SLR 52-week stock price chart

"Solectron picks the right companies to work with," says Shelby Fleck, a principal at Morgan Stanley Dean Witter in New York.

Fleck currently has an "outperform" rating on Solectron stock. "Investing in Solectron is like investing in a pool of the leading technology companies. It’s the lead company in the rapidly growing outsourcing industry," she says. Fleck notes that, in terms of total sales, Solectron surpassed rival SCI Systems Inc. {SCI}, of Huntsville, Ala., over the past two quarters.

SCI 52-week stock price chart

In addition, Solectron’s huge cash hoard and brisk sales led BancBoston Robertson Stephens analyst J. Keith Dunne to upgrade the company’s stock to "buy." The San Francisco-based analyst says Solectron’s stock should trade at about $90 a share next year. Shares of Solectron changed hands recently at about $70.

"We believe the company’s recent $1.1 billion equity offering increases its competitive advantage," Dunne wrote when he released his recommendation on Aug. 9. One week earlier, Merrill Lynch likewise raised its rating on Solectron to "strong buy."

Last month, Solectron sold an additional 15 million shares at $64.25 a share. The company plans to use the proceeds for working capital and to finance strategic acquisitions. Combined with a Liquid Yield Option Note, called a LYON, issued by the company recently, Solectron has raised about $1.7 billion in fresh capital in the past nine months. "They have an enormous war chest which will help them accelerate external growth opportunities," says Michael Zimm, senior equity analyst at CIBC World Markets in New York.

Analysts say Solectron is also benefiting from its December 1998 inclusion in the S&P 500. Being part of the S&P 500 puts Solectron in play at index funds that previously shunned the stock. In addition, the company’s approximately $20 billion market capitalization now makes it an attractive candidate for non-index funds as well. "It created an up cycle," Zimm says. "Getting into the S&P 500 raised its market cap, and the higher market cap made it attractive to a lot more non-index funds," he says.

Zimm adds that he’s a little embarrassed to have rated the company "hold" in his most recent recommendations. "That may not have been a very good call," he says. The recommendation, he says, is based on his concern that the stock, now trading at 45 times his estimated 2000 earnings, may have gotten slightly ahead of itself. Zimm bases his estimate on a projected compound annual earnings growth of 40% for Solectron.

"I’m not telling anyone to sell Solectron,’ Zimm says. "It’s the gold standard in the industry." But other companies in the sector, such as SCI Systems and St. Petersburg, Florida-based Jabil Circuit Inc. {JBL} look even more attractive to him right now.

JBL 52-week stock price chart

"If you’re a current Solectron holder you’ve got to hold onto it," Zimm says. "But if you have fresh money, you might want to take a look at other stocks in the sector."

Dunne, at BancBoston Robertson Stephens, sees the numbers a bit differently. In his report, he wrote: "At the current forward multiple, we estimate the stock should trade near the $90s over the next year, over 30 percent above the current level, based on our preliminary fiscal 2001 earnings-per-share estimate of $2.20 to $2.30."

The contract electronics manufacturing sector benefits from high plant utilization rates, one of the factors driving the outsourcing trend. Since CEM’s manufacture products for many different companies, they can keep their factories humming away while a company making a single line of products might have to worry about stuffed distribution channels or other similar problems. "It would be a challenge for any [original equipment manufacturer] to keep up that kind of pace," Fleck says.

Most observers expect the trend toward electronics manufacturing outsourcing to continue well into the foreseeable future. Last week, for example, IBM announced it has chosen Solectron as the worldwide manufacturer of the printed circuit boards used in the company’s line of PC servers. The deal extends over the next three years.