefore pricing power, or in terms of operating capacity and therefore cost structure.

• The resilience of selling prices in the face of falling input costs has been the most notable feature of 2009. However, despite the recent improvement in demand, operating rates remain well below the historic average across many segments. We estimate sales volumes across the diversified industrial chemical companies are still on average 17% below the peak and 10% below the 2003 to mid-‘08 average.

2010 Roadmap • We see the first half of the year as harbouring ingredients for potential margin

disappointment at the diversified industrial chemicals companies. We forecast raw material costs to begin to inflate from 1Q 2010, expect some ’09 fixed costs savings to have been temporary, and see prices on a downward trajectory.

• With operating rates at a 13 year low, two things need to happen to prevent prices (and margins) from declining in 2010. Firstly, developed economies (W Europe & N America) need to post substantial economic growth. Secondly, companies need to aggressively reduce production capacities in order to rebalance the supply/demand equation. However, expensive strategic decisions relating to the latter issue will likely be postponed until the level of demand becomes clearer.

How to position for 2010 and beyond • Top Pick Syngenta. We see agrochemicals as offering a healthy mix of demand

recovery and resilient pricing. For Syngenta, this should combine with an FX tailwind and lower input costs to offer substantial (JPMe 17%) earnings growth that has yet to be discounted by the current share price (15.1x earnings multiple).

• We would continue to avoid Clariant, where fragmented end markets and low operating rates will lead to increasing price pressure, severely hampering the achievement of a positive return on the huge restructuring investment.

• Should economic growth in Europe and the US continue to exceed our expectations, we would look to build positions in BASF (€40.16), which offers a robust balance sheet, and portfolio of businesses that should benefit significantly from above-trend industrial growth.

Top pick and stock to avoid Mkt cap P/E (x) EPS (LC) Div yield ROE Price Currency Rating bn 09E 10E 09E 10E 09E % 09E % Top pick Syngenta 266.4 CHF OW 26.2 15.1 13.2 17.5 20.2 2.9% 18.3%Stock to avoid Clariant 10.6 CHF UW 2.4 16.8 11.4 0.63 0.93 0.0% 4.5%Source: Bloomberg, J.P. Morgan estimates

Chemicals

Neil Tyler AC


Heidi Vesterinen (44-20) 7325-4537 [email protected]

Flagship reports • European Chemicals, Value-hunting;

estimate revisions and 5 rating changes, 12 May 09

• European Chemicals, Upgrade cycle to gather momentum in H2, 19 Aug 09

• European Chemicals, 3Q results preview. Valuation better reflects risk-reward balance. 26 Oct 09

• European Chemicals; 2010 may contain obstacles to continue earnings development, 25 Nov 09


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Chemicals MSCI Europe Source: Datastream, MSCI

MSCI Performance table 2wk 3mth YTD MSCI Chemicals -0.7% 11.0% 34.6% Weight in Europe 3.0% MSCI total market cap (US$bn) 196 Consensus 2009 P/E ratio 19.6 Consensus 2010 P/E ratio 15.5 Consensus 2011 P/E ratio 13.1 Fwd D/Y 3.6%


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Communications Equipment Year of the cheap smartphone; lukewarm on infrastructure What is different now? In infrastructure, Nokia Siemens Networks has taken a turn for the worse with Chinese vendor Huawei making strong inroads in the wireless networks market. This has potentially been exacerbated by the marked slowdown in carrier capex through 2009, which we began highlighting as an issue in our research in January 2009. For handsets the only change to the smartphone revolution is the number of viable iPhone competitors on the scene as we exit 2009. Motorola’s Droid is perhaps the most visible example of this but there are many others. We count 54 new smartphone launches in H2 2009 compared to 19 in H2 2008, offering consumers a wider choice but increasing competitive pressure. The focus in smartphones has shifted strongly to the software and services platforms that go along with them. Exclusive handset deals have also begun to wane in importance as devices proliferate and regulators scrutinize these relationships more closely. We believe this is positive for market volumes but could prove to be negative for vendors with less competitive products.

2010 Roadmap For infrastructure, we expect 2010 to be characterized by slower than expected growth, corporate action, and alternative wireless access investments. Mobile data growth is expected to accelerate further, but we continue to believe that telcos have sufficient network capacity to absorb most of this growth. Recent data from Vodafone leads us to believe that our assumptions for capacity utilization are likely to be too conservative, implying later spend than anticipated. One off-set could be in H2 2010 when we could see a pickup in capacity spending post spectrum auctions in the UK and Germany. Another emerging trend we expect is an increased deployment of alternative access technologies like WiFi and femtocells, negative for equipment vendors. For smartphones, we expect low cost platforms and heightened competition to reduce pricing to US$100-150 levels, negatively impacting vendor ASPs and margins. We believe that the high-end focus in 2010 will shift toward low cost production. In the low-end handset segment, we expect MediaTek to become a bigger threat as MediaTek-based handsets quickly proliferate into emerging markets like India, which are core for Nokia and also to the developed world post the MediaTek-Qualcomm royalty licensing agreement.

How to position for 2010 and beyond Alcatel-Lucent is our top-pick as we continue to view it as a restructuring play. We believe expectations remain low given North American growth, continued cost reductions, and strong cashflow management. Ericsson is our stock to avoid. We expect the negative carrier capex story to spill into early 2010 and expect more competition from Chinese vendors. There is hope for capacity spending late in 2010 but we are increasingly concerned that pricing pressure could partly offset this.

Top pick and stock to avoid Mkt cap P/E (x) EPS (LC) Div yield ROE Price Currency Rating bn 09E 10E 09E 10E 09E % 09E % Top pick Alcatel-Lucent 2.25 € OW 5.1 NM 23.0 -0.04 0.10 0.0% 1.0%Stock to avoid Ericsson 66.90 SEK UW 213 19.8 14.0 3.38 4.79 2.8% 7.8%Source: Bloomberg, J.P. Morgan estimates

Communications Equipment

Rod Hall, CFA AC


Malvika Gupta (44-20) 7742-0939 [email protected]

Flagship reports • Infrastructure review: The day of capex

reckoning draws nearer, 02 Apr 09 • Location, location, location: Analyzing

Location Based Service opportunities, 19 Jun 09

• Global Handsets: And Then There Was One, Rolling Out a Global JPMorgan Handset Model, 06 Oct 09


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Tech Hardw are MSCI Europe Source: Datastream, MSCI

MSCI Performance table 2wk 3mth YTD MSCI Tech Hardware -6.8% -7.6% -7.9% Weight in Europe 1.4% MSCI total market cap (US$bn) 91 Consensus 2009 P/E ratio 20.4 Consensus 2010 P/E ratio 13.2 Consensus 2011 P/E ratio 10.6 Fwd D/Y 3.4%


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Food & Food Manufacture Growing volumes through exposure to price elastic categories key What is different now? Volume weighted growth: A weak consumer and lower commodity costs should make it difficult for food companies to drive top line on the back of price hikes. Compared to the pricing driven growth in the consumer space in recent years, we expect to begin to observe volume driven growth in 2010. This stands to benefit companies with presence in more price elastic categories in this cycle such as Danone, which derives more than 75% of sales from such categories, vs. one third for peers like Nestle.

Commodity deflation: The decline in commodity costs in the latter half of the year has led to significant benefits for most food companies. Most companies have invested the benefits of the deflation into promotions, higher advertising spend, and/or innovation. Companies like Danone have passed through a good part of the benefits to the consumer in the form of pricing cuts. However commodity prices have already bottomed and are moving up in some cases (grain costs are up 20% in the last 2 months, and oil while still well off its peak is up 30% from its trough). While we do not doubt the group’s pricing power, the less favorable commodity climate will likely lead to minimal margin expansion.

Waning PL growth: Private Label (PL) growth has started to wane in the current environment after a surge in late 2007 and early 2008. Growth in market share of PL has started to decelerate, something echoed by most food companies.

2010 Roadmap Top line driven sentiment: Nielsen data for 2,000 food categories in the EU shows the industry sales growth pace bottomed in 2Q09 and has been gradually accelerating since then. Total food industry revenues should accelerate in 2010 vs. 2009 even though we argue pricing should be less of a contributor to growth. Food companies remain cautious about the consumer environment but in general sound more upbeat about trends in 2010. M&A: Significant M&A scenarios and opportunities for growth are possible for the food companies. Consolidation in the Chocolate industry through the possible acquisition of Cadbury is an example. We expect to see our companies take more and more interest in consolidation opportunities to drive growth.

How to position for 2010 and beyond Creation of “value” and “innovation”: We prefer Danone because a) value (i.e. price elasticity) is a more direct driver of sales performance for its more “elastic” portfolio (i.e. yoghurt vs. say, coffee or ambient milk), and, b) because its market share track record, based on Nielsen data, implies consumers are responding favorably to its recent innovation (Danone is gaining share in key categories as per Nielsen, while Nestle is losing).

Top pick and stock to avoid Mkt cap P/E (x) EPS (LC) Div yield ROE Price Currency Rating bn 09E 10E 09E 10E 09E % 09E % Top pick Danone 40.00 Euro OW 24.5 17.1 15.3 2.34 2.61 1.4% 11.1%Stock to avoid Barry Callebaut 658 CHF UW 3.40 15.0 14.8 43.85 44.34 1.9% 15.7%Source: Bloomberg, J.P. Morgan estimates

Food & Food Manufacture

Pablo Zuanic AC


Flagship reports • The True Adjusted Food Valuation

Average vs. Staples, 06 Nov 09 • State of Our Thoughts in Our Dear

Food Space, 16 Oct 09 • Milk Formula Market Trends in China,

14 Oct 09


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Food Producers MSCI Europe Source: Datastream, MSCI

MSCI Performance table 2wk 3mth YTD MSCI Food Producers -2.5% 8.0% 14.5% Weight in Europe 5.0% MSCI total market cap (US$bn) 334 Consensus 2009 P/E ratio 17.3 Consensus 2010 P/E ratio 15.9 Consensus 2011 P/E ratio 14.5 Fwd D/Y 3.1%


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Food Retailing Inflection in food inflation What is different now? After 12 months of food deflation, we believe we have passed the inflection point in the food inflation cycle in the US and Continental Europe. We expect food inflation to become positive again by 2Q10. As food inflation rises, top line growth will accelerate and potentially gross margins could recover lost ground.

The currency effect that boosted food inflation in the UK has been cycled. Food inflation in the UK is set to normalise at low levels. After a strong reading in October, it now seems unlikely the UK will move into deflation as we predicted a few months ago.

Not only earnings have been under pressure by the deflationary environment but multiples have also compressed. The PE multiple of the sector relative to the market is at one standard deviation below the average.

2010 Roadmap With low interest rates, sound balance sheets and limited organic growth prospects for some companies, M&A in the sector should pick up in 2010, in our view. We have seen some activity in the Netherlands with a bidding war for Super de Boer. Ahold has publicly stated it wants to make acquisitions. Carrefour could sell some peripheral assets.

How to position for 2010 and beyond Carrefour is our top pick for 2010. We believe that underperforming companies with good assets and good management do get turned around. We assign 80% probability to a successful turnaround which we value at €40 per share, and 20% probability to a partial break up, which would lead to €52 per share. We estimate a full break up value of €68, but this option is unlikely to materialize, in our view.

Our stock to avoid for 2010 is Sainsbury. We continue to see downside to the UK food retail sector as a result of tough inflation comparatives, a limited volume response as well as increased promotional activity. We think Sainsbury will particularly suffer as a result because of its limited historical price perception, increased aggressive promotional tactics by Tesco and Asda, as well as a resurgent Waitrose. We believe Sainsbury suffers most in a falling inflationary environment and expect continued pressure on its top-line and earnings as a result of this shift in the competitive landscape.

Top pick and stock to avoid Mkt cap P/E (x) EPS (LC) Div yield ROE Price Currency Rating bn 09E 10E 09E 10E 09E % 09E % Top pick Carrefour 32.32 Eur OW 22.7 16.3 14.2 1.98 2.30 3.4 10.1 Stock to avoid Sainsbury 321.9 GBP N 5.9 13.4 12.2 23.33 25.52 2.7 9.1 Source: Bloomberg, J.P. Morgan estimates

Food Retailing

Jaime Vazquez AC


Rickin Thakrar (44-20) 7325-4523 [email protected]

Shashank Savla, CFA (44-20) 7325-9972 [email protected]

Flagship reports • Carrefour, Right assets, right

management, right time, 24 Nov 09 • Casino, Worst behind in France, Brazil

shines, 24 Nov 09 • Metro, Shape 2012 kicking in, 15 Oct

09 • European Food Retailing, Deflationary

times – UK not an exception, 23 Sep 09


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Food & Drug Retail MSCI Europe Source: Datastream, MSCI

MSCI Performance table 2wk 3mth YTD MSCI Food & Drug Retail -1.6% 6.9% 14.4% Weight in Europe 2.2% MSCI total market cap (US$bn) 145 Consensus 2009 P/E ratio 14.8 Consensus 2010 P/E ratio 13.2 Consensus 2011 P/E ratio 11.7 Fwd D/Y 3.5%



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Home and Personal Care A tough year ahead as consumer outlook remains weak What is different now? Despite better macro-economics, we expect consumer spending to remain restrained at a time of high unemployment (above 10% levels in US and Western Europe) and low consumer confidence. In developed economies, we expect demand in volumes in the sector to continue to recover (from a depressed based) but to remain weak. We expect emerging market growth to remain solid, albeit with differences between the main countries. However we remain concerned that lower price/mix driven by consumers’ desire for ‘value for money’ will hamper total growth and see weakening price/mix as the key risk to profit growth in 2010. This could be compounded by pressure from increasing input costs in the face of limited pricing power. With strong balance sheet and good cashflow generation, the sector growth could benefit from potential M&A as companies continue to focus on bolt-on acquisitions.

2010 Roadmap While the market has been focused on volume recovery in 2009, we expect the market to become increasingly sensitive to the value equation in 2010 i.e. Price/Mix growth, levels of promotional activities and potential flare up in competitive levels. We expect 2010 to be a two-halves story: most companies should face a rather benign environment of easy comparatives in H1 (especially in Q1), weaker input costs (though not as beneficial as in H209) and continued benefits from cost savings initiatives. As the market will be focused on signs of top line recovery, good top line growth in H1 (even on the back of easy comps) will likely be seen favorably, though it will be hard to gauge underlying volume demand trends before H2. We expect H2 to prove to be harder given tough comps and increasing input costs.

How to position for 2010 and beyond We believe the companies that are best positioned to win within this environment are those that can mitigate the effect of P/M in developed economies and can also rely on a good emerging market exposure. We believe Unilever (OW) and Givaudan (OW, SFr 795) are well placed to benefit. On Unilever, the combination of 1) portfolio tuned to ‘value-for-money’, 2) good exposure to emerging market, 3) sustainable cost savings and 4) continued reinvestments in the market should provide fuel to sustain growth and improve margins in 2010 and beyond. Givaudan should benefit from continued growth revival in FMCG categories, and increased margins while lower P/M has no incidence on the company growth and profit. On the other hand, we remain skeptical on Oriflame’s (UW) ability to drive margins given its low quality of sales performance (negative productivity and lower mix) at a time of continued pressure from negative FX impact (both translation and transaction).

Top pick and stock to avoid Mkt cap P/E (x) EPS (LC) Div yield ROE Price Currency Rating bn 09E 10E 09E 10E 09E % 09E % Top pick Unilever NV €20.41 € OW 60.7 16.5 15.3 1.23 1.34 3.8% 28.0%Stock to avoid Oriflame SKr 411 € UW 2.15 23.5 18.9 1.67 2.07 2.7% 54.4%Source: Bloomberg, J.P. Morgan estimates. Unilever Adjusted EPS includes a 1% recurring charge for restructuring.

Home & Personal Care

Celine Pannuti AC


Flagship reports • European HPC: Earnings upside ST,

but MT concerns of weaker growth in a value driven world remain, 24 Sep 09

• European HPC: Relief near term from better volumes but concerns remain medium term, 11 May 09

• European HPC: Earnings have more to fall, 10 Feb 09


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Household & Personal Products MSCI Europe Source: Datastream, MSCI

MSCI Performance table 2wk 3mth YTD MSCI Household & Personal Products 0.0% 10.7% 21.7% Weight in Europe 1.1% MSCI total market cap (US$bn) 77 Consensus 2009 P/E ratio 18.8 Consensus 2010 P/E ratio 17.7 Consensus 2011 P/E ratio 16.0 Fwd D/Y 2.7%


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Insurance We like the restructuring potential. Our main issue is the bond market What is different now? Last year our theme was reinsurance and leveraged bond funds. Leveraged bond funds (Aegon, Swiss Re) worked, reinsurance did for a bit and then fell off as capital came back into the market too quickly.

This year our theme is restructuring, and we see great potential here. We think that the operating trends for the sector are poor and that capital structures are still unfavorable. We therefore like companies who can help themselves – Swiss Re and Fortis being examples. We also expect more M&A – the # of insurance assets for sale is in our view at a high and this will allow the sector’s management teams to portfolio manage.

We have one main uncertainty – the bond market. Insurance companies de-risked in 2009, selling equities and buying Government bonds and corporate bonds and reducing interest rate mismatches. Near term we see potential for corporate bond spreads to narrow even further as insurance companies continue to favor this asset class. However, the bigger question for us is the level of the risk free – specifically, are we in Japan or will we get a bond market correction? A prolonged low interest rate environment would in our view lead to a further de-rating, just as it did in Japan. A bond market correction would be negative near term because of mark-to-market losses, but positive longer-term because earnings power would increase with higher investment income, and risk would be reduced (less pressure on guarantees). A bond market correction may therefore be a necessary, albeit initially painful, adjustment.

2010 Roadmap Solvency II likely to dominate headlines, but may ultimately prove a damp squib. The reason is we believe regulators will not want to see a reduction in capital requirements for the financial system, so no release from diversification benefits as previously hoped. We see the potential for more equity capital for the sector as the sector is currently too reliant on debt, but whether this comes through a “big bang” or through years of retained earnings is an open question.

How to position for 2010 and beyond Top picks are Swiss Re and Fortis. One to avoid is Unipol. We are positive on the restructuring stories as we think that management teams will deliver the necessary medicine, and the stocks are cheap with too high an implied CoE. We are negative on Unipol as we think the share price is factoring in too high an over-the-cycle combined ratio: clear evidence of a change in Italian P&C dynamics would be a positive here.

Top pick and stock to avoid Mkt cap P/E (x) EPS (LC) Div yield ROE Price Currency Rating bn 09E 10E 09E 10E 09E % 09E % Top pick Swiss Re 47.8 SF OW 17.7 105.0 7.4 0.46 6.42 1.0 0.8 Fortis 2.8 € OW 6.6 6.9 16.1 0.41 0.17 0.0 13.4 Stock to avoid Unipol 0.91 € UW 1.9 45.4 13.0 0.02 0.07 1.1 1.1 Source: Bloomberg, J.P. Morgan estimates, Priced as on 30th Nov 09. Market Cap differences due to share count definitions

Insurance

Duncan Russell, CFA AC


Michael Huttner, CFA


Vinit Malhotra, CFA (44 20) 7325-5321 [email protected]

Flagship reports • Swiss Re : Strong capital at 3Q 09

gives us confidence Swiss Re is on track to repay Berkshire; new PT SF57 (53), 04 Nov 09

• Lots of capital = lots of options, taking target price to €4, 03 Sept 09

• Unipol : Earnings headwinds greater than earlier thought, Remain UW with €0.81 PT (€1.04), 13 Nov 09


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Insurance MSCI Europe Source: Datastream, MSCI

MSCI Performance table 2wk 3mth YTD MSCI Insurance -5.2% -0.4% 5.5% Weight in Europe 5.2% MSCI total market cap (US$bn) 349 Consensus 2009 P/E ratio 10.4 Consensus 2010 P/E ratio 8.7 Consensus 2011 P/E ratio 7.7 Fwd D/Y 3.8%











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Luxury & Sporting Goods The slow road to recovery What is different now? In FY09 the luxury goods sector saw its worst topline hit ever (8% organic sales decline vs +1% in 01-03). All product categories, price points, wholesale channels and markets (except China) were hit. The most severe downfalls were in watches & jewellery and wholesale-led product categories. More than ever before, the consumer turned its back on luxury. This raises key questions as to whether and when he/she will come back and whether distribution rollout and price increases have gone too far.

In this tough top line context, luxury goods companies have focused on costs cuts and cash flow generation. The costs cuts are not general expenses-led though, Advertising & Promotion, personnel and Selling & Distribution costs, i.e. top line driving costs, are being curtailed significantly. These costs cuts limit the damage on EBIT margins in the short term but may endanger medium-term sales growth.

In Sporting Goods, FY09 saw no major sports event and u/l weakness. Companies have restructuring plans in place to minimise opex deleverage and improve working capital esp. following the creation of the FY08 inventory bubble in China.

2010 Roadmap We expect the luxury goods sector to post 4% reported Sales growth in 2010E incl 2% negative forex and 5.7% organic growth – achievable in the face of easy comps but not undemanding when looking at the embedded growth per geography. The sustained weakness in the Japanese consumer base (-8%) puts pressure on ML China to sustain momentum (+25%) and other EM/developed markets to recover. We expect similar sales growth in hard and soft luxury despite the former having easier comps as we remain prudent on restocking at watch retailers.

Cost cuts started in FY09 should continue in FY10 and, after limiting operating deleverage in 09E, should deliver some positive leverage in 10E albeit limited by forex pressure (no companies are fully hedged).

In Sporting Goods, FY10 will be boosted by the Football World Cup, easy comps, inventory levels normalising (China and US), and cost savings continuing to bear fruit. This will likely be tempered by forex and LatAm increased trade restrictions.

How to position for 2010 and beyond LVMH offers the most compelling risk-reward proposition in our view. The stock has unduly derated vs peers. We like its exposure to LV (its resilience and favourable brand mix effect on Group EBIT), China (LV and MH), and scope for positive surprises in underperforming divisions incl cognac. CDior shares (€67.5) are also an interesting way of playing LVMH. In Sporting Goods, we see potential catalysts in FY10 for adidas (€38.1) regarding Football World Cup, leaner inventories, Reebok progress.

Top pick and stock to avoid Mkt cap P/E (x) EPS (LC) Div yield ROE Price Currency Rating bn 09E 10E 09E 10E 09E % 09E % Top pick LVMH 69.76 € OW 33.4 18.5 16.3 3.77 4.28 2% 13%Stock to Avoid Hermès International 94.85 € UW 10.1 35.8 31.2 2.65 3.04 1% 25%Source: Bloomberg, J.P. Morgan estimates

Luxury & Sporting Goods

Melanie A Flouquet AC


Corinna Beckmann (44-20) 7325-3938 [email protected]

Flagship reports • Luxury Uncovered : Four key themes

for 2010 Sales growth, 10 Nov 09 • LVMH : Quality top line, 20 Oct 09 • Richemont : Hard core cost control –

Changes to estimates, 13 Nov 09


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Consumer Durables MSCI Europe Source: Datastream, MSCI

MSCI Performance table 2wk 3mth YTD MSCI Consumer Durables -4.7% 6.9% 47.7% Weight in Europe 1.4% MSCI total market cap (US$bn) 96 Consensus 2009 P/E ratio 20.7 Consensus 2010 P/E ratio 17.6 Consensus 2011 P/E ratio 15.1 Fwd D/Y 1.8%


https://mm.jpmorgan.com/servlet/PubServlet?skey=R1BTLTM0MzM0OS0wLDExMSxBTkxZVFJTX1BOTA==&Name=GPS-343349-0.pdf


https://mm.jpmorgan.com/servlet/PubServlet?skey=R1BTLTMzNDMxOS0wLDExMixDT01FUVVJVFlfTU9SRQA=&Name=GPS-334319-0.pdf

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Media Media cyclicals should continue to benefit from the expected positive advertising momentum What is different now? Media cyclicals (i.e. media stocks with a high proportion of revenues generated by advertising or consumer discretionary goods) have outperformed MSCI EU by 17% YTD, whereas media defensives have underperformed by 21%. This is the first time in the last five years that media cyclicals have outperformed MSCI EU, and their weight by market cap in the sector has grown to 41% currently compared to 35% at the end of 2008. The balance sheet of media companies has improved significantly in the last 12 months: 6 out of the 30 European media stocks under JPM coverage made a capital increase, others have extended the debt maturity, but not one has gone out of business. M&A started only recently with noticeable acquisitions by Vivendi (GVT in Brazil) and Publicis (Razorfish). No listed European media has been a M&A target in ’09, however this could change in ’10 as we expect some consolidation in the publishing and broadcasting arena. Private Equity owns large stakes in several European markets and if the market improves they could seek to exit via private sale or public equity transaction.

2010 Roadmap We expect the improving advertising cycle (trough summer 09) to be the main driver for the sector and to positively impact FTA TVs, Advertising Agencies, Directories and only partially Consumer Publishers (magazines and newspapers), which we expect to be penalized by structural issues (continuing circulation declines). Advertising growth is recovering faster than expected in Q409, with positive y/y growth expected in December for some FTA TVs (ITV, Mediaset). We expect positive growth to continue in ’10 and forecast the European advertising market to grow by 3.5% at constant price, higher than market consensus which we estimate in the 0% to +2% range. Defensive media are likely to underperform, if as we expect the advertising momentum picks up in ’10.

How to position for 2010 and beyond Our preferred pick for 2010 is JCDecaux (OW). JCDecaux is in our view a long-term growth story which should benefit from an improved advertising environment in ’10. Lagardère underperformed MSCI EU by 23% YTD and is again this year our stock to avoid owing to structural issues at the magazine division and a difficult comparable basis (with potential structural issues from ebooks) in the publishing division.

Top picks and stock to avoid Mkt cap P/E (x) EPS (LC) Div yield ROE Price Currency Rating bn 09E 10E 09E 10E 09E % 09E % Top pick JCDecaux 15.15 € OW 3.354 170.8 37.8 0.09 0.40 5.1% 2.3%Stock to avoid Lagardère 28.37 € UW 3.745 8.5 8.3 3.33 3.44 0.0% 7.1%Source: Bloomberg, J.P. Morgan estimates

Media

Filippo Pietro Lo Franco AC (44-20) 7325-9779 [email protected]

Mark O’Donnell (44-20) 7325-7149 [email protected]

Flagship reports • European Media Strategy and Data

watch, 21 Sep 09. Easy gains are over. We switch from top-down to bottom-up. Top picks JCD, SKyD, MTG, WKL, VIV

• European Media Strategy and Data watch, 13 May 09. Quality cyclical media stocks have more to go; revising estimates & TPs; 8 rating changes


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Media MSCI Europe Source: Datastream, MSCI

MSCI Performance table 2wk 3mth YTD MSCI Media -3.0% 1.9% 4.1% Weight in Europe 1.8% MSCI total market cap (US$bn) 125 Consensus 2009 P/E ratio 12.2 Consensus 2010 P/E ratio 11.7 Consensus 2011 P/E ratio 10.7 Fwd D/Y 6.3%


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Oil Services & Equipment Position for the early cyclicals What is different now? Sentiment completely turned around: In late 2008, investors were concerned about a weak oil and gas price environment and the impact on oil company spending behavior. We believe that investor sentiment towards oil service stocks has turned 180 degrees. During 2009, the oilfield service sector19 was one of the best performing sectors, up 93% YTD. The late cycle E&C companies produced some sizable margins from contracts signed in the order book during more favourable conditions. Going into 2010, as the high margin contracts in the order book wind down, we expect a more acute compression in operating margins.

Expect more contract awards in 2010 and watch Brazil. In 2009, contract awards were few and far between. However, as decline rates for producing fields creep up and prices for oilfield services begin to bottom out, these factors remove an incentive for oil companies to delay projects. However, we believe this initial recovery in new orders is mostly priced-in.

2010 Roadmap We expect early cycle oilfield services such as seismic and front-end engineering & design (FEED) to be the first to show a pick up in activity. Furthermore, because of the short-term nature of their orderbook, their top-line should begin to reflect this recovery sooner than the late cycle construction companies.

Events to watch: Schlumberger, generally considered a bellwether for the industry, is scheduled to report FY09 results on Jan 22, 2010 and will be watched for developing trends for the mid-long term. The IOC’s strategy updates, taking place between Jan and Feb 2010 should provide insight into their near- and long-term capex plans.

How to position for 2010 and beyond We expect the sector to be volatile because the nature of the sector produces lumpy earnings and is affected by the oil price. We would prefer to hold companies with high quality management with exposure to segments and regions where we expect to see good momentum in contract awards and earnings. Our top pick is Wood Group because we see it as a well-managed, low risk investment. We remain cautious on Acergy because of its exposure to West Africa. Although global upstream investment is expected to pick up, we believe geopolitical risks in West Africa could continue to cause delays for large projects.

Top pick and stock to avoid Mkt cap P/E (x) EPS (LC) Div yield ROE Price Currency Rating bn 09E 10E 09E 10E 09E % 09E % Top pick Wood Group 307.8 p OW 1.62 12.7 13.6 $0.39 $0.36 2.1% 15.4%Stock to avoid Acergy 83.55 Nkr UW 16.3 17.3 26.0 $0.85 $0.57 1.6% 15.0%Source: Bloomberg, J.P. Morgan estimates

19 Bloomberg index BEUOILS

Oil Services & Equipment

Amy Wong AC


Flagship reports • CGG Veritas, Well-capitalized but

oversold, 24 Mar 09 • European Oil Services & Equipment:

Share Prices Discounting High Long-term Growth, 27 May 09

• European Oil Services: Latest Backlog Coverage & Vessel Utilization data, 22 Sep 09

• Aker Solutions, Three Opportunities for upwards rerating, 27 Aug 09

• Vallourec, It’s a Drilling Case, 23 Oct 09


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Energy MSCI Europe Source: Datastream, MSCI

MSCI Performance table 2wk 3mth YTD MSCI Energy -3.9% 5.7% 10.9% Weight in Europe 11.2% MSCI total market cap (US$bn) 750 Consensus 2009 P/E ratio 13.7 Consensus 2010 P/E ratio 10.4 Consensus 2011 P/E ratio 8.9 Fwd D/Y 5.6%


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Pharmaceuticals Short-term deceleration, long-term a potential re-rating What is different now? We expect a re-rating based on the improving long-term outlook sometime in the next 2 years: The 2010-2012 industry patent cliff has been in an overhang for many years, but during 2009, Pharma companies started to address the issue of sustainability, highlighting increasing diversification, emerging market exposure and placing (even) more emphasis on productivity gains, all of which remains underappreciated by consensus in our view. Several positive pipeline surprises (Benlysta for GSK, Onglyza and Brilinta for AZN) also boosted the sector’s long-term prospects. Forward multiples for the Large caps remain low (9.2x ’11E), hence we expect a sector re-rating in the next 2 years, as growth beyond 2012 becomes more visible.

But not in 1H 2010: Despite an improving 2012-2015 outlook for most companies, we expect earnings growth deceleration in the coming 3 years, from 12% in 2009E to 6% in 2010E, amid intensifying generic erosion. Other factors contributing to the deceleration include (1) H1N1 boost in ’09 creating a base effect, (2) 2010E FX headwind, and (3) HC reform potentially shaving a further 2% off earnings growth.

Positive earnings surprises in 2010 are still possible based on (1) further productivity gains (although likely to be harder to achieve in view of a gross profit squeeze from the exclusivity losses), (2) better than expected US pricing power (in the non-Medicaid/Medicare segment). However, these may be perceived as short-lived if not accompanied by sales growth and pipeline surprises.

2010 Roadmap 1) Midcaps should continue to outperform large caps names, on better growth prospects (2009-2013E CAGR of 14% vs. 5%) and investors’ focus on pipeline events. Large caps we prefer: Roche, Novartis (SFr55.75), and Bayer (€51.09). 2) Focus should return to pipelines with potential blockbusters awaiting approval from Roche (Actemra), Novo (Victoza), GSK (Benlysta), AZN (Brilinta) and important phase III data for Novartis (FTY 720 & Lucentis in DME), Roche (Avastin), Ipsen (taspoglutide) and Bayer (Xarelto). 3) Quarterly earnings. Those companies with top-line growth are best positioned to benefit from a leaner industry, as long as they maintain good cost discipline. 4) JP Morgan Healthcare conference on Jan 11, 10 (Roche, Sanofi, GSK, Bayer, Ipsen, Actelion, Shire, Merck KGaA and UCB will be presenting) will give an initial look at key themes for 2010 (cost cutting, pricing, healthcare utilisation, pipelines).

How to position for 2010 and beyond Our top picks are Roche (numerous pipeline catalysts, significant margin upside) and Ipsen (strong near-term growth, 2010 full of catalysts, including taspoglutide).We would avoid AZN, the only EU Large Cap that hasn’t addressed its sustainability.

Top pick and stock to avoid Mkt cap P/E (x) EPS (LC) Div yield ROE Price Currency Rating bn 09E 10E 09E 10E 09E % 09E % Top pick Roche 164.38 SFr OW 141 13.9 12.7 11.80 12.97 3.6% 27%Ipsen 36.38 € OW 3 19.3 18.4 1.63 1.73 2.0% 15%Stock to avoid AstraZeneca 27.17 £ UW 39 6.7 6.8 $6.44 $6.39 5.8% 45%Source: Bloomberg, J.P. Morgan estimates

Pharmaceuticals

Alexandra Hauber AC (44-20) 7742-6655 / (1-312) 325-3694 [email protected]

Richard Vosser (44-20) 7742-6652 [email protected]

James D Gordon (44-20) 7742-6654 [email protected]

David P Evans (44-20) 7742-6654 [email protected]

Flagship reports • European Pharmaceuticals : New 2010

Year-end Price Targets for EU Mid Caps, 15 Nov 09

• European Pharmaceuticals : New 2010 Year-end Price Targets for EU Large Caps, 08 Nov 09

• The Diagnosis: EU Large Cap Pharma - The 2009 Outlook, 19 Feb 09

YTD price performance vs. MSCI Europe

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Pharmaceuticals MSCI Europe Source: Datastream, MSCI

MSCI Performance table 2wk 3mth YTD MSCI Pharmaceuticals 0.0% 5.2% 5.0% Weight in Europe 8.9% MSCI total market cap (US$bn) 601 Consensus 2009 P/E ratio 11.4 Consensus 2010 P/E ratio 10.7 Consensus 2011 P/E ratio 10.1 Fwd D/Y 4.5%


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Property Looking for action heroes What is different now? The current stimuli are powerful and could result in a jump in commercial property prices in the UK of around 15% from Jun-09 to Jun-10 we estimate, while they are currently bottoming on the continent. We call this the Carpe Diem feeling, as we foresee a rather sluggish property market thereafter.

A bounce in property prices is already largely priced in by the equity market, but some stocks still offer good value in our view. However, we do not believe that investors need to chase stocks in case of a strong rally, as 2010 should give plenty of opportunities to invest.

The listed sector is in much better shape than its non-listed counterpart, as balance sheets are much stronger (Loan-To-Value of around 50% vs. >80% non-listed), transparency is better and the investment is more liquid.

As such, we expect the listed sector to (continue to) act as the engine of the de-leveraging process in property: we see a step up in JVs with banks, IPOs and M&A activity. If the listed market is proactive enough, it should grow significantly (at least 50%) over 2010E and 2011E.

We believe there are currently too many (continental) companies with acquisition capacity focused on shopping centres, while we see (distressed) sales mainly in other property sectors, like offices. As there will likely be a limited number of retail properties for sale, we expect a step up in M&A among retail focused companies.

2010 Roadmap Over the coming 6 months we expect continued positive news flow for the property sector: rising property prices, stimuli remaining in place, hiring in the City, property investment markets opening up, stabilising / rising rents in London office markets, prelets on developments coming through, sizeable acquisitions by REITs and positive results.

However, the further we go into 2010 the more the positive share price drivers are likely to lose strength, as the likely jump in valuations should trigger more sellers to come to the market and a large process of change in ownership could follow. In addition, (talk of) reducing stimuli is likely to dampen share price performance.

How to position for 2010 and beyond As we believe that the (expected) bounce in property prices is largely priced in now, we are looking for action heroes for outperformance, i.e. active management, access to (new) product, vacancy to fill, developments to start etc.

Top Pick: Big Yellow, Stock to Avoid: IVG.

Top pick and stock to avoid NAV prem (disc) Adj EPS (LC) Div yield ROE Price Currency Rating Mkt cap 09E 10E 09E 10E 09E % 09E % Top Pick Big Yellow 370 p OW £483m -8.2% -7.0% 11.9 11.3 0% 2.7%Stock to avoid IVG 6.2 € UW €724m -23.1% -25.3% -0.61 -0.60 0% 0%Source: Bloomberg, J.P. Morgan estimates. Note 2009 numbers for Big Yellow are reported (YE March).

Property

Harm Meijer AC


Osmaan Malik, CFA (44-20) 7325-6084 [email protected]

Pradeep Kumar (91-22) 6157 3298 [email protected]

J.P. Morgan India Private Limited

Flagship reports • The Property Ticker (daily) • European Property Handbook: Castles

Made of Sand, 01 Sep 09 • Quarterly sector overview • Theme / company notes


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Real Estate MSCI Europe Source: Datastream, MSCI

MSCI Performance table 2wk 3mth YTD MSCI Real Estate -8.9% 1.4% 17.7% Weight in Europe 0.9% MSCI total market cap (US$bn) 59 Consensus 2009 P/E ratio 18.5 Consensus 2010 P/E ratio 18.5 Consensus 2011 P/E ratio 17.3 Fwd D/Y 5.3%


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Semiconductors Re-stocking priced in, second leg depends on ’10 demand What is different now? Semi stocks have rallied from the Nov-08 lows on the back of improving fundamentals. The graph below shows unit growth has rebounded from Mar-09. Though initially due to re-stocking, there are now signs of growth in multiple end markets.

Figure 69: Year on year change in semiconductor units

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Bar a collapse in end demand due to a double dip in the economy, ’10 demand for semis should be up ~15% YoY we estimate. However, as seen in the past, the semi cycle in a strong demand environment is based on inventory. Based on semis ex memory data, semi inventory is down by a substantial 26 days from 4Q08 and in absolute terms by US$3.3bn. Thus risk of the sector going into an immediate downturn is low in our view and we believe the market is waiting to see confirmation of ’10 growth before stocks have another leg up.

2010 Roadmap Industrial and automotive markets are late cyclical and have recently shown re-stocking trends. These sectors should continue to improve if the economy continues to improve. We see Infineon as a key beneficiary due to its 60%+ exposure to these markets. At the same time despite an upturn in orders ASML has still not started shipping “capacity” tools to memory clients. Substantial removal of capacity in DRAM in the downturn means that as they become profitable DRAM companies will continue upgrading existing fabs. NAND with its potential for capacity build is an even more important driver. ASML should remain a major beneficiary of memory technology and capacity orders in 2010. Inventory remains a key semi metric and that will be an indicator of the beginning of the end. In our view, investors would do well to focus on that metric to call the peak.

How to position for 2010 and beyond With peak EPS likely only in ’11/’12 and DRAM upgrade demand and potential for NAND capacity build, ASML is our top 2010 pick. We would avoid STMicro. While the company is restructuring, albeit very slowly, the stock is unlikely to interest investors till the turnaround of ST-Ericsson, which depends on ’11 3G shipments to Nokia. We think underperformance will continue till Nokia’s schedule is known.

Top pick and stock to avoid Mkt cap P/E (x) EPS (LC) Div yield ROE Price Currency Rating bn 09E 10E 09E 10E 09E % 09E % Top pick ASML €20.55 EUR OW €8.9bn NM 14.8 -0.36 1.39 1% -9.0%Stock to avoid STMicroelectronics €5.39 USD N €4.7bn NM 20.9 -0.78 0.39 2% -9.4%Source: Bloomberg, J.P. Morgan estimates

Semiconductors

Sandeep Deshpande AC (44-20) 7325 0456 [email protected]

Flagship reports • European Semiconductors: Inventory

declines again; ISM signals semis rally close to end but sector specific indicators still positive, 13 Nov 09

• European Semiconductors: Focus on stocks with most EPS upside vis-a-vis consensus. Upgrading Aixtron to OW, 11 Sep 09

• European Semiconductors : Time to pick stocks not the cycle, 13 Jul 09


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Semiconductors MSCI Europe Source: Datastream, MSCI

MSCI Performance table 2wk 3mth YTD MSCI Semiconductors -5.2% -2.5% 33.1% Weight in Europe 0.4% MSCI total market cap (US$bn) 24 Consensus 2009 P/E ratio - Consensus 2010 P/E ratio 27.2 Consensus 2011 P/E ratio 14.2 Fwd D/Y 1.9%


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Steel The recovery story plays on What is different now? One year ago the European steel industry was heading into crisis mode. A sharp contraction in demand was looming but it was unclear as to when the demand trough would be reached and for how long that trough would persist. Today, we believe European steel companies have moved past the demand trough and the industry is on the path to recovery (along with the macro-economic recovery). Since reaching a low in 2Q 2009, steel prices have started to recover, demand has stabilized (albeit ~25% lower compared to peak reached in 1H 2008), capacity utilization rates are on the rise (likely approaching 70% for 4Q versus a low of ~50% in 2Q) and balance sheets have been repaired from a combination of working capital release, capital raises and asset divestments.

2010 Roadmap We expect a steel recovery to pick up steam in 1H 2010 as the global GDP and IP continue to recover and steel demand improves. Inventories through the entire value chain remain lean and as customer confidence and credit conditions improve, we would anticipate a tightening of the supply chain, leading to higher shipment volumes and higher steel prices. Unlike 2008, steel inventories are at very low levels and when demand begins to recover, we believe the lean supply situation could help shift pricing power back towards the steelmakers. We believe another factor to underpin higher steel prices next year will be higher steelmaking raw material costs. J.P. Morgan forecasts a 10% y/y increase in the benchmark iron ore contract price for next year, which will raise the marginal cost of production (i.e. China) and allow for higher prices around the world. Indeed, the China steel price is on the rise (+13% since mid October) and this not only reduces the risk of higher import volumes but should create more headroom for steel prices to rise globally. We anticipate steel prices and shipments moving higher next year but we maintain that 2010 will still be a "recovery" year as capacity utilization rates should only return to 80% to 85%.

How to position for 2010 and beyond While we selected voestalpine (VOE AV/N/€23.64) as our top pick in 2009 due to its long-term contracts exposure and defensive business model, our top pick for 2010 is ArcelorMittal (MT NA/OW) given its operational leverage to the steel cycle and its attractive geographical footprint (which includes substantial exposure to faster growing emerging markets). We also highlight ThyssenKrupp (TKA GR/OW/€24.25) as an attractive corporate restructuring story that should continue to play out over 2010. We would avoid shares of Acerinox (ACX SM/UW) as it continues to price in a more robust profit recovery than we foresee for 2010.

Top pick and stock to avoid Mkt cap P/E (x) EPS (LC) Div yield ROE Price Currency Rating bn 09E 10E 09E 10E 09E % 09E % Top picks ArcelorMittal €25.95 € OW 40.6 NM 11.1 -$0.70 $3.40 1.9% -0.7%Stock to avoid Acerinox €13.79 € UW 3.5 NM 20.7 -€0.92 €0.67 3.3% -13.8%Source: Bloomberg, J.P. Morgan estimates

Steel

Jeffrey Largey AC (44-20) 7325 9744 [email protected]

Ben Defay

(44-20) 7325 9231 [email protected]

Flagship reports • European Steels; Top Threats to

Sustainable Recovery, 14 Sep 09 • European Steels; Seeking leverage to

the cycle, Adding MT to AFL & Upgrading SZG to OW, 25 Jun 09

• European Steels; Visibility zilch, Steels waiting for a sign, 15 Jan 09


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Metals & Mining MSCI Europe Source: Datastream, MSCI

MSCI Performance table 2wk 3mth YTD MSCI Metals & Mining -2.7% 18.4% 78.5% Weight in Europe 4.9% MSCI total market cap (US$bn) 325 Consensus 2009 P/E ratio 25.5 Consensus 2010 P/E ratio 15.2 Consensus 2011 P/E ratio 10.8 Fwd D/Y 2.1%


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Telecom Services Modest gearing, but strong cash generation What is different now? • While telcos may not be the first port of call in a macro recovery scenario, Q3

2009 confirmed the trend towards improving mobile revenue trends. These had tracked GDP on the way down but 2010 consensus forecasts essentially decouple underlying mobile revenues from the expected GDP recovery which could prove too pessimistic and lead to positive revenue and margin surprises.

• In a primarily fixed-cost industry operators in 2009 have been able to cut costs to maintain margins despite negative top line momentum. As top line declines moderate operators able to maintain cost cutting momentum should see margin expansion. Hence we do see some scope for operational gearing but depending on the market environment some of this will be reinvested in the top line.

• Further on the positive side we expect >6% dividend yields, well supported by c. 11% free cash flow yields, offering scope for dividend growth even with a flat or declining top line.

2010 Roadmap • We expect the first half of 2010 to confirm the picture of wireless revenue stabilization

while fixed line momentum will be delayed. However cost cutting momentum should remain strong so we would expect to see continued margin expansion.

• Spectrum auctions have been scheduled for a number of major markets including India, Germany, the UK, and Mexico. Negatively spectrum spend could be seen as a drag on cash flows, however we believe most operators have no problem funding what promises to be a sensible (but long duration) investment. German spectrum auctions could provide a trigger for KPN and Telefonica to join forces.

How to position for 2010 and beyond • Despite a number of structural concerns (eg, mobile VoIP) and the absence of

growth, at free cash flow yield levels around 11%, we find the market somewhat too negative regarding the longer-term sustainability of telco cash flows, mainly based on our positive views on operator capital spending requirements, hence we believe the sector can be bought on longer-term cash returns.

• Our top pick is KPN which has operating leverage, exposure to the expected cyclical recovery in wireless and domestic business telephony, strong management and a shareholder-friendly track record.

• Our top avoid is Telecom Italia where we believe that 2010 consensus is overly optimistic and the valuation is not attractive enough to accommodate this.

Top pick and stock to avoid Mkt cap P/E (x) EPS (LC) Div yield ROE Price Currency Rating bn 09E 10E 09E 10E 09E % 09E % Top pick KPN 11.83 € OW 19.1 8.8 7.8 0.91 1.11 5.8 7.7 Stock to avoid Telecom Italia 1.07 € N 18.8 10.3 8.7 0.10 0.12 4.7 7.2 Source: Bloomberg, J.P. Morgan estimates

Telecom Services

Hannes Wittig AC


Jerry Dellis AC


Torsten Achtmann AC


Akhil Dattani AC


Flagship reports • Post Q2 visibility should allow sector to

outperform, 22 Sep 09 • Wireless review – reassuringly

defensive, 22 Sep 09 • UK mobile consolidation: First steps

towards a more rational mkt, 09 Sep 09


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Telecoms MSCI Europe Source: Datastream, MSCI

MSCI Performance table 2wk 3mth YTD MSCI Telecoms -1.4% 4.8% 5.3% Weight in Europe 7.2% MSCI total market cap (US$bn) 483 Consensus 2009 P/E ratio 10.8 Consensus 2010 P/E ratio 10.3 Consensus 2011 P/E ratio 9.7 Fwd D/Y 4.9%

Source: Source: Datastream, IBES, MSCI Prices and valuations as at 30 November 2009

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Tobacco The pricing king What is different now? We see a volume weakness hangover from Q3 09 combined with some downtrading, and unemployment could persist through H1 2010 until economic recovery takes hold, particularly in key EMs like Russia. In our view this weakness could hold back Tobacco stock performance in the first part of 2010.

Dividends should remain the primary avenue to return cash to shareholders for BAT and Imperial, with Swedish Match buying back stock in addition.

Though volume weakness could persist, we expect the industry to take pricing in both Mature and Emerging Markets. We expect average price increases to be lower than in 2009, since the FX environment is more stable and does not require increases to offset higher transaction costs.

European Tobacco underperformed in 2009, but looks well positioned in 2010 given the combination of dividend yields (3-5%) above returns available in cash or bonds, lower valuation than Consumer Staples peers and potential for share price appreciation driven by approximate low double digit 2010 EPS growth.

2010 Roadmap We expect modest volume weakness to persist in H1 2010, but with slowing downtrading. We look for market volume declines to ease in H2 as unemployment rates decline and GDP recovers as per JPM Economics forecasts.

The annual February CAGNY conference in the United States will have both Altria and Philip Morris International presenting their strategic outlook for the year. In our view, the takeaways from this conference could set the tone for year.

How to position for 2010 and beyond Our top European Tobacco pick is BAT, as we believe its combination of favourable geographic exposure, pricing power, a benign tax environment, continued brand reinvestment supported by ongoing cost savings program and dividend yield above 5% make it an attractive play on Emerging Market recovery with a safe, higher yielding alternative to bonds or cash.

Our stock to avoid is Swedish Match, as we see competition in the high growth US smokeless business rising substantially in 2010 due to Altria and Reynolds American’s more aggressive actions and ongoing price segment convergence. FX headwinds from USD weakness relative to SEK affecting 40% of the business could in our view offset the continued positive Nordic smokeless growth. We view M&A speculation as premature, with a potential bid from Philip Morris International predicated on success of the SWMA/PM JV to commercialise snus outside of the US and Scandinavia.

Top pick and stock to avoid Mkt cap P/E (x) EPS (LC) Div yield ROE Price Currency Rating $ bn 09E 10E 09E 10E 09E % 09E % Top pick BAT 1847 GBP OW 60.4 11.6 10.6 153.2 168.0 5.4% 38%Stock to avoid Swedish Match 150 SEK UW 5.3 15.3 13.5 9.80 11.12 3.1% 70%Source: Bloomberg, J.P. Morgan estimates

Tobacco

Erik Bloomquist, CFA AC


Flagship reports • Global Tobacco, Safely through the

Storm, Emerging Market Leverage Favours BAT & PMI , 07 Oct 09

• Global Tobacco, M&A Risk Returning, 19 Jun 09

• Global Tobacco, Still Smoking; Upside Risk to Estimates, 11 Jun 09


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Tobacco MSCI Europe Source: Datastream, MSCI

MSCI Performance table 2wk 3mth YTD MSCI Tobacco -6.6% 0.2% 1.5% Weight in Europe 1.4% MSCI total market cap (US$bn) 96 Consensus 2009 P/E ratio 12.7 Consensus 2010 P/E ratio 11.6 Consensus 2011 P/E ratio 10.6 Fwd D/Y 4.7%








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Transport and Logistics Delivering profit growth from GDP expansion ahead What is different now? JPM macro forecasts for 10E-11E see accelerating GDP growth in developed markets, a weak US$ and benign fuel costs. We thus prefer well-positioned companies with already strong diverse positions and robust balance sheets capable of supporting higher capex or M&A spend that new growth demands. Companies with a higher European focus (e.g. TNT) should benefit more (than in 09) from consumer recovery. To us, companies with exposure to both developed ‘recovery’ and emerging markets long-term higher growth exposure is our preferred positioning. Pricing is key to our view: We think pricing will remain fragile as volumes grow – and see a chance of; either (1) growth encouraging share gains by discounting (in lieu of acquisition goodwill for M&A-led growth); or (2) lack of price increases (i.e. real cuts) to fill surplus infrastructure capacity; or, (3) that in some areas so much capacity has been cut in 09 (e.g. air freight) that capacity brokers see their profits squeezed (e.g. Forwarders). Thus, we look for companies with operating gearing from volume growth and price stability in either; (1) rational industry structures (Deutsche Post, TNT); (2) hard to substitute assets that have not been overbuilt (e.g. HHLA); or, (3) hard to replicate networks (DHL, TNT) with limited competitor duplication. In our view, as liquidity improves we see companies in more fragmented sectors moving back to acquisition (e.g. Forwarders) and we think the bulge of debt refinancing due in 11-12 (e.g. Bus companies) might accelerate this process.

2010 Roadmap Our 10E roadmap is heavily dependent on the JPM benign fuel price and strong GDP growth forecast playing out. On this basis, we think volume recovery is likely to look strongest in Q1-Q3 10E. However, we think that by end Q3-10 the ‘easy comp’ effects should have played out, thereafter leaving real ‘growth’ companies back in the spotlight. We think this differentiation will be amplified as the yoy benefits of cost saving from 2009 wash out for most companies by end Q2-10E, and variable (volume-driven) costs creep back into businesses. Thus, as we hit peak trade season in Q3-10E, we think the distinction for companies with solid pricing and good operating gearing will emerge.

How to position for 2010 and beyond We see the combination of price strength and operating gearing from recovery strongest in Deutsche Post DHL, HHLA and TNT. However, with its more developed networks and market positions, we see less need for accelerated M&A (as well as capex) into recovery at D Post, which could allow D Post to offer the strongest dividend yield prospect, and given ‘yield compression’ risks in general it is thus our preferred pick. Although well run, we see Panalpina’s high Air Freight forwarding exposure leaving it most exposed to further profit contribution squeezes.

Top pick and stock to avoid Mkt cap P/E (x) EPS (Underlying) Div yield ROE Price Currency Rating bn 09E 10E 09E 10E 09E % 09E % Top pick Deutsche Post 12.5 EUR OW 15.1 14.5 10.3 0.86 1.21 4.8% 7.5%Stock to avoid Panalpina 64.2 CHF N 1.6 19.4 22.3 3.32 2.88 0.8% 5.0%Source: Bloomberg, J.P. Morgan estimates

Transport and Logistics

Damian Brewer AC


Andy Jones (44-20) 7325-1622 [email protected]

Flagship reports • Deutsche Post DHL and TNT: Calmer

conditions for Q3 - upgrading PTs and EPS, but TNT needs change from within to be OW, 15 Oct 09

• Deutsche Post DHL and TNT: Less recovery upside priced-in at Deutsche Post, 01 Oct 09

• Revisiting UK Bus and Rail: Still upside left - but now more events dependent, 25 Sep 09

• Mail and Logistics: Forward-looking PMI lift contrasts to Q2-09 'earnings doldrums', 17 Jul 09


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Transport MSCI Europe Source: Datastream, MSCI

MSCI Performance table 2wk 3mth YTD MSCI Transport -3.4% 3.6% 18.2% Weight in Europe 1.3% MSCI total market cap (US$bn) 84 Consensus 2009 P/E ratio 41.9 Consensus 2010 P/E ratio 17.9 Consensus 2011 P/E ratio 12.3 Fwd D/Y 3.0%















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Utilities Demand recovery in Central Europe key What is different now? The days when European utilities were seen as the best way to invest in a rising oil price are gone. However, we believe that most investors are too harsh in their judgment of the competitive positioning of European utilities. In peripheral markets (UK, Spain, Italy in a couple of years) gas oversupply is a near and also a long-term concern in our view; however, in Central Europe a sustainable demand recovery should show that these markets are not structurally oversupplied. Most European utilities are highly geared, but we believe that the bulk of the rights issues have been done and that the sector will continue to concentrate on capex control, asset disposals and optimization of existing operations. This should provide confidence about the sustainability of dividends, despite trough earnings in 2010-11E, which should revive the sector’s traditional yield attraction.

2010 Roadmap We believe that the sentiment towards the sector is so negative that positive headline demand readings (and not just underlying) will be required for Central European utilities to outperform. German electricity demand in October is likely to be rather negatively affected by the mild weather and hence we will need to wait till November or, more likely, December demand figures to be released (first fortnight of January and February respectively). FY2009 results releases in February should confirm managements’ focus on cash flow preservation and commitment to maintain dividends by most Continental European utilities.

A UN-sponsored agreement to extend Kyoto Protocol’s commitments to curb carbon emissions could be approved in the 2010 Climate Change Conference in Mexico. Such agreement should boost long-term growth prospects for renewables and the outlook for power prices. If an agreement could be reached by mid-year a special conference could be called around June, according to UN representatives.

How to position for 2010 and beyond We continue to believe that investors should position in electricity markets where prices are coal-driven (Germany and Central Europe) rather than gas-driven, as gas oversupply in the latter should continue to put downside pressure on earnings. In this context we highlight Drax as our stock to avoid in the sector. However, the absolute upside in many generators might be hindered during a good portion of 2010 by the lack of visibility about demand growth. While investors wait for such visibility we recommend exposure to either stocks with organic growth irrespective of the recovery of power prices (IBR, Int’l Power, 277p, Red Electrica, €36.72) or truly defensive, income stocks (Terna, €2.78).

Top pick and stock to avoid Mkt cap P/E (x) EPS (LC) Div yield ROE

Price Currency Rating bn 09E 10E 09E 10E 09E % 09E % Top pick Iberdrola Renov. 3.195 € OW 13.5 34.2 26.7 0.09 0.12 1.0% 1.5%Stock to avoid Drax 410.4 GBP p UW 1.5 7.8 5.9 50.91 66.84 3.6% 8.1%Source: Bloomberg at 30/11/2009, J.P. Morgan estimates

Utilities

Javier Garrido AC (34 91) 516 1557 [email protected]

Nathalie Casali (44-20) 7325 9023 [email protected]

Sarah Laitung (44-20) 7325-6826 [email protected]

Flagship reports • Southern European Utilities: Not the

space to play the recovery. OW EDP (defensive) and IBR (US wind growth), 07 Oct 09

• European Utilities Basics 3.0- Electricity & Gas Industry Overview, 27 Oct 09


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Utilities MSCI Europe Source: Datastream, MSCI

MSCI Performance table 2wk 3mth YTD MSCI Utilities -2.3% -3.3% -5.1% Weight in Europe 6.3% MSCI total market cap (US$bn) 426 Consensus 2009 P/E ratio 11.2 Consensus 2010 P/E ratio 10.9 Consensus 2011 P/E ratio 10.2 Fwd D/Y 6.1%


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Top Picks Alcatel-Lucent.......................................................88 Anheuser Busch InBev ........................................90 ArcelorMittal..........................................................92 ASML .....................................................................94 BBVA .....................................................................96 Big Yellow .............................................................98 British American Tobacco ...................................100 Carrefour ...............................................................102 Daimler AG............................................................104 Danone ..................................................................106 Deutsche Post DHL ..............................................108 Fortis .....................................................................110 HSBC .....................................................................112 Iberdrola Renovables ...........................................114 Ipsen ......................................................................116 JCDecaux ..............................................................118 KPN........................................................................120 LVMH .....................................................................122 Roche ....................................................................124 Saint-Gobain .........................................................126 SKF ........................................................................128 Société Générale ..................................................130 Swiss Re................................................................132 Syngenta ...............................................................134 Unicredit ................................................................136 Unilever NV/Plc .....................................................138 Wood Group..........................................................140


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Alcatel-Lucent Return to profitability The opportunity in the next cycle We believe that a significant re-rating of Alcatel-Lucent is likely as the company returns toward an assumption that normalized margins of c. 5-6% can be achieved. We see ALU as well placed to benefit from higher margin North American business post the integration of its three WCDMA platforms and there is also potential to save on R&D spend as AT&T moves toward LTE. With ALU expected to only break-even at the EBIT level in 2009, we believe that market estimates are pessimistic going into 2010 even with anticipated continuing weakness in carrier spending. We also highlight the potential for possible M&A in the sector and with ALU being the #4 global wireless infrastructure provider, we believe that it or part of its business are possible acquisition targets.

Flexing upside Our price target of €3.50 implies a long-term EBIT margin of 4.0% which we believe is attainable – our 2011E EBIT margin expectation is 3.8% and historical operating margins have been 6%. At €2.24 we calculate that the stock discounts 2.4% EBIT margins to perpetuity while an assumption of 6% perpetual margins yields a DCF value of €5.10 holding all other assumptions constant. The upside to our target price vs. current share price levels is over 56%. We also highlight an increasing potential for industry consolidation given widespread LTE buildouts anticipated in 2010/11.

Catalysts – 2010 and beyond Alcatel-Lucent is a top optical equipment vendor with 21% market share. We expect the optical transmission market to perform well in 2010 driven by continuing wireless backhaul upgrades and core and aggregation network capacity enhancements driven by the growth of cloud/virtualized computing environments and mobile data. We expect ALU to exit from non-core assets/businesses to focus its resources on LTE development.

Valuation, target price, key risks Our December 2010 price target is €3.50. We assume a perpetual normalized EBIT margin of 4% in our DCF. Accelerating wireless decline and DSL line losses would present risks to our OW rating. CDMA, a technology that ALU has high exposure to, is slowly dying in our opinion.

Alcatel-Lucent SA (ALUA.PA;ALU FP)FYE Dec 2008A 2009E 2010EAdj. EPS (€)

FY 0.20 A (0.04)A 0.10Q1 (Mar) 0.01 -0.12A -0.06Q2 (Jun) 0.05 0.02A 0.04Q3 (Sep) 0.06 A -0.02A 0.02Q4 (Dec) 0.07 A 0.08A 0.10

Revenue FY (€ mn) 16,9501 A 15,628A1 15,796EBIT FY (€ mn) 4821 A (68)A1 405EV/Operating Profit FY 18.23 A -121.56A 22.441-FAS123 CompliantSource: Company data, Bloomberg, J.P. Morgan estimates.

Company DataPrice (€) 2.25Date Of Price 30 Nov 09Price Target (€) 3.50Price Target End Date 31 Dec 1052-week Range (€) 3.39 - 0.87Mkt Cap (€ bn) 5.1Shares O/S (mn) 2,259

Alcatel-Lucent SA (ALUA.PA;ALU FP)FYE Dec 2008A 2009E 2010EAdj. EPS (€)

FY 0.20 A (0.04)A 0.10Q1 (Mar) 0.01 -0.12A -0.06Q2 (Jun) 0.05 0.02A 0.04Q3 (Sep) 0.06 A -0.02A 0.02Q4 (Dec) 0.07 A 0.08A 0.10

Revenue FY (€ mn) 16,9501 A 15,628A1 15,796EBIT FY (€ mn) 4821 A (68)A1 405EV/Operating Profit FY 18.23 A -121.56A 22.441-FAS123 CompliantSource: Company data, Bloomberg, J.P. Morgan estimates.


Overweight €2.25 30 November 2009

Price Target: €3.50

Communucations Equipment

Rod Hall, CFA AC



Flagship reports • Q309 Wrap - Capex headwinds

worsening but restructuring on track, 02 Nov 09

• Q209 Wrap - Unexpected shelter from the capex storm, 31 Jul 09

• Q1'09 Wrap - Q1 not so good but things looking up for Q2, Reiterate OW, 06 May 09

Price Performance

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ALUA.PA share price (€)MSCI-Eu (rebased)

Performance (%) YTD 1M 3M 12M Abs (%) 46.8% -12.4% -15.3% 45.0% Rel (%) 27.0% -13.2% -16.0% 22.6%

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Alcatel-Lucent: Summary of Financials Profit and Loss Statement Cash flow statement € in millions, year end Dec FY08 FY09E FY10E € in millions, year end Dec FY08 FY09E FY10E Revenues 16,950 15,628 15,796 EBIT 482 (68) 405

% Change Y/Y (4.5%) (7.8%) 1.1% Depreciation & amortization 978 819 779Gross Margin (%) 34.1% 33.1% 34.0% Change in working capital (30) 57 (365)EBITDA 1,460 751 1,183 Taxes (123) (87) (100)

% Change Y/Y 1.2% (48.5%) 57.5% Other (1,100) (1,429) (886)EBITDA Margin (%) 8.6% 4.8% 7.5% Cash flow from operations 207 (707) (167)

EBIT 482 (68) 405 % Change Y/Y 131.7% (114.1%) (697.1%) Capex (901) (686) (673)EBIT Margin 2.8% -0.4% 2.6% Disposal / (Purchase) 137 1,631 0

Net Interest 154 40 51 Net interest (192) (220) (238)Earnings before tax 732 -30 463 Free cash flow to firm - (165) (264)

% change Y/Y 6.7% (104.0%) (1666.4%) Tax (charge) (237) (79) (232) Equity raised/repaid 0 0 0

Tax as a % of BT (32.4%) 268.4% (50.0%) Debt Raised/repaid (250) (138) (600)Net Income (Reported) 486 46 220 Other - - -

% change Y/Y (64.2%) (90.5%) 376.7% Dividends paid (7) (6) 0Shares OS 2,259.10 2,259.10 2,259.10 Beginning cash 4,377 3,687 2,854EPS (Reported) 0.20 -0.04 0.10 Ending cash 3,687 2,854 1,414

% Change Y/Y (39.4%) (118.3%) (364.7%) OpFCF 559 65 511 Balance sheet Ratio Analysis € in millions, year end Dec FY08 FY09E FY10E € in millions, year end Dec FY08 FY09E FY10E Cash and cash equivalents 4,593 4,755 3,315 Sales growth (4.5%) (7.8%) 1.1%Accounts Receivable 4,330 3,611 4,079 Gross Margin (%) 34.1% 33.1% 34.0%Inventories 2,196 1,824 1,877 EBITDA Margin (%) 8.6% 4.8% 7.5%Others 650 331 331 Operating Margin 2.8% NM 2.6%Current assets 14,569 12,459 11,540 Net profit margin (%) 2.9% 0.3% 1.4%LT investments 809 506 506 Net profit growth (64.2%) (90.5%) 376.7%Net fixed assets 1,351 1,218 1,112 EPS growth (39.4%) (118.3%) (364.7%)Total assets 27,311 24,333 23,308 Net debt (Cash) to Total Capital 3.2% 0.1% 6.2%Liabilities Net debt (Cash) to equity 9.6% 0.2% 25.1%ST loans 1,097 622 622 EV/Revenue 0.5 0.5 0.6Payables 4,571 4,031 4,188 EV/EBITDA 6.0 11.0 7.7Others 443 229 229 EV/EBIT 18.2 -121.6 22.4Total current liabilities 11,687 9,431 9,588 ROA 1.6% -0.3% 1.7%Long term debt 3,998 4,141 3,541 ROE 5.7% 1.0% 6.0%Total liabilities 22,087 20,372 19,929 ROCE 2.5% -0.4% 2.8%Shareholders Equity 4,633 3,424 2,842 FCF Yield 24.5% (24.6%) (17.3%)Total liabilities and Shareholders' equity 27,311 24,333 23,308 P/E 11.2 NM 23.2 Source: Company reports and J.P. Morgan estimates.

