<THE EVENING NEWS>
Tuesday, July 27, 1999
MARKET CLOSE
DJIA           10979.04  +115.88    (+1.07%)
S&P 500         1362.84   +15.08    (+1.12%)
Nasdaq          2679.32   +60.13    (+2.30%)
Russell 2000     446.48    +3.61    (+0.82%)
30-Year Bond   89 17/32   +10/32  6.01 Yield

HEROES

Biotechnology firm EntreMed (Nasdaq: ENMD) rose $1 15/16 to $22 5/8 after the FDA gave the company the go-ahead to begin clinical trials for its Endostatin protein, under development as a cancer treatment. The company said it was able to file its investigational new drug (IND) application with the government three months ahead of schedule in part because of the early completion of preclinical testing. This is a nice boost for EntreMed, which has provided investors with something of a roller-coaster ride so far this year -- the shares were bludgeoned in February when Bristol-Myers Squibb (NYSE: BMY) said it wouldn't develop EntreMed's Angiostatin protein because of uncertainty about the drug's potential. Also standing to benefit from the EntreMed news is Covance (NYSE: CVD), which not only has an agreement to develop Endostatin but in March also signed on to produce Angiostatin for further studies and preclinical trials after Bristol-Myers bailed.

Wireless and satellite-based Internet access support systems company Adaptive Broadband (Nasdaq: ADAP) moved up $1/8 to $19 1/4 today. The company reported a fiscal Q4 loss of $0.25 per share from continuing operations, a dime worse than First Call's six-analyst consensus estimate. Why get excited? "Our backlog of opportunities is substantially greater than we have ever experienced," said CFO Donna Birks, "and we believe our efforts will pay off handsomely." The trimming of unwanted divisions -- among them the government business, about which buyer Northrop Grumman (NYSE: NOC) is currently suing regarding alleged misinformation -- appears to be tipping the scales toward significant margin improvement, as Q4 gross margins rose to 36.4% from 24.4%. Meanwhile, the company reported a five-year, $100 million contract to sell broadband wireless service equipment to Texas high-speed data services provider I3S Inc. Deals like that one could go a long way to pulling Adaptive back toward profitability after a year belowdecks. The company reported $157 million in revenue for the year, down from $173 million the year before.

QUICK TAKES: Dell Computer (Nasdaq: DELL) has taken another step into the consumer market, as it will now be bundling its own branded Internet service and other online perks with a sub-$1000 personal computer. Shares of Dell, which are off the $55 highs set back in February, rose $2 1/8 to $42 1/8 today. For more, warm up some of today's Fool Plate Special... Chipmaker Intel (Nasdaq: INTC), upgraded to "buy" from "neutral" by S.G. Cowen & Co., moved up $4 11/16 to $67 9/16. Analyst Drew Peck said the company's shares could reach $75 to $80 by year's end.

Database software company Oracle Corp. (Nasdaq: ORCL) ascended $2 1/16 to $37 1/16 today. The company unveiled its iHost suite, an application hosting program for Internet access providers... Network computing company Sun Microsystems (Nasdaq: SUNW), which announced the availability of Netscape Application Server 4.0 for e-commerce websites, brightened $3 1/4 to $71 9/16 today... Network software developer Novell (Nasdaq: NOVL) gained $2 9/16 to $27 1/2 after announcing investments totaling more than $15 million for minority positions in five Internet and network software companies: Edgix, Food.com, Indus River, Red Hat, and W. R. Hambrecht.

Irish pharmaceutical company Elan Corp. (NYSE: ELN), which signed a technology transfer and license agreement with Merck NYSE: MRK) potentially worth more than $30 million, gained $1 1/16 to $28 1/16 today. Elan's Q2 EPS was $0.29, flat with estimates... Drug giant American Home Products (NYSE: AHP) snagged $15/16 to $52 1/16 following reports that a FDA panel recommended approval of Rapamune, a drug the company hopes to market as a means to help transplant patients fight organ rejection... Shares of wireless communications and semiconductor maker Motorola (NYSE: MOT) dialed up gains of $4 3/8 to $92 1/2 after the company cited a research report from Selantek Market Research saying it has 19% worldwide market share in the automobile industry.

