DRIP PORTFOLIO

Drip Portfolio Report
Intel, J&J Report
by Jeff Fischer (JeffF@fool.com)


Alexandria, VA (July 15, 1998) --Yesterday, both Intel and Johnson & Johnson reported earnings that were strong enough to send the stocks higher, despite downgrades, upgrades, and a general mish-mosh of opinion, especially on Intel. In light of the news, we'll take a look at the results now and Dale will return on Thursday to continue his bank stock elimination. So far, NationsBank has made our final list as a possible purchase.

Onto the news...

Our two companies combined achieved net income of $2.2 billion over the last three months, together earning 24 million dollars per day. Johnson & Johnson (NYSE: JNJ) reported revenue of $5.8 billion and net income of $1.0 billion. Net income rose 10.6% on a 1.5% increase in sales. Despite declining revenue in international markets due to currency translations, the company was able to raise gross margins to 69%, operating margins to 24%, and net profit margins to 17%. These are in-line with last quarter's margins, but significantly higher than last year when operating margins were 20% and profit margins 14.6%.

To realize how impressive J&J's margins are, consider that Pfizer (NYSE: PFE) also had 17% profit margins last quarter and it primarily sells high-margin pharmaceuticals. J&J's business is split into three even segments -- it sells pharmaceuticals and much lower-margin professional and consumer products. Pfizer is a great Drip candidate for its drug pipeline and its fast growing sales, while J&J is a great candidate for its diversity, stability, and its equally strong margins. Both should shine as long-term Drip investments -- in fact, many Fools own both. (Cash-King owns Pfizer, too.)

Last quarter Pfizer increased pharmaceutical sales 37% due to the success of Viagra and other drugs. Johnson & Johnson quietly grew its domestic pharmaceutical sales 26% -- a surprisingly strong number. This is part of the reason margins have been strong and the stock has reacted favorably. It's only the other business segments that are slow and facing pressure. For example, Pfizer's consumer product sales fell 11% in a tough pricing environment. J&J's consumer sales declined 2.5%. Johnson & Johnson took a bigger hit in its professional products division, though, with domestic sales falling 9.2% and overall professional sales falling 4.7%. Competition in stents and other hospital products is fierce.

For the first six months of the year, J&J has sales of $11.6 billion and net income of $2 billion, up 10.5% from last year. This quarter the company earned $0.74 per share, matching estimates. At $76, the stock trades at 28 times 1998 earnings estimates and 24.9 times the '99 estimate of $3.05 per share. For the quarter's press release, click here. I hope to summarize the conference call, if possible, and provide that within a few days.

I did listen to the conference call held by Intel (Nasdaq: INTC). A summary should be available soon, and you can listen to the call in real audio right now, by clicking here, though the call didn't provide an incredible amount of insight. The company is secretive about the details of its business and, of course, reluctant to make projections. But, as reported three months ago, management still expects the second half of the year to improve over the first half -- this is partially due to the season, but it's more than that, of course. The past several months personal computer manufacturers have been lowering inventories, thereby ordering less from companies like Intel and disk drive makers, too, like Fool Port's Innovex (Nasdaq: INVX).

Someone asked in the conference call when the inventory compression issue would finally be corrected, and Intel responded -- smartly in my opinion -- that the inventory issue shouldn't be seen as an event that will end, but as the new standard that is being put in place. PC makers want to carry less inventory, so they aren't likely to pre-order a large amount of product; but once any past buildup is cleared, at least orders will be steady as long as demand in the consumer market is steady. Intel sees PC growth in the low teens this year -- par for the course.

In its second quarter Intel achieved net income of $1.2 billion ($200 million more than 100-year-old Johnson & Johnson) on $5.9 billion in sales. As expected, sales were flat with the first quarter. Excluding special charges such as an inventory write-down, the company earned $0.71 per share diluted, or three cents above expectations. It reported earnings of $0.66 per share including charges. This is down 29% from last year and 8% from last quarter.

The stock rose because the market looks forward rather than back, and the second half of '98 should improve. Intel is essentially producing every microprocessor on 0.25 micron technology now, having reconfigured from the less efficient and more expensive 0.35 micron over the past months. Already the company is preparing for 0.18 micron in 1999. Just as 0.25 micron improved productivity over 0.35 micron, 0.18 micron allows Intel to fit still more chips on a wafer, thereby utilizing more of every wafer and lowering the cost per chip. Though microprocessor prices are declining on the consumer end, Intel's costs are declining as well. Everyone wins to some degree.

Investors were also impressed with Intel's cost control during the quarter. Operating margins were 27%, and gross margins are at the company's target of 50% and should improve over the remainder of the year. Also, capital expenditures are expected to be $500 million below the $5 billion anticipated for this year (partially because Intel is moving to 0.18 micron sooner than it expected in '99, so it's spending less on current fabs). Last quarter Intel spent $1.7 billion to buy back 22 million shares.

For the detailed press release on quarter two, click here. I like to print and save the reports to easily compare to the next quarter. (In one respect, I'm a paper and pen Fool -- I was born too late to be a completely "electronic" human, like Generation Z might be.) Finally, our own Dale Wettlaufer wrote about Intel in today's Lunchtime News.

The Drip Port. All of our latest purchases are included in the daily numbers now, and all of our stocks are profitable to date. The port has actually made money since inception, covering all start-up and investing costs, but it still shows a historical loss in the numbers. There's a good reason for this. Our returns for both the year and historically are always slightly understated.

Our absolute return is higher than the one reported by our proper accounting method, because the cash invested most recently is given less importance than the cash invested, say, ten months ago. Even though we've made money on an absolute basis, the accounting method we use weights our early investments more heavily than our new ones, and thus we still show a historical loss. The Cash-King Portfolio discussed our method of accounting well in its column today on Tracking Your Port.

See you later... and perhaps on the message boards, too.

Fool on!

--Jeff Fischer

FoolWatch -- It's what's going on at the Fool today.


7/15 Close
Stock Close Change CPB $55 1/8 + 7/16 INTC $84 1/4 +3 9/16 JNJ $75 7/8 +1 5/8
Day Month Year History Drip 2.72% 7.31% 11.92% (4.69%) S&P 500 (0.24%) 3.61% 21.06% 23.49% Nasdaq 1.33% 5.27% 27.01% 25.14% Last Rec'd Total # Security In At Current 06/30/98 3.017 CPB $54.259 $55.125 07/01/98 9.724 INTC $80.239 $84.250 07/07/98 6.010 JNJ $69.708 $75.875 Last Rec'd Total # Security In At Value Change 06/30/98 3.017 CPB $163.70 $166.31 $2.61 07/01/98 9.724 INTC $780.21 $819.21 $39.00 07/07/98 6.010 JNJ $418.95 $456.01 $37.06 Base: $1700.00 Cash: $286.05** Total: $1727.58

The Drip Portfolio has been divided into 72.501 shares with an average purchase price of $23.448 per share.

The portfolio began with $500 on July 28, 1997, adds $100 on the 1st of every month, and the goal is to have $150,000 in stock by August of the year 2017.

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