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080501 Deutsche Bank Report - O-I's 1Q in 100 Words

Deutsche Bank - Equity Research

O-I {Ticker: OI, Closing Price: USD 53.94, Target Price: USD 65.00, Recommendation: Buy}.

* Maintaining Buy Rating

Q1 results show performance continues to improve.  We remain optimistic that O-I's strong management team will continue to deliver impressive incremental gains and create traction with pricing initiatives. Boosting '08 EPS from $4.20 to $4.35/share, leaving ‘09 @ $4.75. 

* Another Strong Quarter

O-I reported $1.08 from continuing operations, net of restructuring charge.  DB @ $0.83, FC @ $0.79.  07Q1 = $0.31.  Key driver  = 410 bps of improvement in EBIT margin, driven by 7% y/y gain in price/mix.  O-I's pricing strategy appears to be working - benefit from price/mix is 10x cost of lost volume.  FCF target boosted $425MM to $500MM – assumes/ no change in FX or inflation outlook.

* Enthusiasm over Q1 headline # tempered by:

(1) nonrecurring benefits in Q1, (2) y/y inflation headwinds apt to increase (Q1 = $55MM, 08Q2-Q4E = $55-75MM/qtr), (3) y/y benefits from FX (Q1 = $35MM, FY07 = $52MM) & tax rate will become smaller.

* Other?

(1) 08E Capex at 80-85% of $490MM D&A, (2) FCF targeted to debt reduction, (3) Emerging mkt bolt-on acq'ns sound probable (S & E Europe, S America, China).

* Valuation and risks

Our $65 target price is based on a modified DCF analysis.  We use an 8.0% cost of capital, 4.5% risk free rate (beta of 1.1).  We believe the business is relatively stable, thus our nominal growth rate of 2.0% is roughly equal to inflation.  Downside risks include rising input costs, declining sales volume, failure to execute pricing strategies, increasing asbestos charges and economic weakness.