Fool.com: Callaway in the Rough (Evening News) October 22, 1998

<THE EVENING NEWS>
Thursday, October 22, 1998
MARKET CLOSE

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HEROES

Wireless business telecommunications services provider WinStar Communications <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: WCII)") else Response.Write("(Nasdaq: WCII)") end if %> gained $6 5/16 to $25 7/8 after saying Lucent Technologies <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: LU)") else Response.Write("(NYSE: LU)") end if %> will finance WinStar's purchase of $2 billion worth of Lucent network switches, remote access products, and dense wave division multiplexing (DWDM) equipment over five years. The deal will allow WinStar to complete its current 40 market network build-out in the U.S. ahead of its late-1999 target date. That initial rollout has already been fully funded, primarily through the firm's issuance of junk bonds. Analysts cited by Dow Jones said the Lucent deal will give WinStar access to funding to extend the build-out into additional U.S. and international markets at an estimated 8.5% interest rate. That rate is lower than the rates the firm could expect to get through junk bonds right now, given the market for new high-yield corporate paper has been dryer than Will Rogers' wit over the last few months.

Online community operator GeoCities' <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: GCTY)") else Response.Write("(Nasdaq: GCTY)") end if %> first earnings report since its late-summer initial public offering, released late yesterday, was well-received by investors, who helped the company's shares up $1 7/8 to $24 1/8 today. The company turned in a Q3 loss of $0.14 per share, $0.02 per share below last year's loss but not nearly as bad as First Call's projected $0.24 per share loss. As CEO Thomas Evans gushed, "Every business indicator we have shows upside." He has reason to gush -- daily page views for September averaged 44.8 million, nearly 47% higher than June's 30.5 million figure, while Q3 gross margins were 58%, or almost double the Q2 mark of 30%. Among other Internet hubs today, Excite <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: XCIT)") else Response.Write("(Nasdaq: XCIT)") end if %> rose $1 1/16 to $32 9/16, Lycos <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: LCOS)") else Response.Write("(Nasdaq: LCOS)") end if %> added $1 7/16 to $33 3/16, and Yahoo <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: YHOO)") else Response.Write("(Nasdaq: YHOO)") end if %> finished the day up $2 3/8 at $122 1/8.

Semiconductor capital equipment companies rose today on positive comments from one industry executive. Douglas Schatz, the chairman and CEO of semiconductor capital equipment power supplies manufacturer Advanced Energy Industries <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: AEIS)") else Response.Write("(Nasdaq: AEIS)") end if %>, reportedly told analysts in a conference call today that he sees the capital equipment sector hitting bottom in Q4, providing a glimmer of hope that the long-suffering companies in the industry will see brighter days in calendar 1999. Advanced Energy, which also reported a Q3 loss of $0.06 per share (excluding charges) today -- above the mean estimate of a loss $0.13 per share -- climbed $2 7/16 to $10 3/16. Since the company is a supplier to capital equipment leader Applied Materials <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: AMAT)") else Response.Write("(Nasdaq: AMAT)") end if %>, its comments are given credence on the matter of a cyclical turnaround. Applied, which reports earnings in early November and will be the next important data point for the industry, rose $2 9/16 to $32 7/8. Lam Research <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: LRCX)") else Response.Write("(Nasdaq: LRCX)") end if %> added $1 3/4 to $14 1/4, and KLA-Tencor <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: KLAC)") else Response.Write("(Nasdaq: KLAC)") end if %> gained $3 1/8 to $32 9/16.

