September 4th, 2002

Digging Deep into Companies' Books
By EVELYN ELLISON TWITCHELL


Howard Schilit founded the Center for Financial Research & Analysis in 1994 to tell clients when companies are using unusual accounting to camouflage a deteriorating business. Based in Rockville, Md., CFRA maintains an online database and information service on nearly 2,000 publicly traded companies worldwide, at www.cfraonline.com. Its fees are hefty: $4,000 per month for complete access. But the organization has flagged problems at companies such as WorldCom, Cendant, Oxford Health Plans and Sunbeam well before Wall Street or the media started paying attention.

Schilit argues that today's "ticking bomb" consists of companies setting up larger-than-necessary reserves and then releasing them back into income, thereby artificially inflating profits. Author of Financial Shenanigans: How to Detect Accounting Gimmicks and Fraud in Financial Reports and former accounting professor at American University, Schilit holds a bachelor's degree from Queens College, a master's in accounting from Binghamton University and an M.B.A. and Ph.D. from the University of Maryland.

(Editor's Note: Because Schilit is an accountant who doesn't pick stocks, we're dispensing with our usual format this time. In Part I, Schilit discusses CFRA's mission and his views on the market. In Part II he exposes common accounting tricks.)

Barron's Online: How would you describe CFRA's mission?
Schilit: Our mission is to help investors and creditors analyze public companies, particularly focusing on quality of earnings and operational deterioration in the businesses, without making buy or sell recommendations.

Q: What's your track record?
A: Anecdotally, if you come up with a list of the biggest accounting debacles of the last decade, we had written on just about every one while the stock was still at a point where somebody could have prevented losing a lot of money.

Q: Such as?
A: WorldCom. We wrote four warnings about WorldCom from the summer of 2000 through the spring of 2001. WorldCom had been making a number of acquisitions. They had taken large write-offs with each one of those, and we felt that they were setting up reserves that were later released back into earnings. Indeed, with some of the more recent revelations about WorldCom, that's one of the accounting issues.

Q: Have your services grown more popular lately?
A: Without a doubt. Until this year, probably in an average month, we had ten new subscribers. This year it has been double that.


Q: Do you think the market's hypersensitivity to all things accounting will last?
A: No. This is a phenomenon largely created by a bear market and a recession. This is not unprecedented. The scale is something we haven't seen probably since the 1929 crash and the fall-out from that. But I could point to the 1970s, 1980s and 1990s, when there were also congressional hearings related to accounting issues.

Q: Do you expect Congress or the Securities and Exchange Commission to successfully reform Wall Street?
A: The way to look at the problems and the solution is, you have to be able to change the behavior of senior executives. This is not something that you are going to be able to legislate out by having new accounting rules. If the message gets across to senior executives that the way to win with the new world order is to be straight with your accounting, that I think is the only way for this problem to really get solved.

Q: Do you see that happening?
A: If I were to give you a probability, I would say less than 50/50. I am looking at the people involved, the brokerage community. Will their behavior change as a result of this? Probably not. You are who you are. If the way people become CEOs is to be very aggressive, you're not going to tame them. There is a certain type of person who rises to that level, and they'll probably find other ways to get the stock price up. If certain accounting tricks are going to be scrutinized, they'll probably find other ways.

Q: How did we get into this situation in the first place?
A: Because everybody was making money. The bull market made a lot of people very rich. And if you're rich and you're getting more and more, you just don't ask questions.

Q: Which accounting trick is most commonly used?
A: Probably, trying to record revenue too quickly.

Q: How do companies do that?
A: In order for a company to record revenue properly, there are three things that have to have occurred. Number one, [the seller] must have provided everything that was required, whether it was developing a product, shipping it or delivering it. Second, you need unconditional customer acceptance. Third, [the customer has] to pay for it.
Where things go awry is typically the first step. I may have to provide a whole variety of things -- develop software, install it, train your people, provide updates, maintenance service. The accounting trick would be for me to record all of the revenue on the date that I either sign a contract with you or possibly [when] I ship the software to you. An example is MicroStrategy, the software company. They would sign a contract the last day of the quarter and book all the revenue as if they had done everything under the terms of the contract.

Q: What else?
A: A second type of accounting trick deals with a company failing to record an expense. I'll use [AOL Time Warner] and WorldCom as examples. AOL in the mid-1990s [was] spending a lot on marketing. Most companies treat marketing cost as an expense immediately, and it reduces their profits. AOL had a different approach. It said, those expenditures we're going to treat as an asset, meaning we're going to put them on the balance sheet and charge them as expenses in later periods. So their current year profits looked much better. Finally, the SEC got around to looking at their accounting and the company paid a fine and signed some consent decree.
WorldCom [was] leasing certain equipment. And lease expense, of course, should be charged immediately against profits. Well, WorldCom did exactly what AOL was doing. They took those costs; they put them on the balance sheet and started depreciating them, probably over 30 or 40 years.

Q: What's another common trick?
A: Probably the biggest accounting trick that people don't understand: A company takes a big charge. They write off a billion dollars. The trick is you take a much bigger charge than you need, and at the same time, of course, you're setting up a much bigger reserve. Over the coming quarters, you simply have to make a bookkeeping entry releasing that reserve back into income.

Q: So investors see that as operating income?
A: They have no clue that the company even released it into income. The company doesn't disclose that. I think in today's environment where so many companies have taken charges in the last year because of the weak economy, that is the ticking bomb. That is, companies have created these reserves and nobody's paying attention to what happens to the reserves in future periods because there is no disclosure about it.

Q: So how can we be prepared for that?
A: The best thing to do is ask the right questions. The company initially took a charge of $100 million and now it's one quarter later and there's $25 million left in that reserve. The question: Did any of that $75 million hit income this period? It's either yes or no. If the answer is anything other than no, none of it did, then there is a problem.

Q: What's an example?
A: Cendant in the mid-1990s, (the company at that time was called CUC [International]) was making a number of acquisitions. They took big charges when they were making those acquisitions, and then over the next 18 months they released over a half a billion dollars back into income. Sunbeam is another good example.

Q: What about companies today?
A: Oh, we see this with a lot of companies. I can't get any more specific. We have a policy where we don't talk about specific current companies to anybody other than our clients.