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Anheuser Busch InBev Class is permanent The opportunity in the next cycle A year ago investors were concerned about the risk of ABI breaching covenants – this is no longer a concern. Since then ABI has sold assets totaling $7.5bn for cash, issued $19.2bn in Bonds which have significantly lengthened the maturity profile and with limited impact on long-term cost of debt, listed the ADR in the US, visibly delivered $875mn of cost synergies from the AB deal in 9M09 and we think generated near $5bn of free cashflow. We have free cashflow of $7.5bn in FY10E and $8.5bn in FY11E. We estimate ABI will fall below 2x net debt/EBITDA by end FY11E. In a nutshell ABI will have effectively bought and paid for Anheuser Busch inside 4 years having financed this with a slug of equity right at the trough of the cycle, through the disposal of assets and through a medium-term sustainable cash cost of debt of 6%. Over 80% of EBIT post synergies comes from the Americas where it is a dominant player in stable profit pools. The synergy capture is being delivered against a benign US competitive and pricing environment.

Flexing upside We cap the leverage in our DCF model at 30% debt/market cap. If we use the actual leverage (at 48%), the WACC falls to 7.8% and adds another €7 per share to our DCF valuation. Putting the perpetuity growth rate at 1.5%, in line with SABMiller and the major spirits stocks, adds another €2 per share to our DCF valuation.

Catalysts – 2010 and beyond We think there are still multiple longer-term pots of value to be unlocked at ABI. These include further margin upside in the US from sustained rational pricing and ongoing fixed cost savings, extracting value from the capital tied up in the US beer wholesaler tier, acquiring the remaining economic interest in Grupo Modelo, the emergence of a top line “marketing story”, margin expansion in China and potential distribution of future excess cashflow.

Valuation, target price, key risks Our Nov 10E DCF derived PT is €42 (terminal growth 1.25%, WACC 8.5%). ABI trades on 13.7x CY10E PE, slightly below the sector on 13.8x and with 46% EPS growth and on a FCF yield of 10.0% by FY11E. By then we think this yield will either be paid out or reinvested by the controlling shareholders into a higher return project. We cannot think of any reason why investors would not want to retain their sector exposure in this stock. Key downside risks to our rating and PT include a failure to secure $2.25bn of synergies from the AB transaction, increasing cost of debt, sustained volume declines in key US or Brazil markets, and a weaker Real.

Anheuser Busch InBev (ABI.BR;ABI BB) FYE Dec 2008A 2009E 2010E 2011EAdj. EPS FY ($) 2.50 3.66 4.23Revenue FY ($ mn) 39,157 36,990 36,863 38,701EBITDA FY ($ mn) 12,068 13,066 14,464 15,348Pretax Profit Adjusted FY ($ mn) 6,326 8,958 10,256Adj P/E FY 19.9 13.6 11.8EBIT FY ($ mn) 9,125 10,292 11,775 12,488EBITDA margin FY 30.8% 35.3% 39.2% 39.7%EBIT margin FY 23.3% 27.8% 31.9% 32.3%Source: Company data, Bloomberg, J.P. Morgan estimates.

Company Data Price (€) 33.24Date Of Price 30 Nov 09Price Target (€) 42.00Price Target End Date 01 Nov 1052-week Range (€) 34.88 - 11.14Mkt Cap (€ bn) 53.3Shares O/S (mn) 1,603


Price Target: €42

Beverages

Mike Gibbs AC (44-20) 7325-1205 [email protected]

Vanessa Lai Min


Flagship reports • Hail to the chief, 12 Nov 09 • Time for a top up, 24 Jun 09 • They’ve delivered before … they will

deliver again, 25 Jan 09

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Performance (%) YTD 1m 3m 12m Abs 100.5% 3.9% 12.3% 171.1% Rel 80.7% 3.1% 11.6% 148.7%

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Anheuser Busch InBev: Income Statement USD m 2008PF 2009E 2010E 2011E Volume 416,112 407,594 393,296 402,391 Revenue 39,157 36,990 36,863 38,701 Cost of sales - 19,443 - 17,585 - 16,415 - 17,232 Gross profit 19,714 19,404 20,448 21,469 SG&A incl synergies benefit - 10,589 - 10,212 - 10,474 - 10,981 Synergies benefit 1100 1800 2000 EBITDA incl synergies 12,068 13,066 14,464 15,348 EBITDA margin 30.8% 35.3% 39.2% 39.7% DD&A 2,943 2,773 2,689 2,860 EBIT incl synergies 9,125 10,292 11,775 12,488 EBIT margin 23.3% 27.8% 31.9% 32.3% - - - - Non recurring items - 595 186 - 250 - Interest costs - 1,177 - 3,291 - 2,665 - 2,114 coupon 6.3% 6.3% 6.3% Finance income 195 - - - Non recurring finance costs - other - 203 - 675 - 152 - 117 Net financing costs - 1,185 - 3,966 - 2,817 - 2,231 Reported PBT 7,345 6,512 8,708 10,256 PBT ex non recurring ops items 7,940 6,326 8,958 10,256 Tax on recurring - 1,413 - 1,708 - 2,419 - 2,769 Tax on non recurring 142 132 109 32 Total tax costs (1,307) (1,758) (2,351) (2,769) Effective tax rate 18% 27% 27% 27% PAT 6,037 4,754 6,357 7,487 Minorities -1192 -1154 -1380 -1458 Income from associates 69 533 683 732 Reported net income 4,914 4,133 5,660 6,761 Net income clean 5,404 3,997 5,842 6,761 Clean adjusted EPS 2.50 3.66 4.23 EPS growth 46% 16% Dividend 744 849 879 Dividend per share 0.47 0.53 0.55 Dividend Payout 18% 15% 13% Source: Company data, J.P. Morgan estimates.

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ArcelorMittal Operational leverage to the cycle The opportunity in the next cycle We believe MT remains the most attractive European steelmaker for investors seeking leverage to a global recovery in steel demand. MT ships ~80% of its steel on a short-term price basis so MT is best positioned relative to steel competitors in a rising steel price environment. MT also has the largest exposure to emerging markets in our coverage universe (~30% of 2010e shipments) where growth rates should exceed developed markets on average going forward. We calculate 27% upside from 30 November close price of €25.95.

Flexing upside As we forecast that 2010 is still technically a recovery year, we believe upside to our Jun-2010 PT of €33 for MT rests upon higher than expected steel prices and/or higher shipment volumes. For example, if MT were to return to more normalized levels of profitability in 2010 (EBITDA of $150/tonne vs. our forecast of $133/tonne) and capacity utilization were to approximate 90% versus our 2010 forecast of ~80%, then our PT would increase to €44, implying 70% upside.

Catalysts – 2010 and beyond Steel pricing will remain the key catalyst for MT’s share price performance in 2010. We believe European steel prices will re-commence moving higher in early 1H 2010 and given the likely positive read-through for MT’s share price, we believe investors should be positioned ahead of the actual steel price move. Recently, several US steel producers have announced spot price hikes and while this has a positive read-through for MT’s North American operations, we believe a move in European steel prices could have a more meaningful impact on investor sentiment and MT’s share price. In contrast to early 2009, MT’s balance sheet should help underpin MT’s share price as it continues to strengthen in 2010 from an improvement in underlying earnings.

Valuation, target price, key risks Our Jun-10 PT of €33 is based on a historical average EV/EBITDA multiple of 7.5x our 2010 EBITDA forecast of $12.7 billion. We estimate that MT currently trades at an attractive 2010 EV/EBITDA multiple of 6.0x and a P/E of 11.1x vs. the sector at 8.4x EBITDA and 19.5x earnings. From a risk perspective, falling steel prices would impact our 2010 earnings forecast and MT would likely underperform. A slower than expected recovery in demand would also lead to weaker than expected earnings.

ArcelorMittal (ISPA.AS;MT NA)FYE Dec 2008A 2009E 2010E 2011E 2012EAdj. EPS FY ($) 6.72 (0.70) 3.40 4.80 5.05Adj P/E FY 5.8 NM 11.4 8.1 7.7Revenue FY ($ mn) 124,936 65,799 83,533 89,112 92,946EBITDA FY ($ mn) 22,779 5,831 12,673 15,001 15,369EBITDA margin FY 18.2% 8.9% 15.2% 16.8% 16.5%EBIT FY ($ mn) 12,236 (1,687) 7,651 9,978 10,347EBIT margin FY 9.8% -2.6% 9.2% 11.2% 11.1%ROA FY 7.1% -0.3% 3.9% 5.4% 5.4%ROE FY 22.2% -3.0% 12.4% 14.7% 13.9%Source: Company data, Bloomberg, J.P. Morgan estimates.

Company DataPrice (€) 25.95Date Of Price 30 Nov 09Price Target (€) 33.00Price Target End Date 30 Jun 1052-week Range (€) 28.82 - 12.57Mkt Cap (€ bn) 41.4Shares O/S (mn) 1,597

ArcelorMittal (ISPA.AS;MT NA)FYE Dec 2008A 2009E 2010E 2011E 2012EAdj. EPS FY ($) 6.72 (0.70) 3.40 4.80 5.05Adj P/E FY 5.8 NM 11.4 8.1 7.7Revenue FY ($ mn) 124,936 65,799 83,533 89,112 92,946EBITDA FY ($ mn) 22,779 5,831 12,673 15,001 15,369EBITDA margin FY 18.2% 8.9% 15.2% 16.8% 16.5%EBIT FY ($ mn) 12,236 (1,687) 7,651 9,978 10,347EBIT margin FY 9.8% -2.6% 9.2% 11.2% 11.1%ROA FY 7.1% -0.3% 3.9% 5.4% 5.4%ROE FY 22.2% -3.0% 12.4% 14.7% 13.9%Source: Company data, Bloomberg, J.P. Morgan estimates.

Company DataPrice (€) 25.95Date Of Price 30 Nov 09Price Target (€) 33.00Price Target End Date 30 Jun 1052-week Range (€) 28.82 - 12.57Mkt Cap (€ bn) 41.4Shares O/S (mn) 1,597


Price Target: €33

Steel

Jeffrey Largey AC (44-20) 7325-9744 [email protected]

Ben Defay


Flagship reports • ArcelorMittal, Maintain OW rating &

EBITDA forecasts, 29 Oct 09 • ArcelorMittal, Earnings inflection point

reached, Remain OW, 29 Jul 09 • ArcelorMittal, Capital raise sufficient;

Upgrade to OW, 13 May 09 • ArcelorMittal, 1Q Preview & Accounting

Review; 23 Apr 09 Price Performance

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ISPA.AS share price (€)MSCI-Eu (rebased)

Performance (%) YTD 1m 3m 12m Abs 53.5% 13.5% 1.5% 58.4% Rel 32.0% 13.5% -1.6% 34.3%

93



ArcelorMittal: Summary of Financials Profit and Loss Statement Cash flow statement $ in millions, year end Dec FY07 FY08 FY09E FY10E FY11E $ in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Revenues 105,216 124,936 65,799 83,533 89,112 EBIT 14,830 12,236 (1,687) 7,651 9,978

% Change Y/Y 18.8% 18.7% -47.3% 27.0% 6.7% Depreciation & amortization (4,460) (9,486) (7,407) (4,822) (4,822) Gross Margin (%) - - - - - Change in working capital & Other (3,264) (11,174) 4,697 (1,502) (881) EBITDA 19,290 22,779 5,831 12,673 15,001 Taxes (1,018) (1,098) 3,184 (1,181) (1,662)

% Change Y/Y 30.5% 18.1% -74.4% 117.3% 18.4% Cash flow from operations 23,972 26,992 5,393 7,090 9,886 EBITDA Margin (%) 18.3% 18.2% 8.9% 15.2% 16.8%

EBIT 14,830 12,236 (1,687) 7,651 9,978 Capex (5,448) (5,531) (2,581) (3,800) (4,675) % Change Y/Y 25.4% -17.5% -113.8% -553.4% 30.4% Disposals/(purchase) (205) - 0 0 0 EBIT Margin 14.1% 9.8% -2.6% 9.2% 11.2% Net Interest (383) (2,019) (1,964) (1,572) (1,347)

Net Interest 383 2,019 1,964 1,572 1,347 Free cash flow 4,623 2,224 2,872 3,222 5,143 Earnings before tax 9,375 11,537 -3,659 6,614 9,329

% change Y/Y -15.7% 23.1% -131.7% -280.8% 41.1% Equity raised/repaid (2,498) (4,372) 0 (343) (976) Tax 1,018 1,098 (3,184) 1,181 1,662 Debt Raised/repaid 1,435 4,873 -6,401 -2,500 -3,400

Tax as a % of BT 10.9% 9.5% 87.0% 17.8% 17.8% Dividends paid (1,820) (2,079) (1,117) (1,198) (1,198) Net Income (Reported) 7,302 9,399 (403) 5,135 7,245 Other (1,949) (4,805) (45) (343) (976)

% change Y/Y -8.4% 28.7% -104.3% -1375.2% 41.1% Shares Outstanding (m) 1,386.0 1,386.0 1,489.2 1,597.0 1,597.0 Beginning cash 6,020 7,860 7,576 6,038 5,220 EPS (Reported) - $ 7.41 6.72 -0.73 3.22 4.54 Ending cash 7,860 7,576 6,038 5,220 4,789

% Change Y/Y 28.6% (9.2%) (110.8%) (541.7%) 41.1% DPS - - - - - Balance sheet Ratio Analysis $ in millions, year end Dec FY07 FY08 FY09E FY10E FY11E $ in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Cash and cash equivalents 7,860 7,576 6,038 5,220 4,789 EBITDA margin (%) 18.3% 18.2% 8.9% 15.2% 16.8% Accounts Receivable 9,533 6,737 7,082 6,591 6,631 Operating margin (%) 14.1% 9.8% NM 9.2% 11.2% Inventories 21,750 24,741 20,354 23,584 23,988 Net margin (%) 6.9% 7.5% NM 6.1% 8.1% Others 5,385 3,288 328 2,573 5,003 SG&A/Sales - - - - - Current assets 45,328 44,414 38,397 40,318 40,331 Sales per share growth 18.7% 18.7% -51.0% 18.4% 6.7% LT investments 5,887 8,512 16,588 16,588 16,588 Sales growth (%) 18.8% 18.7% -47.3% 27.0% 6.7% Net fixed assets 61,994 60,755 55,929 54,975 54,896 Attributable net profit growth (%) -8.4% 28.7% -104.3% -1375.2% 41.1% Total assets 133,625 133,088 128,247 131,458 133,823 EPS growth (%) 28.6% (9.2%) (110.8%) (541.7%) 41.1% Liabilities ST loans 8,542 8,409 5,874 5,874 5,874 Interest coverage (x) 38.7 6.1 0.9 4.9 7.4 Payables 13,991 10,501 8,063 9,300 8,863 Net debt to Total Capital 28.9% 32.4% 27.5% 24.4% 20.0% Others 1,169 1,582 16,767 17,478 17,247 Net debt to equity 37.4% 44.8% 35.7% 30.5% 23.7% Total current liabilities 32,209 30,760 23,280 23,488 23,877 Sales/assets (x) 0.8 0.9 0.5 0.6 0.7 Long term debt 22,085 25,667 21,787 19,287 15,887 Total Assets/Equity 235.7% 241.1% 225.5% 213.2% 197.0% Other liabilities 15,340 15,088 22,685 23,396 22,502 ROE 26.2% 22.2% -3.0% 12.4% 14.7% Total liabilities 72,090 73,858 67,752 66,171 62,266 ROCE 14.6% 12.0% -1.6% 7.1% 9.1% Shareholders' equity 56,685 55,198 56,878 61,670 67,940 BVPS - $ 41 40 38 39 43 Source: Company reports and J.P. Morgan estimates.

94



ASML Key beneficiary of memory cycle The opportunity in the next cycle Just as NAND flash has become the storage of choice in music players, we believe it will begin to replace hard disk drives in notebooks and servers in the next cycle. According to our bottom up calculations, if notebooks and servers have 50% SSD penetration by 2014 and desktops 5% with 256GB notebook capacity, 512GB server and desktop capacity, capex requirements over the 2010-2014 will be US$85-139bn with an average spend of US$112bn. To put it into context, this spend would be 35% more than the capex associated with the ’95-’01 DRAM cycle and 11% less than the DRAM+NAND cycle of ’03-’08.

Flexing upside Based on foundry, DRAM and NAND trends; ASML’s market share of 70%+ in the next cycle; higher leading edge share coupled with intention to return excess cash to shareholders, if ASML does return cash in ’11/’12 to investors per its stated intention; we estimate ASML EPS in ’13 could be as high as €2.56 incorporating a potential buy-back (€2.27 without). Given that historically ASML has traded at 14-17x EPS, it could trade at as much as €40.

Catalysts – 2010 and beyond Though ASML’s orders showed a strong recovery in 3Q09 increasing 97% QoQ to €777m, there were virtually no orders from NAND flash companies for capacity. A look at ASML’s order book reveals that 76% of orders through 3Q09 have been immersion, thus virtually no capacity has been added at all and in fact even these technology upgrade tools are for DRAM and foundry. NAND capacity related orders is the next key catalyst for the stock and we expect these orders to come in over the next 6 months, which will likely result in another upward revision to estimates.

Valuation, target price, key risks We have a Dec 10 PT of €24.0, based on ~15x our ’11E EPS, which is near the lower end of the stock’s historical mid-cycle trading range of 15-18x. With substantial growth in orders already in 2H09 and revenue growth of over 120% likely in ’10 (JPMe), we believe that as the market starts to focus on 2011 estimates, there will be a P/E de-rating and the stock will trade near the lower end of the historical mid-cycle multiple range. However through 2010 and 2011 as the market gets more comfortable with 2011 estimates and they rise the stock will likely move to the next level. Key risks are an economic double dip and market share loss to Nikon.

ASML (ASML.AS;ASML NA) FYE Dec 2006A 2007A 2008A 2009E 2010E 2011EAdj. EPS FY (€) 1.25 1.42 0.81 (0.36) 1.39 1.58Adj P/E FY 16.4 14.4 25.4 NM 14.8 13.0Revenue FY (€ mn) 3,597 3,809 2,954 1,572 3,493 3,694EBIT FY (€ mn) 871 849 287 (179) 751 854EBIT margin FY 24.2% 22.3% 9.7% -11.4% 21.5% 23.1%EV/Revenue FY 2.4 2.3 2.9 5.5 2.5 2.3EV/EBITDA FY 8.8 8.7 21.0 -225.7 9.8 8.7DPS (Net) FY (€) 0.00 0.00 0.25 0.20 0.20 0.20Source: Company data, Bloomberg, J.P. Morgan estimates.

Company Data Price (€) 20.55Date Of Price 30 Nov 09Price Target (€) 24.00Price Target End Date 31 Dec 1052-week Range (€) 22.43 - 10.43Mkt Cap (€ bn) 8.9Shares O/S (mn) 435DPS (Net) (€) 0.20


Price Target:€24.0

Semiconductors

Sandeep Deshpande AC (44-20) 7325-0456 [email protected]

Flagship reports • ASML: The blue sky case offers

considerable upside potential, 05 Aug 09

• ASML : The case for ASML, 10 Jun 09

Price Performance

8

14

20

€


ASML.AS share price (€)MSCI-Eu (rebased)


95



ASML: Summary of Financials Profit and Loss Statement Cash flow statement € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Revenues 3,809 2,954 1,572 3,492 3,694 Net Income (Reported) 688 322 (157) 604 687

% Change Y/Y 5.9% (22.4%) (46.8%) 122.1% 5.8% Depreciation & amortization 136 123 141 128 130 Gross Profit 1,560 1,016 444 1,393 1,514 Other items -183 -122 -2 -147 -168 Gross Margin (%) 41.0% 34.4% 28.2% 39.9% 41.0% Cash flow from operations 802 287 122 638 688 EBIT 849 287 (179) 751 854

% Change Y/Y (2.5%) (66.2%) (162.3%) (519.8%) 13.8% Capex (173) (259) (140) (160) (175) EBIT Margin 22.3% 9.7% -11.4% 21.5% 23.1% Other 17 0 0 0 0

Net Interest 33 23 (3) 4 4 Free cash flow 502 17 (18) 478 513 Earnings before tax 894 380 -182 755 858

% change Y/Y 2.8% (57.5%) (147.8%) (515.9%) 13.7% Equity raised/repaid (1,279) (67) 6 0 0 Tax (charge) 206 57 (24) 151 172 Debt Raised/repaid 584 (2) 0 0 0

Tax as a % of BT 23.0% 15.1% 13.3% 20.0% 20.0% Dividends paid 0 (112) (86) (87) (87) Net Income (Reported) 688 322 (157) 604 687 Other 1 - - - -

% change Y/Y 10.1% (53.1%) (148.8%) (483.6%) 13.7% Beginning cash 1,656 1,272 1,109 1,012 1,403 EPS (Adj.) - € 1.42 0.81 (0.36) 1.39 1.58 Ending cash 1,272 1,109 1,012 1,403 1,829

% Change Y/Y 13.5% (43.2%) (144.9%) (482.4%) 13.7% DPS 0.00 0.25 0.20 0.20 0.20 Balance sheet Ratio Analysis € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Cash and cash equivalents 1,272 1,109 1,012 1,403 1,829 EBITDA margin (%) 25.8% 13.9% -2.4% 25.2% 26.7% Accounts Receivable 638 469 367 587 607 Net margin (%) 18.1% 10.9% NM 17.3% 18.6% Inventories 1,102 999 1,040 1,247 1,211 SG&A/Sales 5.9% 7.2% 10.0% 4.9% 4.9% Others 308 395 446 535 554 Current assets 3,319 2,973 2,864 3,772 4,201 Sales per share growth 15.8% -14.0% -46.6% 121.4% 5.8% Sales growth (%) 5.9% (22.4%) (46.8%) 122.1% 5.8% LT investments - - - - - Attributable net profit growth (%) 10.1% (53.1%) (148.8%) (483.6%) 13.7% Net fixed assets - - - - - EPS growth (%) 16.4% (49.0%) (148.9%) (482.4%) 13.7% Total assets 4,068 3,939 3,843 4,783 5,256 Liabilities Net debt to Total Capital (27.9%) (30.3%) (25.1%) (48.7%) (68.8%) ST loans 0 0 0 0 - Net debt to equity (21.8%) (23.2%) (20.1%) (32.8%) (40.8%) Payables - - - - - Sales/assets (x) 0.9 0.7 0.4 0.7 0.7 Others 1,305 1,008 1,181 1,604 1,477 Total Assets/Equity 213.2% 198.1% 219.6% 211.0% 183.3% Total current liabilities - - - - - ROE 35.4% 13.2% -9.0% 26.6% 24.0% Long term debt 855 647 660 660 660 ROCE 30.7% 9.8% -6.7% 23.6% 22.6% Other liabilities 0 0 0 0 0 Total liabilities 2,160 1,951 2,093 2,516 2,390 Shareholders' equity 1,908 1,989 1,750 2,267 2,867 BVPS 4 5 4 5 7 Source: Company reports and J.P. Morgan estimates.

96



BBVA High quality play, benefiting from Mexican recovery in 2010 The opportunity in the next cycle Despite a seemingly risky geographical mix, we see BBVA offering an attractive entry point to what we see as a gradual rerating of the stock in the next months. With the bank’s earnings stability (20% RoTBV in 2010E) likely to fare well vs. other European banks, we expect steady TBV/share increases (12% CAGR) and gradually recovering profitability levels (12E RoTBVs of 22%). With the stock providing shareholders with double digit TBV growth, a bottom out RoTBV of 20% and a 5-6% dividend yield by 10E, we see further upside arising from a faster than expected recovery in Mexico/Latam. Capital wise, and following the issuance of €2bn of convertibles, we see the bank comfortably reaching a core Tier 1 ratio of 8.7% by 2011E, which could be strengthened further through the disposal of TEF’s stake (c.50-60bps of core capital).

Flexing upside On our estimates, if Mexican provisions go down to 2007 levels (from current 393bps to 273bps), we see 5% upside to Group EPS, a RoNAV of 21% (vs. current 20%) and a PT of c.€16.3 (vs. current €15.6).

Catalysts – 2010 and beyond BBVA’s Mexican operations remain the main catalyst for the stock. We see evidence of Mexican losses entering a gradually downward trend as we go into 10E and the full clean up of the bank’s consumer portfolio loses momentum.

Valuation, target price, key risks Our Dec 10 SOTP-based PT of €15.6 offers 24% upside to current levels and we remain comfortable about book value multiples staying around the c.2.0x mark (currently at 1.8x PTBV 10E and 9.4x PE 10E). Key risks to our rating and price target include: (i) material deterioration of the economic situation and property market in Spain; (ii) economic slowdown in Mexico or larger-than expected interest rate declines, which could depress margins; (iii) additional rate declines in Europe, which could affect volumes and asset quality indicators; (iv) slower recovery of credit markets, which could increase the bank’s funding costs; (v) volatility of Latam currencies, which could have a negative impact on the region’s earnings and capital base; and (vi) a value destructive acquisition.

BBVA (BBVA.MC;BBVA SM) FYE Dec 2008A 2009E 2010E 2011E 2012EAdj. EPS FY (€) 1.46 1.44 1.33 1.48 1.79Adj P/E FY 8.6 8.7 9.4 8.5 7.0Dividend (Net) FY (€) 0.61 0.44 0.63 0.69 0.84NAV/Sh FY (€) 5.1 5.8 6.5 7.7 9.1P/BV FY 1.8 1.5 1.4 1.3 1.2P/NAV FY 2.5 2.2 1.9 1.6 1.4ROE FY 19.1% 18.9% 15.5% 15.7% 17.4%Tier One Ratio FY 7.9% 9.5% 9.8% 9.8% 10.1%Source: Company data, Bloomberg, J.P. Morgan estimates.

Company Data Price (€) 12.55Date Of Price 30 Nov 09Price Target (€) 15.60Price Target End Date 31 Dec 1052-week Range (€) 13.27 - 4.45Mkt Cap (€ bn) 47.0Shares O/S (mn) 3,748



Banks

Ignacio Cerezo AC (44-20) 7325-4425 [email protected]

Andrea Unzueta


Flagship reports • Santander and BBVA – Increased TBV

growth visibility, 24 Aug 09 • BBVA: Q3 underpins OW – Spain’s

buffer enlarged, Mexican NPLs showing stabilization signs, 28 Oct 09

Price Performance

4

8

12

€


BBVA.MC share price (€)MSCI-Eu (rebased)

Performance (%) YTD 1m 3m 12m Abs 44.9% 2.7% -0.2% 64.6% Rel 25.1% 1.9% -0.9% 42.2%

97



BBVA: Summary of Financials Profit and Loss Statement Ratio Analysis € in millions, year end Dec FY07A FY08A FY09E FY10E FY11E € in millions, year end Dec FY07A FY08A FY09E FY10E FY11E Per Share Data Net interest income 9,628 11,686 13,620 13,689 14,402 EPS Reported 1.49 1.44 1.44 1.33 1.48

% Change Y/Y - 21.4% 16.6% 0.5% 5.2% EPSAdjusted 1.51 1.46 1.44 1.33 1.48Non-interest income 7,644 7,291 6,797 6,975 7,237 % Change Y/Y - (3.3%) (0.9%) (7.6%) 11.0%Fees & commissions 4,559 4,527 4,332 4,466 4,670 DPS 0.73 0.61 0.44 0.63 0.69

% change Y/Y - (0.7%) (4.3%) 3.1% 4.6% % Change Y/Y - (16.2%) (28.7%) 43.0% 11.0%Trading revenues 1,956 1,558 1,478 1,455 1,461 Dividend yield 4.5% 8.4% 3.5% 5.0% 5.5%

% change Y/Y - (20.3%) (5.2%) (1.6%) 0.4% Payout ratio 49.1% 42.5% 30.3% 46.9% 46.9%Other Income 1,128 1,206 988 1,054 1,106 BV per share 7.22 6.84 8.26 8.99 9.81Total operating revenues 17,271 18,977 20,418 20,664 21,639 NAV per share 5.45 5.09 5.78 6.48 7.70

% change Y/Y - 9.9% 7.6% 1.2% 4.7% Shares outstanding 3,748.0 3,748.0 3,907.4 3,907.4 3,907.4Admin expenses -7,830 -8,455 -8,099 -8,286 -8,567

% change Y/Y - 8.0% (4.2%) 2.3% 3.4% Return ratios Other expenses - - - - - RoRWA 2.3% 1.8% 1.9% 1.6% 1.7%Pre-provision operating profit 9,441 10,522 12,318 12,377 13,072 Pre-tax ROE 34.2% 26.9% 27.2% 23.4% 23.6%

% change Y/Y - 11.4% 17.1% 0.5% 5.6% ROE 22.6% 19.1% 18.9% 15.5% 15.7%Loan loss provisions 1,904 2,941 4,802 4,453 4,383 RoNAV 26.7% 28.6% 24.2% 20.6% 19.2%Other provisions 957 -656 247 -461 -461 Earnings before tax 8,495 6,926 7,763 7,463 8,228 Revenues

% change Y/Y - (18.5%) 12.1% (3.9%) 10.3% NIM (NII / RWA) 3.6% 4.1% 4.6% 4.3% 4.2%Tax (charge) (2,080) (1,541) (1,842) (1,786) (1,944) Non-IR / average assets 1.7% 1.4% 1.2% 1.2% 1.2%

% Tax rate 24.5% 22.3% 23.7% 23.9% 23.6% Total rev / average assets 3.8% 3.6% 3.7% 3.7% 3.7%Minorities (289) (365) (454) (467) (498) NII / Total revenues 55.7% 61.6% 66.7% 66.2% 66.6%Net Income (Reported) 5,402 5,415 5,467 5,210 5,786 Fees / Total revenues 26.4% 23.9% 21.2% 21.6% 21.6% Trading / Total revenues 11.3% 8.2% 7.2% 7.0% 6.8% Balance sheet € in millions, year end Dec FY07A FY08A FY09E FY10E FY11E € in millions, year end Dec FY07A FY08A FY09E FY10E FY11E ASSETS Cost ratios Net customer loans 310,882 333,029 326,825 334,757 349,845 Cost / income 45.3% 44.6% 39.7% 40.1% 39.6%

% change Y/Y 21.2% 7.1% (1.9%) 2.4% 4.5% Cost / assets 1.6% 1.6% 1.5% 1.5% 1.4%Loan loss reserves 7,662 7,829 8,959 10,633 12,580 Staff numbers - - - - -Investments 63,878 74,766 78,724 82,925 87,388 Other interest earning assets 105,375 107,111 113,585 118,917 126,753 Balance Sheet Gearing

% change Y/Y 24.0% 1.6% 6.0% 4.7% 6.6% Loan / deposit 131.6% 124.7% 128.8% 128.1% 126.3%Average interest earnings assets 418,426 477,396 497,083 501,743 518,944 Investments / assets 23.7% 23.8% 26.2% 26.1% 25.9%Goodwill 8,244 8,440 8,129 8,129 8,129 Loan / assets 67.4% 68.2% 64.2% 63.7% 63.4%Other assets 13,826 20,169 22,959 23,259 23,564 Customer deposits / liabilities 47.0% 49.2% 46.1% 46.0% 46.5%Total assets 502,205 543,515 550,223 567,987 595,678 LT Debt / liabilities 19.6% 19.7% 19.8% 19.4% 18.8% LIABILITIES Asset Quality / Capital Customer deposits 236,183 267,140 253,783 261,396 277,080 Loan loss reserves / loans 2.5% 2.4% 2.7% 3.2% 3.6%

% change Y/Y 22.8% 13.1% (5.0%) 3.0% 6.0% NPLs / loans 1.1% 2.6% 4.3% 4.9% 4.7%Long term funding 98,661 107,167 108,801 110,472 112,182 LLP / RWA 1.27% 3.02% 4.78% 5.18% 4.71%Interbank funding - - - - - Loan loss reserves / NPLs 224.8% 91.4% 63.7% 64.7% 77.2%Average interest bearing liabs 309,244 354,576 368,445 367,226 380,566 Growth in NPLs 34.7% 151.4% 64.0% 16.9% (0.8%)Other liabilities 141,669 141,571 156,007 161,621 168,736 RWAs 268,491 283,320 293,908 317,075 346,201Retirement benefit liabilities - - - - - % YoY change - 5.5% 3.7% 7.9% 9.2%Shareholders' equity 24,811 26,586 30,413 33,279 36,461 Core Tier 1 6.3% 6.2% 8.2% 8.5% 8.7%Minorities 880 1,049 1,219 1,219 1,219 Total Tier 1 7.7% 7.9% 9.5% 9.8% 9.8%Total liabilities & Shareholders Equity 502,204 543,513 550,223 567,987 595,678 Source: Company reports and J.P. Morgan estimates.

98



Big Yellow Recovery play at a discount The opportunity in the next cycle Big Yellow is a REIT focused on storage in the UK. We believe the stock is attractively priced on conservative estimates, while the risk is clearly to the upside if the recovery continues:

• Big Yellow trades at a 9% discount to our trough Adj NAV estimate of 408p.

• The stores are currently only 55% occupied, which management believe should increase to 75% over coming years under a slow recovery scenario and 85% if economic growth picks up more strongly. We consider 55% occupancy the low in this downturn. An increase to 85% in occupancy, which is the long-term average, would enhance net earnings by at least £25m or 20p per share.

• The EBITDA margin is currently only 58% versus the long-term average of 65%.

• We estimate around £75m fire power, after the anticipated land sales, which should enable the company to benefit from any (distressed) sales. Big Yellow has currently a conservative loan-to-value ratio of 34%.

• 51 (wholly owned) and 8 (in partnership) stores are open, while there are 7 (wholly owned) and 4 (in partnership) under development. More than 60% of the stores are based in the London area where self-storage awareness is highest.

Flexing upside If occupancy rises back to its long-term average of 85%, our price target could rise to 600p, instead of 485p currently.

Catalysts – 2010 and beyond We see the following catalysts for the stock: Results (IMS expected in Jan), better than expected economic growth (or just time passing by), pick up in mortgage approvals, which would indicate more housing transactions and could therefore translate in more users for storage.

Valuation, target price, key risks Our Sep-2010 EVM-based price target of 485p indicates 31% share price upside from current levels, which is based on forecasts of only 1% increase in occupancy pa after Mar-2010. Big Yellow aims to resume dividend payments next year. Risks to our OW rating and price target include a fall in housing transactions and a jump in interest rates.

Big Yellow Group Plc (BYG.L;BYG LN) FYE Mar 2009A 2010E 2011E 2012EAdj. EPS FY (p) 11.98 11.26 15.51 16.75Adj P/E FY 29.9 31.8 23.1 21.4DPS FY (p) 0 0 13 14ROIC FY -6.6% 2.5% 9.3% 12.2%Adjusted NAV ps FY (p) 424.29 418.66 471.29 538.42NAV premium (discount) FY (8.2%) (7.0%) (17.4%) (27.7%)Property investments FY (£ mn) 735 749 831 964LTV (Loan-to-value) FY 36.8% 32.9% 31.3% 31.6%Source: Company data, Bloomberg, J.P. Morgan estimates.

Company Data Price (p) 370Date Of Price 30 Nov 09Price Target (p) 485Price Target End Date 30 Sep 1052-week Range (p) 444 - 148Mkt Cap (£ bn) 0.47Shares O/S (mn) 126

Overweight 370p 30 November 2009

Price Target: 485p

Property

Harm Meijer AC






Flagship reports • The Property Ticker (daily) • European Property Handbook: Castles

Made of Sand, 01 Sep 09

Price Performance

150

250

350

450

p


Performance (%) YTD 1m 3m 12m Abs 54.8% -5.5% -4.0% 82.0%

99



Big Yellow Group Plc: Summary of Financials Profit and Loss Statement Per share data £ in millions, year end Mar FY09 FY10E FY11E FY12E £ in millions, year end Mar FY09 FY10E FY11E FY12E Property income 59 56 65 75 Adjusted EPS 11.98 11.26 15.51 16.75

% Change Y/Y - (4.5%) 15.7% 15.3% % change Y/Y - - - -Rental income 47 45 53 61 Indirect result -75.39 -4.63 37.18 63.47Other income 12 11 12 14 % change Y/Y - (93.9%) (902.7%) 70.7%

EBITDA 31 27 33 38 EPS (IFRS) -62.78 6.67 52.41 79.74% Change Y/Y - (14.9%) 25.5% 14.1% % change Y/Y - (110.6%) 686.2% 52.2%

Net interest (17) (12) (13) (17) DPS 0.00 0.00 12.56 13.57Earnings before tax 14 14 20 21 % change Y/Y - - - 8.0%

% change Y/Y - 4.0% 39.1% 8.0% Gross cash flow 0.12 0.11 0.16 0.17Tax 0 (0) (0) (0) % change Y/Y - (6.0%) 37.7% 8.0%

as % of EBT 1.1% (0.7%) (0.5%) (0.5%) NNNAV (IFRS) 424.29 418.66 471.29 538.42Minorities (0) (0) (0) (0) % change Y/Y - (1.3%) 12.6% 14.2%Adjusted net income 14 14 20 21 Adjusted NAV 424.29 418.66 471.29 538.42

% change Y/Y - 2.2% 39.3% 8.0% % change Y/Y - (1.3%) 12.6% 14.2%Revaluation (64) (6) 47 80 Capital gain tax (1) 0 0 0 Cash flow statement Other (21) 0 0 0 EBITDA 31 27 33 38Minorities 0 0 0 0 Gross cash flow 14 14 20 21Indirect profit (86) (6) 47 80 Net cash flow (31) 11 17 2Total profit (IFRS) (73) 8 67 102 Total cash flow requirement (24) 28 (13) (45) Balance Sheet Ratio Analysis £ in millions, year end Mar FY09 FY10E FY11E FY12E £ in millions, year end Mar FY09 FY10E FY11E FY12E Cash and cash equivalents 3 19 41 49 Operating return 3.8% 3.2% 3.8% 3.9%Accounts receivable 8 8 8 8 Capital return (10.4%) (0.7%) 5.4% 8.3%Others 17 17 17 17 ROIC (6.6%) 2.5% 9.3% 12.2%Current assets 29 45 67 74 WACC 9.1% 9.1% 9.1% 9.1% EVA spread (15.7%) (6.6%) 0.2% 3.1%Property investments 735 749 831 964 Property not in operation 74 74 74 74 ROE (recurring) 2.6% 2.7% 3.4% 3.2%Total assets 859 891 995 1,136 ROE (total) (13.4%) 1.6% 11.5% 15.5% Short term debt 0 0 0 0 Net debt / total assets 35.5% 31.2% 29.2% 29.6%Others 48 50 51 51 Net debt/ equity 60.8% 51.1% 47.4% 48.0%Total current liabilities 48 50 51 51 Equity / assets 58.4% 61.1% 61.6% 61.6% Long term debt 309 297 332 384 Property income / assets 6.8% 6.3% 6.5% 6.6%Other liabilities 0 0 0 0 Rental income / assets 5.5% 5.1% 5.3% 5.3%Shareholders' equity 502 544 613 700 EBITDA / assets 3.6% 3.0% 3.3% 3.3%Group equity 502 544 613 700 % change Y/Y - (17.9%) 12.4% (0.1%)Total liabilities and equity 859 891 995 1,136 Source: Company reports and J.P. Morgan estimates.

100



British American Tobacco Getting paid to wait for EM leverage payoff The opportunity in the next cycle We believe BAT is most attractive in European Tobacco due to its highest in Global Tobacco Emerging Mkt volume (77%) and profit (60%) exposure, balanced brand portfolio driven by innovation and significant cost savings that support continued margin expansion. While waiting for the recovery, BAT’s 5% dividend yield provides a superior return to cash.

Cost savings provide reliable flexibility. A key factor in the BAT story is its significant cost saving program. In our view, the 5-year £800mn cost savings program (delivering £245mn in 2008) could add 1-2% to EBIT growth in 2010E, providing visibility to approximately 9-10% EPS growth.

Volume growth supported by innovation. We expect volume momentum, especially in Premium (2008 +7% y/y) to continue though at a reduced level driven by further innovation and marketing support funded by cost savings, with additional benefits from mix improvement possible on end market consumer recovery.

Flexing upside Leveraged to EM recovery. BAT on our estimates has the most leverage to the key Tobacco EMs such as Brazil, Russia and S. Africa, markets that J.P. Morgan Economics forecasts to recover most substantially in 2010. We estimate 24% to 31% of BAT EBIT from these markets and as a result could see 3-5% upside risk to EBIT.

Catalysts – 2010 and beyond The 2010 outlook provided at 2009 results on 25 February 2010 is likely to be cautious on volumes but confident pricing, supporting 5-6% organic EBIT growth. H1 results late July could support an improved outlook for volume and mix.

Valuation, target price, key risks We rate BAT as Overweight with Aug 2010 price target of 2350p based on comparative multiple and DCF analysis. Our 2350p price target implies a 14x 2010E P/E, similar to current valuations among Lg Cap Consumer Staples peers. Our 2350p PT using our DCF with 7.5% WACC implies a -0.1% LT cash flow growth rate, which we view as undemanding. Risks to our rating and price target include: 1) adverse FX movements; 2) regulatory changes such as large excise tax increases; 3) litigation risk from US and Canada; and 4) increased competitive pressure including non-duty paid.

British American Tobacco (BATS.L;BATS LN) FYE Dec 2008A 2009E 2010E 2011EAdj. EPS FY (p) 128.80 153.20 168.00 184.00Bloomberg EPS FY (p) 127.90 151.70 163.90 177.20Adj P/E FY 13.9 11.6 10.6 9.7EBIT FY (£ mn) 3,717 4,336 4,695 5,011EBITDA FY (£ mn) 4,147 4,783 5,160 5,495EV/EBITDA FY 11.4 9.8 9.1 8.6Gross Yield FY 4.5% 5.4% 5.9% 6.5%FCF Yield FY 7.4% 7.9% 8.6% 9.3%Source: Company data, Bloomberg, J.P. Morgan estimates.

Company Data Price (p) 1,847Date Of Price 30 Nov 09Price Target (p) 2,350Price Target End Date 01 Aug 1052-week Range (p) 2,012 - 1,481Mkt Cap (£ bn) 36.81Shares O/S (mn) 1,993


Price Target: 2350p

Tobacco

Erik Bloomquist, CFA AC (44-20) 7325-9917 [email protected]





Price Performance

1,300

1,600

1,900p

Nov-08 Feb-09 May-09 Aug-09 Nov-09

BATS.L share price (p)MSCI-Eu (rebased)

Performance (%) YTD 1m 3m 12m Abs 2.8% -7.1% -1.7% 9.3% Rel -18.7% -7.1% -4.8% -8.9%







101



British American Tobacco: Summary of Financials Profit and Loss Statement FY08 FY09E FY10E FY11E FY12E Segment Analysis FY08 FY09E FY10E FY11E FY12E £ in millions, year end Dec £ in millions, year end Dec Revenues 12,122 14,226 15,185 15,900 16,638 Revenue

% change Y/Y 21.0% 17.4% 6.7% 4.7% 4.6% Eastern Europe 1,594 1,703 1,876 2,066 2,255 EBITDA 4,147 4,783 5,160 5,495 5,836 % Change y/y - 6.8% 10.2% 10.2% 9.1%

% change Y/Y 24.2% 15.3% 7.9% 6.5% 6.2% Western Europe 3,218 4,022 4,178 4,258 4,340 EBITDA Margin (%) 34.2% 33.6% 34.0% 34.6% 35.1% % Change y/y - 25.0% 3.9% 1.9% 1.9%

EBIT 3,717 4,336 4,695 5,011 5,333 Asia Pacific 2,717 3,009 3,280 3,478 3,688 % change Y/Y 23.8% 16.7% 8.3% 6.7% 6.4% % Change y/y - 10.7% 9.0% 6.0% 6.0% EBIT Margin (%) 30.7% 30.5% 30.9% 31.5% 32.1% Americas 2,863 3,085 3,272 3,388 3,508

Net Interest (391) (460) (450) (442) (396) % Change y/y - 7.7% 6.1% 3.5% 3.5% Earnings before tax 3,803 4,408 4,803 5,155 5,547 Africa & Middle East 1,730 2,408 2,579 2,710 2,847

% change Y/Y 19.5% 15.9% 9.0% 7.3% 7.6% % Change y/y - 39.2% 7.1% 5.1% 5.1% Tax (1,019) (1,124) (1,274) (1,371) (1,481) Total Revenue 12,122 14,226 15,185 15,900 16,638

as % of EBT 26.8% 25.5% 26.5% 26.6% 26.7% % change Y/Y 21.0% 17.4% 6.7% 4.7% 4.6% Net Income (Adjusted) 2,582 3,054 3,279 3,514 3,773

% change Y/Y 16.7% 18.3% 7.4% 7.2% 7.4% EBITA Shares Outstanding 2,005 1,993 1,951 1,910 1,868 Eastern Europe 468 447 515 577 641 EPS (Adjusted) 128.80 153.20 168.00 184.00 202.00 % Change y/y - (4.5%) 15.4% 12.0% 11.0%

% change Y/Y 18.7% 18.9% 9.7% 9.5% 9.8% Western Europe 760 1,001 1,066 1,123 1,168 % Change y/y - 31.7% 6.5% 5.4% 4.0% Cash flow statement FY08 FY09E FY10E FY11E FY12E Asia Pacific 924 1,072 1,190 1,273 1,362 £ in millions, year end Dec % Change y/y - 16.0% 11.0% 7.0% 7.0% Americas 1,052 1,159 1,217 1,278 1,342 EBIT 3,717 4,336 4,695 5,011 5,333 % Change y/y - 10.2% 5.0% 5.0% 5.0% Depreciation 430 447 465 484 503 Africa & Middle East 513 658 707 760 821 Other items (restructuring) -286 -50 -50 -50 -50 % Change y/y - 28.2% 7.5% 7.4% 8.0% Dividends from associates 326 359 394 434 477 Toal Operating Income 3,717 4,336 4,695 5,011 5,333 Changes in working capital 295 7 9 11 14 % change Y/Y 23.8% 16.7% 8.3% 6.7% 6.4% Cash Flow from Operations 4,482 5,099 5,514 5,890 6,278 Operating Margin Eastern Europe 29.4% 26.2% 27.5% 27.9% 28.4% Net Capital Expenditure (386) (405) (426) (447) (469) Western Europe 23.6% 24.9% 25.5% 26.4% 26.9% Net Interest Paid (273) (460) (450) (442) (396) Asia Pacific 34.0% 35.6% 36.3% 36.6% 36.9% Taxation Paid (943) (1,124) (1,274) (1,371) (1,481) Americas 36.7% 37.6% 37.2% 37.7% 38.2% Dividends Paid (1,566) (1,985) (2,131) (2,284) (2,452) Africa & Middle East 29.7% 27.3% 27.4% 28.0% 28.8% Total Operating Margin 30.7% 30.5% 30.9% 31.5% 32.1% FCF (Pre dividend) 2,880 3,109 3,364 3,630 3,931 Shares Issued (bought back) (506) 0 (750) (750) (750) Net Borrowings 2,131 0 - - - Cash Infow/(outflow) 839 1,124 483 597 729 Balance sheet FY08 FY09E FY10E FY11E FY12E Ratio Analysis FY08 FY09E FY10E FY11E FY12E £ in millions, year end Dec £ in millions, year end Dec Intangible assets 12,318 12,273 12,228 12,183 12,138 EBITDA Margin 34.2% 33.6% 34.0% 34.6% 35.1% Other Fixed Assets 6,523 6,653 6,787 6,922 7,061 EBIT Margin (%) 30.7% 30.5% 30.9% 31.5% 32.1% Stock 3,177 3,272 3,370 3,472 3,576 Net Profit Margin 21.3% 21.5% 21.6% 22.1% 22.7% Debtors 3,145 3,302 3,467 3,641 3,823 Cash 2,388 3,512 3,996 4,592 5,321 Sales growth 21.0% 17.4% 6.7% 4.7% 4.6% EBITDA Growth 24.2% 15.3% 7.9% 6.5% 6.2% Creditors 5,184 5,443 5,715 6,001 6,301 EBIT Growth 23.8% 16.7% 8.3% 6.7% 6.4% Net Profit Growth 16.7% 18.3% 7.4% 7.2% 7.4% Capital employed 22,367 23,570 24,133 24,809 25,617 EPS growth 18.7% 18.9% 9.7% 9.5% 9.8% Shareholders' Funds 6,944 8,134 8,682 9,343 10,136 Net Interest Coverage 9.5 9.4 10.4 11.3 13.5 Minority interests 271 285 299 314 329 Net Debt/EBITDA 2.4 1.8 1.6 1.4 1.2 Provisions 2,991 2,991 2,991 2,991 2,991 Net Debt/Equity 1.4 1.0 0.9 0.8 0.7 Debt 12,161 12,161 12,161 12,161 12,161 Assets/Equity 4.0 3.6 3.4 3.3 3.1 Capital employed 22,367 23,570 24,133 24,809 25,617 ROE 37.2% 37.5% 37.8% 37.6% 37.2% ROCE 16.6% 18.4% 19.5% 20.2% 20.8% Net Debt 9,773 8,649 8,165 7,569 6,840 Source: Company reports and J.P. Morgan estimates.

102



Carrefour Right assets, right management, right time The opportunity in the next cycle We believe that Carrefour has good assets, a good franchise and a sound management in place to turnaround its operations, and we have confidence that management will succeed. In our scenario analysis, we assign 80% probability to a successful turnaround. After 30 years at Nestlé, we believe CEO Lars Olofsson has the appropriate credentials for the task, given his strong understanding of the customer, the product and the supplier. We believe that the deep category and supplier review the company is undertaking together with the unification of the IT systems into a common platform are fundamental changes that will bear fruit in terms of market share from mid 2010. Flexing upside In our scenario analysis, we assign 20% probability to a partial break-up, which would lead to €52 per share. We estimate that Carrefour could raise proceeds equivalent to its entire current market cap from the sale of all ex-G4 countries. Leaving tax considerations aside, we estimate Carrefour could pay shareholders a €34 dividend per share, keeping the current average net debt of c€10.6bn. It would still own the G4 countries with estimated sales of €55bn, 2009 EBITDA of €2.8bn and an estimated property value of €14.6bn. We estimate the full break up value at €68 – we disregard this as a possibility for the moment but it is not unthinkable that after selling all the operations mentioned, Italy and Belgium would follow. Catalysts – 2010 and beyond We believe that we have passed the worst of the deflationary cycle while the base of comparison is set to get much easier (290bp in the French hypers, 590bp in the Spanish hypers, 410bp for the Group overall in 4Q09). We believe that by mid 2010 market share trends will improve. Having said all this, should management fail to turn the business around, we believe that Carrefour has sufficient intrinsic value to protect the share price on the downside.

Valuation, target price, key risks Our Dec-10 target price of €40 is based on probability weighted scenarios (€40 successful turnaround (80%), €52 partial break-up (20%)). Our €40 valuation per share under this scenario for Dec-10 is based on 14.0x 2011E PE and 7.2x EV/ EBITDA. It assumes that the current 14x one year forward multiple is maintained, ie that the stock goes up in line with 2011 expected EPS growth. The one-year-forward adjusted EV/ EBITDA multiple of 7.5x would still be below the current sector average one year forward multiple of 8.1x. We believe the key risk is that management fails to execute the Transformation Plan. We could see more margin pressure than expected as the company is forced to reduce prices further as the competitive environment sharpens in its key markets and cost savings do not come through as expected.

Carrefour (CARR.PA;CA FP)FYE Dec 2008A 2009E 2010E 2011EAdj. EPS FY (€) 2.70 1.98 2.30 2.86Revenue FY (€ mn) 86,967 85,983 89,584 93,016EBITDA FY (€ mn) 5,161 4,526 4,909 5,500EBITA (Calc) FY (€ mn) 3,300 2,681 2,979 3,489EV/Revenue FY 0.4 0.4 0.4 0.4EV/EBITDA FY 6.7 7.6 7.0 6.2DPS (Net) FY (€) 1.08 1.08 1.08 1.14Adj P/E FY 12.0 16.4 14.0 11.3Source: Company data, Bloomberg, J.P. Morgan estimates.

Company DataPrice (€) 32.32Date Of Price 30 Nov 09Price Target (€) 40.00Price Target End Date 01 Dec 1052-week Range (€) 33.67 - 22.06Mkt Cap (€ bn) 22.2Shares O/S (mn) 687

Carrefour (CARR.PA;CA FP)FYE Dec 2008A 2009E 2010E 2011EAdj. EPS FY (€) 2.70 1.98 2.30 2.86Revenue FY (€ mn) 86,967 85,983 89,584 93,016EBITDA FY (€ mn) 5,161 4,526 4,909 5,500EBITA (Calc) FY (€ mn) 3,300 2,681 2,979 3,489EV/Revenue FY 0.4 0.4 0.4 0.4EV/EBITDA FY 6.7 7.6 7.0 6.2DPS (Net) FY (€) 1.08 1.08 1.08 1.14Adj P/E FY 12.0 16.4 14.0 11.3Source: Company data, Bloomberg, J.P. Morgan estimates.

Company DataPrice (€) 32.32Date Of Price 30 Nov 09Price Target (€) 40.00Price Target End Date 01 Dec 1052-week Range (€) 33.67 - 22.06Mkt Cap (€ bn) 22.2Shares O/S (mn) 687


Price Target: €40

Food Retailing

Jaime Vazquez AC (44-20) 7325-0993 [email protected]

Rickin Thakrar (44-20) 7325-4523 [email protected]


Flagship reports • Right assets, right management, right

time, 24 Nov 09

Price Performance

22

28

34€


CARR.PA share price (€)MSCI-Eu (rebased)

Performance (%) YTD 1M 3M 12M Abs (%) 17.4% 10.4% -2.4% 14.1% Rel (%) -2.4% 9.6% -3.1% -8.3%


103



Carrefour: Summary of Financials Profit and Loss Statement Cash flow statement € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Sales 82,148 86,967 85,983 89,584 93,016 Net cashflow 3,771 3,400 2,875 3,691 4,160

Growth 5.5% 5.9% (1.1%) 4.2% 3.8% Capex (3,069) (2,918) (2,283) (2,699) (2,742)EBITDAR 5,980 6,210 5,563 5,989 6,622 Acquisitions (408) 945 0 0 0

% of sales 7.3% 7.1% 6.5% 6.7% 7.1% Working capital change 233 964 (38) 263 300EBITDA 5,014 5,161 4,526 4,909 5,500 Capital increase/ treasury (614) (939) 0 0 0

% of sales 6.1% 5.9% 5.3% 5.5% 5.9% Dividends (736) (757) (741) (741) (741)Depreciation (1,723) (1,861) (1,845) (1,930) (2,011) Other (102) 0 0 (370) (400)EBITA 3,291 3,300 2,681 2,979 3,489

% of sales 4.0% 3.8% 3.1% 3.3% 3.8% Net debt (increase)/ decrease (926) 706 (267) 144 577Net Interest (526) (562) (303) (582) (551) Pre-tax profit 2,812 2,214 1,577 2,397 2,937 Net (debt)/ cash (7,359) (6,653) (6,920) (6,776) (6,199)Tax (807) (743) (602) (695) (852) Associates 43 52 56 60 64 Minority interests (180) (267) (174) (181) (188) Reported Net Att. Profit 1,868 1,272 857 1,580 1,961 Adjusted Net Att. Profit 1,821 1,856 1,357 1,580 1,961

No of shares (diluted) 700.1 686.5 686.5 686.5 686.5 EPS (diluted) 2.60 2.70 1.98 2.30 2.86 Balance sheet Ratio Analysis € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Total fixed assets 30,597 29,985 30,423 31,193 31,923 EBITA by region France (mn) 1,624 1,581 1,191 1,375 1,570Inventories 6,867 6,891 6,214 6,193 6,162 Rest of Europe (mn) 1,216 1,153 937 1,003 1,070Debtors 3,424 2,919 2,910 3,056 3,198 Latin America (mn) 301 395 431 468 503Short term investments 0 245 245 245 245 Asia (mn) 218 242 231 294 331Cash and banks 4,164 5,317 5,317 5,317 5,317 Current assets 16,662 17,292 16,686 17,181 17,693 EBITA margin by region TOTAL ASSETS 51,931 52,082 51,914 53,179 54,421 France (mn) 4.4% 4.2% 3.1% 3.7% 4.1% Rest of Europe (mn) 3.9% 3.6% 2.9% 3.0% 3.0%Total Shareholders' funds 10,663 10,161 10,276 11,115 12,335 Latin America (mn) 3.7% 3.8% 3.8% 3.8% 3.9% Asia (mn) 4.0% 4.0% 3.3% 3.8% 3.8%Minority interests 1,107 791 965 1,146 1,334 Provisions 2,147 2,320 2,320 2,320 2,320 Payment period (days) 96.5 91.8 88.5 86.0 84.0Debt 11,523 12,215 12,482 12,338 11,761 Inventory turnover (days) 38.8 36.6 33.2 31.7 30.4Trade creditors 17,077 17,276 16,574 16,780 17,018 Other short term creditors 9,414 9,319 9,297 9,479 9,653 Net debt/ shareholders funds 97.9% 111.5% 111.0% 100.6% 86.0%TOTAL LIABILITIES 51,931 52,082 51,914 53,179 54,421 Net debt/ EV 20.7% 19.4% 20.0% 19.7% - Interest cover (x) 6.3 5.9 4.4 5.1 6.3 EBITDAR/(interest + rent) 4.0 3.9 4.2 3.6 4.0 Source: Company reports and J.P. Morgan estimates.

104



Daimler AG Upside to come from trucks The opportunity in the next cycle In our view, Daimler provides the best investment case in European autos in 2010 on valuation (trading at a discount of 17% to historic EV/Sales vs. BMW trading near its historic EV/Sales multiple), near-term earnings momentum (recovery in US, better price/mix should support the improvement in car division) and recovery in truck end-markets (consensus is factoring in breakeven truck profits, we believe it is possible to see truck margins near 2% in 2010, given expected incremental restructuring savings, in which case there may be 15% of upside to consensus estimates).

Flexing upside We see the biggest upside potential in DAI trucks, which appears to be trading at a discount to peers – applying a Volvo-like EV/Sales multiple of 70% would yield a fair value of €45 – or about 11% upside to our €40 target price. Further upside in cars could come from better than expected improvement in US and Europe end markets. An improvement of 1MM SAAR in US/Europe could add another 6% to our €40 target price.

Catalysts – 2010 and beyond For a turnaround of the truck division, we need to see an improvement in the truck cycle as well as evidence of improved truck margins at DAI (post restructuring at NA/Fuso truck divisions). Higher margins in the car division could come from continuing stabilization of luxury market share in developed markets (US/Europe) and better Price/Mix (vs. peers due to younger product portfolio). Sustainability of current personnel related savings (worth €1.6B) should provide further upside – the company is to provide details with FY results.

Valuation, target price, key risks Daimler currently trades at 38% EV/Sales vs. historic average of 46%. Our SOTP based Jul-10 price target of €40.00 uses a target EV/Sales of 45% for Mercedes-Benz Cars (in-line with BMW’s historical average) and EV/Sales of 54% for trucks (25% discount to Volvo) and Vans/Buses. Risks to rating and target price include: a delay in the US recovery could hurt Mercedes volumes; lower than expected demand/pricing for the E-Class could also provide downside to our estimates. Weaker than expected truck demand, particularly pricing, could provide downside to our estimates. Upside risk could come from larger than expected volume recovery in W Europe (cars, trucks) and a successful implementation of the cost-cutting program.

Daimler AG (DAIGn.DE;DAI GR)FYE Dec 2008A 2009E 2010E 2011EAdj. EPS FY (€) 0.99 (1.63) 1.33 2.39Revenue FY (€ mn) 95,873 76,797 83,754 90,490EBIT FY (€ mn) 2,730 (1,553) 2,984 4,681EBIT margin FY 2.8% -2.0% 3.6% 5.2%EBITDA FY (€ mn) 5,004 3,743 8,775 10,937EBITDA margin FY 5.2% 4.9% 10.5% 12.1%Net Attributable Income FY (€mn)

1,348 (1,647) 1,725 2,913

DPS (Net) FY (€) 0.60 0.60 0.60 0.60Source: Company data, Bloomberg, J.P. Morgan estimates.

Company DataPrice (€) 33.78Date Of Price 30 Nov 09Price Target (€) 40.00Price Target End Date 31 Jul 1052-week Range (€) 37.90 - 17.13Mkt Cap (€ bn) 34.7Shares O/S (mn) 1,027

Daimler AG (DAIGn.DE;DAI GR)FYE Dec 2008A 2009E 2010E 2011EAdj. EPS FY (€) 0.99 (1.63) 1.33 2.39Revenue FY (€ mn) 95,873 76,797 83,754 90,490EBIT FY (€ mn) 2,730 (1,553) 2,984 4,681EBIT margin FY 2.8% -2.0% 3.6% 5.2%EBITDA FY (€ mn) 5,004 3,743 8,775 10,937EBITDA margin FY 5.2% 4.9% 10.5% 12.1%Net Attributable Income FY (€mn)

1,348 (1,647) 1,725 2,913


Company DataPrice (€) 33.78Date Of Price 30 Nov 09Price Target (€) 40.00Price Target End Date 31 Jul 1052-week Range (€) 37.90 - 17.13Mkt Cap (€ bn) 34.7Shares O/S (mn) 1,027



Autos

Ranjit A Unnithan AC (44-20) 7325-8106 [email protected]

Flagship reports • Daimler AG: See Upside to 2010 Street

Ests on Trucks, 28 Oct 09 • Daimler AG: Restructuring continues,

Europe next?, 14 May 09

Price Performance

15

25

35

€


DAIGn.DE share price (€)MSCI-Eu (rebased)


105



Daimler AG: Summary of Financials Profit and Loss Statement Divisional Reporting € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Revenues 99,399 95,873 76,797 83,754 90,490 Revenue by division

% change Y/Y -35.0% -3.5% -19.9% 9.1% 8.0% M-B Cars & Smart 52,430 47,772 40,458 45,799 48,234Gross Margin (%) 24.1% 22.5% 17.0% 21.1% 22.8% Trucks 28,466 28,572 17,897 18,846 22,735EBITDA (industrial) 11,204 6,933 1,192 4,582 6,151 Services 8,711 9,282 11,078 11,078 10,745

IndustrialEBITDA Margin (%) 12.4% 8.0% 1.8% 6.3% 7.7% Vans 9,341 9,479 5,972 6,569 7,226OP - pre-restructuring 7,885 5,956 -492 3,020 4,719 Buses 4,350 4,808 4,423 4,423 4,866OP margin 8.8% 2.8% NM 3.6% 5.2% Other 432 683 -3,032 -2,962 -3,315

% change Y/Y 58.7% -68.7% -156.9% -292.1% 56.9% Inter-segment -4,331 -4,723 - - - Restructuring 981 -3,481 - - - Operating profit by division Net interest 471 65 (844) (544) (544) M-B Cars & Smart 4,835 2,498 -633 2,108 2,259Associate Income 1,053 248 256 288 - Trucks 1,957 1,811 -1,003 177 1,440Tax (4,326) (1,091) 750 (714) (1,224) Services 630 677 127 404 404

Tax rate % 47.1% 39.0% 31.3% 29.3% 29.6% Vans 571 818 -92 27 224Net Income (Reported) 3,979 1,348 (1,647) 1,725 2,913 Buses 308 406 219 219 308 Other 1,077 -2,463 -172 48 46Shares Outstanding 1,037.80 957.70 1,005.64 1,027.40 1,027.40 EPS (reported) 3.88 1.41 -1.64 1.68 2.84 % Operating margin EPS (adjusted) 4.93 0.99 (1.63) 1.33 2.39 M-B Cars & Smart 9.2% 5.2% -1.6% 4.6% 4.7%

% change Y/Y 30.0% (79.9%) (264.9%) (181.3%) 79.9% Trucks 6.9% 6.3% -5.6% 0.9% 6.3% Services 7.2% 7.3% 1.1% 3.6% 3.8% Vans 6.1% 8.6% -1.5% 0.4% 3.1% Buses 7.1% 8.4% 5.0% 5.0% 6.3% Other 249.3% -360.6% 5.7% -1.6% -1.4%

Balance Sheet (Industrial Operations) Industrial Cash Flow & Ratio Analysis € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Intangibles 5,128 5,964 4,526 5,006 5,492 EBT 8,562 2,129 (2,514) 2,046 3,743PP&E 14,600 16,022 14,111 12,149 9,078 Tax (4,101) (882) 782 (599) (1,109)Investments 4,845 4,258 4,258 4,258 4,258 Depreciation & amortization 4,220 3,123 3,298 3,300 3,300Inventories 13,604 16,244 12,895 13,642 13,265 Change in working capital -3,058 -5,886 3,723 -603 -84Trade receivables 6,135 6,793 5,942 6,328 6,991 Operating cash flow 5,588 (1,865) 5,096 4,235 6,098Cash equivalents & marketable sec 14,894 4,664 7,104 6,496 6,808 Net capex -4,270 -3,551 -4,159 -4,086 -5,015Other Assets 5,700 3,381 3,311 3,332 3,353 FCFe 1,318 -5,416 937 149 1,083Total Industrial assets 73,092 64,511 59,332 58,395 56,432 Change in net liquidity -3,051 9,806 -2,813 608 -1,583(+) Financial Services Net Assets 4,390 4,847 4,932 5,210 5,489 Net industrial liquidity (12,912) (3,106) (5,919) (5,310) (6,893)Total Assets 77,482 69,358 64,264 63,605 61,921 DPS 2.00 0.60 0.60 0.60 0.60 Equity 33,840 28,092 20,318 17,007 15,179 Sales/assets 0.7 0.7 0.6 0.7 0.7Total Debt 5,019 4,448 4,448 4,448 4,448 Net debt to equity 38.2% 11.1% 29.1% 31.2% 45.4%Pension 2,656 2,656 2,656 2,656 2,656 Working capital as a % of revenue 14.3% 19.4% 20.2% 19.1% 17.5%Trade payables 6,730 6,268 5,568 6,099 6,301 ROCE (industrial, 35% tax) 10.6% 9.6% -5.9% 4.4% 8.6%Other liabilities 29,237 27,894 31,274 33,395 33,337 ROE 10.8% 4.3% -5.4% 5.5% 8.6%Total liabilities 43,642 41,266 43,946 46,598 46,742 Total Liabilities and Equity 77,482 69,358 64,264 63,605 61,921 Source: Company reports and J.P. Morgan estimates.