QUICK TAKES: Oil and gas production and refining firm Conoco <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: COC)") else Response.Write("(NYSE: COC)") end if %> rose $1 7/8 to $24 7/8 after selling $4.4 billion in shares through an initial public offering last night at a price of $23 per share, which was near the top of the IPO price range expected by parent DuPont <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: DD)") else Response.Write("(NYSE: DD)") end if %>... Auto battery manufacturer Exide Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: EX)") else Response.Write("(NYSE: EX)") end if %> charged ahead $1 1/8 to $7 after saying fiscal Q2 EPS will be at the high end of or possibly even above the $0.05 loss to $0.10 gain range it forecasted last week, though still falling short of the $0.56 originally expected by the Street... Electrical wire, cable, and insulation products maker Essex International <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: SXC)") else Response.Write("(NYSE: SXC)") end if %> gained $4 9/16 to $27 3/4 after agreeing to merge with telecommunications cable and wire provider Superior TeleCom <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: SUT)") else Response.Write("(NYSE: SUT)") end if %> in a deal valued at $1.35 billion. Superior, which fell $3 3/4 to $42 1/4, expects the deal to boost calendar 1999 earnings by 15% to 25%.

Interactive entertainment software developer THQ Inc. <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: THQI)") else Response.Write("(Nasdaq: THQI)") end if %> jumped up $1 3/8 to $18 1/8 after reporting Q3 EPS of $0.21, beating Street projections by $0.04. Also, CEO Brian Farrell said he expects the company to meet or beat last year's Q4 EPS of $0.56 due to "stronger than expected" retail demand... Digital audio and video tool creator Avid Technology <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: AVID)") else Response.Write("(Nasdaq: AVID)") end if %> zoomed up $5 5/16 to $19 5/16 after reporting Q3 EPS of $0.30 (excluding acquisition-related charges), which was toward the high end of the $0.02 to $0.39 estimate range offered by the eight analysts surveyed by Zacks and $0.13 above the mean... Enterprise helpdesk software developer Clarify Inc. <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: CLFY)") else Response.Write("(Nasdaq: CLFY)") end if %> rang up a gain of $3 9/16 to $11 15/16 after reporting Q3 EPS of $0.09 last night, a penny ahead of the Street's mean estimate, thanks in part to a 61% jump in license revenues.

Long-term care services provider Centennial HealthCare <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: CTEN)") else Response.Write("(Nasdaq: CTEN)") end if %> shot up $5 3/4, or 67.7%, to $14 1/4 after agreeing to be bought by privately held investment firm Welsh Carson Anderson & Stowe, which already owned 23% of the company. The $16 per share cash buyout offer is nearly twice Centennial's closing price of $8 1/2 per share yesterday... CardioGenesis Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: CGCP)") else Response.Write("(Nasdaq: CGCP)") end if %>, which makes laser devices for the treatment of cardiovascular disease and angina pain, flew up $4 7/32 to $6 7/16 after agreeing to be acquired by rival Eclipse Surgical Technologies <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: ESTI)") else Response.Write("(Nasdaq: ESTI)") end if %> in an estimated $86 million stock swap... Restoration Hardware <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: RSTO)") else Response.Write("(Nasdaq: RSTO)") end if %> hammered out a $4 gain to $14 7/8 after Goldman Sachs placed the upscale home furnishings retailer on its "recommended list."

Coca-Cola Enterprises <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: CCE)") else Response.Write("(NYSE: CCE)") end if %> fizzed up $1 9/16 to $35 9/16 after signing letters of intent to buy six U.S. bottlers for $770 million in stock and assumed debt. The firm also reported Q3 EPS of $0.21 (excluding tax gains), beating analysts' projections by $0.04... Network products and switch developer FORE Systems <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: FORE)") else Response.Write("(Nasdaq: FORE)") end if %> was up $1 13/16 to $15 1/16 as a story in Barron's online edition said Lucent Technologies <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: LU)") else Response.Write("(NYSE: LU)") end if %> may possibly be seeking to acquire the company... Bandwidth management technologies firm Adaptec Inc. <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: ADPT)") else Response.Write("(Nasdaq: ADPT)") end if %> rose $1 1/2 to $14 in anticipation of the company's fiscal Q2 earnings announcement. After the close, the firm reported breakeven results (excluding restructuring charges), slightly better than the IBES mean estimate of $0.01 per share loss.