Standard Products Co. (NYSE: SPD), which makes sealing, trim, and vibration control systems for the automotive original equipment industry, accelerated $10 to $35 after Cooper Tire & Rubber Co. (NYSE: CTB) agreed to buy the company for $36.50 per share in either cash or stock. The deal represents a 46% premium to yesterday's closing price for Standard stock... Transportation and logistics management company Mark VII Inc. (Nasdaq: MVII) was marked up $5 1/16 to $22 11/16 after Ocean Group PLC agreed to buy the company for $23 per share in cash. The deal represents a 30% premium to yesterday's closing price for Mark VII stock.

Shares of media giant Gannett Co. (NYSE: GCI) ascended $1 7/8 to $76 3/8 following reports that cable TV company Cox Communications (NYSE: COX) plans to buy Gannett's cable TV assets for $2.7 billion in cash. For more on the story, head back to this morning's Breakfast With the Fool... Enterprise IT company Softworks (Nasdaq: SWRX), battered for a loss of $4 3/32 yesterday on earnings warning news, regained $1 21/32 to $6 15/16 today... Credit card issuer and catalog mailer American Express (NYSE: AXP), started with a "buy" rating and a $175 per share price target by Morgan Stanley Dean Witter, moved ahead $5 7/8 to $142 3/8 in today's session.

Entercom Communications (NYSE: ETM), the nation's sixth-largest radio company, tuned in a gain of $2 5/8 to $39 3/4 after it signed a letter of intent to buy 43 radio stations from Sinclair Broadcast Group (Nasdaq: SBGI) for $821.5 million in cash, more than doubling its stations... Aluminum producer Century Aluminum Co. (Nasdaq: CENX) shone $2 to $10 3/4 on last night's news that Pechiney (NYSE: PY) agreed to buy Century's two fabricated aluminum businesses for $248 million. The companies have also agreed to a "long-term" metal supply agreement... Website developer and operator Telescan Inc. (Nasdaq: TSCN) advanced $1 3/8 to $20 5/8 following the news that General Electric (NYSE: GE) broadcasting division NBC boosted its stake in the company to 14.9% from about 10% with the purchase of 1.1 million shares of company stock for $25 million, about an 18% premium to last night's closing price.

Earnings Movers


Advanced Fibre Communications (Nasdaq: AFCI) up $1 9/16 to $16 3/16; Q2 EPS: $0.06 (before charges) vs. $0.09 last year; estimate: $0.04

Argosy Gaming (NYSE: AGY) up $1 3/16 to $11 1/4; Q2 EPS: $0.27 vs. $0.01 last year; estimate: $0.19

Cheap Tickets (Nasdaq: CTIX) up $10 7/16 to $50 1/2; Q2 EPS: $0.15 vs. $0.03 last year; estimate: $0.08

Hall, Kinion & Associates (Nasdaq: HAKI) up $1 1/8 to $8 1/4; Q2 EPS: $0.16 vs. $0.09 last year; estimate: $0.13

Hi/fn (Nasdaq: HIFN) up $15 5/8 to $94 1/4; fiscal Q3 EPS: $0.35 vs. $0.04 last year; estimate: $0.23

IMC Global (NYSE: IGL) up $1 9/16 to $18 9/16; Q2 EPS: $0.46 vs. $0.58 last year; estimate: $0.44

Monaco Coach
(NYSE: MNC) up $1 13/16 to $27 5/16; Q2 EPS: $0.59 vs. $0.23 last year; estimate: $0.45

Qwest Communications International (Nasdaq: QWST) up $1 9/16 to $30 1/8; Q2 EPS: $0.02 vs. loss of $0.04 last year; estimate: gain of $0.01

Waters Corp.
(NYSE: WAT) up $3 5/8 to $56 3/4; Q2 EPS: $0.43 vs. $0.30 last year; estimate: $0.39

GOATS

Computer animation studio Pixar (Nasdaq: PIXR) slid $6 1/8 to $42 after posting Q2 EPS of $0.13, up from last year's $0.04 and $0.02 ahead of the First Call mean estimate. However, the company said during a conference call that U.S. video sales and product licensing revenues for its movie A Bug's Life have been less than anticipated. Even though A Bug's Life was released eight months ago, Pixar is just starting to recognize revenues and profits from the film due to its agreement with marketing and distribution partner Disney (NYSE: DIS), which stipulates that the Mouse House be reimbursed for its costs before Pixar gets its hands on the loot. In response to the lowered expectations, Prudential Securities cut its rating on the firm and Merrill Lynch lowered its total A Bug's Life revenue estimate to $155 million from $190 million. But with Disney already stepping on the marketing gas pedal for the release of Pixar's third feature film, Toy Story II, later this year, today's share price drop might be about as long-lived as the typical mayfly.