106



Danone Potential for re-rating The opportunity in the next cycle We argue within the Food space Danone is well placed to benefit from deflation (lower costs; volume recovery on elasticity), is priced attractively vs. the equity cycle (both in absolute terms and vs. Nestle), and has stronger volume (boost from lower prices) and EBIT momentum (lower dairy costs) than direct peers. There are also valid structural reasons to like the stock i.e. its focus on growth categories, global franchise strength, and the competitive advantage resulting from its range of unique functional yogurt brands. Dairy volumes, which are a key sentiment driver for the stock, have shown a solid recovery, accelerating to 7% growth in 3Q09 (+2.7% in 2Q and -1.0% in 1Q). Nielsen data for early 4Q has indicated further acceleration in volumes and we walked away from the investor seminar with positive sentiments regarding the potential growth in volumes pinned on higher A&P spend on Activia, geographical expansion of Activia and other key brands, and strategy of passing through higher benefits of lower dairy costs to customers vs. competition.

Flexing upside We believe the company should re-rate to 12-13x FV/EBITDA range (post Numico levels) from 10.5x now, once investors are convinced that the company can go back to its LT growth algorithm of high single-digit top line growth, margin expansion, and EPS growth in the mid to high teens. Our current target price of €48 is based on 10.5x our 2011 FV/EBITDA estimates, which is in line with the 5-year average multiple, but this could be €57 at 12x (€62 at 13x).

Catalysts – 2010 and beyond Besides quarterly results and issue of 2010 guidance (likely in mid February at the time 4Q results are announced), other catalysts should include: a) moves in dairy costs, b) retail trends as measured by the monthly Nielsen scanner data in the US and WE, c) commentary from direct read across companies like Mead Johnson, Wimm-Bill-Dann, and Yakult, d) industry news flow around yoghurt, water, and baby nutrition sales trends.

Valuation, target price, key risks Conservatively, we value the stock by December 2010 at 10.5x 2011E FV/EBITDA for now, inline with 5 yr average multiples and factoring a 15% premium to Nestle, which we think is justified given its more focused portfolio, quality growth and higher emerging market exposure. We rate Danone OW and our Dec 2010 TP is €48. Risks to our rating and price target include: 1) lackluster dairy volume; 2) steep rise in dairy costs; and 3) a large dilutive acquisition with questionable strategic rationale.

Groupe Danone (DANO.PA;BN FP) FYE Dec 2008A 2009E 2010E 2011EAdj. EPS FY (€) 2.23 2.34 2.61 2.92EBITDA FY (€ mn) 2,782 2,760 2,971 3,263Revenue FY (€ mn) 15,220 14,986 15,848 16,943FCF FY (€ mn) 1,048 1,333 1,486 1,684Net Debt FY (€ mn) 7,397 6,412 5,331 4,352Adj P/E FY 18.0 17.1 15.3 13.7EV/EBITDA FY 12.0 11.8 10.6 9.3EV/Revenue FY 2.2 2.2 2.0 1.8FCF Yield FY 4.0% 5.1% 5.7% 6.5%Source: Company data, Bloomberg, J.P. Morgan estimates. Share Count of 613mn shares includes 479mn pre-rights, 123mn from rights issue and 11mn from dividends paid in shares.

Company Data Price (€) 40.00Date Of Price 30 Nov 09Price Target (€) 48.00Price Target End Date 01 Dec 1052-week Range (€) 44.10 - 31.21Mkt Cap (€ bn) 24.5Shares O/S (mn) 613


Price Target: €48


Pablo Zuanic AC (44-20) 7325-4664 [email protected]

Flagship reports • Cut Dec’10 Target price to €48 from

€52; Keep OW, 19 Nov 09 • Key Issues We Will Track at The

Investor Day, 17 Nov 09 • Keeping OW post rights issue, 06 Jul

09

Price Performance

30

40

50

€


DANO.PA share price (€)MSCI-Eu (rebased)

Performance (%) YTD 1m 3m 12m Abs -1.8% -2.3% 4.9% -3.2% Rel -23.3% -2.3% 1.8% -27.3%

107



Danone: Summary of Financials Profit and Loss Statement Cash flow statement € in millions, year end Dec FY08 FY09E FY10E FY11E € in millions, year end Dec FY08 FY09E FY10E FY11E Revenues 15,220 14,986 15,848 16,943 EBIT 2,270 2,310 2,477 2,688

% change Y/Y 5.2% -1.5% 5.8% 6.9% Change In Working Capital 55 - - - Gross Margin (%) - - - - Depreciation & Amortisation 525 - - - EBIT 2,270 2,310 2,477 2,688 Interest 439 309 252 207 EBIT Margin (%) 14.9% 15.4% 15.6% 15.9%

% change Y/Y 7.7% 1.8% 7.2% 8.5% Cash Flow From Operations 2,864 123 104 104 EBITDA 2,782 2,760 2,971 3,263 Capex 706 0 0 0 EBITDA Margin (%) 18.3% 18.4% 18.7% 19.3% Free Cash Flow 1,048 1,333 1,486 1,684

% change Y/Y 10.0% -0.8% 7.6% 9.8% Acquisitons/ Divestments 259 0 0 0 Net Interest 439 309 252 207 Profit before tax 1,895 2,002 2,225 2,481 Cash Flow From investing - - - - Tax 445 480 534 595 Dividends Paid 705 0 0 0

Tax Rate 27.6% 24.0% 24.0% 24.0% Share Repurchase - - - - Net Profit (Reported) 1,312 1,434 1,601 1,791

% change Y/Y 14.8% 9.3% 11.6% 11.9% Cash flow from financing - - - - Adjusted Earnings 1,312 1,434 1,601 1,791 Diluted Shares Outstanding 479 613 613 613 Net cash/(debt) at start of year -11,261 -11,055 -6,412 -5,331 EPS (Reported) - - - - Decrease/(Increase) in Net debt 206 4,643 1,081 979

% change y/y - - - - Net cash/(debt) at end of year -11,055 -6,412 -5,331 -4,352 EPS (Adjusted) 2.23 2.34 2.61 2.92

% change Y/Y NM 5.1% 11.6% 11.9% Balance sheet Ratio Analysis € in millions, year end Dec FY08 FY09E FY10E FY11E € in millions, year end Dec FY08 FY09E FY10E FY11E Assets Per Share Amounts Cash & Cash Equivalents 591 600 600 600 Basic Earnings per share - - - - Accounts Receivables 1,534 739 782 836 Diluted Earnings per share 2.74 2.62 - - Inventories 795 739 782 836 Dividend per share 1.20 0.95 0.95 0.95 Current Assets 4,883 4,967 6,230 7,439 Tangible Assets - - - - Net Fixed Assets - - - - Adj P/E Multiple 18.0 17.1 15.3 13.7 Total assets 26,775 27,188 28,369 29,766 EV/EBITDA Mutiple 12.0 11.8 10.6 9.3 P/CEPS 10.4 54.5 49.6 49.6 Liabilities ST Loans 652 450 450 450 Net Debt/Equity 85.3% 49.2% 38.2% 29.0% Current liabilities 4,898 4,660 4,946 5,256 Net Debt/EBITDA 2.7 2.3 1.8 1.3 Long-term liabilities 11,435 7,777 7,777 7,777 Provisions 0 0 0 0 Total liabilities 18,221 14,201 14,487 14,797 Minority interests 56 56 56 56 Shareholders Equity 8,614 12,987 13,882 14,969 Source: Company reports and J.P. Morgan estimates.

108



Deutsche Post DHL Already well-positioned for wherever recovery and longer-term growth come from The opportunity in the next cycle Recovery driven operating gearing, internal cost control and a sharper focus on profitable business (and shedding unprofitable work) remain key to our view. For instance, as the Express division returns to historical average margins outside the US, and US Express losses diminish (due to exit) this could add ~52c to EPS. Meanwhile, we see scope for the company’s debt strain (including pensions) to fall to just 0.4x ND/EBITDA by 12E, with prospects for dividend at a 50% payout to reach at least 74c by 11E (5.9% yield). We thus think D Post offers yield and growth. Beyond imminent recovery, our view on D Post is shaped by its leading positions in Express (top 2 Europe, largest Asia, largest EEMEA), Forwarding (largest in Air, top 3 in Ocean, one of the three largest in European road), and Contract Logistics (largest in Europe, US and globally). We see the company’s possessing platforms primed to exploit new growth without requiring large M&A spend.

Flexing upside Our research on D Post has looked at profit and re-rating upside scenarios, e.g. Deutsche Post DHL and TNT, 15 Oct 09. Under scenarios of strong Express profit recovery to peak EBIT margins of 8% (or more vs. 09E 2.4%) and re-rating (to 8.4x EV/EBITDA) we think D Post could be a €20+ share.

Catalysts – 2010 and beyond Key events for 10E (and beyond) and risks include: (1) the March-10 announcement on capital structure strategy – which we think could create certainty over dividend income; (2) progression of peak trade season and profits in Q3-10E (with Q3 results due 9/11/2010) and signs for Q4-10E (which should be known by the Q3 results); and (3) Bulk domestic German Mail VAT treatment has still be decided by the new government. A decision not to impose VAT on the USO operators, as an EU court ruling appears to allow, could see ~14c EPS upgrades.

Valuation, target price, key risks We rate D Post OW, and our scenarios based 12-month PT is €16.2. We see both (dividend) income stronger than sector, and also room for capital growth – with the latter driven by expanding earnings and also scope for the company to re-rate up (to closer to TNT’s historical PER of ~13.8x vs. D Post's 12.4x ex PostBank). This could happen if D Post avoids value-destructive M&A risks that we find shareholders have historically discounted the rating for. We see this, macro factors, and the factors outlined above as the key company risk to our PT and rating.

Deutsche Post World Net (DPWGn.DE;DPW GR) FYE Dec 2007A 2008A 2009E 2010E 2011E 2012EAdj. EPS FY (€) 1.57 0.57 0.86 1.21 1.48 1.56Revenue FY (€ mn) 56,386 57,210 48,134 50,635 53,117 56,104EBITDA FY (€ mn) 4,488 1,178 2,196 3,629 3,889 4,124EBITDA margin FY 8.0% 2.1% 4.6% 7.2% 7.3% 7.4%EBIT FY (€ mn) 2,133 (966) 541 2,048 2,257 2,481Pretax Profit Reported FY (€ mn)

1,188 -1,066 711 1,656 2,092 2,322

Headline EPS FY (€) 1.15 (1.40) 0.80 1.05 1.33 3.05Headline P/E FY 10.9 NM 15.6 11.9 9.4 4.1FCF FY (€ mn) 3,884 1,502 (334) 957 1,338 1,554Source: Company data, Bloomberg, J.P. Morgan estimates.

Company Data Price (€) 12.45Date Of Price 30 Nov 09Price Target (€) 16.20Price Target End Date 30 Nov 1052-week Range (€) 13.34 - 6.60Mkt Cap (€ bn) 15.1Shares O/S (mn) 1,209



Mail and Express

Damian Brewer AC



Flagship reports • DP-DHL and TNT: Calmer conditions

for Q3 - upgrading PTs and EPS, but TNT needs change from within to be OW, 15 Oct 09

• DP-DHL and TNT: Less recovery upside priced-in at Deutsche Post, 01 Oct 09

• Mid-cycle Express suggests 30% upside before re-rating, 02 Jun 09

Price Performance

6

9

12€


DPWGn.DE share price (€)MSCI-Eu (rebased)

Performance (%) YTD 1m 3m 12m Abs 5.9% 6.4% 5.4% 14.1% Rel -15.6% 6.4% 2.3% -4.1%











109



Deutsche Post: Summary of Financials Profit and Loss Statement Cash flow statement € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Revenues 56,386 57,210 48,134 50,635 53,117 EBIT 2,133 (966) 541 2,048 2,257

% Change Y/Y -11.0% 1.5% -15.9% 5.2% 4.9% Depreciation & amortization 2,196 2,662 1,654 1,581 1,631Gross Margin (%) - - - - - Change in working capital & Other 5,588 1,746 1,199 2,591 3,487EBITDA (basic) 4,488 1,178 2,196 3,629 3,889 Cash flow from operations 10,076 2,924 3,395 6,220 7,376

% Change Y/Y -20.5% -73.8% 86.4% 65.3% 7.1% EBITDA Margin (%) 8.0% 2.1% 4.6% 7.2% 7.3% Taxes (278) (325) (252) (331) (418)

EBIT 2,133 (966) 541 2,048 2,257 Capex (1,174) (77) (1,034) (1,058) (1,493)% Change Y/Y -44.9% -145.3% -156.0% 278.3% 10.2% Net Interest (252) 158 (247) (245) (238)EBIT Margin (%) 3.8% -1.7% 1.1% 4.0% 4.3% Free cash flow 3,884 1,502 (334) 957 1,338

Net Interest income/(expense) (945) (100) 169 (392) (166) Earnings before tax 1,188 -1,066 711 1,656 2,092 Disposals/(purchase) (94) (1,036) (1,307) (31) 0% change Y/Y -58.2% -189.8% -166.7% 133.0% 26.3% Equity raised/repaid 73 21 21 21 21Tax (charge) (173) (200) (142) (331) (418) Dividends paid (903) (1,087) (735) (736) (740)

Tax as a % of PBT 14.6% (18.8%) 20.0% 20.0% 20.0% Other (490) 112 6,303 0 0Net Income (Reported) 1,383 (1,688) 966 1,270 1,608

% change Y/Y -27.8% -222.1% -157.3% 31.4% 26.7% Beginning debt 3,083 2,858 2,412 -1,251 -1,462Shares Outstanding (Av.m) 1,205.1 1,208.6 1,209.4 1,210.2 1,211.0 Ending debt 2,858 2,412 -1,251 -1,462 -2,081EPS (Reported, basic, €) 1.15 -1.40 0.80 1.05 1.33 DPS (€, declared, gross) 0.90 0.60 0.60 0.60 0.74

% Change Y/Y (28.4%) (221.7%) (157.2%) 31.3% 26.6% Balance sheet Ratio Analysis € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Cash and cash equivalent 4,683 1,350 5,591 5,802 6,421 EBITDA margin (%) 8.0% 2.1% 4.6% 7.2% 7.3%Accounts Receivables 6,377 5,591 4,714 4,959 5,203 Operating margin (%) 3.8% NM 1.1% 4.0% 4.3%Inventories 248 269 226 238 250 Net margin (%) 2.5% NM 2.0% 2.5% 3.0%Others 198,348 235,237 4,735 4,890 5,043 EBIT margin on Incremental Sales (%) 24.9% -376.1% -16.6% 60.3% 8.4%Current assets 209,656 242,447 15,267 15,889 16,916 FCF margin (%) 6.9% 2.6% (0.7%) 1.9% 2.5% LT investments 1,557 1,149 3,451 3,461 3,482 Sales growth (%) -11.0% 1.5% -15.9% 5.2% 4.9%Net fixed assets 24,207 19,368 18,049 17,229 16,798 Attributable net profit growth (%) -27.8% -222.1% -157.3% 31.4% 26.7%Total assets 235,420 262,964 36,767 36,579 37,196 EPS growth (%) (28.4%) (221.7%) (157.2%) 31.3% 26.6% Liabilities Interest coverage (x) (2.3) (9.7) (3.2) (5.2) (13.6)ST loans 193,293 232,848 8,140 7,906 8,014 Effective Interest Rate (IS) (%) 31.8% 3.8% -29.2% -28.9% -9.4%Payables 5,384 4,980 4,238 4,326 4,529 Net debt /EBITDA (x) 1.2 0.8 0.7 0.6 0.4Others 473 351 389 908 1,146 Sales/assets (x) 0.2 0.2 1.3 1.4 1.4Total current liabilities 199,150 238,179 12,767 13,140 13,688 Assets/Equity (%) 1704.3% 2669.1% 416.3% 389.7% 367.8%Long term debt 10,181 4,097 6,097 6,097 6,097 ROE (%) 9.1% -29.0% 7.5% 14.1% 16.7%Other liabilities 12,276 10,836 9,072 7,957 7,299 ROCE (%) 8.8% -7.5% 4.3% 21.1% 22.6%Total liabilities 221,607 253,112 27,936 27,194 27,084 ROIC (%) 5.2% 8.3% 6.3% 9.9% 12.9%Shareholders' equity 13,813 9,852 8,831 9,386 10,112 ROIC/WACC 0.5 0.9 0.7 1.0 1.3BVPS (€) 11 8 7 8 8 Source: Company reports and J.P. Morgan estimates.

110



Fortis Becoming a normal company again The opportunity in the next cycle Fortis is set to once again become a “normal” company in 2010, as it unwinds legacy issues associated with the break-up of the old Fortis. As this happens, we believe the large discount in the share price versus our fair value of €4 should gradually disappear and this makes it one of our top picks.

Flexing upside We have valued the insurance operations on 1x FY08e embedded value, compared to a historical P/EV of 1.45x for the insurance sector. Taking the P/EV to 1.45x would add another €0.9 to our price target.

Catalysts – 2010 and beyond The catalysts are associated with becoming a normal company. These include: (a) clarity on the legal risk associated with the expected publication of the report by the Dutch experts in 1Q10; (b) the resolution of debt agreements with BNP expected in 2010; (c) the ability to monetize the BNP call option in 2H10.

Valuation, target price, key risks Our Dec-10 SOTP target price is €4.0 per share. We break this valuation down into that for the operations (including the surplus cash) at €3 per share and that for the options at €1 per share. The main risk that could prevent our rating and price target from being achieved is litigation, particularly from former disgruntled Fortis shareholders.

Fortis (FOR.BR;FORB BB) FYE Dec 2008A 2009E 2010E 2011EAdj. EPS FY (€) (0.25) 0.41 0.17 0.20Adj P/E FY NM 6.9 16.1 13.8BV/Sh FY (€) 3 3 3 3Headline EPS FY (€) (11.40) 0.41 0.17 0.20Embedded value FY (€ mn) 4,922 8,021 8,422 8,843NAV FY (€ mn) 6,029 7,134 7,358 7,621NAV/Sh FY (€) 2.4 2.8 2.8 3.0Net Attributable Income FY (€ mn)

(585) 1,057 449 526

Source: Company data, Bloomberg, J.P. Morgan estimates.




Insurance

Duncan Russell, CFA AC


Flagship reports • Lots of capital = lots of options, taking

target price to €4, 03 Sep 09 • Fortis: Initiate with OW. Underpinned,

Overlooked, 07 May 09

Price Performance

0.5

2.0

3.5

€


FOR.BR share price (€)MSCI-Eu (rebased)

Performance (%) YTD 1m 3m 12m Abs 201.9% -5.0% -11.2% 325.6% Rel 182.1% -5.8% -11.9% 303.2%





111



Fortis: Summary of Financials Profit and Loss Statement (IFRS) Ratio Analysis (IFRS) € in millions, year end Dec FY08 FY09E FY10E FY11E € in millions, year end Dec FY08 FY09E FY10E FY11E Premiums 8,448 11,337 12,557 13,299 Shares Outstanding 2,457.05 2,582.36 2,582.36 2,582.36

% change Y/Y (8.4%) 34.2% 10.8% 5.9% Life 5,796 8,658 9,279 9,897 EPS -11.40 0.41 0.17 0.20 % change Y/Y (11.9%) 49.4% 7.2% 6.7% % change Y/Y (595.7%) (103.6%) (57.5%) 17.2% Non Life 2,680 2,679 3,278 3,402 DPS - - - - % change Y/Y 0.2% (0.0%) 22.4% 3.8% % change Y/Y - - - -

Investment income (3,128) 1,241 1,408 1,533 Other income 3,902 1,562 610 369 Payout Ratio - - - - Total revenues 9,222 14,140 14,576 15,200

% change Y/Y (34.3%) 53.3% 3.1% 4.3% NAV/Share 2.4 2.8 2.8 3.0 Insurance related expenses (5,199) (9,451) (9,843) (10,310) EV/share - - - - Admin expenses (644) (618) (608) (598) Acquisition expenses (912) (885) (922) (963) ROE -8.6% 13.4% 5.5% 6.3% Other expenses (2,944) (2,726) (2,425) (2,445) RONAV -9.7% 14.8% 6.1% 6.9% Earning before tax -477 460 778 885 ROEV -11.9% 13.2% 5.3% 5.9%

% change Y/Y -494.2% -196.3% 69.3% 13.7% Tax (108) (115) (188) (215)

Tax Rate 22.6% (24.9%) (24.2%) (24.3%) Minorities 25 100 132 150 Net income (Reported) (585) 1,057 449 526

% change Y/Y -512.0% -280.7% -57.5% 17.2% Balance sheet (IFRS) Ratio Analysis € in millions, year end Dec FY08 FY09E FY10E FY11E € in millions, year end Dec FY08 FY09E FY10E FY11E ASSETS 92,870 100,429 107,022 114,230 Key ratios: Cash 5,933 7,699 7,853 8,010 Combined ratio - - - - Investments 64,656 70,424 76,838 83,863 Life op'g margin on assets - - - - Loans 2,511 2,536 2,561 2,587 Banking cost to income - - - - Deferred tax 117 117 117 117 AM Cost income ratio - - - - Other 17,133 17,133 17,133 17,133 Intangibles including goodwill 1,366 1,366 1,366 1,366 PBT Break up Belgium Life (3.4%) - - - LIABILITIES 85,560 91,314 97,683 104,628 Belgium Non Life (27.7%) - - - Policyholder liabilities 65,829 72,184 79,130 86,726 Belgium Total (31.0%) 58.0% 56.6% 60.3% Bank loans 8,759 9,149 8,571 7,920 International Life 11.7% - - - Debt 4,670 3,680 3,680 3,680 International Non Life (22.4%) - - - Other 6,231 6,231 6,231 6,231 International Total -10.7% 40.6% 26.6% 24.9% Shareholder's equity 6,795 7,900 8,124 8,387 General & Others 141.7% 1.4% 16.9% 14.8% Minorities 515 1,215 1,215 1,215 Total Equity and Liabilities 92,870 100,429 107,022 114,230 Mix of Total revenue Belgium Life 51.6% - - - Belgium Non Life 19.0% - - - Belgium Total 70.5% 59.0% 59.8% 59.3% International Life 6.6% - - - International Non Life 16.3% - - - International Total 22.9% 30.2% 30.9% 31.6% General & Others 6.6% 6.8% 5.4% 5.2% Source: Company reports and J.P. Morgan estimates.

112



HSBC Life beyond Household The opportunity in the next cycle We see a return to the ‘old HSBC’, but with an increased emerging markets contribution and with less US (c.1% Group PBT from North America by 2012E vs. 13% in 2002). The run off of the HFC loan portfolio is happening more rapidly than anticipated, and whilst delinquency rates are still elevated, the provisioning charge for the group is declining rapidly. We estimate PFS North America will account for 44% of 2011E group provisions compared to c.70% at the peak in H1 08. This we believe will greatly aid the Group returning to a 15-20% RoE compared to a RoE of 5% in 2008.

Strong cash flow generation – We see cash flow generation of $5-10bn per annum for the next few years, depending on scrip dividend take up. We expect the core tier 1 ratio to go above 10% in 2011E, which is the level recently targeted by the company. Whilst there will be questions on how the group will deploy this excess capital, we expect it will be used to grow the emerging markets franchises, and we see upside risk to dividend expectations – we estimate a dividend yield of 3.5% in 2011E alongside a free cashflow generation of $10bn that same year.

Flexing upside If we roll our estimates forward to 2012E, we can see group provisioning declining to 90bps from c.220bps 2010E and c.150bps 2011E. This leads to EPS increasing 30% to $1.27 per share. Furthermore AFS reserve reversals could add c.10-14% to NAV.

Catalysts – 2010 and beyond At the results presentations throughout the year we will see the rate at which the HFC portfolio is being run-off, and the associated losses. There is further potential for surprise versus our expectations if loss experience is less severe. At the end of Q3 09, the run off portfolio was $85.6bn, and the total $124.8bn.

Valuation, target price, key risks Our PT of 900p for Dec 10 is based on our SoP analysis. Risks to our rating and price target include: (i) HSBC is exposed to general macro variables such as a slowdown or rebound in world GDP growth, higher or lower interest rates in all of the economic regions, and changes in FX rates; (ii) credit exposure is predominantly to the US consumer (both mortgages and unsecured) in terms of loan losses so any changes in asset quality could impact group earnings.

HSBC Holdings plc (HSBA.L;HSBA LN) FYE Dec 2007A 2008A 2009E 2010EAdj. EPS FY ($) 1.48 1.16 0.50 0.71Operating profit FY ($ mn) 22,709 5,201 10,512 15,401Net Attributable Income FY ($ mn)

19,133 5,728 8,185 12,653

Headline EPS FY ($) 1.65 0.47 0.50 0.71ROE FY 16.1% 5.0% 7.4% 9.7%Headline P/E FY 6.8 24.0 22.4 15.8BV/Sh FY ($) 3 2 2 2P/BV FY 3.4 5.0 6.7 6.8Source: Company data, Bloomberg, J.P. Morgan estimates.

Company Data Price (p) 707Date Of Price 30 Nov 09Price Target (p) 900Price Target End Date 31 Dec 1052-week Range (p) 767 - 270Mkt Cap (£ bn) 113.42Shares O/S (mn) 16,043


Price Target: 900p Banks

Carla Antunes da Silva AC (44-20) 7325-8215 [email protected]

Sunil Garg

(852) 2800-8518 [email protected]

Amit Goel, CFA (44-20) 7325-6924 [email protected]

Joseph Leung (852) 2800-8517 [email protected]

Flagship reports • Upgrading Estimates and PT –

Remains our top pick in the UK and one of our preferred in Europe, 10 Nov 09

• Upgrading to Overweight – Life Beyond Household, 04 Aug 09

• UK Banks – The Return of UK Investment Banking – A Review of Capital Requirements and Profitability Outlook, 21 Jul 09

Price Performance

300

500

700p


HSBA.L share price (p)MSCI-Eu (rebased)

300

500

700p


HSBA.L share price (p)MSCI-Eu (rebased)

Performance (%) YTD 1m 3m 12m Abs 22.6% 4.9% 5.2% 15.9% Rel 2.8% 4.1% 4.5% -6.5%

113



HSBC: Summary of FinancialsIncome Statement Ratio Analysis$ in millions,year-end Dec FY08 FY09E FY10E FY11E FY12E FY08 FY09E FY10E FY11E FY12E

Per Share DataNet interest income 42,563 38,710 38,225 38,305 39,778 EPS reported($) 0.47 0.50 0.71 0.98 1.27 % YoY change 12.6% -9.1% -1.3% 0.2% 3.8% EPS Adjusted(p) 1.16 0.50 0.71 0.97 1.26Non-interest income 43,563 33,483 32,487 36,677 39,282 % YoY change -21.8% -56.9% 42.3% 37.3% 29.7% Fees & commissions 20,024 23,684 21,767 22,948 24,112 DPS($) 0.64 0.34 0.38 0.42 0.46 % YoY change -9.0% 18.3% -8.1% 5.4% 5.1% % YoY change -28.9% -46.9% 11.8% 10.5% 9.5% Trading revenues 6,560 7,078 7,393 7,672 7,832 Dividend yield 8.7% 3.0% 3.3% 3.6% 4.0% % YoY change -33.3% 7.9% 4.4% 3.8% 2.1% Payout ratio 136.3% 67.7% 53.2% 42.9% 36.2%Other income 16,979 2,720 3,327 6,057 7,338 BV per share($) 7.73 7.18 7.56 8.18 9.07Total operating revenues 86,126 72,194 70,713 74,981 79,061 NAV per share($) 5.47 5.49 5.91 6.57 7.48 % YoY change -0.4% -16.2% -2.1% 6.0% 5.4% Shares outstanding 12,105 17,288 17,638 17,988 18,338Admin expenses -36,052 -27,995 -27,159 -29,795 -31,191 % YoY change -1.6% -22.3% -3.0% 9.7% 4.7% Return ratios FY08E FY09E FY10E FY11E FY12EOther expenses -9,372 -7,520 -8,682 -9,800 -10,558 RoRWA 0.50% 0.69% 1.03% 1.39% 1.79%Pre-provision operating profit 40,702 36,678 34,871 35,387 37,311 Pre-tax RoE 8.4% 11.4% 13.8% 17.5% 20.2% % YoY change 4.7% -9.9% -4.9% 1.5% 5.4% RoE 5.2% 7.5% 9.8% 12.6% 14.8%Loan loss provisions -24,937 -26,166 -19,471 -13,329 -8,119 RoNAV 7.4% 10.2% 12.7% 15.9% 18.2%Other provisionsOther non recurrent items -6,458 1,893 2,377 2,456 2,538 Revenues FY08E FY09E FY10E FY11E FY12EPretax profit 9,307 12,405 17,778 24,514 31,730 NIM (NII / AIEA) 3.51% 3.42% 3.48% 3.43% 3.37% % YoY change -59.7% 33.3% 43.3% 37.9% 29.4% Non-IR / average assets 2.5% 1.4% 1.4% 1.6% 1.7%Tax -2,809 -2,940 -3,644 -5,393 -6,981 Total rev / average assets 4.3% 3.7% 3.6% 3.7% 3.7% % Tax rate 30.2% 23.7% 20.5% 22.0% 22.0% NII / Tot revenues 49.4% 53.6% 54.1% 51.1% 50.3%Minorities -770 -1,280 -1,480 -1,480 -1,480 Fees / tot revenues 23.2% 32.8% 30.8% 30.6% 30.5%Net Income (Reported) 5,728 8,185 12,653 17,641 23,270 Trading / Tot revenues 7.6% 9.8% 10.5% 10.2% 9.9%

Balance sheet$ in millions, year-end Dec FY08 FY09E FY10E FY11E FY12E FY08 FY09E FY10E FY11E FY12E

ASSETS Cost ratiosNet customer loans 932,868 858,184 844,929 881,702 948,863 Cost / income 52.7% 49.2% 50.7% 52.8% 52.8% % YoY change -5.0% -8.0% -1.5% 4.4% 7.6% Cost / assets 1.80% 1.37% 1.40% 1.47% 1.46%Loan loss reserves 26,166 0 0 0 0 Staff numbers -- -- -- -- --Investments 311,772 339,198 337,019 355,233 375,789Other interest earning assets 227,523 247,538 245,948 259,240 274,241 Balance Sheet Gearing FY08E FY09E FY10E FY11E FY12E % YoY change -19.5% 8.8% -0.6% 5.4% 5.8% Loan / deposit 84% 76% 76% 76% 77%Average interest earning assets 1,160,391 1,105,722 1,090,877 1,140,941 1,223,104 Investment / assets 12% 13% 13% 13% 13%Goodwill 27,357 29,105 29,105 29,105 29,105 Loan / assets 37% 33% 33% 33% 33%Other assets 1,029,136 1,147,476 1,140,292 1,200,345 1,268,119 Customer deposits / liabilities 44% 44% 43% 43% 43%Total assets 2,527,465 2,592,396 2,568,188 2,696,520 2,867,012 LT Debt / liabilities 8% 8% 8% 8% 8%

LIABILITIES Asset Quality / Capital FY08E FY08E FY10E FY11E FY12ECustomer deposits 1,115,327 1,130,529 1,115,058 1,167,661 1,237,335 Loan loss reserves / loans 2.73% 0.00% 0.00% 0.00% 0.00% % YoY change 1.8% 1.4% -1.4% 4.7% 6.0% NPLs / loans 2.6% 4.1% 4.4% 3.3% 5.4%Long term funding 209,126 211,976 209,076 218,939 232,003 LLP / RWA 2.17% 2.16% 1.57% 1.03% 0.62%Interbank funding 145,442 148,566 146,654 153,687 162,826 Loan loss reserves / NPLs 103.2% 0.0% 0.0% 0.0% 0.0%Average interest bearing liabs 1,469,895 1,491,072 1,470,788 1,540,287 1,632,164 Growth in NPLs 38.3% -100.0% -100.0% -100.0% -100.0%Other liabilities 953,453 966,449 953,223 998,192 1,057,754 RWAs 1,147,974 1,212,007 1,242,551 1,293,323 1,306,023Retirement benefit liabilities 3,888 3,889 3,889 3,889 3,889 % YoY change -1.4% 5.6% 2.5% 4.1% 1.0%Shareholders' equity 93,591 124,043 133,346 147,209 166,262 Core Tier 1 72,872 101,881 111,184 125,047 144,100Minorities 6,638 6,943 6,943 6,943 6,943 Total Tier 1 95,336 119,041 128,344 142,207 161,260Total liabilities 2,527,465 2,592,396 2,568,188 2,696,520 2,867,012

Source: Company data, J.P. Morgan estimates.

114



Iberdrola Renovables Global leader in wind energy The opportunity in the next cycle Global wind installed capacity grew from 39.4GW in 2003 to 120.8GW in 2008. The Global Wind Energy Council estimates that the market should grow again to c. 3x its current size in 5 years, to 332GW in 2013.Iberdrola Renovables, as global leader in wind energy, is ideally placed to benefit from such growth. It has the local presence in the biggest wind markets (37% of the global wind capacity is in the US, Spain and UK, countries where IBR is a top 2 player), its parent company Iberdrola provides financing (unlike for competitors whose capex plans rely on hard to come by bank finance) and the agreement with Gamesa announced in October 2009 provides geographical diversification in the pipeline to secure long-term growth opportunities.

Flexing upside We estimate 5-yr EPS CAGR in 09-14E of 19.9% and this results in our €4.0 PT. If we were to incorporate IBR’s 10-year growth outlook, we would get to a €4.7 PT.

Catalysts – 2010 and beyond Q4 09 results release in early February should finally show strong y-o-y growth as comparables are easier to beat and the Spanish PPA provides stable pricing.

In H1 2010 we expect IBR to announce the signing of PPAs for the remainder of the US capacity currently under construction. Investors should get comfort that IBR is capable of beating its WACC recurrently by 200bp+ once the benefit of the Spanish PPA is seen in the P&L and the signing of PPAs with US utilities shows the value of IBR’s geographic diversification and market knowledge. Such comfort should trigger in our view a re-rating of the stock to incorporate longer term value creation.

During 2010 we expect the US legislative bodies to discuss again the implementation of nationwide incentives for the development of renewable energies. A positive surprise would come from the approval of new legislation before end-2010.

Valuation, target price, key risks Our end-10 DCF-based PT of €4.0 includes the value of the assets in operation and under construction, the pipeline to be developed by end-15 and just 7.5% of the residual pipeline. We discount FCFs at WACCs of 5.75% to 7.2%, depending on the geography and the financing. Downside risks to our rating and PT include a potential reduction in available funds from Iberdrola and delays in the signing of US PPAs. Investors should be mindful that wind output can be very volatile on a quarterly basis, with a direct influence on quarterly earnings momentum.

Iberdrola Renovables (IBR.MC;IBR SM) FYE Dec 2008A 2009E 2010E 2011E 2012EEBITDA FY (€ mn) 1,186 1,344 1,636 1,947 2,409EV/EBITDA FY 14.8 13.9 12.4 11.4 9.9Net Attributable Income FY (€ mn)

390 394 505 572 714

Adj. EPS FY (€) 0.09 0.09 0.12 0.14 0.17Adj P/E FY 34.6 34.3 26.7 23.6 18.9Gross Yield FY 0.8% 1.0% 1.5% 1.9% 2.6%Source: Company data, Reuters, J.P. Morgan estimates.




Utilities

Javier Garrido AC (34 91) 516-1557 [email protected]

Nathalie Casali (44-20) 7325-9023 [email protected]


Flagship reports • Southern European Utilities: Not the

space to play the recovery. OW EDP (defensive) and IBR (US wind growth), 07 Oct 09

• Iberdrola Renovables: And IBR finally gets access to the (higher) forward price and not just the spot price, 22 Jul 09

Price Performance (€)

2.0

2.6

3.2€


IBR.MC share price (€)MSCI-Eu (rebased)

Performance (%) YTD 1m 3m 12m Abs 5.1% 5.8% -0.5% 25.7% Rel -16.4% 5.8% -3.6% 1.6%

115



Iberdrola Renovables: Summary of Financials Profit and Loss Statement Valuation ratios € in millions, year end Dec FY08 FY09E FY10E FY11E FY12E € in millions, year end Dec FY08 FY09E FY10E FY11E FY12E Sales 2,030 2,300 2,774 3,323 4,131 P/E (recurrent) 34.5 34.2 26.7 23.6 18.9 Gross Operating Profit 1,186 1,344 1,636 1,947 2,409 P/E (reported) 34.7 34.4 26.8 23.7 19.0 Depreciation & Amortisation (476) (619) (720) (847) (1,008) Price to book value 1.2 1.3 1.2 1.2 1.1 Operating Profit 710 724 916 1,100 1,400 EV/EBITDA 14.8 13.9 12.4 11.4 9.9 Associate Income - - - - - EV/EBIT 24.8 25.7 22.1 20.2 17.0 Net Interest (127) (153) (185) (269) (364) FCF yield (pre divs, post mins) (%) -18.0% -6.7% -11.5% -13.6% -10.6% Profit before tax 582 571 732 831 1,037 Dividend yield (%) 0.8% 1.0% 1.5% 1.9% 2.6% Income Tax 185 171 220 251 315 Minority Interests 7 6 7 8 8 Per share Discontinued items - - - - - € Group Net profit 390 394 505 572 714 FY08 FY09E FY10E FY11E FY12E Recurrent EPS 0.09 0.09 0.12 0.14 0.17 Cashflow statement Reported EPS 0.09 0.09 0.12 0.14 0.17 € in millions, year end Dec Reported DPS 0.02 0.03 0.05 0.06 0.08 FY08 FY09E FY10E FY11E FY12E Adjusted Free cash flow -0.6 -0.2 -0.4 -0.4 -0.3 Funds from operations - - - - - Working Capital (854) (473) 39 (286) (316) Performance, leverage and return ratios Cash flow from operations 2,515 1,788 2,783 3,043 3,757 % Capex & Acquisitions -3,087 -3,415 -3,306 -3,478 -3,296 FY08 FY09E FY10E FY11E FY12E Other investing cash flows - - - - - Gross operating margin 73.1% 73.2% 73.9% 73.4% 73.0% Cash from investing -4,161 -1,750 -3,216 -3,515 -3,500 Operating margin 43.8% 39.4% 41.4% 41.5% 42.4% Dividends paid - - - - - Operating profit growth y-o-y 104.6% 2.1% 26.5% 20.1% 27.2% Cash from financing 2,507 800 1,557 1,839 1,430 Recurrent Income growth y-o-y 232.4% 0.9% 28.2% 13.4% 24.8% Free Cash flow before dividends -2,434 -906 -1,557 -1,839 -1,430 Reported ROE 3.5% 3.7% 4.6% 5.0% 6.0% Free cash flow, adjusted -2,434 -906 -1,557 -1,839 -1,430 ROCE (EBIT) 4.7% 4.6% 5.2% 5.5% 6.3% Net debt/ (equity+minorities) (%) 36.1% 46.6% 61.0% 76.0% 85.3% Balance Sheet Net debt /EBITDA (%) 3.4 3.8 4.1 4.5 4.3 € in millions, year end Dec EBITDA / net interest -9.3 -8.8 -8.9 -7.2 -6.6 FY08 FY09E FY10E FY11E FY12E Reported net income / dividends 3.7 3.0 2.6 2.2 2.0 Net fixed assets 18,073 19,204 21,700 24,368 26,860 Current assets 2,144 2,135 1,625 1,848 2,176 Market valuation Total assets 20,216 21,339 23,325 26,216 29,036 € in millions Total Debt - - - - - FY08 FY09E FY10E FY11E FY12E Shareholders' equity 11,115 10,758 10,932 11,346 11,945 Share price (year-end / current) 3.20 Other liabilities - - - - - Number of Shares (million) 4,224.1 4,224.1 4,224.1 4,224.1 4,224.1 Total liabilities 9,028 10,507 12,319 14,797 17,018 Market Capitalisation 13,496 13,496 13,496 13,496 13,496 Net debt 4,035 5,050 6,709 8,678 10,255 EV adjustment 4,108 5,124 6,783 8,752 10,329 Capital Employed - - - - - EV 17,604 18,620 20,279 22,248 23,825

Source: Company reports and J.P. Morgan estimates.

116



Ipsen A winning combination: strong growth & a pipeline The opportunity in the next cycle Ipsen remains our favourite Mid-Cap stock, offering the largest potential upside of 37% to our price target of €50 with significant near-term growth (16% 2 yr CAGR) and 2010 full of key catalysts which should substantially increase the value attributed to the transformation asset taspoglutide and could take the stock above €50.

Significant near-term EPS growth driven by margin expansion: We expect margins to expand from 14.0% in 2009 to 20.4% in 2011 driven by operational leverage from 2008 US expansion, even excluding any taspoglutide royalty income. This leads to a substantial 16% EPS CAGR for these two years. We estimate the existing business more than underpins current levels, being worth €39.5 per share.

Flexing upside Near-term growth supplemented by a large highly profitable pipeline asset: Taspoglutide, a potential best in class GLP-1 for diabetes, should drive substantial future growth. Not only should the drug easily reach blockbuster status (we expect multiple billions) but Ipsen incurs no costs to develop or sell it, instead receiving a 15% royalty from Roche. Thus every €100m of taspo sales yields 120bp of margin expansion and adds €0.14 to EPS. We estimate that taspo could add €20 to Ipsen’s value of which only €7 is included in our €50 TP (€13 for US taspo is excluded).

Catalysts – 2010 and beyond 2010 will significantly improve the visibility of taspoglutide: Continued positive Phase III data culminating in presentation at the ADA in June should confirm the best in class potential, which together with clarity over the US path to market for the GLP-1 class from liraglutide or exenatide LAR approval (potentially in the next 4 months) should substantially increase the value reflected in the Ipsen shares.

Valuation, target price, key risks Our 2010 year-end price target of €50 is based on our Embedded Value for Ipsen minus US forecasts of taspoglutide. Our target price implies 13.9x 2012E earnings, a 19% premium to the Mid-Cap sector on 2012E P/E (11.7x), which is more than justified by a substantially better long-term growth rate versus the sector (26% vs. 14% 2009-2013E EPS CAGR). Key risks to our rating and price target: (1) Underwhelming execution of new product launches, (2) Underwhelming Phase III data for taspoglutide could impact the product’s commercial potential, (3) FDA's safety concerns over the GLP-1 class could remain an overhang for US taspoglutide.

Ipsen (IPN.PA;IPN FP) FYE Dec 2008A 2009E 2010E 2011EAdj. EPS FY (€) 1.92 1.88 1.97 2.52Revenue FY (€ mn) 1,038 1,120 1,172 1,281EBIT FY (€ mn) 208 136 183 241EBIT margin FY 20.0% 12.1% 15.6% 18.8%Net Income FY (€ mn) 147 137 145 191Headline EPS FY (€) 1.75 1.63 1.73 2.28Headline P/E FY 20.7 22.4 21.1 16.0Adj P/E FY 19.0 19.3 18.4 14.4Source: Company data, Bloomberg, J.P. Morgan estimates.



Price Target: €50

Pharmaceuticals Richard Vosser AC (44-20) 7742-6652 [email protected]

Alexandra Hauber (44-20) 7742-6655 / (1-312) 325-3694 [email protected]


Flagship reports • Ipsen: Compelling Opportunity even

with More Conservative Growth Driver Assumptions, 13 Mar 09

• Ipsen: PT increased to €49. More than Taspoglutide: Next Pipeline Assets, 17 Sep 09

• Ipsen: 2010 a key year for taspoglutide, 16 Nov 09

Price Performance

20

30

40

€


IPN.PA share price (€)MSCI-Eu (rebased)

Performance (%) YTD 1M 3M 12M Abs (%) 30.0% 4.9% 4.9% 38.1% Rel (%) 10.2% 4.1% 4.2% 15.7%

117



Ipsen: Summary of Financials

Profit and Loss statement Cash flow statement € in millions FY07A FY08A FY09E FY10E FY11E € in millions FY07A FY08A FY09E FY10E FY11E Revenue 994 1,038 1,120 1,172 1,281 EBIT 209 208 136 183 241

% change Y/Y 5.1% 4.5% 7.9% 4.6% 9.3% Depreciation & amortisation 41 51 67 72 77 Gross Margin (%) 80.0% 78.8% 79.2% 78.5% 78.4% Change in working capital (38) 7 (11) (10) (11) EBITDA 256 260 203 255 318 Taxes (54) (33) (30) (34) (48)

% change Y/Y 12.9% 1.4% -22.0% 25.7% 24.9% Cash flow from operations 236 261 163 213 274 EBITDA Margin (%) 25.8% 25.0% 18.1% 21.7% 24.8% Capex (59) (61) (70) (72) (74)

EBIT 209 208 136 183 241 Disposals/ (purchase) (27) (10) 88 70 40 % change Y/Y 11.6% -0.6% -34.7% 34.8% 31.9% Net Interest 7 12 (4) (3) (1) EBIT Margin (%) 21.0% 20.0% 12.1% 15.6% 18.8% Free cash flow 115 138 94 104 150

Interest 7 12 (4) (3) (1) Equity raised/(repaid) (25) (9) 0 0 0 Earnings before tax 216 192 167 180 240 Other 122 86 77 63 92

% change Y/Y 15.1% -11.0% -12.9% 7.5% 33.5% Dividends paid (50) (55) (59) (62) (58) Tax (54) (33) (30) (34) (48) Beginning cash 284 241 237 360 473

as % of EBT 25.3% 17.4% 18.0% 19.0% 20.0% Ending cash 241 237 360 473 588 Net Income (Reported) 151 147 137 145 191 DPS 0.61 0.70 0.73 0.69 0.91

% change Y/Y 4.6% -2.3% -6.8% 5.8% 32.0% Shares Outstanding 84.0 84.0 84.0 84.0 84.0 EPS (reported) 1.79 1.75 1.63 1.73 2.28

% change Y/Y 4.5% (2.2%) (7.3%) 6.2% 32.0% Balance sheet Ratio Analysis € in millions FY07A FY08A FY09E FY10E FY11E € in millions FY07A FY08A FY09E FY10E FY11E Cash and cash equivalents 247 240 360 473 588 EBITDA Margin (%) 25.8% 25.0% 18.1% 21.7% 24.8% Accounts receivable 216 218 234 249 266 Operating margin 21.0% 20.0% 12.1% 15.6% 18.8% Inventories 87 116 124 133 142 Net profit margin 15.2% 14.2% 12.2% 12.4% 15.0% Others 86 116 124 132 141 SG&A/Sales -40.4% -42.8% -44.5% -43.2% -40.2% Current assets 637 689 843 988 1,137 R&D/Sales -18.6% -17.6% -18.1% -18.9% -18.6% LT investments 124 14 14 14 14 Sales growth 5.1% 4.5% 7.9% 4.6% 9.3% Net fixed assets 311 402 505 505 502 Net profit growth 15.1% -11.0% -12.9% 7.5% 33.5% Total assets 1,323 1,570 1,825 1,970 2,117 EPS growth 5.6% (1.0%) (1.9%) 4.9% 27.8% Liabilities Interest coverage 31.0 17.4 30.4 58.7 195.8 ST loans 15 11 11 11 11 Dividend Coverage 3.0 2.5 2.2 2.5 2.5 Payables 104 104 111 119 127 Net debt/equity -28.3% -9.2% -15.3% -25.6% -33.2% Others 171 212 227 242 257 Sales/assets 1.3 1.5 1.6 1.7 1.7 Total current liabilities 275 316 338 360 384 Assets/equity 1.7 1.8 1.8 1.8 1.8 Long term debt 4 149 198 186 181 ROCE 19.6% 16.2% 12.5% 11.9% 14.6% Other liabilities 243 236 301 349 362 ROE 19.7% 17.7% 14.8% 14.1% 16.9% Total liabilities 522 701 837 895 927 Shareholders' equity 801 868 988 1,075 1,190 BVPS 9.5 10.3 11.8 12.8 14.2 Source: Company reports and J.P. Morgan estimates.

118



JCDecaux A long-term growth story, set to benefit from ad pick up in '10 The opportunity in the next cycle JCDecaux remains one of our top picks in the sector for three main reasons. First, we do not expect the outdoor industry to face the structural issues that have impacted the traditional media. Second, with CCO still suffering from its intercompany debt exposure to its high leveraged holding company CCMO (expected to approach its covenant limit of 9.5x by late ’09/early ’10) and CBS Outdoor recording an operating income loss of US$-98m in 9M09, we see two possible scenarios: i) consolidation of the global outdoor market with the acquisition by JCDecaux of CCO/CBS Outdoor (we estimate JCD would need to pay a maximum of US$3.4bn for CBS Outdoor to make a deal at least EPS neutral on a 2 year basis); ii) a more rational behavior of CCO/CBS outdoor outside the US. Finally, we expect a recovery in organic revenue growth which would boost profitability owing to the high operating leverage of the business. We expect organic revenue CAGR in the next three years (’09-’11E) of 5.5% following an expected 12.3% decline in FY09 (in line with management’s guidance of -12.5%) and 7.6% CAGR in the ’06-’08 period.

Flexing upside Our scenario analysis points to at least €1.9 achievable upside to our base case forecasts. The improving competitive environment could result in: i) Street Furniture EBITDA margins returning to mid-cycle margin of 43% (vs JPMe of 39%). This would add €1.9 to our PT; ii) Capex returning to historical average level of c€170m (vs JPMe of €225m). This would add €3.7 to our PT; iii) Organic revenue growth is the key driver of EPS in ’10 and ’11 – higher than expected organic revenue growth in ’10 (e.g. +6.3% vs +4.3%) and ’11 (e.g. 9.3% vs 7.4%) would increase EPS by 30% and add €4.7 to our PT.

Catalysts – 2010 and beyond The acquisition of a major competitor would be one clear catalyst and we expect the market to respond positively for the reasons highlighted previously. A second important driver would be a pick up the organic revenue growth in ’10 which we expect to grow by 4.3%. Finally the market will monitor JCDecaux capex and we think a decline below €200m would be a very good catalyst.

Valuation, target price, key risks With EV/EBITDA10E of 8.6x JCD trades at a 9% discount to its historical average (9.5x), 23% discount to peak (11.0x in ’06) and 17% discount to its US peer CCO. We have a DCF-based Dec-10 PT of €18.30 (8.4% WACC, 3.0% terminal growth). Key risks to our rating and price target are: 1) higher than expected maintenance capex in ’09 and ’10; 2) lower than expected revenue in ’09 and no rebound in ’10; 3) a major acquisition at a price perceived too high by the market; 4) a smaller than expected contribution from recent contracts.

JCDecaux (JCDX.PA;DEC FP) FYE Dec 2007A 2008A 2009E 2010E 2011EAdj. EPS FY (€) 0.99 0.83 0.09 0.40 0.80Adj P/E FY 15.3 18.2 170.8 37.8 19.0EV/EBITDA FY 7.4 7.4 11.1 8.6 6.2EV/Revenue FY 2.0 1.9 2.0 1.9 1.6EV/Operating Profit FY 11.74 17.29 40.63 24.20 12.90EBITDA margin FY 26.4% 25.4% 18.1% 21.7% 26.2%Revenue FY (€ mn) 2,107 2,169 1,890 1,970 2,115EBITDA FY (€ mn) 555 550 343 427 555EBIT FY (€ mn) 350 236 94 152 267Source: Company data, Bloomberg, J.P. Morgan estimates.




Media – Outdoor Advertising


Julie Duval


Flagship reports • JCDecaux. Things are moving in the

right direction, 12 Nov 09 • JCDecaux. Higher than expected H109

results. Lower than expected capex guidance, 03 Aug 09

Price Performance

6

12

18

€


JCDX.PA share price (€)MSCI-Eu (rebased)


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JCDecaux: Summary of Financials

Profit and Loss statement Cash flow statement € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Revenue 2,107 2,169 1,890 1,970 2,115 EBITA 379 311 135 194 309

% change Y/Y 8.2% 2.9% -12.9% 4.3% 7.4% Depreciation & amortisation 174 267 207 233 245 EBITDA 555 550 343 427 555 Change in working capital (21) 68 (16) (4) (8)

% change Y/Y 4.0% -1.0% -37.7% 24.7% 29.8% Other -161 -165 -84 -98 -125 EBITDA Margin (%) 26.4% 25.4% 18.1% 21.7% 26.2% Cash flow from operating activities 373 452 243 325 422

EBITA 379 311 135 194 309 % change Y/Y 4.2% -18.0% -56.4% 43.3% 59.4% Net Capex (306) (304) (225) (202) (197) EBITA Margin 18.0% 14.3% 7.2% 9.9% 14.6% Disposals/ (purchase) 16 7 7 7 7

Interest (51) (28) (43) (38) (27) Other investing cash flow 272 300 218 195 190 Earnings before tax 299 208 51 114 240 Cash flow from investing activities -19 2 0 0 0

% change Y/Y 5.7% -30.2% -75.5% 123.7% 110.3% Tax (92) (63) (15) (34) (72) Equity raised/(repaid) 23 (31) 0 0 0

as % of EBT 30.9% 30.2% 30.2% 30.2% 30.2% Debt raised/(repaid) - - - - - Minorities (4) (19) (4) (4) (4) Dividends paid (98) (105) 0 0 0 Net Income 221 184 20 89 176 Other financing cash flow - - - - -

% change Y/Y 7.8% -16.7% -89.3% 351.9% 98.6% Change in cash -25 13 28 134 236 Shares Outstanding 223.1 221.9 221.4 221.4 221.4 Reported EPS 0.99 0.49 0.03 0.36 0.80 Net debt/(cash) 720 707 678 544 308 Adjusted EPS 0.99 0.83 0.09 0.40 0.80 EV FCF 104 190 61 161 252 DPS 0.44 0.00 0.00 0.00 0.00 Equity FCF 67 148 18 123 225 Balance sheet Ratio Analysis € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Cash and cash equivalents 162 112 112 112 112 EBITDA Margin (%) 26.4% 25.4% 18.1% 21.7% 26.2% Accounts receivable 658 672 614 640 687 Operating margin 16.6% 10.9% 5.0% 7.7% 12.6% Inventories 128 128 113 118 127 Net profit margin 10.5% 8.5% 1.0% 4.5% 8.3% Other current assets 26 31 31 31 31 Personnel costs % sales 19.8% 19.9% 21.9% 20.7% 19.6% Net Current assets 973 943 870 901 957 Organic sales growth 8.8% 6.3% -12.3% 4.3% 7.4% LT investments 347 318 318 318 318 Sales growth 8.2% 2.9% -12.9% 4.3% 7.4% Net fixed assets 1,028 1,057 1,105 1,075 1,031 Net profit growth 7.8% -16.7% -89.3% 351.9% 98.6% Other LT assets 109 99 91 91 91 Adj EPS growth 7.3% NM NM 351.9% 98.6% Intangible Assets 1,519 1,469 1,395 1,385 1,383 FCF growth -63.4% 121.2% -87.8% 582.7% 82.8% Total assets 3,976 3,885 3,780 3,772 3,780 Interest coverage (x) 6.8 8.5 2.2 4.0 9.9 Liabilities Net debt/EBITDA 1.3 1.3 2.0 1.3 0.6 ST loans 107 52 52 52 52 Net debt to equity 36.9% 36.3% 34.6% 26.6% 13.8% Payables 662 712 624 650 698 Sales/assets 0.5 0.6 0.5 0.5 0.6 Other current liabilities 51 53 53 53 53 Capex/sales 14.5% 14.0% 11.9% 10.3% 9.3% Total current liabilities 820 817 729 755 803 FCF conversion 29.7% 80.2% 64.8% 105.9% 94.4% Long term debt 749 749 721 587 351 ROCE 8.6% 6.4% 2.3% 3.8% 6.7% Other liabilities 415 349 349 365 382 ROE 10.9% 5.4% 0.4% 3.8% 7.8% Total LT liabilities 1,164 1,098 1,070 952 733 Shareholders' equity 1,993 1,970 1,981 2,064 2,244 Total liabilities 1,984 1,915 1,798 1,708 1,536 Source: Company reports and J.P. Morgan estimates.

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KPN Best in class cost-cutting, confident in bullish 2010 targets The opportunity in the next cycle KPN’s revenue growth has deteriorated from +0.8% (Q1) to -5.2% (Q3) as macro pressures have intensified. Nevertheless with mgmt aggressively cutting costs, the company has successfully grown its EBITDA by 4% y/y over the last two quarters. With savings structural (FTE reductions, improved supplier terms etc) we believe this should prove sustainable, thereby offering scope for operational leverage through the next cycle. KPN also has greater than average revenue sensitivity to a macro recovery given its high corporate sector exposure (1/3 of revs) and its focus on the low-end (more economically vulnerable) segment in Germany (24% of revs). We also see two structural attractions to KPN’s portfolio. Firstly, we continue to believe German mobile consolidation remains feasible, and positions E-Plus as a buy-out candidate. Such expectations seem well supported by recent UK and Swiss consolidation. Historic transaction multiples (c.6.5x EBITDA) suggest meaningful upside potential to our E-Plus valn (4.7x). Secondly, with the Dutch mobile market having consolidated from 5 to 3 players, we may start to see meaningful market repair. Flexing upside We currently model 09-15E group rev growth of 0.3%. Assuming a 2% CAGR (macro recovery and Dutch market repair) would raise EBITDA by c.3.5% pa and our TP from €15 to €16.5. If we assume E-Plus is sold for 6.5x EBITDA this would further increase our TP to €18 (tax implications are not considered), 53% upside. Catalysts – 2010 and beyond 1. FY09 results (26 Jan): Expect mgmt to deliver €5.2bn+ EBITDA and reiterate 2010

guidance of >€5.5bn. Confirmation of a €1bn buyback would be well received given concerns that this may be reduced by German spectrum auction costs.

2. German spectrum auction (Q2 2010): We believe the cost of spectrum will be less than feared and believe there is some chance that O2 and E-Plus decide to jointly bid for spectrum therefore offering KPN access to valuable 800Mhz spectrum.

3. E-Plus revenue recovery (Q2 2010). Expect management to deliver on its “rationalization” plans. Expect E-Plus to once again begin to take market share.

4. Q3 results: Should confirm that management is on track to achieve (or beat) its FY10 EBITDA guidance of >€5.5bn (cons €5.35bn, JPMe €5.5bn).

Valuation, target price, key risks Our Dec-10 SoTP DCF based TP is €15/share (27% upside). KPN trades on a 2010E EFCF yield of 12% (sector 11%). The key risk to our rating and price target is that mgmt are unable to continue to offset revenue pressures through cost cutting.

KPN (KPN.AS;KPN NA) FYE Dec 2008A 2009E 2010E 2011E 2012E 2013EAdj. EPS FY (€) 0.77 0.91 1.11 1.14 1.19 1.24Revenue FY (€ mn) 14,602 13,629 13,657 13,720 13,800 13,784EBITDA FY (€ mn) 5,058 5,199 5,472 5,445 5,434 5,416EBITDA margin FY 34.6% 38.1% 40.1% 39.7% 39.4% 39.3%EBIT FY (€ mn) 2,597 2,822 3,104 3,084 3,090 3,103EBIT margin FY 17.8% 20.7% 22.7% 22.5% 22.4% 22.5%Tax rate FY (29.1%) (26.5%) (25.5%) (25.5%) (25.5%) (25.5%)DPS (Gross) FY (€) 0.60 0.69 0.80 0.84 0.87 0.91Source: Company data, Bloomberg, J.P. Morgan estimates.



Price Target: €15

Telecom Services

Akhil Dattani AC (44-20) 7325-6337 [email protected]

Hannes Wittig


Flagship reports • Q3 results likely to trigger consensus

earnings and FCF upgrades, 28 Oct 09 • Confident in 2010 guidance. Dutch

mobile & E+ could offer upside, 01 Oct 09

• Increased confidence in 2010 guidance, 29 Jul 09

Price Performance

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14

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KPN.AS share price (€)MSCI-Eu (rebased)

8

11

14

€


KPN.AS share price (€)MSCI-Eu (rebased)

Performance (%) YTD 1m 3m 12m Abs 13.9% -4.3% 8.8% 12.1% Rel -7.6% -4.3% 5.7% -12.0%

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KPN: Summary of Financials Profit and Loss Statement Cash flow statement € in millions, year end Dec FY08 FY09E FY10E FY11E FY12E € in millions, year end Dec FY08 FY09E FY10E FY11E FY12E Revenues 14,602 13,629 13,657 13,720 13,800 Cash EBITDA 5,058 5,199 5,472 5,445 5,434

% Change Y/Y 15.6% -6.7% 0.2% 0.5% 0.6% Interest (597) (674) (599) (661) (700) EBITDA 5,058 5,199 5,472 5,445 5,434 Tax (522) (570) (700) (789) (798)

% Change Y/Y 3.2% 2.8% 5.3% -0.5% -0.2% Other - - - - - EBITDA Margin 34.6% 38.1% 40.1% 39.7% 39.4% Cash flow from operations 4,066 3,807 4,010 3,832 3,849

EBIT 2,597 2,822 3,104 3,084 3,090 % Change Y/Y 3.9% 8.6% 10.0% -0.6% 0.2% Capex PPE (1,925) (1,784) (1,913) (1,952) (1,790) EBIT Margin 17.8% 20.7% 22.7% 22.5% 22.4% Net investments 226 50 150 150 50

Net Interest 704 763 749 761 750 CF from investments (1,699) (1,734) (1,763) (1,802) (1,740) PBT 1,887 2,053 2,348 2,317 2,334 Dividends (981) (1,039) (1,146) (1,225) (1,245)

% change Y/Y -2.6% 8.8% 14.4% -1.3% 0.7% Share (buybacks)/ issue (1,153) (889) (1,000) (500) (500) Net Income (clean) 1,344 1,515 1,740 1,716 1,729

% change Y/Y -49.2% 12.7% 14.8% -1.3% 0.7% CF to Shareholders (2,134) (1,928) (2,146) (1,725) (1,745) Average Shares 1,753 1,660 1,568 1,499 1,456 FCF to debt 233 145 102 305 364 Clean EPS 0.77 0.91 1.11 1.14 1.19

% change Y/Y NM 19.0% 21.5% 3.2% 3.8% OpFCF (EBITDA - PPE) 3,133 3,414 3,559 3,492 3,645 DPS 0.60 0.69 0.80 0.84 0.87 EFCF pre Div, PPE 2,454 2,350 2,429 2,209 2,386 Balance sheet Ratio Analysis € in millions, year end Dec FY08 FY09E FY10E FY11E FY12E € in millions, year end Dec FY08 FY09E FY10E FY11E FY12E Cash and cash equivalents 1,199 2,430 2,532 2,837 3,200 EBITDA margin 34.6% 38.1% 40.1% 39.7% 39.4% Accounts Receivables 2,397 2,227 2,257 2,287 2,317 EBIT Margin 17.8% 20.7% 22.7% 22.5% 22.4% ST financial assets - - - - - Net profit margin 9.2% 11.1% 12.7% 12.5% 12.5% Others 121 (98) (98) (98) (98) Capex/sales 14.6% 15.4% 13.3% 12.0% 11.6% Current assets 3,854 4,686 4,813 5,143 5,531 Depreciation/Sales 13.0% 11.5% 11.1% 11.0% 10.7% LT investments - - - - - Net fixed assets 20,059 19,813 19,707 19,342 18,825 Revenue growth 15.6% -6.7% 0.2% 0.5% 0.6% Total assets 23,913 24,499 24,520 24,484 24,357 EBITDA Growth 3.2% 2.8% 5.3% -0.5% -0.2% ST loans 1,165 420 320 220 120 EPS Growth NM 19.0% 21.5% 3.2% 3.8% Payables 4,113 2,350 2,375 2,400 2,425 Others 3,999 3,309 3,700 3,639 3,492 Net debt/EBITDA 2.1 2.1 1.9 1.9 1.8 Total current liabilities 5,796 3,032 4,352 4,602 4,764 CF to Shareholders (2,134) (1,928) (2,146) (1,725) (1,745) Long term debt 10,876 15,124 15,224 15,324 15,424 FCF to debt 233 145 102 305 364 Other liabilities - - - - - Total liabilities 20,153 21,203 21,619 21,583 21,461 OpFCF (EBITDA - PPE) 3,133 3,414 3,559 3,492 3,645 Shareholders' equity 3,759 3,296 2,900 2,901 2,895 EFCF pre Div, PPE 2,454 2,350 2,429 2,209 2,386


122



LVMH Best in class The opportunity in the next cycle 1) Sustained rush to established brands in the early stages of the upcycle The brands that fared best in the downturn usually are the ones that continue to do well at the early stages of the upcycle and this despite tougher comps. This is because consumers continue to chase quality/established brands and because retail leads wholesale. LVMH’s leading position in leather goods (LV), wines & spirits (possible recovery in cognac, less evident in champagne) and selective distribution (Sephora) should put it in a strong position in the early stages of the upturn. 2) A strong China story We often hear investors pointing out that they own Swatch for its Omega brand exposure to China. Omega certainly has a strong footing in China but so does LV (18% of LV’s Sales are to the ML Chinese consumer, equivalent to Omega in relative terms and bigger in absolute terms) and Hennessy. What was long perceived as a male dominated watch and suits market has fast hooked up to leather goods and LV. Flexing upside Our FY10E LVMH forecasts, albeit already slightly higher than consensus (2% higher on EBIT), include relatively conservative Sales and EBIT estimates at LVMH’s key divisions. In a more optimistic case scenario and more specifically assuming that Wines & Spirits delivers 7% organic sales growth (vs JPME 5% on -12% comp), that Fashion & Leather Goods reaches 9% organic sales growth (vs JPME 7%), and Selective distribution 5% (vs JPME 2%), this would raise our Group 10E EBIT forecast by an additional 6%. The market has focused on LVMH as an acquirer but we believe the Group may consider selling some of its smaller brands, which are earnings dilutive and a drain on management attention. Catalysts – 2010 and beyond The next newsflow is FY09 Results in Feb. As highlighted above, strong brands (LV) tend to sustain outperformance in the early stages of the upcycle despite tough comps, LV should sustain good momentum in Q4 09 and FY10 vs peers. Valuation, target price, key risks LVMH, in our view, offers the best risk-reward proposition in the sector. While our Dec 10 DCF-based price target implies limited upside (+10%), it is the highest in our neutral sector stance, and our SOP implies more upside (+25%). It is unwarranted in our view that LVMH has derated vs its peers despite a higher earnings visibility in 09 and 10. CDior is back on a 15% discount to its NAV, at the peak of its historical range, and although we are not positively surprised by CDior Couture, CDior holding is back to being an interesting way to play LVMH. Key risks include: 1) factors impacting traveling flows incl the Swine flu and forex, 2) a W dip but not expected by our economists, 3) large expensive acquisition, although unlikely for now.

