Friday, December 12, 1997
DJIA:           7838.30    -10.69      (-0.14%)
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30-Year Bond  102 28/32   +1 3/32  5.96% Yield


Forage and turfgrass seed company AgriBioTech Inc. (Nasdaq: ABTX) gained $1 3/4 to $15 1/4 after Salomon Smith Barney initiated coverage of the company with a "buy" rating. AgriBioTech has been on an acquisition drive and is ahead of its stated goal of reaching half a billion dollars in yearly revenues by the turn of the century. Earlier this week the company announced another acquisition, which will add more than $40 million to sales for fiscal 1998. On a run-rate basis the company is in now in the big leagues behind industry leaders Pioneer Hi-Bred (NYSE: PHB) and DeKalb Genetics (NYSE: DKB) in terms of revenues, and it was becoming hard for the major bracket brokerage firms to not include it in analyst coverage. Other brokers covering the company include Dain Bosworth, which has a "strong buy" rating, and Piper Jaffray, with a "buy" rating. Gilford Securities recently rated the company a "maximum buy," up from "major buy."

Georgia-based bank holding company First State Corp. (Nasdaq: FSBT) gained $2 3/4 to $22 after announcing that it has signed a letter of intent to merge with Alabama-based Regions Financial Corp. (Nasdaq: RGBK). First State shareholders will received 0.56 shares of Regions for each share they hold, putting a $23.38 per share valuation on First State as of last night's close, which represents a 21% takeover premium. This is another filler acquisition for Regions in Georgia, having closed on ten acquisitions in that state since 1994. Regions currently has the largest market share of deposits in Alabama and is climbing up the ladder in Georgia, where it is the sixth-largest bank in terms of deposits.

Flowers Industries (NYSE: FLO), baker of Mrs. Smith's pies, Nature's Own breads, and Oregon Farms carrot cake, gained $1 1/4 to $20 9/16 after announcing that it is going to hook up shareholders with the Keebler Elves. Flowers announced yesterday that it will acquire a majority interest in the baker of cookies, crackers, and an extensive lineup of foodservice products, increasing its stake from 39%. Simultaneous with that transaction, Keebler will sell shares in an initial public offering. Keebler had pro-forma 1996 sales of $2 billion, while Flowers had 1997 sales of $1.44 billion. With a premium lineup of brands at Keebler and at Flowers, it seems reasonable that the entire ball of wax should be valued at the low end of the industry-standard enterprise-to-sales ratio of 2 to 3. In attempting to value the entire company, one would isolate Keebler and its $402 million in debt. At a total enterprise value of 2 times sales for Keebler, we would subtract the debt from total enterprise value, leaving $3.59 billion in equity capitalization. With 51% of that belonging to Flowers, that works out to $1.835 billion, or $20.85 per share. At the current price of $20 9/16 for Flowers, the non-Keebler stake is valued at negative $0.35 per share. Valuing Flowers at an enterprise ratio-to-sales of one, the non-Keebler part of Flowers might reasonably be appraised at $13.22 per share, putting a value of $34 on the entire package.

Timber Lodge Steakhouse (Nasdaq: TBRL) gained $1 3/4 to $6 9/16 on announcing an agreement to be acquired by G.B. Foods Corp. (Nasdaq: GBFC), operator of Green Burrito fast-food restaurants. The terms of the deal call for Timber Lodge shareholders to receive a right to convert each of their shares into 0.8276 shares of G.B. Foods. That deal puts a value of $8.38 per share on Timber Lodge as of last night's close, subject to collars between $7.34 and $10.66 per share. Should the share price of G.B. Foods fall below $8 7/8 on the ten trading days prior to the second day before the closing of the transaction, the number of shares to be issued will reflect total value ceded to Timber Lodge shareholders of $7.34 per share. Above $12 7/8 per G.B. share, the number of shares will be reduced to reflect total ceded value per Timber Lodge share of no more than $10.66.

Spinal fusion cage company Spine-Tech Inc. (Nasdaq: SPYN) surged another $6 7/8 to $44 1/4 after an FDA panel yesterday voted to reject an application for approval of a similar device and procedure from competitor Sofamor Danek Group (NYSE: SDG), which lost $3 3/16 to $59 1/4 today. Not only does Spine-Tech hold a key surgical procedure as its own, but Johnson & Johnson's (NYSE: JNJ) Ethicon unit is also training surgeons to perform the procedure. Analysts covering Spine-Tech received the news warmly and passed out earnings estimate increases like business cards at a trade show. Hambrecht & Quist raised its 1998 EPS estimate on the company to $1.75 and released a 1999 estimate of $2.05. H&Q also set a 12-month price target of $60. Robertson Stephens, meanwhile, was not as effusive, but still bullish, estimating 1998 EPS of $1.52.

