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HEROES

Intercontinental business jet aircraft maker Gulfstream Aerospace Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: GAC)") else Response.Write("(NYSE: GAC)") end if %> took off, rising $4 1/16 to $36 after saying late yesterday that it expects Q3 EPS of at least $0.80, ahead of the current mean estimate of $0.77, due to continuing strength in its business across the board. The company also projects full-year 1998 EPS of $2.95, above analysts' expectations of $2.87, as well as 1999 EPS of $3.75, topping estimates of $3.47. Gulfstream has signed orders for 52 aircraft through September 15, up 58% from 33 orders last year through September 30, and expects to deliver 58 planes for the year, up from 51 the year before. The company added that it has had no order cancellations this year and "has no exposure in its backlog to Russia and immaterial exposure to Asia." What's more, the firm has contracts with nonrefundable deposits that are expected to bring in more than $3 billion in revenues.

Semiconductor maker Advanced Micro Devices <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: AMD)") else Response.Write("(NYSE: AMD)") end if %> picked up $1 to $17 3/4 as analyst Thomas Kurlak of Merrill Lynch brought his 1999 earnings estimate for the company more in line with those of other analysts. He raised his projection to $0.70 a share from breakeven -- now that's what we call an upgrade. First Call lists the mean 1999 EPS estimate for the company among 23 analysts as $0.78, which is still higher than Kurlak's newly revised estimate. According to IBES, the mean of 27 estimates for 1999 is $0.80, with the high being an astounding $1.50 and the low being breakeven. The sharp upward revision likely will now significantly boost the mean earnings estimate for Advanced Micro.

QUICK TAKES: Computer networking equipment maker Ascend Communications <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: ASND)") else Response.Write("(Nasdaq: ASND)") end if %> rose $2 5/8 to $47 9/16 on reports that it will soon announce a partnership with Alcatel SA <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: ALA)") else Response.Write("(NYSE: ALA)") end if %> to develop faster Internet equipment... Mortgage lender FirstPlus Financial Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: FP)") else Response.Write("(NYSE: FP)") end if %> gained another $2 13/16 to $20 5/8 after the company said it expects to announce in "several weeks" that it will be acquired... Drug wholesaler McKesson Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: MCK)") else Response.Write("(NYSE: MCK)") end if %> added another $2 5/8 to $86 after its CEO said in an interview that thanks to an increase in sales following three acquisitions, he's confident the company will beat forecasts and report earnings of at least $2.29 a share for the fiscal year ending in March 1999 and as much as $3 a share in fiscal 2000, according to Bloomberg.

Biotechnology company Centocor Inc. <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: CNTO)") else Response.Write("(Nasdaq: CNTO)") end if %> moved up $2 1/8 to $36 5/8 as NationsBanc Montgomery Securities reiterated its "buy" rating on the company, citing that the FDA Arthritis Advisory Committee's vote to recommend approval for Immunex Corp.'s <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: IMNX)") else Response.Write("(Nasdaq: IMNX)") end if %> Enbrel drug for rheumatoid arthritis bodes well for Centocor, which makes a competing drug... Ethan Allen Interiors <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: ETH)") else Response.Write("(NYSE: ETH)") end if %> climbed $1 1/4 to $37 5/16 as CS First Boston reiterated its "buy" rating on the home furnishings retailer with a 12-month price target of $45 to $50... Chiron Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: CHIR)") else Response.Write("(Nasdaq: CHIR)") end if %> added $9/16 to $17 7/16 after announcing it will sell its in vitro diagnostics subsidiary, Chiron Diagnostics Corp., to Germany's Bayer Group for an up-front sum in excess of $1.1 billion in cash.

Irvine, Calif.-based coffee retailer, wholesaler and roaster Diedrich Coffee Inc. <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: DDRX)") else Response.Write("(Nasdaq: DDRX)") end if %> brewed up a gain of $7/8 to $5 7/8 after late yesterday announcing it has signed an agreement with Tacala Inc., the largest franchisee of Taco Bell fast food restaurants, whereby Tacala will develop 44 coffeehouses and an undisclosed number of carts and kiosks in North Carolina in the next five years... Fish oil and marine protein products maker Omega Protein Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: OME)") else Response.Write("(NYSE: OME)") end if %> moved up $3/8 to $6 7/8 after announcing plans to buy back up to 4 million shares, calling its stock "tremendously undervalued"... Kuala Healthcare <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: KUAL)") else Response.Write("(Nasdaq: KUAL)") end if %> advanced $7/8 to $5 7/8 after saying it will sell a 49% stake in its five nursing facilities and all of its institutional pharmacy business to Care One LLC for about $67 million in cash and debt.