Drug delivery firm Alkermes Inc. <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: ALKS)") else Response.Write("(Nasdaq: ALKS)") end if %> popped up $4 13/16 to $19 5/16 after announcing plans to file a new drug application (NDA) with the FDA -- along with partner Genentech Inc. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: GNE)") else Response.Write("(NYSE: GNE)") end if %> -- for a sustained release form of Genentech's somatropin recombinant growth hormone... Corn-based food ingredients producer Corn Products International <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: CPO)") else Response.Write("(NYSE: CPO)") end if %> grew $1 7/8 to $26 after announcing Q3 EPS of $0.35, which was a penny shy of the IBES mean estimate. However, the company said analysts' EPS projections of about $1.20 for full-year 1998 were "within our reach"... Industrial chemicals and sealants maker W.R. Grace <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: GRA)") else Response.Write("(NYSE: GRA)") end if %> bubbled up $1 13/16 to $15 13/16 after reporting Q3 EPS of $0.33, which was $0.04 above the Street's projections.

Electronic payment processor Paymentech <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: PTI)") else Response.Write("(NYSE: PTI)") end if %> cashed in gains of $1 1/4 to close at $14 1/8 after its Q1 EPS of $0.14 met the Street's expectations. The company also named First USA Chairman and CEO Richard Vague as its new chairman... Technology consulting and training company Aris Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: ARSC)") else Response.Write("(Nasdaq: ARSC)") end if %> moved up $1 3/4 to $20 after its Q3 EPS of $0.21 beat the Street's estimate by a penny and last year's figure by $0.08... Oil and gas exploration products and services firm Smith International <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: SII)") else Response.Write("(NYSE: SII)") end if %> moved ahead $1 13/16 to $34 5/8 after signing a drilling fluids joint venture with Schlumberger Ltd. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: SLB)") else Response.Write("(NYSE: SLB)") end if %>, which includes a $280 million cash payment to Smith.

Earnings Movers

America West Holdings <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: AWA)") else Response.Write("(NYSE: AWA)") end if %> up $1 3/8 to $13 11/16; Q3 EPS: $0.49 vs. $0.40 last year; Estimate: $0.40

Asyst Technologies <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: ASYT)") else Response.Write("(Nasdaq: ASYT)") end if %> up $2 1/16 to $10 9/16; Q2 EPS: $0.63 loss (excluding charges) vs. $0.37 gain last year; Estimate: $0.34 loss

AVT Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: AVTC)") else Response.Write("(Nasdaq: AVTC)") end if %> up $5 1/8 to $21 1/2; Q3 EPS: $0.22 vs $0.17 last year; Estimate: $0.21

Cerner Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: CERN)") else Response.Write("(Nasdaq: CERN)") end if %> up $1 1/16 to $21 9/16; Q3 EPS: $0.19 vs. $0.13 last year; Estimate: $0.18

CDW Computer Centers <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: CDWC)") else Response.Write("(Nasdaq: CDWC)") end if %> up $8 11/16 to $66 1/4; Q3 EPS: $0.79 vs. $0.60 last year; Estimate: $0.72

Checkpoint Systems <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: CKP)") else Response.Write("(NYSE: CKP)") end if %> up $1 15/16 to $11 1/16; Q3 EPS $0.20 vs. $0.17 last year; Estimate: $0.13

Cirrus Logic <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: CRUS)") else Response.Write("(Nasdaq: CRUS)") end if %> up $7/16 to $8 1/16; fiscal Q2 EPS: $0.02 (before charges) vs. $0.13; Estimate: $0.02 loss

Harmonic Lightwaves <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: HLIT)") else Response.Write("(Nasdaq: HLIT)") end if %> up $11/16 to $11 1/4; Q3 EPS: $0.07 loss vs. $0.04 gain last year; Estimate: $0.07 loss

NetGravity Inc. <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: NETG)") else Response.Write("(Nasdaq: NETG)") end if %> up $5/8 to $8 15/16; Q3 EPS: $0.22 loss vs. $0.22 loss (pro forma) last year; Estimate: $0.24 loss

Office Depot <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: ODP)") else Response.Write("(NYSE: ODP)") end if %> up $2 11/16 to $25 5/16; Q3 EPS: $0.32 (excluding charges) vs. $0.24 last year; Estimate: $0.31