Q: All right. But your reports have intriguing headlines, like--you saw a jump in receivables at Cadence Design Systems. Without speaking about Cadence specifically, could you talk about why a jump in receivables is a concern? (Editor's note: receivables are bills that are booked as revenue, but which haven't yet been collected.)
A: Okay. The norm is that if receivables are growing 20%, sales should be growing in line with that. If you see receivables growing two or three times faster than sales, that's something that could be a very serious problem -- either because customers are paying much more slowly, so it might be a sign that the company has begun to give more liberal credit terms. Or there may be some important customers that are having financial problems and those accounts have to be written off. Or the company might be stuffing the [distribution] channels at the end of the quarter.

Q: You spotlighted large pension income at Mellon Financial. In general, why might large pension income be a concern?
A: You can look at a company's profits and put them into two different buckets. One bucket is what they earned from their normal, recurring operations, and the other is from investment activities, one-time gains. What we'd like to see is that their core business is growing. If, in contrast, we see a big portion of the company's profits are coming from investment activities or things not directly related to their core business, that could be a problem. Pension income fits into the second category.
When the stock market was very strong, it gave [companies] this windfall gain. Well, what do you think is going to happen to the results when they have to factor in their stock market losses of the last year or so? Pension income can turn very quickly to pension losses. The risk is that the company's core business may have been pretty tepid, and they were getting it done because of the pension income.

Q: You've done an overview of research and development levels at major pharmaceutical companies. Why are R&D levels important?
A: For two reasons: A business that is dependent on research and development--pharmaceuticals, software, other technology-based companies--they need to continue to spend heavily in order to generate the right products for tomorrow. If a company becomes too fixated on short-term profits and they start cutting their R&D to make the current profits look better, that's something that's going to raise a concern.
The second issue: Some companies, and Elan stands out, decide to create a separate, off-balance-sheet partnership for doing R&D. R&D is a big expense for most companies if you put it on the books. If you set up a separate business [for R&D] and you own less than 20% of that company, then under the accounting rules all those R&D expenses are not charged against income.

Q: Okay, thank you.


http://online.wsj.com/barrons/article/0,,SB1031156283577206515,00.html?mod=article-outset-box

shane

Bob

Server 1 here.

shane

mlsoft

Where would you see the potential need/want for PC's to come from?

With gaming costs going down and Replay type systems tied into sat TV. It would seem that what business that need/want is well supplied with present computer.

Live Video with greater bandwidth would provide some PC sales from those that have older PC's.

Just a thought.

shane

zeev

With the downgrade of IRF yesterday by Stephens Inc.

What effect, if any would you expect on this stock.

TIA

shane

'James Bondage'

Did you switch?

shane

'da_cheif'

Great!!

shane

'James Bondage'

Thanks for the Info.

shane

Zeev

Are you in SNDK today?

TIA

shane

Zeev

ZRAN has been bouncing off $14.67 this morning, where do the Turnips predict the turn?

TIA

shane

'was Jeff now Steve'

Took another turn south, 14.75.

shane

Patrick

Good point, however he did say that " If we did not get a bounce before", which we did.

Maybe Zeev wasn't feeling well today (gg.

shane

Patrick

Note Zeev said "If we do not bounce before"

The rebound started ~ 1:15 to 2:00 PM.

"I expect a major decline to start before 2:30, if we do not bounce before, I'll take all my daily bets off the table. Mosis should have appeared by now, his absence is a little disturbing. (g)

Zeev"

shane

Zeev

Thanks for the info.

shane

Zeev

Does that mean that you will take ZRAN off the table or continue to keep for swing trade?

shane


"You got a good price, I just got most of my ZRAN here at $15.90, but I am waiting for another swoon to $15 to complete, not lunch but swing trade to around $18?

Zeev"

mlsoft

Once a Gator, always a Gator. He is signed sealed and delivered.( gg.

shane

The Economic Blame Game
Who is most responsible for today’s problems: George Bush, Bill Clinton or Alan Greenspan? The correct answer is : ‘All of the above’


NEWSWEEK


Aug. 26 issue — The economic blame game is now in full swing, with President George W. Bush, Bill Clinton and Alan Greenspan all accused of causing the economy’s troubles. Although none is guilty, the game will continue, because the major players (rival politicians, the press, TV talking heads) can’t admit that it’s an exercise in make-believe.

THE PREMISE IS THAT our leaders can control business cycles and prevent the bad stuff, higher unemployment and lower stock prices. The trouble is that they can’t.
If you ignore that, then all the indictments sound plausible.
Let’s start with Bush. He is, say critics, demolishing confidence. His tax cut has obliterated the budget surplus. Chummy with big business, his administration has been insensitive to corporate crime. Finally, his economic advisers, led by Treasury Secretary Paul O’Neill, are nincompoops. The rhetoric is great; the logic isn’t.

Untruth by Robert Samuelson

Whatever its vices, the tax cut didn’t cause the recession. Indeed, it helped check the slump. The first parts of the tax cut (a drop in the lowest rate to 10 percent, a bigger child credit) aided the middle class. The White House says that by the year-end the tax cut will have saved 800,000 jobs. Even if the estimate is high, its direction is right. In a weak economy, the government ought to run a budget deficit. Interest rates haven’t suffered. Thirty-year mortgage rates are near 6 percent, the lowest levels since the late 1960s.
As for corporate crime, most abuses started before Bush’s election. How can he honestly be blamed? It’s true that O’Neill & Co. don’t project well. But do people consult the Treasury secretary before buying a car or home? Apparently not. Home buying and car buying remain strong.
Well, let’s blame Clinton. Here, too, the superficial case seems strong. First, there’s timing. The stock market peaked on Clinton’s watch, in March 2000. Worse, the latest revised government statistics (released in July) show that the economy’s gross domestic product dropped for the first nine months of 2001. It takes a highly partisan view to think Bush’s election triggered a recession. At the time, Bush and Vice President Dick Cheney said the economy might be in recession. The new statistics prove they were right.
Next, there’s Clinton’s big mouth. Overwrought rhetoric (a.k.a. hype) inflated the stock-market bubble, and no one talked up the economy more than Clinton. People who correctly dismiss last week’s White House economic forum as a publicity stunt may recall Clinton’s similar conference on the New Economy in April 2000. The country, he said, was undergoing an “economic transformation as profound as that [of ] the Industrial Revolution”—a breathtaking simplification that skipped over the automobile, the airplane and TV (among others), whose transforming effects dwarf the new information technologies’.