LVMH (LVMH.PA;MC FP) FYE Dec 2008A 2009E 2010E 2011EAdj. EPS FY (€) 4.22 3.77 4.28 5.00Revenue FY (€ mn) 17,193 16,948 17,389 18,598EBIT FY (€ mn) 3,628 3,237 3,435 3,915EBIT margin FY 21.1% 19.1% 19.8% 21.1%Net Attributable Income FY (€ mn)

2,026 1,785 2,025 2,366

Adj P/E FY 16.5 18.5 16.3 14.0EV/Revenue FY 2.3 2.3 2.3 2.1EV/EBITDA FY 9.5 10.3 9.8 8.7Source: Company data, Bloomberg, J.P. Morgan estimates.





Melanie A Flouquet AC


Corinna Beckmann (44-20) 7325-3938 [email protected]


for 2010 Sales growth, 10 Nov 09 • LVMH : Quality top line, 20 Oct 09

Price Performance

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LVMH.PA share price (€)MSCI-Eu (rebased)

Performance (%) YTD 1m 3m 12m Abs 46.0% -1.3% 3.5% 61.1% Rel 24.5% -1.3% 0.4% 37.0%



https://mm.jpmorgan.com/servlet/PubServlet?skey=R1BTLTMzNDMxOS0wLDExMixDT01FUVVJVFlfTU9SRQA=&Name=GPS-334319-0.pdf

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LVMH: Summary of Financials Profit and Loss Statement Cash flow statement € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Revenues 16,481 17,193 16,948 17,389 18,598 EBIT 3,555 3,628 3,237 3,435 3,915% Change Y/Y 7.7% 4.3% (1.4%) 2.6% 7.0% Depreciation & amortization 470 514 563 556 577Gross margin (%) 64.9% 65.0% 64.2% 64.7% 65.1% Change in working capital (474) (730) (95) 159 47EBITDA 4,025 4,142 3,800 3,991 4,492 Other items - net (1,093) (1,121) (1,266) (1,223) (1,322)% Change Y/Y 11.0% 2.9% (8.3%) 5.0% 12.6% Cash flow from operations 2,458 2,291 2,440 2,927 3,217EBIT 3,555 3,628 3,237 3,435 3,915 % Change Y/Y 12.1% 2.1% (10.8%) 6.1% 14.0% Capex (1,293) (1,560) (805) (837) (904)Net Interest (207) (257) (232) (173) (131) Other investing cashflow 0 0 0 0 0Other, net (171) (167) (167) (80) (80) Cashflow from investing (1,293) (1,560) (805) (837) (904)Reported PBT 3,177 3,204 2,838 3,182 3,705 Dividend received (827) (946) (950) (954) (1,035)% Change Y/Y 5.9% 0.9% (11.4%) 12.1% 16.4% Equity 0 (134) 0 0 0Tax (853) (893) (867) (970) (1,111) Debt 28 (94) 0 0 0% of PBT 26.8% 27.9% 30.5% 30.5% 30.0% Other financing cashflow - - - - -Minorities (299) (285) (186) (186) (228) Cashflow from financing (799) (1,174) (950) (954) (1,035)Net Income (Reported) 2,025 2,026 1,785 2,025 2,366 % Change Y/Y 7.8% 0.0% (11.9%) 13.4% 16.8% Exchange rate differences (44) 87 0 0 0Shares Outstanding (diluted) 478.8 475.6 475.6 475.6 475.6 Increase/(decrease) in cash 322 (356) 685 1,137 1,278Adj EPS 4.19 4.22 3.77 4.28 5.00 % change Y/Y 12.3% 0.7% (10.6%) 13.4% 16.8% Fully diluted EPS 4.15 4.20 3.75 4.26 4.97 % change Y/Y 12.6% 1.2% (10.6%) 13.4% 16.8% Balance sheet Ratio Analysis € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Cash and cash equivalent 1,559 1,013 1,698 2,834 4,113 EBITDA margin 24.4% 24.1% 22.4% 23.0% 24.2%Accounts Receivables 4,104 3,694 3,754 3,655 3,763 EBIT margin 21.6% 21.1% 19.1% 19.8% 21.1%Inventories 4,812 5,767 5,728 5,721 5,859 Net profit margin 12.3% 11.8% 10.5% 11.6% 12.7%Others - - - - - SG&A/Sales (43.3%) (43.9%) (45.1%) (44.9%) (44.0%)Current assets 10,475 10,474 11,180 12,210 13,734 Net fixed assets 20,266 21,103 21,345 21,626 21,953 Interest Cover 17.2 14.1 14.0 19.9 30.0Total assets 30,741 31,577 32,525 33,836 35,687 Net debt to Total Capital 25.9% 26.2% 21.8% 15.3% 8.1% Net debt to equity 24.7% 27.9% 23.7% 14.8% 6.3%ST Borrowings 3,138 1,847 1,847 1,847 1,847 Sales/assets 53.6% 54.4% 52.1% 51.4% 52.1%Payables 2,095 2,292 2,254 2,243 2,362 Assets/Equity 2.7 2.4 2.3 2.2 2.1Others 2,537 2,476 2,441 2,504 2,678 ROE 18.2% 16.5% 13.3% 13.9% 14.8%Total current liabilities 7,770 6,615 6,542 6,594 6,887 ROCE 16.2% 15.3% 12.9% 13.4% 15.0%Provisions 5,123 4,224 4,224 4,224 4,224 Long term debt 2,477 3,738 3,738 3,738 3,738 DPS 1.60 1.60 1.60 1.62 1.86Other liabilities 2,843 3,113 3,113 3,113 3,113 Dividend payout ratio 37.5% 37.4% 42.4% 37.8% 37.2%Total liabilities 18,213 17,690 17,617 17,669 17,962 Minorities 938 990 984 975 933 Shareholders' equity 11,590 12,897 13,924 15,191 16,791 Total Liabilities & SH Equity 30,741 31,577 32,525 33,836 35,687 BVPS 24 27 29 32 35 Source: Company reports and J.P. Morgan estimates.

124



Roche 2010: critical to raise appreciation of the pipeline potential The opportunity in the next cycle We expect 2010 to be the critical year to reset market expectations in terms of Roche’s pipeline potential. Consensus currently views Roche as a 10% Core EPS grower, whereas we have high conviction the company can grow Core EPS at mid-teens, at least until 2013, and possibly beyond. If consensus is right, the current 10% premium to the mid caps on 2011E Core EPS offers only limited upside, however if our mid-teens scenario plays out, this valuation dramatically undervalues Roche.

The difference comes from 3 factors: Actemra, taspoglutide and margin improvement. Consensus sees Actemra and taspoglutide as just about reaching blockbuster sales. In contrast, we expect both to become $3bn+ opportunities. Resolution of regulatory uncertainty for both should result in significant uplifts to consensus EPS. Further pipeline newsflow in 2010 could result in additional upside. Consensus projects margin improvement just below 500bps from 2009 to 2013, in contrast we model a 790bp margin improvement. Consensus estimates suggest the market doesn’t believe in profitability improvements at Roche beyond “low hanging fruit” of the Genentech synergies, despite significant scope from operating leverage.

Flexing upside Consensus earnings for 2013 could be 30-40% too low. In 2010, we see several triggers for consensus expectations for Roche’s medium-term earnings to increase, with the R&D day showcasing the pipeline. Such an “upgrade” of consensus 2013 forecasts has the potential to also expand the multiple: valuing Roche in-line with the 2013 mid-cap multiple (10.7x) on upgraded consensus forecasts (by 40%) would result in a share price of SFr 259.

Catalysts – 2010 and beyond 2010 will offer rich pipeline newsflow: Actemra PDUFA (Jan 8), FDA decision on competitor liraglutide and phase III data for: taspoglutide, Avastin in 3 further metastatic indications, and potentially triple negative adjuvant BC, pertuzumab, Lucentis in DME, all with a positive risk reward and little downside in our view. R&D day on March 18 offers Roche the chance to showcase its pipeline, with the opportunity to focus on the commercial potential of the late stage pipeline.

Valuation, target price, key risks Our SFr 237 2010YE price target is based on our EmV of SFr 215, with a 10% premium. Our PT implies 15.6x 2011E Core EPS, 11% premium to the mid cap sector. Key risks to our rating and price target include further delays to US Actemra approval or an underwhelming launch.

Roche (ROG.VX;ROG VX)FYE Dec 2008A 2009E 2010E 2011E

Adj. EPS FY (SF) 11.04 11.80 12.97 15.20Revenue FY (SF mn) 45,617 49,061 50,006 54,038EBIT FY (SF mn) 13,924 13,139 16,261 18,658EBITDA FY (SF mn) 16,569 16,886 21,193 21,288Net Income FY (SF mn) 8,969 7,853 10,740 12,705Adj P/E FY 14.9 13.9 12.7 10.8Headline EPS FY (SF) 10.24 9.10 12.50 14.79Headline P/E FY 16.0 18.1 13.1 11.1Source: Company data, Bloomberg, J.P. Morgan estimates.

Company DataPrice (SF) 164.30Date Of Price 30 Nov 09Price Target (SF) 237.00Price Target End Date 30 Dec 1052-week Range (SwF) 174.70 - 122.80Mkt Cap (SF bn) 113.7Shares O/S (mn) 692

Roche (ROG.VX;ROG VX)FYE Dec 2008A 2009E 2010E 2011E

Adj. EPS FY (SF) 11.04 11.80 12.97 15.20Revenue FY (SF mn) 45,617 49,061 50,006 54,038EBIT FY (SF mn) 13,924 13,139 16,261 18,658EBITDA FY (SF mn) 16,569 16,886 21,193 21,288Net Income FY (SF mn) 8,969 7,853 10,740 12,705Adj P/E FY 14.9 13.9 12.7 10.8Headline EPS FY (SF) 10.24 9.10 12.50 14.79Headline P/E FY 16.0 18.1 13.1 11.1Source: Company data, Bloomberg, J.P. Morgan estimates.

Company DataPrice (SF) 164.30Date Of Price 30 Nov 09Price Target (SF) 237.00Price Target End Date 30 Dec 1052-week Range (SwF) 174.70 - 122.80Mkt Cap (SF bn) 113.7Shares O/S (mn) 692

Overweight SFr164.30 30 November 2009

Price Target: SFr 237

Pharmaceuticals




Flagship reports • 2nd Phase of Margin Expansion - In

Depth Model Review, 06 May 09 • What Roche needs to offer on July 23

to transform this undervalued growth opportunity, 17 Jun 09

• Price target increased to SFr195 on increased visibility or Roche’s superior growth profile, 31 Jul 09

Price Performance

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200

SwF


ROG.VX share price (SwFMSCI-Eu (rebased)

Performance (%) YTD 1M 3M 12M Abs (%) 1.1% -0.2% -2.5% 0.3% Rel (%) -18.7% -1.0% -3.2% -22.1%

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Roche: Summary of Financials

Profit and Loss statement Cash flow statement SwF in millions FY07A FY08A FY09E FY10E FY11E SwF in millions FY07A FY08A FY09E FY10E FY11E Revenue 46,133 45,617 49,061 50,006 54,038 EBIT 14,468 13,896 15,502 16,261 18,658

% change Y/Y 9.7% -1.1% 7.5% 1.9% 8.1% Depreciation & amortisation 2,594 2,645 3,590 2,568 2,630 Gross Margin (%) 134.7% 135.0% 134.0% 131.5% 129.6% Change in working capital (1,207) (524) (1,380) (288) (1,229) EBITDA 17,062 16,569 16,886 21,193 21,288 Taxes (4,494) (3,514) (2,512) (3,259) (3,680)

% change Y/Y 18.8% -2.9% 1.9% 25.5% 0.4% Cash flow from operations 18,816 18,364 17,523 23,700 22,986 EBITDA Margin (%) 37.0% 36.3% 34.4% 42.4% 39.4% Capex (3,403) (2,598) (3,187) (3,187) (3,283)

EBIT 14,468 13,924 13,139 16,261 18,658 Disposals/ (purchase) (3,256) (3,422) 0 0 0 % change Y/Y 23.3% -3.8% -5.6% 23.8% 14.7% Net Interest 782 395 3 (15) (36) EBIT Margin (%) 31.4% 30.5% 26.8% 32.5% 34.5% Free cash flow 10,919 12,252 11,824 17,254 16,023

Interest 834 236 (2,219) (2,053) (2,017) Equity raised/(repaid) 1,085 (98) 0 0 0 Earnings before tax 15,304 14,161 10,922 14,230 16,683 Other 6,310 7,003 6,200 3,398 6,312

% change Y/Y 21.6% -7.5% -22.9% 30.3% 17.2% Dividends paid (3,027) (4,051) (4,400) (5,127) (5,624) Tax (3,867) (3,317) (2,512) (3,259) (3,680) Beginning cash 3,210 3,755 4,915 7,404 10,863

as % of EBT 25.3% 23.4% 23.0% 22.9% 22.1% Ending cash 3,755 4,915 7,404 10,863 17,679 Net Income (Reported) 9,761 8,969 7,853 10,740 12,705 DPS 4.60 4.72 4.53 6.20 7.33

% change Y/Y 24.2% -8.1% -12.4% 36.8% 18.3% Shares Outstanding 859.0 860.0 859.0 859.0 859.0 EPS (reported) 11.16 10.24 9.10 12.50 14.79

% change Y/Y 23.6% (8.3%) (11.1%) 37.4% 18.3% Balance sheet Ratio Analysis SwF in millions FY07A FY08A FY09E FY10E FY11E SwF in millions FY07A FY08A FY09E FY10E FY11E Cash and cash equivalents 3,755 4,915 7,404 10,863 17,679 EBITDA Margin (%) 37.0% 36.3% 34.4% 42.4% 39.4% Accounts receivable 2,452 1,980 2,608 2,658 2,872 Operating margin 31.4% 30.5% 31.6% 32.5% 34.5% Inventories 6,113 5,830 6,501 6,626 7,160 Net profit margin 21.2% 19.7% 16.0% 21.5% 23.5% Others 263 268 268 268 268 SG&A/Sales -25.5% -25.2% -23.0% -22.9% -22.4% Current assets 42,834 38,604 34,518 36,853 45,275 R&D/Sales -18.2% -19.4% -19.6% -20.7% -20.1% LT investments 3,019 1,992 1,992 1,992 1,992 Sales growth 9.7% -1.1% 7.5% 1.9% 8.1% Net fixed assets 24,178 25,311 22,693 21,277 19,894 Net profit growth 21.6% -7.5% -22.9% 30.3% 17.2% Total assets 78,183 76,089 69,385 70,304 77,343 EPS growth 20.1% (6.9%) 6.9% 9.9% 17.2% Liabilities Interest coverage 17.3 59.0 5.9 7.9 9.3 ST loans (3,032) (1,117) (1,117) (1,117) (1,117) Dividend Coverage 2.4 2.2 2.0 2.0 2.0 Payables (1,861) (2,017) (1,979) (2,017) (2,180) Net debt/equity -25.0% -23.0% -110.7% -77.0% -79.3% Others -15,461 -15,507 -16,682 -16,977 -17,768 Sales/assets 0.6 0.6 0.7 0.7 0.7 Total current liabilities (14,454) (12,104) (13,101) (13,290) (14,095) Assets/equity 1.3 1.2 9.8 5.2 3.6 Long term debt (3,834) (2,972) (2,972) (2,972) (2,972) ROCE 22.7% 21.8% 23.3% 28.5% 29.5% Other liabilities 6,588 7,191 7,331 7,475 7,624 ROE 19.5% 16.7% 26.9% 139.0% 86.8% Total liabilities 16,916 12,924 62,292 56,702 55,910 Shareholders' equity 61,267 63,165 7,093 13,602 21,434 BVPS 62.1 62.6 5.3 12.7 21.4 Source: Company reports and J.P. Morgan estimates.

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Saint-Gobain Major beneficiary when European housing recovers The opportunity in the next cycle We believe Saint-Gobain to be the best investable idea in our sector as we expect the housing market to recover earlier than the other sub-sectors. Saint-Gobain’s share price would therefore be a significant beneficiary as around two-thirds of its sales are to the housing market, mainly in Europe. The improvement in the outlook for the US housing market is the first indication of this, in our view. Also, our 12-month mid-cycle EPS-based price target for Saint-Gobain (€45) suggests 24% upside to the current share price, which is third highest amongst the 8 European companies covered by the author.

Flexing upside On applying our assumptions at the peak of the business cycle in Aug-07 and adjusting for the rights issue in Feb-09, our estimate of Saint-Gobain’s mid-cycle EPS comes out at €6.79, which values the company at €74.7. Our current valuation of Saint-Gobain (€45) is 40% less than our estimate of its peak valuation.

Catalysts – 2010 and beyond In our view there are three potential major catalysts that could cause the shares to outperform: 1) an improvement in the economic outlook, particularly in Europe; 2) an increase in the magnitude of the cost cutting program; 3) the announcement of one or more major divestments could, we believe, result in significant share price outperformance, as investors may then become less skeptical about the previously announced plans for the company to become a more focussed building products and distribution business.

Valuation, target price, key risks We value the shares by multiplying our estimate of Saint-Gobain’s mid-cycle EPS by our estimate of its long-term average P/E ratio. Over the last 10 years Saint-Gobain has traded on an average one year forward P/E multiple of 12.0 times. This average was increased by a spike in the share price in 2007 and 2008. We therefore expect this ratio to average around 11.0 in the future. Multiplying our estimate of Saint-Gobain’s mid-cycle EPS (€4.08) by this multiple (11.0) values the shares at €45. We believe the key risks on our call are 1) deteriorating volume outlook after a 15.7 percentage-point decline in sales volumes on a like-for-like basis in 9m-09; 2) lack of pricing power; and 3) a poor record on recent acquisitions.

Saint-Gobain (SGOB.PA;SGO FP) FYE Dec 2007A 2008A 2009E 2010E 2011EAdj. EPS FY (€) 5.14 4.62 1.16 2.31 3.47EBITDA FY (€ mn) 4,999 4,620 3,149 4,033 4,875EBITDA margin FY 11.5% 10.5% 8.2% 10.3% 11.5%EBIT FY (€ mn) 4,108 3,649 2,110 2,542 3,431EBIT margin FY 9.5% 8.3% 5.5% 6.5% 8.1%Tax rate FY 37.7% 30.9% 28.0% 28.0% 28.5%Adj P/E FY 7.1 7.8 31.3 15.7 10.4EV/EBITDA FY 5.2 5.7 9.8 7.2 5.9DPS (Net) FY (€) 2.05 1.00 1.00 1.00 1.00Cash EPS FY (€) 10.94 9.34 5.76 5.89 6.56Source: Company data, Bloomberg, J.P. Morgan estimates.




Building Materials

Mike Betts AC (44-20) 7325-8976 [email protected]

Flagship reports

• Building Materials: Improving outlook. Increasing sector EPS estimates by 5-12%. Raising Ciment Francais and Eagle from UW to N. Lowering Holcim from OW to N, 08 Sep 09

Price Performance

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Saint-Gobain: Summary of Financials Profit and Loss statement Cash flow statement € in mn, year-end FY07A FY08A FY09E FY10E € in mn, year-end FY07A FY08A FY09E FY10E Revenue 43,421 43,800 37,046 36,695 EBITA 3,124 2,939 1,326 1,785

% change Y/Y 4.4% 0.9% (15.4%) (0.9%) Depreciation & amortisation 1,875 1,681 1,658 1,690 EBITDA 4,999 4,620 2,984 3,475 Change in working capital (27) 272 461 35

% change Y/Y (1.3%) (7.6%) (35.4%) 16.4% Exceptional items - - - - EBITDA Margin (%) 11.5% 10.5% 8.1% 9.5% Interest and other financial items (521) (603) (619) (550) Depreciation & amortization 1,875 1,681 1,658 1,690 Other non-cash items - - - -

EBIT 4,108 3,649 1,945 1,999 Taxes (809) (734) (138) (304) % change Y/Y 10.6% (11.2%) (46.7%) 2.8% EBIT Margin (%) 9.5% 8.3% 5.3% 5.4% Cash flow from operations 4,415 3,852 2,745 2,707

Asset Sales - - - - Capex (2,305) (2,298) (1,575) (1,605) Interest (701) (750) (769) (700) Dividends paid (684) (832) (506) (528) Earnings before tax 2,455 2,065 492 1,085

% change Y/Y (4.6%) (15.9%) (76.2%) 120.6% Free cash flow 1,426 722 664 573 Tax (926) (638) (138) (304) Acquisitions / divestments (35) (2,698) 330 142

as % of EBT 37.7% 30.9% 28.0% 28.0% Associates 14 11 12 13 Cash (needed)/available 1,391 (1,976) 993 715 Goodwill - - - - Change in equity 413 353 1,677 (100) Minority interests (56) (59) (40) (40) Exchange adjustments - - - - Net Income (Reported) 1,487 1,378 326 754 Other (105) (17) - -

% change Y/Y (9.2%) (7.3%) (76.3%) 131.2% Shares Outstanding 403.7 412.4 473.3 508.3 Decrease/(increase) in net debt 1,671 (1,751) 2,670 615 EPS (reported) 3.68 3.34 0.69 1.48 Net debt at year-end 9,928 11,679 9,009 8,394 EPS Adjusted 5.14 4.62 0.91 1.57

% change Y/Y 19.7% (10.1%) (80.3%) 72.9% Balance sheet Ratio Analysis € in mn, year-end FY07A FY08A FY09E FY10E € in mn, year-end FY07A FY08A FY09E FY10E Cash and cash equivalents 1,294 1,937 1,949 1,962 Per share amounts Accounts receivable 7,970 7,319 7,523 7,503 Normalised EPS 5.14 4.62 0.91 1.57 Inventories 5,833 6,113 5,448 5,433 Normalised EPS pre-goodwill 5.14 4.62 0.91 1.57 Investments - - - - Dividend per share 2.05 1.00 1.00 1.00 Others - - - - Cash flow per share 10.94 9.34 5.80 5.33 Current assets 15,097 15,369 14,920 14,898 Net tangible assets per share 37.1 34.6 34.2 32.8 Tangible Assets 12,753 13,374 13,082 12,975 Multiples (No.) Intangible assets 12,365 13,539 13,539 13,539 P/E multiple 6.0 6.7 33.9 19.6 Investments 923 1,113 1,113 1,113 Price to book value 1.0 1.1 1.1 1.1 Net fixed assets 26,041 28,026 27,734 27,627 EBITDA multiple 4.6 5.0 9.3 7.3 Total assets 41,138 43,395 42,653 42,525 EBIT multiple 5.5 6.3 14.3 12.7 Liabilities Leverage (No.) ST loans (2,475) (3,251) (3,251) (3,251) Net debt/equity 65.0% 80.4% 54.7% 49.5% Payables (10,642) (9,726) (9,726) (9,726) Interest cover (x) 5.9 4.9 2.5 2.9 Total current liabilities (13,117) (12,977) (12,977) (12,977) Payout ratio 55.7% 29.9% 145.1% 67.4% Long term debt (8,747) (10,365) (7,695) (7,080) Provisions and tax (4,007) (5,523) (5,523) (5,523) Total liabilities (25,871) (28,865) (26,195) (25,580) Total equity 14,977 14,274 16,203 16,689 Minority interests (290) (256) (256) (256) Shareholders' equity 15,267 14,530 16,459 16,945 Y/E shares outstanding 407 416 508 508 BVPS 37.1 34.6 34.2 32.8 Source: Company reports and J.P. Morgan estimates.

128



SKF Highly geared to the IP recovery The opportunity in the next cycle SKF has performed well in the downturn. Its low operating leverage is evidence of its flexible business model and excellent management – op lev of ~35% vs. ~60% for Sandvik (09E). The company has proven it can now execute well in a downturn, in contrast to previous downturns (e.g. early 90s) when the company suffered from the highly cyclical nature of its end-markets and rigid cost structure. We believe a higher multiple is justified given concerns around its cyclicality have eased. Flexing upside J.P. Morgan currently forecasts some 9% YoY growth in IP in 2010, primarily from production moving back in line with final demand trends. We forecast a similar volume growth for SKF (8.9%). A 1% increase in volumes would increase ’10E and ’11E EPS by 3% and add Skr10 to our TP. Catalysts – 2010 and beyond 1) Structural savings implemented, improving the through-cycle margin. We expect three key elements from savings going forward: 1) a structural saving of some SKr800m from the announced restructuring programs excluding potential future programs; 2) a structural shift focusing production on lower cost countries; 3) a roll-over of fixed cost under-absorption providing savings of some SKr500m. 2) An end to de-stocking generating strong volume growth. Some 60% of SKF’s business is opex related and hence geared towards the expected IP recovery (JPMe +9% in 2010). Auto production is forecast to grow some 10% in Europe and 40% in the US in 1H’10 (CSM), following the strong demand from scrappage incentives. This should benefit SKF, with 30% of its revenue generated by its Auto division. 3) Restructured Automotive division drives earnings recovery. The company generated a profit in Q3’09, despite a strong decline in volumes (14% YoY). It illustrates a strong benefit from the restructuring program put in place and bodes well for upside to consensus ’10 estimates (3.5% Automotive margin). Valuation, target price, key risks SKF trades on 7.9x ’11E EV/EBITA and 11x ’11E P/E vs. the Capital Goods sector on 9.7x EV/EBITA and 13.4x P/E. We assume 9% org volume growth and set our June 2010 TP of Skr130 on 9.0x ’11E EV/EBIT. A multiple of 9.0x is above previous mid-cycle valuations, but we believe the higher multiple is justified given SKF’s solid execution in the downturn, which has alleviated concerns around its cyclicality and is more in line with the valuations of Sandvik and Atlas Copco. Using a multiple of 10x, in line with the sector average, would imply a TP of some Skr 150. Key risks to our OW position are pricing pressure and further declines in Automotive demand as a pay-back to strong incentives seen in ’09.

SKF (SKFb.ST;SKFB SS) FYE Dec 2007A 2008A 2009E 2010E 2011EAdj. EPS FY (Skr) 10.04 10.14 3.87 7.83 10.91Revenue FY (Skr mn) 58,559 63,361 56,078 58,130 63,335EBIT FY (Skr mn) 7,539 7,710 3,273 5,868 7,843EBIT margin FY 12.9% 12.2% 5.8% 10.1% 12.4%EV/Revenue FY 1.0 0.7 0.9 0.8 1.0EV/Operating Profit FY 7.49 5.95 15.10 7.89 7.77EBITDA FY (Skr mn) 9,315 9,659 5,214 7,796 9,687EBITDA margin FY 15.9% 15.2% 9.3% 13.4% 15.3%Source: Company data, Bloomberg, J.P. Morgan estimates.

Company Data Price (Skr) 115.50Date Of Price 30 Nov 09Price Target (Skr) 130.00Price Target End Date 30 Jun 1052-week Range (Skr) 123.40 - 57.75Mkt Cap (Skr bn) 52.6Shares O/S (mn) 455

Overweight Skr115.5 30 November 2009

Price Target: Skr130

Capital Goods

Nico Dil AC (44-20) 7325-4292 [email protected]

Andreas Willi


Bramen Singanayagam (44-20) 7325-6810 [email protected]

Joseph Peter (44-20) 7325-7144 [email protected]

Flagship reports • Atlas Copco, Sandvik and SKF: Steep

Recovery in Industrial Production likely, 22 Jun 09

• J.P. Morgan Winning Franchises: Names to own through the cycle, 26 Jun 09

• SKF: Solid Q3’09 Results - Restructuring Savings to Provide the Upside , 21 Oct 09

Price Performance

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Skr


SKFb.ST share price (Skr)MSCI-Eu (rebased)

Performance (%)

YTD 1M 3M 12M Abs (%) 49.5% 0.9% 3.2% 93.3% Rel (%) 29.7% 0.1% 2.5% 70.9%

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SKF: Summary of Financials Profit and Loss Statement (IFRS) Cash flow statement (IFRS) Skr in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Skr in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Revenues 58,559 63,361 56,078 58,130 63,335 Net income 4,595 4,616 1,761 3,563 4,968

% change Y/Y 10.3% 8.2% (11.5%) 3.7% 9.0% Depreciation & amortisation 1,776 1,949 1,940 1,929 1,844 % Change like for like 10.3% 5.7% (19.5%) 8.9% - Other non-cash items (2,560) (3,765) (1,759) (2,149) (2,598)

Gross profit 15,387 16,286 11,714 15,199 17,376 Change in net working Capital (1,826) (2,208) 2,295 946 (206) EBITDA (Ind Ops) 9,279 9,659 5,214 7,796 9,687 Cash flow from operattions 4,929 3,686 5,749 6,593 6,883 EBIT (Ind Ops) 7,539 7,710 3,273 5,868 7,843 Net Interest (401) (842) (800) (515) (380) Capex (1,957) (3,855) (1,852) (1,295) (3,210) Earning before tax 7,138 6,868 2,406 5,353 7,463 Investment in intangibles - - - - - Tax 2,371 2,127 594 1,686 2,351 Free cash flow from operations 2,972 -169 3,897 5,298 3,673

as % EBT 33.2% 31.0% 24.7% - 31.5% Free cash flow per share 6.5 (0.4) 8.6 11.6 - Minorities (172) (125) (51) (103) (144) Net Income (Reported) 4,595 4,616 1,761 3,563 4,968 Disposal/(purchase) 1,256 718 0 - 0

% Change Y/Y 6.4% 0.5% (61.9%) 102.4% 39.4% Equity raised/(repaid) (4,554) (2,277) 0 0 0 Shares outstanding 455.35 455.35 455.35 455.35 - Dividend paid (2,103) (2,338) (1,594) (1,366) (1,821) DPS 5.00 3.50 3.00 4.00 4.00 Other (2,186) (1,269) 178 206 522 EPS (reported) 10.09 10.14 3.87 7.83 10.91 Free cash flow (4,615) (5,245) 2,482 4,137 2,374

% Change Y/Y 6.4% 0.5% (61.9%) 102.4% 39.4% EPS (adjusted) 10.04 10.14 3.87 7.83 10.91 Beginning net debt cash (779) 3,836 9,081 6,599 2,462

% Change Y/Y 15.3% 1.0% (61.9%) 102.4% 39.4% Ending net debt cash 3,836 9,081 6,599 2,462 88 Balance sheet (IFRS) Ratio Analysis (IFRS) Skr in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Skr in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Cash and cash equivalents 4,275 4,627 7,109 11,246 13,620 Gross Margin 26.3% 25.7% 20.9% 26.1% 27.4% Accounts receivable 9,894 11,041 9,814 10,173 11,084 EBITDA margin 15.9% 15.2% 9.3% 13.4% 15.3% Inventories 11,563 15,204 12,337 11,626 11,717 EBIT margin 12.9% 12.2% 5.8% 10.1% 12.4% Other 2,365 3,310 2,930 3,037 3,309 Adj EBIT margin 12.9% 12.2% 5.8% 10.1% 0.0% Current Assets 28,097 34,182 32,189 36,082 39,729 ROE 25.1% 24.8% 8.9% 17.0% 21.1% ROCE 28.8% 23.9% 9.3% 17.9% 24.1% Intangibles and Other 6,274 7,362 7,363 7,364 7,365 Intrest coverage (x) 18.8 9.2 4.1 11.4 20.6 Net Fixed assets 11,960 14,556 14,468 13,835 15,200 Net debt to equity 20.9% 44.1% 31.7% 10.6% 0.3% Total Assets 46,331 56,100 54,020 57,281 62,295 Net debt/ EBITDA 0.0 0.0 0.0 0.0 0.0 ST Loans 810 899 899 899 899 EV/Sales 1.0 0.7 0.9 0.8 1.0 Payables 4,904 4,841 3,645 4,069 4,433 EV/EBITDA 6.0 4.8 9.5 5.9 6.3 Others 7,118 8,558 7,574 7,851 8,555 EV/EBIT 7.5 6.0 15.1 7.9 7.8 Total current Liabilities 12,832 14,298 12,118 12,820 13,887 EV/adj EBIT 7.5 6.0 15.1 7.9 - Long Term Debt 7,301 12,809 12,809 12,809 12,809 Other Liabilities 8,611 10,243 9,267 9,628 10,428 P/E 11.4 11.4 29.9 14.8 10.6 Shareholder's equity 17,587 19,659 19,826 22,024 25,170 Adj. P/E 11.5 11.4 29.9 14.8 10.6

BVPS 102 125 119 - 137 FCF yield in % 6.6% (0.6%) 10.7% 14.5% 7.0% Total Equity and liabilities 46,331 57,009 54,020 57,281 62,295 EV/CE 2.0 1.3 1.5 1.5 - Source: Company reports and J.P. Morgan estimates.

130



Société Générale Attractive business mix geared to Equities and Emerging Markets The opportunity in the next cycle We continue to prefer Société Générale for its very attractive valuation, trading close to tangible book value at RoNAV of 15% in 2011E. In our view, current valuations underestimate the strong cashflow generation with 43% of group profits from segments geared to the recovery. The group benefits from strong Core Tier I estimated at 8.5% end 2011E, including the higher market risk requirements under new Basel II rules. Key strength is SG’s high cashflow generation with combined €5bn of retained earnings in 2010E-011E equivalent to c.150bp of RWAs end 09E.

• Société Générale is highly geared to an improvement in the credit cycle, generating €6.50 EPS in 2011E we estimate with lower loan losses of €3.3bn or 95bp on RWAs. This compares to trough levels of €0.4bn or 19bp in 2005 and a peak of €5.9bn or 175bp in 2009E.

• Société Générale is geared to CEE/Emerging Markets (13% of group profits 2011E) and equities activities within CIB (21%), which have high betas in improving economic conditions. We expect pre-provision profits to grow 18% CAGR 09E-011E. Underlying cash flow generation is intact in our view, with one of the cheapest P/Pre-prov profits at 3.2x 2011E.

Flexing upside In a normalised provision environment, we estimate loan losses of €2.4bn vs. €3.3bn in our current 2011E estimates, which would add €0.90/share to our 2011E EPS to €7.40 implying PE of 6.3x, and €9/share to our TP to €69 implying 47% upside. This would result from group cost of risk at 69bp vs. 95bp on RWAs in our base case 2011E with International Retail and SFS declining to 100bp from 160-200bp. Catalysts – 2010 and beyond Further impairments on the €25.7bn of reclassified assets could weigh on the share price performance in the short term. Shadow P&L related to ABS CDOs stood at €0.6bn end Sept 09, and we have accounted for additional €0.8bn of provisions. Risk reward is attractive with SG trading close to NAV and we expect investor sentiment to improve with the expected decline in loan loss provisions mid-2010. Valuation, target price, key risks Société Générale trades at 7.1x PE and 1.1x P/NAV for an RoNAV of 15.2% in 2011E. Our TP of €60 (Dec-10, SoP-based) implies 28% upside. Key risks include: i) asset quality trends and macro risks in emerging markets, ii) performance of the capital markets, in particular structured credit prices hence further markdowns, iii) interest rate environment and changes to the shape of the yield curve.

Société Générale (SOGN.PA;GLE FP) FYE Dec 2007A 2008A 2009E 2010E 2011EAdj. EPS FY (€) 8.07 4.19 0.87 4.00 6.50Adj P/E FY 5.8 11.1 53.2 11.6 7.1Headline EPS FY (€) 2.13 3.67 1.63 4.00 6.50BV/Sh FY (€) 60 65 70 61 65NAV/Sh FY (€) 39.2 40.1 45.4 40.6 44.9P/NAV FY 1.2 1.2 1.0 1.1 1.0ROE FY 18.7% 10.7% 2.3% 10.2% 15.2%Tier One Ratio FY 6.6% 8.8% 10.8% 11.1% 10.6%Source: Company data, Reuters, J.P. Morgan estimates.



Price Target: €60

Banks

Kian Abouhossein AC (44-20) 7325-1523 [email protected]

Delphine Lee


Cormac Leech (44-20) 7325-1772 [email protected]

Flagship reports • Regulatory Proposal Analysis:

Structural IB profitability decline, 09 Sep 09

• Global investment banks: Switching preference from IBs to Credit Banks on regulatory changes, 09 Sep 09

• French banks: preference for credit exposed BNP Paribas & Société Générale over pure IBs, 09 Nov 09

Price Performance

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Société Générale: Summary of Financials Profit and Loss Statement Ratio Analysis € in millions, year end Dec FY07A FY08A FY09E FY10E FY11E € in millions, year end Dec FY07A FY08A FY09E FY10E FY11E Per Share Data Net interest income 2,502 7,948 10,926 10,772 10,713 EPS Reported 2.13 3.67 1.63 4.00 6.50

% Change Y/Y (19.6%) 217.7% 37.5% (1.4%) (0.6%) EPSAdjusted 8.07 4.19 0.87 4.00 6.50Non-interest income 14,510 13,918 12,540 14,636 16,410 % Change Y/Y (28.9%) (48.0%) (79.2%) 357.7% 62.5%Fees & commissions 7,528 7,415 6,525 8,483 9,331 DPS 0.90 1.20 0.60 1.40 2.25

% change Y/Y 9.8% (1.5%) (12.0%) 30.0% 10.0% % Change Y/Y (82.7%) 33.3% (50.0%) 133.3% 60.7%Trading revenues 10,252 4,470 1,788 3,218 3,862 Dividend yield 2.0% 2.6% 1.3% 3.0% 4.9%

% change Y/Y (6.7%) (56.4%) (60.0%) 80.0% 20.0% Payout ratio 42.2% 32.7% 36.8% 35.0% 34.6%Other Income -3,270 2,033 4,227 2,934 3,216 BV per share 60.23 64.57 70.02 60.53 64.78Total operating revenues 17,012 21,866 23,466 25,408 27,122 NAV per share 39.15 40.08 45.39 40.65 44.90

% change Y/Y (23.6%) 28.5% 7.3% 8.3% 6.7% Shares outstanding 444.4 548.4 604.7 730.8 730.8Admin expenses -6,133 -6,912 -6,755 -6,702 -6,905

% change Y/Y 17.5% 12.7% (2.3%) (0.8%) 3.0% Return ratios Other expenses (8,172) (8,616) (9,133) (9,042) (9,584) RoRWA 0.6% 1.3% 0.5% 1.4% 2.0%Pre-provision operating profit 2,707 6,338 7,579 9,664 10,633 Pre-tax ROE 10.0% 20.4% 7.6% 18.1% 27.0%

% change Y/Y (68.9%) 134.1% 19.6% 27.5% 10.0% ROE 18.7% 10.7% 2.3% 10.2% 15.2%Loan loss provisions -905 -2,655 -5,884 -5,120 -3,289 RoNAV 18.7% 10.7% 2.3% 10.2% 15.2%Other provisions - - - - - Earnings before tax 1,846 3,675 1,698 4,578 7,396 Revenues

% change Y/Y (77.1%) 99.1% (53.8%) 169.6% 61.6% NIM (NII / RWA) 0.8% 2.3% 3.3% 3.2% 2.8%Tax (charge) (282) (1,235) (332) (1,272) (2,056) Non-IR / average assets 1.4% 1.3% 1.1% 1.4% 1.5%

% Tax rate 15.0% 28.7% 19.6% 27.8% 27.8% Total rev / average assets 1.7% 2.0% 2.2% 2.4% 2.4%Minorities 657 763 378 383 591 NII / Total revenues 14.7% 36.3% 46.6% 42.4% 39.5%Net Income (Reported) 947 2,010 985 2,923 4,749 Fees / Total revenues 44.3% 33.9% 27.8% 33.4% 34.4% Trading / Total revenues 60.3% 20.4% 7.6% 12.7% 14.2% Balance sheet € in millions, year end Dec FY07A FY08A FY09E FY10E FY11E € in millions, year end Dec FY07A FY08A FY09E FY10E FY11E ASSETS Cost ratios Net customer loans 305,173 354,613 329,790 339,684 356,668 Cost / income 58.0% 67.9% 69.5% 62.0% 60.8%

% change Y/Y 15.8% 16.2% (7.0%) 3.0% 5.0% Cost / assets 1.3% 1.4% 1.5% 1.5% 1.5%Loan loss reserves 7,057 8,880 11,774 16,894 20,184 Staff numbers - - - - -Investments - - - - - Other interest earning assets 84,367 84,937 78,991 81,361 85,429 Balance Sheet Gearing

% change Y/Y 8.8% 0.7% (7.0%) 3.0% 5.0% Loan / deposit 120.6% 122.3% 124.4% 124.2% 133.1%Average interest earnings assets 884,864 946,312 957,689 994,411 983,110 Investments / assets 54.3% 51.0% 51.0% 51.0% 51.0%Goodwill 5,191 6,530 6,530 6,530 6,530 Loan / assets 36.3% 38.9% 38.9% 38.9% 38.9%Other assets 81,622 92,199 85,745 88,317 92,733 Customer deposits / liabilities 25.3% 25.0% 25.0% 25.0% 25.0%Total assets 1,071,762 1,130,003 1,050,903 1,082,430 1,136,551 LT Debt / liabilities 12.9% 10.7% 10.7% 10.7% 10.7% LIABILITIES Asset Quality / Capital Customer deposits 270,662 282,514 262,738 270,620 284,151 Loan loss reserves / loans 1.8% 1.9% 2.5% 3.4% 3.5%

% change Y/Y 1.2% 4.4% (7.0%) 3.0% 5.0% NPLs / loans 3.1% 3.5% 5.0% 6.0% 5.8%Long term funding 138,069 120,374 111,948 115,306 121,072 LLP / RWA 0.30% 0.79% 1.75% 1.54% 0.92%Interbank funding 134,881 121,773 104,033 105,953 109,788 Loan loss reserves / NPLs 59.6% 55.6% 50.0% 56.0% 60.0%Average interest bearing liabs 483,232 513,224 511,165 508,270 496,865 Growth in NPLs 7.5% 30.8% 34.1% 25.0% 0.0%Other liabilities 416,488 483,389 449,552 463,038 486,190 RWAs 285,525 326,468 345,518 326,867 336,039Retirement benefit liabilities - - - - - % YoY change 12.1% 14.3% 5.8% (5.4%) 2.8%Shareholders' equity 27,241 36,085 42,775 45,259 48,985 Core Tier 1 5.1% 6.6% 8.3% 8.7% 8.5%Minorities 4,034 4,802 4,466 4,600 4,830 Total Tier 1 6.6% 8.8% 10.8% 11.1% 10.6%Total liabilities & Shareholders Equity 1,071,762 1,130,003 1,050,903 1,082,430 1,136,551 Source: Company reports and J.P. Morgan estimates.

132



Swiss Re Improving capital and legacy derisking should help rating The opportunity in the next cycle We believe Swiss Re’s derisking of its legacy unit and improving capital position should boost the potential for a 2010 rating upgrade (current S&P A+/stable, was cut 18 Feb 09 from AA-/stable). We believe the key in the capital equation is that Swiss Re should already be in a position to repay the Berkshire SF3.6bn by June 2010.

Swiss Re has over SF6bn September 2009 excess capital over an S&P AA level and we believe it needs around SF4bn (Swiss Re have said SF3-5bn). Swiss Re said it would cut SF500m required capital June 2010 and so needs only SF1.1bn more from earnings (SF3.6bn – SF2.0bn – SF500m) through Mar 11 to repay Berkshire.

Flexing upside We conservatively forecast 94% 2011e combined ratio, worse than 90.6% 09e. And every 1% better combined ratio 2011e adds SF3 to our price target. We highlight this as Swiss Re had better than peers combined ratios since 2006 and we believe will set a 92% target combined when it next reviews its target ROE (Feb10 JPMe); 92% would raise our price target to SF63. And we still deduct SF2.7bn from our valuation for potential legacy losses; absent this our price target rises an extra SF8 to SF71.

Catalysts – 2010 and beyond Historically insurers outperform in the 9months before their S&P rerating: on average Zurich, SCOR and Munich (the 3 downgrades which then rerated) beat the SXIP index 17%. Swiss Re unlike peers has said it would sharply cut volumes at Jan 2010 renewals to avoid rate cuts: it said it will cut credit re (98.3% combined ratio at 3Q09) and also liability (121.6%), if rates fall more.

Valuation, target price, risks Our SF57 Dec 10 price target is based on a sum-of-parts model: we value our forecast 2011E earnings on 8.3x (1/12% cost of capital) P/E valuation ratio for non-life and life reinsurance and asset management. We deduct from our valuation SF2.7bn potential loss for the legacy run off and -SF600m Berkshire redemption penalty. Key risk is S&P delays any ratings review to beyond 2010. Another downside risk is continued pressure on reinsurance rates over next few years due to primary capacity rebuilding.

Swiss Re (RUKN.VX;RUKN VX) FYE Dec 2008A 2009E 2010E 2011EAdj. EPS FY (SF) (2.61) 0.46 6.42 7.85P/NAV FY 1.4 1.4 1.0 0.9Combined Ratio FY 97.9% 90.6% 93.0% 94.0%Dividend (Net) FY (SF) 0.10 0.50 0.50 0.50Gross Yield FY 0.2% 1.0% 1.0% 1.0%Net Attributable Income FY (SF mn)

(864) 169 2,395 2,727

Headline EPS FY (SF) (2.61) 0.46 6.42 7.85Operating profit FY (SF mn) (1,350) 590 3,478 3,636Source: Company data, Bloomberg, J.P. Morgan estimates.

Company Data Price (SF) 47.77Date Of Price 30 Nov 09Price Target (SF) 57.00Price Target End Date 31 Dec 1052-week Range (SwF) 54.95 - 11.88Mkt Cap (SF bn) 17.0Shares O/S (mn) 355

Overweight SF47.8 30 November 2009

Price Target: SF57

Insurance

Michael Huttner, CFA AC


Vinit Malhotra, CFA (44 20) 7325-5321 [email protected]

Flagship reports • Swiss Re: Strong capital at 3Q 09 gives

us confidence Swiss Re is on track to repay Berkshire; new PT SF57 (53), 04 Nov 09

• Swiss Re: Reiterate Overweight: likely no stock issue needed until after 2011 to refund the SF3bn Berkshire convertible, 25 Aug 09

• Swiss Re: Upgrading to Overweight: SF48 TP Dec09 SOP due to better reinsurance trends and tighter credit spreads, 13 May 09

Price Performance

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133



Swiss Re: Summary of Financials Profit and Loss Statement (IFRS) Ratio Analysis (IFRS) SwF in millions, year end Dec FY07 FY08 FY09E FY10E FY11E SwF in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Premiums 31,664 25,501 24,357 24,250 25,010 Shares Outstanding 348.21 331.02 370.70 373.00 373.00

% change Y/Y 7.3% (19.5%) (4.5%) (0.4%) 3.1% Life 12,665 11,090 10,436 9,000 9,000 EPS 11.95 -2.61 0.46 6.42 7.85 % change Y/Y 15.4% (12.4%) (5.9%) (13.8%) 0.0% % change Y/Y (11.4%) (121.8%) (117.4%) 1310.7% 22.3% Non Life 18,977 14,379 13,871 15,200 15,960 DPS 4.00 0.10 0.50 0.50 0.50 % change Y/Y 8.8% (24.2%) (3.5%) 9.6% 5.0% % change Y/Y 17.6% -97.5% 400.0% 0.0% 0.0%

Investment income 10,692 7,881 6,578 6,261 5,705 Other income 518 -8,404 1,911 384 684 Payout Ratio 33.5% -3.8% 109.9% 7.8% 6.4% Total revenues 42,874 24,978 32,846 30,895 31,399

% change Y/Y - (41.7%) 31.5% (5.9%) 1.6% NAV/Share 55.2 33.1 34.6 45.8 52.4 Insurance related expenses (31,797) (16,250) (23,440) (17,751) (18,391) EV/share 88.13 55.12 55.68 69.02 77.79 Admin expenses - - - - - Acquisition expenses - - - - - ROE 13.9% -3.4% 0.8% 10.0% 10.6% Other expenses (5,891) (4,712) (3,974) (4,649) (4,212) RONAV 21.7% -4.7% 1.4% 18.6% 17.2% Earning before tax 5,186 -1,350 590 3,478 3,636 ROEV 14.2% -2.8% 0.9% 12.5% 11.5%

% change Y/Y -11.4% -126.0% -143.7% 489.8% 4.5% Tax (1,025) 486 (205) (870) (909)

EBT (19.8%) (36.0%) (34.8%) (25.0%) (25.0%) Minorities - - - - - Net income (Reported) 4,161 (864) 169 2,395 2,727

% change Y/Y -8.8% -120.8% -119.5% 1319.4% 13.9% Balance sheet (IFRS) Ratio Analysis SwF in millions, year end Dec FY07 FY08 FY09E FY10E FY11E SwF in millions, year end Dec FY07 FY08 FY09E FY10E FY11E ASSETS 307,287 239,877 252,873 266,702 281,423 Key ratios: Cash 11,531 17,268 17,613 17,966 18,325 Combined ratio 90.2% 97.9% 90.6% 93.0% 94.0% Investments 227,812 163,965 175,443 187,724 200,864 Life op'g margin on assets - - - - - Loans - - - - - Banking cost to income - - - - - Deferred tax - 0 0 0 0 AM Cost income ratio - - - - - Other 63,047 54,379 55,467 56,576 57,707 Intangible 4,897 4,265 4,350 4,437 4,526 PBT Break up Non Life 86.2% (203.4%) 643.9% 104.0% 92.2% LIABILITIES 275,420 219,424 229,436 242,342 254,107 Life & Health 25.5% (51.6%) 141.3% 34.5% 33.0% Policyholder liabilities 187,616 157,741 160,896 164,114 167,396 Financial Markets 133.9% (1.6%) 560.3% 138.0% 121.1% Bank loans - - - - - Group Items (40.0%) 10.7% (475.0%) (58.7%) (41.8%) Debt 16,517 12,423 12,671 12,925 13,183 Allocation (105.6%) 345.9% (770.4%) (117.9%) (104.5%) Other 39,420 28,807 32,431 40,943 46,212 Shareholder's equity 29,869 20,453 23,437 24,360 27,315 Mix of Total revenue Minorities - - - - - Non Life 51.3% 67.6% 49.8% 57.5% 58.5% Total Equity 307,287 239,877 252,873 266,702 281,423 Life & Health 43.2% 42.1% 55.5% 40.3% 39.6% Financial Markets 16.2% 0.7% 11.6% 15.5% 14.0% Group Items 0.9% 7.7% (3.4%) 0.0% 0.0% Allocation (11.6%) (18.2%) (13.6%) (13.3%) (12.1%) Source: Company reports and J.P. Morgan estimates.

134



Syngenta Long-term structural growth and improving returns The opportunity in the next cycle We see the volume pressures experienced by Syngenta in 2009 to ease over the next 12 months. Our (+3%) ’10E volume growth forecast remains conservative versus recent history (+5.2% avg. ’03-08 and +8% avg. in years following a volume decline), but is still sufficient to combine with lower input costs and more favorable exchange rates to deliver 15% EPS growth. Our long-term 2.5% sales growth assumption also appears conservative in this context. Syngenta has consistently and progressively gained market share over the past two years, which should enhance returns as volumes recover. We forecast 2010E margins 25% above the 10 year average, and calculate the 2010E ROIC of 16.1%, 65% above l-t avg. 9.7%.

Flexing upside If we were to assume a more ‘normal’ 6% volume rebound in 2010, take on board the company’s guidance of flat prices (vs our current -1% estimate), this would likely allow the company to deliver c30% EPS growth in FY2010. Long term, should Syngenta succeed in maintaining 2010 Crop Protection margins and also reach its 15% EBITDA margin target in seeds as well as deliver 3.5% l-t growth, the result of this scenario on our DCF would be a Dec 2010E DCF target of SFr360 (vs current SFr290).

Catalysts – 2010 and beyond Historically, the period between the FY results and the 1H results has offered the best share price performance. Furthermore, FY results have tended to offer a good entry point as despite often raised expectations, the company is unable to provide any meaningful colour over demand trends for the forthcoming N. Hemisphere planting season. A further catalyst could be the 31 March USDA prospective plantings report.

Valuation, target price, key risks Syngenta is currently trading on 13.2x 2010E EPS estimates, versus its historic average of 12.2x, however, the 65% improvement in ROIC vs. the l-t average, with potentially further progress to come justifies a multiple between 14.5x-15.0x in our view. Consequently, we would look for entry points that imply 12.0x earnings less than 2.0x invested capital. We have a Dec-10 DCF-based price target of SFr290 (WACC 8.1%, Terminal growth rate 2.1%). Key risks to our rating and price target are weather (unpredictable), agricultural subsidies (negative, should these be withdrawn to any significant degree), and biotechnology (negative, if the EU authorities decided to open up this market for biotech planting, as such a move would likely lead to a loss of market share for traditional agrochemicals).

Syngenta AG (SYNN.VX;SYNN VX)FYE Dec 2007A 2008A 2009E 2010E 2011EAdj. EPS FY ($) 13.51 18.62 17.50 20.15 20.63Revenue FY ($ mn) 9,240 11,624 10,727 11,711 12,088EBITDA FY ($ mn) 1,894 2,494 2,324 2,740 2,797EBIT FY ($ mn) 1,494 2,066 1,866 2,249 2,294EV/Revenue FY 2.3 1.7 2.2 2.0 1.8EV/EBITDA FY 11.1 7.9 10.0 8.4 8.0Adj P/E FY 19.6 14.2 15.1 13.2 12.8FCF Yield FY 5.2% 6.8% 7.3% 5.6% 7.1%Source: Company data, Bloomberg, J.P. Morgan estimates.


Overweight SFr 266.4 30 November 2009

Price Target: SFr290

Chemicals

Neil Tyler AC



Flagship reports • Syngenta – Headwinds easing,

upgrade to OW – 7 Oct 09

Price Performance

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SYNN.VX share price (SwF)MSCI-Eu (rebased)

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Syngenta: Summary of Financials Profit and Loss Statement Cash flow statement $ in millions, year end Dec FY07 FY08 FY09E FY10E FY11E $ in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Revenues 9,240 11,624 10,727 11,711 12,088 EBIT - - - - -% Change Y/Y 14.8% 25.8% -7.7% 9.2% 3.2% Depreciation & amortization 400 428 457 491 503Gross Margin (%) 49.5% 50.9% 50.9% 52.7% 52.7% EBITDA (pre - restructuring) 1,902 2,494 2,324 2,740 2,797 Change in working capital (191) (604) 508 (276) (171)% Change Y/Y 23.9% 31.1% -6.8% 17.9% 2.1% Taxes (308) (307) (335) (475) (486)EBITDA Margin (%) 20.5% 21.5% 21.7% 23.4% 23.1% Cash flow from operations 3,062 3,960 4,514 4,526 4,754EBIT (pre - restructuring) 1,494 2,066 1,866 2,249 2,294 Capex (317) (444) (750) (650) (510)% Change Y/Y 30.6% 38.3% -9.7% 20.5% 2.0% Acquisitions/disposals 113 24 (130) 0 0EBIT Margin 16.2% 17.8% 17.4% 19.2% 19.0% Net Interest 42 169 101 92 80Net Interest 42 169 101 92 80 Free cash flow 1,107 1,331 1,693 1,286 1,577Earnings before tax (reported) 1,419 1,692 1,590 2,057 2,139 FCF (pre - exceptionals) 851 1,022 1,440 1,136 1,447% change Y/Y 77.8% 19.2% -6.0% 29.4% 4.0% Equity raised/repaid (662) (613) 0 0 0Tax (308) (307) (335) (475) (486) Debt Raised/repaid 182 608 0 0 0Reported tax rate (%) 21.7% 18.1% 21.1% 23.1% 22.7% Other 39 (101) 0 0 0Net Income Rep 1,109 1,385 1,252 1,580 1,650 Dividends paid (301) (452) (595) (609) (659)% change Y/Y 74.9% 24.9% -9.6% 26.2% 4.4% Beginning cash 445 503 803 1,318 1,769Shares Outstanding 95.97 93.92 93.80 94.53 94.53 Ending cash 593 849 1,318 1,769 2,482Reported EPS 11.71 14.99 13.23 16.70 17.44 DPS 4.80 6.62 6.62 7.16 7.33Adjusted EPS 13.51 18.62 17.50 20.15 20.63 Balance sheet Ratio Analysis $ in millions, year end Dec FY07 FY08 FY09E FY10E FY11E $ in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Cash and cash equivalent 593 849 1,318 1,769 2,482 Market Cap 19,215 17,441 17,441 17,441 17,441Accounts Receivables 2,386 2,311 1,883 2,055 2,121 Net debt 1,532 1,886 1,417 966 253Inventories 2,647 3,456 2,986 3,140 3,245 EV 21,107 19,674 23,344 23,063 22,350Others 1,057 1,050 1,478 1,306 1,240 Current assets 6,683 7,666 7,665 8,271 9,088 EV/Sales 2.3 1.7 2.2 2.0 1.8LT investments 4,459 4,776 4,632 4,463 4,294 EV/EBITDA 11.1 7.9 10.0 8.4 8.0Net fixed assets 2,138 2,188 2,650 2,978 3,154 EV/EBIT 14.1 9.5 12.5 10.3 9.7Total assets 13,280 14,630 14,947 15,712 16,536 P/E (adjusted EPS) 19.6 14.2 15.1 13.2 12.8 Liabilities FCF yield 5.2% 6.8% 7.3% 5.6% 7.1%ST loans 399 211 211 211 211 Dividend per share 4.80 6.62 6.62 7.16 7.33Payables 1,895 2,240 1,850 1,900 1,900 Dividend Yield 2.4% 3.6% 2.9% 3.1% 3.2%Others 1,811 2,095 2,095 2,095 2,095 EPS growth 27.9% 37.8% NM 15.1% 2.4%Total current liabilities 3,702 4,064 3,674 3,724 3,724 Long term debt 1,726 2,524 2,524 2,524 2,524 Net debt /EBITDA 0.8 0.8 0.6 0.4 0.1Other liabilities - - - - - Interest coverage (x) 35.6 12.2 18.4 24.4 28.5Total liabilities 7,239 8,683 8,293 8,343 8,343 Net debt to Total Capital 20.2% 24.1% 17.6% 11.6% 3.0%Shareholders' equity 6,041 5,947 6,654 7,369 8,193 Net debt to equity 25.3% 31.6% 21.2% 13.1% 3.1% ROIC 12.9% 18.3% 14.8% 16.1% 15.4% Source: Company reports and J.P. Morgan estimates.

136



Unicredit One of the most attractive franchises in Europe The opportunity in the next cycle We like UCG for its franchise with exposure to CEE. It has the largest franchise in CEE with c. 3700 branches (mostly represented by Poland, Turkey, Russia, Croatia, Czech Republic-c. 60% of CEE assets) representing 33% of group earnings by 11E; this gives UCG exposure to an early pick up in global economic growth. Furthermore, 36% of group earnings are represented by Italy, a cash generative business with high RoNAV (>20% 2011E), which gives the group exposure to IR normalisation (14% EPS 11E upside to 200bp rate increase) and longer-term structural growth in Italy. With 8.4% core Tier 1 ratio after the planned €4bln rights issue, we think UCG will be well positioned to capture such growth.

Flexing upside If interest rates increase by c. 200bps, and provisions go down to 2005-06 levels (45bp vs 65bp JPME 11E), we see EPS upside potential of c.14% to our current 2011E EPS of €0.38 to €0.43, and RoNAV 2011E would move from current 19% to c.21%. Note that our TP could increase up to 14% to €3.70 offering 62% upside.

Catalysts – 2010 and beyond We see two main catalysts for UCG: 1) emerging markets growth recovery above the 9% asset growth we forecast for 2011-12; and 2) IR increases which as indicated should benefit the domestic business. In the near term we expect the stock to benefit from relief once the rights issue is completed in Q110.

Valuation, target price, key risks We assign UCG a Dec-10 SOP-based TP of €3.25 using divisional multiples and capital allocation in line with its banking peers (note our SOP does not yet include the proposed rights issue); this offers 43% upside from current levels. Note that UCG’s subsidiaries in Poland (Pekao) and Turkey (Yapi Kredi) are listed and trade on 2.4x and 1.3x P/NAV 10E, well above group (1.2x). Indeed, if we exclude CEE, UCG trades on a P/E 10E of 6.4x vs. 10.3x for the European sector, a very attractive valuation. Risks to our rating price target and forecasts include: 1) UCG could still be impacted by deteriorating trends in Ukraine and Kazakhstan although the impact should be limited (<2% of group assets), 2) more importantly UCG remains exposed to asset quality deterioration in the Italian SME sector, which we believe has not yet peaked.

UniCredit (CRDI.MI;UCG IM)FYE Dec 2008A 2009E 2010E 2011E 2012EAdj. EPS FY (€) 0.37 0.10 0.19 0.39 0.45Adj P/E FY 6.1 22.2 11.8 5.8 5.1NAV/Sh FY (€) 2.0 1.8 1.9 2.1 2.4P/BV FY 0.6 0.7 0.7 0.6 0.6P/NAV FY 1.1 1.3 1.2 1.1 1.0Dividend (Net) FY (€) 0.00 0.04 0.09 0.15 0.15ROE FY 9.1% 2.9% 5.7% 11.2%Tier One Ratio FY 7.3% 8.1% 8.1% 8.4% 8.8%Source: Company data, Bloomberg, J.P. Morgan estimates.

Company DataPrice (€) 2.28Date Of Price 30 Nov 09Price Target (€) 3.25Price Target End Date 31 Dec 1052-week Range (€) 2.80 - 0.56Mkt Cap (€ bn) 38.2Shares O/S (mn) 16,77811.9%

UniCredit (CRDI.MI;UCG IM)FYE Dec 2008A 2009E 2010E 2011E 2012EAdj. EPS FY (€) 0.37 0.10 0.19 0.39 0.45Adj P/E FY 6.1 22.2 11.8 5.8 5.1NAV/Sh FY (€) 2.0 1.8 1.9 2.1 2.4P/BV FY 0.6 0.7 0.7 0.6 0.6P/NAV FY 1.1 1.3 1.2 1.1 1.0Dividend (Net) FY (€) 0.00 0.04 0.09 0.15 0.15ROE FY 9.1% 2.9% 5.7% 11.2%Tier One Ratio FY 7.3% 8.1% 8.1% 8.4% 8.8%Source: Company data, Bloomberg, J.P. Morgan estimates.