Tosco Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: TOS)") else Response.Write("(NYSE: TOS)") end if %> up $2 7/8 to $27 3/8; Q3 EPS: $0.45 (before gain on asset sale) vs. $0.61 last year; Estimate: $0.41

Transocean Offshore <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: RIG)") else Response.Write("(NYSE: RIG)") end if %> up $3 1/8 to $36 1/2; Q3 EPS: $0.84 (excluding after-tax gain) vs. $0.38 last year; Estimate: $0.74

Tyco International <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: TYC)") else Response.Write("(NYSE: TYC)") end if %> up $2 3/8 to $59 7/8; fiscal Q4 EPS: $0.57 (excluding charges) vs. $0.37; Estimate: $0.54

Zoran Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: ZRAN)") else Response.Write("(Nasdaq: ZRAN)") end if %> up $1 7/8 to $10 3/8; Q3 EPS: $0.04 vs. $0.08 last year; Estimate: $0.01

GOATS

Golf equipment maker Callaway Golf Co. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: ELY)") else Response.Write("(NYSE: ELY)") end if %> bogeyed for a $1 1/16 loss to $11 3/16 -- unfortunately, unlike in golf, a lower number is not better in this case, as the company's shares were trading above $30 a year ago. Late yesterday Callaway reported Q3 EPS of $0.08, down 85% from $0.52 a year ago, though better than analysts' mean estimate of a loss of $0.01. The company said it does not see "any significant improvement in sales in the next several quarters" and could even see "further softening of the golf equipment market" due to "various factors beyond our control," including heavy competition, weak international markets, and a possible rule change by the U.S. Golf Association. Callaway also has lost market share domestically due to cutthroat price slashing by some of its competitors. In the next two weeks, the company plans to announce a restructuring plan, which will result in related charges in the fourth quarter that are expected to be higher than previously announced. The company will pay a dividend of $0.07 a share this quarter but is deciding whether to pay dividends thereafter.

Bar code solutions provider Zebra Technologies <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: ZBRA)") else Response.Write("(Nasdaq: ZBRA)") end if %> lost a stripe today, falling $3 1/2 to $30, after both it and its merger partner Eltron International <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: ELTN)") else Response.Write("(Nasdaq: ELTN)") end if %> missed analysts' estimates for the third quarter. Eltron dropped $3 1/4 to $26 3/4. Zebra's Q3 sales rose 15% to $57.4 million, which pushed net income up 12.9% to $11.2 million, or $0.46 per share. That was a nickel ahead of year-ago results but $0.04 shy of expectations. Meanwhile, Eltron reported a Q3 revenue increase of 20% to $30.7 million (25% excluding its bar code business, which was jettisoned in Q1), leading to net income of $2.7 million, or $0.35 per share, versus $3.5 million, or $0.44 per share, a year ago. The result was substantially below the $0.43 consensus estimate. Zebra CFO Charles Whitchurch blamed market volatility in September for causing a $0.05 per share loss in its diversified investment portfolio. For more on Zebra, see today's Fool Plate Special.

QUICK CUTS: Diversified manufacturing company 3M <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: MMM)") else Response.Write("(NYSE: MMM)") end if %> dropped $2 13/16 to $81 7/16 after reporting Q3 EPS of $0.97, down from $1.03 in the same prior-year period and a penny short of expectations, due to "the slower pace of economic growth combined with negative currency effects"... Oil company Chevron Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: CHV)") else Response.Write("(NYSE: CHV)") end if %> fell $5 3/4 to $81 1/2 after warning that the fourth quarter will be a "difficult" one, as results will continue to be hurt by low crude oil prices and low margins on refined products and chemicals. The company reported a 37% drop in Q3 EPS to $0.70... Medical products company Baxter International <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: BAX)") else Response.Write("(NYSE: BAX)") end if %> was down $7 7/8 to $57 after reporting Q3 results that revealed its new line of blood products was less profitable than expected. A.G. Edwards downgraded its rating on Baxter to "reduce" from "maintain position" (ouch).