Electronic travel information firm Galileo International (NYSE: GLC) fell like a rock from a tower today, losing $3 7/8 to $50 1/4 despite posting Q2 EPS of $0.59, up from $0.51 a year ago and in line with analysts' estimates. Total revenues rose 5% to $398.8 million and operating margin climbed to 26% from 24% a year ago, but a weak year-over-year U.S. bookings figure scared away some investors. "Significant differences" in passenger volume growth for the major domestic airlines and transition issues related to the deployment of a new sales force were blamed for a 2.5% decline in U.S. booking volumes in the period. Still, Galileo has done a lot of things right through the first half of this year, which has seen earnings rise at roughly three times the rate of revenue growth and six times the rate of operating expenses growth.

QUICK CUTS: Virtual private network (VPN) technology provider Information Resource Engineering (Nasdaq: IREG) lost $1 13/16 to $20 7/16 after reporting a Q2 loss of $0.19 per share, not quite as bad as last year's loss of $0.22 per share but below the First Call mean earnings estimate of $0.04 per share... Nursing home operator Beverly Enterprises (NYSE: BEV) slipped $7/16 to $6 1/4 after saying it has reached a tentative "understanding" with the Justice Department to settle Medicare fraud claims, which will lead to $175 million to $225 million in pre-tax Q2 charges.

Data storage software developer Veritas Software Corp. (Nasdaq: VRTS) dropped $2 5/8 to $54 5/8 after filing registration statements with the SEC to sell $575 million of convertible notes and resell 10.6 million common shares currently held by disk drive maker Seagate Technology (NYSE: SEG) and 1.4 million shares held by investment firm Warburg, Pincus... Copper telephone line bandwidth enhancement technologies developer Tut Systems (Nasdaq: TUTS) lost $5/8 to $34 3/8 on fears that investors may unload shares after its initial public offering-related 180 day lock-up period expired today, according to Dow Jones... Property and casualty insurance and real estate company Chubb Corp. (NYSE: CB) slid $1 15/16 to $62 15/16 after posting Q2 operating EPS of $1.00, shy of the First Call mean estimate of $1.04.

E-business network services company Digital Island (Nasdaq: ISLD) lost another $1 1/8 to $24 7/16, adding to yesterday's 18% decline. According to Dow Jones, two of the underwriters for the company's initial public offering last month released research reports yesterday that projected lower revenues for this year compared to what the firm said it was expecting during its road show... Insurer and reinsurer ACE Ltd. (NYSE: ACL) slid $1 9/16 to $23 5/8 after reporting fiscal Q3 EPS of $0.22 (excluding gains) compared to $0.55 a year ago. The company said hailstorms in Australia and tornadoes in the U.S. resulted in net losses of $55 million, or $0.28 per share... Personal communications services (PCS) provider Aerial Communications (Nasdaq: AERL) fell $1 7/16 to $13 5/8 following a Lehman Brothers downgrade to "neutral" from "outperform," citing valuation concerns.

Online auction site eBay Inc. (Nasdaq: EBAY) slumped $4 13/16 to $99 9/16 after reporting Q2 EPS of $0.04 (excluding charges) compared with $0.05 a year ago, beating analysts' mean estimate of $0.03. However, some investors are reportedly worried that spending by the firm to beef up its staff and computer systems will hurt profitability in future quarters. For more on eBay, see today's "Fool on the Hill" column below.

FOOL ON THE HILL
An Investment Opinion
by Warren Gump

eBay's Amazing Profits

In today's column, I'm going to take a look at eBay's (Nasdaq: EBAY) earnings release. Those of you interested in the company simply because of the future potential of the Internet, the company's dramatic projected growth, and the infinite possibilities for this first-mover in Internet auctions need not read any further. I don't address those issues. At this point, I haven't developed the cognitive resources to even guesstimate what will happen in this market segment over the next few years.