GOATS

The American depositary shares of Alcatel <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: ALA)") else Response.Write("(NYSE: ALA)") end if %> fell $12 1/16 to $19 1/4 today after the French telecommunications equipment company warned that its fiscal 1998 operating results will "not meet expectations" due to the financial crisis in Asia and Russia and "sharp investment cuts" by some of its clients. The warning from the former darling of the Paris Bourse caught observers by surprise, sending ripples through the international telecom community like a sumo wrestler doing a cannonball dive into a kiddie swimming pool. Nokia Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: NOK.A)") else Response.Write("(NYSE: NOK.A)") end if %> slid $5 13/16 to $75 1/2, Ericsson <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: ERICY)") else Response.Write("(Nasdaq: ERICY)") end if %> sank $1 7/16 to $18 1/2, Northern Telecom <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: NT)") else Response.Write("(NYSE: NT)") end if %> skidded $6 to $39 9/16, Vimpel-Communications <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: VIP)") else Response.Write("(NYSE: VIP)") end if %> surrendered $7/8 to $7 1/8, Telefonos de Mexico <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: TMX)") else Response.Write("(NYSE: TMX)") end if %> slipped $9/16 to $42 1/2, and Telebras <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: TBR)") else Response.Write("(NYSE: TBR)") end if %> slumped $2 to $69 1/2.

Transportation services and logistics company J.B. Hunt Transport Services <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: JBHT)") else Response.Write("(Nasdaq: JBHT)") end if %> jack-knifed for a $5 7/8 loss to $16 1/2 after saying a slowdown in rail service has hurt its intermodal business and will trim $0.10 to $0.15 from its earnings per share for fiscal Q3. The company expects to miss the First Call mean earnings estimate of $0.46 per share for the quarter even though revenues are forecasted to come in around 20% above last year's levels. The company feels that analysts' estimates for fiscal 1999 are "reasonable," so long as its railroad partners get their acts together and restore service to the levels seen earlier this year. Hunt was careful not point fingers or name railroad names in its statement, but one has to wonder if the ongoing railroad traffic jam at Union Pacific <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: UNP)") else Response.Write("(NYSE: UNP)") end if %> is at least partly to blame for the profit warning. Interestingly, Hunt's larger maintenance shops and truck terminals in Chicago and Lowell, Arkansas, just happen to coincide nicely with Union Pacific's Midwest and Southern-centric route map.

QUICK CUTS: Shaving products, toothbrushes, and batteries maker Gillette Co. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: G)") else Response.Write("(NYSE: G)") end if %> was nicked another $3 5/16 to $36 7/8 after Merrill Lynch cut its fiscal 1998 and 1999 earnings estimates and Donaldson, Lufkin & Jenrette downgraded the stock. Yesterday, the firm told analysts to cut their fiscal Q3 earnings estimates due to weakness in its international markets... Investment bank and brokerage firm Merrill Lynch <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: MER)") else Response.Write("(NYSE: MER)") end if %> fell $2 15/16 to $56 1/16 after unnamed "officials" at the firm told Bloomberg News that the company is planning to fire as many as 350 staff members following recent trading losses tied to the Russian and Asian financial crises.

Sneaker and athletic gear maker Nike <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: NKE)") else Response.Write("(NYSE: NKE)") end if %> tripped $2 5/16 to $33 3/4 in advance of its fiscal Q1 earnings report. After the bell, the Lord of the Swoosh reported EPS of $0.56, beating analysts' estimates of $0.48 but below last year's $0.85... Plastic containers and consumer products maker Rubbermaid <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: RBD)") else Response.Write("(NYSE: RBD)") end if %> was knocked down $2 to $23 1/2 following a downgrade from CIBC Oppenheimer to "hold" from "buy"... Air carrier Northwest Airlines Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: NWAC)") else Response.Write("(Nasdaq: NWAC)") end if %> skidded $1 5/8 to $28 after The Wall Street Journal reported that a rival labor union may interfere with the future talks between the airline and members of the International Association of Machinists.

Financial services firm Citicorp <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: CCI)") else Response.Write("(NYSE: CCI)") end if %> slid $6 1/2 to $96 1/4 after a spokesperson told Reuters that a 5% reduction in the company and merger partner Travelers Group's <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: TRV)") else Response.Write("(NYSE: TRV)") end if %> staff "is within the realm of possibility" before the end of the year. Travelers slipped $2 7/16 to $40 11/16... Telecommunications services provider Primus Telecommunications Group <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: PRTL)") else Response.Write("(Nasdaq: PRTL)") end if %> dropped $1 9/16 to $6 1/2 after BT Alex. Brown slapped the company with a downgrade to "market perform" from "buy"... Casual restaurant operator Landry's Seafood Restaurants <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: LDRY)") else Response.Write("(Nasdaq: LDRY)") end if %> ran aground $13/16 to $6 11/16 after saying recent hurricanes and tropical storms have damaged all of the company's eateries, causing fiscal Q3 EPS to come in short of the Street's mean estimate of $0.32.

