Monday, December 15, 1997
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An Investment Opinion by Dale Wettlaufer

Fine Host Not So Fine

At first, last Tuesday's drop was no more than a blip. Three points. On each of the three successive day after that drop, however, the stock of food service company Fine Host (Nasdaq: FINE) dropped between 17% to 34%. On each day, there was no news on the company, but by Thursday, reports surfaced that that Fine Host wasn't returning calls. Many individual investors are used to being blown off by companies, but when a company's underwriters don't get their calls returned, you know something is wrong. Piper Jaffray lowered its rating on the company on Thursday, presumably because the Fine Host didn't return calls of inquiry about the stock's price drop. Salomon Smith Barney said in its rating change to "neutral" from "buy" on Friday that it thought there was probably a reason why the company wasn't returning investor phone calls.

There sure as heck was a reason, as it turns out. On Friday afternoon, after Nasdaq held the stock, Fine Host put out a press release saying that it believes "...certain expenses incurred during 1997 were incorrectly accounted for, causing the company to restate the first three quarters of 1997." Most bookies would take long odds right now that the company's earnings won't be restated in an upward direction. The fact that the company has been able to defer all taxes this year is one sign, but that doesn't stick out to the investor that much, since companies often plan their taxes so that taxable income is different than income for financial reporting purposes. Gumming up the works may be the company's capitalization of "contract rights." Fine Host has to lay out cash up front to secure foodservice contracts, creating an asset called contract rights, which is amortized over the life of the contract.

So, could an investor have seen this in the amortization of these assets? Not really, since amortization of contract rights has at times run at a pace of 25% per year, implying contract lives of 4 years. That looks fine, since the company's average contract has run at eight years, suggesting that 12.5% of these assets should be charged off per year. Fine Host's move to readily cancelable business dining contracts may have something to do with it, as may its overall move to shorter-duration contracts with the acquisitions it has made over the last year.

Without having detailed records of contracts and cash disbursements to win those contracts, any investor, whether an individual or institution, would have a tough time picking out something strange in the company's financials, since in the aggregate, the amortization expenses look sufficient. If the company lost contracts and didn't say anything, that's one thing, and if it threw in the kitchen sink on the outlays it did capitalize, then that's another. In the absence of this detailed information, an investor has to find managements that can be trusted to handle things competently and honestly. With the ouster of Fine Host's CEO/Chair and Executive Vice President/Treasurer, along with another announcement that the problem isn't limited to incorrect capitalization of outlays, there is a good chance that that's not the case with Fine Host.


Motion control, process control, and safety equipment manufacturer Pacific Scientific Company (NYSE: PSX) gained $5 5/8 to $21 1/16 this morning as Kollmorgen Corp. (NYSE: KOL) announced its intent to acquire the company for $20.50 per share in cash. Kollmorgen, an industrial products company, believes that the combination will be accretive to the company's earnings in 1999.

Bethlehem Steel Corp. (NYSE: BS), the nation's second-largest steel company, boosted the shares of rival steelmaker Lukens Inc. (NYSE: LUC) $6 5/8 to $24 1/8 after announcing an offer to acquire the company for $650 million, including $250 million of assumed debt. Bethlehem will issue common stock for 38% of the total equity value, with the balance being paid for in cash.

In other merger news, U.S. Bancorp (NYSE: USB) announced that it will acquire Minneapolis-based Piper Jaffray Companies (NYSE: PJC), a full-service investment banking and securities brokerage company, in a cash transaction valued at $730 million, or $37.25 per Piper Jaffray common share. Piper Jaffray is up $6 7/16 to $36 3/16 on the news.

Seagull Energy Corp. (NYSE: SGO) rose $1 11/16 to $21 13/16 after it reported that financier Carl Icahn recently notified the company that he had filed with the Antitrust Division of the Department of Justice indicating that he intends to acquire at least 15% of Seagull's stock. Seagull is an international oil and gas company engaged in exploration and development in the U.S., Egypt, Cote d'Ivoire, Indonesia, and Tatarstan.

Medical device maker Gliatech Inc. (Nasdaq: GLIA) was up $3 1/4 to $11 3/8 this morning after announcing on Friday that it had received FDA advisory panel approval for its application to market an anti-adhesion gel in the U.S. The gel product is called ADCON-L, and is the first product designed to inhibit scarring following lumbar disc surgery.

Sano Corp. (Nasdaq: SANO), a developer of proprietary transdermal drug delivery systems, jumped $9 9/16 to $32 9/16 after drug delivery and biopharmaceutical company Elan Corp. (NYSE: ELN) announced that it intended to acquire Sano in a tax-free all-stock transaction that values Sano at $35.50 per share, or approximately $375 million. Each common share of Sano will be exchanged for 0.655 Elan shares.

