Q. Please clear up my confusion over Sun Microsystems Inc. Does the company have a good future? - M.L., via the Internet
A. This leading supplier of networked computing products, which stumbled badly for several years after the Internet bubble burst, had $89 million in net income in its first fiscal quarter, which ended Sept. 30.
That marked the first time it recorded four consecutive quarters of profits in more than five years. Cost-cutting, which included significant job reductions, has been paying off. It also is gaining market share in its server and storage businesses.
Yet, overall sales growth continues to be slow and the company predicts low to middle single-digit revenue expansion in its current fiscal year.
Sun Microsystems (JAVA) recently enacted a 1-for-4 reverse split in order to raise its low price. Its stock value declined 16 percent in 2007, following a 29 percent gain in 2006 and a 22 percent drop in 2005.
The firm does have plenty of cash and a strong balance sheet. An encouraging sign was the $700 million investment in Sun by KKR Private Equity Investors in early 2007, in which KKR also received a seat on the Sun board.
Sun's businesses include servers, storage, software and services, with two-thirds of its revenues coming from hardware. Its new strategy is to shift away from its longstanding business model of proprietary products.
By open-sourcing its Solaris software and Java software-development platform, Sun believes it can derive more money from hardware and from software maintenance. It has also begun to offer industry-standard x86 computers.
Because results of its changes are uncertain, consensus analyst rating of Sun stock is "hold," according to Thomson Financial. That consists of three "strong buys," four "buys," 10 "holds" and two "underperforms."
An ongoing challenge in the server market is higher-end competitor IBM Corp., with Dell Inc. at the lower end. Hewlett-Packard Co. competes at both ends. These companies have greater financial resources than Sun, which means more product and service depth. Sun also must deal with a growing customer trend of substituting lower-end servers for higher-end ones.
Sun, which has grown largely through acquisitions, remains energetic. It expects to double its sales in China over three years. Japan has chosen it to create an open-source Internet-based architecture to file government forms online. Other nations, including Singapore and Norway, have selected it to manage their information flow.
Earnings are expected to rise 108 percent in its current fiscal year and 32 percent the following year. Its five-year annualized growth rate is projected to be 9 percent.
Q. Tell me why Pfizer Inc. isn't doing better, since it is such a powerful drug company. - C.D., via the Internet
A. The world's largest pharmaceutical firm had a number of struggles in 2007:
- It recently took a multimillion-dollar charge to phase out its disappointing inhaled insulin drug Exubera.
- Sales slipped for its best-selling cholesterol drug Lipitor, which represents one-fourth of its revenue. Furthermore, the patent exclusivity of that drug expires in 2011.
- Generic competition drove down sales of its antidepressant Zoloft and cardiovascular drug Norvasc.
- The Food and Drug Administration is investigating side effects of its anti-smoking drug Chantix.
Fitch Ratings recently downgraded some of the drug firm's debt to AA-plus from AAA, which is still investment grade, and lowered its credit-rating outlook from stable to negative.
"The company's late-stage (drug) program is thin compared to its peers and is not expected to fully replace potential losses from looming patent expires in 2011-12," Fitch said in a statement.
Shares of Pfizer (PFE) are down 10 percent this year following last year's 11 percent gain. Even though third-quarter net income fell 77 percent as a result of substantial charges, the quarterly dividend was increased by 10 percent.
Pfizer benefits from economies of scale, enormous cash flow from its drug line and a strong sales force. It continues to grow, recently acquiring biopharmaceutical company Coley Pharmaceutical Group Inc. for $164 million to expand its vaccine research and development of drugs for Alzheimer's and infectious diseases.
It also is buying CovX, a private biotherapeutics company, for an undisclosed amount. Meanwhile, it sold its consumer business to Johnson & Johnson, and the proceeds could be used for additional acquisitions.
The consensus analyst rating on its stock is "hold," according to Thomson Financial, which consists of four "strong buys," four "buys," 15 "holds" and one "sell."
Pfizer earnings are expected to increase 4 percent this year compared with the 15 percent rise forecast for the major drug-manufacturers industry. Next year's projected 6 percent increase compares with a 10 percent forecast for its peers. The five-year annualized growth rate of 5 percent is about half that forecast for the industry.
The company has stepped up cost-cutting efforts and intends to outsource as much as one-third of its manufacturing, most of that to Asia. Currently outsourcing about 15 percent of manufacturing capabilities, it is shutting down plants in Brooklyn, N.Y., and Omaha, NE.
Q. If everyone is supposed to be so into pets, why isn't my stock in PetSmart Inc. up this year? - F.L., via the Internet
A. You're right about the pet trend.
About 63 percent of U.S. households now own a pet, and owners will have spent an estimated $41 billion on them in 2007, according to the American Pet Products Manufacturers Association trade group.
With baby boomers especially warming to pet ownership, the business should continue to grow.
But that doesn't mean the economy and fierce competition can't do some growling along the way. The largest specialty pet retailer has lately been hurt by soft consumer spending. In addition, a warmer-than-expected autumn in some traditionally cold climates meant dogs likely ate less and owners bought less dog food.
More ominous is long-term competition.
Enormous discounters such as Wal-Mart and Target are gaining momentum, PetSmart has a fierce rival in Petco, and some pet owners simply prefer smaller pet shops that seem more personal. Meanwhile, PetSmart's newer stores haven't performed as well as its older ones.
Shares of PetSmart (PETM) are down 9 percent for 2007 following a 12 percent gain the year before. Net income declined 7 percent in its fiscal third quarter that ended Oct. 28, though the company raised its forecast for the full year.