What I can do, however, is utilize my ten-plus years of financial analysis to examine eBay's profitability last quarter. I do not have an ax to grind with the company -- I have never used the service and have no position in the stock. I picked eBay simply because it reported earnings yesterday and many sleight-of-hand tricks used by Corporate America can be seen in its press release.

You are probably well aware that investors no longer really look at the bottom line of a company -- instead of reported earnings, companies are leading analysts to consider earnings before acquisition charges, restructuring costs, amortization of intangibles, and amortization of "noncash" stock compensation. These exclusions are all expenses in the eyes of accountants, yet companies now sweep them under the rug in pro-forma reporting since they don't give a representative view of ongoing operations or a company's cash-generation capabilities.

The above-mentioned list doesn't incorporate regular stock option grants, since accountants and the Securities and Exchange Commission already allow them to be excluded from the reported income statement. The only thing that companies need report is the theoretical cost of this compensation expense in financial statement footnotes, so that they don't sully the actual income statement. I guess there isn't any reason to be alarmed over the fact that option grants are becoming an increasing portion of pay throughout our country. They're "noncash"... all the company is doing is diluting the ownership of existing shareholders.

According to yesterday's press release, eBay's "supplemental" Q2 earnings per share -- what it wants investors to focus on -- was $0.04, compared to $0.05 the previous year. With this number, eBay probably thought it had found the holy grail for an Internet company earnings report, with something to satisfy all constituencies. For those few people who are interested in plowing money into profitable companies, eBay can tout that it has a profit. On the other hand, eBay can remind those investors who believe it imperative to "invest for the future" that it was able to make less than it did in the prior year.

Those folks who deem it necessary for an Internet company to post losses might fear they've been left out in the cold. eBay didn't forget them, though. Their desire to see red ink can be satiated by focusing on operating results -- what eBay makes from actually conducting business. According to traditional income statement reporting procedures, the company had an operating loss of $4.6 million in the quarter. That number includes $4.7 million in merger costs and amortization of intangible assets.

Excluding those two expenses, which is a debatable proposition for a company growing through acquisitions, the company posted a whopping operating profit of $54,000. eBay also adds back noncash compensation amortization to its supplemental numbers, but I find it completely unreasonable to do so. Accounting requirements for stock options are so lax that any options expense required to be recorded on the income statement invariably should be. Of course, eBay doesn't mention its only nominal operating profit in the text of its press release.

Well, if the company had an operating profit of only $54,000 (again, that excludes acquisition and amortization expenses), how did the company post supplemental net income of $5.1 million? Chalk $1.5 million of the difference to the amortization of option expense. (Here's a little background to help you decide whether this should be an expense: At the end of 1998, eBay had granted options on more than 28 million shares at an average exercise price of less than $2 per share over the prior three years. The total cost of these options recorded as an expense on its income statement was less than $20 million. At current market prices, those options would be worth significantly more than $2.5 billion. Do you think that $1.5 million is too much to charge as an expense?)

The remaining $3.5 million difference between operating earnings and reported supplemental net income is tied to interest and other income. In other words, most of the reason eBay earned a profit this quarter is its deft use of the capital markets. The company raised $697 million in April from investors eager to pick up eBay shares at $170 apiece. By putting this money into cash and other investments, the company was able to boost net interest income to $6 million. After Uncle Sam took his 42% cut in taxes, eBay was left with an extra $3.5 million on its bottom line. As a result, most of the company's quarterly profit is tied not to success in the online auction business, but instead to its ability to raise cash from enthusiastic equity investors.

Many people likely view eBay's reported supplemental results with admiration. By taking advantage of accounting loopholes related to employee stock option grants and the willingness of analysts to ignore reported "one-time" and "noncash" expenses, the company is following in the footsteps of the most savvy American corporations that have been using similar tricks for years. Such moves help justify ever-increasing stock prices.

As more items accrue to the list of things that companies suggest should be excluded from costs when evaluating earnings per share, investors are increasingly relying on less-than-complete portraits of company operations. That may not matter in today's euphoric markets, but investors will likely take a more suspect view sometime down the road. As any experienced banker knows, ignoring traditional risks tends to be extremely profitable in a boom market, but proves devastating in a downturn.

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