Diversified gaming company Anchor Gaming (Nasdaq: SLOT) gained $6 1/2 to $50 after the company announced that EPS will be in the range of $1.10 to $1.20 for its upcoming Q2 and that it has authorized the repurchase of an additional 514,000 shares, bringing the current outstanding buyback authorization level up to 1 million shares of common stock.

Mobile communications company SK Telecom (NYSE: SKM) gained $13/16 to $5 13/16 after the company announced that it had gained an additional 340,000 new CDMA (Code Division Multiple Access) subscribers in the month of November. This growth is a 40% increase over the 243,000 new subscribers reported in October.

Morgan Stanley raised its rating on MMC Networks (Nasdaq: MMCN) to "strong buy" from "outperform," which boosted the stock $1 1/8 to $14. MMC Networks designs, develops, and markets programmable network processors.

Physician Sales & Service (Nasdaq: PSSI) said today that it has entered into a definitive agreement to acquire Gulf South Medical Supply (Nasdaq: GSMS) for around $685 million in stock, which pushed shares of Gulf $4 1/16 higher to $33 1/8. Gulf South shareholders will receive 1.75 shares of Physician Sales & Service stock for each Gulf South share. Physician Sales & Service lost $3 1/2 to $19 1/2 on the news.

UST Corp. (NASDAQ: USTB) and Affiliated Community Bancorp (NASDAQ: AFCB) jointly announced today that UST will acquire Affiliated in a tax-free exchange of 1.41 shares of UST common stock for each share of Affiliated common stock. The $259 million deal raised Affiliated $3 1/4 to $35 7/8.

Digital signal processing equipment company Applied Signal Technology (Nasdaq: APSG) rose $1 1/2 to $15 1/4 after reporting 1997 EPS of $0.91, crushing estimates of $0.72. Net income increased 422% over the previous year.

CFM Technologies (Nasdaq: CFMT), a maker of cleaning equipment for the semiconductor and flat panel display industries, gained $2 1/8 to $17 1/2 after the company announced that it had won a $3.1 million patent infringement case against Steag MicroTech, Inc.

Fuel cell technology company Ballard Power Systems (Nasdaq: BLDPF) gained $5 3/4 to $68 1/4 after two global carmakers, Germany's Daimler-Benz AG (NYSE: DAI) and Ford Motor Co. (NYSE: F) said that they would buy stakes in Ballard. Daimler will raise its stake to 20% and Ford will purchase 15%.

MicroTouch Systems (Nasdaq: MTSI) gained $1 13/16 to $14 7/8 after responding to the recent decline in its stock price induced by the sale of 7,500 shares by James D. Logan, Chairman of the Board of MicroTouch. The company indicated that Mr. Logan's transaction "was a continuation of a consistent pattern of stock selling over the last 12 months motivated by personal reasons," more specifically, for the funding of a new business.


Communications encryption gear company Technical Communications Corp. (Nasdaq: TCCO) was jammed for a $1 5/8 loss to $5 3/8 after announcing on Friday that its "...Board of Directors has undertaken an internal review of certain of its historical service contracts. This review has not resulted in any final or even preliminary conclusions, findings or recommendations." With a quick sign-off on the announcement that the company isn't going to comment further, investors' imaginations kicked in today on just exactly what this means.

Semiconductor capital equipment company ATMI Inc. (Nasdaq: ATMI) fell $3 3/8 to $20 3/4 after BT Alex. Brown lowered its rating on the stock to "marker perform" from "buy."

Rock Bottom Restaurants (Nasdaq: BREW) sank $1 3/8 to $7 1/4 after the microbrew restaurant operator said financial results to-date in the fourth quarter were below company projections due to bad weather and poor performance at some of its restaurants. Consequently, the company will write down some of its underperforming restaurant assets and fourth quarter profitability levels will be affected by company expenditures for "exploration of strategic alternatives."

Morgan Stanley downgraded Cypress Semiconductor Corp. (NYSE: CY) to "outperform" from "strong buy," which sent the company's shares reeling $1 1/16 to $7 1/2. Cypress makes static RAM, EPROM, and specialty memory products, programmable logic devices (PLDs), and data communications products, as well as timing devices and USB microcontrollers.

Compaq Computer Corp. (NYSE: CPQ) fell $3 13/16 to $52 1/2 after the PC maker was downgraded by BancAmerica Robertson Stephens to "long-term attractive" from "buy." In a bit of news that failed to assuage concerns, Compaq announced that all of the desktop PCs, servers, and portables manufactured at its plant in Scotland are being "built to order."


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