QUICK TAKES: Packaging products company Intertape Polymer Group (AMEX: ITP) rose $1 3/8 to $21 7/8 after the company announced that it may repurchase up to 5% of its shares in the open market over the coming twelve months... Monterey Homes Corp. (NYSE: MTH) was jacked up $1 1/8 to $12 1/2 after the homebuilder said it will surpass 1997 EPS of $1.07 and that it plans on making another acquisition in 1998, according to Reuters... North Carolina financial services company Centura Banks (NYSE: CBC) gained $3 5/8 to $64 7/8 on takeover speculation as banks in the Carolinas consolidate... Battery maker Exide Corp. (NYSE: EX) was sparked for a $1 1/2 rise to $28 3/4 after CS First Boston started coverage of the company with a "buy" rating.

New York utility Consolidated Edison (NYSE: ED) rose $2 1/16 to $40 after announcing a sweeping reorganization that will divide the company into four parts, including an investment arm, a power generation and distribution arm, and two other units that will attempt to benefit from utilities deregulation... French food company Groupe Danone (NYSE: DA) moved $1 1/16 higher to $35 on talk that the company will be acquired or that it will soon announce a major restructuring... Environmental safety products manufacturer Gundle SLT Environmental (NYSE: GSE) gained $5/8 to $5 1/4 after the company announced that it will repurchase 14% of its outstanding shares, raising its total share repurchase program to 25% of the shares that were outstanding at the beginning of the year.


Electronics For Imaging (NYSE: EFII) tumbled $24 1/8 to $14 7/8 after the color printing technology developer announced it would not make fourth quarter estimates. Order delays from several large Japanese resellers were blamed for the shocking shortfall. The company will only make $0.06 per share on sales of $60 million for the quarter, well below the $0.43 per share it earned on $107 million in sales last quarter. Electronics For Imaging develops software and server products under the "Fiery" brand that enable short-run color print jobs on networked copiers or printers. As its Japanese resellers like Canon and Minolta sell all over the world, concern is that this news signifies a worldwide decline in sales for Electronics For Imaging products and is not just another part of the East Asian economic dislocation. Electronics For Imaging reseller Canon (NYSE: CANNY) slipped $6 1/2 to $117 7/8. Splash Technology (Nasdaq: SPLH), which makes competing color server products, skidded $2 3/4 to $21 3/4, and Adobe Systems (Nasdaq: ADBE), whose major product is PostScript software for laser printers, also dipped $3 13/16 to $35 1/4 in sympathy. Color printer manufacturer Encad (Nasdaq: ENCD) dropped $3 5/8 to $32 3/8 on concerns that this signified weakness in the color printer market.

Although all eyes have been on South Korea the past two days, shares of Indonesian companies were hammered today over growing concerns about that country's economic stability. State-owned PT Telekomunikasi Indonesia (NYSE: TLK) fell $2 13/16 to $9 1/2, while Perusahaan PT Indosat (NYSE: IIT) dropped $2 1/4 to $17 13/16. Concerns over the health of the country's President Suharto after he decided not to make a trip to Kuala Lumpur have caused the Indonesian rupiah to implode. Worries about potential disasters ranging from bungling the International Monetary Fund (IMF) bailout to a military coup are driving the rupiah down to levels where Indonesia may have trouble servicing its foreign debt. PT Telekomunikasi is getting pasted extra-hard because the company revealed it may have to renegotiate contracts with five partners to the partners benefit. Many Indonesia watchers believe that this could result in a dramatic reduction of revenues for the state-owned telecommunications firm.

Insider sales and Asian exposure had shares of Microtouch Systems (Nasdaq: MTSI) on the run today. The manufacturer of touch screen display technology dropped $7 1/16 to $13 11/16 on heavy volume after Chairman James Logan filed to sell another 7,500 shares after dumping 20,000 shares last month. Logan, who stepped down as Chief Executive Officer in 1996, says he is selling the shares to finance his own business, although he declined to say what exactly that business was. These insider sales combined with with the fact that 15% to 20% of Microtouch's sales come from Asia led institutions to hit the panic button and dump the shares at will.