Restaurant operator Lone Star Steakhouse & Saloon <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: STAR)") else Response.Write("(Nasdaq: STAR)") end if %> was grilled for a $7/16 loss to $7 5/8 after reporting fiscal Q3 EPS of $0.10 versus $0.37, missing the First Call mean estimate of $0.14... Adult higher education services firm Apollo Group <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: APOL)") else Response.Write("(Nasdaq: APOL)") end if %> lost $7 11/16 to $29 1/16 after The Wall Street Journal's "Heard on the Street" column raised concerns about an ongoing federal audit of how the company manages its federal financial aid programs... Greeting cards maker American Greetings <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: AM)") else Response.Write("(NYSE: AM)") end if %> was shredded $3 7/8 to $40 1/8 after reporting fiscal Q2 EPS of $0.20, which was in line with the Street's mean estimate. However, the company said it will take a $10 million to $20 million pre-tax charge in Q3 as part of a cost-cutting effort and a "reassessment of management resources."

Semiconductor photomasks manufacturer Dupont Photomask <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: DPMI)") else Response.Write("(Nasdaq: DPMI)") end if %> was burned for a $3 7/8 loss to $23 3/4 after saying its fiscal Q1 revenues could fall as much as 10% to 16% below last year's figures, resulting in EPS $0.15 to $0.20 below the Street's estimate of $0.39... Electric utility PacifiCorp <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: PPW)") else Response.Write("(NYSE: PPW)") end if %> was zapped $1 7/8 to $21 3/16 after saying that its fiscal Q3 will be about half of the First Call mean estimate of $0.41 per share due to higher margins caused by a shortage of low-cost hydroelectric power in the Northwest U.S. during July and August... K-B Toys and MacFrugals Bargains Close-Outs retail stores operator Consolidated Stores Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: CNS)") else Response.Write("(NYSE: CNS)") end if %> was marked down $2 5/16 to $26 3/8 after Donaldson, Lufkin & Jenrette downgraded the company to "market perform" from "buy."

Arts and crafts retailer A.C. Moore Arts & Crafts <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: ACMR)") else Response.Write("(Nasdaq: ACMR)") end if %> was pasted with a $3 1/2 loss to $6 3/4 after saying it will report a "small loss" in fiscal Q3, missing the Street's mean estimate for earnings of $0.06 per share in the period... Bank holding company Imperial Bancorp <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: IMP)") else Response.Write("(NYSE: IMP)") end if %> slid $2 1/2 to $13 3/16 after saying yesterday that mortgage losses at its Imperial Credit Industries <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: ICII)") else Response.Write("(Nasdaq: ICII)") end if %> affiliate will result in fiscal Q3 EPS around $0.29 to $0.32 below the $0.43 expected by analysts surveyed by First Call... Wireless telecommunications services firm AirTouch Communications <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: ATI)") else Response.Write("(NYSE: ATI)") end if %> lost $3 1/4 to $60 7/8 after SoundView Financial cut its rating to "hold" from "buy" based on a reported slowing in Q3 subscriber growth.

FOOL ON THE HILL
An Investment Opinion
by Louis Corrigan

3Dfx and Market Efficiency

Shareowners of 3Dfx Interactive <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: TDFX)") else Response.Write("(Nasdaq: TDFX)") end if %>, designer of the popular Voodoo2 3D and new Banshee 2D/3D computer graphics chips, experienced another jolt this week after the former highflyer pre-announced a third quarter operating loss due to an unexpectedly severe seasonal slowdown. According to CEO Greg Ballard, "There appears to be more inventory on hand at the retailers for Voodoo2 than originally forecast by our leading add-in board distributors." The stock plunged as much as $2 13/16 to a low of $8 Tuesday before recovering a bit. Investors apparently looked at the firm's book value of $7 a share ($5.55 in cash) as of June 30, considered its well-regarded technology, and concluded that 3Dfx offers value even in a competitive niche known for its short product cycles.

Although consensus third quarter analyst estimates before the warning still called for the company to earn $0.47 per share, much of the bad news was already in the stock. Since hitting an all-time high of $35 in April following a blowout first quarter, 3Dfx had been drifting lower and lower. The decline picked up steam after the July 15 news that second quarter earnings beat estimates by just 6%. Inscrutable as it may seem, Mr. Market has been projecting second half problems for 3Dfx. The stock price itself was providing a "sell" recommendation even if the analysts weren't.

For Foolish fundamentalists, listening to a stock's gyrations for advice seems both foreign and inane. Yet 3Dfx suggests there are times when the market's apparent irrationality is surprisingly rational, so that a chart accurately points to something fundamental.