Hospital and healthcare systems operator Quorum Health Group <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: QHGI)") else Response.Write("(Nasdaq: QHGI)") end if %> sank $2 3/4, or 19.6%, to $11 1/4 after revising its forecast for fiscal 1999 to $1.43 to $1.48 a share, short of analysts' mean estimate of $1.57, with Q2 EPS expected to be essentially flat with last year's $0.32. Quorum also reported fiscal Q1 EPS of $0.33, in line with expectations... Electronic Arts <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: ERTS)") else Response.Write("(Nasdaq: ERTS)") end if %> shed $3 1/4 to $38 15/16 after announcing fiscal Q2 EPS of $0.17 (before charges) versus $0.12 last year and beating analysts' expectations by a penny... Slot machine maker Anchor Gaming <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: SLOT)") else Response.Write("(Nasdaq: SLOT)") end if %> lost $7 5/8 to $52 1/4 on worries that the company will place fewer new machines in casinos in the next few quarters and that lower interest rates will hurt investments it holds.

Consumer electronics manufacturing giant Philips Electronics NV's <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: PHG)") else Response.Write("(NYSE: PHG)") end if %> American depositary receipts tumbled $7 3/16, or 11.5%, to $55 1/4 after reporting a 38% drop in profit and saying it is terminating its mobile phones joint venture with Lucent Technologies <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: LU)") else Response.Write("(NYSE: LU)") end if %>... Atlantic Richfield <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: ARC)") else Response.Write("(NYSE: ARC)") end if %> slid $2 1/2 to $67 1/16 after reporting that its Q3 EPS (excluding charges and discontinued operations) sank 80% to $0.19 from $0.93 due to low oil prices... Athletic footwear retailer Footstar Inc. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: FTS)") else Response.Write("(NYSE: FTS)") end if %> tripped for a $3 7/16 loss to $26 5/16 after lowering earnings expectations for the fourth quarter to $1.00 to $1.05 a share due to continued margin pressures at its Footaction stores. Analysts were expecting Q4 EPS of $1.16.

Full-service equipment leasing company Leasing Solutions <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: LSN)") else Response.Write("(NYSE: LSN)") end if %> tanked $9 15/16, or 50.8%, to $9 5/8 after warning that Q3 EPS may be "substantially less than analysts' consensus expectations for the quarter"... Gardner Denver Inc. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: GDI)") else Response.Write("(NYSE: GDI)") end if %> dropped $3 to $15 1/8 after Warburg Dillon Read cut its rating on the air compressors and blowers manufacturer to "hold" from "buy," saying the company will see a significant decrease in revenue and operating earnings from its petroleum products segment next year. The company reported Q3 EPS of $0.52, up from $0.44 last year and in line with estimates.

Earnings Movers

Inhale Therapeutic Systems <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: INHL)") else Response.Write("(Nasdaq: INHL)") end if %> down $1 to $23 1/2; Q3 EPS: loss of $0.32 vs. loss of $0.19 last year; Estimate: loss of $0.32

Terra Industries <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: TRA)") else Response.Write("(NYSE: TRA)") end if %> down $15/16 to $6 3/4; Q3 EPS: loss of $0.29 vs. $0.19 last year; Estimate: loss of $0.14

United Auto Group <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: UAG)") else Response.Write("(NYSE: UAG)") end if %> down $5/8 to $14 3/8; Q3 EPS: $0.40 vs. $0.31 last year; Estimate: $0.40

FOOL ON THE HILL
An Investment Opinion
by Alex Schay

Jump In the Pool

Despite the fact that cash flow is completely unaffected by the business combination accounting decision, a great deal of controversy has swirled around "pooling of interest" transactions. This is largely a reflection of investors' obsession with accrual earnings and management's willingness to play to its audience. The Financial Accounting Standards Board (FASB) has vowed to shoulder the Herculean task of overhauling the way American businesses account for combinations, and in July of this year it initiated a study to determine whether or not there is even a need to have two methods (purchase and pooling). I hope you've got your Snickers -- because we're not going anywhere for a while. Suffice it to say, an outcome is not immediately forthcoming.