Semiconductor and data storage capital equipment manufacturer Veeco Instruments (Nasdaq: VECO) tumbled $7 to $19 7/8 after warning that the fourth quarter would not meet expectations. The company said that its major data storage customers like Seagate Technology (NYSE: SEG), Quantum (Nasdaq: QNTM), and Western Digital (NYSE: WDC) have all reduced orders. In addition, uncertainty about order patterns in Asia also has the company concerned. Veeco expects to report $0.40 to $0.45 EPS instead of the $0.49 EPS analysts had expected. A number of other capital equipment companies were also down. Mini-environment systems manufacturer Asyst Technologies (Nasdaq: ASYT) tumbled $1 31/32 to $21 1/8 when Needham & Co. cut the shares to "buy," and printed circuit board optical inspection system manufacturer Orbotech (Nasdaq: ORBKF) fell $6 1/8 to $31 1/2 on no news.

Cisco Systems (Nasdaq: CSCO) dropped $6 1/8 to $76 9/16 today after some analysts looking at the company's inventory breakdown in the latest 10-Q filing began to get antsy. Although overall inventory levels dropped 5.3% from July to October, the breakdown of the inventory itself is what has everyone worried. In Note 4 to the Consolidated Financial Statements, the following appeared:

Inventories (In thousands)
October 25, July 26, 1997 1997 (Unaudited) Raw materials (000's) $51,802 $ 89,226 Work in process 97,751 114,724 Finished goods 69,754 21,733 Demonstration systems 21,815 28,994 $241,122 $254,677
As a percentage of total revenues, Cisco's "finished goods" rose from 8.5% of total inventories to 28.9%. Assembled systems ready for sale increased 221.0% quarter-over-quarter, a sign that even nigh invulnerable Cisco may be seeing the same kind of weakness 3Com (Nasdaq: COMS), Cabletron (NYSE: CS), Bay Networks (NYSE: BAY) and Ascend Communications (Nasdaq: ASND) have all reported in the past few weeks. This could also explain the weakness at Kent Electronics' (NYSE: KNT) K*TEC contract manufacturing unit reported last night, as it does business with Cisco.

QUICK CUTS: Code Division Multiple Access (CDMA) cellular system manufacturer Qualcomm (Nasdaq: QCOM) dropped $8 11/16 to $50 11/16 after being cut to "maintain position" at Schroder & Co., where analyst Stephan Kim trimmed estimates due to lower expectations on income from Korean manufacturers... Three-Five Systems (NYSE: TFS) was also down $1 3/8 to $17 1/2 on concerns about slowing cellular handset sales... Cameco Corp. (NYSE: CCJ), the world's largest publicly traded uranium company, dropped $3 1/4 to $29 3/4 after suspending talks with Russian officials with regard to purchasing some uranium... Specialty industrial products manufacturer Roper Industries (NYSE: ROP) dropped $15/16 to $27 5/16 after reporting Q4 EPS of $0.27, missing estimates of $0.29.

Concrete producer Medusa (NYSE: MSA) ended a long, upward run today, falling $1 11/16 to $38 1/8 when it announced that fourth quarter operating net will fall slightly below year-ago levels before a one-time charge related to "certain environmental matters"... Programmable logic device (PLD) manufacturer Lattice Semiconductor (Nasdaq: LSCC) continued to fall, dropping $4 5/16 to $51 after its Korean distributor went under yesterday, which also dragging down competitors like Altera (Nasdaq: ALTR) and Xilinx (Nasdaq: XLNX)... Analog circuit maker Linear Technology (LLTC) tumbled $4 15/16 to $55 1/16 on Asian sales concerns... Florsheim Group (NYSE: FLSC) tumbled $43/64 to $6 37/64 after the shoe retailer said it expects to blow its fourth quarter estimates due to the "highly promotional" nature of the period.

Fuse manufacturer Littlefuse (NYSE: LFUS) was dashed for $1 7/8 to $23 1/2 after the company stated it would fall 10% short of quarterly earnings estimates because of issues with the Korean won, making one wonder why the company does not hedge its currency risk... Pennsylvania electric and gas utility PECO Energy (NYSE: PE) slipped $13/16 to $22 15/16 after the Pennsylvania Public Utilities Commission rejected the company's plea to hold off outside competition... Micro Warehouse (Nasdaq: MWHS) dropped $3/4 to $13 7/8 after it announced yet another in a long line of restructuring charges for the troubled mail-order computer products vendor... Gliatech (Nasdaq: GLIA) was thrashed for $2 7/8 to $7 5/8 despite an FDA advisory panel recommending that its ADCON-L surgical gel for minimizing scar tissue be submitted to the FDA for full approval.