But Clinton can’t be blamed for the economic bust unless he caused the preceding boom—and he didn’t. It rested on two pillars: low inflation and high business investment, mostly in computers and telecom equipment. Suppose Bob Dole had won the 1996 election. Would inflation have been higher? Doubtful. Would investment have been lower? Doubtful. The person in the White House hardly affected the economy’s main driving forces. And Clinton’s blab didn’t matter either, because hype gushed from so many other sources: the press, stock analysts, various New Economy prophets.
None of this means presidents are economically irrelevant. Ronald Reagan appointed Greenspan as chairman of the Federal Reserve Board; Bill Clinton reappointed him. Greenspan’s stewardship helped repress inflation. Through regulations, taxes and spending, government can help or hurt the economy. With hindsight, mistakes in deregulating the telecommunications industry contributed to the industry’s boom-bust cycle—first overinvestment, then collapse.
But what presidents and government can’t do is guide the economy along a path of trouble-free prosperity. The job is too large; the pressures on the economy are too many; the government’s tools (taxes, spending programs, interest rates, regulations) are too few. The growing criticism of Greenspan presumes that he and the Fed can accomplish this wondrous feat.
Greenspan has made mistakes. He, too, overpraised the New Economy. In early 1999, the Fed may have kept interest rates too low, contributing to stock speculation. But the Fed was then trying to prevent a recession stemming from Asia’s financial crisis and Russia’s debt default. Its success bolstered the growing mythology that the Fed is all-powerful. This mythology—more than low interest rates—fed speculative behavior.
No one and everyone is to blame for the present economic letdown. A speculative boom, once started, cannot end gracefully. Prices that went to unrealistic heights must collapse. There must be casualties. All who participated in this process bear responsibility—an unpopular verdict. Instead, the blame game will continue, because its players enjoy it, there is an eager audience and hardly anyone cares about the harsher truth.

http://www.msnbc.com/news/795730.asp

shane

Zeev

Good call, looks like it will be a short week ( GG

shane

zeev

Thanks.

shane

Zeev

Do we go up @ 2.22PM or down?

What is the Turnips whispering to you (GG

shane

Zeev

PDII buy and hold or day trade?

shane

13013

What event caused the sudden drop from the $ 12/13 to 10/11

to 8.00 range?

shane

federal reserves

" IMHO if we do not have a double dip we go into an inflation fighting cycle and the FED, will REDUCE money growth."

Are you saying now or several months out??

shane

Cont

Services

Seeking Help

To calm your frayed nerves, imagine you are a technology investor sitting under a palm tree on a sugar-sand Caribbean beach, watching dolphins frolic in the lazy, deep blue waves. In one hand you hold a rummy island beverage; in the other, two years of brokerage statements. They show you own only one stock. You read them, lean back and smile.

That's because the one stock is credit-card processor First Data, the only one of the 20 largest tech stocks to actually gain ground since the March 2000 bubble; First Data's shares are up more than 60% since that time. Look at the stock chart, and you might think it was upside down.

While First Data isn't everyone's idea of a tech stock -- it doesn't make chips or hardware or routers -- the company is a major consumer of computing resources. First Data, which also operates the Western Union electronic-money-transfer business, has continued to grind out steady revenue and profit growth, a fact that the market has richly rewarded. It's hard to find fault with its business -- or the stock. The shares trade at 20 times expected 2002 earnings, or less than 18 times 2003 estimates; top-line growth is holding steady at about 10%. First Data has been a good place to seek shelter from the storm. If we were anticipating a V-shaped tech recovery, we might urge leaving First Data for purer tech plays. But for now, it seems a sensible hedge against broader exposure to corporate IT spending.

You might argue that we should cut-and-paste our review of IBM and slot it up in the hardware section. But Big Blue has made a determined move away from hardware and into services. The most obvious demonstration of that: the recent agreement to acquire PwC Consulting, which contrasts with a previous decision to exit disk-drive manufacturing.

"It is gradually becoming a healthier company, in the sense of pruning businesses that are absolute drags, and taking costs out, and trying to be more transparent in the information it give out," says Goldman's Conigliaro. "It's also trading at the low end of its historical valuation relative to the S&P 500."

IBM, like Oracle, Microsoft and SAP, should benefit as companies concentrate their technology spending with a smaller number of vendors. Though there no doubt will be some integration problems with the PwC deal, IBM proved a shrewd buyer-it is paying 0.7 times sales, comfortably below the multiples for comparable public companies. With IBM trading at about 14.5 times expected 2003 earnings, the shares are reasonably priced. The stock is a Buy.

Cheaper than IBM is Electronic Data Systems. EDS shares have been pummeled in recent weeks; it has been an IT services provider to WorldCom. Worries about the deal have left the stock trading at just 10 times expected 2003 earnings of $3.43 a share. In a recent research report, Merrill Lynch analyst Stephen McClellan brands the stock "a rare value for patient investors," even after sharply marking down the company for the WorldCom exposure. We see no reason to expect any slowdown in corporate outsourcing of data centers and other business processes -- though McClellan says EDS shares could be stuck in neutral until it wins some more "megacontracts." That said, EDS looks like one of the better bargains among large-cap tech stocks.

Telecom

Cut The Cord

Let's be blunt. We're worried about the cellular business. The issue is relatively simple. The market for cellular voice traffic is maturing. The cellphone companies think they can stimulate replacement demand with color screens, built-in cameras and other new features. And yet most people use cellphones to make voice calls. We fear current estimates for handset sales for both this year and next year are too high -- and if that's true, the stocks could see another down leg.

Merrill's Milunovich says the cell- phone makers are suffering from a condition Harvard tech guru Clay Christensen calls "overshoot," meaning current technology is already more than good enough for most users. In markets where that happens, Milunovich says, profits shift from systems companies, such as Nokia and Motorola, to component companies, such as Qualcomm and Texas Instruments.