Ironically, pooling accounting gained currency as a result of abuses that were occurring under the purchase method. According to Tony Cope of FASB, back in the days when utility companies could pretty much receive a steady, guaranteed return on their asset bases -- thanks to sympathetic regulators who would help hike rates if returns were not growing with assets -- there was a strong incentive to boost assets by means of acquisition (and the subsequent goodwill that was created in the purchase). Rate boards began to catch on to the abuse, hence the pooling methodology began to wend its way through corporate America -- resulting in the skein that we see today. In February 1997, CFO Magazine reported that the dollar value of poolings as a percentage of all acquisitions had increased from 14.4% in 1991 to 22.9% in 1996, and as a percentage of overall mergers they increased from 4% in 1991 to 9.1% in 1996.

Since the FASB announced, way back in 1996, that it would take a closer look at the combinations, companies have been feverishly jumping into "the pool." Perhaps this is better than facing the possibility down the road of joining the chorus singing, "Good thing� Where have you gone?" In 1996, the total number of announced poolings came in at 381 and grew to 528 in 1997 -- an increase of almost 40%. As of July 24, 1998, there have been 330 announced pooling transactions, which is well on track for another record-breaking year.

At least one more pooling announcement has been made since then, as housewares concern Newell Co. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: NWL)") else Response.Write("(NYSE: NWL)") end if %> reported yesterday that it had agreed to buy consumer and commercial products maker Rubbermaid Inc. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: RBD)") else Response.Write("(NYSE: RBD)") end if %>. Over the last 30 years, Newell has grown through a heady pace of acquisitions, tallying 75 at last count. Goodwill has not skyrocketed at the company, thanks to its preference -- and ability -- to engage in pooling-style accounting. Interestingly enough, accounting rules dictate that combinations must be conducted via the pooling method unless a company can't satisfy the 12-criteria test outlined by APB No. 16. As can be seen, purchases are perceived to be the default method, due to the stringency of the standards (outlined very briefly below).

1. Each firm is autonomous and has not been a subsidiary or division of another enterprise within two years before the plan of combination is initiated.

2. Each of the combining enterprises is independent of the other combining enterprises (no more than 10% intercompany investment in outstanding voting common stock).

3. The combination is effected in a single transaction or is completed in accordance with a specific plan of combination within one year after the plan is initiated.

4. An enterprise offers and issues only common stock with rights identical to those of the majority of its outstanding voting common stock in exchange for substantially all of the voting common stock interest of another enterprise at the date the plan of combination is consummated.

5. None of the combining enterprises changes the equity interest of the voting common stock in contemplation of effecting the combination either within two years before the plan of combination is initiated or between the dates the combination is initiated and consummated.

6. Each of the combining firms reacquires shares of voting common stock only for purposes other than business combinations, and no enterprise reacquires more than a normal number of shares between the dates the plan of combination is initiated and consummated.

7. A stockholder's interest in the combining enterprise relative to other stockholders is unchanged as a result of exchanging stock. No common stockholder is denied or surrenders its potential share of a voting common stock interest in a combined enterprise.

8. Voting rights in the resulting combined enterprise are exercisable to the shareholders; there can be no period in which voting rights are restricted or denied.

9. The combination is resolved at the date the plan is consummated and no provisions of the plan relating to the issue of securities or other consideration are pending.

10. The combined enterprise does not agree directly or indirectly to retire or reacquire all or part of the common stock issued to effect the combination.

11. The combined enterprise does not agree to enter into other financial arrangements for the benefit of the former stockholders of a combining enterprise.

12. The combined enterprise does not intend or plan to dispose of a significant part of the of the assets of the combining enterprises within two years after the combination, other than disposals in the ordinary course of business or to eliminate duplicate facilities or excess capacity.

