Fool Portfolio Report
Monday, November 25, 1996
by David Gardner
(MotleyFool)
ALEXANDRIA, VA, November 25, 1996 -- Decent day for Foolishness. Right off, the Fool Portfolio returned 1.08%, in yet another strong day for the market. In fact, some elements of the stock market were strong enough to outdo our return; the S&P 500 scored a gain of 1.11%. Technology growth stocks, for which the Nasdaq Composite is a decent proxy, came in a few steps below. The Nas rung the 0.48% gong.
It's been one good-lookin' November, an exceedingly Foolish month to have been fully invested. Our current return for the month is 7.51%. That's generally impressive until you look at the S&P 500's return for November: 7.34%. So the game's pretty much tied, and we're looking to play some sudden-death overtime in the last few trading days of the month. Actually, if the Fool Portfolio can keep the magic alive for a few more days, it'll be one of those double-digit return months for us. Which'd be very nice, given the selloff in October (Folly being devalued 5%, as it were).
Highlights of today's report include a look at Quarterdeck's quarterly earnings, reported this morning, and a quick spin around the Foolish diamond, touching base with today's best performers. Let's start with Quarterdeck.
Early this morning, prior to market open, the Quarterdeck Corporation brought its fourth-quarter numbers before the eyes of the world. As expected, a fit of blinking ensued; the quarter was an exceedingly poor one. First off, the company's net revenues were 37% lower than last year's final quarter. Here are the gross and net revenues, with an explanation to follow:
4Q 1996 1995 Gross revenues $32,067 $34,237 Net revenues $19,741 $31,304"What's up with two sales numbers?" you may be asking. Most companies only have one. But in the case of QDEK, the company books gross sales upon shipment of a product. My reading of Quarterdeck's accounting practices (as listed in its 10-Q) is that when they send 10 copies of Procomm to a CompUSA, they list those as 10 sold copies... they book the revenues. If the products don't sell, you then have your "provision for returns." When you subtract that figure ($12.3 million in the latest quarter) you wind up with net revenues.
Interesting to note, then, that in the year-ago fourth quarter the provision for returns figure was $2.9 million on $34.2 million gross sales. Out of every 12 copies shipped, one didn't sell.
Fast-forward to this most recent quarter, when returns came to $12.3 million out of gross sales of $32.1 million. For every 2.6 copies shipped, one didn't sell. The reasons for this happening were fully elucidated in our original short-sale report, but may be summarized succinctly in one sentence from QDEK's June 10-Q: "The decline in sell-through of memory management products is primarily attributed to the continuing decrease in the cost of memory (DRAM) together with the fact that current versions of the Company's memory management products are nearing the end of their product life-cycle."
Exactly. Chips that speed up your computer (random access memory chips, or RAM) don't cost much more than QDEK's software products, many of which have historically aimed to do just that. So rather than do software workarounds, people are buying more RAM or expanding their hard drives cheaply. That, combined with Windows95 many new capabilities (which come for free to Windows users), have created these problems for Quarterdeck, which has indeed been nearing the end of its product life-cycle."
To the company's credit, it actually increased net sales over the previous quarter. Third-quarter net revenues were $16.0 million, meaning September sales rose 23% over June. And overall, the numbers look better than last quarter's disaster. In fact, let's look at the numbers from 3Q to 4Q, for perspective's sake:
1996 3Q 4Q Net revenues $16,022 $19,741 Cost of revenues 11,252 11,269 Gross margin $4,770 $8,472 R&D $5,365 $5,363 Marketing 17,089 13,859 G&A 9,216 8,824 Restructuring 1,660 Operating margin ($28,560) ($19,574) Interest income $1,305 ($1,830) Pre-tax income ($27,255) ($21,404)This quarter-over-quarter analysis would be a great thing for companies to do in their financial statements as a matter of course. It sometimes makes analyzing a business a lot easier to see it from quarter to quarter, rather than the constant ongoing comparison of a quarter to the like quarter from the year before. (Yes, some companies are seasonal, screwing this up a bit. But they could indicate their seasonality in notes attached to the statements.)
Anyway, the stock closed unchanged today, the poor corporate performance already anticipated by the past few months of deterioration in the share price. The stock may have been helped by the slight improvement over the previous quarter, along with this ongoing stated expectation from management: "The Company believes its current strategic efforts will return the Company to profitability."
Maybe so, though I have a hard time seeing it. Consider that Quarterdeck restructured this quarter, firing 40% of its workforce (part of the reason you see those G&A costs down a bit, and the marketing too, I expect). But the company has no CEO, just an "Office of the President" featuring the combined efforts of a number of board members. What kind of a company takes months to locate a CEO, and restructures in the process (with no input from the future CEO)? It's all a combination of silly and outrageous, but there it is.
Anyway, I don't exactly know where we'll go with this investment. Our short sale is up 28% in two months, which is a fine performance and something we'd normally consider cashing out. But part of me wants to hold out for more deterioration. After all, how long can a small-cap company with no manager and products that don't move continue to suffer losses of $20 million or more? Even issuing convertible notes (raising $25 million), preferred stock (raising $18 million), and additional common stock will only work so long. But at the same time, the flame may burn for a while, keeping the stock at the $5 level. I have no idea. As I've been almost from the beginning with this investment, I'm torn.
And as long-time readers have come to expect, we share our feelings candidly. If we're torn, we say so. The idea, as always, is that you're all smart enough to come to your own conclusions as well. And if you don't feel you're smart enough, you're probably just invested in the other things we've taught about: index funds and the Dow Dividend Approach. (Very happily invested, in fact, since both continue to generate outstanding returns for investors.)
Here's a nice segue: remember back to November 6th, when Prudential analyst Lisa Thompson started both Quarterdeck and America Online with NEUTRAL ratings? You could have read our jokes in this very space on that day, since we found it extremely funny that a large Wall Street firm would equate the future prospects (and current valuations) of a moribund software company and the world's top online franchise. But there it was. America Online closed at $25 1/4 on that day; Quarterdeck closed at $4 3/4.
In keeping with our thoughts, AOL has pretty much blown away the other company's returns, up $1 5/8 again today to close bidding $32 5/8. The company announced a partnership with Excite (Nasdaq: XCIT, which rose 61% on today's news) for which Excite will become AOL's exclusive Internet search and directory service for AOL. Excite also purchased WebCrawler from AOL for about $12 million, and AOL increased its stake in Excite to 20%.
Given that Bob Pittman, AOL's new head of AOL Networks, sat as an independent director on the Excite board prior to coming to AOL, I guess I shouldn't be surprised. Further, Tribune Company (which owns 5%+ of AOL) is also a significant investor in Excite. You'd have thought that we Fools could put two and two together ahead of time, and maybe purchase a bit of that stock. But oops, I forgot! Then we'd be accused of having insider information, which is exactly what we never have. So I guess I'm glad I passed up the day's 61% rise.
Keep in mind, America Online's share price run could be driven partly by short covering. Short interest was printed in the papers today, and we find AOL had 22 million shares shorted as of November 15. I don't think those people are very happy right now, but over the past couple of years (with the exception of this past summer), they've been an historically melancholy lot anyway.
KLA Instruments (down $2 5/8) and 3Com (off $1 5/8) each gave up some of last week's gains, selling off in a weaker (though still positive) technology market today. Still, Iomega and ATC Communications managed to eke out gains, despite having both been up more than a dollar earlier in the day.
To close, we give thanks for today. And every day, actually, but this one more than most. Hey, it's not just a seasonally appropriate thing to say!
--- David Gardner, November 25, 1996
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