Montgomery's Rezaee says he'd be a buyer of Qualcomm shares "once the dust settles." The company's CDMA technology has a strong foothold in Korea, Latin America and in the U.S., where Sprint and Verizon have standardized around it. Unlike Motorola or Nokia, Qualcomm does not make phones. Rather, it collects licensing fees from systems using CDMA technology, and it sells chips for CDMA-based phones. With the stock trading for about 23 times expected earnings for the September 2003 fiscal year, though, it seems fully valued.

Of the large handset companies, Motorola is having a better time of it for the moment than Nokia. While Motorola has been showing some results from a long restructuring process, its Finnish rival has lost some market share. Motorola is "doing things it should have done years ago," as Rezaee puts it, although it remains to be seen if the company can produce reliable revenue growth.

Nokia dominated the phone business in the late 1990s, thanks in part to ineffective competition from Ericsson and Motorola. But competition has heated up. Though not in our top 20, the company gaining the most ground in the wireless phone market at the moment is Samsung. Meanwhile, the sector as a whole could see more disappointments, as the industry's struggling carriers attempt to lure investors to use additional services made possible with so-called 2.5G and 3G services.

Neither handset maker looks expensive at the moment -- Nokia trades for 14 times expected 2003 earnings, versus 24 times for Motorola, though Motorola looks cheaper on a revenue basis, at 0.9 times expected 2003 results, about half that of Nokia. And yet we think estimates, and stock prices, face one more down leg. For now, we would not be buyers of any companies in the handset business.

The bottom line: There are tech-stock bargains to be had, but investors should tread cautiously; some of the bear's wounds will prove fatal. The PC, cellphone, semiconductor, chip-equipment and enterprise-software businesses will continue to struggle. And yet it turns out the tech sector is not as dead as you thought. These difficult days will allow a handful of well-positioned companies to extend their lead. So cheer up. Go buy yourself a cellphone, a PC or a DVD player. And start writing that tech-stock wish list


shane

Cont
Software

Microsoft's World

You may not like its tactics, but from an investor's view, there's a lot to like about Microsoft. For one thing, the company will be a direct beneficiary of any pickup in PC sales, thanks to Windows and Office. More intriguing for the long haul is Redmond's increasingly aggressive bid for a greater slice of the corporate market, where it has not traditionally been a big player. Microsoft continues to push its .Net strategy for simplifying the links between software programs, which should give it an increased presence in corporate IT departments. Meanwhile, starting at the low-end of the market, Microsoft has begun sneaking into enterprise applications, territory historically controlled by SAP, Siebel Systems and Oracle. While Microsoft has gotten more press for its efforts at "controlling the living room" via its Xbox game player, the bigger opportunity lies in gaining an increased share of corporate spending.

Microsoft has a few other things going for it, including roughly $10 a share in cash and investments -- some investors argue that it's time for the company to start paying a dividend -- strong management, and a stock off nearly two-thirds from its peak.

Bill Whyman, an analyst with the Washington-based Precursor Group, thinks Microsoft's .Net Web services strategy could eventually become a big factor. "If Microsoft is stuck on the PC, then growth will mature," he says. "If .Net succeeds, the company will be let loose in the enterprise, and the established incumbents should be saying, 'Uh-oh.' If Microsoft can get off the PC, it opens up a $90 billion enterprise-software opportunity, of which it now has a very small share."

Not the least, the stock seems reasonably priced. "The last time the stock was at anywhere near these valuations, it looked like most of its legal problems were in front of it," Berman says. "It now looks like the problems are mostly behind it." We agree. Buy it.

While you're at it, buy some Oracle. In recent years, the database giant has suffered not only from the IT spending slowdown, but also from concerns about lack of management depth and market share losses in it applications business.

All of that has hammered Oracle's stock: The shares are down about 35% this year, and more than 75% since the Nasdaq peak in early 2000. Even so, the stock is not statistically cheap, at about 23 times expected earnings for the May 2003 fiscal year, and about five times next year's revenues.

Still, we think Oracle is likely to expand its applications business as corporate customers become increasingly interested in choosing fewer and larger vendors, which favors application "suites" over "best of breed" choices from smaller software companies. The company is likely to continue to dominate the database software market. And Oracle has smartly expanded its services business, eating up business that might otherwise go to consulting groups like Accenture. Oracle will survive and thrive.

For similar reasons, we like SAP, which dominates the market for enterprise resource planning software. Surveys of IT managers consistently show widespread plans to spend on the category. SAP has a huge installed base of large customers who continue to pay SAP for service and support. Revenue and earnings should show double-digit growth in 2003 and beyond; the stock trades for 22 times 2003 earnings, a comparable valuation to Oracle. And like Oracle, the company is likely to benefit as IT departments prune the number of companies from which they buy services. Though we caution that any delay in the IT spending recovery will cause trouble, we're cautiously bullish.

Cont

Semiconductors

Groping for the Floor

Semiconductor stocks continue to ratchet lower, as chipmakers report a steady stream of bad news -- the Philadelphia Semiconductor index has been cut in half since April. And it may not be over quite yet. It's worth noting that Cisco's surprisingly good gross margins in the latest quarter were partly the result of lower component prices. While some chipmakers will benefit once IT spending rebounds, we would tend to avoid those with high exposure to the personal computer and cellphone sectors.

Ergo, we cannot recommend Intel. No question, the company still has firm control of the microprocessor business, even though rival Advanced Micro Devices has some new chips in the works that could challenge Intel's lead at the high-end of the market ("The Next Big Thing," Aug. 5). Intel has a strong balance sheet, smart management and cutting-edge factories. But its fate is inextricably tied to the PC demand cycle -- there is little room to increase market share, the way Dell can, and efforts to move into the communications sector have been disappointing.

And there's another issue: At 32 times expected 2002 earnings, or 4.4 times anticipated revenues, Intel is no cheap stock in an environment where PC demand is growing in the low single digits.

"It's hard to imagine Intel not having a dominant position," says FirstHand's Landis. "The issue is the saturation of the opportunity. This is the ultimate example of a company that made the most of one of the greatest business opportunities ever. But now what?" Sell it, we suggest.

Landis thinks STMicroelectronics offers a smart alternative. "I was looking at Intel recently as a way to have more semi exposure, because that's what everyone will run back to when demand turns," he says. "But it's hard for Intel to grow. I wanted a big-cap, reasonably priced, well-known liquid stock. And STMicro fit the description." Landis notes that, like Texas Instruments, the company has broad product exposure serving multiple markets. One difference: Where TI has more exposure to the communications sector, STMicro is more tied to consumer electronics. The company has some exposure to the cellphone market -- Nokia in particular is a big customer -- but it also does considerable business in industrial and automotive applications.