How can this be? There's a story of a mutual fund manager who asked one of his assistants to call up the top analysts following a company to find out why the stock was moving. The assistant said, "But I'm the best analyst covering it. No one knows more about this company than I do." The fund manager said, "That may be true, but every analyst covering this company knows at least something that you don't know. So collectively, they know a whole lot more than you do. And what they know is what I need to know."

The market speaks in the collective voice of all such market participants. That doesn't mean you should take up technical analysis and start trading based on candlestick charts. It does mean that when there's no apparent reason for a stock's move, it's best to assume that there's meaningful news even if you can't discern it right away. The stock market is not perfectly efficient. Yet in any specific case, you're better off assuming that it is until you can pinpoint why it's not.

Another way to approach the problem, and one that's especially appropriate for a fast-growing, high-risk smallcap such as 3Dfx, is to follow speculator George Soros's method. Soros always wanted to know the flaw in an investment thesis so that when he "played" the thesis, he would be prepared for the telltale signs of trouble and get a jump on others following the trend. In more fundamental terms, this would involve determining the most likely things that could go wrong with an investment and then watching for the signs.

In the case of 3Dfx, I can do little more than guess what those signs were. Certainly Intel's entrance into the 2D/3D chip market was one background concern suggesting just how competitive this niche is. The general inventory glut and falling prices throughout the PC and components markets was no doubt another issue. A spate of insider sales amidst the stock's decline didn't help. Yet it's also clear that investors and graphics board manufacturers had high hopes for Voodoo2. One general problem with new product launches, though, is that sales can be inflated early on by the pure necessity of filling the retail channel. Sales into the channel aren't the same as sell-through. A miscalculation about the strength of end-user demand can rapidly create an inventory glut.

A reasonable place to look for news about 3Dfx's business, then, would have been Diamond Multimedia Systems <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: DIMD)") else Response.Write("(Nasdaq: DIMD)") end if %>, a firm that uses the company's Voodoo2 chip in its Monster II graphics card. Diamond has been 3Dfx's biggest customer, accounting for 37% of FY97 sales, 41% ($20.5 million) of 3Dfx's first quarter sales, and 42% ($24.6 million) of second quarter sales. Though Diamond's overall revenues include many lines that don't employ 3Dfx products, graphics and multimedia accelerator subsystems make up most of Diamond's revenues, including 82% of its $172 million second quarter sales. Most of Diamond's 117% sales increase for the first six months of 1998 was due to the Voodoo2-based Monster 3D II.

Also worth noting is that Diamond has repeatedly disappointed investors since going public in April 1995 at $17 a share. Like other firms in this competitive industry, it has a history of encountering excess channel inventory and then taking a sales and margins hit to sell it off. This should have been troubling because Diamond revealed in its Q2 press release on July 9 that Monster II sales were quite strong but "fell short of our expectations toward the end of the quarter by approximately $20 million." Given that Diamond aims to maintain channel inventory amounting to "one to three months of customer demand," it's possible Diamond had more than three months worth of Voodoo2-based Monster II boards in the channel at the end of June. That's a significant amount considering the short product life cycles in this business.

Why keep that much channel inventory? For one thing, Diamond has a less than optimal handle on its operations. The company is in the process of implementing a new enterprise resource planning (ERP) software system, but it won't be operational until the end of the year. A more basic problem is that both 3Dfx and Diamond are a long way from the retail customer. 3Dfx sells to Diamond (and others), which then sells to mass merchandisers, retail distributors, and PC manufacturers. As Diamond mentions among its risk factors, "the Company typically has little or no direct visibility into end user customer demand." In short, news of slower retail sales might take a while to get back to 3Dfx.

That meant that Diamond's inventories were worth watching (even though they reflect non-3Dfx products too). Investors might have been concerned by any unusually large increase in finished goods since it would suggest a serious oversupply. Diamond's revenues usually follow a seasonal pattern (strong 4Q, weaker 1Q, still weaker 2Q and 3Q), but product cycles exert a powerful countervailing force. Since Voodoo2 launched in February, these sequential comparisons are useful (dollars in millions).

Inventory          12/97    3/98   Change   6/98   Change 
 Raw Material       $29.9   $35.6     19%   $32.4    -8.8% 
 Work in Progress   $40.3   $45.5     13%   $41.3    -9.1% 
 Finished Goods      $8.5   $11.4     35%   $20.1    75.6% 
  
 Revenues          $185.9  $186.2    0.2%  $172.3    -7.4% 
 Receivables        $98.8  $102.9    4.1%  $102.1    -0.7%

CONFERENCE CALLS

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Contributing Writers Yi-Hsin Chang (TMF Puck), a Fool Brian Graney (TMF Panic), Fool Two Alex Schay (TMF Nexus6), Fool, too Dale Wettlaufer (TMF Ralegh), Final Fool Editing Brian Bauer (TMF Hoops), another Fool Bob Bobala (TMF Bobala), a Fool's Fool Jennifer Silber (TMF Amused), Fool at last