Company DataPrice (€) 2.28Date Of Price 30 Nov 09Price Target (€) 3.25Price Target End Date 31 Dec 1052-week Range (€) 2.80 - 0.56Mkt Cap (€ bn) 38.2Shares O/S (mn) 16,77811.9%



Banks

Francesca Tondi AC (44-20) 7325-1579 [email protected]

Andrea Unzueta


Flagship reports • Italian banks – Gearing to the interest

rate cycle – OW for 2010, 10 Nov 09 • Unicredit Q3 09 Results – Broadly in

line, better capital, 12 Nov 09

Price Performance

0.5

1.5

2.5

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CRDI.MI share price (€)MSCI-Eu (rebased)


137



UniCredit: Summary of Financials Profit and Loss Statement Ratio Analysis € in millions, year end Dec FY07A FY08A FY09E FY10E FY11E € in millions, year end Dec FY07A FY08A FY09E FY10E FY11E Per Share Data Net interest income 17,119 19,385 17,754 17,180 17,933 EPS Reported 0.50 0.30 0.09 0.17 0.37

% Change Y/Y 9.6% 13.2% (8.4%) (3.2%) 4.4% EPSAdjusted 0.50 0.37 0.10 0.19 0.39Non-interest income 12,536 7,481 10,579 11,555 12,140 % Change Y/Y 13.1% (25.1%) (72.5%) 87.6% 105.4%Fees & commissions 10,694 9,093 7,738 8,421 9,006 DPS 0.26 0.00 0.04 0.09 0.15

% change Y/Y 6.2% (15.0%) (14.9%) 8.8% 6.9% % Change Y/Y 8.3% (100.0%) - 142.5% 74.8%Trading revenues 1,280 -1,980 2,428 2,696 2,696 Dividend yield 5.8% 0.0% 0.8% 1.9% 3.3%

% change Y/Y (41.6%) (254.7%) (222.6%) 11.0% 0.0% Payout ratio 52.2% 0.0% 40.0% 50.0% 40.0%Other Income 562 368 413 438 438 BV per share 4.37 3.84 3.33 3.42 3.64Total operating revenues 29,655 26,866 28,332 28,735 30,073 NAV per share 2.48 1.99 1.80 1.89 2.11

% change Y/Y 5.1% (9.4%) 5.5% 1.4% 4.7% Shares outstanding 13,194.6 14,340.8 16,778.4 16,778.4 16,778.4Admin expenses -16,309 -16,692 -15,581 -15,414 -15,696

% change Y/Y 0.4% 2.3% (6.7%) (1.1%) 1.8% Return ratios Other expenses 1,694 218 114 0 0 RoRWA 1.2% 0.7% 0.3% 0.6% 1.3%Pre-provision operating profit 13,346 10,174 12,751 13,321 14,376 Pre-tax ROE 18.2% 9.9% 5.4% 8.7% 15.7%

% change Y/Y 11.4% (23.8%) 25.3% 4.5% 7.9% ROE 11.7% 9.1% 2.9% 5.7% 11.2%Loan loss provisions -2,468 -3,700 -8,880 -7,784 -4,010 RoNAV 19.9% 17.5% 5.9% 10.4% 19.7%Other provisions -2,062 -1,234 -918 -396 -394 Earnings before tax 10,510 5,458 3,068 5,141 9,973 Revenues

% change Y/Y 5.0% (48.1%) (43.8%) 67.6% 94.0% NIM (NII / RWA) 3.2% 3.6% 3.6% 3.6% 3.6%Tax (charge) (3,164) (627) (1,024) (1,705) (2,996) Non-IR / average assets 1.3% 0.7% 1.0% 1.2% 1.2%

% Tax rate 30.1% 11.5% 33.4% 33.2% 30.0% Total rev / average assets 3.0% 2.6% 2.8% 2.9% 3.0%Minorities (718) (518) (299) (308) (449) NII / Total revenues 57.7% 72.2% 62.7% 59.8% 59.6%Net Income (Reported) 6,566 4,012 1,483 2,877 6,286 Fees / Total revenues 36.1% 33.8% 27.3% 29.3% 29.9% Trading / Total revenues 4.3% (7.4%) 8.6% 9.4% 9.0% Balance sheet € in millions, year end Dec FY07A FY08A FY09E FY10E FY11E € in millions, year end Dec FY07A FY08A FY09E FY10E FY11E ASSETS Cost ratios Net customer loans 576,320 612,480 583,664 603,011 632,270 Cost / income 55.0% 62.1% 55.0% 53.6% 52.2%

% change Y/Y 7.3% 6.3% (4.7%) 3.3% 4.9% Cost / assets (1.6%) (1.6%) (1.6%) (1.6%) (1.6%)Loan loss reserves 22,895 24,616 33,242 41,134 44,951 Staff numbers 169,817 174,519 173,019 171,019 169,019Investments 202,343 204,890 145,519 130,519 130,519 Other interest earning assets 100,012 80,827 97,288 97,288 97,288 Balance Sheet Gearing

% change Y/Y 5.3% (19.2%) 20.4% 0.0% 0.0% Loan / deposit 91.4% 103.6% 98.7% 102.0% 106.9%Average interest earnings assets 919,362 952,150 928,644 896,042 912,844 Investments / assets 6.1% 6.2% 6.9% 6.9% 6.7%Goodwill 19,273 20,889 20,381 20,381 20,381 Loan / assets 56.4% 58.6% 59.8% 61.5% 62.6%Other assets - - - - - Customer deposits / liabilities 161.3% 130.1% 153.7% 152.0% 141.4%Total assets 1,021,052 1,045,612 975,916 980,257 1,009,510 LT Debt / liabilities 82.1% 77.6% 77.8% 76.6% 74.6% LIABILITIES Asset Quality / Capital Customer deposits 630,301 591,290 591,290 591,290 591,290 Loan loss reserves / loans 4.0% 4.0% 5.7% 6.8% 7.1%

% change Y/Y 6.5% (6.2%) 0.0% 0.0% 0.0% NPLs / loans 2.5% 2.8% 4.1% 5.2% 5.5%Long term funding 790,902 768,967 715,402 705,402 705,402 LLP / RWA (0.46%) (0.69%) (1.80%) (1.62%) (0.80%)Interbank funding 160,601 177,677 124,112 114,112 114,112 Loan loss reserves / NPLs 160.0% 143.4% 139.7% 130.6% 128.7%Average interest bearing liabs 904,559 934,302 844,071 834,071 834,071 Growth in NPLs (27.9%) 19.9% 38.6% 32.3% 10.9%Other liabilities - - - - - RWAs 558,639 512,532 473,795 489,607 515,116Retirement benefit liabilities - - - - - % YoY change 6.5% (8.3%) (7.6%) 3.3% 5.2%Shareholders' equity 57,724 54,999 56,482 58,766 63,613 Core Tier 1 5.8% 6.9% 7.2% 7.2% 7.6%Minorities 4,740 3,242 3,108 3,108 3,108 Total Tier 1 6.5% 7.3% 8.1% 8.1% 8.4%Total liabilities & Shareholders Equity 1,021,052 1,045,612 975,916 980,257 1,009,510 Source: Company reports and J.P. Morgan estimates.

138



Unilever NV/Plc Growth revival in motion The opportunity in the next cycle While Unilever delivered a noticeable acceleration in volume along with margin stabilization in 2009, we believe the equity has yet much to run as Unilever offers a unique opportunity to invest in a turnaround story in European FMCG. Under the right execution, market share gains and improved operating margin towards high teens should lead to 10-11% EPS growth pa over the cycle, in line with best-in-class. While Unilever has much organic growth potential, we also expect small to mid-size bolt-on deals to fill up ‘gaps’ in its portfolio. In our view, management is taking the appropriate steps to pursue LT sustainable profitable growth: focus on innovation, reinvestment in A&P and strong execution. Besides, we see anecdotal evidence that the culture is changing towards one of accountability and performance.

Flexing upside We value Unilever at €25/£22 on a DCF, with our industry-wide assumptions of 9% WACC and 2% LT growth and our expectations of an acceleration in MT10-19e FCF growth to 9% (on MT LFL of 5% and annual margin expansion of 40bps). At current share price of €20.4/£17.8, the market is discounting c7% MT growth, i.e. not yet discounting a step up in MT earnings. Stretching our assumptions around WACC (down 8%) and MT growth (up to 10%), we see upside to €31/£27.

Catalysts – 2010 and beyond We expect the market to focus on the continued acceleration in volumes and margin performance in 2010. As Unilever faces the easiest comps in the coming quarters we believe the story could gather further momentum in H110. We expect market focus in H2 to be in the early results from Polman’s initiatives (incl early impact from new R&D focus, delivery from top management assigned to new positions during 2009).

Valuation, target price, key risks While Unilever has historically traded at a discount to food peers given its lower growth profile, we think the stock should be valued at least in line with a broad peer group of food and HPC given the potential for an increase in earnings profile to 10-11%. Unilever trades at an adjusted PE10E of 14.2x and 9.6x EV/EBITDA10E (ex-RDIs) and at a discount to both European HPC (17.8x) and European Food (16.0x). We have a DCF-based Dec-10 target price of €25/£22. Downside risks to our thesis include a sharp deterioration in pricing, heightened competition and a patchy recovery in emerging markets.

Unilever NV (UNIA.AS;UNA NA) FYE Dec 2006A 2007A 2008A 2009E 2010EAdj. EPS FY (€) 1.11 1.26 1.28 1.23 1.34Adj P/E FY 18.4 16.1 16.0 16.5 15.3EV/EBITDA FY 10.5 11.5 8.8 10.4 9.8FCF Yield FY 2.1% 4.1% 0.8% 5.6% 6.0%Gross Yield FY 4.7% 3.7% 3.8% 3.8% 3.8%Revenue FY (€ mn) 39,642 40,187 40,523 40,315 41,237EBIT FY (€ mn) 5,408 5,245 7,167 4,987 5,863DPS (Net) FY (€) 0.96 0.75 0.77 0.77 0.79Source: Company data, Bloomberg, J.P. Morgan estimates. Adjusted EPS includes a 1% recurring charge for restructuring


Overweight €20.41/£17.84 30 November 2009

Price Target: €25.00/£22.00

Consumer Staples

Celine Pannuti AC (44-20) 7325-9276 [email protected]

Flagship reports • Strong and sound Q309 reinforces LT

case, 06 Nov 09 • Strong Q2 volume adds evidence that

Unilever can generate quality growth, 07 Aug 09

• On a path to growth and higher valuation; upgrading to Overweight, 14 Jul 09

Price Performance

12

18

24

€


UNIA.AS share price (€)MSCI-Eu (rebased)

Performance (%) YTD 1m 3m 12m Abs 16.1% -2.3% 6.7% 18.7% Rel -3.7% -3.1% 6.0% -3.7%







139



Unilever NV: Summary of Financials Profit and Loss Statement Cash flow statement € in millions, year end Dec FY07 FY08 FY09E FY10E € in millions, year end Dec FY07 FY08 FY09E FY10E Revenues 40,187 40,523 40,315 41,237 EBIT 5,814 5,898 5,959 6,275

% change Y/Y 1.4% 0.8% -0.5% 2.3% Change In Working Capital 27 (161) 27 27 Gross Margin (%) 48.8% 47.3% 47.7% 48.2% Depreciation & Amortisation 943 1,003 951 1,031 EBIT 5,245 7,167 4,987 5,863 Interest (406) (382) (402) (344) EBIT Margin (%) 13.1% 17.7% 12.4% 14.2%

% change Y/Y -3.0% 36.6% -30.4% 17.6% Cash Flow From Operations 6,496 6,549 6,170 6,761 EBITDA 6,758 6,854 6,910 7,306 Capex (1,046) (1,099) (1,129) (1,237) EBITDA Margin (%) 16.8% 16.9% 17.1% 17.7% Free Cash Flow 2,551 471 3,099 3,325

% change Y/Y 2.5% 1.4% 0.8% 5.7% Acquisitions/ Divestments 113 2,265 (400) 0 Net Interest (403) (400) (402) (344) Profit before tax 5,184 7,129 4,579 5,597 Cash Flow From investing - - - - Tax (1,128) (1,844) (1,191) (1,455) Dividends Paid (2,182) (2,086) (2,186) (2,254)

Tax Rate (22.4%) (26.7%) (26.0%) (26.0%) Share Repurchase (1,058) (1,400) 0 0 Net Profit (Reported) 3,888 5,027 3,131 3,871

% change Y/Y -18.1% 29.3% -37.7% 23.6% Cash flow from financing - - - - Adjusted Earnings 3,762 3,712 3,552 3,871 Diluted Shares Outstanding 2,976 2,906 2,879 2,899 Net cash/(debt) at start of year 1,312 1,314 3,193 1,193 EPS (Reported) - - - - Decrease/(Increase) in Net debt - - - -

% change y/y - - - - Net cash/(debt) at end of year 1,314 3,193 1,193 1,193 EPS (Adjusted) 1.26 1.28 1.23 1.34

% change Y/Y 13.9% 1.1% NM 8.2% Balance sheet Ratio Analysis € in millions, year end Dec FY07 FY08 FY09E FY10E € in millions, year end Dec FY07 FY08 FY09E FY10E Assets Per Share Amounts Cash & Cash Equivalents 1,314 3,193 1,193 1,193 Basic Earnings per share - - - - Accounts Receivables 4,194 3,823 3,803 3,890 Diluted Earnings per share 1.26 1.28 1.23 1.34 Inventories 3,894 3,889 3,869 3,958 Dividend per share 0.75 0.77 0.77 0.79 Current Assets 9,928 11,175 9,135 9,311 Tangible Assets 6,284 5,957 8,470 8,676 Net Fixed Assets - - - - Adj P/E Multiple 16.1 16.0 16.5 15.3 Total assets 37,302 36,142 37,279 37,667 EV/EBITDA Multiple 11.5 8.8 10.4 9.8 P/CEPS 17.1 34.5 15.8 14.4 Liabilities ST Loans 4,166 4,842 2,330 1,259 Net Debt/Equity 62.9% 74.2% 51.8% 40.8% Current liabilities 13,559 13,800 11,246 10,361 Net Debt/EBITDA 1.2 1.2 1.1 0.9 Long-term liabilities 5,483 6,363 6,363 6,363 Provisions 1,662 1,403 1,403 1,403 Total liabilities 24,483 25,770 23,216 22,331 Minority interests 432 424 424 424 Shareholders Equity 12,819 10,372 14,063 15,336 Source: Company reports and J.P. Morgan estimates. Adjusted EPS includes a 1% recurring charge for restructuring

140



Wood Group Engineering and design should lead the way up The opportunity in the next cycle Early industry estimates forecast global oil & gas industry capex will remain flattish in 2010 relative to 2009 but return to growth in 2011. Within the oil & gas supply chain, we expect early cycle services such as engineering and design to rebound first. WG’s Engineering division has the number one market share in the Gulf of Mexico (GoM), having worked on over 75% of the deepwater projects in the region. Recently, we have seen several small-scale construction projects awarded in the area and service companies have commented that the GoM is one basin where they are seeing more activity. These factors lead us to believe WG is well positioned to be one of the first beneficiaries of the next up-cycle. In the North Sea, WG's Production Facilities business is a market leader in providing maintenance services. We believe this business will remain resilient through the cycle.

Flexing upside Currently, we estimate that revenues and margins return to peak 2008 levels in 2012. If the recovery in oil and gas expenditure occurs faster than expected, we could see 12% upside to our 2011 estimates, which would result in a price target of 460p.

Catalysts – 2010 and beyond We expect an increase in the US gas rig count to drive performance in the Well Support division and efficiency improvements in Gas Turbines to lift margins to double digit by 2011E (2009E margin 8.1%).

Valuation, target price, key risks While we believe the engineering and construction companies will face a challenging 2010, we believe Wood Group is a relative outperformer given its more resilient business model (55% of revenues are from oil company opex.) The key risk to our call is if there continues to be downward pricing pressure in engineering, a slower than expected recovery for US onshore gas drilling and rising competition for the production facilities business. Our June-2010 price target of 365p is based on an evenly-weighted multiple of EV/Sales and EV/Capital Employed. Based on 2011E EBIT margin forecast of 7.5%, we apply 0.7x 2011 EV/Sales, 7% discount due to the cyclicality of Well Support and Engineering. Based on 2011E pre-tax ROACE of 22.5%, we apply 2.0x 2011 EV/CE, also a 7% discount.

John Wood Group (WG.L;WG/ LN) FYE Dec 2007A 2008A 2009E 2010E 2011EAdj. EPS FY ($) 0.36 0.48 0.39 0.36 0.44Revenue FY ($ mn) 4,433 5,243 4,726 4,634 4,983EBITDA FY ($ mn) 379 511 425 402 462EBITDA margin FY 8.5% 9.8% 9.0% 8.7% 9.3%EBIT FY ($ mn) 285 416 336 313 372EBIT margin FY 6.4% 7.9% 7.1% 6.8% 7.5%Net Attributable Income FY ($ mn)

192 252 201 188 229

EV/Revenue FY 0.7 0.6 0.6 0.6 0.6Adj P/E FY 13.4 10.2 12.7 13.6 11.1Source: Company data, Bloomberg, J.P. Morgan estimates.

Company Data Price (p) 308Date Of Price 30 Nov 09Price Target (p) 365Price Target End Date 30 Jun 1052-week Range (p) 355 - 152Mkt Cap (£ bn) 1.62Shares O/S (mn) 528


Price Target: 365p


Amy Wong AC (44-20) 7325-9460 [email protected]

Flagship reports • Wood Group; Resilient business mix on

attractive valuation, 09 Sep 09 • European Oil Services, Latest backlog

coverage & vessel utilization data, 22 Sep 09

Price Performance

150

250

350

p


Performance (%) YTD 1m 3m 12m Abs 64.2% -10.1% 4.0% 46.3%

141



John Wood Group: Summary of Financials Profit and Loss Statement Ratio Analysis $ in millions, year end Dec FY07 FY08 FY09E FY10E FY11E $ in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Revenues 4,433 5,243 4,726 4,634 4,983 Shares in issue (mn) 526 523 521 521 521

Growth % 27.8% 18.3% (9.9%) (2.0%) 7.5% DPS (cents) 7 9 10 11 12 EBITDA 379 511 425 402 462 Dividend payout ratio 21.2% 18.2% 25.2% 29.7% 26.7%

Y/Y Growth (%) 42.1% 35.0% (16.8%) (5.6%) 15.0% EBITA 318 441 358 333 390 Valuation

% Change Y/Y 48.0% 38.5% -18.7% -7.1% 17.2% Market Cap ($ bn) 1.62 E&PF 214 316 275 244 267 P/E adjusted 13.4 10.2 12.7 13.6 11.1 Well Support 87 105 65 64 80 P/BV 2.6 2.2 2.0 1.8 1.6 Gas Turbines 64 73 65 71 89 P/CF 8.4 6.0 7.7 8.1 7.2

EBITA Margin (%) 7.2% 8.4% 7.6% 7.2% 7.8% EV/CE 3.0 2.6 2.3 2.1 1.9 E&PF 8.3% 9.7% 8.9% 8.1% 8.5% EV/DACF (Static EV) 10.1 7.2 10.3 10.8 9.4 Well Support 10.1% 10.4% 8.2% 8.1% 8.8% EV/Sales 0.7 0.6 0.6 0.6 0.6 Gas Turbines 6.7% 7.6% 8.1% 8.8% 10.0% EV/EBITDA 7.9 5.9 7.1 7.5 6.5

Amortisation 33 25 22 20 18 CF Yield 10.8% 15.2% 11.8% 11.1% 12.6% Net interest (+) expense (-) 25 32 32 28 27 FCF yield (before WC) 3.7% 9.8% 7.9% 8.1% 10.7% FCF Yield 1.1% 2.5% 4.2% 4.0% 7.4% Profit before Tax 260 384 305 285 346 Dividend Yield 1.5% 1.9% 2.1% 2.3% 2.6% Tax 91 129 103 96 115 Buyback Yield 0.0% 0.0% -0.0% 0.0% 0.0%

as a % of EBT 35.0% 33.5% 32.5% 32.5% 32.5% Combined Yield 1.5% 1.9% 2.1% 2.3% 2.6% Minorities 4 4 1 1 1 Net Income (Adjusted) 192 252 201 188 229 Ratios

% change Y/Y 59.2% 31.2% (20.1%) (6.6%) 22.1% Net Debt/EBITDA 0.7 0.5 0.5 0.5 0.2 EPS (basic) ($c) 32.96 49.57 39.67 37.07 45.24 Net Debt/Equity 28.3% 22.5% 16.9% 13.6% 5.1% EPS (diluted) ($c) 0.36 0.48 0.39 0.36 0.44 ROE 19.5% 21.9% 15.4% 13.1% 14.3% Adjusted EPS (diluted) ($c) 0.36 0.48 0.39 0.36 0.44 ROACE pre-tax 26.4% 32.8% 23.0% 19.9% 22.5%

Growth (%) 55.7% 31.7% (19.7%) (6.6%) 22.1% ROACE post-tax 17.6% 20.1% 15.1% 13.1% 14.9% Balance sheet Cash flow statement $ in millions, year end Dec FY07 FY08 FY09E FY10E FY11E $ in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Total Non current assets 903 958 994 1,009 998 EBITA 318 441 358 333 390

Goodwill 576 632 660 664 646 Income Tax Paid (106) (112) (103) (96) (115) PPE 272 263 271 282 289 Depreciation 71 96 89 89 89 Other Non current assets 55 63 63 63 63 Others 22 18 0 0 0

Total Current assets 1,567 1,844 1,892 1,972 2,088 Cash Earnings 297 418 323 306 346 Cash and cash equivalent 117 176 153 89 142 Increase/(Decrease) in WC (64) (176) (82) (91) (66) Other current assets 52 53 53 53 53 Cash flow from operations 233 241 241 215 280

Total assets 2,470 2,802 2,886 2,981 3,086 Capex (81) (84) (80) (80) (78) Other CFI (123) (88) (45) (23) 0 Total Current Liabilities 985 1,062 1,051 1,104 1,101 Cash flow from Investing activities (204) (172) (125) (103) (78) Capital Increase / (Share Buyback) 0 0 (1) 0 0 Total non-current liabilities 500 593 533 443 383 Debt raised / (Debt repaid) (18) 106 (60) (90) (60) Dividends paid (26) (29) (32) (28) (27) Total liabilities 2,470 2,802 2,886 2,981 3,086 Other CFF (13) (66) (47) (57) (62)

Shareholders Equity 975 1,134 1,289 1,421 1,589 Cash flow from Financing Activities (57) 11 (139) (175) (149) Minority Interests 11 13 13 13 13 Net Change in Cash (23) 59 (23) (64) 53

Total liabilities & SE 2,470 2,802 2,886 2,981 3,086 DACF 297 418 291 277 320 FCF (ex-WK) 216 334 243 226 268 Net debt 279 258 220 194 82 CFPS (based on DACF) 0.56 0.80 0.56 0.53 0.61 Capital Employed 986 1,147 1,302 1,434 1,602 CFPS (based on Cash Earnings) 0.56 0.80 0.62 0.59 0.66 CFPS (based on FCF) 0.20 0.48 0.37 0.43 0.51


142




143



Stocks to Avoid Acergy ...................................................................144 Acerinox ................................................................146 AstraZeneca ..........................................................148 Barry Callebaut .....................................................150 Clariant ..................................................................152 Diageo ...................................................................154 Drax .......................................................................156 Ericsson ................................................................158 Fiat .........................................................................160 Hermès ..................................................................162 Husqvarna .............................................................164 Italcementi.............................................................166 IVG .........................................................................168 Lagardère ..............................................................170 Nordea ...................................................................172 Oriflame.................................................................174 Panalpina...............................................................176 RBS........................................................................178 Sainsbury ..............................................................180 STMicroelectronics ..............................................182 Swedish Match......................................................184 Telecom Italia........................................................186 Unipol ....................................................................188


Sto

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144



Acergy West Africa – an opportunity and a hindrance Concerns about the next cycle Acergy is one of the global leaders in subsea construction and offshore inspection, maintenance and repair (IMR). We believe the longer-term outlook for subsea construction remains good and there is currently limited expertise to supply technically challenging subsea construction services. Although we expect global oil & gas capex to begin recovering in 2010, we believe that West Africa, particularly Nigeria, could face more delays due to political risks. With over 40% of Acergy’s revenues (2009E) from West Africa and the prospect of SURF awards in the region unclear, we remain cautious. We prefer to gain exposure to the deepwater construction theme through diversified E&C firm Technip (€45.44).

Flexing downside Because of the long-term nature of construction contracts, we believe the uptick in revenues over 2011 and 2012 could be quite limited because of the void in contract awards in H208 and in 2009. We currently estimate y/y revenue growth of -5% and +6% in 2011 and 2012, respectively. However, if 2011 revenues and margins are flat on 2010, then our price target would decrease to NKr60/share.

Catalysts – 2010 and beyond We recognize that there are numerous deepwater projects in pre-FID phase, especially in West Africa. If Acergy were to win a large share of these awards or these projects were sanctioned sooner than expected, Acergy’s backlog and consequently earnings could improve significantly.

Valuation, target price, key risks Acergy trades on 26.0x 2010 P/E, which is a hefty 56% premium to the sector and 45% premium to SURF peers20. Our June-2010 price target of Nkr 67/share is based on an evenly-weighted multiple of EV/Sales and EV/Capital Employed. Based on 2011 EBIT margin forecast of 11.6%, we apply 1.0x 2011 EV/Sales, 10% discount due to the higher risk nature and cyclicality of the business. Based on 2011 pre-tax ROACE of 22.4%, we apply 2.0x 2011 EV/CE, also a 10% discount. The main risk to our call is if Acergy wins a larger than expected share of awards in the near term.

Acergy SA (ACY.OL;ACY NO) FYE Nov 2007A 2008A 2009E 2010E 2011EAdj P/E FY 14.5 10.9 17.3 26.0 20.0Revenue FY ($ mn) 2,663 2,522 2,153 2,035 2,157EBITDA FY ($ mn) 450 569 406 331 386EBITDA margin FY 16.9% 22.5% 18.9% 16.2% 17.9%EBIT FY ($ mn) 357 461 278 196 250EBIT margin FY 13.4% 18.3% 12.9% 9.6% 11.6%Net Attributable Income FY ($ mn)

161 308 200 117 152

EV/Revenue FY 0.9 1.0 1.1 1.2 1.1Adj. EPS FY ($) 1.01 1.35 0.85 0.57 0.74Source: Company data, Bloomberg, J.P. Morgan estimates.

Company Data Price (Nkr) 83.55Date Of Price 30 Nov 09Price Target (Nkr) 67.00Price Target End Date 30 Jun 1052-week Range (NKr) 86.25 - 31.50Mkt Cap (Nkr bn) 16.3Shares O/S (mn) 195

20 Saipem, Technip and Subsea 7

Underweight NKR 83.55 30 November 2009

Price Target: Nkr 67


Amy Wong AC (44-20) 7325-9460 [email protected]

Flagship reports • Acergy: Focus on Offshore Installation,

19 Feb 09 • European Oil Services & Equipment:

Share Prices Discounting High Long-term Growth, 27 May 09

• European Oil Services: Latest Backlog Coverage & Vessel Utilization data, 22 Sep 09

Price Performance

30

50

70

90

NKr


Performance (%) YTD 1m 3m 12m Abs 119.1% 12.5% 37.0% 135.7%

145



Acergy: Summary of Financials Profit and Loss Statement Ratio Analysis $ in millions, year end Nov FY07 FY08 FY09E FY10E FY11E $ in millions, year end Nov FY07 FY08 FY09E FY10E FY11E Revenues 2,663 2,522 2,153 2,035 2,157 Shares in issue (mn) 188 184 183 183 183

% Change Y/Y 25.4% (5.3%) (14.7%) (5.5%) 6.0% DPS (cents) 0.21 0.22 0.22 0.22 0.22 EBITDA (adjusted) 450 569 406 331 386 Dividend payout ratio 24.6% 13.2% 20.1% 34.5% 26.5%

Africa & Mediterranean (mn) 257 215 177 135 150 Valuation Northern Europe & Canada 139 202 30 47 60 Market Cap (Nkr bn) 16.3 SA, Asia, JV & Associates (mn) 39 152 143 138 144 P/E adjusted 14.5 10.9 17.3 26.0 20.0

EBIDA Margin (%) 16.9% 22.5% 18.9% 16.2% 17.9% P/BV 3.8 3.4 2.3 2.2 2.0 Africa & Mediterranean (mn) 18.4% 18.3% 19.1% 14.1% 15.0% P/CF 9.3 6.2 9.7 11.8 10.2 Northern Europe & Canada 15.4% 24.0% 5.0% 8.4% 10.2% EV/CE 2.9 2.6 2.7 2.6 2.5 SA, Asia, JV & Associates (mn) 10.8% 30.1% 24.2% 25.6% 23.9% EV/DACF 8.2 5.4 8.4 10.2 9.0

Depreciation 93 108 128 135 136 EV/Sales 0.9 1.0 1.1 1.2 1.1 EBIT (reported) 357 461 278 196 250 EV/EBITDA 5.5 4.3 6.1 7.5 6.4 EBIT (adjusted) 357 428 278 196 250 CF Yield 10.8% 16.2% 10.3% 8.5% 9.8% Adjusted EBIT margin (%) 13.4% 17.0% 12.9% 9.6% 11.6% FCF Yield 3.0% 6.2% 5.8% 3.3% 4.5% Net financial items 8 (13) (24) (22) (24) FCF yield ex-w/c 0.8% 6.3% 6.1% 3.4% 4.4% Other gains and losses (Fx) (10) 45 12 0 - Dividend Yield 1.6% 1.6% 1.6% 1.6% 1.6% Earnings before tax 355 493 266 174 226 Buyback Yield 5.9% 5.6% - - - Tax (200) (163) (90) (57) (75) Combined Yield 7.5% 7.2% 1.6% 1.6% 1.6%

as a % of EBT 56.3% 35.5% 34.0% 33.0% 33.0% Net Income (Reported) 161 308 200 117 152 Ratios Net Income (Adjusted) 216 280 175 117 152 Net Debt (Cash) / Equity 15.9% 19.3% (22.2%) (23.9%) (26.6%)

% change Y/Y (5.2%) 29.4% (37.4%) (33.5%) 30.2% Net Debt / EBITDA 0.3 0.3 - - - EPS (reported), basic($) 0.86 1.67 1.10 0.64 0.83 ROE 29.0% 34.9% 15.0% 9.3% 11.2% EPS (adjusted, diluted) ($) 1.01 1.35 0.85 0.57 0.74 ROACE pre-tax 44.5% 50.8% 29.7% 21.0% 25.6%

% change Y/Y (14.1%) 33.3% (36.9%) (33.5%) 30.2% ROACE post-tax 27.1% 32.6% 20.7% 14.3% 16.9% Balance sheet Cash flow statement $ in millions, year end Nov FY07 FY08 FY09E FY10E FY11E $ in millions, year end Nov FY07 FY08 FY09E FY10E FY11E Total Non current assets 986 1,139 1,151 1,166 1,186 EBIT 357 461 278 196 250

Goodwill 0 4 4 4 4 Income Tax Paid (200) (163) (90) (57) (75) PPE 788 908 919 935 955 Depreciation & impairment 78 108 128 135 136 Other Non current assets 199 232 232 232 232 Cash Earnings 306 448 284 233 268

Total Current assets 1,435 1,332 1,584 1,610 1,727 Increase/(Decrease) in WC 6 3 7 2 (2) Cash and cash equivalent 592 573 666 700 756 Cash flow from operations 468 632 393 315 364 Other current assets 844 759 917 910 971 Capex (246) (294) (140) (150) (156)

Total assets 2,422 2,471 2,735 2,777 2,914 Other CFI 16 0 0 0 0 Cash flow from Investing activities (230) (294) (140) (150) (156) Total Current Liabilities 1,082 1,114 1,019 988 1,020 Capital Increase / (Share Buyback) (147) (138) 0 0 0 Debt raised / (Debt repaid) 0 0 (10) (4) (6) Total non-current liabilities 593 556 545 541 535 Dividends paid (46) (46) (48) (47) (47) Other CFF 14 0 0 0 0 Total liabilities 1,675 1,670 1,564 1,530 1,555 Cash flow from Financing Activities (179) (185) (58) (51) (53)

Shareholders Equity 729 787 1,157 1,233 1,345 Net Change in Cash (135) (28) 93 34 56 Minority interests 18 14 14 14 14 DACF 302 456 293 242 274

Total liabilities & SE 2,422 2,471 2,735 2,777 2,914 FCF (ex-WK) 60 154 144 83 112 CFPS (based on DACF) 1.42 2.20 1.43 1.17 1.33 Net debt 116 152 (257) (295) (357) CFPS (based on Cash Earnings) 1.43 2.16 1.38 1.13 1.30 Capital Employed 862 953 914 952 1,001 CFPS (based on FCF) 0.28 0.74 0.70 0.40 0.54 Source: Company reports and J.P. Morgan estimates.

146



Acerinox 2010 return to profitability appears already priced in Concerns about the next cycle While we believe ACX has reached an earnings inflection point and the company should return to profitability in 2010, we think ACX shares price in a stronger than anticipated profit recovery (JPM forecasts 2010 EBIT of €314 million vs. Bloomberg consensus of €320 million as of November 30). We are generally constructive on the overall steel sector but we are relatively more cautious on stainless steel given its high exposure to consumer end markets (~33% of stainless demand) and the unpredictable purchasing behavior of its substantial distribution customer base (~50% in Europe).

Flexing downside Our 2010 earnings forecasts for ACX assume a modest €20/tonne increase in base prices compared to November 2009 levels of €1,350/tonne. While we note that ACX expects base prices to continue to increase in 1Q 2010 (potentially by €50-100/tonne), we cannot rule out that base prices will experience a correction as end market demand remains relatively weak and a fall in the nickel price could further exacerbate volatile purchasing activity from distribution customers. Moreover, the European stainless steel industry continues to struggle with structural over capacity and a further price move to the upside is likely to bring more supply back into the market as EAF based stainless steel production capacity is easily ramped up (our 2010 forecasts assume 75-80% capacity utilization rate compared to 70-75% in 4Q 2009).

Catalysts – 2010 and beyond While we do not believe ACX is a likely M&A target, consolidation and rationalization of the European stainless industry could have an indirect benefit in terms of bringing about a better European supply/demand balance. We think investors looking to play the stainless space from an opportunistic or special situations point of view would likely have more success via the stainless steel pure play––Outokumpu (€11.5). We also expect investor attention to increasingly shift towards the 2011 ramp up of the greenfield project in Malaysia (Bahru Stainless).

Valuation, target price, key risks ACX trades at 9.7x 2010E EBITDA and 20.7x 2010E P/E, which we believe already incorporates a swing from a substantial EBIT loss in 2009 to meaningful profitability in 2010. We derive our June 2010 PT of €14 using a historical forward EV/EBITDA multiple of 9.5x. Positive risks include higher than expected stainless base prices which could underpin 2010 earnings, and if ACX chooses to enter into a merger agreement with another stainless steel producer.

Acerinox S.A. (ACX.MC;ACX SM)FYE Dec 2008A 2009E 2010E 2011E 2012EAdj. EPS FY (€) (0.05) (0.93) 0.67 1.05 1.20Revenue FY (€ mn) 5,051 3,151 4,634 5,185 5,402EBITDA FY (€ mn) 300 (174) 452 607 662EBITDA margin FY 5.9% -5.5% 9.8% 11.7% 12.3%EBIT FY (€ mn) 48 (326) 314 470 524EBIT margin FY 0.9% -10.3% 6.8% 9.1% 9.7%Adj P/E FY NM NM 20.7 13.1 11.5ROE FY -0.5% -13.8% 7.7% 11.3% 12.4%Source: Company data, Bloomberg, J.P. Morgan estimates.

Company DataPrice (€) 13.79Date Of Price 30 Nov 09Price Target (€) 14.00Price Target End Date 30 Jun 1052-week Range (€) 15.44 - 7.94Mkt Cap (€ bn) 3.4Shares O/S (mn) 249

Acerinox S.A. (ACX.MC;ACX SM)FYE Dec 2008A 2009E 2010E 2011E 2012EAdj. EPS FY (€) (0.05) (0.93) 0.67 1.05 1.20Revenue FY (€ mn) 5,051 3,151 4,634 5,185 5,402EBITDA FY (€ mn) 300 (174) 452 607 662EBITDA margin FY 5.9% -5.5% 9.8% 11.7% 12.3%EBIT FY (€ mn) 48 (326) 314 470 524EBIT margin FY 0.9% -10.3% 6.8% 9.1% 9.7%Adj P/E FY NM NM 20.7 13.1 11.5ROE FY -0.5% -13.8% 7.7% 11.3% 12.4%Source: Company data, Bloomberg, J.P. Morgan estimates.

Company DataPrice (€) 13.79Date Of Price 30 Nov 09Price Target (€) 14.00Price Target End Date 30 Jun 1052-week Range (€) 15.44 - 7.94Mkt Cap (€ bn) 3.4Shares O/S (mn) 249

Underweight €13.79 30 November 2009

Price Target: €14

Steel

Jeffrey Largey AC (44-20) 7325-9744 [email protected]

Ben Defay


Flagship reports • Acerinox; Lowering 2009 forecast;

Remain UW, 04 Nov 09 • European Stainless Steel; Outlook

improves, upgrading Outokumpu to OW, 13 Jul 09

• European stainless steel; Reducing ’09 estimates for ACX and Outokumpu, 2010 return to profitability priced in, 20 Apr 09

Price Performance

8

11

14€


ACX.MC share price (€)MSCI-Eu (rebased)

8

11

14€


ACX.MC share price (€)MSCI-Eu (rebased)

Performance (%) YTD 1m 3m 12m Abs 21.2% 1.6% -7.3% 34.0% Rel -0.3% 1.6% -10.4% 9.9%

147



Acerinox: Summary of Financials Profit and Loss Statement Cash flow statement € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Revenues 6,901 5,051 3,151 4,634 5,185 EBIT 526 48 (326) 314 470

% Change Y/Y 22.4% -26.8% -37.6% 47.1% 11.9% Depreciation & amortization 129 252 152 138 137 Gross Margin (%) - - - - - Change in working capital & Other - 453 492 (394) 49 EBITDA 655 300 (174) 452 607 Taxes - - - - -

% Change Y/Y -33.9% -54.2% -158.1% -359.5% 34.3% Cash flow from operations 655 753 318 58 657 EBITDA Margin (%) 9.5% 5.9% -5.5% 9.8% 11.7%

EBIT 526 48 (326) 314 470 Capex (210) (328) (192) (200) (200) % Change Y/Y -38.7% -90.9% -779.6% -196.5% 49.5% Disposals/(purchase) - - - - - EBIT Margin 7.6% 0.9% -10.3% 6.8% 9.1% Net Interest - - - - -

Net Interest (68) (65) (59) (61) (72) Free cash flow 409 168 218 (287) 253 Earnings before tax 459 -17 -359 253 398

% change Y/Y -42.7% -103.7% 2044.2% -170.5% 57.2% Equity raised/repaid - - - - - Tax (144) 8 115 (84) (131) Debt Raised/repaid - - - - -

Tax as a % of BT - - - - - Dividends paid (93) (115) (88) (88) (88) Net Income (Reported) 312 (10) (233) 168 264 Other - - - - -

% change Y/Y -37.9% -103.3% 2130.5% -171.9% 57.6% Shares Outstanding (m) 259.2 256.9 251.8 251.8 251.8 Beginning cash 44 167 80 209 -166 EPS (Reported) - $ 1.20 -0.05 -0.93 0.67 1.05 Ending cash 167 80 209 -166 -1

% Change Y/Y (37.8%) (104.4%) 1640.9% (171.8%) 57.6% DPS 0.35 0.35 0.35 0.35 0.35 Balance sheet Ratio Analysis € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Cash and cash equivalents 167 80 209 (166) (1) EBITDA margin (%) 9.5% 5.9% -5.5% 9.8% 11.7% Accounts Receivable 813 388 402 492 518 Operating margin (%) 7.6% 0.9% NM 6.8% 9.1% Inventories 1,856 1,388 964 1,291 1,222 Net margin (%) 4.5% NM NM 3.6% 5.1% Others 20 8 12 12 12 SG&A/Sales - - - - - Current assets 2,884 1,882 1,597 1,640 1,762 Sales per share growth 22.6% -26.2% -36.4% 47.1% 11.9% LT investments - - - - - Sales growth (%) 22.4% -26.8% -37.6% 47.1% 11.9% Net fixed assets - - - - - Attributable net profit growth (%) -37.9% -103.3% 2130.5% -171.9% 57.6% Total assets 4,446 3,727 3,940 4,342 4,492 EPS growth (%) (37.8%) (104.4%) 1640.9% (171.8%) 57.6% Liabilities ST loans 685 407 468 468 468 Interest coverage (x) 7.8 0.7 5.6 5.1 6.5 Payables 762 341 422 445 451 Net debt to Total Capital - - - - - Others 699 453 597 476 473 Net debt to equity 38.4% 47.2% 49.1% 54.7% 44.7% Total current liabilities 1,461 794 1,020 922 925 Sales/assets (x) - - - - - Long term debt 405 616 622 622 622 Total Assets/Equity 192.7% 184.4% 233.4% 198.3% 192.3% Other liabilities 273 297 610 610 610 ROE 13.5% -0.5% -13.8% 7.7% 11.3% Total liabilities 2,139 1,706 2,251 2,153 2,156 ROCE 17.6% 1.6% -11.2% 9.2% 13.2% Shareholders' equity 2,308 2,021 1,688 2,189 2,336 BVPS - $ 9 8 7 9 9 Source: Company reports and J.P. Morgan estimates.

148



AstraZeneca Sustainability question remains unaddressed Concerns about the next cycle AZN is the only company that hasn’t addressed the issue of sustainability: After strong earnings growth in 2009, we now expect 3 years of flat earnings up to 2012, followed by steady decline thereafter, despite the positive pipeline developments in 2009 (Onglyza, Brilinta) due to exclusivity losses for the majority of key products. Consequently, AZN’s multiple should remain low when the sector eventually re-rates, which we expect to result in significant underperformance vs. peers.

While AZN has an impressive record of trimming fat from the business, we expect further cost savings to only mitigate an EPS decline, rather than add growth.

With limited late stage pipeline assets beyond Brilinta, AZN needs to find growth externally. Given the narrow focus on the core pharma business, we are concerned about a paucity of targets and intense competition from players with deep pockets.

Flexing downside Our forecasts include a best case scenario for Brilinta including US sales despite uncertainty over a US approval, due to unconvincing data in US patients. Excluding these sales would reduce 2015 EPS by 3%. Further risks to forecasts could arise if AZN is unable to cut the underlying SG&A by $1.6bn from ’09 to 2015 or keep annual R&D spend flat over these six years at around $4.4bn.

Catalysts – 2010 and beyond 1) ACCORD study presentation at the ACC ’10 (Mar 14-16, 2010, Atlanta) may highlight a benefit of fenofibrate if added to statin therapy in diabetes patients. This would give Certriad a head start (PDUFA April 4th ‘10) and could turn it into a blockbuster. 2) Brilinta advisory panel in mid ’10 should result in significant volatility for AZN, with the risk skewed to the downside from a potential non-approval in the US. 3) Crestor patent ruling should be decided in AZN’s favour removing the overhang.

Valuation, target price, key risks Our £29.60 YE 2010 price target is inline with our EmV of £29.60, implying 7.7x our 2010E core EPS of $6.44, a 22% discount to the European large cap sector. While undemanding, we see this multiple as appropriate in view of negative EPS growth 09-13E (-2%), and a relatively uncertain longer-term outlook for AZN beyond 2011. Key upside risks to our rating and price target are: 1) Brilinta US approval, 2) Crestor US court case victory or even favourable settlement, 3) Positive impact from the ACCORD study, with substantial upside to Certriad, 4) Better margins than we model through the upcoming expiries of Seroquel, Nexium and Crestor.

AstraZeneca (AZN.L;AZN LN)FYE Dec 2008A 2009E 2010E 2011EAdj. EPS FY ($) 5.10 6.44 6.39 6.53Adj P/E FY 8.5 6.7 6.8 6.6Headline EPS FY ($) 4.20 5.54 5.87 6.15Revenue FY ($ mn) 31,601 32,633 32,490 32,695EBIT FY ($ mn) 9,144 12,272 12,333 12,752EBIT margin FY 28.9% 37.6% 38.0% 39.0%Net Income FY ($ mn) 6,101 8,025 8,516 8,936DPS (Net) FY (p) 128 163 172 175Source: Company data, Bloomberg, J.P. Morgan estimates.

Company DataPrice (p) 2,717Date Of Price 30 Nov 09Price Target (p) 2,960Price Target End Date 30 Dec 1052-week Range (p) 2,966 - 2,126Mkt Cap (£ bn) 39.59Shares O/S (mn) 1,457

AstraZeneca (AZN.L;AZN LN)FYE Dec 2008A 2009E 2010E 2011EAdj. EPS FY ($) 5.10 6.44 6.39 6.53Adj P/E FY 8.5 6.7 6.8 6.6Headline EPS FY ($) 4.20 5.54 5.87 6.15Revenue FY ($ mn) 31,601 32,633 32,490 32,695EBIT FY ($ mn) 9,144 12,272 12,333 12,752EBIT margin FY 28.9% 37.6% 38.0% 39.0%Net Income FY ($ mn) 6,101 8,025 8,516 8,936DPS (Net) FY (p) 128 163 172 175Source: Company data, Bloomberg, J.P. Morgan estimates.

Company DataPrice (p) 2,717Date Of Price 30 Nov 09Price Target (p) 2,960Price Target End Date 30 Dec 1052-week Range (p) 2,966 - 2,126Mkt Cap (£ bn) 39.59Shares O/S (mn) 1,457

Underweight £27.17 30 November 2009

Price Target: £29.60

Pharmaceuticals



David P Evans (44-20) 7742-6654 [email protected]

Flagship reports • AstraZeneca: 3Q'09 Results Review -

Downgrade to Underweight, 08 Nov 09 • AstraZeneca: 2Q Results Update,

Looking Ahead to ESC, 20 Aug 09

Price Performance

1,800

2,400

3,000

p


AZN.L share price (p)MSCI-Eu (rebased)

Performance (%) YTD 1M 3M 12M Abs (%) -3.2% -0.9% -4.3% 12.3% Rel (%) -23.0% -1.7% -5.0% -10.1%

149



AstraZeneca: Summary of Financials

Profit and Loss statement Cash flow statement $ in millions FY07A FY08A FY09E FY10E FY11E $ in millions FY07A FY08A FY09E FY10E FY11E Revenue 29,559 31,601 32,633 32,490 32,695 EBIT 8,094 9,144 12,272 12,333 12,752

% change Y/Y 11.6% 6.9% 3.3% -0.4% 0.6% Depreciation & amortisation - 2,620 1,798 1,928 1,962 Gross Margin (%) 78.3% 79.1% 82.1% 82.3% 82.6% Change in working capital (443) (210) (140) 20 (28) EBITDA 9,324 10,604 13,667 13,813 14,251 Taxes (2,563) (2,209) (3,167) (3,218) (3,376)

% change Y/Y -1.8% 13.7% 28.9% 1.1% 3.2% Cash flow from operations 7,510 8,742 9,900 10,372 10,620 EBITDA Margin (%) 31.5% 33.6% 41.9% 42.5% 43.6% Capex (1,076) (1,057) (1,105) (1,144) (1,152)

EBIT 8,094 9,144 12,272 12,333 12,752 Disposals/ (purchase) (15,054) (2,952) (93) (647) - % change Y/Y -1.5% 13.0% 34.2% 0.5% 3.4% Net Interest 23 (541) (1,390) (902) (726) EBIT Margin (%) 27.4% 28.9% 37.6% 38.0% 39.0% Free cash flow 6,434 7,685 8,795 9,228 9,468

Interest (111) (463) (700) (212) (36) Equity raised/(repaid) - (451) 100 100 100 Earnings before tax 7,983 8,681 11,572 12,121 12,716 Other 12,475 (760) (543) 1,008 1,166

% change Y/Y -6.6% 8.7% 33.3% 4.7% 4.9% Dividends paid (2,641) (2,739) (3,242) (3,838) (4,007) Tax (2,356) (2,551) (3,519) (3,576) (3,751) Beginning cash - 5,727 4,123 4,157 5,461

as % of EBT 29.5% 29.4% 30.4% 29.5% 29.5% Ending cash - 4,123 4,483 5,787 7,986 Net Income (Reported) 5,595 6,101 8,025 8,516 8,936 DPS 93 128 163 172 175

% change Y/Y -7.4% 9.0% 31.5% 6.1% 4.9% Shares Outstanding 1,457.0 1,447.1 1,449.4 1,451.4 1,453.2 EPS (reported) 3.74 4.20 5.54 5.87 6.15

% change Y/Y (3.1%) 12.2% 31.9% 6.0% 4.8% Balance sheet Ratio Analysis $ in millions FY07A FY08A FY09E FY10E FY11E $ in millions FY07A FY08A FY09E FY10E FY11E Cash and cash equivalents - 4,286 4,320 5,624 7,823 EBITDA Margin (%) 31.5% 33.6% 41.9% 42.5% 43.6% Accounts receivable - 9,842 10,163 10,119 10,183 Operating margin 32.4% 34.7% 42.6% 41.1% 41.2% Inventories - 1,636 1,689 1,682 1,693 Net profit margin 18.9% 19.3% 24.6% 26.2% 27.3% Others - - - - - SG&A/Sales - -35.5% -33.4% -32.1% -31.1% Current assets 17,082 16,152 16,560 17,813 20,087 R&D/Sales -17.5% -16.4% -13.5% -14.1% -14.3% LT investments 182 156 187 225 270 Sales growth 11.6% 6.9% 3.3% -0.4% 0.6% Net fixed assets 30,875 30,632 30,016 29,917 29,151 Net profit growth -6.6% 8.7% 33.3% 4.7% 4.9% Total assets 47,957 46,784 46,576 47,729 49,238 EPS growth (38.7%) 16.3% 26.4% (0.8%) 2.2% Liabilities Interest coverage 72.9 19.7 17.5 58.1 352.8 ST loans - 993 993 993 993 Dividend Coverage 0.0 0.0 0.0 0.0 0.0 Payables - 12,327 12,730 12,674 12,754 Net debt/equity 60.5% 44.3% 13.2% -6.9% -24.2% Others 4,280 993 993 993 993 Sales/assets 0.6 0.7 0.7 0.7 0.7 Total current liabilities - 13,320 13,723 13,667 13,747 Assets/equity 3.2 2.9 2.4 2.0 1.7 Long term debt - 10,855 6,355 3,355 355 ROCE 24.7% 27.3% 37.4% 36.2% 35.9% Other liabilities 6,979 6,549 6,680 6,816 6,958 ROE 37.2% 39.8% 45.1% 39.2% 34.5% Total liabilities 33,042 30,724 26,758 23,838 21,060 Shareholders' equity 14,915 16,060 19,818 23,892 28,178 BVPS 10.2 11.1 13.7 16.5 19.4 Source: Company reports and J.P. Morgan estimates.

150



Barry Callebaut Weak chocolate demand potentially leads to another miss Concerns about the next cycle Sluggish global chocolate demand owing to high prices, further pressure from cocoa costs, lower cocoa/butter ratio hurting grinding economics, and lower operating leverages (lower volume growth), will all likely hurt the business in 2010. Sustained double-digit pricing by most players in the industry has hurt chocolate demand and the cocoa butter ratio has reached historically low levels impacting profitability.

Flexing downside Despite the lower margins and volatility inherent to the company’s core B-to-B model (ex retail/foodservice piece), the company has continued to trade in the 8-9x 1yF FV/EBITDA range in part because of its above group average long-term growth targets. However, we believe several factors could lead to a structural derating: 1) although now reduced to 6-8% pa (from 9-11% before), we believe the company’s new volume growth guidance may still be lofty in the current economic environment (especially given continued price hikes at the retail level); 2) EBIT growth is tied to volume growth by the most part and we see headwinds from higher cocoa costs (risk of lack of full pass through) and the lower cocoa butter powder ratio, so actually EBIT could even lag volume growth in 2010. We believe a lower valuation multiple is justified. Even our 7x multiple used for the target price is above the peer group average of 5.5-6.0x. At 6x on our 2011E the stock would trade at CHF 420.

Catalysts – 2010 and beyond Volume growth data for fiscal 1Q10 (ending Nov) out on January 13th may provide a sense of global chocolate demand. We will also track end retail chocolate sales based on Nielsen data in the US and WE. Shifts in cocoa costs should have an effect on Barry Callebaut shares both because of the potential profit margin impact but also because of the impact on end consumer demand (as the higher costs are passed on). Commentary from large outsourcing clients like Hershey and Nestle should also have an effect on Barry Callebaut sentiment.

Valuation, target price, key risks The stock (down 11% YTD compared with +13% for Lindt and +9% for the Swiss market) at CHF 658 currently trades at 7.8x our below consensus FY10 FV/EBITDA estimates. We find this expensive for mostly a B-to-B model with single-digit EBIT margins and increasing questions about LT volume growth potential. Our CHF 525 target price is based on 7x our FY11 FV/EBITDA estimate, which we think is more appropriate given the earnings volatility and SMID cap peers. Key upside risks to our rating and price target include: 1) global volume trends recover in a meaningful way, 2) new outsourcing contracts compensate for weaker global demand, 3) cocoa falls.

Barry Callebaut (BARN.S;BARN SW) FYE Aug 2008A 2009A 2010E 2011EAdj. EPS FY (SF) 40.23 43.85 44.34 48.47EBITDA FY (SF mn) 444 453 471 500Revenue FY (SF mn) 4,815 4,880 4,943 5,274FCF FY (SF mn) (85) 96 92 159Net Debt FY (SF mn) 1,044 947 919 828Adj P/E FY 16.4 15.0 14.8 13.6EV/EBITDA FY 8.5 8.1 7.8 7.1EV/Revenue FY 0.8 0.8 0.7 0.7Net Debt/EBITDA FY 2.4 2.1 1.9 1.7Source: Company data, Bloomberg, J.P. Morgan estimates.

Company Data Price (SF) 658.0Date Of Price 30 Nov 09Price Target (SF) 525.00Price Target End Date 01 Sep 1052-week Range (SwF) 735.45 - 466.00Mkt Cap (SF bn) 3.4Shares O/S (mn) 5

Underweight CHF658 30 November 2009

Price Target: CHF 525


Pablo Zuanic AC (44-20) 7325-4664 [email protected]

Flagship reports • Updating Estimates, But Keep UW,

12 Nov 09 • Downgrade to UW From Neutral,

16 Oct 09 • Downgrading to Neutral from OW,

27 Jan 09

Price Performance

450

550

650

750

SwF


Performance (%) YTD 1m 3m 12m Abs -2.3% 14.6% 18.0% -1.7%

151



Barry Callebaut: Summary of Financials Profit and Loss Statement Cash flow statement SwF in millions, year end Aug FY08 FY09 FY10E FY11E SwF in millions, year end Aug FY08 FY09 FY10E FY11E Revenues 4,815 4,880 4,943 5,274 EBIT 341 351 371 397

% change Y/Y 17.3% 1.3% 1.3% 6.7% Change In Working Capital - - - - Gross Margin (%) 14.6% 14.5% 0.2% 0.2% Depreciation & Amortisation 103 102 100 103 EBIT 341 351 371 397 Interest 91 82 0 0 EBIT Margin (%) 7.1% 7.2% 7.5% 7.5%

% change Y/Y 5.3% 2.8% 5.7% 7.0% Cash Flow From Operations 444 453 471 500 EBITDA 444 453 471 500 Capex (227) (113) - - EBITDA Margin (%) 9.2% 9.3% 9.5% 9.5% Free Cash Flow (85) 96 92 159

% change Y/Y 3.9% 2.2% 4.0% 6.1% Acquisitons/ Divestments 16 2 - - Net Interest (100) (92) (100) (93) Profit before tax 242 260 271 303 Cash Flow From investing -181 -139 - - Tax (33) (33) (41) (52) Dividends Paid - - - -

Tax Rate - - - - Share Repurchase - - - - Net Profit (Reported) 208 227 229 251

% change Y/Y 0.6% 9.0% 1.1% 9.3% Cash flow from financing 16 -78 - - Adjusted Earnings 208 227 229 251 Diluted Shares Outstanding 5 5 5 5 Net cash/(debt) at start of year -939 -1,044 -947 -919 EPS (Reported) 40.23 43.85 44.34 48.47 Decrease/(Increase) in Net debt (105) 98 28 90

% change y/y 0.6% 9.0% 1.1% 9.3% Net cash/(debt) at end of year -1,044 -947 -919 -828 EPS (Adjusted) 40.23 43.85 44.34 48.47

% change Y/Y 0.6% 9.0% 1.1% 9.3% Balance sheet Ratio Analysis SwF in millions, year end Aug FY08 FY09 FY10E FY11E SwF in millions, year end Aug FY08 FY09 FY10E FY11E Assets Per Share Amounts Cash & Cash Equivalents 35 34 30 30 Basic Earnings per share 40.23 43.85 44.34 48.47 Accounts Receivables 331 525 532 567 Diluted Earnings per share 40.23 43.85 44.34 48.47 Inventories 1,415 1,295 1,411 1,506 Dividend per share - - - - Current Assets 2,306 2,083 2,204 2,349 Tangible Assets 2,233 2,199 2,324 2,444 Net Fixed Assets 2,233 2,199 2,324 2,444 Adj P/E Multiple 16.4 15.0 14.8 13.6 Total assets 3,729 3,515 3,661 3,824 EV/EBITDA Mutiple 8.5 8.1 7.8 7.1 P/CEPS 11.0 11.0 11.0 11.0 Liabilities ST Loans 398 223 191 101 Net Debt/Equity 88.7% 75.3% 64.6% 51.7% Current liabilities 1,692 1,291 1,273 1,253 Net Debt/EBITDA 2.4 2.1 1.9 1.7 Long-term liabilities 622 728 728 728 Provisions - - - - Total liabilities 2,553 2,259 2,240 2,220 Minority interests 0 1 1 1 Shareholders Equity 1,176 1,256 1,421 1,603 Source: Company reports and J.P. Morgan estimates.

152



Clariant End-market fragmentation and trough operating rates to continue to pressure prices Concerns about the next cycle We see an ongoing risk that significant industry overcapacity will lead to price pressure in a number of Clariant’s businesses. We calculate that Clariant’s 2010 sales volumes will still be 17% below the early ’08 peak, and 10% below the 5 year average. The asset utilisation situation likely to be similar (or worse) at its competitors and with Clariant’s main industries yet to see meaningful asset retirement or consolidation, we expect this backdrop to translate into price pressure.

Flexing downside Our current 2010 estimates assume a 3.9% (SFr260m) YoY price decline. However, Clariant’s prices are only 5% from their all time highs, and have fallen almost 3% sequentially in 3Q2009. Consequently, we view a further 4% price decline in 2010 under the current operating environment as at the lower end of the potential range. In addition, we expect raw material costs to increase again in 2010, with a 5% increase equivalent to SFr170m of cost inflation.

Catalysts – 2010 and beyond We expect the early part of 2010 to see a combination of pressures on margins. As well as offering the most challenging comparatives from a pricing standpoint, 1H2010 will likely house the majority of the raw material and energy cost inflation that we anticipate for 2010.

Valuation, target price, key risks At best, should Clariant achieve its ROIC targets, it would remain below average in terms of both returns and growth in the context of the European Chemicals sector. Consequently we see little reason for the shares to trade at anything other than a significant discount to the sector average earnings multiple (12.4x 2011E). Given its track record on restructuring costs, it is appropriate in our view that these ongoing costs should be reflected in valuation. Assuming an additional SFr150m of restructuring costs within our forecasts implies the shares are currently trading at 19x our 2011E estimates. We have a Dec-10 DCF-based price target of SFr9.3 (WACC 9.1%, terminal growth rate 2.0%). Key risks to our rating and price target are i) change of ownership – although we believe the structural pressures facing Clariant’s business, the lack of cash flow, as well as the potential difficulties (costs) of an exit would deter a takeover bid, we would not dismiss the possibility out of hand; ii) further raw material cost inflation.

Clariant International Ltd (CLN.VX;CLN VX) FYE Dec 2007A 2008A 2009E 2010E 2011EAdj. EPS FY (SF) 1.06 1.14 0.63 0.93 1.11Revenue FY (SF mn) 8,533 8,071 6,606 6,797 6,840EBITDA FY (SF mn) 812 783 492 555 613EBIT FY (SF mn) 539 530 269 329 379EV/Revenue FY 0.6 0.4 0.5 0.5 0.5EV/EBITDA FY 6.3 4.4 6.5 5.8 5.2Adj P/E FY 10.0 9.3 16.8 11.4 9.6FCF Yield FY 6.3% 6.8% 19.8% 10.0% 10.5%Source: Company data, Bloomberg, J.P. Morgan estimates.


Underweight SFr10.61 30 November 2009

Price Target: SFr9.3

Chemicals

Neil Tyler AC



Flagship reports • European Chemicals; 2010 may

contain obstacles to continue earnings development, 25 Nov 09

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Clariant: Summary of Financials Profit and Loss Statement Cash flow statement SwF in millions, year end Dec FY07 FY08 FY09E FY10E FY11E SwF in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Revenues 8,533 8,071 6,606 6,797 6,840 EBIT - - - - -% Change Y/Y 1.8% -5.4% -18.1% 2.9% 0.6% Depreciation & amortization (273) (253) (223) (226) (234)Gross Margin (%) 29.2% 28.7% 28.2% 28.7% 29.4% EBITDA (pre - restructuring) 812 783 492 555 613 Change in working capital 57 (89) 280 (35) (8)% Change Y/Y -5.0% -3.6% -37.2% 12.9% 10.5% Taxes (99) (119) 9 (12) (52)EBITDA Margin (%) 9.5% 9.7% 7.4% 8.2% 9.0% Cash flow from operations 1,352 1,174 1,058 814 970EBIT (pre - restructuring) 539 530 269 329 379 Capex (312) (270) (140) (180) (210)% Change Y/Y -9.0% -1.7% -49.3% 22.4% 15.2% Acquisitions/disposals 58 (8) (40) - (23)EBIT Margin 6.3% 6.6% 4.1% 4.8% 5.5% Net Interest 48 86 55 42 40Net Interest 48 86 55 42 40 Free cash flow 325 236 632 321 337Earnings before tax (reported) 207 91 -37 38 191 FCF (pre - exceptionals) 277 150 577 279 297% change Y/Y -28.1% -56.0% -140.2% -203.9% 403.7% Equity raised/repaid (65) (63) 0 - 0Tax (99) (119) 9 (12) (52) Debt Raised/repaid -9 -263 0 - 0Reported tax rate (%) 45.8% 119.0% 32.0% 26.0% 26.0% Other 0 (32) 0 - 0Net Income Rep (2) (45) (36) 18 131 Dividends paid (9) (5) 0 0 (37)% change Y/Y -97.2% 2150.0% -20.6% -149.7% 638.7% Beginning cash 485 676 356 803 893Shares Outstanding 227.15 226.53 226.53 226.53 226.53 Ending cash 676 356 803 893 1,017Reported EPS -0.01 -0.20 -0.16 0.08 0.58 DPS 0.25 0.00 0.00 0.16 0.18Adjusted EPS 1.06 1.14 0.63 0.93 1.11 Balance sheet Ratio Analysis SwF in millions, year end Dec FY07 FY08 FY09E FY10E FY11E SwF in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Cash and cash equivalent 676 356 803 893 1,017 Market Cap 3,890 2,122 2,122 2,122 2,122Accounts Receivables 1,449 1,110 1,196 1,231 1,239 Net debt 1,361 1,209 762 672 548Inventories 1,477 1,373 1,026 1,056 1,063 EV 5,120 3,467 3,196 3,196 3,196Others - - - - - Current assets 3,999 3,171 3,357 3,512 3,650 EV/Sales 0.6 0.4 0.5 0.5 0.5LT investments 650 579 570 561 552 EV/EBITDA 6.3 4.4 6.5 5.8 5.2Net fixed assets 2,636 2,196 2,122 2,085 2,070 EV/EBIT 9.5 6.5 11.9 9.7 8.4Total assets 7,285 5,946 6,049 6,158 6,272 P/E (adjusted EPS) 10.0 9.3 16.8 11.4 9.6 Liabilities FCF yield 6.3% 6.8% 19.8% 10.0% 10.5%ST loans 728 268 268 268 268 Dividend per share 0.25 0.00 0.00 0.16 0.18Payables 1,321 1,011 1,030 1,060 1,067 Dividend Yield 1.5% 0.0% 0.0% 1.6% 1.8%Others 925 803 963 968 973 EPS growth NM 7.3% NM 47.8% 18.6%Total current liabilities 2,721 1,859 2,079 2,122 2,144 Long term debt 1,267 1,297 1,297 1,297 1,297 Net debt /EBITDA 1.7 1.5 1.6 1.2 0.9Other liabilities - - - - - Interest coverage (x) 11.2 6.2 4.9 7.9 9.6Total liabilities 4,913 3,959 4,338 4,387 4,414 Net debt to Total Capital 36.5% 37.8% 30.8% 27.5% 22.8%Shareholders' equity 2,372 1,987 1,711 1,771 1,858 Net debt to equity 56.0% 59.4% 43.3% 36.9% 28.7% ROIC 0.1% -0.0% 0.0% 0.1% 0.1% Source: Company reports and J.P. Morgan estimates.

154



Diageo Growth lagging the peers Concerns about the next cycle Diageo lagged its peer group in terms of growth through the last cycle and is set to do this again in the absence of any dramatic M&A activity in our view. Whilst we would expect revenue growth to eventually return to mid single-digit growth, in the absence of recovery in price and mix this will not translate into any meaningful uplift in margin. Diageo’s category and geographical mix acted as a drag on gross margin in the good years: right now gross margins are falling. Profit growth is coming from cost savings in an industry where capacity for such savings is limited and from pulling back on marketing investment. This cannot continue. Diageo has disproportionate exposure to the problematic markets in W Europe (GB, Spain and Ireland) and to the US where we think industry pricing power will be constrained until the back end of the economic cycle. Price not volume drives margin in spirits. In emerging markets it lacks an “owned”, scale platform in some Asia growth markets like India and China and the very rapid profit growth from the African beer business is set to slow. The risk for investors is that Diageo seeks to “gear up” its growth algorithm through an expensive M&A transaction.

Flexing downside We already have downside from our DCF model. If we assume an uplift to low rather than mid single-digit sales growth in FY11E and FY12E off the flat margin we expect (and which has been delivered historically) this could reduce our DCF valuation by a further 110p.

Catalysts – 2010 and beyond Cost savings of £120mn are on track for FY10E and Diageo is still benefiting from media rate deflation. So despite current organic sales decline, guidance for FY10E at low single-digit operating profit growth is realistic but not conservative we think. The risk, in our view, is that we see further pressure on pricing through the value chain in the US and other mature markets to shift volume in this current crucial fourth calendar quarter and that this further encourages consumer down-trading.

Valuation, target price, key risks Our Sep 10E DCF-derived PT is 933p (terminal growth 1.25%, WACC 8.3%). Diageo trades on a CY10E P/E of 13.5x, v/s the sector on 13.8x but with only mid single-digit earnings growth compared to robust double-digit growth from comparable brewers. Key upside risks to our view and PT include acceleration of volume growth in Americas and Asia, sustained price rises, and a significant change to the capital structure through M&A activity.

Diageo (DGE.L;DGE LN) FYE Jun 2008A 2009A 2010E 2011EAdj. EPS FY (p) 60.57 71.52 72.28 80.08Revenue FY (£ mn) 8,090 9,311 9,275 9,746EBITDA FY (£ mn) 2,537 2,889 3,059 3,263EBIT FY (£ mn) 2,304 2,613 2,778 2,967Pretax Profit Adjusted FY (£ mn) 2,162 2,185 2,447 2,713DPS (Net) FY (p) 34 36 38 40Adj P/E FY 16.4 13.9 13.7 12.4FCF Yield FY 5.2% 4.8% 5.2% 8.7%Source: Company data, Bloomberg, J.P. Morgan estimates.