Headquartered in Geneva, Switzerland, STMicro trades for 20 times projected 2003 earnings, and 2.3 times projected revenues. That makes it cheaper than TI, which changes hands for 26 times expected 2003 earnings and 3.5 times revenues.

We have recently waxed bullish on Texas Instruments ("Ready to Rebound," July 1), which in recent years has reconfigured its business to focus on analog and digital signal-processing chips. TI has been showing improving revenue and profits, though it sees moderating growth ahead. While still impressed with the turnaround story, we've lately become concerned that the Street has largely discounted the rebound in TI's fortunes. We worry about the company's high relative valuation and its significant exposure to the cellular-handset market. It would be easy to be enthusiastic at lower levels. But for now, pass. For a broad-based semiconductor bet, STMicro, with heavier exposure to consumer-electronics gear, looks cheaper.

Of the stocks reviewed here, none seems more attractive than Taiwan Semiconductor, the world's biggest maker of silicon chips for other companies and a pioneer of the foundry model in which chips are made to order for a wide range of semiconductor companies that don't have factories of their own. "The semiconductor industry is so capital intensive now that the argument for using a foundry to make your stuff has never been better," says Soundview's Berman. "In the last cycle, foundries gained a lot of share at the lagging edge, where they were able to make parts more cheaply." But now, he adds, they have leading-edge capability, with technologies like 300-millimeter silicon wafers. And that means a new set of customers.

"Texas Instruments, Motorola, STMicro and Advanced Micro Devices, historically integrated vendors, have decided to outsource at least a portion of their manufacturing -- they're all adopting asset-light strategies," says Integral's McNamee. "TSMC and UMC [United Microelectronics] are disproportionately advantaged by this. Both TSMC and UMC have always been great companies, but they had been too expensive to own for a long time. Not anymore." The stock trades for just under 17 times expected 2003 earnings. We'd buy it, though there is one caution: TSMC can periodically get caught up in politics. When tensions between Taiwan and China heat up, Taiwanese stocks tend to cool off.

Micron Technology, the dominant producer of the computer memory chips known as DRAMs, has gained market share in recent years as the memory business has endured difficult times. In recent years, the sector has suffered from severe overcapacity, resulting in the recent financial distress at Korea's Hynix Semiconductor and the exit of several other players.

The problem with Micron? It sells commodity parts with close ties to PC demand. "The company loses money at least one out of every two quarters," says Seligman's Wick. "It's a bad business, and capital intensive. The company has $11 a share in book value, so at at about 18, it's at a level without much more valuation risk. But I wouldn't be long."

Neither would we. Micron might make sense if you believe in a big coming PC cycle -- but we don't. Micron is a stock to trade, not to buy and hold.

Applied Materials and other equipment makers have been under intense pressure as Wall Street rethinks its expectations for the semiconductor-equipment sector. Applied maintains that three concurrent technology trends will continue to drive sales of semiconductor manufacturing equipment: a shift to 300-millimeter silicon wafers from 200 millimeter wafers, a reduction in circuit line widths, and a switch to copper from aluminum for certain chip circuitry.

While that's true, the timetable on adoption of those technologies is stretching out. Intel, AMD, UMC and TSMC all recently cut capital spending plans in the face of slower component demand. Weak PC and cellphone sales will hamper the chip recovery and push out a pick-up in the equipment business. And Applied remains pricey: The stock trades for 20 times expected earnings for the October 2003 fiscal year and 75 times current-year estimates. Moreover, we suspect profit projections may be too high. In other words, the stock may yet trade lower. We'd avoid it for now.

Cont

Cisco Systems was the poster child for the late-'Nineties bubble. As a producer of routers and switches for corporate networks, the company provided the plumbing for the broad expansion of the 'Net. The company's market value at one point reached half a trillion dollars.

Now it's down to less than $100 billion, badly bruised by slowing corporate spending. John Chambers, Cisco's courtly CEO, remained resolutely bullish on Cisco's growth prospects long after fundamentals had begun to deteriorate -- for the July fiscal year, the dream of regular 30% to 50% revenue growth was replaced by a nearly 15% decline. Even so, the stock carries a respectable multiple, trading at 25 times expected earnings for the fiscal year ending July 2003, and nearly four times estimated sales.

Last week, Cisco reported profits for its fiscal fourth quarter, ended July, that slightly beat Street expectations. Revenues rose 12% from the year-ago quarter, and gross margins grew to a higher-than-expected 67.7%. Even in the current moribund environment, Cisco produced sequential gross-margin improvement in each of the past four quarters. While Chambers indicated continued weakness in the telecom sector, he reported that demand from corporate customers was higher than expected in the quarter. And he noted that the company has steadily been gaining market share from rivals.

"It's the last man standing" in networking equipment, notes Paul Wick, portfolio manager of the Seligman Communciations & Information fund. The once formidable roster of Cisco competitors, he notes, now looks like a list of the walking wounded: Juniper Networks, Alcatel, Nortel Networks, Lucent Technologies and Ericsson. Cisco, in contrast, has about $20 billion in cash and investments, a bigger stash than any tech company other than Microsoft.

"Cisco's competitive position has been enhanced by the downturn," says Integral's McNamee. "It has never been as well-positioned relative to the competition as it is today." Cisco has made aggressive use of its financial strength to add customers, particularly in the difficult telecom market. "The carriers are really hurting," McNamee observes. "And the guys who sell to carriers are really hurting, with a capital H. Cisco goes to the carriers and tells them, take our product, and pay me in a year. The competitors can't do that. Cisco can afford to wait a year, and grab the customer. Ballgame over. They are making the bet that the revenues at risk are small compared to potentially owning those accounts at the end of this. It's smart accounting, and smart business." And a good stock to own.

"With Cisco, my conviction is higher than on just about any other company," says UBS Warburg's Pip Cobrun. "They have 85% of the router market and 65% of the switching market. They are dominant in their distribution channel and they have mediocre competition. As long as you think they can manage the business back to 25% operating margins" -- in the July quarter, Cisco's operating margin hit 21.5%, up from the low single digits a year earlier -- "you can feel good about the story even without much top-line growth."

