<THE EVENING NEWS>
Tuesday, April 27, 1999
DJIA 10831.71 +113.12 (+1.06%) S&P 500 1362.80 +2.76 (+0.20%) Nasdaq 2602.41 -49.64 (-1.87%) Russell 2000 435.16 +0.19 (+0.04%) 30-Year Bond 95 26/32 +16/32 5.54 Yield
The epilogue to the epic ITT-Hilton-Starwood struggle, the late-1990s nostalgic throwback to the takeover merriment of the 1980s, was penned today as Hilton spin-off Park Place Entertainment (NYSE: PPE) agreed to acquire Caesars World and other former ITT gaming assets from hotel operator Starwood Hotels & Resorts (NYSE: HOT) for $3 billion in cash. Park Place, which expects the acquisition to add to its earnings in the first year, gained $2 1/4 to $11 3/8. Starwood, which plans to use the money from the deal to pay down debt and strengthen its balance sheet, slipped $11/16 to $34 5/16. ITT, the third member of the story, has effectively been divided into three parts -- a feat the company failed to accomplish on its own two years ago. With the casino business in Park Place's pocket and the "crown jewel" Sheraton hotel name under Starwood's control, the last publicly traded remnant of the 1997-era ITT is the $631 million market cap ITT Educational Services (NYSE: ESI).
Toy retailer Toys "R" Us (NYSE: TOY) skipped its way $1 3/8 higher to $23 3/16 after announcing plans to become "the clear leader" in the online toy retailing market by Q4 of this year. As part of the reportedly $80 million plan, the company is reorienting its online business at toysrus.com as a separate subsidiary with a new website to be launched in Q2. eBay (Nasdaq: EBAY) venture capital backer Benchmark Capital is investing in the new online subsidiary, which will be complemented by a recently acquired 500,000 square foot automated distribution facility in Memphis, Tennessee. Like a major league baseball catcher bracing for the impact of a play at the plate, Toys "R" Us is gearing up for a collision with cyber toy store eToys Inc., which is rounding third and heading for home with its pending initial public offering. In the months to come, all eyes will be fixed on Toys "R" Us to see whether or not the retailer drops the ball.
QUICK TAKES: Messaging, voice mail, and enhanced calling card systems designer Brite Voice Systems (Nasdaq: BVSI) rose $2 3/16 to $12 3/4 after agreeing to be acquired by call center automation systems maker InterVoice (Nasdaq: INTV) for $13.40 per share in cash and stock... Diversified energy company CMS Energy Corp. (NYSE: CMS) charged ahead $2 3/8 to $43 5/8 on news that it will replace Union Camp Corp. (NYSE: UCC) on the Standard & Poor's 500 Index. Insurer AFLAC (NYSE: AFL), which will take Fred Meyer's (NYSE: FMY) place on the same list, rose $7/8 to $55 5/16... PC and computing products maker Apple Computer (Nasdaq: AAPL) climbed $4 13/16 to $45 3/4 after Goldman Sachs raised its rating on the firm to "recommended list" from "market perform."
Deep-discount retailer Dollar General (NYSE: DG) marched ahead $3 11/16 to $36 3/16 after its board approved the repurchase of up to 5 million of the firm's outstanding shares. The company also set a five-for-four stock split, payable on May 24... Direct mail marketing services company ADVO Inc. (NYSE: AD) added $2 to $22 following a Morgan Stanley Dean Witter upgrade to "outperform" from "neutral"... Discount purveyor of airline tickets Cheap Tickets (Nasdaq: CTIX) rose $3 to $44 3/4 after reporting a 3780% increase in year-over-year Q1 net earnings and earnings per share of $0.05, versus a loss of $0.01 per share in the prior-year period. For more details, please see today's Fool Plate Special.
Life sciences and chemical company DuPont (NYSE: DD) moved up $2 3/8 to $69 1/8 after posting Q1 EPS of $0.66 (excluding discontinued operations and charges), down from $0.68 last year but ahead of the First Call mean estimate of $0.60. The company added that its 1999 results could be "slightly stronger" than previously expected... Value-priced general merchandise retailer Pamida Holdings Corp. (AMEX: PAM) jumped $2 to $7 1/2 after saying it has received a buyout offer from an undisclosed third party... Automotive engineered components manufacturer Hilite Industries (Nasdaq: HILI) drove $2 1/2 higher to $13 3/8 after agreeing to be acquired by an investment group led by Carreras, Kestner & Co. for $69.8 million, or $14.25 per share.