Company Data Price (p) 1,025Date Of Price 30 Nov 09Price Target (p) 933Price Target End Date 01 Sep 1052-week Range (p) 1,079 - 727Mkt Cap (£ bn) 26.30Shares O/S (mn) 2,566

Neutral 1025p 30 November 2009

Price Target: 933p

Beverages

Mike Gibbs AC (44-20) 7325-1205 [email protected]

Vanessa Lai Min


Flagship reports • It’s all in the mix, 28 Aug 09 • An affordable luxury, 28 Apr 09 • What’s that coming over the hill.., 09

Dec 08

Price Performance

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DGE.L share price (p)MSCI-Eu (rebased)

Performance (%) YTD 1m 3m 12m Abs 6.7% 2.9% 7.4% 15.8% Rel -13.1% 2.1% 6.7% -6.6%

155



Diageo: Summary of Financials Profit and Loss Statement Cash flow statement £ in millions, year end Jun FY08 FY09 FY10E FY11E £ in millions, year end Jun FY08 FY09 FY10E FY11E Revenues 8,090 9,311 9,275 9,746 - EBIT 2,304 2,613 2,778 2,967 -

% change Y/Y 8.1% 15.1% -0.4% 5.1% - Depreciation & amortization 233 276 282 296 - Change in working capital (282) (282) (150) (120) -EBITDA 2,537 2,889 3,059 3,263 - Taxes (369) (522) (640) (597) -

% change Y/Y 8.9% 13.9% 5.9% 6.6% - Other operating cash flows 139 154 -156 140 -EBITDA Margin (%) 31.4% 31.0% 33.0% 33.5% - Cash Flow from Operations 2,394 2,761 2,753 3,283 -

EBIT 2,304 2,613 2,778 2,967 - % change Y/Y 8.7% 13.4% 6.3% 6.8% - Capex (324) (453) (362) (373) -EBIT Margin (%) 28.5% 28.1% 30.0% 30.4% - Net Interest (387) (478) (486) (426) -

Net Interest (319) (592) (486) (426) - Free Cash Flow 1,302 1,153 1,265 1,887 -Earnings before tax 2,093 2,015 2,162 2,713 - Disposal/(purchase) (505) 15 0 0 -

% change Y/Y -0.1% -3.7% 7.3% 25.5% - Tax (522) (292) (538) (597) - Equity raised/ (repaid) (1,085) (392) 0 0 -

as % of EBT (26.3%) 14.5% (22.0%) (22.0%) - Debt raised/ (repaid) -1,200 -43 309 852 -Net Income (Analyst) 1,564 1,789 1,802 1,996 - Other - - - - -

% change Y/Y 19.3% 14.4% 0.7% 10.8% - Dividends Paid (857) (870) (939) (986) -Shares Outstanding 2,566 2,485 2,476 2,476 - EPS (Analyst) - 71.52 72.28 80.08 - DPS 34 36 38 40 -

% change Y/Y - - 1.1% 10.8% - Balance sheet Ratio Analysis £ in millions, year end Jun FY08 FY09 FY10E FY11E £ in millions, year end Jun FY08 FY09 FY10E FY11E Cash and cash equivalent 818 1,012 1,012 1,012 - EBITDA Margin (%) 31.4% 31.0% 33.0% 33.5% -Others - - - - - EBIT Margin (%) 28.5% 28.1% 30.0% 30.4% -Current Assets 1,636 2,024 2,024 2,024 - Net Profit Margin (%) 19.3% 19.2% 19.4% 20.5% - LT investments & Intangibles 7,590 8,965 8,891 8,809 - Dividend payout - 50.5% 52.4% 49.7% -Net Fixed Assets 2,153 2,305 2,386 2,463 - Total Assets 11,379 13,294 13,300 13,296 - Capex/sales 4.0% 4.9% 3.9% 3.8% - Capex/Depreciation 1.4 1.6 1.3 1.3 -Liabilities Net Working Capital/Sales 32% 31% 32% - -ST Loans 1,663 890 890 890 - Others 1,753 2,619 2,569 2,519 - Total Current Liabilities 3,326 1,780 1,780 1,780 - Interest Coverage (x) 7.2 4.4 5.7 7.0 - Net Debt/EBITDA 2.5 2.6 2.4 2.0 -Long Term Debt 5,545 7,685 5,352 4,500 - Net Debt to Equity 153.0% 192.1% 162.9% 117.1% -Other Liabilities - - - - - Total Liabilities 7,298 10,304 7,921 7,019 - Sales/Total Assets 0.7 0.7 0.7 0.7 -Shareholders' Equity 3,499 3,222 3,738 4,757 - ROCE 18.1% 17.3% 17.5% 21.7% - Source: Company reports and J.P. Morgan estimates.

156



Drax Oversupply in UK gas market still a concern Concerns about the next cycle Drax is a single 3.6GW coal fired plant and as such the key driver of profits is UK clean dark spreads (i.e., gross margin per unit of electricity produced for a coal plant). Our UW is based on the continuing oversupply in the UK gas market, which keeps electricity prices weak. We see Drax as the stock to avoid in 2010 as (1) continued UK gas weakness coupled with a more healthy global coal market are likely to continue eroding margins and volumes, (2) the planned investment into biomass erodes the stock’s yield attraction whilst value creation remains unclear, (3) it has the highest carbon risk in the sector with a global agreement on emission reductions likely in 2010 or 2011.

Flexing downside We continue to see downside to the current contango on the UK gas forward curve, due to the oversupply situation in global gas markets which is unlikely to resolve before 2011-12 in our view. We estimate that each £1/MWh decrease in our long term assumption of £12.9/MWh (average phase 3) would decrease our valuation by 38p/share (9.3% current share price). Thematically we continue to prefer generators that are exposed to coal-driven rather than gas-driven markets.

Catalysts – 2010 and beyond Copenhagen and after – Though a firm global agreement on carbon emission looks unlikely at the Copenhagen conference, such an agreement only presents downside risk for Drax, as this would likely push up the EU's own targets and permit prices beyond 2013.

Consensus downgrades – We see c10% and c25% downside to Bloomberg consensus 2010-11 EBITDA respectively on a mark to market of commodities.

Tax decision from HM Revenues and customs – Drax highlighted the potential to claim back £220m of tax from the Inland Revenue at the FY 08 results in March 09; this could take up to 24 months according to the company but we do not see it as likely that Inland Revenue would agree to such a move.

Biomass investment due by the end of 2010 – There is still very limited visibility on potential value creation, which we estimate at 7p/share for a 30% stake in the project.

Valuation, target price, key risks Our 450p Dec-10 PT is based on the average of our DDM and DCF valuations, with a post-tax nominal WACC of 8.6%. We do not include the value for an equity investment into biomass, which we estimate at 9p/share for a 30% stake. Upside risks include (1) an increase in clean dark spreads due to potential weakness in coal and/or carbon prices and (2) a positive decision from the inland revenue to allow utilisation of tax losses that would amount to £220m to Drax shareholders (42p/share NPV).

Drax Group Plc (DRX.L;DRX LN) FYE Dec 2007A 2008A 2009E 2010E 2011EAdj. EPS FY (p) 99.57 98.05 50.91 66.84 58.93Adj P/E FY 4.0 4.0 7.8 5.9 6.7EBITDA FY (£ mn) 516 510 303 390 348EV/FCF FY 11.83 8.76 NM 8.71 17.24EV/EBITDA FY 3.5 3.2 5.4 3.9 4.4Gross Yield FY 11.2% 12.9% 3.6% 8.1% 7.2%DPS (Gross) FY (p) 46 53 15 33 29Revenue FY (£ mn) 1,247 1,753 1,351 1,436 1,516Source: Company data, Bloomberg, J.P. Morgan estimates.

Company Data Price (p) 410Date Of Price 30 Nov 09Price Target (p) 450Price Target End Date 31 Dec 1052-week Range (p) 644 - 394Mkt Cap (£ bn) 1.50Shares O/S (mn) 365

Underweight 410p 30 November 2009

Price Target: 450p

Utilities

Nathalie Casali AC (44-20) 7325-9023 [email protected]

Javier Garrido (34 91) 516-1557 [email protected]


Flagship reports • UK generators: IPR remains a more

attractive play on power demand recovery than Drax as refinancing concerns dissipate, 20 Jul 09

• Drax: The road ahead: upgrading mid term forecasts for lower carbon, downside risks remain, 08 Apr 09

• Drax: Short-term gain, long-term pain - initiating coverage with Neutral, 16 Jul 08

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Drax: Summary of Financials Profit and Loss Statement Valuation ratios £ in millions, year end Dec FY08 FY09E FY10E FY11E FY12E £ in millions, year end Dec FY08 FY09E FY10E FY11E FY12E Sales 1,753 1,351 1,436 1,516 1,639 Depreciation & Amortisation 46 42 44 45 46 P/E (reported) 4.0 7.8 5.9 6.7 5.2 Operating Profit 464 261 346 303 386 EV/EBITDA 3.2 5.4 3.9 4.4 3.5 Associate Income - - - - - EV/EBIT 3.6 6.3 4.4 5.1 3.9 Net Interest (22) (11) (7) (4) (3) FCF yield (pre divs, post mins) (%) 14.6% 7.9% 15.9% 10.4% 17.1% Profit before tax 442 249 339 299 383 Dividend yield (%) 12.9% 3.6% 8.1% 7.2% 9.2% Income Tax 110 70 95 84 107 Minority Interests 0 0 0 - - Per share Group Net profit 333 179 244 215 276 £ FY08 FY09E FY10E FY11E FY12E Cashflow statement Recurrent EPS 98.05 50.91 66.84 58.93 75.59 £ in millions, year end Dec Diluted EPS 98.05 50.91 66.84 58.93 75.59 FY08 FY09E FY10E FY11E FY12E Reported DPS 53 15 33 29 38 Working Capital (31) 30 (8) (7) (11) Cash flow from operations 479 332 383 340 421 Performance, leverage and return ratios Capex & Acquisitions -91 -122 -55 -157 -188 % Cash from investing (91) (122) (55) (157) (188) FY08 FY09E FY10E FY11E FY12E Dividends paid (110) (145) (64) (114) (125) Gross operating margin 38.8% 38.5% 42.3% 39.1% 41.8% Cash from financing (143) (202) (129) (181) (193) Operating margin 26.5% 19.3% 24.1% 20.0% 23.5% Free Cash flow before dividends 188 -35 173 89 189 Operating profit growth y-o-y -1.6% -43.9% 32.8% -12.5% 27.4% Recurrent Income growth y-o-y -5.8% -46.1% 36.0% -11.8% 28.3% Balance Sheet ROCE (EBIT) 32.9% 19.1% 23.2% 19.9% 23.6% £ in millions, year end Dec Net debt/ (equity+minorities) (%) 33.9% 19.4% -1.1% 1.2% 0.3% FY08 FY09E FY10E FY11E FY12E Net debt /EBITDA 0.5 0.5 (0.0) 0.0 0.0 Net fixed assets 524 793 857 1,042 1,220 Current assets 866 557 680 602 623 Market valuation Total assets 2,107 1,877 2,011 2,046 2,209 £ in millions Total Debt 365 200 135 68 58 FY08 FY09E FY10E FY11E FY12E Shareholders' equity 693 835 1,015 1,116 1,267 Share price (year-end / current) 410 Number of Shares (million) 339.5 364.9 365.0 365.0 365.0 Total liabilities 2,107 1,878 2,012 2,046 2,209 Diluted Number of Shares (million) 339.52 352.27 365.02 365.02 365.02 Net debt 235 162 -11 13 3 Market Capitalisation 1,498.05 1,498.05 1,498.05 1,498.05 1,498.05 Capital Employed 1,410 1,363 1,490 1,519 1,634 EV adjustment - - - - - EV 1,649 1,629 1,508 1,532 1,522 Source: Company reports and J.P. Morgan estimates.

158



Ericsson Not the bottom of the capex cycle yet Concerns about the next cycle Though broader macroeconomic conditions appear to be stabilizing after the freefall that began in late 2008, we do not expect the infrastructure market or Ericsson to benefit from this in the next two quarters. We expect continued cautious capex spending from operators through Q4 and then normal seasonally depressed patterns of spending in H1. Through the cycle positives are still not obvious for Ericsson as natural technology price deflation is exacerbated by competitive pricing pressure. It could be the case that the inexorable mobile data tidal wave that is coming has little benefit on Ericsson’s bottom line as price declines keep margins depressed and technology becomes ever more efficient.

Flexing downside We forecast a near doubling of EBIT margins by 2011 from the 7.5% we forecast for 2009E. We believe that current share price levels imply long-term EBIT margins of 12.7% yet recent evidence from Huawei's wins with European telecom operators imply long term pricing pressures. If the wireless infrastructure industry does finally repair itself we could then see a re-rating of Ericsson driven by increasing margins as mobile data capacity spending drives sales.

Catalysts – 2010 and beyond Early in the year, we will be watching for further LTE and other deal announcements at the Mobile World Congress in Barcelona (scheduled for February 15-18). At the 2009 event, Verizon announced that it had chosen ALU and Ericsson for its initial LTE deployments in North America. Another catalyst to watch for are further Services contract wins which are negative for margins initially but positive in the long run. Spectrum auctions in Europe in mid 2010 will be important to watch too.

Valuation, target price, key risks Our relative earnings based price target for Dec-2010 is SEK 62. Our 2010 EPS of 4.79 SEK is at a 10.5% discount to consensus. So we set our price target at a 10.5% discount to CoB price as of Oct 22, 09 of 69.4 SEK. In multiple terms, our target price puts Ericsson at 12.9x 2010E P/E. Our DCF value for Ericsson is SEK 70. Our Underweight rating and price target would be at risk if evidence materializes of substantial wireless capacity expansion in the developed world in early 2010. Weakness in the SEK vs. the USD or a turn in SonyEricsson’s fortunes, are also risks to our UW rating.

Ericsson (ERICb.ST;ERICB SS)FYE Dec 2008A 2009E 2010EAdj. EPS (Skr)

FY 4.72 A 3.38A 4.79Q1 (Mar) 0.77 0.70A 0.91Q2 (Jun) 0.93 0.87A 1.10Q3 (Sep) 1.33 0.87A 1.28Q4 (Dec) 1.69 A 0.93A 1.51

Revenue FY (Skr mn) 207,698 A 200,373A 199,881EBIT margin FY 10.4% A 7.5%A 11.3%EV/Operating Profit FY 7.95 A 12.52A 7.54Source: Company data, Bloomberg, J.P. Morgan estimates.

Company DataPrice (Skr) 66.90Date Of Price 30 Nov 09Price Target (Skr) 62.00Price Target End Date 31 Dec 1052-week Range (Skr) 79.60 - 52.10Mkt Cap (Skr bn) 213.0Shares O/S (mn) 3,183

Ericsson (ERICb.ST;ERICB SS)FYE Dec 2008A 2009E 2010EAdj. EPS (Skr)

FY 4.72 A 3.38A 4.79Q1 (Mar) 0.77 0.70A 0.91Q2 (Jun) 0.93 0.87A 1.10Q3 (Sep) 1.33 0.87A 1.28Q4 (Dec) 1.69 A 0.93A 1.51

Revenue FY (Skr mn) 207,698 A 200,373A 199,881EBIT margin FY 10.4% A 7.5%A 11.3%EV/Operating Profit FY 7.95 A 12.52A 7.54Source: Company data, Bloomberg, J.P. Morgan estimates.

Company DataPrice (Skr) 66.90Date Of Price 30 Nov 09Price Target (Skr) 62.00Price Target End Date 31 Dec 1052-week Range (Skr) 79.60 - 52.10Mkt Cap (Skr bn) 213.0Shares O/S (mn) 3,183

Underweight Sek 66.90 30 November 2009

Price Target: Sek 62

Communucations Equipment

Rod Hall, CFA AC



Flagship reports • Fundamentals deteriorating but Q1

expected strong due to FX, 20 Apr 09 • CMD 2009, Not much new in

beantown, 08 May 09 • Q209 Wrap, Capex reckoning day

begins, 27 Jul 09 • California Dreamin' - San Jose Investor

Forum 2009, 17 Aug 09 • Q309 Wrap, Capex reckoning

intensifies. Reiterate UW, 23 Oct 09

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Performance (%) YTD 1M 3M 12M Abs (%) 13.8% -12.1% -2.8% 25.0% Rel (%) -6.0% -12.9% -3.5% 2.6%

159



Ericsson: Summary of Financials Profit and Loss Statement Cash flow statement Skr in millions, year end Dec FY08 FY09E FY10E Skr in millions, year end Dec FY08 FY09E FY10E Revenues 207,698 200,373 199,881 EBIT 21,678 15,054 22,581

% Change Y/Y 10.6% (3.5%) (0.2%) Depreciation & amortization 8,674 9,545 8,634Gross Margin (%) 36.4% 35.7% 35.6% Change in working capital (14,813) 2,160 19,367EBITDA 30,352 24,599 31,216 Taxes (1,033) (1,006) (1,320)

% Change Y/Y (22.2%) (19.0%) 26.9% Other 9,494 (17,570) (27,994)EBITDA Margin (%) 14.6% 12.3% 15.6% Cash flow from operations 24,000 8,184 21,268

EBIT 21,678 15,054 22,581 % Change Y/Y (29.3%) (30.6%) 50.0% Capex (4,133) (3,673) (2,970)EBIT Margin 10.4% 7.5% 11.3% Disposal / (Purchase) (4,411) (25,105) (993)

Net Interest 974 679 (349) Net interest - - -Earnings before tax 17,216 7,052 16,562 Free cash flow to firm 661 16,149 37,339

% change Y/Y (44.0%) (59.0%) 134.9% Tax (charge) 7,158 4,663 6,599 Equity raised/repaid 0 0 0

Tax as a % of BT 31.6% 29.6% 29.7% Debt Raised/repaid 0 0 0Net Income (Reported) 15,494 11,070 15,634 Other 1,032 10,421 0

% change Y/Y (30.0%) (28.6%) 41.2% Dividends paid (8,240) (5,976) (6,008)Shares OS 3,196.75 3,207.00 3,207.00 Beginning cash 31,584 41,087 24,168EPS (Reported) 4.72 3.38 4.79 Ending cash 41,087 24,168 35,466

% Change Y/Y (31.1%) (28.4%) 41.7% OpFCF 26,219 20,926 28,245 Balance sheet Ratio Analysis Skr in millions, year end Dec FY08 FY09E FY10E Skr in millions, year end Dec FY08 FY09E FY10E Cash and cash equivalents 75,005 74,998 86,296 Sales growth 10.6% (3.5%) (0.2%)Accounts Receivable 75,891 75,441 57,332 Gross Margin (%) 36.4% 35.7% 35.6%Inventories 27,836 22,109 20,852 EBITDA Margin (%) 14.6% 12.3% 15.6%Others - - - Operating Margin 10.4% 7.5% 11.3%Current assets 198,525 191,180 183,560 Net profit margin (%) 7.5% 5.5% 7.8%LT investments 14,060 15,087 13,957 Net profit growth (30.0%) (28.6%) 41.2%Net fixed assets 9,995 8,788 5,680 EPS growth (31.1%) (28.4%) 41.7%Total assets 285,684 265,927 251,186 Net debt (Cash) to Total Capital (24.5%) (20.6%) (29.5%)Liabilities Net debt (Cash) to equity (31.1%) (27.3%) (39.1%)ST loans 5,542 3,152 3,152 EV/Revenue 0.8 0.9 0.9Payables 23,504 19,661 18,543 EV/EBITDA 5.7 7.7 5.5Others - - - EV/EBIT 8.0 12.5 7.5Total current liabilities 104,117 82,048 77,677 ROA 8.2% 5.5% 8.7%Long term debt 24,939 34,017 32,043 ROE 10.9% 7.8% 11.5%Total liabilities 143,600 128,481 122,110 ROCE 12.4% 8.2% 12.6%Shareholders Equity 142,084 137,445 129,076 FCF Yield 4.4% 1.5% 5.7%Total liabilities and Shareholders' equity 285,684 265,927 251,186 P/E 14.2 19.8 14.0 Source: Company reports and J.P. Morgan estimates.

160



Fiat Few near-term positive catalysts, too much value assigned to Chrysler Concerns about the next cycle We believe Fiat has few near-term positive catalysts to warrant upside and remain convinced that the stock could see downside from current levels to €8-9 range. With the scrappage scheme expiring in Germany and the impact of schemes in Italy/France diminishing, volume outlook for Fiat Auto looks poor going into 2010 in our view. Fiat sees 25% downside to trading profit levels in 2010 if the Italian incentive scheme is not renewed. Further, the company outlook assumes flat Brazil volumes in 2010, which we believe remains a risk (as the company assumes continuation of tax incentives, which were removed on Oct 1). Upside from CNH/Iveco is unlikely given weak fundamentals in end markets. Current EV/Sales implies Chrysler value near €3/share, which we can justify only at a US SAAR of 15MM and EV/Sales multiple of ~50% (assumptions that we believe are premature at this stage with US SAAR near 10MM and market share uncertainties at Chrysler). Flexing downside We see the market pricing in €2-3/share in value for Chrysler already in Fiat shares, which we think is too much, too early. If Chrysler hits all targets (EBIT margins of 5-6%, volume of 2.4MM in 2012), we estimate Chrysler value to Fiat may be worth €4.5/share (assuming EV/Sales of 40%), which suggests another €2.5 (20%) of upside by 2011. We think this is insufficient for a medium-term recovery story that may well stutter. The downside (which we think is more likely) could result in Chrysler value falling to €0/share pushing Fiat from current levels to €8-9/share. Catalysts – 2010 and beyond We expect deterioration in auto volumes (WE SAAR to decline 8% in 2010E to 12.5MM vs. 13.6MM in 2009), once the impact of scrappage schemes diminishes in key end markets. Estimates on Chrysler should come down, if Chrysler US market share losses continue, suggesting 15-20% downside to Fiat shares from current levels. Valuation, target price, key risks Fiat is currently trading at 34% EV/Sales vs. historic average of 31%. Our SOTP based Jul-10 target price of €8.00 uses an EV/Sales of 25% for the Auto division (20% discount to hist. mass market EV/sales multiple) and EV/Sales of 44% for Iveco (20% discount to Volvo). Upside risks could come from i) faster recovery of car sales in Europe (or other Fiat key end markets through continuing government incentives) or if Fiat chooses to unlock value by selling some assets, and achieve better than expected cost savings; ii) better than expected US volumes and market share for Chrysler. Downside risks could come from i) further weakening Ag equipment sales at CNH; ii) any weakness in Italian car market that is significantly greater than other European car markets.

Fiat S.P.a (FIA.MI;F IM) FYE Dec 2008A 2009E 2010E 2011EAdj. EPS FY (€) 1.23 (0.02) 0.44 0.76Revenue FY (€ mn) 59,380 47,746 48,867 51,684EBIT FY (€ mn) 3,362 962 1,519 2,088EBIT margin FY 5.7% 2.0% 3.1% 4.0%EBITDA FY (€ mn) 5,901 3,611 4,168 4,713EBITDA margin FY 9.9% 7.6% 8.5% 9.1%Net Attributable Income FY (€ mn)

1,612 (538) 613 1,053


Company Data Price (€) 9.90Date Of Price 30 Nov 09Price Target (€) 8.00Price Target End Date 31 Jul 1052-week Range (€) 11.47 - 3.32Mkt Cap (€ bn) 10.4Shares O/S (mn) 1,054

Neutral €9.90 30 November 2009


Autos

Ranjit A Unnithan AC (44-20) 7325-8106 [email protected]

Flagship reports • Fiat: Initial thoughts on Chrysler

Business Plan, 05 Nov 09 • Fiat: Little upside, but material

downside risks, 22 Oct 09

Price Performance

3

7

11

€


FIA.MI share price (€)MSCI-Eu (rebased)

Performance (%) YTD 1m 3m 12m Abs 115.7% -2.6% 18.8% 80.0% Rel 95.9% -3.4% 18.1% 57.6%

161



Fiat: Summary of Financials Profit and Loss Statement Divisional Reporting € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Revenues 58,529 59,380 47,746 48,867 51,684 Revenue by division

% change Y/Y 12.9% 1.5% -19.6% 2.3% 5.8% Fiat Auto 26,812 26,937 25,177 25,601 26,761 Ferrari 1,660 1,907 1,680 1,856 2,040EBITDA (industrial) 5,314 5,843 3,664 4,107 4,674 Maserati 694 825 432 475 571

Industrial EBITDA Margin (%) 9.2% 10.0% 7.8% 8.6% 9.2% CNH 11,843 12,723 10,044 10,074 10,578OP - pre-restructuring 3,233 3,362 962 1,519 2,088 Iveco 11,196 10,768 6,585 7,290 8,019OP margin 5.5% 5.7% 2.0% 3.1% 4.0% Powertrain 7,075 7,000 4,655 4,816 5,035

% change Y/Y 65.7% 4.0% -71.4% 57.9% 37.4% Components 6,300 6,793 5,001 5,146 5,487 Other 1,378 1,394 1,066 1,055 1,065Restructuring -105 -165 -305 0 0 Eliminations -8,278 -8,678 -6,760 -7,302 -7,723Net interest (564) (947) (704) (706) (697) Pretax Profit Reported 2,773 2,187 -212 853 1,467 Operating profit by division Tax (719) (466) (329) (244) (417) Fiat Auto 803 691 379 518 707

Tax rate % 25.9% 21.3% 155.1% 28.6% 28.5% Ferrari 266 337 234 297 363Net Income (Reported) 1,953 1,612 (538) 613 1,053 Maserati 24 72 9 15 30 CNH 990 1,122 348 458 628Shares Outstanding 1,079.18 1,056.68 1,056.68 1,056.68 1,056.68 Iveco 813 838 104` 159 252EPS (reported) 1.54 1.29 -0.43 0.49 0.85 Powertrain 271 166 -33 4 36EPS (adjusted) 1.44 1.23 (0.02) 0.44 0.76 Components 238 236 -51 68 73

% change Y/Y 126.5% (14.5%) (102.0%) (1,872.8%) 73.4% Other -172 -102 -32 0 0 % Operating margin Fiat Auto 3.0% 2.6% 1.5% 2.0% 2.6% Ferrari 16.0% 17.7% 13.9% 16.0% 17.8% Maserati 3.5% 8.7% 2.0% 3.2% 5.2% CNH 8.4% 8.8% 3.5% 4.5% 5.9% Iveco 7.3% 7.8% 1.6% 2.2% 3.1% Powertrain 3.8% 2.4% -0.7% 0.1% 0.7% Components 3.8% 3.5% -1.0% 1.3% 1.3% Other -12.5% -7.3% -3.0% 0.0% 0.0%

Balance Sheet (Industrial Operations) Industrial Cash Flow & Ratio Analysis € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Intangibles 6,420 6,950 217 313 465 EBT 2,420 1,789 (385) 671 1,251PP&E 11,239 12,509 12,699 13,317 13,923 Tax (84) (98) (49) (47) (57)Investments 4,349 3,756 3,756 3,756 3,756 Depreciation & amortization 2,667 2,805 2,866 2,745 2,776Inventories 9,929 11,341 8,324 9,005 9,501 Provisions/other (40) (149) (165) - -Trade receivables 4,444 4,301 3,620 3,943 4,022 Change in working capital 1,675 -3,604 1,938 -110 -9Cash equivalents & marketable sec 5,546 2,604 7,915 7,853 8,290 Operating cash flow 5,756 156 3,820 3,398 3,971Other Assets 10,555 12,942 8,206 10,087 10,268 Net capex -2,986 -4,776 -3,201 -3,459 -3,533Total Industrial assets 52,482 54,403 44,737 48,275 50,225 FCFe 2,770 -4,620 619 -62 437(+) Financial Services Net Assets 2,486 2,565 2,708 2,842 3,001 Change in net liquidity 2,128 -6,304 924 -72 744Total Assets 60,053 61,735 58,281 59,100 61,169 Net industrial liquidity 355 (5,949) (5,025) (5,097) (4,353) DPS 0.40 0.00 0.00 0.00 0.00Equity 11,279 11,101 10,578 11,188 12,237 Total Debt 10,859 15,600 19,294 19,294 19,488 Sales/assets 1.0 1.0 0.8 0.8 0.8Pension 2,597 2,584 2,584 2,584 2,584 Net debt to equity 3.1% -53.6% -47.5% -45.6% -35.6%Trade payables 14,751 13,216 10,926 11,819 12,385 Working capital as a % of revenue -0.7% 4.2% 0.5% 0.6% 0.6%Other liabilities 15,482 14,467 4,063 6,232 6,532 ROCE (industrial, 35% tax) 17.0% 13.0% -0.5% 6.3% 8.3%Total liabilities 43,689 45,867 36,866 39,929 40,989 ROE 17.3% 14.5% -5.1% 5.5% 8.6%Total Liabilities and Equity 54,968 56,968 47,445 51,117 53,226 Source: Company reports and J.P. Morgan estimates.

162



Hermès Simply too expensive Concerns about the next cycle We have no major concerns over Hermès’ fundamentals. Its high exposure to Japan and relative low exposure to China are negative. The fact that Hermès is considering lowering prices in Japan in the near future highlights how tough and price sensitive this market is to all luxury players and even to the highly desirable Hermès brand. But, despite these negatives, Hermès undoubtedly does some critical things right. Its large and high margin Leather Goods division continues to post stellar growth (+16% in 9m 09) pulled by its iconic Kelly and Birkin bags. Lengthy waiting lists (owing to desired exclusivity management but also owing to capacity constraints) help to buffer the downturn in this category. The very strong performance of its Leather Goods division should enable Hermès to post a slight growth at Group level despite declines at other divisions in 09E and better performance than peers in 10E. Contrary to peers that are cutting opex costs, Hermès has sustained investments in the downturn (store roll outs in emerging markets and US). This is the right decision in the longer term in our view but puts pressure on EBIT Margin in the short term (-260bp in FY09E).

Flexing downside Divisions other than Leather Goods could remain under pressure in 2010 (in particular wholesale exposed Tablewear and Watches), and the leather goods division could also be limited somewhat in its future growth by capacity constraints (c50 more artisans in 09 vs 100 in previous years) and Japan exposure. Assuming that Hermès Group organic Sales growth in FY10E is at par with our sector average expectation of 5.7% vs a beat at 7.7%, this would cut our 2010E Group EBIT by 4%. But the key downside risk to valuation lies in Hermès family’s reiterated commitment to its holding (73%).

Catalysts – 2010 and beyond The next newsflow is FY09 Sales in Feb 10. The Hermes family could reiterate its commitment to its holdings at its AGM in May and at each yearly release.

Valuation, target price, key risks Hermès offers high margins and returns, resists better operationally in downturns and is a pure play – as such it does warrant a premium to the sector average in our view but not as much as the current 68% on FY10E PE (31x). The stock defies gravity vs our Dec-10 DCF based PT €66. The key risk to our stance on the company is that the family might decide to sell and Hermès falls prey to a larger group. Hermès is a coveted asset and would not be lacking in potential bidders/interest but some restrictions remain in place acting as a deterrent notably 3 poison pills (Société en commandite, Loi Breton, Fiscal Pacts) and the family has repeatedly reiterated its commitment to the company (incl family appointments at the Board).

Hermès International SCA (HRMS.PA;RMS FP) FYE Dec 2008A 2009E 2010E 2011EAdj. EPS FY (€) 2.76 2.65 3.04 3.35Revenue FY (€ mn) 1,765 1,884 1,989 2,148EBIT FY (€ mn) 449 430 475 522EBIT margin FY 25.5% 22.8% 23.9% 24.3%Net Attributable Income FY (€ mn)

290 277 318 351

Adj P/E FY 34.4 35.8 31.2 28.3EV/Revenue FY 5.8 5.4 5.1 4.7EV/EBITDA FY 19.9 20.1 18.4 17.0Source: Company data, Bloomberg, J.P. Morgan estimates.





Melanie A Flouquet AC (33-1) 4015-4485 [email protected]

Corinna Beckmann



for 2010 Sales growth, 10 Nov 09 • Hermès International: Long live

Hermès' iconic bags, 6 Nov 09

Price Performance

60

90

120

€


HRMS.PA share price (€)MSCI-Eu (rebased)

Performance (%) YTD 1m 3m 12m Abs -5.2% 0.1% -7.9% -1.6% Rel -26.7% 0.1% -11.0% -25.7%



163



Hermès International: Summary of Financials Profit and Loss Statement Cash flow statement € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Revenues 1,625 1,765 1,884 1,989 2,148 EBIT 414 449 430 475 522 % Change Y/Y 7.3% 8.6% 6.8% 5.6% 8.0% Depreciation & amortization 56 64 76 78 77 EBITDA 470 513 506 553 599 Change in working capital (32) (80) (67) 27 (5) % Change Y/Y 4.8% 9.1% (1.3%) 9.2% 8.4% Others (114) (134) (153) (158) (171) EBIT 414 449 430 475 522 Cash flow from operations 325 298 286 422 423 % Change Y/Y 3.3% 8.3% (4.2%) 10.5% 9.8% Capex (120) (156) (140) (147) (154) Net Interest 12 18 (0) 7 10 Disposal/(Purchase) 19 1 0 0 0 Extraordinary items 9 0 0 0 0 Others (42) (12) (83) 0 0 Reported PBT 436 467 430 482 532 Cash flow from investing (143) (166) (223) (147) (154) % Change Y/Y 5.1% 7.1% (7.9%) 12.2% 10.3% Dividends paid (107) (111) (105) (118) (130) Tax (144) (160) (142) (159) (176) Others (99) (45) (50) 0 0 Results of subsidiaries 2 (11) (5) 0 0 Cash flow from financing (205) (156) (155) (118) (130) Minorities (6) (5) (6) (6) (6) Forex (10) (1) 0 0 0 Net Income (Reported) 288 290 277 318 351 Consolidation (21) 0 0 0 0 % Change Y/Y 7.3% 0.8% (4.4%) 14.6% 10.5% Change in net cash (54) (25) (92) 157 139 Shares Outstanding 106.1 105.3 104.6 104.6 104.6 Beginning cash 502 448 423 331 488 EPS - adjusted 2.63 2.76 2.65 3.04 3.35 Ending cash 448 423 331 488 627 % Change Y/Y 10.6% 4.8% (3.8%) 14.6% 10.5% EPS (reported) 2.71 2.76 2.65 3.04 3.35 % Change Y/Y 8.2% 1.5% (3.8%) 14.6% 10.5% Balance sheet Ratio Analysis € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Cash and cash equivalent 156 120 28 185 324 EBITDA margin 29.0% 29.1% 26.9% 27.8% 27.9% Accounts Receivables 135 153 181 180 177 EBIT margin 25.5% 25.5% 22.8% 23.9% 24.3% Inventories 432 524 578 556 571 Net profit margin 17.7% 16.4% 14.7% 16.0% 16.3% Others 497 533 533 533 533 Tax rate (33.0%) (34.3%) (33.0%) (33.0%) (33.0%) Current assets 1,221 1,330 1,320 1,454 1,604 SG&A/Sales (35.1%) (34.7%) (35.9%) (36.0%) (35.8%) Net fixed assets 844 998 1,145 1,214 1,291 Total assets 2,065 2,328 2,464 2,668 2,895 Net debt to Total Capital (62.6%) (20.2%) 56.4% (36.2%) (43.6%) Net debt to equity (32.1%) (27.4%) (20.2%) (26.2%) (29.9%) ST Borrowings 61 71 71 71 71 Sales/assets 0.8 0.8 0.8 0.7 0.7 Payables 205 211 225 229 235 Assets/Equity 1.4 1.5 1.4 1.4 1.3 Others 206 316 316 316 316 ROE 28.3% 28.2% 25.1% 24.9% 24.5% Total current liabilities 471 597 612 615 622 ROCE 25.8% 24.1% 20.1% 21.5% 22.4% LT borrowings 25 24 24 24 24 Other liabilities 93 101 101 101 101 DPS 1.00 1.03 1.00 1.13 1.24 Total liabilities 590 723 737 741 748 Dividend payout ratio 36.8% 37.4% 37.9% 37.1% 37.0% Minorities 13 14 14 14 14 Shareholders' equity 1,475 1,605 1,727 1,927 2,148 Total Liabilities & SH Equity 2,065 2,328 2,464 2,668 2,895 BVPS 14 15 16 18 20 Source: Company reports and J.P. Morgan estimates.

164



Husqvarna 2010 could be a difficult year Concerns about the next cycle Top-line growth depends on the Western Consumer: Emerging Markets account for only ~10% of group revenues. We expect only a modest recovery in spending as unemployment remains high. We are concerned that the negative mix may continue with a lower share of Husqvarna branded products being sold.

Competition may come back: In 2008 and 2009, as competitors struggled due to lack of financing, HUSQ gained market share and benefited from relatively stable pricing. We expect the competitive environment to be tougher in 2010.

Limited savings in 2010 – risk of disruption from footprint restructuring: Husqvarna has reaped most of the benefits from the 2008 restructuring plan. The new restructuring initiatives launched this Fall will only provide full level of savings by 2012. Husqvarna’s multi-year footprint migration program may result in disruptions.

Professional likely to remain weak: The Professional division (one 1/3 of sales) sells into forestry (~45%), professional garden (~30%) and construction (~25%). We expect areas related to direct or indirect government spending (parts of forestry, municipal gardeners) and construction to remain weak in developed countries.

Large task ahead on footprint migration to LCC: We believe that HUSQ’s program to move production capacities to low cost countries is only the beginning of a long process. Husqvarna currently has one of the lowest proportions of employees in low cost countries at around 15% vs. sector average of 35% and Electrolux at 45%.

Flexing downside Our EBIT ests for Husqvarna are 18%/11% lower than current Bloomberg consensus for 2010/2011. Thus, at current trading multiples our ests imply c15% downside.

Catalysts – 2010 and beyond 2010 consensus EBIT estimates are too high, in our view. Longer term, we expect restructuring to provide some upside but the low cost manufacturing initiative may have to be expanded and it will take time for the benefits to materialize.

Valuation, target price, key risks Our TP for June 2010 is set at Skr42, based on 9.5x 2012E EV/EBIT (5% discount to sector avg. of 10x due to lack of EM growth potential) on a mid cycle margin of 10% and discounted back to June 2010. The key risk is a sharper than expected top line recovery driven by the Western Consumer or a weather related good spring season.

Husqvarna AB (HUSQb.ST;HUSQB SS)FYE Dec 2007A 2008A 2009E 2010E 2011EAdj. EPS FY (Skr) 5.44 3.34 1.88 2.50 3.42Adj P/E FY 8.9 14.6 25.8 19.5 14.2Revenue FY (Skr mn) 33,284 32,342 34,233 33,453 35,187EBIT FY (Skr mn) 3,564 2,361 1,744 2,289 3,078EBIT margin FY 10.7% 7.3% 5.1% 6.8% 8.7%Net Attributable Income FY (Skr mn)

2,029 1,278 1,034 1,433 1,962

Headline EPS FY (Skr) 5.28 3.34 1.88 2.50 3.42Headline P/E FY 9.2 14.6 25.8 19.5 14.2Source: Company data, Bloomberg, J.P. Morgan estimates.

Company DataPrice (Skr) 48.60Date Of Price 30 Nov 09Price Target (Skr) 42.00Price Target End Date 30 Jun 1052-week Range (Skr) 54.00 - 24.89Mkt Cap (Skr bn) 27.9Shares O/S (mn) 574

Husqvarna AB (HUSQb.ST;HUSQB SS)FYE Dec 2007A 2008A 2009E 2010E 2011EAdj. EPS FY (Skr) 5.44 3.34 1.88 2.50 3.42Adj P/E FY 8.9 14.6 25.8 19.5 14.2Revenue FY (Skr mn) 33,284 32,342 34,233 33,453 35,187EBIT FY (Skr mn) 3,564 2,361 1,744 2,289 3,078EBIT margin FY 10.7% 7.3% 5.1% 6.8% 8.7%Net Attributable Income FY (Skr mn)

2,029 1,278 1,034 1,433 1,962

Headline EPS FY (Skr) 5.28 3.34 1.88 2.50 3.42Headline P/E FY 9.2 14.6 25.8 19.5 14.2Source: Company data, Bloomberg, J.P. Morgan estimates.

Company DataPrice (Skr) 48.60Date Of Price 30 Nov 09Price Target (Skr) 42.00Price Target End Date 30 Jun 1052-week Range (Skr) 54.00 - 24.89Mkt Cap (Skr bn) 27.9Shares O/S (mn) 574

Underweight Skr49 30 November 2009

Price Target: Skr42

Capital Goods

Andreas Willi AC (44-20) 7325-4853 andreas.p.willi @jpmorgan.com

Nico Dil


Joseph Peter (44-20) 7325-7144 [email protected]

Bramen Singanayagam (44-20) 7325-6810 [email protected]

Flagship reports • Husqvarna : Deteriorating mix in

Consumer impacts Q3 results; Remain UW, 23 Oct 09

Price Performance

25

40

55

Skr


HUSQb.ST share price (SkrMSCI-Eu (rebased)

Performance (%) YTD 1M 3M 12M Abs (%) 39.5% 7.0% -5.2% 28.0% Rel (%) 19.7% 6.2% -5.9% 5.6%

165



Husqvarna: Summary of Financials Profit and Loss Statement (IFRS) Cash flow statement (IFRS) Skr in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Skr in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Revenues 33,284 32,342 34,233 33,453 35,187 Net income 2,029 1,278 1,034 1,433 1,962

% change Y/Y 13.2% (2.8%) 5.8% (2.3%) 5.2% Depreciation & amortisation 1,081 1,163 1,358 1,384 1,324 % Change like for like 3.0% (5.8%) (7.6%) 3.3% 5.2% Other non-cash items (1,168) (821) (613) (1,048) (1,107)

Gross profit 9,775 9,377 8,900 9,367 9,852 Change in net working Capital (576) 441 500 (371) (512) EBITDA (Ind Ops) 4,754 3,519 3,102 3,673 4,402 Cash flow from operattions 2,901 3,144 2,988 2,254 2,784 EBIT (Ind Ops) 3,564 2,361 1,744 2,289 3,078 Net Interest (675) (594) (500) (512) (555) Capex (698) (909) (753) (836) (880) Earning before tax 2,889 1,767 1,244 1,777 2,522 Investment in intangibles (159) (254) (250) (255) (260) Tax (853) (479) (203) (335) (551) Free cash flow from operations 2,044 1,981 1,985 1,163 1,644

as % EBT (29.5%) (27.1%) (16.4%) (18.9%) (21.9%) Free cash flow per share 5.3 5.2 3.6 2.0 2.9 Minorities (7) (10) (7) (8) (8) Net Income (Reported) 2,029 1,278 1,034 1,433 1,962 Disposal/(purchase) (8,876) (845) (432) 0 0

% Change Y/Y 9.0% (37.0%) (19.1%) 38.7% 36.9% Equity raised/(repaid) (166) (48) 2,988 0 0 Shares outstanding 384.60 383.20 548.72 573.80 573.80 Dividend paid (667) (873) (4) (689) (687) DPS 2.25 0.00 1.00 1.20 1.20 Other 84 (447) (9) 0 (0) EPS (reported) 5.28 3.34 1.88 2.50 3.42 Free cash flow (7,537) (200) (4,538) 474 957

% Change Y/Y (16.0%) (36.8%) (43.5%) 32.6% 36.9% EPS (adjusted) 5.44 3.34 1.88 2.50 3.42 Beginning net debt cash 4,288 11,825 12,025 8,041 7,567

% Change Y/Y (13.4%) (38.7%) (43.5%) 32.6% 36.9% Ending net debt cash 11,825 12,025 8,041 7,567 6,609 Balance sheet (IFRS) Ratio Analysis (IFRS) Skr in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Skr in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Cash and cash equivalents 1,216 1,828 1,911 2,385 3,343 Gross Margin 29.4% 29.0% 26.0% 28.0% 28.0% Accounts receivable 3,912 4,184 4,435 4,349 4,574 EBITDA margin 14.0% 10.9% 9.1% 11.0% 12.5% Inventories 7,758 8,556 8,539 8,865 9,325 EBIT margin 10.7% 7.3% 5.1% 6.8% 8.7% Other - - - - - Adj EBIT margin 11.0% 7.3% 5.1% 6.8% 8.7% Current Assets 12,976 15,475 15,606 16,319 17,962 ROE 27.6% 14.6% 7.5% 9.9% 12.4% ROCE 24.3% 10.9% 7.7% 10.4% 13.8% Intangibles and Other 11,515 13,827 13,543 13,543 13,543 Intrest coverage (x) 5.3 4.0 3.5 4.5 5.5 Net Fixed assets 4,312 5,035 5,130 4,838 4,653 Net debt to equity 160.0% 136.4% 58.2% 51.9% 41.7% Total Assets 28,803 34,337 34,279 34,701 36,158 Net debt/ EBITDA 2.5 3.4 2.6 2.1 1.5 ST Loans - - - - - EV/Sales 1.4 1.1 1.1 1.1 1.0 Payables 2,731 3,280 3,477 3,345 3,519 EV/EBITDA 10.1 10.3 11.6 10.0 8.1 Others 1,120 1,482 1,987 1,787 1,787 EV/EBIT 13.2 15.4 20.6 16.0 11.6 Total current Liabilities 3,851 4,762 5,464 5,132 5,306 EV/adj EBIT 12.8 15.4 20.6 16.0 11.6 Long Term Debt 13,041 13,853 9,952 9,952 9,952 Other Liabilities 4,285 4,516 4,769 4,777 4,785 P/E 9.2 14.6 25.8 19.5 14.2 Shareholder's equity 7,349 8,772 13,770 14,515 15,791 Adj. P/E 8.9 14.6 25.8 19.5 14.2

BVPS 19 23 25 25 28 FCF yield in % 6.2% 9.0% 7.7% 4.3% 6.1% Total Equity and liabilities 28,803 34,337 34,279 34,701 36,158 EV/CE 2.3 1.6 1.6 1.7 1.6 Source: Company reports and J.P. Morgan estimates.

166



Italcementi Too dependent on mature markets Concerns in the next cycle In our opinion, the key negatives for Italcementi are 1) less exposure to high growth emerging markets; 2) dependence on Italy and France, where we expect cement consumption to decline further in 2010. Our 12-month mid-cycle EPS-based price target for Italcementi (€10.3) suggests 16% upside to its current price, which is the lowest upside amongst the 8 European companies covered by the author. Hence, Italcementi is our key Underweight recommendation.

Flexing downside Our current valuation of Italcementi’s valuation (€10.3) is 32% above our estimate of its trough valuation in Jan-09 of €7.8. Furthermore, adverse trading in Italcementi’s growing markets in Middle East & Africa would negatively affect the company’s valuation.

Catalysts – 2010 and beyond Italy and France together account for 36% of our estimate of Italcementi’s mid-cycle EBITDA. Therefore, changes in cement demand and pricing in either country could significantly impact the share prices. The Pesenti family controls Italcementi. If at some point in the future they chose to exit the business, we estimate that their controlling shareholding could be worth a significant premium to the current share price.

Valuation, target price, key risks Our 12-month price target of €10.30 is based on our mid-cycle P/E-based valuation of the shares. We value the shares by multiplying our estimate of Italcementi’s mid-cycle EPS (€1.03) by our estimate of its long-term average P/E ratio. We assume that the one year forward P/E multiple averages in the future around 10.0x. Italcementi has historically traded on a higher multiple. However, these averages have been increased significantly by particularly high multiples in 1998 and 2007. The key risks that could keep our Underweight rating and target price from being achieved include the following: France and Italy together account for a major proportion of our estimate of Italcementi’s EBITDA, if cement volumes and prices in these two countries differed from our forecasts, our rating on the shares would probably be incorrect. Italcementi continues to grow by acquisition, which has both upside and downside risks.

Italcementi (ITAI.MI;IT IM) FYE Dec 2007A 2008A 2009E 2010E 2011EAdj. EPS FY (€) 1.52 0.93 0.44 0.33 0.44EBITDA FY (€ mn) 1,405 1,103 958 951 997EBITDA margin FY 23.4% 19.1% 19.1% 19.0% 18.9%EBIT FY (€ mn) 958 607 472 465 505EBIT margin FY 16.0% 10.5% 9.4% 9.3% 9.6%Tax rate FY 28.1% 35.3% 29.0% 30.0% 29.0%Cash EPS FY (€) 3.31 2.61 3.28 2.51 2.45Adj P/E FY 5.8 9.6 20.1 26.7 20.3EV/EBITDA FY 3.9 5.7 7.0 7.6 6.9DPS (Net) FY (€) 0.36 0.18 0.10 0.10 0.10Source: Company data, Bloomberg, J.P. Morgan estimates.

Company Data Price (€) 8.91Date Of Price 30 Nov 09Price Target (€) 10.30Price Target End Date 30 Nov 1052-week Range (€) 11.30 - 6.43Mkt Cap (€ bn) 2.5Shares O/S (mn) 279



Building Materials

Mike Betts AC (44-20) 7325-8976 [email protected]

Flagship reports

• Building Materials: Improving outlook. Increasing sector EPS estimates by 5-12%. Raising Ciment Francais and Eagle from UW to N. Lowering Holcim from OW to N., 08 Sep 09

Price Performance

6

9

12

€


ITAI.MI share price (€)MSCI-Eu (rebased)

Performance (%) YTD 1m 3m 12m Abs -0.9% -9.3% -15.4% 12.8% Rel -20.7% -10.1% -16.1% -9.6%






167



Italcementi: Summary of Financials Profit and Loss statement Cash flow statement € in millions, year-end Dec FY07 FY08 FY09E FY10E € in millions, year-end Dec FY07 FY08 FY09E FY10E Revenue 6,001 5,776 5,009 5,013 EBIT 958 607 472 465

% change Y/Y 2.5% (3.8%) (13.3%) 0.1% Change in working capital 17 (154) 192 (1) EBITDA 1,405 1,103 958 951 Depreciation & amortisation 447 496 487 486

% change Y/Y (2.1%) (21.5%) (13.1%) (0.8%) Interest (128) (148) (132) (154) EBITDA Margin (%) 23.4% 19.1% 19.1% 19.0% Other items (61) 11 - - Depreciation & amortization (447) (496) (487) (486) Taxes (311) (206) (103) (98)

EBIT 958 607 472 465 Cash flow from operations 2,328 1,832 1,874 1,649

% change Y/Y (5.4%) (36.6%) (22.3%) (1.4%) Capex (530) (698) (750) (534) EBIT Margin (%) 16.0% 10.5% 9.4% 9.3% Dividends paid (163) (154) (129) (85)

Interest (119) (87) (132) (154) Other financials 13 25 15 15 Free cash flow 230 (124) 36 79 Earnings before tax 852 421 355 327 Acquisitions / divestments (297) (341) 72 (141)

% change Y/Y (7.2%) (50.6%) (15.7%) (7.9%) Tax (239) (149) (103) (98) Cash (needed)/available (67) (465) 108 (62)

as % of EBT 28.1% 35.3% 29.0% 30.0% Change in equity (6) 13 - - Minorities interest (189) (133) (129) (136) Exchange adjustments - - - - Net Income (Reported) 424 139 123 93 Other - - - -

% change Y/Y (5.7%) (67.3%) (11.2%) (24.5%) Shares Outstanding 279.1 278.7 278.7 278.7 Decrease/(increase) in net debt (73) (452) 108 (62) EPS (reported) 1.52 0.50 0.44 0.33 Other (135) 191 - -

% change Y/Y (5.8%) (67.2%) (11.2%) (24.5%) EPS Adjusted 1.52 0.93 0.44 0.33 Net debt at year-end 2,418 2,679 2,691 2,753

% change Y/Y (5.1%) (39.0%) (52.4%) (24.5%) Balance sheet Ratio Analysis € in millions, year-end Dec FY07 FY08 FY09E FY10E € in millions, year-end Dec FY07 FY08 FY09E FY10E Cash and cash equivalents 450 575 575 575 Per share amounts Accounts receivable 1,645 1,470 1,465 1,465 Normalised EPS 1.52 0.93 0.44 0.33 Inventories 843 941 754 755 Normalised EPS pre-goodwill 1.52 0.93 0.44 0.33 Current assets 2,938 2,985 2,794 2,795 Dividend per share 0.36 0.18 0.10 0.10 Cash flow per share 8.34 6.57 6.72 5.92 Tangible Assets 4,144 4,282 4,498 4,687 Net tangible assets per share 12.5 11.9 11.8 12.1 Intangible assets 1,995 2,079 2,079 2,079 Financial assets 698 640 640 640 Multiples (No.) Net fixed assets 6,838 7,001 7,216 7,406 P/E multiple 5.4 8.8 18.4 24.4 Total assets 9,776 9,986 10,010 10,200 Price to book value 0.7 0.7 0.8 - Price to cash flow 1.1 1.4 1.3 1.5 Liabilities EBITDA multiple 3.9 5.7 7.0 7.6 ST loans (641) (601) (601) (601) EBIT multiple 5.7 10.4 14.2 15.6 Payables (1,351) (1,332) (1,332) (1,332) Total current liabilities (1,992) (1,933) (1,933) (1,933) Leverage (No.) Long term debt (2,213) (2,684) (2,696) (2,758) Net debt/equity 50.8% 58.1% 58.2% 57.9% Others (810) (754) (754) (754) Interest cover (x) 8.0 7.0 3.6 3.0 Total liabilities (5,016) (5,371) (5,383) (5,445) Payout ratio 23.7% 36.1% 22.6% 30.0% Total equity 4,761 4,615 4,627 4,756 Minority interests (1,281) (1,290) (1,329) (1,397) Shareholders' equity 3,479 3,325 3,297 3,358 Y/E shares outstanding 279 279 279 279 BVPS 12.5 11.9 11.8 - Source: Company reports and J.P. Morgan estimates.

168



IVG Refinancing done, but fundamentals remain tough Concerns about the next cycle IVG is the largest list property company in Germany, with assets across Europe. Having fallen 75% in calendar year 2008, the stock is up 8% 2009 ytd, underperforming the market by 14%, on concerns over leverage and refinancing. However, the stock has rallied by 85% since its low in Mar-09, as the company’s new management team did well in refinancing €1.3bn of debt, against the market’s expectations, while further progress has been made in €1bn of sales from the portfolio, and a recent equity issue raising €72m. Although the rally is to some extent justified, we think it has gone far enough, and the fundamentals remain tough: IVG remains a stock to avoid because of its low portfolio yield (NOI yield 5.1%), extremely high leverage (we estimate pro-forma LTV 87% including the hybrid as debt), low recurring cash flow (3Q annualized FFO was only €0.10, a 1.6% yield), while the rental market looks tough (like-for-like rents were down 3.1% yoy at 30-Sep, with a 1.4% decline qoq).

Flexing downside Due to the high leverage of 87% LTV (highest of our coverage among the investment companies), just a 1% decline in the portfolio value will hit NAV (and likely our price target) by -7.7%, and a 5% decline by -38.5%. The leverage works to the upside too, but we think the already low portfolio yield of 5.1% will limit potential yield compression in the future.

Catalysts – 2010 and beyond IVG still needs to degear, and will likely continue to sell assets in 2010. We think further asset sales will be a good test of the portfolio yields. Although a recent €470m portfolio was sold in-line with the book value, the majority of the assets were in Italy, and not Germany, IVG’s core market.

IVG has made multiple public statements saying that it would consider a “large” capital increase, if investment opportunities arise.

Valuation, target price, key risks Our Sep-10 price target of €3 indicates 50% downside from current levels, and is based on our European Valuation model where we calculate a value creation spread of -2.1% between our forecast total return and our WACC estimate of 7.5%. The stock trades at a 15% discount to its Sep-09 balance sheet NAV of €7.16 vs. an average discount of 24% for our European coverage on 2009E NAV estimates.

As noted above, any increase in portfolio valuation will lead to a highly geared uplift on NAV. Strong rental growth or unexpected yield compression would lead to this.

IVG Immobilien (IVGG.DE;IVG GR)FYE Dec 2008A 2009E 2010E 2011EAdj. EPS FY (€) (0.71) (0.61) (0.60) (0.54)DPS FY (€) 0.00 0.00 0.00 0.00ROIC FY -1.5% -1.3% 3.6% 6.4%Adjusted NAV ps FY (€) 10.2 7.4 7.6 9.2NAV premium (discount) FY (43.8%) (23.1%) (25.3%) (38.2%)Property investments FY (€ mn) 5,172 4,427 4,313 4,363LTV (Loan-to-value) FY 89.5% 94.5% 94.1% 91.2%EVA spread FY -9.0% -8.8% -3.9% -1.1%Source: Company data, Bloomberg, J.P. Morgan estimates.

Company Data Price (€) 6.21Date Of Price 30 Nov 09Price Target (€) 3.00Price Target End Date 30 Sep 1052-week Range (€) 9.96 - 3.20Mkt Cap (€ bn) 0.8Shares O/S (mn) 126


Price Target: €3

Property

Harm Meijer AC






Flagship reports • European Property Handbook: Castles

Made of Sand, 01 Sep 09 • The Property Ticker (daily)

Price Performance

2

5

8

€


IVGG.DE share price (€MSCI-Eu (rebased)

Performance (%) YTD 1m 3m 12m Abs 8.6% 2.0% 13.7% 82.6% Rel -11.2% 1.2% 13/0% 60.2%

169



IVG Immobilien: Summary of Financials Profit and Loss Statement Per share data € in millions, year end Dec FY08 FY09E FY10E FY11E € in millions, year end Dec FY08 FY09E FY10E FY11E Property income 609 534 543 556 Adjusted EPS (0.71) (0.61) (0.60) (0.54)

% Change Y/Y - (12.3%) 1.8% 2.3% % change Y/Y - - - -Rental income 400 373 383 393 Indirect result (3.14) (1.75) 0.46 1.71Other income 209 161 160 163 % change Y/Y - (44.1%) (126.3%) 271.4%

EBITDA 207 214 220 226 EPS (IFRS) (3.85) (2.37) (0.14) 1.18% Change Y/Y - 3.0% 2.8% 2.8% % change Y/Y - (38.6%) (94.0%) (924.6%)

Net interest (275) (269) (274) (272) DPS 0.00 0.00 0.00 0.00Earnings before tax (67) (55) (54) (46) % change Y/Y - - - -

% change Y/Y - (18.4%) (1.6%) (15.4%) Gross cash flow -0.66 -0.60 -0.59 -0.52Tax 0 0 0 0 % change Y/Y - (10.0%) (1.2%) (11.5%)

as % of EBT 0.0% 0.0% 0.0% 0.0% NNNAV (IFRS) 8.2 5.7 6.0 7.4Minorities 0 0 0 0 % change Y/Y - (29.6%) 3.8% 23.6%Adjusted net income (99) (87) (86) (77) Adjusted NAV 10.2 7.4 7.6 9.2

% change Y/Y - (12.5%) (1.0%) (9.7%) % change Y/Y - (27.0%) 2.9% 21.0%Revaluation (583) (428) (114) 50 Capital gain tax 45 40 (0) (25) Cash flow statement Other 0 0 0 0 EBITDA 207 214 220 226Minorities 0 0 0 0 Gross cash flow 354 30 98 137Indirect profit (384) (215) 57 210 Net cash flow 344 (209) (9) 97Total profit (IFRS) (483) (302) (29) 132 Total cash flow requirement 344 (209) (9) 97 Balance Sheet Ratio Analysis € in millions, year end Dec FY08 FY09E FY10E FY11E € in millions, year end Dec FY08 FY09E FY10E FY11E Cash and cash equivalents 44 44 44 44 Operating return 3.0% 4.6% 5.2% 5.8%Accounts receivable 249 249 249 249 Capital return (4.5%) (5.9%) (1.7%) 0.5%Others 1,002 1,621 1,770 1,820 ROIC (1.5%) (1.3%) 3.6% 6.4%Current assets 1,295 1,914 2,063 2,113 WACC 7.5% 7.5% 7.5% 7.5% EVA spread (9.0%) (8.8%) (3.9%) (1.1%)Property investments 5,172 4,427 4,313 4,363 Property not in operation 368 368 368 368 ROE (recurring) (10.0%) (10.3%) (12.1%) (9.6%)Total assets 7,876 7,749 7,784 7,884 ROE (total) (48.8%) (35.8%) (4.1%) 16.4% Short term debt 1,349 1,349 1,349 1,349 Net debt / total assets 75.6% 79.6% 79.3% 77.1%Others 502 502 502 502 Net debt/ equity 599.2% 883.8% 852.8% 678.2%Total current liabilities 1,852 1,852 1,852 1,852 Equity / assets 12.6% 9.0% 9.3% 11.3% Long term debt 4,250 4,459 4,468 4,371 Property income / assets 7.7% 6.9% 7.0% 7.1%Other liabilities 935 889 889 914 Rental income / assets 5.1% 4.8% 4.9% 5.0%Shareholders' equity 987 692 718 890 EBITDA / assets 2.6% 2.8% 2.8% 2.9%Group equity 990 695 721 893 % change Y/Y - 4.7% 2.4% 1.5%Total liabilities and equity 7,876 7,749 7,784 7,884 Source: Company reports and J.P. Morgan estimates.

170



Lagardère Magazines under structural threat and little growth expected in the publishing division Concerns about the next cycle We see little organic revenue growth for Lagardère in the medium term (1.9% 2010-12E) and following the expected -1.3% decline in ’09, we expect organic revenue growth of 2.1% in ’10 and 1.7% in ’11. We see the company as a “hybrid investment case” with approximately half of revenues cyclical and half defensive. The defensive part will not benefit from the expected advertising recovery in ’10 and we think it will be difficult for the consumer book division (organic revenue growth +6.5% FY09E, +1.5% FY10E) to find another strong success in ’10. In addition, the development of e-books devices could become a serious threat to the consumer book business model in the future. We also expect the magazines division (17% of FY09E revenues) to be penalized by structural issues as circulation continues to decline, and we believe that our +3.8% FY10 revenue growth estimate already assumes an optimistic scenario following the expected -11% decline in FY09. Flexing downside We expect Lagardère Media recurring EBIT to grow by 4.2% y/y in FY10 following an expected -7.6% decline in ’09. Magazines is the area facing higher risks and if we assume flat advertising revenues in ’10 (vs our current expectations of +3.8%) and an operating margin of 5% (vs our current expectation of 7.1%) we would reduce Lagardère Media recurring EBIT by -5%. The Sport division is also an area of concern: assuming in FY10 the same EBIT recorded in FY08 (€75m vs our current FY10 estimate of €84m) and adding the negative scenario for magazines, we would reduce Lagardère Media recurring EBIT 10E by 7%. Catalysts – 2010 and beyond A take off of ebooks outside the US in ’10 – not yet a market in Europe, only 3% of LGD’s sales in the US – could hamper growth expectations for the consumer publishing division, which we expect to contribute 42% to ’10 Lagardère Media recurring EBIT. Positive catalysts would be: continued growth at the publishing division, growth in the circulation of magazines and improving sales in the airport retailers. Valuation, target price, key risks Our DCF/SoP based Dec-10 price target of €30.7 implies no upside to the current share price. With an EV/EBITDA10E of 5.4x the stock trades in line with Vivendi, which has, in our view, better assets and higher dividend yield (7.4% vs 5.0%). Risks to our rating and price target are: 1) the improving economic environment and impacts positively (more than expected) the cyclical businesses of Lagardère; 2) Lagardère continues to rationalize its assets by selling the distribution business, the audiovisual business or the EADS stake, or undertakes a major (more than 10%) share buy back plan.

Lagardère (Lagardère SCA) (LAGA.PA;MMB FP) FYE Dec 2007A 2008A 2009E 2010E 2011EAdj. EPS FY (€) 2.37 4.11 3.33 3.44 3.66Revenue FY (€ mn) 9,075 8,620 8,480 8,593 8,687EBITDA FY (€ mn) 839 848 791 823 824EBIT FY (€ mn) 636 647 599 632 637Net Attributable Income FY (€ mn)

534 593 647 371 413

DPS (Net) FY (€) 1.30 1.30 1.45 1.49 1.50FCF FY (€ mn) 438 201 499 447 444EBIT margin FY 7.0% 7.5% 7.1% 7.4% 7.3%Source: Company data, Bloomberg, J.P. Morgan estimates.




Media Conglomerate


Julie Duval


Flagship reports • Lagardère. 9M09 revenues below

JPMe driven structural issues in Active. Consumer publishing outlook is tarnished by difficult comp and ebook, 05 Nov 09

• European Media Strategy and Data watch, 21 Sep 09

Price Performance

15

25

35

€


LAGA.PA share price (€)MSCI-Eu (rebased)


171



Lagardère: Summary of Financials

Profit and Loss statement Cash flow statement € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Revenue 9,075 8,620 8,480 8,593 8,687 EBITA 675 697 628 659 659

% change Y/Y 8.3% -5.0% -1.6% 1.3% 1.1% Depreciation & amortisation 203 201 192 190 187 EBITDA 839 848 791 823 824 Change in working capital (23) (141) 99 (3) (3)

% change Y/Y 29.3% 1.1% -6.7% 4.0% 0.2% Other -387 -509 -272 -203 -199 EBITDA Margin (%) 9.2% 9.8% 9.3% 9.6% 9.5% Cash flow from operating activities 429 198 618 617 622

EBITA 675 697 628 659 659 % change Y/Y 29.6% 3.3% -9.9% 5.0% -0.1% Net Capex (194) (191) (220) (223) (226) EBITA Margin 7.4% 8.1% 7.4% 7.7% 7.6% Disposals/ (purchase) (302) 269 694 0 0

Interest (204) (176) (101) (54) (48) Other investing cash flow 11 -1 0 0 0 Earnings before tax 663 649 834 631 693 Cash flow from investing activities -485 77 474 -223 -226

% change Y/Y 61.3% -2.1% 28.5% -24.3% 9.7% Tax (99) (22) (131) (154) (164) Equity raised/(repaid) (330) (102) 0 0 0

as % of EBT 14.9% 3.4% 23.2% 22.0% 22.0% Debt raised/(repaid) -137 131 -892 -167 -168 Minorities (30) (34) (56) (106) (116) Dividends paid (181) (202) (199) (227) (228) Net Income 534 593 647 371 413 Other financing cash flow 5 2 0 0 0

% change Y/Y 83.5% 11.0% 9.0% -42.6% 11.1% Change in cash -699 104 0 0 0 Shares Outstanding 132.7 128.8 132.0 134.6 132.1 Reported EPS 4.02 4.60 4.90 2.76 3.12 Net debt/(cash) 2,570 2,619 1,727 1,560 1,392 Adjusted EPS 2.37 4.11 3.33 3.44 3.66 EV FCF 438 201 499 447 444 DPS 1.30 1.30 1.45 1.49 1.50 Equity FCF 235 7 398 393 396 Balance sheet Ratio Analysis € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Cash and cash equivalents 733 835 835 835 835 EBITDA Margin (%) 9.2% 9.8% 9.3% 9.6% 9.5% Accounts receivable 1,585 1,647 1,484 1,504 1,520 Operating margin 7.4% 8.0% 7.4% 7.6% 7.5% Inventories 529 551 509 516 521 Net profit margin 5.9% 6.9% 7.6% 4.3% 4.7% Other current assets 1,442 1,494 800 800 800 Personnel costs % sales - - - - - Net Current assets 4,289 4,527 3,628 3,654 3,677 Organic sales growth 3.3% 3.1% -1.3% 2.1% 1.7% LT investments 2,847 2,443 2,565 2,697 2,853 Sales growth 8.3% -5.0% -1.6% 1.3% 1.1% Net fixed assets 640 636 670 704 739 Net profit growth 83.5% 11.0% 9.0% -42.6% 11.1% Other LT assets 600 405 405 405 405 Adj EPS growth NM 73.6% NM 3.3% 6.4% Intangible Assets 4,403 4,320 3,812 3,736 3,684 FCF growth 53.1% -54.1% 148.1% -10.3% -0.8% Total assets 12,779 12,331 11,080 11,197 11,358 Interest coverage (x) 3.1 3.7 5.9 11.8 13.3 Liabilities Net debt/EBITDA 3.1 3.1 2.2 1.9 1.7 ST loans 1,479 1,191 499 499 499 Net debt to equity 54.2% 57.7% 34.1% 28.9% 24.1% Payables 1,849 1,845 1,738 1,762 1,781 Sales/assets 0.7 0.7 0.8 0.8 0.8 Other current liabilities 1,837 1,691 1,691 1,691 1,691 Capex/sales 2.1% 2.2% 2.6% 2.6% 2.6% Total current liabilities 5,165 4,727 3,928 3,952 3,971 FCF conversion 64.9% 28.8% 79.4% 67.8% 67.3% Long term debt 1,960 2,380 1,488 1,321 1,153 ROCE 6.9% 8.5% 7.1% 7.4% 7.3% Other liabilities 995 778 778 778 778 ROE 11.9% 13.6% 14.5% 8.2% 9.2% Total LT liabilities 2,955 3,158 2,266 2,099 1,931 Shareholders' equity 4,659 4,446 4,949 5,200 5,501 Total liabilities 12,779 12,331 11,143 11,251 11,403 Source: Company reports and J.P. Morgan estimates.