Like Cisco, EMC was once a huge investor favorite, dominating the market for high-end data-storage systems. But the company's once-fabled margins have been eroded by the emergence of considerable competition, and the stock has taken a beating: Now trading at about $7, it is down dramatically from more than $100 a share in late 2000.

In response to the shifting competition, EMC has been beefing up its storage-software offerings, including features allowing the integration of its hardware with competitive gear. The company has also been an aggressive cost cutter. "They're doing all the right things after an incredibly hard time," says Soundview's Berman. "Last year the competition was finally competitive -- they would have had problems in 2001 even if tech spending was good. And EMC is far more advanced on the software front than their hardware rivals, like Hitachi and IBM."

EMC is a corporate turnaround story, not a simple bet on improved corporate IT spending. On a statistical basis, the stock is hardly bargain priced, trading at a lofty 41 times expected 2003 earnings, but robust IT spending in 2004 would boost profits considerably. A bet on EMC will require more patience than other hardware stocks -- the company and its investors have to adjust to a storage market that is a far more competitive place than when EMC dominated the playing field. We think it will be a difficult adjustment. While we agonized on this one, we can't recommend it.

Cont

Pip Coburn, technology strategist at UBS Warburg, nicely sums up the situation. "The challenge is discriminating between companies with broken fundamentals and stocks that have been crushed, but where you can look out and have a sense of where the company will be several years out," he says. "I wish there were more of those."

To help you pick through the rubble, we took a close look at the 20 largest tech companies by market value. You'll find our comments -- and recommendations -- sorted into five categories: hardware, software, semiconductors, services and wireless communications. Our assessment of these stocks started with the premise that an investor is willing to hold the stocks for at least two years -- these are no short-term calls. There's more information on the companies in the table below.

Hardware

First to Rebound?

Soundview's Arnie Berman argues that when the IT spending logjam breaks, the first checks will be written to hardware companies. His theory is that IT departments have postponed buying even the most basic items, and that these items -- PCs, servers, printers and switches -- can often be purchased at the departmental level without executive approval. (The same isn't true of other tech products, such as servers and enterprise software.) While Berman may be right, we fear many hardware companies will be hampered by sluggish PC demand -- and we doubt corporate IT spending will recover even modestly before 2003.

Even so, we're bullish on several companies in this category -- and the one we're most enthusiastic about is Dell Computer. None of Dell's rivals have figured out how to effectively compete with Dell's direct-sales model. Indeed, the company's success was the obvious driver behind Hewlett-Packard's merger with Compaq. Dell continues to gain market share in the U.S. and abroad, it has a solid balance sheet with about $8 billion in cash, and it's zeroing in on potentially large new product areas.

The one catch? Valuation. The stock trades for 30 times expected earnings for the January 2003 fiscal year. And PC demand is hardly robust. Microsoft recently said it expects PC unit growth of 5% or less for its own fiscal year ending June 2003. That suggests Dell's growth -- the Street expects 13% higher revenue in the January 2004 fiscal year -- must be driven by market share gains and expansion into new markets.

Still, we tend to side with the bulls, who expect Dell to grow by applying its direct-sales model to additional technology products. Steve Milunovich, tech strategist at Merrill Lynch, says he's bullish on Dell "not so much for its PC business, but rather for its ability to move up into routers and storage and servers." The company also seems to be making plans to attack the printer market, where it currently has no products of its own. Bob Rezaee, a portfolio manager at Montgomery Asset Management, sums it up: "Dell benefits from the commoditization of technology."

On Hewlett-Packard, our gut instinct was that the Compaq merger was a bad idea, destined to create the next Unisys, a big, sleepy, low-growth tech company. Nonetheless, the stock is statistically cheap -- far cheaper than the other large- cap tech companies we looked at for this story. At a recent 12.92, H-P now trades for about 0.5 times expected revenues for the October 2003 fiscal year, and under 10 times projected fiscal 2003 earnings. Goldman's Conigliaro calls it "dirt cheap, the cheapest computer company by far."

There are reasons for the low valuation, of course. Integration problems have slowed some H-P segments; the company still must prove it can wring the expected savings out of the merger. And the stock has been hurt by speculation about Dell entering the printer business.

While H-P faces big challenges in PCs and other computing segments, it remains the premier manufacturer of printers. Dell is more likely to partner with Lexmark or Canon than it is to make its own printers; H-P bulls see little chance of significant near-term impact on H-P's printer business. H-P's imaging segment reported just shy of $5 billion in revenue for the latest quarter; given a $20 billion run rate, we think the current market value of $37 billion would almost be reasonable for the printer business alone. By contrast, rival Lexmark trades for about 1.2 times expected 2003 revenues.

"Everyone hates [H-P Chief Executive] Carly [Fiorina], but she's not evil incarnate," says Soundview's Arnie Berman. If this company can ultimately generate revenues equal to the combined results of H-P and Compaq for 2000, he notes, and can realize the expense synergies management has promised, the company could eventually earn $2.20 a share. "Now, the market does not believe that," Berman adds, "but the stock clearly trades for a low multiple [based on its] earnings potential. It can certainly move higher."

Sun Microsystems, once the dot in dot-com, is now the dot in dot-bomb. Trading today for under $4 a share, the stock is down more than 70% this year, and over 90% from its 2000 peak. Having dominated the server market for Internet startups, telecom companies and financial-services firms, Sun has been hammered by the swoon in tech spending in those sectors and by increased competition. Kevin Landis, portfolio manager with the San Jose, Calif.-based FirstHand Funds, says the server business has become a "food fight," with IBM and H-P trying to under-cut Sun's prices. "And it's working," he says. "I'm worried about them."

He's not the only one. Montgomery Asset Management's Rezaee thinks Sun has been too slow to cut costs. "In the latest quarter, Sun had roughly $3 billion in revenue," he says. "I don't understand how you can have $3 billion in revenue and not be profitable. They're trying to fight too many battles -- proprietary chips, their own operating system, the software -- you can't be everything to everyone. Their business model was not designed for standards-based pricing and gross margins. The environment just doesn't favor Sun."