Incontrol (Nasdaq: INCL) slid $1 1/8 to $6 5/8 in spite of a "buy" recommendation from Cowan & Co... Biotechnology company Centocor (Nasdaq: CNTO) fell $5 1/4 to $34 3/4 even though NMSI reiterated its "buy" rating... IMC Global (NYSE: IGL) fell $2 3/16 to $30 3/8 after the company announced the $1.4 billion acquisition of salt, soda ash, and boron manufacturer Harris Chemical Group... Snowboard manufacturer K2 (NYSE: KTO) dropped $3 5/8 to $23 1/4 after Merrill Lynch cut the company's shares to "near-term neutral"... Promus Hotels (NYSE: PRH) was nailed for $1 1/8 to $36 7/8 after it was pulled from the Goldman Sachs recommended list... Green Tree Financial (NYSE: GNT) was hammered for another day, down $1 3/8 to $22 1/2 in the wake of the resignation of its Chief Operating Officer.

An Investment Opinion by Randy Befumo

Electronics Manufacturers Short Circuit

Kent Electronics (NYSE: KNT) warning last night that its fourth quarter revenues would be light because of weakness in its contract manufacturing operations did not sit well with investors today. All manner of electronic contract manufacturers and printed circuit board fabricators got smashed today over this bit of news. The growing worries over the economic stability of East Asia and how this might affect customers has only served to exacerbate long-standing fears that there may be too much capacity in this fast-growing industry.

Kent Electronics issued a press release last night after the stock went into virtual free fall yesterday, tumbling $6 1/2 to $22 on a Merrill Lynch downgrade. Although Kent said it would make EPS estimates of $0.36 in the third quarter, the company warned that fourth quarter revenues would only be in the range of $180 to $190 million because of "lower than anticipated contract manufacturing revenues." Kent said that its K*TEC contract manufacturing unit had "a slower ramp-up of new customers and of new customer orders."

Although Kent's comments could be construed to reflect difficulties with the management of internal operations and not slow growth in the electronic contract manufacturing (ECM) group, Wall Street choose to take the more pessimistic mindset and continued to dump any company related to ECM. Solectron (NYSE: SLR) fell $2 7/8 to $30, SCI Systems (Nasdaq: SCI) was off $2 7/8 to $39 11/16, Jabil Circuits (Nasdaq: JBIL) dove $5 5/16 to $37 13/16, DII Group (NYSE: DIIG) slipped $1 5/16 to $22, and Flextronics (Nasdaq: FLEXF) was doused for $1 to $32 1/2. Printed circuit board fabricators, some of whom also provide ECM services, also dropped today, including Sanmina (Nasdaq: SANM), off $3 5/8 to $57 7/16, and Hadco (Nasdaq: HDCO), down $4 3/8 to $47 1/4.

Investors are worried about these companies because their customers are really getting beaten up. Consider recent initial public offering International Manufacturing Services (Nasdaq: IMSX) was only lightly touched for $5/16 to $7 3/16. The company's two largest customers are Maxtor, in the very choppy drive business, and Bay Networks (NYSE: BAY), which just warned this week that quarterly revenues would not meet expectations. These two companies combined account for more than 80% of International Manufacturing's trailing revenues. No wonder the shares trade well below the company's $11 1/2 offering price at the end of October.

Given that ECM revenues are highly dependent on sales of the actual electronic equipment, any disappointments among major customers could easily become a problem for any company that provides manufacturing services or components. The slowdown in business could also lead to margin erosion and price competition as it would create excess capacity in an industry that has been maxxed out for years. Although investors with a perspective of three to five years might not be concerned, this does create substantial near-term earnings risk for all of these companies. This earnings risk is being recognized by the market in the form of an increased "discount rate" at which the future cash flows are being valued, causing the share prices to decline.

The sudden, sharp compression in valuations for the contract manufacturers has created a decent real buying opportunity in the group. Of the 14 companies in the Fool Pure Contract Manufacturing Universe, the average price/sales ratio (PSR) right now stands at 0.80, the lowest level in months. Including the four printed circuit board fabricators only bumps the average price/sales ratio up to 1.02. Although not dirt cheap by a long shot, within the group there are some relatively interesting companies. By focusing on companies with better-than-average operating margins (above 6.5%) and high returns on equity and invested capital with medium to low valuations, an investor could find a nice year-end bargain in the coming weeks.

The recently published Industry Focus listed Plexus (Nasdaq: PLXS) as the "Idea" for the coming year in the ECM universe. The recent drop in Plexus combined with the fact that the company's product portfolio is mostly consumer electronics and not computer technology makes it even more interesting at 0.97 times sales with a 28.4% return on equity over the past year. Kimball International (Nasdaq: KBALB) may be rich relative to earnings, but the stunningly low PSR of 0.43 and the 3% dividend yield give an added punch. Many of these companies would be even more attractive if concentrated panic selling continues to weigh on the shares.


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