172



Nordea Expensive with risk of disappointment Concerns about the next cycle We see more limited opportunities in the next economic cycle compared to peers in terms of gearing to interest rate increases and credit normalization. With regards to credit we see more negative than positive risk here, as expectations for low normalized loan losses are more than fully priced in whilst Nordea retains some higher risk exposures (1/3 of the book in Baltics, Shipping, Property Management, Private Equity, Poland). We also see more limited franchise opportunities to drive growth for Nordea, as competition is already limiting scope for corporate market share gains, and international expansion (with Poland as the current focus) is unlikely to be a significant group contributor in the medium term.

Flexing downside We already see 8% downside to our 31st December 2010E PT, on estimates that are largely in line with consensus. Further downside could come from more limited NIM expansion (we see NII up 7% and 12% in 2010E and 2011E) and less cost control (where we have Nordea maintaining the current underlying cost growth into 2010E and 2011E). Sensitivity to the upside is limited especially on the interest rate side, with the 12 month effect of a 100bp rise in interest rates equivalent to only 1.5% of annualised Q309 revenues. In terms of provisioning, reducing our 48bp 2011E estimate to 35bp normalised would add 13% to net profit, taking 2011E EPS up to €0.66 per share, still leaving the stock trading at 11x 2011E earnings.

Catalysts – 2010 and beyond Other than the interest rate cycle (where we expect rate to be low for long), and news flow on problem areas (the Baltics, shipping), in our view the key driver will be speculation over material M&A activity. We would expect Nordea to be the acquirer if this were to occur, which we view negatively, as we expect it will be harder to find value creating opportunities in an environment where the sector has already recapitalised and re-rated, and so risk of overpaying has increased

Valuation, target price, key risks Our end-Dec 2010 SOTP price target for Nordea is 67 SEK, equivalent to 1.2x 2011E NAV, which we feel is a fair multiple for the bank considering its low 13% normalized RoE. Nordea’s RoE peaked in 2006 with a 19% RoE on loan loss recoveries amounting to 12bp and almost 10% to group pretax profit. In our view the key risks to our UW rating and price target are i) stronger than expected loan volume recovery driving stronger revenues, ii) better costs control, iii) lower normalized loan (below 35bp including the impact of dynamic provisioning) losses, iv) a 2010/2011 earnings accretive acquisition.

Nordea Bank AB (NDA.ST;NDA SS)FYE Dec 2008A 2009E 2010E 2011EAdj. EPS FY (€) 1.05 0.61 0.47 0.58Adj P/E FY 6.6 11.4 14.8 11.8NAV/Sh FY (€) 5.9 4.8 5.1 5.4P/NAV FY 1.2 1.4 1.4 1.3ROE FY 15.6% 12.2% 8.3% 9.8%ROA FY 0.6% 0.5% 0.4% 0.5%Dividend (Net) FY (Skr) 0.20 0.21 0.22 0.26Net Attributable Income FY (€ mn)

2,722 2,443 1,889 2,356


Company DataPrice (Skr) 72.30Date Of Price 30 Nov 09Price Target (Skr) 67.00Price Target End Date 31 Dec 1052-week Range (Skr) 79.10 - 30.81Mkt Cap (Skr bn) 291.9Shares O/S (mn) 4,037Mkt Cap ($ bn) 41.8

Nordea Bank AB (NDA.ST;NDA SS)FYE Dec 2008A 2009E 2010E 2011EAdj. EPS FY (€) 1.05 0.61 0.47 0.58Adj P/E FY 6.6 11.4 14.8 11.8NAV/Sh FY (€) 5.9 4.8 5.1 5.4P/NAV FY 1.2 1.4 1.4 1.3ROE FY 15.6% 12.2% 8.3% 9.8%ROA FY 0.6% 0.5% 0.4% 0.5%Dividend (Net) FY (Skr) 0.20 0.21 0.22 0.26Net Attributable Income FY (€ mn)

2,722 2,443 1,889 2,356


Company DataPrice (Skr) 72.30Date Of Price 30 Nov 09Price Target (Skr) 67.00Price Target End Date 31 Dec 1052-week Range (Skr) 79.10 - 30.81Mkt Cap (Skr bn) 291.9Shares O/S (mn) 4,037Mkt Cap ($ bn) 41.8

Underweight 72.3 SEK 30 November 2009

Price Target: 67 SEK

Banks

Nana A Francois, CFA AC


Kian Abouhossein (44-20) 7325-1532 [email protected]

Flagship reports • DnB NOR: Upgrade to OW, 01 Jun 09 • Swedbank and SEB: Rough Baltics

Seas, 13 Oct 09

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Nordea Bank AB: Summary of Financials Profit and Loss Statement Ratio Analysis € in millions, year end Dec FY07A FY08A FY09E FY10E FY11E € in millions, year end Dec FY07A FY08A FY09E FY10E FY11E Per Share Data Net interest income 4,282 5,124 5,289 5,636 6,317 EPS Reported 1.17 1.05 0.61 0.47 0.58

% Change Y/Y 10.7% 19.7% 3.2% 6.6% 12.1% EPS Adjusted 1.12 1.05 0.61 0.47 0.58Non-interest income 3,484 3,097 3,940 3,289 3,386 % Change Y/Y 8.8% (6.6%) (42.4%) (22.7%) 24.7%Fees & commissions 2,140 1,855 1,703 1,897 2,047 DPS 0.50 0.20 0.21 0.22 0.26

% change Y/Y 3.2% (13.3%) (8.2%) 11.4% 7.9% % Change Y/Y 2.0% (59.9%) 5.7% 1.6% 22.0%Trading revenues 1,187 1,028 2,070 1,212 1,147 Dividend yield 7.9% 3.2% 3.3% 3.4% 4.1%

% change Y/Y 14.6% (13.4%) 101.4% (41.5%) (5.4%) Payout ratio 42.7% 19.1% 35.0% 46.0% 45.0%Other Income 116 172 114 110 120 BV per share 6.59 6.84 5.50 5.75 6.12Total operating revenues 7,766 8,221 9,229 8,925 9,702 NAV per share 5.78 5.86 4.82 5.08 5.45

% change Y/Y 5.4% 5.9% 12.3% (3.3%) 8.7% Shares outstanding 2,593.0 2,590.0 4,037.0 4,037.0 4,037.0Admin expenses 2,388 2,574 2,681 2,770 2,896

% change Y/Y 6.1% 7.8% 4.1% 3.3% 4.5% Return ratios Other expenses 1,678 1,780 1,756 1,989 2,175 RoRWA - 1.6% 1.4% 1.1% 1.2%Pre-provision operating profit 3,700 3,867 4,792 4,167 4,631 Pre-tax ROE 22.0% 19.4% 14.7% 10.8% 12.7%

% change Y/Y 4.4% 4.5% 23.9% (13.1%) 11.2% ROE 18.0% 15.6% 12.2% 8.3% 9.8%Loan loss provisions 60 -452 -1,535 -1,648 -1,490 RoNAV 20.8% 18.0% 14.1% 9.4% 11.1%Other provisions - - - - - Earnings before tax 3,763 3,415 3,257 2,519 3,142 Revenues

% change Y/Y (1.2%) (9.2%) (4.6%) (22.7%) 24.7% NIM (NII / RWA) 1.5% 1.6% 1.5% 1.6% 1.7%Tax (charge) (721) (723) (814) (630) (785) Non-IR / average assets 0.9% 0.7% 0.8% 0.7% 0.7%

% Tax rate 19.2% 21.0% 25.0% 25.0% 25.0% Total rev / average assets 2.1% 1.9% 1.9% 1.8% 1.9%Minorities - - 0 0 0 NII / Total revenues 55.1% 62.3% 57.3% 63.1% 65.1%Net Income (Reported) 3,042 2,722 2,443 1,889 2,356 Fees / Total revenues 27.6% 22.6% 18.5% 21.3% 21.1% Trading / Total revenues 15.3% 12.5% 22.4% 13.6% 11.8% Balance sheet € in millions, year end Dec FY07A FY08A FY09E FY10E FY11E € in millions, year end Dec FY07A FY08A FY09E FY10E FY11E ASSETS Cost ratios Net customer loans 244,682 265,100 285,493 295,107 316,487 Cost / income 52.4% 53.0% 48.1% 53.3% 52.3%

% change Y/Y 14.3% 8.3% 7.7% 3.4% 7.2% Cost / assets 1.0% 0.9% 0.9% 0.9% 1.0%Loan loss reserves 957 1,170 2,187 2,778 3,115 Staff numbers 21,006 - - - -Investments - - - - - Other interest earning assets 29,282 27,060 18,240 18,340 18,444 Balance Sheet Gearing

% change Y/Y 1.3% (7.6%) (32.6%) 0.5% 0.6% Loan / deposit 171.9% 178.4% 190.2% 187.7% 191.7%Average interest earnings assets 290,628 324,276 343,376 353,744 369,807 Investments / assets 13.7% 11.7% 11.2% 11.1% 11.0%Goodwill 2,088 2,535 2,714 2,714 2,714 Loan / assets 62.9% 55.9% 57.9% 58.7% 61.4%Other assets - - - - - Customer deposits / liabilities 38.3% 32.6% 31.9% 32.8% 33.6%Total assets 389,054 474,074 493,160 503,023 515,599 LT Debt / liabilities 25.6% 23.0% 22.8% 22.3% 21.8% LIABILITIES Asset Quality / Capital Customer deposits 142,329 148,591 150,135 157,259 165,121 Loan loss reserves / loans 0.4% 0.4% 0.8% 0.9% 1.0%

% change Y/Y 12.6% 4.4% 1.0% 4.7% 5.0% NPLs / loans 0.5% 0.8% 1.5% 1.6% 1.6%Long term funding 99,792 108,989 112,198 112,198 112,198 LLP / RWA (0.03%) 0.27% 0.90% 0.90% 0.76%Interbank funding 30,077 51,932 53,966 53,966 53,966 Loan loss reserves / NPLs 72.4% 52.6% 51.7% 60.3% 63.0%Average interest bearing liabs 265,044 298,738 320,759 327,358 334,851 Growth in NPLs (11.7%) 68.4% 90.1% 9.0% 7.3%Other liabilities - - - - - RWAs 171,500 168,600 170,253 182,966 196,222Retirement benefit liabilities - - - - - % YoY change - (1.7%) 1.0% 7.5% 7.2%Shareholders' equity 17,238 17,881 22,352 23,386 24,874 Core Tier 1 5.5% 6.2% 9.2% 9.7% 9.1%Minorities 78 78 83 83 83 Total Tier 1 6.2% 7.4% 10.6% 10.4% 9.9%Total liabilities & Shareholders Equity 389,054 474,074 493,160 503,023 515,599 Source: Company reports and J.P. Morgan estimates.

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Oriflame See margin ambitions stretched given likely growth Concerns about the next cycle We continue to believe that Oriflame will benefit from underlying growth in Eastern Europe markets. The growth prospects of its direct selling model should continue to play out in tough times, though the beauty market in Eastern Europe should remain soft with stronger growth opportunities in the value segments, hence our forecasts of lower productivity and negative ‘Mix’. Consequently we have turned increasingly cautious that this growth will fail to foster margin expansion. We struggle to see how management will bridge the margin gap of 4% between its FY09 guidance of 11% vs its MT guidance of 15%. Despite a strong top line growth profile a pedestrian margin since 2004 has shown the lack of operating leverage in the business model. Without a rebound of the Rouble and other Eastern European currencies vs the Euro, we believe margin increase will be hard to get. While Oriflame is planning to source more of its sales locally (50% is now Euro sourced) there is little visibility on timeline and the scope of benefits. Flexing downside We expect LC growth of 11.4% and margins of 11.4% (after a -50bps impact from FX) in 2010. As earnings growth relies heavily on top line, any weakness in volume or difficulties to pass on price increases would jeopardise our 24% 2010E EPS growth recovery. Furthering weakening of Russian Rouble and other EE currencies by 0.1% would impact the margins by c10-15bps (see our Oct 19 note, “Ahead of Q309”) leading to 1.0%-1.5% cut in our EPS estimates. Catalysts – 2010 and beyond While Oriflame’s quarterly performance in 2009 has been mixed, we see risks of further evidence of poor quality top line growth in 2010. With FY09 results due on February 10, we are also cautious that margin performance could disappoint consensus expectations. Finally the macro-economic drivers in Eastern Europe and FX developments versus the Euro could be positive or negative catalysts throughout 2010 and could impact the stock in a more substantial manner than company specific fundamentals. Valuation, target price, key risks While our DCF (WACC 11.5%, LT growth 3.0%) points to a price target of SEK400, we value Oriflame at SEK350, Dec-10 based, on a 16.0x PE2010E, a 10% discount (due to Oriflame’s emerging market exposure) to the sector (at 17.8x). Oriflame trades at 18.9x PE10E, 12.9x EV/EBITDA – at a premium to the European HPC sector (17.8x PE, 11.9x EV/EBITDA) and ahead of its biggest peer Avon at 16.4x PE10E. In the light of downside risk to margin, we believe the stock is too expensive. We point out that the upside risks to our thesis are a sharp strengthening of the Rouble vs the Euro and potential M&A speculation should an FMCG/Beauty player look to acquire a direct selling company.

Oriflame Cosmetics SA (ORIsdb.ST;ORI SS) FYE Dec 2006A 2007A 2008A 2009E 2010EAdj. EPS FY (€) 1.63 2.05 2.31 1.67 2.07Adj P/E FY 24.0 19.1 17.0 23.5 18.9EV/EBITDA FY 12.3 13.4 7.1 14.8 13.1Revenue FY (€ mn) 918 1,109 1,320 1,309 1,434EBIT margin FY 13.8% 14.0% 14.2% 10.9% 11.4%Cash EPS FY (€) 1.49 1.11 0.76 0.94 1.53DPS (Net) FY (Skr) 1.01 1.25 1.25 1.05 1.25FCF Yield FY 5.5% 4.1% 4.1% 2.7% 4.4%Source: Company data, Reuters, J.P. Morgan estimates.

Company Data Price (Skr) 411.00Date Of Price 30 Nov 09Price Target (Skr) 350.00Price Target End Date 31 Dec 1052-week Range (Skr) 420.50 - 176.00Mkt Cap (Skr bn) 23.2Shares O/S (mn) 57

Underweight SKr 411.00 30 November 2009

Price Target: Skr 350.00

Cosmetics & Personal Care

Celine Pannuti AC (44-20) 7325-9276 [email protected]

Flagship reports • Ahead of Q309 - Why a weak Q3

should trigger earnings downgrade, 19 Oct 09

• European HPC: Earnings upside ST, but MT concerns of weaker growth in a value driven world remain; downgrade Oriflame to UW, 24 Sep 09

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Oriflame: Summary of Financials Profit and Loss Statement Cash flow statement € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Revenues 1,109 1,320 1,309 1,434 1,552 EBIT 155 187 143 163 200

% change Y/Y 20.8% 19.0% -0.8% 9.6% 8.2% Depreciation & Amortization 18 22 22 24 26 Gross Margin (%) 70.1% 68.9% 65.5% 65.2% 66.2% Change in working capital (16) (67) (28) (16) 11 EBITDA 174 209 165 187 226 Taxes (15) (17) (17) (21) (28)

% change Y/Y 22.6% 20.2% -20.8% 13.3% 20.7% Cash Flow from Operations 132 134 138 171 238 EBITDA Margin (%) 15.7% 15.8% 12.6% 13.1% 14.6%

EBIT 155 187 143 163 200 Capex (34) (36) (36) (39) (42) % change Y/Y 22.3% 20.5% -23.5% 13.8% 22.6% Disposal/ (purchase) 0 3 0 0 0 EBIT Margin (%) 14.0% 14.2% 10.9% 11.4% 12.9% Net Interest (19) (26) (32) (24) (15)

Net Interest (20) (25) (22) (19) (15) Free Cash Flow 63 43 53 87 153 Earnings before tax 106 142 112 139 185

% change Y/Y -2.3% 33.6% -21.2% 24.2% 33.7% Equity raised/ (repaid) 3 3 0 0 0 Tax 14 17 17 21 28 Debt raised/ (repaid) -11 20 0 0 0

as % of EBT 13.2% 12.1% 15.0% 15.0% 15.0% Other - - - - - Net Income (Reported) 116 132 95 118 157 Dividends Paid (56) (70) (60) (71) (95)

% change Y/Y 22.2% 13.8% -28.1% 24.2% 33.7% Beginning Cash 62 63 68 68 68 Shares Outstanding 57 57 57 57 57 Ending Cash 63 68 68 68 68 EPS (reported) 1.63 2.17 1.67 2.07 2.77 DPS 1.25 1.25 1.05 1.25 1.67

% change Y/Y 1.0% 33.7% (23.2%) 24.2% 33.7% Balance sheet Ratio Analysis € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E € in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Cash and cash equivalent - - - - - EBITDA Margin 15.7% 15.8% 12.6% 13.1% 14.6% Accounts receivables 92 105 104 114 123 Operating Margin 14.0% 14.2% 10.9% 11.4% 12.9% Inventories 186 238 265 287 280 Net Profit Margin 10.5% 10.0% 7.2% 8.2% 10.1% Other Current Assets 84 86 86 86 86 SG&A/sales 56.1% 58.1% 58.0% 57.2% 56.9% Current Assets 341 411 438 469 472 Sales per share growth 24.1% 17.6% -0.1% 9.6% 8.2% LT Investments - - - - - Sales growth 20.8% 19.0% -0.8% 9.6% 8.2% Net Fixed Assets 141 139 155 172 191 Net Profit Growth 22.2% 13.8% -28.1% 24.2% 33.7% Total Assets 516 580 623 671 693 EPS growth 1.0% 33.7% (23.2%) 24.2% 33.7% Liabilities Short Term Loans 22 26 26 26 26 Net Interest Coverage (x) 7.8 7.6 6.6 8.4 13.6 Payables 134 155 154 169 183 Net Debt to total capital 35.3% 33.8% 32.5% 27.8% 18.6% Others 10 11 11 11 11 Net Debt to Equity 196.1% 152.3% 121.4% 86.2% 45.6% Total Current Liabilities 194 207 206 221 235 Sales/Assets 2.1 2.3 2.1 2.1 2.2 Long Term Debt 223 238 245 229 171 Assets/Equity 556.0% 450.1% 373.6% 310.3% 245.7% Other Liabilities - - - - - ROE 99.1% 96.5% 56.9% 54.4% 55.8% Total Liabilities 423 451 456 455 411 ROCE 48.4% 51.4% 34.0% 35.2% 42.0% Shareholders' Equity 93 129 167 216 282 BVPS 2 2 3 4 5 Source: Company reports and J.P. Morgan estimates.

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Panalpina 2010 could see profit growth stuck on ‘pause’ Concerns about the next cycle In our view, Panalpina remains a long-term growth stock: In a strong GDP growth environment, we would expect to see trade volumes grow at least at 1.5-2.5x GDP. Beyond 10E we think this is positive for Panalpina’s top line and potential profit – once gross profit contribution levels normalize. However, for 10E we see challenges to its short-term profit prospects. Firstly, its greater than peers focus on (already more outsourced) Air Freight means we see risk that gross profit contribution margins are eroded due to share driven competitive price pressures; and, secondly, the risk 10E turns into a year spent playing ‘catch-up’ on rising air freight cargo costs (on a yoy) basis. While Panalpina has a good track record of eventually passing through transport price increases, we think that if 10E turns into a year of persistently rising pricing (due to strong GDP growth and robust consumer activity), and airline discipline on new capacity stays intact, then Panalpina could see continued (downward) GP pressure – at its strongest in Q3-Q4-10E peak season.

Flexing downside In its Air division Panalpina made a CHF813/tonne average gross profit over 05-08. Each CHF50 drop in GP/tonne (vs. 08) would cut gross profit by CHF34m based on 09E tonnage. With little else to flex, then each CHF50/tonne swing could swing BBG consensus 10E EBIT of CHF144m by 23%.

Catalysts – 2010 and beyond The price (gross profit per unit) outlook is critical to Panalpina: Volumes are generally a function of the macro outlook, it is asset light (so there is little gearing to asset related costs), and its SG&A cost requirements are driven by activity (and internal efficiency). Signs of GP risk are likely to be strongest as the 10E peak season builds into Q3-10E.

Valuation, target price, key risks We are N with a 12-month 50 year DCF based PT of CHF79.0 (terminal growth 2.5%, WACC 7.3%). We see Panalpina shares retaining their longer-term growth credentials. If 10E GDP growth is as strong as J.P. Morgan economists forecast, we see demand strength, and the effect of (JPM forecast) benign fuel costs eventually enticing new supply into the air market. (Ocean freight already seems to be oversupplied.) These are also key risks to our rating and PT. Once the succession of 10E cost increases have been recovered, we think Panalpina might then be capable of resuming its earnings growth. As a ‘growth’ stock rated at 22.3x JPMe EPS 10E, we see other better prospects in the sector.

Panalpina Welttransport (Holding) AG (PWTN.S;PWTN SW)FYE Dec 2007A 2008A 2009E 2010E 2011EAdj. EPS FY (SF) 9.90 9.26 3.32 2.88 3.96Revenue FY (SF mn) 8,641 8,878 6,161 6,988 7,721EBITDA FY (SF mn) 361 241 96 154 196EBITDA margin FY 4.2% 2.7% 1.6% 2.2% 2.5%EBIT FY (SF mn) 299 193 51 106 145EBIT margin FY 3.5% 2.2% 0.8% 1.5% 1.9%Pretax Profit Reported FY (SF mn)

277 165 42 93 129

Headline EPS FY (SF) 8.58 4.72 1.30 2.88 3.96FCF FY (SF mn) 161 163 91 (28) 64Source: Company data, Bloomberg, J.P. Morgan estimates.

Company Data Price (SF) 64.15Date Of Price 30 Nov 09Price Target (SF) 79.00Price Target End Date 18 Nov 1052-week Range (SwF) 90.95 - 37.20Mkt Cap (SF bn) 1.6Shares O/S (mn) 24

Neutral CHF64.2 30 November 2009

Price Target: CHF79.0

Freight Forwarding

Damian Brewer AC



Flagship reports • Panalpina: Cutting EPS 09E 58% to

CHF2.30, but 11E just 6.4% to CHF4.73 on transitional GP/Unit squeeze, 21 Oct 09

• Mail and Logistics: Forward-looking PMI lift contrasts to Q2-09 'earnings doldrums', 17 Jul 09

• Freight Forwarders: Once PMI is on the turn, there's money to earn, 29 Jan 09

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https://mm.jpmorgan.com/servlet/PubServlet?skey=R1BTLTI2MTczMC0wLDExMSxBTkxZVFJTX1BOTA==&Name=GPS-261730-0.pdf

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Panalpina: Summary of Financials Profit and Loss Statement Cash flow statement SwF in millions, year end Dec FY07 FY08 FY09E FY10E FY11E SwF in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Revenues 8,641 8,878 6,161 6,988 7,721 EBIT 299 193 51 106 145

% Change Y/Y 11.7% 2.7% -30.6% 13.4% 10.5% Depreciation & amortization 39 36 32 36 40Gross Margin (%) 20.9% 19.6% 22.8% 20.6% 20.2% Change in working capital & Other (82) 39 92 (104) (35)EBITDA (basic) 361 241 96 154 196 Cash flow from operations 279 280 188 49 161

% Change Y/Y 15.4% -33.1% -60.1% 60.0% 27.4% EBITDA Margin (%) 4.2% 2.7% 1.6% 2.2% 2.5% Taxes (62) (59) (45) (10) (22)

EBIT 299 193 51 106 145 Capex (49) (47) (43) (54) (58)% Change Y/Y 14.7% -35.4% -73.4% 107.4% 36.3% Net Interest (8) (11) (9) (13) (17)EBIT Margin (%) 3.5% 2.2% 0.8% 1.5% 1.9% Free cash flow 161 163 91 (28) 64

Net Interest income/(expense) (22) (29) (9) (13) (17) Earnings before tax 277 165 42 93 129 Disposals/(purchase) 0 0 0 0 0% change Y/Y 15.6% -40.6% -74.4% 120.9% 37.8% Equity raised/repaid (88) (96) 0 0 0Tax (charge) (66) (51) (11) (25) (34) Dividends paid (74) (76) (44) (26) (37)

Tax as a % of PBT 23.9% 30.7% 26.5% 26.5% 26.5% Other (18) 21 (0) 0 (0)Net Income (Reported) 212 113 31 68 94

% change Y/Y 17.1% -46.8% -72.8% 120.9% 37.8% Beginning debt -346 -325 -381 -391 -337Shares Outstanding (Av.m) 24.5 23.6 23.6 23.6 23.6 Ending debt -325 -381 -391 -337 -364EPS (Reported, basic, SwF) 8.58 4.72 1.30 2.88 3.96 DPS (SwF, declared, gross) 3.20 1.90 0.52 1.15 1.59

% Change Y/Y 17.1% (45.0%) (72.4%) 120.9% 37.8% Balance sheet Ratio Analysis SwF in millions, year end Dec FY07 FY08 FY09E FY10E FY11E SwF in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Cash and cash equivalent 352 362 410 355 383 EBITDA margin (%) 4.2% 2.7% 1.6% 2.2% 2.5%Accounts Receivables 1,337 1,078 746 946 1,045 Operating margin (%) 3.5% 2.2% 0.8% 1.5% 1.9%Inventories 144 116 80 102 113 Net margin (%) 2.5% 1.3% 0.5% 1.0% 1.2%Others 90 123 60 76 83 EBIT margin on Incremental Sales (%) 4.2% -44.6% 5.2% 6.7% 5.3%Current assets 1,922 1,679 1,296 1,480 1,623 FCF margin (%) 1.9% 1.8% 1.5% (0.4%) 0.8% LT investments 78 38 38 38 38 Sales growth (%) 11.7% 2.7% -30.6% 13.4% 10.5%Net fixed assets 278 254 250 261 273 Attributable net profit growth (%) 17.1% -46.8% -72.8% 120.9% 37.8%Total assets 2,278 1,971 1,584 1,778 1,934 EPS growth (%) 17.1% (45.0%) (72.4%) 120.9% 37.8% Liabilities Interest coverage (x) (13.6) (6.8) (5.6) (8.1) (8.8)ST loans 30 18 18 18 18 Effective Interest Rate (IS) (%) 6.5% 8.1% 2.4% 3.6% 4.7%Payables 633 501 355 420 458 Net debt /EBITDA (x) (0.9) (1.6) (4.1) (2.2) (1.9)Others 25 19 19 19 19 Sales/assets (x) 4.6 5.4 4.8 4.9 5.0Total current liabilities 1,112 959 658 791 873 Assets/Equity (%) 222.1% 226.2% 178.0% 190.9% 195.7%Long term debt 3 3 3 3 3 ROE (%) 23.6% 13.3% 5.0% 8.8% 11.0%Other liabilities - - - - - ROCE (%) 34.2% 22.5% 7.6% 14.3% 17.5%Total liabilities 1,252 1,100 694 847 946 ROIC (%) 29.2% 22.6% 8.9% 13.4% 16.5%Shareholders' equity 1,026 871 890 931 988 ROIC/WACC 4.2 2.7 1.1 2.0 2.3BVPS (SwF) 42 37 38 39 42 Source: Company reports and J.P. Morgan estimates.

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RBS Tough decisions ahead Concerns about the next cycle In August the group presented a detailed and comprehensive 4 year plan with 45 divisional and group performance targets. Nevertheless, as a result of the harsh EU restructuring sanctions this will have to be revised significantly as 3 out of the 8 core businesses identified may not be around at all or substantially reduced in scope.

As a result of EU measures the group has to make several disposals: (i) the insurance businesses; (ii) Sempra Commodities JV which sits within GBM; (iii) Global Merchant Services; (iv) parts of the core UK retail and commercial banking businesses. There are also several competition and compensation restrictions, particularly in GBM, that could limit the franchise’s competitive position. We estimate the cumulative impact of these changes could reduce earnings potential by c.15% going forwards and Group RoE by c.10%.

Flexing downside There is risk that GBM will lose significant market share, and will be unable to attract or retain talent going forwards – in 2010E we expect GBM to contribute 54% of group core PBT, down from 69% in 2009E. Note there may be pressure to reduce this further and some hard decisions will have to be made about the future shape of the Group – for instance if GBM’s contribution were to halve then core Group PBT would reduce by one-third.

Catalysts – 2010 and beyond 1) The new strategic plan is due in February 2010, alongside the FY 09 results. Whilst this may give more clarity going forwards, we believe the market will want to see tangible evidence of independence of execution in terms of no further EU measures and more limited government intervention before rewarding the company. Furthermore, we are likely to hear news flow on how the sale processes of the disposal assets are proceeding. Note the EC has given the bank 4-5 years for execution.

2) RBS is now the only bank participating in the Asset Protection Scheme (APS) - to remove the government B shares and exit the APS we estimate RBS would require c.£30bn new capital and this would still leave the government with a 70% stake. Exiting the APS has been made less compelling now that the EU sanctions are in place and so we are more likely to see RBS exit later in the process.

Valuation, target price, key risks Our Dec-10 TP is 38p, based on our sum-of-the-parts analysis. Key risks to our rating and price target include the recovery in the macro environment stalling, or accelerating more rapidly than anticipated, and changing regulatory capital requirements.

Royal Bank of Scotland Group Plc (RBS.L;RBS LN)FYE Dec 2008A 2009E 2010E 2011EAdj. EPS FY (p) -45.75 -3.09 -2.58 -1.07Adj P/E FY NM NM NM NMHeadline EPS FY (p) -60.99 -6.71 -4.57 -2.01NAV/Sh FY (p) 107.8 59.1 54.8 53.1P/NAV FY 0.3 0.5 0.6 0.6Net Attributable Income FY (£mn)

(24,051) (5,394) (4,852) (2,135)

Operating profit FY (£ mn) (8,127) (8,728) (4,585) (784)Tier One Ratio FY 9.9% 13.2% 11.1% 11.1%Source: Company data, Bloomberg, J.P. Morgan estimates.

Company DataPrice (p) 33Date Of Price 30 Nov 09Price Target (p) 38Price Target End Date 31 Dec 1052-week Range (p) 71 - 10Mkt Cap (£ bn) 29.75Shares O/S (mn) 89,661

Royal Bank of Scotland Group Plc (RBS.L;RBS LN)FYE Dec 2008A 2009E 2010E 2011EAdj. EPS FY (p) -45.75 -3.09 -2.58 -1.07Adj P/E FY NM NM NM NMHeadline EPS FY (p) -60.99 -6.71 -4.57 -2.01NAV/Sh FY (p) 107.8 59.1 54.8 53.1P/NAV FY 0.3 0.5 0.6 0.6Net Attributable Income FY (£mn)

(24,051) (5,394) (4,852) (2,135)

Operating profit FY (£ mn) (8,127) (8,728) (4,585) (784)Tier One Ratio FY 9.9% 13.2% 11.1% 11.1%Source: Company data, Bloomberg, J.P. Morgan estimates.

Company DataPrice (p) 33Date Of Price 30 Nov 09Price Target (p) 38Price Target End Date 31 Dec 1052-week Range (p) 71 - 10Mkt Cap (£ bn) 29.75Shares O/S (mn) 89,661

Underweight 33.18p 30 November 2009

Price Target: 38p

Banks

Carla Antunes da Silva AC (44-20) 7325-8215 [email protected]

Amit Goel, CFA


Flagship reports • UK Banks – The Return of UK

Investment Banking – A Review of Capital Requirements and Profitability Outlook, 21 Jul 09

• RBS – Agreement on APS and EU Sanctions, 04 Nov 09

• RBS – Revewing the Strategic Plan and the APS – Remain UW, 21 Sep 09

Price Performance

10

40

70

p


RBS.L share price (p)MSCI-Eu (rebased)

10

40

70

p


RBS.L share price (p)MSCI-Eu (rebased)

Performance (%) YTD 1m 3m 12m Abs -32.8% -20.8% -42.4% -39.5% Rel -52.6% -21.6% -43.1% -61.9%

179



Royal Bank of Scotland: Summary of Financials Profit and Loss Statement Ratio Analysis £ in millions, year end Dec FY07A FY08A FY09E FY10E FY11E £ in millions, year end Dec FY07A FY08A FY09E FY10E FY11E Per Share Data Net interest income 12,382 15,939 13,228 13,522 13,278 EPS Reported 40.85 -60.99 -6.71 -4.57 -2.01

% Change Y/Y 16.9% 28.7% (17.0%) 2.2% (1.8%) EPSAdjusted 79.47 -45.75 -3.09 -2.58 -1.07Non-interest income 15,200 5,227 10,388 13,135 12,385 % Change Y/Y 20.2% (157.6%) (93.2%) (16.6%) (58.7%)Fees & commissions 12,160 -437 5,194 7,881 8,670 DPS 32 23 0 0 0

% change Y/Y 137.5% (103.6%) (1,288.5%) 51.7% 10.0% % Change Y/Y (64.5%) (27.6%) (100.0%) - -Trading revenues 3,040 -437 5,194 5,254 3,716 Dividend yield 7.3% 145.7% 0.0% 0.0% 0.0%

% change Y/Y 13.6% (114.4%) (1,288.5%) 1.2% (29.3%) Payout ratio 78.8% -38.2% -0.0% -0.0% -0.0%Other Income - - - - - BV per share 361.88 135.33 63.23 58.95 57.22Total operating revenues 29,036 16,682 24,589 27,712 26,877 NAV per share 254.12 107.76 59.11 54.83 53.10

% change Y/Y 23.3% (42.5%) 47.4% 12.7% (3.0%) Shares outstanding 10,006.2 39,434.2 106,182.3 106,182.3 106,182.3Admin expenses -16,618 -15,916 -17,123 -16,887 -16,217

% change Y/Y 35.6% (4.2%) 7.6% (1.4%) (4.0%) Return ratios Other expenses - - - - - RoRWA - (4.6%) (1.0%) (1.0%) (0.4%)Pre-provision operating profit 12,418 7,042 7,466 10,825 10,660 Pre-tax ROE 22.1% (51.0%) (11.0%) (8.9%) (4.1%)

% change Y/Y 10.0% (43.3%) 6.0% 45.0% (1.5%) ROE 18.0% (43.0%) (7.9%) (6.4%) (2.9%)Loan loss provisions 2,104 7,428 13,778 12,460 10,044 RoNAV 41.2% (104.1%) (12.8%) (9.2%) (4.3%)Other provisions 22 0 0 0 0 Earnings before tax 8,962 -8,127 -8,728 -4,585 -784 Revenues

% change Y/Y (2.4%) (190.7%) 7.4% (47.5%) (82.9%) NIM (NII / RWA) 1.3% 1.1% 1.3% 1.4% 1.4%Tax (charge) 1,709 (1,280) (1,808) (1,307) (223) Non-IR / average assets 1.2% (0.0%) 0.5% 0.8% 0.8%

% Tax rate 19.1% 15.7% 20.7% 28.5% 28.5% Total rev / average assets 2.4% 0.9% 1.3% 1.7% 1.7%Minorities 184 412 749 390 390 NII / Total revenues 42.6% 94.5% 53.8% 48.8% 49.4%Net Income (Reported) 6,823 (24,051) (5,394) (4,852) (2,135) Fees / Total revenues 41.9% (2.6%) 21.1% 28.4% 32.3% Trading / Total revenues 10.5% (2.6%) 21.1% 19.0% 13.8% Balance sheet £ in millions, year end Dec FY07A FY08A FY09E FY10E FY11E £ in millions, year end Dec FY07A FY08A FY09E FY10E FY11E ASSETS Cost ratios Net customer loans 558,075 691,876 583,282 560,961 526,672 Cost / income 45.2% 59.2% 60.0% 58.0% 59.3%

% change Y/Y 18.5% 24.0% (15.7%) (3.8%) (6.1%) Cost / assets 1.2% 0.0% 0.8% 0.9% 0.9%Loan loss reserves 4,953 9,324 14,868 12,253 10,224 Staff numbers 203,500 199,500 189,525 180,049 171,046Investments 291,597 335,565 355,269 785,359 748,715 Other interest earning assets 638,410 1,111,647 663,544 627,423 602,001 Balance Sheet Gearing

% change Y/Y 624.7% 74.1% (40.3%) (5.4%) (4.1%) Loan / deposit 127.7% 150.3% 136.1% 129.3% 120.2%Average interest earnings assets 930,007 1,447,212 1,018,813 960,604 919,636 Investments / assets 18.3% 15.1% 20.9% 20.7% 20.7%Goodwill 27,610 16,386 15,339 15,339 15,339 Loan / assets 35.0% 31.2% 34.4% 34.8% 34.3%Other assets - - - - - Customer deposits / liabilities 27.4% 20.7% 25.2% 26.9% 28.6%Total assets 1,595,066 2,218,693 1,697,964 1,612,428 1,533,647 LT Debt / liabilities 13.8% 12.1% 15.4% 14.9% 14.4% LIABILITIES Asset Quality / Capital Customer deposits 437,060 460,318 428,584 433,940 438,018 Loan loss reserves / loans 0.9% 1.4% 2.6% 2.2% 2.0%

% change Y/Y 13.8% 5.3% (6.9%) 1.2% 0.9% NPLs / loans 1.5% 2.2% 2.2% 2.7% 2.5%Long term funding 220,577 269,188 261,693 240,573 220,756 LLP / RWA (0.43%) (1.29%) (2.91%) (2.39%) (1.94%)Interbank funding 141,637 178,268 136,231 125,236 114,920 Loan loss reserves / NPLs 60.1% 62.6% 117.0% 81.8% 78.7%Average interest bearing liabs 799,274 907,774 826,508 799,749 773,694 Growth in NPLs 69.3% 251.9% (59.0%) (7.2%) (26.5%)Other liabilities - - - - - RWAs 486,100 577,900 473,057 521,760 518,089Retirement benefit liabilities 496 1,547 1,386 1,274 1,169 % YoY change - 18.9% (18.1%) 10.3% (0.7%)Shareholders' equity - - - - - Core Tier 1 - 5.9% 10.1% 8.3% 8.3%Minorities 5,391 5,436 2,185 2,185 2,185 Total Tier 1 - 9.9% 13.2% 11.1% 11.1%Total liabilities & Shareholders Equity - - - - - Source: Company reports and J.P. Morgan estimates.

180



Sainsbury Limited operational leverage Concerns about the next cycle We continue to see downside to the UK food retail sector as a result of tough inflation comparatives, a limited volume response as well as increased promotional activity. We think Sainsbury will particularly suffer as a result because of its limited historical price perception, increased aggressive promotional tactics by Tesco and Asda, as well as a resurgent Waitrose. We believe Sainsbury suffers most in a falling inflationary environment and expect continued pressure on its top-line and earnings as a result of this shift in the competitive landscape.

Flexing downside We argue that while shares should be supported by the prospect of a bid, we could see further downgrades to earnings due to this increased competitive framework. If we flex our downside assumption, we could see the stock de-rate to 300p (7% downside) whereas in the rest of the sector we see little to no downside. The stock trades on 7.8x lease-adjusted FY11E EV/EBITDAR, a c5% premium to the sector.

Catalysts – 2010 and beyond The catalysts we see for Sainsbury will be when it reports H1 results next year, which we believe will show the pressure on earnings as a result of the incrementally competitive environment in the UK. We also expect a continued strong performance by Waitrose as well as the potential for a turnaround at Marks & Spencer to potentially negatively impact Sainsbury in 2010.

Valuation, target price, key risks Sainsbury trades on 7.8x lease-adjusted FY11E EV/EBITDAR. We have a May-10 target price of 350p based on a PER multiples valuation metric (vs. its European peers), however this price target assumes continued speculation of a bid for the company. In the absence of this speculation as well as flexing our downside, we could expect greater scope for fundamental earnings downgrades. Further bid speculation represents the key risk to further downside at Sainsbury. Another upside risk is the return of food price inflation faster than expected, as well as a return to more rational pricing.

Sainsbury (SBRY.L;SBRY LN)FYE Mar 2009A 2010E 2011EAdj. EPS FY (p) 20.88 23.33 25.52Adj P/E FY 14.9 13.4 12.2EBITDA FY (£ mn) 1,084 1,143 1,214EBIT FY (£ mn) 616 663 729EBIT margin FY 3.3% 3.3% 3.4%EBITDA margin FY 5.7% 5.8% 5.7%Pretax Profit Adjusted FY (£ mn) 519 596 671DPS (Gross) FY (p) 14 16 17Source: Company data, Bloomberg, J.P. Morgan estimates.

Company DataPrice (p) 322Date Of Price 30 Nov 09Price Target (p) 350Price Target End Date 01 May 1052-week Range (p) 373 - 269Mkt Cap (£ bn) 5.87Shares O/S (mn) 1,824

Sainsbury (SBRY.L;SBRY LN)FYE Mar 2009A 2010E 2011EAdj. EPS FY (p) 20.88 23.33 25.52Adj P/E FY 14.9 13.4 12.2EBITDA FY (£ mn) 1,084 1,143 1,214EBIT FY (£ mn) 616 663 729EBIT margin FY 3.3% 3.3% 3.4%EBITDA margin FY 5.7% 5.8% 5.7%Pretax Profit Adjusted FY (£ mn) 519 596 671DPS (Gross) FY (p) 14 16 17Source: Company data, Bloomberg, J.P. Morgan estimates.

Company DataPrice (p) 322Date Of Price 30 Nov 09Price Target (p) 350Price Target End Date 01 May 1052-week Range (p) 373 - 269Mkt Cap (£ bn) 5.87Shares O/S (mn) 1,824

Neutral 322p 30 November 2009

Price Target: 350p

Food Retailing

Rickin Thakrar AC (44-20) 7325-4523 [email protected]

Jaime Vazquez (44-20) 7325-0993 [email protected]


Flagship reports • Limited volume response and

operational leverage, 23 Nov 09

Price Performance

220

280

340

p


SBRY.L share price (p)MSCI-Eu (rebased)

Performance (%) YTD 1M 3M 12M Abs (%) -2.0% -2.4% -1.2% 15.3% Rel (%) -21.8% -3.2% -1.9% -7.1%


181



Sainsbury: Summary of Financials

Profit and Loss statement Cash flow statement £ in millions, year-end FY06/7 FY07/8 FY08/9 FY09/10E FY10/11E £ in millions, year-end FY06/7 FY07/8 FY08/9 FY09/10E FY10/11E Sales 17,151 17,837 18,911 19,868 21,212 EBITDA 901 1,035 1,097 1,131 1,209Growth 6.8% 4.0% 6.0% 5.1% 6.8% Working capital 197 -35 167 181 45EBITDA 931 1,016 1,084 1,143 1,214 Other -354 -189 -346 -229 -249% of sales 5.4% 5.7% 5.7% 5.8% 5.7% Operating cash flow 744 811 918 1,083 1,005

Depreciation 500 481 468 480 485 Capex and financial investment -785 -979 -976 -950 -950

Underlying EBIT 431 535 616 663 729 Other 105 188 97 0 0% of sales 2.5% 3.0% 3.3% 3.3% 3.4% Investing cash flow -680 -791 -879 -950 -950Net interest -51 -99 -113 -86 -83 Dividends paid -140 -178 -218 -255 -289Adjusted PBT 339 434 519 596 671 Other -1 -6 177 0 0Growth 39% 28% 20% 15% 12% Financing cash flow -141 -184 -41 -255 -289Tax -118 -134 -151 -173 -195 Net profit 222 300 368 423 476 Movement in cash -77 -164 -2 -122 -234Growth 36% 35% 23% 15% 12% EPS 12.9 17.0 20.9 23.3 25.5 Net debt 1380 1503 1671 1831 2065Growth 34% 31% 23% 12% 9% Balance sheet Ratio Analysis £ in millions, year-end FY06/7 FY07/8 FY08/9 FY09/10E FY10/11E £ in millions, year-end FY07/8 FY08/9 FY09/10E FY09/10E FY10/11E Fixed Assets 7,636 8,393 8,442 8,912 9,377 Interest cover 8.4 5.4 5.5 7.7 8.8 Stocks 590 681 689 690 729 Payout ratio 0.81 0.75 0.61 0.60 0.60 Trade debtors 30 32 9 27 28 Other assets 192 286 207 207 207 Inventory days 16.5 17.3 17.6 17.0 17.0Cash and Short Term Invests 1,128 723 686 686 686 Debtor days 0.9 0.8 0.8 0.5 0.5 Current assets 1,940 1,722 1,591 1,610 1,650 Creditor days 44.3 46.5 44.1 46.5 46.0 Trade creditors -1,706 -1,703 -1,851 -1,887 -1,973 EBITDAR 7.16% 7.49% 7.62% 7.59% 7.51%Short term debt & other creditors -1,015 -949 -1,068 -1,068 -1,068 EBITDA 5.43% 5.70% 5.73% 5.75% 5.72%Short term liabilities -2,721 -2,652 -2,919 -2,955 -3,041 EBIT 2.51% 3.00% 3.26% 3.34% 3.44%Long term liabilities -2,506 -2,528 -2,738 -3,042 -3,300 Shareholders funds 4,349 4,935 4,376 4,543 4,730 Source: Company reports and J.P. Morgan estimates.

182



STMicroelectronics Waiting on Nokia 3G and more substantial cost cutting Concerns about the next cycle STMicro is a play on the economic cycle however with its cost structure substantially higher than peers its profitability is well below peers. Its opex to sales is still ~39% vs. ~24% at both Texas Instruments and Infineon. Thus the key opportunity is to reduce this; however with, in our view, poor cost cutting execution in 09, investors are unlikely to believe it until they see it.

Associated with cost cutting is the turnaround of ST-Ericsson. However in this case even more important is the timing of Nokia 3G revenue. Once the market has some understanding of timing of U8500 revenue, the stock may have upside, but given shipments will likely start in 2011, we believe STMicro will under-perform through 2010.

Flexing downside On the back of improving revenue STMicro margin should improve in ‘10,’11. We are looking at 6.4% clean op. margin in ’11 vs. peak margin of 8.7% in ’04. However avg. €/$ rate in ’04 was 1.24 vs. 1.48 today. Thus unless there are more substantial cost cuts and/or more substantial revenue growth, our ’11 estimate reflects the stock’s full potential. In fact if the $ continues to weaken as our currency team expects till 2Q10, there should be continuing pressure on STMicro's margin with potential for the company to miss our and market expectations.

Catalysts – 2010 and beyond The major issue facing STMicro is that opex is well ahead of competitors. If STMicro does show clear resolve to cut costs, unlike the unseen 09 cost cuts, investor interest may revive. A second potential catalyst is the timing of 3G revenues from Nokia, which could result in revenue upside of as much as US$1bn we estimate. If chip is to ship in high volume in '11 and all software is ready, the stock may perform by end ‘10, or else this may be delayed till sales begin to pick up.

Valuation, target price, key risks STMicro has historically traded at 1.5x-2.0x P/B compared to current multiple of ~1.0x. For company to start trading at historical P/B multiple of 1.5x and higher, we believe it will have to cuts costs much more aggressively and deliver much higher margin. We have a Jun '10 PT of €6.0 based on 1x '10E book value. Risks to our rating & target include an economic double dip; if cost cuts by the company are much more aggressive than in our estimates, there could be upside to our estimates.

STMicroelectronics (STM.PA;STM FP) FYE Dec 2006A 2007A 2008A 2009E 2010E 2011EAdj. EPS FY ($) 0.88 0.81 0.18 (0.78) 0.39 0.64Revenue FY ($ mn) 9,855 10,001 9,841 8,397 9,927 10,720EBIT FY ($ mn) 753 684 416 (796) 333 684EBIT margin FY 7.6% 6.8% 4.2% -9.5% 3.4% 6.4%EBITDA FY ($ mn) 2,537 2,115 1,800 574 1,603 1,954EV/EBITDA FY 3.6 4.3 5.1 16.0 5.7 4.7P/BV FY 0.8 0.8 0.9 1.0 1.0 0.9Adj P/E FY 9.2 9.9 45.6 NM 20.9 12.7Source: Company data, Bloomberg, J.P. Morgan estimates.

Company Data Price (€) 5.39Date Of Price 30 Nov 09Price Target (€) 6.00Price Target End Date 30 Jun 1052-week Range (€) 7.02 - 2.97Mkt Cap (€ bn) 4.7Shares O/S (mn) 877DPS (Net) (€) 0.18



Semiconductors

Sandeep Deshpande AC (44-20) 7325-0456 [email protected]

Flagship reports • STMicroelectronics : Despite looking

cheap on historical multiples, lack of improvement in profitability prevents re-rating, 30 Jul 09

• STMicroelectronics: Though recent run could continue, company faces substantial top line & cost challenges. Remain Neutral, 31 Mar 09

• STMicroelectronics: Cutting estimates to factor demand collapse. Needs to cut costs to interest bottom fishing investors, 22 Jan 09

Price Performance

3.0

4.5

6.0€


STM.PA share price (€)MSCI-Eu (rebased)

Performance (%) YTD 1m 3m 12m Abs 12.7% -1.9% -12.7% 10.6% Rel -8.8% -1.9% -15.8% -13.5%

183



STMicroelectronics: Summary of Financials Profit and Loss Statement Cash flow statement $ in millions, year end Dec FY07 FY08 FY09E FY10E FY11E $ in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Revenues 10,001 9,841 8,397 9,927 10,720 Net Income (Reported) (477) (786) (1,070) 209 478

% Change Y/Y 1.5% (1.6%) (14.7%) 18.2% 8.0% Depreciation & amortization 1,413 1,366 1,354 1,254 1,254 Gross Profit 3,536 3,648 2,571 3,638 4,090 Other items - - - - - Gross Margin (%) 35.4% 37.1% 30.6% 36.7% 38.2% Cash flow from operations 2,188 1,722 577 1,598 1,858 EBIT 684 416 (796) 333 684

% Change Y/Y (9.2%) (39.2%) (291.3%) (141.9%) 105.1% Capex (1,140) (983) (361) (450) (450) EBIT Margin 6.8% 4.2% -9.5% 3.4% 6.4% Other -1,567 -2,417 371 -450 -450

Net Interest 36 (87) 10 16 5 Free cash flow 1,048 739 216 1,148 1,408 Earnings before tax -493 -823 -1,438 244 634

% change Y/Y (164.6%) 66.9% 74.7% (117.0%) 159.3% Equity raised/repaid 2 0 0 0 0 Tax (charge) 22 43 145 (31) (79) Debt Raised/repaid (23) 496 (91) (25) (25)

Tax as a % of BT 4.5% 5.2% 10.1% 12.5% 12.5% Dividends paid 269 240 158 158 158 Net Income (Reported) (477) (786) (1,070) 209 478 Other (234) (647) (219) (158) (158)

% change Y/Y (160.9%) 64.8% 36.1% (119.5%) 129.0% Beginning cash 1,659 1,855 1,009 1,676 2,642 EPS (Reported) - $ -0.54 -0.88 -1.22 0.24 0.54 Ending cash 1,854 1,009 1,676 2,642 3,867

% Change Y/Y (166.1%) 62.8% 38.5% (119.5%) 129.0% DPS 0.30 0.27 0.18 0.18 0.18 Balance sheet Ratio Analysis $ in millions, year end Dec FY07 FY08 FY09E FY10E FY11E $ in millions, year end Dec FY07 FY08 FY09E FY10E FY11E Cash and cash equivalents 2,869 1,660 2,631 3,597 4,822 EBITDA margin (%) 21.1% 18.3% 6.8% 16.2% 18.2% Accounts Receivable 1,605 1,064 1,543 1,551 1,675 Net margin (%) NM NM NM 2.1% 4.5% Inventories 1,354 1,840 1,382 1,390 1,501 SG&A/Sales 11.0% 12.1% 13.7% 11.0% 10.5% Others 1,834 937 1,382 1,291 1,179 Current assets 7,662 5,501 6,939 7,828 9,177 Sales per share growth 5.6% -0.3% -13.2% 18.0% 8.0% Sales growth (%) 1.5% (1.6%) (14.7%) 18.2% 8.0% LT investments 1,038 1,852 1,501 1,501 1,501 Attributable net profit growth (%) (160.9%) 64.8% 36.1% (119.5%) 129.0% Net fixed assets 6,610 8,412 7,359 6,580 5,801 EPS growth (%) (166.1%) 62.8% 38.5% (119.5%) 129.0% Total assets 14,272 13,913 14,298 14,408 14,978 Liabilities Net debt to Total Capital (4.5%) 7.5% 0.3% (6.5%) (14.5%) ST loans 103 123 230 230 230 Net debt to equity (6.7%) 12.3% 0.5% (10.9%) (24.1%) Payables 1,065 847 1,035 1,092 1,179 Sales/assets (x) 0.7 0.7 0.6 0.7 0.7 Others - - - - - Total Assets/Equity 149.1% 170.6% 196.9% 197.1% 196.3% Total current liabilities 2,077 2,218 2,594 2,657 2,840 ROE 7.8% 1.9% -9.4% 4.6% 7.3% Long term debt 2,117 2,554 2,444 2,435 2,426 ROCE 5.6% 3.6% -6.8% 2.8% 5.6% Other liabilities - - - - - Total liabilities 4,646 5,481 5,776 5,830 6,004 Shareholders' equity 9,573 8,156 7,261 7,312 7,632 BVPS 11 9 8 8 9 Source: Company reports and J.P. Morgan estimates.

184



Swedish Match US exposure drives uncertainty Concerns about the next cycle 1) US Smokeless uncertainty from competitive pressure. SWMA brands Red Man and Timber Wolf could be squeezed by competitive pressure from Grizzly (no. 1) and Copenhagen (no. 2) competing at price points close to the SWMA brands, and reluctance by either leading brand to take price will limit Swedish Match’s pricing.

2) But Scandinavian Snuff growth on track. After large tax increases in 2007 and 2008 and aided by consumers staying at home due to the economic crisis, Swedish smokeless market volume growth is about 4% in 2009 with 4% price increases at retail in mid 2009. We expect approximately 2% Swedish volume growth in 2010E as we expect Swedes to resume travel abroad, combined with 2-4% pricing.

3) M&A speculation premature. We view market speculation that SWMA is a near term M&A target by Philip Morris International as premature. We believe the JV between the companies to commercialise Snus ex Scandinavia and the US must first demonstrate commercial viability. Lifting the EU snus ban could accelerate a deal in our view, though neither company has publicly discussed specific M&A possibilities.

Flexing downside Current rates imply an approximate 3% FX EBIT headwinds in 2010E on USD weakness (40% of group EBIT USD). Using JPM FX USD/SEK forecasts, this headwind could be as much as 7%, implying our current 5% EBIT growth estimate could be reduced to flat or down y/y.

Catalysts – 2010 and beyond 2009 results on 25 February 2010 could provide a clearer outlook for the US market with the AGM on 27 April 2010 to confirm the size of the SWMA buyback program for the rest of 2010. Discussions on the EU Snus ban will continue through 2010 with the EU science committee to issue a report and recommendation by end 2010.

Valuation, target price, key risks SWMA stock trades at 2010E P/E 13.5x, a 14% premium to the International Tobacco average, with 2010E dividend yield 3.3%, 1.4ppt below the group average. Our Jul 2010 DCF and comparative multiple based price target of Skr156 implies 14.0x 2010E P/E and 10.7x EV/EBITDA with 0.6% LT cash flow growth at WACC of 7.5%. Risks to our rating and PT include: 1) A bid for SWMA by a competitor; 2) significant improvements in Snuff or Cigar fundamentals; 3) changes in tobacco regulation; 4) changes in competitor activity; 5) FX rates, particularly USD/SEK.

Swedish Match (SWMA.ST;SWMA SS) FYE Dec 2008A 2009E 2010E 2011EAdj. EPS FY (Skr) 8.00 9.80 11.12 12.05Bloomberg EPS FY (Skr) 8.73 9.98 10.81 11.78Adj P/E FY 18.8 15.3 13.5 12.5EBIT FY (Skr mn) 2,802 3,531 3,720 3,888EBITDA FY (Skr mn) 3,222 3,972 4,183 4,374EV/EBITDA FY 12.2 9.9 9.4 9.0Gross Yield FY 2.7% 3.1% 3.3% 3.5%FCF Yield FY 5.5% 7.2% 8.1% 8.5%Source: Company data, Bloomberg, J.P. Morgan estimates.

Company Data Price (Skr) 150.10Date Of Price 30 Nov 09Price Target (Skr) 156.00Price Target End Date 21 Jul 1052-week Range (Skr) 159.00 - 105.50Mkt Cap (Skr bn) 37.9Shares O/S (mn) 252

Underweight SEK150 30 November 2009

Price Target: SEK156

Tobacco

Erik Bloomquist, CFA AC (44-20) 7325-9917 [email protected]





Price Performance

90

120

150

Skr


SWMA.ST share price (Skr)MSCI-Eu (rebased)








185



Swedish Match: Summary of Financials Profit and Loss Statement FY08 FY09E FY10E FY11E FY12E Segment Analysis FY08 FY09E FY10E FY11E FY12E Skr in millions, year end Dec Skr in millions, year end Dec Revenues 12,611 14,893 14,861 15,207 15,566 Net Revenues

% change Y/Y 0.5% 18.1% -0.2% 2.3% 2.4% Snuff 3,725 4,358 4,533 4,714 4,902 EBITDA 3,222 3,972 4,183 4,374 4,554 % Change y/y - 17.0% 4.0% 4.0% 4.0%

% change Y/Y 1.8% 23.3% 5.3% 4.6% 4.1% Cigars 3,644 4,591 4,821 4,966 5,115 EBITDA Margin (%) 25.5% 26.7% 28.1% 28.8% 29.3% % Change y/y - 26.0% 5.0% 3.0% 3.0%

EBIT 2,802 3,531 3,720 3,888 4,044 Chewing tobacco 934 1,196 1,172 1,148 1,125 % change Y/Y 2.6% 26.0% 5.4% 4.5% 4.0% % Change y/y - 28.0% -2.0% -2.0% -2.0% EBIT Margin (%) 22.2% 23.7% 25.0% 25.6% 26.0% Lights 1,525 1,449 1,463 1,478 1,493

Net Interest (442) (436) (410) (405) (400) % Change y/y - -5.0% 1.0% 1.0% 1.0% Earnings before tax 2,360 3,095 3,310 3,483 3,644 Other Operations 2,783 2,813 2,873 2,902 2,931

% change Y/Y -1.5% 31.1% 7.0% 5.2% 4.6% % Change y/y - 1.1% 2.1% 1.0% 1.0% Tax (342) (681) (745) (784) (820) Group Turnover 12,611 14,893 14,861 15,207 15,566

as % of EBT 14.5% 22.0% 22.5% 22.5% 22.5% % change Y/Y 0.5% 18.1% -0.2% 2.3% 2.4% Net Income (Adjusted) 2,017 2,413 2,564 2,698 2,823

% change Y/Y 12.7% 19.6% 6.3% 5.2% 4.6% EBITA Shares Outstanding 252 246 231 224 219 Snuff 1,658 1,973 2,091 2,217 2,328 Adjusted EPS 8.00 9.80 11.12 12.05 12.88 % Change y/y - 19.0% 6.0% 6.0% 5.0%

% Change y/y 17.8% 22.6% 13.5% 8.3% 6.9% Cigars 686 1,043 1,105 1,149 1,195 % Change y/y - 52.0% 6.0% 4.0% 4.0% Cash flow statement FY08 FY09E FY10E FY11E FY12E Chewing tobacco 329 431 427 422 418 Skr in millions, year end Dec % Change y/y - 31.0% (1.0%) (1.0%) (1.0%) Lights 275 261 264 267 269 EBIT 2,802 3,531 3,720 3,888 4,044 % Change y/y - (5.0%) 1.0% 1.0% 1.0% Depreciation & amortization 420 441 463 486 511 Other Operations -146 -177 -167 -167 -167 Change in working capital (362) (64) (66) (68) (70) % Change y/y - 21.2% (5.6%) 0.0% 0.0% Interest expense (442) (436) (410) (405) (400) Group EBITA 2,802 3,531 3,720 3,888 4,044 Taxes (523) (681) (745) (784) (820) % change Y/Y 2.6% 26.0% 5.4% 4.5% 4.0% Net Capex (196) (500) (400) (412) (424) EBIT Margin Dividend (886) (1,133) (1,130) (1,178) (1,236) Snuff 44.5% 45.3% 46.1% 47.0% 47.5% Cigars 18.8% 22.7% 22.9% 23.1% 23.4% FCF (Pre dividend) 1,734 2,291 2,563 2,706 2,840 Chewing tobacco 35.2% 36.1% 36.4% 36.8% 37.2% Lights 18.0% 18.0% 18.0% 18.0% 18.0% Acquisitions -7 - - - - Group EBIT Margin 22.2% 23.7% 25.0% 25.6% 26.0% Disposals 155 1,651 - - - Buy back cost -934 -1,279 -2,150 -1,000 -800 Loans -441 -662 - - - Cash Infow -379 869 -717 528 804 Balance sheet FY08 FY09E FY10E FY11E FY12E Ratio Analysis FY08 FY09E FY10E FY11E FY12E Skr in millions, year end Dec Skr in millions, year end Dec Fixed Assets EBITDA Margin 25.5% 26.7% 28.1% 28.8% 29.3% Tangible 2,458 2,507 2,557 2,608 2,661 Operating Margin 22.2% 23.7% 25.0% 25.6% 26.0% Intangible 4,702 4,627 4,552 4,477 4,402 Net Profit Margin 16.0% 16.2% 17.3% 17.7% 18.1% Financial 2,284 2,284 2,284 2,284 2,284 Current Assets 8,911 9,952 9,412 10,123 11,115 Sales growth 0.5% 18.1% -0.2% 2.3% 2.4% Cash 3,179 4,048 3,331 3,859 4,663 EBITDA Growth 1.8% 23.3% 5.3% 4.6% 4.1% Current Trade Liabilities 3,609 3,717 3,829 3,944 4,062 EBIT Growth 2.6% 26.0% 5.4% 4.5% 4.0% Net Profit Growth 12.7% 19.6% 6.3% 5.2% 4.6% Capital employed 14,746 15,653 14,976 15,548 16,399 EPS growth 17.8% 22.6% 13.5% 8.3% 6.9% Shareholders' Funds 1,377 3,445 4,916 5,488 6,338 Net Interest Coverage 6.3 8.1 9.1 9.6 10.1 Minority interests 4 4 4 5 5 Net Debt/EBITDA 2.3 1.5 1.6 1.4 1.2 Provisions 2,647 2,147 0 0 0 Net Debt/Equity 5.5 1.7 1.4 1.1 0.9 Long Term Debt 9,975 9,313 9,313 9,313 9,313 Assets/Equity 13.3 5.6 3.8 3.6 3.2 Short Term Debt 743 743 743 743 743 ROCE 19.0% 22.6% 24.8% 25.0% 24.7% Capital employed 14,746 15,653 14,976 15,548 16,399 ROE 146.5% 70.0% 52.2% 49.2% 44.5% Net Debt 7,539 6,008 6,725 6,197 5,393


186



Telecom Italia Numbers too high in 2010 Concerns about the next cycle As the macroeconomic environment improves TI’s competitors are likely to try to win market share again, increasing the pressure on Telecom Italia to invest more in its revenue outlook. TI’s weakness in 2009 has been driven mainly by market share losses following its price increases 1 year ago and the sizeable cost cutting. Domestic margins increased from 43% in 2008 to 47.2% in the 3Q 2009, while revenues fell by mid single digits. Management guidance is to stabilize revenues in 2010, while keeping costs under control and return to growth in 2011. We argue that this outlook is challenging and believe consensus numbers for 2010 are too high. In addition, Telecom Italia is highly levered at net debt/EBITDA of 3 and the main focus of the company is to reduce debt and further cash distribution to shareholders is less likely.

Flexing downside If we assume that management achieves a stable revenue trend and a stable margin compared to declining EBITDA our target price would increase to €1.4 per share. However, we highlight that the domestic margins of 47.2% in the 3Q 09 are at peak levels. If the mobile market remains competitive and Telecom Italia cannot keep up with its current rate of cost cutting EBITDA could decline by mid single digits. Our fair value would decrease to €0.9 per share.

Catalysts – 2010 and beyond We think that consensus expectations will be disappointed as we progress through next year when the market will realize that it is not possible to turn around revenue trends without spending more. Telecom Italia typically holds its investor day in March where we expect the company to give new 3 year guidance, which we think will incorporate some of our more negative view. We believe keeping EBITDA stable while the company invests in market share is unlikely and we would expect that EBITDA will decline before it can grow. Consensus expects a stable revenue and EBITDA trend excluding the Hansenet sale.