We admire Sun CEO Scott McNeally's shoot-from-the-hip style. But given the troubled backdrop -- and shares trading for 30 times expected June 2003 fiscal year earnings -- we would avoid Sun for now.

fROM Barron's

August 12th, 2002




Is it Safe?
After a horrendous slide, some tech shares look cheap. But be careful
By ERIC J. SAVITZ

It's time to think about buying tech stocks.

We write these words with trepidation. After all, there are no visible signs of improving tech demand. In the past few weeks, companies such as Nvidia, Adobe Systems, National Semiconductor and Taiwan Semiconductor have scaled back their growth expectations. Cisco Systems Chief Executive Officer John Chambers last week said he feels more cautious about the tech spending environment now than he did three months ago. And no wonder: Telecom remains in disarray. Enterprise-software vendors are reeling. There's no growth in cellphones. PC demand seems to be deteriorating. And we're still suffering from post-bubble indigestion: Need a Sun server or a Cisco router? You can snap up barely used gear on eBay for a fraction of what the new stuff costs.

As for a recovery in corporate tech spending -- well, it may take longer than we all hoped. In particular, we are skeptical about the notion that fourth-quarter results will benefit from an information technology "budget flush." Rather, chief information officers this year will be rewarded for bringing in tech spending as far under budget as possible. Ergo, profit estimates for both this year and next year seem too high.

All that said, there are good reasons to start making a tech-stock wish list. While we don't know just when corporate spending will rebound, we do expect a gradual recovery to get going in 2003. When it does, shares of well-positioned companies will rise. And some will move decisively: For some stocks, valuations finally have fallen to reasonable levels. Others look downright cheap.

Table: What to Buy, What to Sell.



"We're in horseshoes and hand grenades territory," says a long-time tech investor, Roger McNamee, a partner with Integral Capital Partners in Menlo Park, Calif. "I have no idea if this is the bottom -- and no interest in trying to pick it. But the risk-reward trade-off, which was awful, is now interesting. I can't tell you if this is an attractive time to buy tech stocks -- but I can tell you they are a lot cheaper today than they were. And if you want to own tech stocks, you could do a lot worse than buy them right here."

Technology shares, of course, have endured a bear market of historic proportions. The tech-dominated Nasdaq Composite, which peaked in March 2000 just above the 5,000 level, now stands at about 1,300, off nearly 75% in 2.5 years. Tech stocks, which in the bubble reached 36% of the S&P 500, now make up just 14% of the index, according to UBS Warburg.

In short, over the past 30 months, the technology business has been thoroughly humbled. The sector has endured the popping of the Internet bubble, a still-unfolding financial disaster in telecom and an unprecedented collapse of corporate tech spending. Those problems have been compounded by last September's terror attacks, a U.S. recession and a crisis of confidence in financial accounting. Profits have swooned, and so has investor faith in the tech sector.

Maybe this is as bad as it gets, suggests Arnie Berman, technology strategist at Soundview Technology Group. "It has been absolutely sickening to look at the screen every day, but I still think there's very compelling reason to be involved," Berman says, noting that growth in the third-quarter should turn positive on a year-over-year basis. "Right now, it's viewed as a lunatic statement to suggest that tech stocks and tech spending will stop going down, or that the recovery will be anything but shallow and not very compelling. Given that conventional wisdom, right now I'm kind of a lunatic."

The bull case boils down to this: Look out two or three years and tech companies should see improving demand. Berman, for instance, believes the vicious cuts in IT budgets of recent months have resulted in growing corporate to-do lists -- while some technology projects were cancelled, others have simply been postponed. There is pent-up demand, he says, for a wide range of technology goods.

Guessing just when -- and how quickly -- that potential can be converted to orders is hard to say, though. Laura Conigliaro, hardware analyst with Goldman Sachs, notes that First Call revenue estimates for enterprise computing businesses suggest 10% top-line growth in 2003. But as Conigliaro notes, "Nobody expects 10% growth in IT spending next year, with the best case looking like 6% to 7% growth."


And that's a problem. The bears have some valid arguments. Tech execs continue to say they have little visibility, and that a pick-up in IT spending has yet to materialize. We could be in for another round of estimate cuts -- which suggests stocks are more expensive than they now appear. Integral's McNamee notes that the accounting crisis could lead to understated profit reports in the September quarter. Says McNamee: "They'll be squeaky clean, but terrible."

Not the least of the problems, the bears argue that the recovery in many key tech sectors will be anemic. The beleaguered telecom sector is still deteriorating, hurting the prospects for suppliers of communications gear and related components. Demand for both personal computers and cell phones remains sluggish. The expected boost to storage and security companies in the wake of last year's terrorist attacks has not offset shrinking IT budgets. And weak PC and cell phone sales will mean more rough days for many chip and semiconductor equipment stocks.

Yet, despite the caveats, we think there's a case for patient investors to start nibbling.

Anyone

OT anyone having trouble with Etrade REAL TIME ??

One account working fine the other giving me fits.

shane

zeev

Buy the Q's at these prices

shane

Zeev

Thanks, out of merq, brcm did not make it,will hold overnite.

Will try for a burst in the morning, if not midday.

Thanks for your input.

shane

Patrick B

I can do that.

shane

Patrick B

thanks

shane

zeev

I'm in merq & brcm, what are the risks holding overnight?

TIA

shane

Who votes that the Fed will cut the Rates.

shane


Calls are growing for Fed rate cuts
Lehman sees easing by year's end
By Rex Nutting, CBS.MarketWatch.com
Last Update: 1:39 PM ET Aug. 6, 2002




WASHINGTON (CBS.MW) - The calls are growing for the Federal Reserve to cut its overnight interest rate target to prevent a second recession.

The forecast for lower rates is still a minority view among professional economists, most of whom believe the Fed will hold rates steady through the end of the year as the economy slowly recovers.

Market sentiment, however, is betting on rate cuts. The fed funds futures market is giving 100 percent odds of a rate cut by the end of the year.

On Tuesday, Lehman Brothers economists Ethan Harris and Stephen Slifer said the Federal Open Market Committee would likely slash the current 1.75 percent federal funds rate to 1 percent by the end of the year.

The two co-chief economists at Lehman quoted odds of 60 percent that the Fed would cut rates by the end of the year.