Website designer Razorfish Inc. (Nasdaq: RAZF) swam ahead $17 1/2 to $33 1/2 after selling 3 million shares in an initial public offering at a price of $16 per share... Supply chain management software developer i2 Technologies (Nasdaq: ITWO) gained $1 15/16 to $34 7/8 after saying Caterpillar's (NYSE: CAT) Performance Engine Products Division has licensed the company's Rhythm software... Independent electricity producer Calpine Corp. (NYSE: CPN) climbed $3 3/4 to $41 5/8 following a BT Alex. Brown upgrade to "strong buy" from "buy."
Cymer Inc. (Nasdaq: CYMI) up $13/16 to $20 3/4; Q1 EPS: loss of $0.08 vs. earnings of $0.09 last year; estimate: loss of $0.09
Macrovision Corp. (Nasdaq: MVSN) up $7 5/8 to $47 7/8; Q1 EPS: $0.20 vs. $0.13; estimate: $0.17
MRV Communications (Nasdaq: MRVC) up $1 1/2 to $9 3/4; Q1 EPS: loss of $0.03 vs. earnings of $0.26 last year; estimate: loss of $0.03
Shaw Industries (NYSE: SHX) up $1 5/16 to $20 1/16; Q1 EPS: $0.28 vs. $0.15 last year; estimate: $0.24
StarTek (NYSE: SRT) up $1 5/16 to $17 3/4; Q1 EPS: $0.18 vs. $0.11 last year; estimate: $0.13
Terex Corp. (NYSE: TEX) up $1 1/2 to $30 7/8; Q1 EPS: $1.16 vs. $0.65 (before charges) last year; estimate: $0.92
U.S. Foodservice (NYSE: UFS) up $3 1/2 to $44; fiscal Q3 EPS: $0.34 vs. $0.29 (excluding charges) last year; estimate: $0.34
Shares of Airborne Freight Corp. (NYSE: ABF) dropped $3 15/16 to $31 3/4 after the Airborne Express operator reported disappointing first-quarter earnings. EPS was $0.51, down from last year's $0.63 and missing First Call's $0.57 consensus estimate as domestic shipments -- about 86% of the company's revenues in Q1 -- increased less than 1%. CFO Roy Liljebeck said because of strong results in 1998, this year's quarter was a difficult comparison. Indeed, both domestic and international shipments were up more than 15% during last year's first quarter. Closely held United Parcel Service, meanwhile, said net income was up 42% to $499 million in this year's Q1. While the growth in international revenue, powered by a nearly 20% jump in business in the Asia-Pacific region, was significant at 10%, the company's core domestic business was also strong, improving revenues 6.7% to $5.23 billion.
They can't all be megahits, even when you're powered by the entertainment world's mightiest Mouse. Walt Disney Co. (NYSE: DIS) fell $2 1/2 to $32 1/2 on news that while it expects second-half operating results to be "somewhat" better than last year's, "the improvements are not expected to be sufficient to overcome the declines experienced in the first six months of the year." Fiscal Q2 EPS was $0.13, down from the year-ago $0.17 and flat with estimates. Fiscal Q1 EPS missed the 1998 mark as well; the company looks set to underperform last year's EPS by more than 10%. This quarter's slip-up can be pointed to Disney's creative content division -- about 44% of revenues -- where sales were flat. The home video release of "Mulan" couldn't keep pace with last year's classics "Peter Pan" and "The Little Mermaid," while same-store sales at Disney Stores were off from year-ago levels.
QUICK CUTS: Online services giant America Online (NYSE: AOL) fell $7 to $155 in today's session. After the market's close, the company reported fiscal Q3 EPS of $0.11, $0.02 above estimates and beating last year's $0.04 mark... Telecommunications giant MCI WorldCom (Nasdaq: WCOM) lost $5 9/16 to $87 5/8 following reports that it will boost its offer for wireless cable TV company CAI Wireless Corp. (OTC: CWSS) to $28 per share, matching an unsolicited bid... Canadian network technology company Nortel Networks (NYSE: NT), which announced Q1 EPS of $0.33 -- flat with the Street's mean estimate -- was down $2 3/16 to $72 1/4. CEO John Roth is confident "that we will achieve our 1999 revenue and earnings growth targets."