Valuation, target price, key risks Our Dec-10 SOP value for Telecom Italia is €1.20 per share, which implies a P/E multiple of 10 times given our earnings estimate of 12 cents per share. This is a slight discount to the 3 year average P/E of 10.7 and a slight premium versus sector average of 9.2. The main risks to our rating and price target are changes in the regulatory environment, which would support the profitability of Telecom Italia. Consolidation in the Italian mobile market would improve the market structure and Telecom Italia could achieve stabilizing revenue trends while keeping the margin.

Telecom Italia (TLIT.MI;TIT IM)FYE Dec 2008A 2009E 2010E 2011E 2012EAdj. EPS FY (€) 0.12 0.10 0.12 0.14 0.15Revenue FY (€ mn) 30,472 28,960 28,860 28,836 29,112EBITDA FY (€ mn) 11,363 11,383 11,544 11,587 11,530EBITDA margin FY 37.3% 39.3% 40.0% 40.2% 39.6%EBIT FY (€ mn) 5,424 5,727 6,206 6,561 6,898EBIT margin FY 17.8% 19.8% 21.5% 22.8% 23.7%OpFCF FY (€ mn) 5,523 6,707 7,216 7,462 7,452Net Attributable Income FY (€ mn)

2,282 2,006 2,389 2,702 2,969




2,282 2,006 2,389 2,702 2,969




2,282 2,006 2,389 2,702 2,969




2,282 2,006 2,389 2,702 2,969





Telecom Services

Torsten Achtmann AC (44-20) 7325-9025 [email protected]

Flagship reports • Post Q2 visibility should allow sector to

outperform, 22 Sep 09 • Wireless review – reassuringly

defensive, 22 Sep 09

Price Performance

0.7

1.0€


TLIT.MI share price (€)MSCI-Eu (rebased)

0.7

1.0€


TLIT.MI share price (€)MSCI-Eu (rebased)


187



Telecom Italia: Summary of Financials Profit and Loss Statement Cash flow statement € in millions, year end Dec FY08 FY09E FY10E FY11E FY12E € in millions, year end Dec FY08 FY09E FY10E FY11E FY12E Revenues 30,472 28,960 28,860 28,836 29,112 Cash EBITDA 11,328 11,383 11,544 11,587 11,530

% Change Y/Y -3.0% -5.0% -0.3% -0.1% 1.0% Interest (2,173) (2,465) (2,247) (2,106) (2,025) EBITDA 11,363 11,383 11,544 11,587 11,530 Tax (633) (2,067) (1,568) (1,753) (1,927)

% Change Y/Y -2.7% 0.2% 1.4% 0.4% -0.5% Other (156) (1,114) (170) (170) (170) EBITDA Margin 37.3% 39.3% 40.0% 40.2% 39.6% Cash flow from operations 8,401 5,736 7,559 7,557 7,408

EBIT 5,424 5,727 6,206 6,561 6,898 % Change Y/Y -9.1% 5.6% 8.4% 5.7% 5.1% Capex PPE (5,805) (4,676) (4,328) (4,124) (4,077) EBIT Margin 17.8% 19.8% 21.5% 22.8% 23.7% Net investments (1,069) (262) - - -

Net Interest 2,630 2,470 2,247 2,106 2,025 CF from investments (6,874) (4,938) (4,328) (4,124) (4,077) PBT 2,858 3,323 4,029 4,528 4,950 Dividends (1,665) (1,118) (1,163) (2,252) (2,362)

% change Y/Y -34.1% 16.3% 21.2% 12.4% 9.3% Share (buybacks)/ issue (26) (7) - - - Net Income (clean) 2,282 2,006 2,389 2,702 2,969

% change Y/Y -5.4% -12.1% 19.1% 13.1% 9.9% CF to Shareholders (1,691) (1,125) (1,163) (2,252) (2,362) Average Shares 19,395 19,395 - - - FCF to debt (199) (327) 2,068 1,181 969 Clean EPS 0.12 0.10 0.12 0.14 0.15

% change Y/Y NM NM 19.1% 13.1% 9.9% OpFCF (EBITDA - PPE) 5,523 6,707 7,216 7,462 7,452 DPS 0.05 0.05 0.11 0.11 0.12 EFCF pre Div, PPE 2,553 1,785 3,171 3,356 3,257 Balance sheet Ratio Analysis € in millions, year end Dec FY08 FY09E FY10E FY11E FY12E € in millions, year end Dec FY08 FY09E FY10E FY11E FY12E Cash and cash equivalents 5,416 3,869 3,937 3,117 3,086 EBITDA margin 37.3% 39.3% 40.0% 40.2% 39.6% Accounts Receivables 8,101 7,833 7,883 7,933 7,983 EBIT Margin 17.8% 19.8% 21.5% 22.8% 23.7% ST financial assets - - - - - Net profit margin 7.5% 6.9% 8.3% 9.4% 10.2% Others - - - - - Capex/sales 17.6% 15.4% 15.0% 14.3% 14.0% Current assets 14,684 12,723 12,910 12,211 12,300 Depreciation/Sales 19.4% 19.5% 18.5% 17.4% 15.9% LT investments 1,247 1,197 1,185 1,174 1,162 Net fixed assets 15,657 14,804 13,935 13,137 12,640 Revenue growth -3.0% -5.0% -0.3% -0.1% 1.0% Total assets 85,630 82,397 81,563 79,950 79,473 EBITDA Growth -2.7% 0.2% 1.4% 0.4% -0.5% ST loans 6,267 7,082 6,982 6,882 6,782 EPS Growth NM NM 19.1% 13.1% 9.9% Payables 12,156 10,693 10,643 10,593 10,543 Others 3,829 5,712 6,750 6,775 6,702 Net debt/EBITDA 3.0 3.0 2.8 2.7 2.6 Total current liabilities 18,423 17,775 17,625 17,475 17,325 CF to Shareholders (1,691) (1,125) (1,163) (2,252) (2,362) Long term debt 36,527 31,361 29,361 27,386 26,486 FCF to debt (199) (327) 2,068 1,181 969 Other liabilities - - - - - Total liabilities 58,779 54,848 53,736 51,636 50,513 OpFCF (EBITDA - PPE) 5,523 6,707 7,216 7,462 7,452 Shareholders' equity - - - - - EFCF pre Div, PPE 2,553 1,785 3,171 3,356 3,257


188



Unipol Earnings headwinds not going away in 2010 Concerns about the next cycle We believe Unipol’s combined ratio will improve from tariff increases but we remain UW on the stock with -11% downside to €0.81 Dec 10 as we believe improvement in the combined ratio will be slower than what the market is implying. We forecast the combined ratio to improve to 98.3% by 2011E (from 104.5% 2009E) but we believe the market is looking for a more aggressive 97.3% 2011E COR.

We remain comfortable with our forecast as we saw that despite rate increases earlier this year, Unipol still reported a 9m 09 combined ratio of 104.7% at the 9m 09 stage due to higher motor frequency and nat cats. We note that Unipol did give evidence of this trend improving in 4Q 09E (we forecast 4Q 09E COR of 104.9% vs. 113.9% 3Q 09) but we believe a 1% improvement per annum should capture the impending rate increases (5% rate increases in Jan 10 targeted by Unipol in Italian motor).

Flexing downside If Unipol's combined ratio continues to remain under pressure then we could see more downside on the stock. Every 1% worsening of 2011e COR impacts our TP of €0.81 by €0.11 or 13.5%. We currently forecast 98.3% 2011e COR vs. 104.5% 2009e.

Catalysts – 2010 and beyond Unipol is raising tariffs for motor by 5% on 1st January 2010. The positive impact of this should show up towards the 2H 10 (so around 3Q 10 reporting). We forecast 2010e COR of 99.3%, 5.2% better than 2009e. If the price increases do not show up in better COR then we would need to factor in worse 2011e COR.

Valuation, target price, key risks Our SOTP based Dec 10 PT is €0.81. We apply a P/E multiple of 8.7x for the non life, and 8.7x for the life and 8.3x for the bank. Our non life and life multiple is based on cost of capital of 11.5% (8.7x=1/11.5%). The banking multiple is based on the cost of capital of 12% and a zero long-term growth assumption (8.3x= 1/12%). This methodology is in line with the other European insurers we follow. Key upside risk to our UW stance and price target is that Unipol’s combined ratio improves faster than we forecast. Another upside risk is that Unipol’s life earnings grow with better markets (JPMe life pre tax 11e €142m vs. 08: €148m).

Unipol Gruppo Finanziario S.p.A. (UNPI.MI;UNI IM) FYE Dec 2008A 2009E 2010E 2011EAdj. EPS FY (€) 0.04 0.02 0.07 0.09BV/Sh FY (€) 1 2 2 2Gross Yield FY 0.0% 0.7% 3.2% 4.0%NAV/Sh FY (€) 0.7 0.9 0.9 1.0P/NAV FY 1.3 1.0 1.0 0.9ROE FY 1.9% 1.1% 4.4% 5.3%Combined Ratio FY 98.7% 104.5% 99.3% 98.3%Net Attributable Income FY (€ mn)

93 39 171 217

Pretax Profit Reported FY (€ mn)

135 68 258 329





Insurance Vinit Malhotra, CFA AC (44 20) 7325-5321 [email protected]

Michael Huttner, CFA


Flagship reports • Unipol : Earnings headwinds greater

than earlier thought, Remain UW with €0.81 PT (€1.04), 13 Nov 09

• Unipol : Continue to see downwards earnings momentum due to Italian non life; cutting 09e -15%, 10e - 6%, new PT €0.79 (€0.85), 3 August 09

Price Performance

0.4

0.8

1.2

€


UNPI.MI share price (€)MSCI-Eu (rebased)

Performance (%) YTD 1m 3m 12m Abs -16.3% -8.1% -3.7% -15.4% Rel -36.1% -8.9% -4.4% -37.8%








189



Unipol: Summary of Financials Profit and Loss Statement (IFRS) Ratio Analysis (IFRS) € in millions, year end Dec FY08 FY09E FY10E FY11E € in millions, year end Dec FY08 FY09E FY10E FY11E Premiums 7,591 9,144 9,311 9,484 Shares Outstanding 2,379.49 2,379.49 2,379.49 2,379.49

% change Y/Y 1.7% 20.5% 1.8% 1.9% Life 3,486 4,975 4,975 4,975 EPS 0.04 0.02 0.07 0.09 % change Y/Y (1.2%) 42.7% 0.0% 0.0% % change Y/Y (75.5%) (57.8%) 334.3% 27.2% Non Life 4,105 4,169 4,336 4,509 DPS 0.00 0.01 0.03 0.04 % change Y/Y 4.3% 1.6% 4.0% 4.0% % change Y/Y -100.0% - 334.3% 27.2%

Investment income 1,296 1,122 1,036 1,071 Other income 124 76 79 81 Payout Ratio 0.0% 40.0% 40.0% 40.0% Total revenues 9,139 10,410 10,499 10,714

% change Y/Y (1.9%) 13.9% 0.8% 2.0% NAV/Share 0.7 0.9 0.9 1.0 Insurance related expenses (6,558) (8,648) (8,511) (8,600) EV/share 0.85 0.89 0.94 0.98 Admin expenses (443) (499) (502) (515) Acquisition expenses (847) (953) (958) (986) ROE 1.9% 1.1% 4.4% 5.3% Other expenses (222) 66 45 41 RONAV 2.9% 2.4% 8.3% 9.6% Earning before tax 135 68 258 329 ROEV 4.9% 1.9% 8.0% 9.7%

% change Y/Y -77.8% -49.3% 277.6% 27.2% Tax (27) (27) (80) (102)

Tax Rate - - - - Minorities (15) (2) (7) (10) Net income (Reported) 93 39 171 217

% change Y/Y -76.0% -57.8% 334.3% 27.2% Balance sheet (IFRS) Ratio Analysis € in millions, year end Dec FY08 FY09E FY10E FY11E € in millions, year end Dec FY08 FY09E FY10E FY11E ASSETS 41,501 44,382 45,575 46,811 Key ratios: Cash 345 369 369 369 Combined ratio 98.7% 104.5% 99.3% 98.3% Investments 35,422 38,235 39,429 40,664 Life op'g margin on assets - - - - Loans 1,663 1,696 1,696 1,696 Banking cost to income 69.3% 76.0% 74.0% 72.0% Deferred tax - - - - AM Cost income ratio - - - - Other 4,072 4,082 4,082 4,082 Intangibles including goodwill 1,819 1,818 1,818 1,818 PBT Break up Non Life 199.9% 61.9% 71.7% - LIABILITIES 37,796 40,186 41,191 42,224 Life 109.3% 54.1% 33.2% - Policyholder liabilities 25,298 27,322 27,322 27,322 Banking (82.9%) 8.6% 10.9% - Bank loans - - - - Consolidation (0.0%) (0.0%) (0.0%) - Debt 11,306 11,545 11,545 11,545 Other 1,191 1,319 2,324 3,357 Shareholder's equity 3,706 4,195 4,384 4,587 Mix of Total revenue Minorities 273 278 278 278 Non Life 0.0% 0.0% 0.0% - Total Equity and Liabilities 41,501 44,382 45,575 46,811 Life 0.0% 0.0% 0.0% - Banking 0.0% 0.0% 0.0% - Consolidation (0.0%) (0.0%) (0.0%) - Source: Company reports and J.P. Morgan estimates.

190




191



Strategy Dashboard Performance..........................................................192 Earnings ................................................................195 Valuations .............................................................199 Profit Margins .......................................................203 MSCI Europe Index Sector Composition............204 Macro-economic Forecasts .................................205

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Performance Table 26: Main Country and Regions Index Performance

Local Currency (%change) US$ (%change) Country Index 09YTD 2008 3years 09YTD 2008 3years Austria ATX 44.5 (61.2) (39.0) 56.9 (63.1) (30.9) Belgium BEL 20 30.5 (53.8) (39.5) 41.7 (56.0) (31.5) Denmark KFX 34.3 (46.6) (21.0) 45.9 (49.2) (10.4) Finland HEX 20 15.2 (53.4) (32.3) 25.1 (55.7) (23.4) France CAC 40 17.3 (42.7) (28.1) 27.4 (45.5) (18.7) Germany DAX 20.1 (40.4) (7.4) 30.4 (43.3) 4.8 Greece ASE General 35.7 (65.5) (42.8) 47.4 (67.2) (35.3) Ireland ISEQ 21.6 (66.2) (67.0) 32.0 (67.9) (62.6) Italy FTSE MIB 15.9 (49.5) (43.5) 25.9 (52.0) (36.1) 100 % Topix (0.2) (41.8) (46.6) 4.4 (28.2) (28.9) Netherlands AEX 28.3 (52.3) (33.4) 39.3 (54.7) (24.6) Norway OBX 56.8 (54.5) (15.8) 95.2 (64.7) (8.1) Portugal BVL GEN 38.0 (49.7) (13.6) 49.8 (52.2) (2.2) Spain IBEX 35 29.0 (39.4) (13.2) 40.1 (42.4) (1.7) Sweden OMX 44.0 (38.8) (10.0) 64.7 (49.9) (11.9) Switzerland SMI 15.1 (34.8) (24.3) 22.7 (30.6) (9.7) United States S&P 500 22.8 (38.5) (20.6) 22.8 (38.5) (20.6) United States NASDAQ 38.0 (40.5) (9.8) 38.0 (40.5) (9.8) United Kingdom FTSE 100 19.8 (31.3) (11.8) 38.5 (50.4) (25.9) EMU MSCI EMU 19.7 (46.6) (29.2) 29.9 (49.2) (19.9) Europe MSCI Europe 20.6 (40.9) (23.0) 33.6 (48.2) (20.6) Emerging Market MSCI EM 55.0 (47.2) 10.6 71.6 (54.5) 11.1 Global MSCI AC World 20.6 (40.1) (23.5) 27.4 (42.1) (19.3) Source: MSCI, Datastream, as at 1 December 2009

Figure 70: Ytd local currency performance

0

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OBX

MSC

I EM

ATX

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BVL

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35

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Ytd performance (lc) Source: Datastream, MSCI, as at 1 December 2009

193



Table 27: Sector Index Performance – MSCI Europe

Local currency (%change) US$ (%change) 09YTD 2008 3years 09YTD 2008 3years Europe 20.6 -40.9 -23.0 33.6 -48.2 -20.6 Energy 13.5 -25.8 -4.6 28.6 -40.7 -9.7 Materials 56.7 -51.3 3.0 74.2 -58.0 4.2 Chemicals 38.3 -40.4 11.8 50.5 -43.2 25.8 Construction Materials 29.3 -50.1 -31.6 39.8 -51.0 -21.2 Metals & Mining 85.5 -58.1 17.0 110.9 -67.4 6.5 Industrials 25.6 -46.1 -20.1 38.7 -51.3 -14.8 Capital Goods 26.6 -48.0 -18.1 39.7 -52.8 -12.1 Transport 21.0 -47.6 -34.9 32.1 -51.4 -28.8 Discretionary 21.9 -41.8 -25.3 34.5 -48.1 -21.7 Automobile 14.0 -47.0 -15.5 23.9 -49.8 -4.7 Consumer Durables 50.5 -49.7 -24.5 63.9 -51.8 -15.6 Hotels, Restaurants & Leisure 7.1 -34.0 -29.8 18.9 -43.3 -29.4 Media 52.9 -39.3 -16.7 73.0 -50.9 -20.9 Retailing 10.0 -34.1 -34.2 22.7 -45.5 -36.8 Staples 18.9 -25.7 8.2 31.9 -35.3 9.7 Food & Drug Retailing 15.6 -30.9 -3.8 29.3 -42.3 -5.7 Food Beverage & Tobacco 19.0 -23.9 10.8 31.7 -32.7 13.5 Household Products 24.9 -27.2 15.2 39.1 -38.1 15.5 Healthcare 7.7 -15.7 -14.6 18.1 -22.7 -10.0 Financials 33.1 -57.1 -47.7 47.0 -62.0 -45.5 Banks 44.6 -59.8 -46.8 61.4 -65.6 -46.1 Diversified Financials 36.1 -66.5 -58.7 47.5 -67.7 -54.0 Insurance 8.1 -41.0 -38.0 18.6 -46.3 -33.9 Real Estate 21.8 -50.3 -55.1 36.2 -58.4 -55.9 IT 7.1 -48.2 -42.1 17.5 -52.2 -36.5 Software and Services 24.2 -30.9 -20.1 35.6 -36.2 -12.8 Technology Hardware -6.5 -52.5 -50.1 3.1 -56.4 -45.2 Semicon & Semicon Equip 37.9 -58.5 -48.1 49.7 -60.7 -42.4 Telecoms 7.6 -30.9 -7.5 19.7 -40.2 -5.4 Utilities -3.3 -33.8 -20.5 6.4 -40.8 -16.1 Source: Datastream, MSCI, as at 1 December 2009

Figure 71: Ytd local currency performance, %

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ls

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pe

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Healt

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Source: Datastream, MSCI, as at 1 December 2009

194



Table 28: Sector Index Performance – MSCI EMU and UK

EMU (Local currency %change) UK (Local currency %change) 09YTD 2008 3years 09YTD 2008 3years Market 19.7 -46.6 -29.2 20.1 -31.6 -12.5 Energy 15.2 -37.3 -24.3 10.8 -15.7 10.4 Materials 35.8 -49.7 -13.1 95.6 -55.0 38.0 Chemicals 39.6 -41.7 11.4 38.0 -41.8 28.4 Construction Materials 28.8 -49.8 -37.5 - - - Metals & Mining 44.6 -62.7 -22.3 100.4 -56.0 39.8 Industrials 26.5 -49.9 -25.9 10.8 -26.7 -13.7 Capital Goods 27.3 -51.0 -23.6 9.4 -28.7 -15.8 Transport 19.8 -47.0 -36.5 -4.2 -48.3 -45.4 Discretionary 12.8 -42.2 -24.9 36.1 -39.5 -29.6 Automobile 14.0 -46.8 -14.0 - -65.6 - Consumer Durables 36.1 -42.9 -19.0 88.1 -66.1 -60.9 Hotels,Restaurants&Leisure 0.0 -35.6 -37.5 27.6 -34.8 -29.1 Media 50.2 -44.0 -14.0 20.5 -29.6 -13.8 Retailing -7.4 -32.6 -37.2 78.0 -48.5 -31.1 Staples 26.0 -36.6 -5.5 13.7 -16.2 20.8 Food & Drug Retailing 17.6 -37.3 -13.1 13.3 -23.1 7.6 Food Beverage & Tobacco 30.2 -36.4 -3.1 12.5 -14.3 23.2 Household Products 26.4 -36.6 -1.2 23.0 -11.5 41.0 Healthcare 16.0 -33.4 -23.4 1.2 7.3 -3.8 Financials 35.5 -59.3 -46.7 27.3 -53.5 -49.6 Banks 50.2 -61.9 -43.9 30.1 -56.6 -54.1 Diversified Financials 36.3 -71.4 -63.6 45.6 -60.3 -33.5 Insurance 5.9 -41.7 -38.7 19.8 -40.9 -32.5 Real Estate 44.2 -54.7 -48.3 -2.8 -44.2 -62.5 IT 5.5 -51.5 -39.8 19.9 -36.5 -35.6 Software and Services 25.2 -30.5 -17.2 19.9 -32.5 -34.2 Technology Hardware -14.3 -58.3 -50.6 - - - Semicon & Semicon Equip 37.9 -57.1 -47.2 - - - Telecoms 7.3 -28.4 -6.5 0.9 -29.8 -8.3 Utilities -2.8 -37.8 -22.5 -5.1 -17.7 -12.4 Source: Datastream, MSCI, as at 1 December 2009

Figure 72: Ytd local currency performance, %

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20

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60

80

100

120

UK M

ater

ials

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iscre

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EMU

Mat

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inanc

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EMU

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stria

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les

MSC

I UK

UK IT

MSC

I EM

U

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e

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taple

s

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nerg

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EMU

IT

UK H

ealth

care

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eleco

ms

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Utilit

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UK U

tilitie

s

Source: Datastream, MSCI, as at 1 December 2009

195



Earnings Table 29: IBES Consensus EPS Forecasts – Main Countries

EPS Growth (%change) Country Index 2008 2009E 2010E 2011E Austria ATX (21.9) (41.2) 35.3 38.8 Belgium BEL 20 (95.0) 718.1 22.0 14.0 Denmark Denmark KFX (18.2) (37.8) 12.1 49.2 Finland MSCI Finland (29.2) (48.4) 25.0 23.3 France CAC 40 (12.6) (30.0) 27.5 20.9 Germany DAX (49.8) 7.4 32.2 21.5 Greece MSCI Greece (13.4) (17.9) 6.2 24.1 Ireland MSCI Ireland (1.4) (50.4) 27.3 31.1 Italy MSCI Italy (8.2) (41.8) 21.6 27.0 Netherlands AEX (33.9) (46.3) 68.5 28.2 Norway MSCI Norway 0.3 (38.7) 32.4 23.4 Portugal MSCI Portugal (20.4) 1.9 5.5 12.8 Spain IBEX 35 5.1 (31.3) 10.5 17.3 Sweden OMX (6.5) (42.4) 25.2 27.7 Switzerland SMI (85.7) 536.1 26.9 12.9 United Kingdom FTSE 100 (26.5) (31.3) 26.1 24.0 EMU MSCI EMU (25.7) (21.2) 24.2 21.1 Europe ex UK MSCI Europe ex UK (30.7) (11.0) 25.5 20.5 Europe MSCI Europe (23.6) (18.3) 23.6 20.2 United States S&P 500 (27.9) (1.5) 24.6 21.6 Japan Topix (119.6) - 89.7 27.5 Emerging Market MSCI EM (24.3) 16.6 11.1 27.3 Global MSCI AC World (22.4) (8.5) 20.8 20.2 Source: IBES, MSCI, Datastream, as at 1 December 2009 ** Japan refers to the period from March in the year stated to March in the following year

Figure 73: 2010 Consensus EPS growth expectations, %

0

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70

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100

Japa

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Norw

ay

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d Ki

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Euro

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Source: Datastream, MSCI, IBES as at 1 December 2009

196



Table 30: IBES Consensus EPS Forecasts - MSCI Europe

EPS (%change) 2008 2009E 2010E 2011E Europe (23.6) (18.3) 23.6 20.2 Energy 19.0 (44.5) 31.4 17.3 Materials 3.5 (58.6) 43.2 31.2 Chemicals 14.7 (37.5) 26.4 18.1 Construction Materials (24.3) (44.1) 13.0 25.4 Metals & Mining 10.6 (73.5) 67.1 40.0 Industrials (9.4) (28.9) 19.2 23.6 Capital Goods (3.6) (26.7) 12.2 21.4 Transport (43.9) (58.9) 141.2 44.3 Discretionary (25.3) (51.9) 67.4 32.0 Automobile (53.3) (157.8) - 115.3 Consumer Durables (15.5) (21.8) 17.5 16.2 Media 3.4 (13.6) 4.2 9.3 Retailing (11.4) (0.0) 11.5 13.8 Hotels, Restaurants & Leisure 9.3 (29.7) 1.8 12.2 Staples 7.7 (1.9) 10.1 10.7 Food & Drug Retailing 4.8 (3.3) 12.1 12.8 Food Beverage & Tobacco 7.3 (0.7) 10.0 10.2 Household Products 19.9 (6.7) 6.1 10.5 Healthcare 10.8 11.4 6.7 6.7 Financials (69.7) 34.2 34.5 32.5 Banks (42.1) (42.2) 37.2 48.5 Diversified Financials (211.7) - 65.9 22.7 Insurance (63.1) 38.4 19.0 13.5 Real Estate (2.2) (19.3) (0.3) 7.8 IT (3.1) (47.5) 85.2 25.4 Software and Services 13.8 (5.9) 12.4 13.3 Technology Hardware (5.6) (52.8) 53.7 24.6 Semicon & Semicon Equip (40.2) (194.3) - 87.5 Telecoms 11.7 (8.1) 5.4 6.3 Utilities 3.3 (10.6) 3.1 6.0

Source: IBES, MSCI, Datastream, as at 1 December 2009


0102030405060708090

IT

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Source: Datastream, MSCI, IBES, as at 1 December 2009

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Table 31: IBES Consensus EPS Forecasts - MSCI EMU EPS (%change) 2008 2009E 2010E 2011EEMU (25.7) (21.2) 24.2 21.1Energy 12.6 (44.5) 26.5 16.7Materials 2.0 (66.9) 67.2 35.0Chemicals 5.7 (39.5) 27.7 19.5Construction Materials (10.7) (48.8) 14.9 27.3Metals & Mining 16.0 (105.8) - 77.3Industrials (12.9) (21.6) 11.0 22.9Capital Goods (4.6) (20.2) 4.9 20.5Transport (50.6) (28.9) 68.3 36.1Discretionary (30.6) (72.3) 165.4 44.0Automobile (53.3) (157.8) - 115.3Consumer Durables 2.3 (24.2) 21.1 16.9Media 1.2 (15.6) 4.5 8.1Retailing (9.1) (11.3) 14.0 14.4Hotels, Restaurants & Leisure 17.3 (43.2) 5.3 14.0Staples 6.4 (11.9) 12.0 12.8Food & Drug Retailing 4.7 (12.7) 13.5 15.1Food Beverage & Tobacco 4.7 (8.2) 10.9 11.6Household Products 17.5 (23.2) 14.1 12.7Healthcare 5.8 5.9 6.7 6.3Financials (62.6) 25.5 23.7 28.0Banks (38.8) (15.6) 25.2 36.9Diversified Financials (113.2) - 29.4 23.3Insurance (72.7) 58.4 20.8 14.0Real Estate 6.6 8.3 (1.7) 7.1IT 1.0 (53.6) 108.3 28.0Software and Services 13.2 (10.0) 12.3 13.7Technology Hardware 0.7 (60.0) 56.8 27.4Semicon & Semicon Equip (40.2) - - 87.5Telecoms 4.6 (4.4) 7.3 6.7Utilities 5.3 (13.1) 4.0 6.1Source: IBES, MSCI, Datastream, as at 1 December 2009


020406080

100120140160180200

Disc

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198



Table 32: IBES Consensus EPS Forecasts - MSCI UK

EPS (%change) 2008 2009E 2010E 2011E UK (8.8) (30.3) 19.9 19.7 Energy 23.0 (45.8) 35.2 17.6 Materials 10.1 (52.0) 28.6 30.7 Chemicals (1.6) (7.4) 15.5 13.0 Construction Materials - - - - Metals & Mining 10.0 (53.3) 29.5 31.4 Industrials (8.6) 5.8 7.4 12.2 Capital Goods (0.1) 4.0 (0.5) 9.8 Transport (91.4) (176.0) - 57.6 Discretionary (4.9) (5.7) 4.0 12.4 Automobile - - - - Consumer Durables (20.2) (8.6) 10.7 16.2 Media 9.8 (7.5) 3.5 12.2 Retailing (23.2) 6.2 8.1 13.1 Hotels, Restaurants & Leisure 2.1 (16.4) (0.1) 11.2 Staples 11.8 9.1 9.2 9.9 Food & Drug Retailing 4.8 8.4 10.7 10.5 Food Beverage & Tobacco 13.0 6.9 10.2 9.9 Household Products 24.5 23.4 (2.9) 7.5 Healthcare 18.9 16.2 (0.3) 3.1 Financials (48.6) (51.2) 50.7 48.2 Banks (50.3) (75.5) 122.2 74.1 Diversified Financials (172.6) - 34.2 22.1 Insurance 3.3 (7.7) 1.3 12.6 Real Estate (8.2) (41.4) 1.7 8.9 IT 19.5 28.6 13.2 11.2 Software and Services 19.5 28.6 13.2 11.2 Technology Hardware - - - - Semicon & Semicon Equip - - - - Telecoms 27.2 (15.2) 3.5 5.4 Utilities (4.1) 0.3 (0.2) 5.5

Source: IBES, MSCI, Datastream, as at 1 December 2009


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Valuations Table 33: IBES Consensus P/E and Dividend Yield Country Forecasts

P/E Dividend Yield Country Index 12mth Fwd 2009E 2010E 2011E 12mth Fwd Austria ATX 13.4 17.9 13.2 9.5 3.0% Belgium BEL 20 12.6 15.1 12.4 10.9 2.9% Denmark Denmark KFX 17.4 19.2 17.1 11.5 2.7% Finland MSCI Finland 14.0 17.3 13.9 11.2 4.4% France CAC 40 12.0 15.0 11.8 9.7 5.3% Germany DAX 12.6 16.2 12.4 10.2 3.7% Greece MSCI Greece 9.9 10.5 9.9 8.0 2.3% Ireland MSCI Ireland 17.7 22.2 17.4 13.3 4.2% Italy MSCI Italy 1.0 14.4 11.9 9.3 3.6% Netherlands AEX 13.1 21.2 12.6 9.8 3.3% Norway MSCI Norway 11.8 15.4 11.6 9.4 1.7% Portugal MSCI Portugal 13.9 14.7 14.0 12.4 4.2% Spain IBEX 35 12.3 13.5 12.2 10.4 4.3% Sweden OMX 16.0 20.0 16.0 12.5 3.5% Switzerland SMI 12.7 15.9 12.5 11.1 2.6% United Kingdom FTSE 100 12.9 16.0 12.7 10.3 3.8% EMU MSCI EMU 6.9 15.1 12.1 10.0 4.1% Europe ex UK MSCI Europe ex UK 12.8 15.7 12.5 10.4 3.7% Europe MSCI Europe 12.6 15.3 12.4 10.3 3.8% United States S&P 500 14.6 18.0 14.5 11.9 2.3% Japan Topix 19.7 31.0 16.5 13.0 1.9% Emerging Market MSCI EM 12.9 16.1 12.7 10.7 2.1% Global MSCI AC World 55.9 17.4 13.9 11.6 2.8% Source: IBES, MSCI, Datastream, As at 1 December 2009 * Japan refers to the period from March in the year stated to March in the following year

Figure 77: 2010 Consensus P/E multiples expectations

10

11

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Table 34: Consensus European sector valuations P/E Dividend Yield EV/EBITDA Price to Book 2009E 2010E 2011E 2009E 2010E 2011E 2009E 2010E 2011E 2009E 2010E 2011E Europe 15.3 12.4 10.3 3.3% 3.7% 4.2% 7.3 6.5 5.9 1.6 1.5 1.4 Energy 13.5 10.3 8.8 4.7% 4.9% 5.2% 5.2 4.3 3.7 1.7 1.6 1.5 Materials 21.3 15.0 11.4 1.8% 2.2% 2.6% 9.5 7.5 6.0 1.7 1.7 1.5 Chemicals 19.9 15.7 13.3 2.7% 3.0% 3.3% 8.7 7.4 6.5 2.2 2.0 1.9 Construction Materials 15.4 13.7 10.9 2.4% 2.6% 3.2% 8.4 7.6 6.6 1.1 1.1 1.0 Metals & Mining 24.5 14.9 10.6 1.2% 1.6% 2.1% 11.1 7.6 5.7 1.8 1.8 1.6 Industrials 18.3 15.4 12.4 2.8% 2.9% 3.3% 8.5 7.7 8.2 2.0 1.9 1.7 Capital Goods 16.9 15.0 12.4 2.8% 2.9% 3.3% 8.5 7.8 9.0 1.9 1.8 1.7 Transport 42.9 17.8 12.3 2.8% 3.0% 3.4% 8.0 7.3 6.1 1.9 1.8 1.7 Discretionary 26.0 15.4 11.7 2.7% 3.1% 3.5% 7.2 6.3 5.3 1.7 1.6 1.5 Automobile - 21.1 9.8 0.9% 1.7% 2.7% 5.1 3.6 2.9 0.9 0.9 0.8 Consumer Durables 20.3 17.3 14.9 1.8% 2.0% 2.2% 10.4 9.1 8.0 2.5 2.3 2.1 Media 12.0 11.5 10.5 4.5% 4.8% 5.1% 7.2 7.1 6.6 1.9 1.8 1.7 Retailing 17.4 15.6 13.7 3.3% 3.5% 3.9% 10.4 9.1 8.1 3.0 2.7 2.6 Hotels, Restaurants & Leisure 14.0 13.8 12.3 3.6% 3.8% 4.2% 7.7 7.4 6.5 2.2 2.0 1.9 Staples 16.0 14.5 13.1 2.8% 3.0% 3.3% 9.5 8.9 8.1 2.9 2.6 2.3 Food & Drug Retailing 14.6 13.0 11.6 2.9% 3.1% 3.4% 6.5 6.8 6.1 2.0 1.9 1.7 Food Beverage & Tobacco 16.0 14.5 13.2 2.9% 3.1% 3.4% 9.9 9.3 8.5 3.1 2.8 2.5 Household Products 19.2 18.1 16.4 2.2% 2.3% 2.5% 11.9 10.8 9.7 3.8 3.4 3.1 Healthcare 12.0 11.3 10.5 3.4% 3.7% 4.0% 8.1 7.6 6.9 3.0 2.7 2.4 Financials 15.8 11.8 8.9 2.8% 3.4% 4.4% - - - 1.1 1.0 0.9 Banks 19.2 14.0 9.4 2.3% 3.0% 4.1% - - - 1.0 1.0 0.9 Diversified Financials 16.3 9.8 8.0 2.5% 3.4% 4.5% - - - 1.1 1.0 0.9 Insurance 10.3 8.7 7.6 3.9% 4.5% 5.1% - - - 1.1 1.0 0.9 Real Estate 18.0 18.1 16.8 5.5% 5.1% 5.3% - - - 1.1 1.1 1.1 IT 27.0 14.6 11.6 2.1% 2.5% 2.7% 10.2 7.3 6.0 2.3 2.1 2.0 Software and Services 17.3 15.4 13.6 1.7% 1.9% 2.2% 10.0 8.6 7.3 3.2 2.8 2.5 Technology Hardware 19.6 12.7 10.2 2.9% 3.4% 3.7% 8.6 6.3 5.1 2.0 1.8 1.7 Semicon & Semicon Equip - 25.4 13.5 0.9% 1.0% 1.3% 55.1 7.9 5.9 1.9 1.8 1.7 Telecoms 10.7 10.2 9.6 5.9% 6.4% 6.7% 5.2 5.2 5.0 1.7 1.6 1.5 Utilities 11.2 10.9 10.3 4.9% 5.1% 5.4% 7.8 7.3 6.9 1.6 1.5 1.4 Source: Datastream, MSCI, IBES; Dividend yield, EV / EBITDA and Price / Book are bottom-up aggregated, as at 1 December 2009

201



Table 35: Consensus EMU sector valuations

P/E Dividend Yield EV/EBITDA Price to Book 2009E 2010E 2011E 2009E 2010E 2011E 2009E 2010E 2011E 2009E 2010E 2011E EMU 15.1 12.1 10.0 3.5% 3.9% 4.4% 6.9 6.2 5.7 1.5 1.4 1.3 Energy 12.6 10.0 8.6 4.8% 4.9% 5.3% 5.1 4.2 3.6 1.6 1.5 1.4 Materials 25.7 15.7 11.6 2.6% 2.8% 3.3% 9.3 7.3 6.0 1.4 1.3 1.2 Chemicals 20.2 15.8 13.2 2.9% 3.2% 3.6% 8.1 6.9 6.1 2.0 1.9 1.8 Construction Materials 15.3 13.4 10.5 2.5% 2.7% 3.3% 8.4 7.6 6.6 1.0 1.0 1.0 Metals & Mining - 16.6 9.3 2.0% 2.1% 2.8% 15.1 7.7 5.5 1.1 1.1 1.0 Industrials 16.7 15.0 12.2 3.0% 3.1% 3.5% 8.2 7.8 6.8 1.8 1.7 1.6 Capital Goods 15.3 14.6 12.1 3.0% 3.1% 3.4% 7.8 7.4 6.5 1.7 1.6 1.5 Transport 29.0 17.2 12.7 3.2% 3.3% 3.9% 9.2 8.7 7.5 1.9 1.9 1.8 Discretionary 42.5 15.8 11.0 2.6% 3.0% 3.5% 6.7 5.7 4.8 1.5 1.4 1.3 Automobile - 21.1 9.8 0.9% 1.7% 2.7% 5.1 3.6 2.9 0.9 0.9 0.8 Consumer Durables 21.7 17.9 15.3 1.9% 2.0% 2.2% 10.5 9.3 8.1 2.5 2.3 2.2 Media 11.2 10.7 9.9 5.0% 5.2% 5.6% 6.9 6.7 6.3 1.7 1.6 1.5 Retailing 18.1 15.8 13.9 2.8% 2.9% 3.3% 8.7 9.1 8.0 2.6 2.4 2.2 Hotels, Restaurants & Leisure 16.2 15.4 13.5 4.4% 4.5% 4.7% 6.9 6.8 6.3 2.3 2.2 2.1 Staples 16.7 14.9 13.2 2.3% 2.5% 2.7% 9.1 8.4 7.6 2.5 2.3 2.1 Food & Drug Retailing 14.8 13.1 11.4 2.9% 3.1% 3.5% 6.5 6.0 5.4 1.9 1.8 1.7 Food Beverage & Tobacco 16.5 14.9 13.4 2.2% 2.4% 2.6% 9.8 9.2 8.3 2.6 2.4 2.2 Household Products 21.8 19.1 16.9 1.9% 2.0% 2.2% 12.0 10.6 9.5 3.3 3.0 2.8 Healthcare 11.9 11.1 10.5 3.2% 3.4% 3.6% 7.8 7.1 6.5 1.8 1.7 1.6 Financials 13.2 10.6 8.3 3.0% 3.8% 4.9% - - - 1.0 0.9 0.9 Banks 14.4 11.5 8.4 2.6% 3.5% 4.8% - - - 1.0 0.9 0.9 Diversified Financials 11.9 9.2 7.5 2.5% 3.4% 4.5% - - - 0.9 0.8 0.8 Insurance 10.9 9.0 7.9 3.7% 4.5% 5.0% - - - 1.0 1.0 0.9 Real Estate 16.3 16.6 15.5 5.5% 5.5% 5.8% - - - 1.1 1.2 1.1 IT 31.3 15.0 11.7 2.1% 2.4% 2.7% 10.8 7.4 6.1 2.5 2.3 2.1 Software and Services 17.3 15.4 13.5 1.7% 2.0% 2.2% 9.8 8.4 7.2 3.3 2.9 2.5 Technology Hardware 19.9 12.7 10.0 3.1% 3.7% 4.1% 9.2 6.3 5.1 2.2 2.0 2.0 Semicon & Semicon Equip - 25.4 13.5 0.9% 1.0% 1.3% 55.1 7.9 5.9 1.9 1.8 1.7 Telecoms 11.5 10.7 10.0 6.6% 7.0% 7.4% 5.2 5.0 4.8 2.1 2.1 2.0 Utilities 11.3 10.9 10.3 4.8% 5.1% 5.4% 7.9 7.3 6.8 1.5 1.4 1.4 Source: Datastream, MSCI, IBES; Dividend yield, EV / EBITDA and Price / Book are bottom-up aggregated, as at 1 December 2009

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Table 36: Consensus UK sector valuations

P/E Dividend Yield EV/EBITDA Price to Book 2009E 2010E 2011E 2009E 2010E 2011E 2009E 2010E 2011E 2009E 2010E 2011E UK 14.6 12.1 10.1 3.4% 3.7% 4.0% 7.7 6.9 6.1 1.8 1.7 1.6 Energy 14.2 10.5 8.9 4.8% 4.9% 5.0% 5.9 4.8 4.1 1.7 1.6 1.5 Materials 18.5 14.4 11.0 1.0% 1.5% 1.8% 9.6 7.6 5.9 2.1 2.2 2.0 Chemicals 19.8 17.1 15.2 2.5% 2.5% 2.6% - 9.9 9.2 2.8 2.5 2.3 Construction Materials - - - - - - - - - - - - Metals & Mining 18.6 14.4 10.9 1.0% 1.4% 1.8% 9.7 7.6 5.8 2.2 2.3 2.0 Industrials 12.9 12.1 10.7 2.8% 3.1% 3.3% 7.3 7.7 22.4 2.3 2.1 1.9 Capital Goods 11.0 11.1 10.1 3.2% 3.4% 3.7% 6.5 6.7 31.1 2.0 1.8 1.7 Transport - 15.0 9.5 2.2% 2.4% 2.6% - 10.4 6.6 1.7 2.0 2.0 Discretionary 13.8 13.3 11.8 3.2% 3.3% 3.6% 8.3 7.9 7.0 2.2 2.0 1.8 Automobile - - - - - - - - - - - - Consumer Durables 17.4 15.7 13.6 1.4% 1.9% 2.0% - 9.5 8.3 2.7 2.5 2.3 Media 13.9 13.4 12.0 3.5% 3.7% 3.9% 8.4 8.4 7.4 2.5 2.4 2.1 Retailing 14.2 13.1 11.6 3.4% 3.2% 3.4% 3.5 7.1 6.5 1.9 1.7 1.6 Hotels, Restaurants & Leisure 12.8 12.8 11.5 2.8% 3.1% 3.7% 8.6 7.9 6.7 2.1 1.9 1.7 Staples 14.7 13.5 12.3 3.4% 3.7% 4.0% 10.2 9.4 8.6 3.3 3.0 2.7 Food & Drug Retailing 14.4 13.0 11.8 2.8% 3.2% 3.4% - 8.2 7.6 2.1 2.0 1.8 Food Beverage & Tobacco 14.6 13.3 12.1 3.6% 3.9% 4.3% 10.0 9.6 8.8 3.7 3.4 3.0 Household Products 16.3 16.8 15.6 3.0% 3.0% 3.3% 11.4 11.3 10.2 5.7 4.9 4.2 Healthcare 9.5 9.5 9.2 4.6% 4.8% 5.0% 6.4 6.1 5.6 4.8 3.9 3.3 Financials 22.9 15.2 10.3 2.7% 2.9% 3.6% - - - 1.2 1.2 1.1 Banks 42.7 19.2 11.0 2.0% 2.3% 3.1% - - - 1.2 1.2 1.1 Diversified Financials 14.6 10.9 8.9 4.4% 4.4% 4.6% - - - 1.6 1.7 1.6 Europe Insurance 8.4 8.3 7.4 4.4% 4.9% 5.2% - - - 1.3 1.2 1.1 Europe Real Estate 20.5 20.1 18.5 5.5% 4.3% 4.5% - - - 1.1 1.1 1.0 IT 17.5 15.4 13.9 1.5% 1.7% 1.9% 11.4 9.9 8.4 2.5 2.3 2.1 Software and Services 17.5 15.4 13.9 1.5% 1.7% 1.9% 11.4 9.9 8.4 2.5 2.3 2.1 Technology Hardware - - - - - - - - - - - - Semicon & Semicon Equip - - - - - - - - - - - - Telecoms 9.4 9.1 8.6 5.7% 5.8% 5.9% 4.9 5.6 5.4 1.0 1.0 0.9 Utilities 10.8 10.8 10.2 5.3% 5.8% 6.0% 6.1 7.6 7.5 2.6 2.3 2.1 Source: Datastream, MSCI, IBES; Dividend yield, EV / EBITDA and Price / Book are bottom-up aggregated, as at 1 December 2009

203



Profit Margins Table 37: Consensus EBIT Margins* Forecasts

EUROPE EMU UK 2009E 2010E 2011E 2009E 2010E 2011E 2009E 2010E 2011E Market ex Financials 10.6% 12.0% 12.9% 9.0% 10.4% 11.2% 12.3% 13.2% 14.1% Energy 10.4% 12.1% 12.8% 11.7% 13.0% 13.5% 7.9% 9.9% 10.5% Materials 10.5% 13.8% 16.1% 5.4% 8.7% 10.3% 24.2% 27.9% 31.7% Chemicals 8.5% 10.2% 11.1% 8.4% 9.9% 10.9% 3.7% 3.8% 4.0% Construction Materials 11.9% 13.1% 14.3% 11.3% 12.5% 13.8% - - - Metals & Mining 12.3% 17.3% 20.7% -1.1% 6.0% 8.7% 26.8% 30.4% 34.5% Industrials 6.3% 7.2% 8.4% 6.5% 7.0% 7.9% 6.6% 6.7% 7.5% Capital Goods 6.6% 7.3% 8.4% 6.8% 7.2% 8.0% 7.2% 7.3% 7.6% Transportation 5.6% 7.1% 8.8% 5.5% 6.5% 7.9% 1.8% 0.4% 4.3% Discretionary 6.0% 8.2% 9.5% 4.3% 6.6% 8.1% 9.4% 9.6% 10.2% Autos -0.7% 2.8% 4.9% 0.0% 2.7% 4.7% - - - Consumer Durables 13.3% 14.3% 15.4% 15.0% 16.3% 17.3% 16.1% 15.7% 16.8% Media 15.7% 16.4% 17.3% 16.3% 16.8% 17.6% 14.5% 15.3% 16.4% Retailing 10.4% 10.7% 11.2% 10.4% 10.6% 11.1% 7.2% 7.3% 7.5% Hotels, Restaurants & Leisure 7.5% 7.3% 7.8% 6.7% 6.8% 7.2% 7.8% 7.8% 8.4% Staples 10.3% 10.7% 10.8% 8.3% 8.7% 8.5% 13.0% 13.2% 13.5% Food Retail 4.0% 4.2% 4.4% 3.5% 3.8% 4.0% 5.1% 5.3% 5.5% Food Beverage & Tobacco 16.7% 17.1% 18.1% 16.0% 16.7% 18.3% 19.5% 20.0% 20.5% Household & Personal Products 14.0% 14.6% 15.1% 11.7% 12.7% 13.3% 24.0% 23.0% 23.1% Healthcare 23.2% 23.9% 24.4% 16.5% 17.1% 17.5% 33.6% 33.3% 34.3% IT 7.0% 10.6% 12.3% 6.3% 10.1% 12.0% 27.0% 29.6% 30.4% Software 15.8% 17.6% 18.6% 15.0% 16.7% 17.8% 27.0% 29.6% 30.4% Hardware 5.5% 8.3% 10.0% 4.6% 7.4% 9.2% - - - Semiconductors -9.2% 6.7% 10.8% -9.2% 6.7% 10.8% - - - Telecoms 19.4% 18.7% 19.1% 18.4% 19.1% 19.5% 22.5% 17.2% 17.6% Utilities 13.6% 14.2% 14.5% 13.9% 14.2% 14.6% 12.2% 14.1% 14.1% Source: Datastream, MSCI, IBES, JPMorgan, bottom-up aggregated, as at 1 December 2009 *EBIT/SALES

Figure 78: 2010 Consensus European EBIT/Sales expectations

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204



MSCI Europe Index Sector Composition Table 38: MSCI Europe Sector Composition Sector Weight Industry Group Weight Industry Level WeightFinancials 24.7% Banks 58.9% Commercial Banks 100.0% Insurance 20.7% Insurance 100.0% Diversified Financials 16.5% Diversified Financials 29.2% Capital Markets 70.8% Real Estate 3.8% Real Estate 100.0%Staples 11.7% Food&Drug Retailing 18.2% Food&Staples Retailing 100.0% Food Beverage&Tobacco 72.0% Beverages 26.2% Food Products 56.9% Tobacco 16.9% Household & Personal Products 9.8% Household Products 59.3% Personal Products 40.7%Energy 11.3% Energy 100.0% Energy Equipment & Services 6.6% Oil&Gas 93.4%Health care 10.2% Health Care Equipment & Services 9.8% Health Care Equipment & Supplies 81.8% Health CareProviders & Services 18.2% Pharmaceuticals & Biotechnology 90.2% Biotechnology 1.3% Pharmaceuticals 97.4%Industrials 9.5% Capital Goods 78.3% Aerospace&Defence 11.8% Building Products 6.7% Construction&Engineering 13.2% Electrical Equipment 21.3% Industrial Conglomerates 24.8% Machinery 20.4% Trading Companies &Distributors 1.8% Commercial Services&Supplies 8.0% Commercial Services&Supplies 100.0% Transportation 13.7% Air Freight&Couriers 30.4% Airlines 12.0% Marine 21.0% Road&Rail 7.7% Transportation Infrastructure 29.0%Materials 9.3% Materials 100.0% Chemicals 31.5% Construction Materials 10.8% Containers&Packaging 0.6% Metals&Mining 53.7% Paper&Forest Products 3.2%Discretionary 7.1% Automobiles&Components 26.1% Auto Components 12.3% Automobiles 87.7% Consumer Durables&Apparel 19.6% Household Durables 9.1% Textiles & Apparel 90.9% Hotels Restaurants&Leisure 10.8% Hotels Restaurants&Leisure 100.0% Media 26.2% Media 100.0% Retailing 17.4% Internet&Catalog Retail 5.3% Multiline Retail 30.7% Speciality Retail 64.0%Telecoms 7.2% Telecommunication Services 100.0% Diversified Telecommunication Services 74.0% Wireless Telecommunication Services 26.0%Utilities 6.3% Utilities 100.0% Electric Utilities 51.9% Gas Utilities 3.7% Multi-Utilities 39.8% Water-Utilities 0.9%IT 2.7% Software&Services 36.5% Internet Software&Services 2.5% IT Consulting & Services 16.5% Software 80.9% Technology Hardware & Equipment 50.1% Communications Equipment 93.8% Computers&Peripherals 3.3% Office Electronics 2.9% Semiconductor&Semiconductor Equipment 13.4% Semiconductor Equipment & Products 100.0%Source: Datastream, MSCI, as at 1 December 2009

205



Macro-economic Forecasts Table 39: Growth forecasts

Real GDP % oya

Real GDP % oqa, saar

Country 2008 2009 E 2010 E 2Q 09 3Q 09 4Q 09 E 1Q 10 E 2Q 10 E 3Q 10 E 4Q 10 E Global 1.3 -2.5 3.3 1.4 3.4 3.4 3.4 3.6 3.7 3.4 United States 0.4 -2.5 3.2 -0.7 2.8 3.5 3.0 4.0 4.0 3.5 Japan -0.7 -5.2 2.4 2.7 4.8 2.5 2.5 1.5 1.5 2.0 United Kingdom 0.6 -4.6 1.6 -2.3 -1.2 2.0 2.0 2.5 2.8 3.5 Euro area 0.6 -3.9 2.5 -0.7 1.5 2.5 3.0 3.0 3.0 2.5 Germany 1.0 -4.7 3.4 1.8 2.9 4.0 3.5 3.5 3.5 2.5 France 0.3 -2.3 2.5 1.1 1.1 2.5 3.0 3.0 3.0 2.5 Italy -1.0 -4.8 1.7 -1.9 2.4 1.0 2.0 2.0 2.0 2.5 Norway 2.1 -1.1 2.8 1.3 2.0 3.0 3.0 3.0 3.0 3.0 Sweden -0.5 -4.2 3.2 1.2 0.7 4.0 4.0 3.5 3.5 3.0 Switzerland 1.8 -1.3 2.2 -1.0 1.8 2.3 2.5 2.5 3.0 3.0 Emerging Europe 4.1 -5.3 4.0 2.1 4.7 4.9 3.4 3.2 3.3 3.6 China 9.0 8.6 9.5 14.8 10.0 9.1 9.0 9.5 9.3 8.7 India 6.1 6.0 7.5 6.7 9.0 -1.0 10.0 7.0 9.6 9.0 Emerging markets 5.0 0.7 5.8 7.6 7.3 5.4 5.6 5.3 5.7 5.0 Source: J.P. Morgan, as at 27 November 2009

Table 40: Interest rate forecasts Forecast Forecast for Official interest rate Current Last change next change Dec 09 Mar 10 Jun 10 Sep 10 Dec 10 Global GDP-weighted average 1.30 1.30 1.32 1.36 1.43 1.48 United States Federal funds rate 0.125 16 Dec 08 (-87.5 bp) On hold 0.125 0.125 0.125 0.125 0.125 Japan Overnight call rate 0.10 19 Dec 08 (-20 bp) On hold 0.10 0.10 0.10 0.10 0.10 United Kingdom Repo rate 0.50 5 Mar 09 (-50 bp) 3Q 10 (+25 bp) 0.50 0.50 0.50 0.75 1.00 Euro area Refi rate 1.00 7 May 09 (-25 bp) On hold 1.00 1.00 1.00 1.00 1.00 Norway Deposit rate 1.50 28 Oct 09 (+25 bp) 3 Feb 10 (+25 bp) 1.50 1.75 2.00 2.25 2.25 Sweden Repo rate 0.25 2 Jul 09 (-25 bp) On hold 0.25 0.25 0.25 0.25 0.25 Switzerland 3-month Swiss Libor 0.25 12 Mar 09 (-25 bp) On hold 0.25 0.25 0.25 0.25 0.25 China 1-year working capital 5.31 22 Dec 08 (-27 bp) 3Q 10 (+27 bp) 5.31 5.31 5.31 5.58 5.85 India Repo rate 4.75 21 Apr 09 (-25 bp) 1Q 10 (+25 bp) 4.75 5.00 5.25 5.25 5.25 Source: J.P. Morgan, as at 27 November 2009

Table 41: 10 year government bond yield forecasts Forecast for end of Current Dec 09 Mar 10 Jun 10 Sep 10 United States 3.34 3.50 3.75 4.00 4.25 Japan 1.31 1.40 1.30 1.40 1.50 United Kingdom 3.63 3.75 3.95 4.10 4.30 Euro area 3.26 3.45 3.50 3.55 3.60 Source: J.P. Morgan, as at 27 November 2009

Table 42: Exchange rate forecasts Forecast for end of vs US Dollar Current Mar 10 Jun 10 Sep 10 Dec 10 EUR 1.49 1.55 1.62 1.55 1.50 GBP 1.64 1.65 1.74 1.68 1.67 CHF 1.01 0.96 0.91 0.95 0.97 SEK 7.02 6.45 6.05 6.26 6.40 NOK 5.71 5.16 4.88 5.03 5.00 JPY 86.5 85 82 85 89 Source: J.P. Morgan, as at 27 November 2009

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Table 43: US economic forecasts %q/q, saar %q4/q4 %y/y 3Q 09E 4Q 09E 1Q 10E 2Q 10E 3Q 10E 4Q 10E 2008 2009E 2010E 2008 2009E 2010EGross domestic product Real GDP (%ch saar) 2.8 3.5 3.0 4.0 4.0 3.5 -1.9 -0.3 3.6 0.4 -2.5 3.2 Final sales 1.9 1.7 1.9 2.7 3.0 3.2 -1.4 0.0 2.7 0.8 -1.7 2.2 Domestic 2.7 1.9 1.8 2.7 2.7 3.1 -2.1 -0.7 2.6 -0.4 -2.6 2.1 Consumer spending 2.9 1.7 1.5 2.5 2.5 3.0 -1.8 1.1 2.4 -0.2 -0.6 2.0 Business investment -4.1 -0.4 1.1 1.8 4.2 4.9 -6.0 -14.9 3.0 1.6 -17.8 0.2 Equipment 2.3 5.0 6.0 6.0 8.0 8.0 -10.7 -10.2 7.0 -2.6 -17.2 5.0 Structures -15.2 -12.0 -10.0 -8.0 -5.0 -3.0 3.2 -23.2 -6.5 10.3 -19.1 -10.2 Residential investment 19.5 10.0 15.0 15.0 20.0 20.0 -21.0 -11.1 17.5 -22.9 -20.1 12.7 Government 3.1 2.6 1.7 1.9 0.5 0.2 3.1 2.4 1.1 3.1 2.2 2.1 Net exports (bil, chained $2000) -358.0 -367.0 -365.0 -365.0 -361.0 -360.0 - - - - - - Exports (%ch saar) 17.0 15.0 13.0 11.0 11.0 9.0 -3.4 -2.5 11.0 5.4 -10.1 11.8 Imports (%ch saar) 20.8 14.0 10.0 9.0 8.0 7.0 -6.8 -7.0 8.5 -3.2 -14.0 9.6 Inventories (ch $bil, chained $2000) -133.4 -76.0 -42.5 -1.5 32.4 41.1 - - - - - -Contribution to GDP growth (in pct pts): Domestic final sales 2.8 1.9 1.8 2.7 2.7 3.1 -2.2 -0.7 2.6 -0.4 -2.7 2.1Net exports -0.8 -0.2 0.1 0.1 0.2 0.1 0.7 0.7 0.1 1.2 0.9 0.0Inventories 0.9 1.8 1.1 1.3 1.0 0.3 -0.4 -0.3 0.9 -0.3 -0.7 1.0Income and profits (NIPA basis) Adjusted corp profits (%ch saar) 49.6 20.0 12.0 15.0 12.0 9.0 0.0 26.4 12.0 -11.8 -4.7 18.0Real disp personal income (%ch saar) -1.5 0.0 2.5 3.0 3.0 3.5 0.0 1.2 3.0 0.5 1.1 2.0Saving rate (*) 4.5 4.1 4.3 4.5 4.6 4.7 - - - 2.7 4.4 4.5Prices and labor cost Consumer price index (%ch saar) 3.6 2.4 1.8 1.0 0.8 0.8 1.5 1.2 1.1 3.8 -0.4 1.7 Core 1.5 1.2 0.8 0.6 0.3 0.3 2.0 1.7 0.5 2.3 1.7 0.9Producer price index (%ch saar) 4.8 3.0 1.0 0.5 0.5 0.5 1.4 0.7 0.6 6.4 -2.7 1.7 Core 1.2 1.0 0.8 0.5 0.0 0.0 4.4 1.4 0.3 3.4 2.7 0.7GDP chain-type price index (%ch saar) 0.5 0.9 0.8 0.6 0.4 0.3 1.9 0.8 0.5 2.1 1.2 0.6Core PCE deflator 1.3 1.0 0.7 0.5 0.2 0.0 2.0 1.4 0.3 2.4 1.5 0.8S&P/C-S house price index (%oya) -9.2 -7.0 -6.0 -5.0 -4.0 -2.0 -18.4 -7.0 -2.0 -15.8 -12.8 -4.2Productivity (%ch saar) 9.5 3.5 1.5 2.5 2.5 2.5 0.9 5.0 2.2 1.8 3.1 3.5Other indicators Housing starts (mil units saar, *) 0.6 0.7 0.7 0.8 0.8 0.8 - - - 0.9 0.6 0.8Industrial production, mfg. (%ch saar) 7.7 6.0 5.0 5.0 5.0 4.0 0.0 -5.1 4.7 -3.2 -11.3 4.5Capacity utilization, mfg. (%, *) 66.9 67.8 68.7 69.3 70.0 70.5 - - - 75.1 66.7 69.6Light vehicle sales (mil units saar, *) 11.5 10.0 10.5 11.2 11.5 12.2 - - - 13.2 10.1 11.4Unemployment rate (*) 9.6 10.3 10.5 10.3 10.1 9.8 - - - 5.8 9.3 10.2Nominal GDP (%ch saar) 3.3 4.4 3.8 4.6 4.4 3.8 0.1 0.5 4.2 2.6 -1.3 3.8Current account balance ($bil,*) -104.9 -106.7 -109.0 -111.8 -113.6 -115.7 - - - -706.1 -414.9 -450.1%of GDP -2.9 -3.0 -3.0 -3.0 -3.1 -3.1 - - - -4.9 -2.9 -3.0Federal budget balance ($bil,*) - - - - - - - - - -454.8 -1,417.1 -1,300.0% of GDP - - - - - - - - - -3.1 -9.9 -8.8Source: J.P. Morgan, as at 25 November 2009 * indicates that entries for years are average level, Federal balance figures are for fiscal years

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Table 44: Euro area economic forecasts 2009 2010 2009E 2010E Q2 Q3 Q4E Q1E Q2E Q3E Q4E Real GDP (1995 prices) -3.9 2.5 -0.7 1.5 2.5 3.0 3.0 3.0 2.5 Private consumption -0.9 1.2 0.3 -0.5 1.0 1.5 1.5 2.0 2.0 Capital investment -9.6 2.8 -6.0 1.0 3.0 4.0 4.0 4.0 4.0 Government consumption 2.5 1.7 3.0 2.0 2.0 1.5 1.5 1.5 1.5 Exports of goods & services -13.3 9.0 -6.0 17.0 10.0 10.0 8.0 8.0 8.0 Imports of goods & services -11.2 7.8 -11.3 14.0 9.0 9.5 7.5 7.5 7.5 Contributions to GDP growth: Domestic final sales -2.1 1.6 -0.5 0.3 1.6 2.0 2.0 2.3 2.3 Inventories -0.6 0.3 -2.5 0.0 0.4 0.7 0.7 0.4 -0.1 Net trade -1.1 0.5 2.3 1.1 0.4 0.3 0.3 0.3 0.3 Consumer prices (HICP, %oya, n.s.a.) 0.2 1.0 0.2 -0.4 0.3 0.8 0.9 1.0 1.2 ex unprocessed food and energy 1.3 0.8 1.5 1.2 1.0 1.0 0.8 0.7 0.6 Producer prices (%oya, n.s.a.) -5.0 1.9 -5.7 -7.9 -4.2 0.0 2.0 2.9 2.6 Current account (euro bil, sa) -50.8 -6.9 -11.8 -0.3 --2.0 -1.9 -1.8 -1.7 -1.5 as % of GDP -0.6 -0.1 -0.5 0.0 -0.1 -0.1 -0.1 -0.1 -0.1 3m LIBOR (%)* 0.75 0.80 1.00 1.30 Euro Area 10 Yr Bond Yield (%)* 3.45 3.50 3.55 3.60 US$/euro* 1.50 1.47 1.45 1.43 General govt. budget balance (bil euro) -540.0 -655.0 as % of GDP -6.0 -7.0 Unemployment rate 9.4 9.9 9.3 9.6 9.8 10.0 10.0 9.9 9.8 Industrial production (%q/q, saar) -14.7 3.9 -4.1 8.9 4.0 4.0 4.0 3.0 3.0 Source: J.P. Morgan, as at 27 November 2009, all financial variables are period averages, % change over previous period, saar, unless stated

Table 45: UK economic forecasts 2009 2010 2009E 2010E Q2 Q3 Q4E Q1E Q2E Q3E Q4E Real GDP -4.7 1.6 -2.3 -1.6 2.0 2.0 2.5 2.8 3.5 Private consumption -3.0 0.8 -2.6 2.0 2.5 0.0 1.0 1.5 3.0 General government investment 19.2 2.8 21.7 5.0 2.0 1.0 1.0 1.0 1.0 Business investment -18.5 -1.6 -34.9 -10.0 0.0 4.0 5.0 5.0 5.0 Other investment -22.3 1.9 6.2 -2.0 0.0 2.0 3.0 4.0 4.0 Government consumption 2.0 1.3 2.4 2.0 2.0 1.0 1.0 1.0 1.0 Exports of goods & Services -10.4 5.7 -5.5 7.0 10.0 7.0 6.0 6.0 5.0 Imports of goods & services -12.1 4.5 -8.4 5.0 9.0 5.0 4.0 4.0 4.0 Contributions to GDP growth: Domestic final sales -4.1 0.9 -4.6 1.1 2.2 0.8 1.5 1.8 2.8 Inventories -1.3 0.5 1.3 -3.0 -0.2 0.8 0.6 0.5 0.5 Net trade 0.8 0.2 1.0 0.4 0.1 0.4 0.4 0.5 0.2 GDP deflator (%oya) 1.4 2.2 1.1 0.9 0.1 1.1 1.6 1.9 2.2 Consumer prices (%oya) 2.2 2.1 2.1 1.5 2.2 3.1 2.3 1.6 1.4 Producer prices (%oya) 1.2 1.9 0.0 -0.4 2.3 2.0 1.1 2.3 2.3 Trade balance (£ bil, sa) -80.0 -77.2 -19.9 -19.6 -19.3 -19.4 -19.4 -19.3 -19.2 Current account (£ bil, sa) -34.9 -37.2 -11.4 -9.6 -9.3 -9.4 -9.4 -9.3 -9.2 as % of GDP -2.5 -2.6 -3.3 -2.8 -2.7 -2.6 -2.6 -2.5 -2.5 PSBR (FY, £ bil) 184.0 190.0 as % of GDP 13.1 13.1 Unemployment rate 7.7 8.8 7.5 7.9 8.5 8.7 8.8 8.9 8.8 Industrial production (%q/q, saar) -10.1 1.1 -1.8 -2.9 3.3 2.5 1.5 0.6 0.5 Source: J.P. Morgan, as at 27 November 2009, all financial variables are period averages, % change over previous period, saar, unless stated

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