(Courtesy of the Analyst's Accounting Observer)

Taking a look at yesterday's transaction, it can be seen that it's a pretty sizable merger. Indeed, Newell -- known for its ability to acquire mid-tier brands and squeeze costs out of the system -- acknowledged that the combination holds the possibility of being the largest in its history. Here's what Newell is paying for Rubbermaid:

Fully Diluted Rubbermaid Shares (mil)  149.968
 
 Exchange Ratio                           .7883
 
 New Newell Shares                      118.220
 
 Newell Price (Tuesday close)*          $48.875
 
 Value of Rubbermaid Equity          $5,778.002
 
 Debt                                  $586.935
 
 Total Merger Value                  $6,364.937

(There are no caps or collars, and Newell sank 10% on Wednesday.)

Squashing together all the like account items at their book value is all that's required when looking at a pooling merger. Worthy of note, however, is the fact that in this instance Newell will be issuing stock valued at $5.778 billion for net assets with a book value of $1.056 billion. So, right off the bat, $4.772 billion worth of transaction value is just spirited away (over the fence, to finish off the mixed metaphor) -- because the book value is the only thing that will be recorded in the combined entity. This outcome is by far the chief criticism of the pooling methodology; that is, no trail of management's acquisition activity is left on the balance sheet. Now, let's assume for a moment that Newell is found to be in violation of one of the twelve APB commandments and must pursue a purchase transaction.

Purchase accounting doesn't have to be that bad. In fact, if a firm can persuade the SEC to allow it the full 40-year amortization period, it can do something like simultaneously try and lower the value of long-term assets that have useful lives shorter than 40 years (shaving depreciation expenditures). This practice, as well as attempts at writing down inventory in hopes of bringing total fair value closer to book value and getting the maximum amortization period, can definitely make management look like merger and acquisition geniuses if successful. Taking an unrealistic scenario and assuming that all of the premium over book value in the Newell case is attributable to goodwill (normally the investment bankers get to wrangle over the fair value of balance sheet items), we end up with about $119.3 million in goodwill expenditures per year -- on the maximum 40-year period -- that must be subtracted from earnings every year.

Under purchase accounting Newell would end up, well� a tad pudgier, with total assets about 57% greater than under the pooling arrangement ($11.2 billion vs. $6.4 billion). In turn, popular metrics like long-term debt to equity get distorted -- under the pooling method debt is 32% of equity, while under purchase accounting long-term debt becomes 12% of equity. As can be deduced, other metrics like return on equity will look a lot better under pooling than under purchase unless the effects of goodwill are netted out in the calculations. Here are the earnings per share effects for 1998:

                     Combined   Newell   Rubbermaid
 
 1998 Estimates (Zacks)           $2.07        $1.17
 
 Fully Diluted Shares             173.3        149.9
 
 Earnings (pooling)     $534.11  $358.73      $175.38
 
 Goodwill amortization  $119.30
 
 Earnings (purchase)    $414.81

Taking the fully diluted share count after the acquisition (173.3 plus 118.2), EPS on a pooling basis comes to $1.83 and on the purchase it comes in at $1.42 -- a 22% drop. On Wednesday, the Chief Financial Officer of Newell, Bill Alldredge, gave his earnings forecast for the combined entity over the next couple of years. "Taking Newell's expected earnings per share� $2.35 in 1999 and $2.65 in 2000, and using that as the benchmark, we would expect some modest dilution� in 1999 as we are ramping up these improvements, and that modest dilution is probably going to be in the $0.10 to $0.20 range. By 2000, we are expecting accretion� in the $0.05 to $0.15 per share range, with the possibility that it could be greater than that."

Even though the cash economics of the deal are exactly the same under pooling and purchase, it's interesting to note the disparity in the earnings effects and the changes in the balance sheet. Again, this is not an indictment of Newell; in fact, management is just pursuing the best accounting policy that it has deemed available to it (although tying management's hands with respect to share repurchases is never wise). However, the market's reaction Wednesday is an indication that investors might be taking a good look at the cash economics as well.

[Background for this report was provided by AA Observer, Volume 6, No. 9, "What's Wrong with Business Combination Accounting"]

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