11:30pm (EST)

1.  Market Summary

2.  General Motors Going Public (Again)       

3.  Darden Restaurants Hits New High  

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1. Market Summary

The rally ran out of steam last week after a 2-month surge by the bulls pushed the market past its April highs.  At some point, we knew the bears would show up after 6 weeks of missing-in-action and they picked a good week as Cisco Systems (CSCO, $20.15, down $0.37) missed earnings, Boeing (BA, $63.09, down $2.28) halted test flights of the new Dreamliner following a fire, and word that China would raise interest rates were the main catalysts the bears used for ammunition.

As a result, the Dow fell 90 points, or 0.8%, on Friday to finish at 11,192.  We were looking for a close above 11,200 but given the circumstances, we’ll take it.  The Dow dropped over a little over 250 points, or 2.2% for the week, and ended just below its 20-day moving average for the first time since the beginning of September.  There is solid support at 11,000 for the index with 10,800 serving as backup.

The S&P 500 sunk 14 points, or 1.2%, to settle at 1,199 and just below the 1,200 level.  The index tested 1,194 on Friday and fell 27 points, or 2.2%, for the week.  The bears will target 1,175 as their next resting ground while the bulls will push for 1,220.

The Nasdaq dropped 37 points, or 1.5%, to close at 2,518 and held the 2,500 level.  Tech traded to a low of 2,506 and gave back 61 points, or 2.4%, for the week.  There is additional support at 2,450 if the market heads lower on Monday. 

We think the bulls will get back on their feet this week and to the upside we still have Dow 11,500; S&P 1,250 and Nasdaq 2,600-2,700 on our radar.  Before that though, the indexes must retake 11,250; 1,220; and 2,600, respectively, before a sustained rally can take place.

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2.  General Motors Going Public (Again)

General Motors (GM) gets a second chance on Wall Street as its highly anticipated IPO (initial public offering) will hit the market on Wednesday.  The deal will be one of the largest in history and shares will consist of $7 billion held by the U.S. Treasury, $2 billion held by the (UAW) United Auto Workers and $1 billion by Canadian interests.

The company plans on selling 365 million shares in the price range of $26-$29.  However, we believe they will probably add in the over-allotment amount, which is another 55 million shares, and the offering could price near $32 due to strong demand. This should get the IPO north of $12 billion and if you add in the $3 billion of preferred shares, the deal could make over $15 billion.

Morgan Stanley (MS, $25.57, down $0.74), JP Morgan (JPM, $39.61, down $0.41), Band of America/ Merrill Lynch and Citi are listed as the lead underwriters.  Other investment banks will participate but Charles Schwab (SWM, $64.89, flat), E*trade Financial (ETFC$14.98, down $0.35), and TD Ameritrade (AMTD, $$17.20, down $0.16) are being left out of the allotment along with the little guys.

The stock offering will reduce the Treasury’s stake in the company from roughly 60% to a little over 40%, and will help payback the $50 billion that taxpayers invested to keep GM from collapsing.  At the high end, it looks like the firm will be valued at $50 billion, and it needs to be around $70 billion for the government to break even.       

GM just reported a profit of $2.2 billion, bringing their total kitty to $4.8 billion so far.  For the year, the company should make about $6-$7 billion, which means they would make somewhere between $4.10- $5.00/share.  If they can do the same thing next year the company would be trading at around 6-8x earnings depending on pricing and allotment.

Given that Ford (F, $16.30, down $0.31) trades around 8x forward earnings today, we can see why analysts feel the stock can move.  If GM is able to make $5 a share, then an 8 P/E (price-to-earning) would put the shares around $40.  That’s a pretty decent return.

Longer term, there are some concerns we have with GM.  Our main one is the tax credits they are getting which is going to boost profits artificially over the next two years.  In fact, this year much of their profits were because of one-time gains.  They also have a massive pension obligation down the road that they have to start funding again in 2014 which has a current liability of $35 billion.

In addition, GM has seen its market share drop from 20.5% to 18.9% this year as Ford continues to roll on.  This may or may not stabilize but GM is also being run by a new CEO, Dan Akerson, who has a finance background and is nowhere in the same league as Alan Mulally of Ford.

Bottom line, GM’s IPO should be good for those who can get in and there is a chance for a bounce after the debut but for the long term, we believe Ford is your better bet. 

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3.  Darden Restaurants Hits New High

Darden Restaurants (DRI, $48.65, down $0.66) is a name you can sink your teeth into, literally.  This company plays in the full service restaurant arena, mostly in the casual dinner house segment with names like Olive Garden, Red Lobster, and Longhorn Steakhouse.  They also have some newer concepts that are higher end such as The Capital Grille, Seasons 52, and Bahama Breeze.

Most of the future growth is projected to be in the upper level brand names (and Longhorn), but with over 1800 stores in total, Darden is already the largest full service restaurant company in the world.  However, they have been purely US and Canada focused in the past, and they have just started to get in the overseas development game, with no current exposure to China.

Overall, the company is projected to have 2011 revenues of $7.5 billion and will earn $3.35 a share versus $7.1 billion and $2.86 a share in 2010 (their year ended in mid-2010).  In September, 2010 the company reported profits increased 20% to $0.80 a share compared to analysts expectations for $0.77 a share.  Darden missed the top line estimate and reported $1.81 billion in sales versus $1.82 billion and shares lost over 2% that day to close at $43.43.  

The stock has rebounded since and recently set a 52-week high of $49.48 last week.  With a forward P/E of just under 15 and a dividend yield of 2.6%, you can see why the stock has moved up, especially since the company expects 14-17% EPS growth.  However, there are some concerns.

While the casual dining restaurant stocks have come way back off their lows, Darden is looking to gain more strength.  In the quarter they reported, Darden had 4.6% revenue growth from last year, with same store sales (a metric we go over in our Option Trading Manual and Watch List) only up 1.1% across all brands. Red Lobster stores sales were weak but they have done much better than other concepts.  Perhaps, their CEO put it best by saying “the industry is flat.”

On the plus side, the company has done a great job of cutting costs, and we believe the stock has some more room to run in the near term as we see a more “robust” economy.  However, longer-term the entire industry will continue to see increases in commodity prices as input costs, from beef to chicken to corn, have gone up over the last 3 months dramatically and will continue to do so in the years ahead.

Darden has done a good job of hedging their commodity prices so the effect has been minimal on earnings so far, but any continued elevation of prices will eventually trickle into their costs as contracts renew.  We believe higher commodity prices are here to stay, despite the near term dip.  We will be listening closely to the company’s next earnings report which is due out in late December as to what they say about input costs.

This rise in input costs would normally be passed on in the form of higher prices, but that may not be possible this time.  One of the main strategies has been the “2 for $20” or “2 for $14” deals but with the unemployment rate unlikely to improve, raising prices may not be an option.

When the company can’t pass along costs, their margins decrease, and let’s face it, they can’t really cut any more fat from the corporate structure than what they have already.  Despite these concerns, shares are showing momentum and we think a push past $50 up to $60 is in the cards.

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We will be back Monday morning at 9am (EST) with all of the current trade updates and a fresh outlook.  We will also cover earnings for the week.