Online transaction processing services provider Pegasus Systems (Nasdaq: PEGS) was clipped for a loss of $2 3/8 to $40 1/4 following this morning's announcement of plans to sell 1.75 million shares of company stock to the public, boosting the total outstanding by approximately 17%... Movie studio Metro-Goldwyn-Mayer (NYSE: MGM) flickered down $1 5/8 to $14 3/16 this morning. The company named director Alex Yemenidjian as its chairman and CEO, replacing Frank Mancuso. The company also plans a $500 million rights offering to its shareholders. MGM's Q1 loss was $2.03 per share, well off last year's $0.28 loss... Internet systems management and Web hosting firm Exodus Communications (Nasdaq: EXDS), which this morning announced a new Internet service provider (ISP) program, gave up $6 1/8 to $91 1/16.
Internal computer networks designer International Network Services (Nasdaq: INSS) tumbled $3 13/16 to $36 7/8 after the company said it plans to sell a total of 3.5 million shares to the public, 2 million by the company and the balance by shareholders. That would represent a more than 6% boost in the total shares outstanding... Global travel industry company Galileo International (NYSE: GLC) fell $3 3/8 to $49 3/16 after its airline company shareholders registered with the SEC to sell a total of over 35 million shares. Galileo currently has about 105 million shares outstanding... Regional Bell operating company US West (NYSE: USW), downgraded to near-term and long-term "accumulate" from "buy" at Merrill Lynch, fell $1 3/4 to $53 1/2.
Fingerprint identification systems designer Identix Inc. (AMEX: IDX), which yesterday closed its acquisition of Identicator Technology, retreated $1 3/16 to $10 1/16. The company said fiscal Q3 losses were $0.03 per share, flat with last year but a penny better than First Call's two-analyst consensus projection... Tenneco Inc. (NYSE: TEN), which makes Hefty trash bags and Walker mufflers, shed $2 7/16 to $27 9/16 after Donaldson, Lufkin & Jenrette cut its rating on the stock to "market perform" from "buy"... Engineering and construction services firm Foster Wheeler Corp. (NYSE: FWC) lost $1 3/8 to $13 1/2 today as DLJ reportedly lowered its rating on the stock to "underperform" from "market perform."
Argosy Gaming Co. (NYSE: AGY) down $3/4 to $6 3/4; Q1 EPS $0.10 vs. loss of $0.10 last year; estimate: $0.09
Banyan Systems (Nasdaq: BNYN) down $1 9/16 to $13 3/4; Q1 EPS: $0.02 vs. $0.02 last year; estimate: $0.03 (one analyst)
Dendrite International (Nasdaq: DRTE) down $3 1/4 to $26 7/8; Q1 EPS: $0.15 vs. $0.07 last year; estimate: $0.12
DoubleClick Inc. (Nasdaq: DCLK) down $23 1/8 to $148 1/2; Q1 EPS: loss of $0.13 vs. loss of $0.21 last year; estimate: loss of $0.13
Insight Enterprises (Nasdaq: NSIT) down $1 3/4 to $28; Q1 EPS: $0.26 vs. $0.18 last year; estimate: $0.24
Market Guide (Nasdaq: MARG) down $1 3/8 to $19 1/8; fiscal Q4 EPS: $0.07 (before items) vs. $0.09 last year; estimate: $0.08
PSINet Inc. (Nasdaq: PSIX) down $4 9/16 to $58 7/16; Q1 EPS: loss of $1.11 vs. loss of $0.51 last year; estimate: loss of $1.20
Biotech or Internet?
Two technological innovations likely to have the most profound impact on our lives over the next twenty years will be the Internet and biotechnology. Investment opportunities in both areas are now plentiful. While many biotech companies have done well over the past year, Internet companies have stolen the show. The strength of Internet shares reflects the fact that everyone is aware of this revolution and can see how it will affect their lives. Daily press releases and news blurbs discuss product enhancements, new entrants in the field, and innovative moves by key Internet players. Upon hearing such news, investors pile into the impacted stocks, thinking of the limitless growth opportunities offered by these moves.
Biotechnology stocks, however, are a little more obscure. The major companies tend to have only one or two drugs currently on the market and the general population doesn't even know about them. The new product cycle is extraordinarily long, lasting several years and culminating with a review by unpredictable governmental agencies. Even before this review, many once-promising drugs are kicked out of testing due to adverse side effects or lack of efficacy. For these reasons, the current prices of major biotech stocks don't incorporate boundless optimism about the prospects for products in the pipeline.