The Fed "can not ignore the growing risk of major collateral damage to the economy," Harris and Ethan said. With $3 trillion in market wealth lost (on paper, at least), "consumer confidence and spending are increasingly at risk." Listen to an interview with Slifer. "The damage to credit markets is equally important," they said.

Last week, Goldman Sachs economists issued a forecast for three rate cuts by the end of the year.

The new calls by Lehman and Goldman could be "trial balloons" leaked by Fed staffers to determine what the reaction of the market would be, some economists suggest. If that's so, "the market likes the story," said David Wyss, chief economist at Standard & Poor's.

The Fed's policymaking committee meets next Tuesday to consider possible changes in monetary policy. The Fed's target rate has been stuck at 1.75 percent since late last year.

Few economists expect a cut on Tuesday, although they do expect the FOMC to revert to an assessment that the risks to the economy are weighted toward economic weakness.

Just three weeks ago, Fed Chairman Alan Greenspan told Congress that the Fed believes the economy is on track for recovery, although he highlighted several obstacles to solid growth, including weak capital spending and the risk that the falling stock market could depress consumer spending.

But since Greenspan's testimony, the economic data have been weak and the stock market has been dreadful.

The consensus among Wall Street economists is still for the Fed to hold tight through the end of the year.

While they acknowledge the possibility that the economy or the market will deteriorate enough to bring the Fed in, economists also wonder what good rate cuts would do.

"The Fed is caught," Wyss said. "They know it won't make much difference to cut rates, and they have only seven bullets left.

"But they don't want to be like the Bank of Japan, which held on to its bullets too long," Wyss said.

Wyss thinks the odds are about even for a rate cut this year.

Questionable impact

The factor that may swing the decision for the Fed is the specter that deflation might take hold of the economy, as it did in Japan.

A recent research paper published by the Fed's economics department concludes that the Bank of Japan acted too late in lowering rates to zero. Once the economy was locked in a deflationary liquidity trap, no amount of monetary stimulus could pull it out.

Monetary policy is most effective when the economy suffers from lack of demand. Cutting interest rates and flooding the economy with money can loosen consumers' wallets.

But consumers' wallets are already loose. The problem the U.S. economy faces today is not lack of demand, but lack of investment by companies and a lack of confidence by investors in the stock market. There's little either monetary or fiscal policy can do to induce companies or individuals to invest in the future if they don't see a good return.

With the global economy awash in excess high-technology capacity, a new cycle of investment spending on information technology equipment could be months or years away.

However, the excess inventories accumulated in the late stages of the boom have disappeared in the past three quarters, so any stimulus in demand should be met almost immediately by increased production.

Unfortunately for the Fed, lots of that increased production seems to be taking place in China, Canada and Germany.

Even if further monetary easing wouldn't have much direct impact on the economy, it might have a beneficial psychological impact on financial markets.

In 1987 and 1998, the Fed rate cuts worked to give markets a bit of backbone. Traders were reassured that the Fed wouldn't allow panic to rule.

The current bear market, by contrast, has not been a sudden sell off that could leave financial institutions exposed, but an orderly yet very painful two-year collapse. There's no panic in the market to fight.

"If anything, [a rate cut] might be seen as a panic signal," said Sherry Cooper, chief global economist at BMO Nesbitt Burns.

"It's a confidence issue," said Corey Redfield, chief fixed income strategist at USB Piper Jaffray. "I don't see monetary policy as that potent of a weapon."

In addition, the Fed could be accused of further inflating the bubble in the housing market if it cut rates, Redfield suggested.

What would it take to trigger a rate cut?

"Systemic risk in the market place," said Gerald Cohen, economist at Merrill Lynch.

"Significantly weaker growth," said Richard Berner, economist at Morgan Stanley.

"An attack on Iraq," said Cooper.

"If the economy keeps doing what it's been doing in July," said Wyss.

Rex Nutting is Washington bureau chief of CBS.MarketWatch.com.


http://cbs.marketwatch.com/news/story.asp?siteid=mktw&dist=nwhpm&guid=%7B24C59C4E%2DD586%2D4...

Short-squeeze seen in dollar strength
Dollar surge catches market by surprise
By Emily Church, CBS.MarketWatch.com
Last Update: 4:42 PM ET Aug. 6, 2002

LONDON (CBS.MW) -- The dollar surged to six-weeks highs against the euro and the yen on Tuesday, underpinning stocks, which mounted a massive rally.

Currency strategists attributed much of the strength in the dollar to technical factors, as well as the belief that the dollar is gaining as mutual funds sell stocks, including euro-denominated stocks, and repatriate the cash for their investors.

Still, the move was somewhat baffling, coming so soon after the euro finally cracked parity with the dollar in mid July. At the time, observers said the decline in U.S. equity markets and the worsening outlook for U.S. growth would combine to turn the tide on the strong dollar.

"We see this is as flow-based rather than fundamental. We're seeing an environment where some speculators who put on positions for a major dollar rout are being caught short," said Shahab Jalinoos, chief currency strategist at UBS Warburg in London.

Funds are flowing into short-term U.S. debt in anticipation of further Fed cuts to interest rates this year. Yields on the two-year Treasury notes sank below 2 percent for the first-time ever on Monday.

The futures markets are pricing in at least one 1/4 point rate cut by the end of the year. This has produced significant yield curve steepening, all the more since the long end must contend with supply this week.

The euro slid to a 6-week low of 96.68 U.S. cents, down 1.4 percent. A test of the 95-cent level and 124 yen was likely, dealers said. Meanwhile, the greenback soared 0.9 percent to 120.74 yen.

In the stock market, a rebound in battered sectors such as technology and financials powered the stock averages on Tuesday, sending the Dow up almost 3 percent and the Nasdaq up 4.4 percent. All but two of the Dow's 30 stocks traded higher.

Emily Church is London bureau chief of CBS.MarketWatch.com.

http://cbs.marketwatch.com/news/story.asp?siteid=mktw&dist=nwhpm&guid=%7B415DC9C0%2D455B%2D4...

shane

Great Matt

shane

Take a look, BRCM BRCD charts, around 12:00.

Is the the MM taking out stops! ??

shane

Fridolin

Don't get the auto reload here. Suggest check your settings.

shane

mudcat

Check your "Feed" source. Working fine here.

shane