An investment portfolio expected to last more than a decade should probably have some exposure to these emerging sectors in the economy. The advances likely to occur in both these fields are unimaginable to most of us. When they occur, stock prices of the successful companies will soar to reflect this value. The allure of investing now in what appears to be the hottest sector is immense. Before taking the plunge, however, be sure to put the future opportunities of a company in context with its current market valuation and the uncertainty associated with the realization of its objectives.
Most of the value in these companies is derived from future growth. If that growth doesn't materialize, the value of your investment will deflate like a helium balloon popped with a nail by a disappointed investor. For a picture of what this looks like, check out this three year stock chart of Iomega (NYSE: IOM).
While both groups of companies appear to have boundless growth in the years ahead, the major biotechnology companies are much less expensive than their Internet peers. Biotechs like Amgen (Nasdaq: AMGN), Biogen (Nasdaq: BGEN), and Genentech (NYSE: GNE), and Chiron (Nasdaq: CHIR) have price/earnings (P/E) multiples of less than 50 times this year's earnings estimates, whereas multiples for Internet companies (if they have profits) are in the hundreds or thousands.
What do these valuations mean? Let's assume that a P/E multiple of 25 is "normal" for a stabilized growth company (this figure is actually high by historical standards). To get their multiple down to 25, Internet companies will need to grow their revenues and earnings streams many fold in the next few years -- and that assumes their stock price remains flat. To justify an increase in price, the companies will need to increase earnings even more than that. On the other hand, the biotech stocks mentioned above will have P/Es less than 25 if they double their earnings over the next few years. That's substantial growth, but not unreasonable given the breakthroughs likely to occur over the next decade. If earnings rise faster than that, these stocks will be poised to move even higher.
Beyond attractive relative valuations, biotech companies are threatened less because of their substantial barriers to entry. Developing a new drug costs millions of dollars. But having money isn't enough. You need the scientific expertise to develop compounds that will be useful. Once found, these compounds need to be taken through a series of tests to ensure that they work and do not cause serious complications. After passing these hurdles, the drug must then be approved by a governmental agency. In the U.S., the Food and Drug Administration (FDA) is responsible for determining whether drugs are safe for citizens. Although the approval process is arduous, most drugs enjoy monopoly status for several years, which helps owners recoup development costs and earn a profit on their investment.
In the Internet world, competition can be fast and fierce. We have already seen that with the introduction of numerous Web portals and e-commerce companies. The pace of new competitors in the market should accelerate now that so much capital is flowing into the business. The impact of this competition is already being felt. Having noticed the success enjoyed by eBay (Nasdaq: EBAY) in the auction market, Amazon.com (Nasdaq: AMZN) has entered the fray with its own auction site. Seeing upstart eToys as a competitive threat, Toys 'R Us (NYSE: TOY) today announced plans to create a website with the help of Benchmark Capital, which helped fund eBay and other Internet companies.
What is stopping people from entering the market? Not too much. All you need is some seed capital and a savvy entrepreneur, motivated by the prospect of making millions in an initial public offering. Some companies have patented technology, but competitors seem to be adept at circumventing that hurdle. In the online brokerage industry, we've already seen competition cause a significant drop in fees -- you can now trade online for $5-$15 a trade. Now a couple of firms have raised the ante by attempting to lure new customers with $50 or $75 in cash for opening an account. As these types of promotions proliferate, profitability will suffer. (Didn't we see the long distance industry get into this kind of war a few years ago? Why do you think they decided to stop?)
Biotechnology is also a competitive business. Numerous companies are searching for drugs to address diseases like cancer, arthritis, and HIV. Others are working on developing methods to clone human organs for surgery and transplants. Knowledge learned by one company will be used by others to further efforts in developing similar techniques. While competition exists, the barriers to entry are much more substantial. You won't see someone come out of nowhere and be a viable competitor the next day. It will take months or years to jump through the regulatory hurdles required to bring a competing product to market. During that time, the inventor of the original product can develop strategies and contingency plans to facilitate continued success.
Advances in biotechnology and the Internet over the next few years will be mind-boggling, altering everyone's life. Fortunes will be created by companies developing the right products and services. As individual investors, we have the ability to participate in these developments. The most successful among us will be those who are patient, use common sense, and consider the underlying fundamentals and prospects of investment opportunities. Anyone investing in the right company in either industry will be extremely successful. My guess is that the odds for the greatest success will lie on the road less traveled.
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