PetSmart has an aggressive share repurchase program and strong cash flow. Significant gains are being posted by its veterinary and grooming services, of which it is the nation's largest provider. Its PetPerks loyalty card has been highly successful, it has been negotiating better prices from suppliers, and it is selling an increasing percentage of higher-priced items.
The consensus recommendation on shares of PetSmart is between "buy" and "hold," according to Thomson Financial. That consists of four "strong buys," five "buys" and 10 "holds."
PetSmart operates 966 North American stores that are generally near large shopping centers, with plans to expand to 1,400. It plans to complete 100 new stores in its 2007 fiscal year. But despite its imposing size, the firm has just 12 percent of the industry's pet supply sales and 9 percent of its pet services. There's plenty of room to grow.
Earnings are expected to increase 22 percent for its fiscal year ending in January 2008 and 13 percent the following fiscal year. The five-year annualized earnings growth rate estimate is 17 percent compared to 14 percent forecast for the specialty retail industry.
Q. CGM Focus Fund has had fantastic returns, but I don't often see it mentioned as a good fund to buy. Is it worth considering? - M.B., via the Internet
A. In most other portfolio managers' hands, this fund would be considered too hot to handle.
But experienced manager Ken Heebner has proven to be bold, intuitive and capable of effectively handling risk. Although his furious trading, big sector bets and concentrated portfolio of 25 or fewer stocks can produce significant sudden drops in value, it is difficult to quibble with his longer-term results.
The $5 billion CGM Focus Fund (CGMFX) is up 84 percent over the past 12 months. It has a three-year annualized return of 38 percent and five-year annualized return of 37 percent. All of those results rank in the top 1 percent of large growth and value funds.
Heebner, who has managed CGM Focus since its inception in 1997, remains the primary reason to invest in the fund.
Industrial materials represent 43 percent of the portfolio and energy 36 percent, and both groups have provided a significant boost to returns lately. The fund also benefited from shorting Countrywide Financial Corp. stock early in the year, based on Heebner's analysis of the subprime lending debacle.
"We recommend CGM Focus because Heebner digs in and backs up his picks with good analysis, but investment in it should be kept to a small portion of an individual's portfolio," said Michael Herbst, analyst with Morningstar Inc. in Chicago. "I would caution not to jump in and then be tempted to sell if it takes a big hit, since you'd miss out on its rebound."
Heebner shifts the fund's market-capitalization emphasis when he sees new opportunities. His continuous portfolio turnover often generates a significant capital gains tax liability for investors.
Besides industrial materials and energy, other portfolio holdings are in telecommunications, business services and technology hardware. Top holdings recently included Vale Overseas Ltd., CNOOC Ltd., Vimpel-Communications, Potash Corporation of Saskatchewan Inc., BHP Billiton Ltd., ArcelorMittal, Cummins Inc., Brazilian Petroleum Corp. and Schlumberger Ltd.
This "no-load" (no sales charge) fund requires a $2,500 minimum initial investment. Annual expense ratio is 1.02 percent.
Q. The results of Janus Research Fund seem strong. Is it worth investing in? - C.R., via the Internet
A. The fund, once known as Janus Mercury, is devoted to investment diversity.
Members of the equity research staff can make smaller portfolio selections, while larger commitments are decided through its analyst sector teams. The goal is to outperform the Russell 1000 Growth Index through adept stock-picking.
The $4.8 billion Janus Research Fund (JAMRX) is up 24 percent over the past 12 months to rank in the top 7 percent of large growth funds. Its three-year annualized return of 14 percent places it in the upper 10 percent of its peers.
"It really fosters a debate atmosphere where you have more than one analyst deciding the bigger picks for the portfolio," said Andrew Gogerty, analyst with Morningstar Inc. in Chicago, who recommends the fund. "Since there is a fine team doing the stock-picking, it is a good alternative to some single-manager-run funds in the Janus lineup that can have more pronounced sector biases."
The analysts have run this fund since early 2006. Portfolio manager James Goff is administrator, overseeing it and rebalancing sector weights to the Russell 1000 Growth Index on a quarterly basis. Janus Global Research Fund is run in the same manner.
Janus Research represents the first management opportunity for many of the analysts and places heavy emphasis upon their ability to convince the sector team about potential holdings. The fund company has stressed improvement of its research staff in recent years and devoted considerable money to this.
Within Janus Research Fund's diversified portfolio of 120 stock names, technology hardware represents about 17 percent, consumer goods and industrial materials each constitute 15 percent, and health care 14 percent. Top holdings recently were Owens-Illinois Inc., General Electric Co., Apple Inc., Cypress Semiconductor Corp., EMC Corp., AES Corp., JA Solar Holdings Co., Celgene Corp., Avon Products Inc. and Reliance Industries Ltd.
This "no-load" (no sales charge) fund requires a $2,500 minimum initial investment and has a reasonable annual expense ratio of 0.97 percent.
"We've had some concerns about recent manager departures at Janus," Gogerty said. "Although that doesn't have a direct effect on this fund, we're watching to see if that puts a strain on the analyst staff."
Q. Is the Perritt MicroCap Opportunities Fund risky or a good investment? - M.K., via the Internet
A. Any fund that invests in the smallest of small companies carries inherent risk, especially when the economy appears uncertain. Such an investment should only represent a small portion of an individual's portfolio.
This fund employs fundamental and macroeconomic strategies to invest in firms with market capitalizations between $10 million and $750 million. It has performed better than most of its peers by avoiding the most speculative, unprofitable or heavily financed companies while successfully seeking higher-quality micro-caps.
The $500 million Perritt MicroCap Opportunities Fund (PRCGX) is up 2 percent over the past 12 months and has a three-year annualized return of 10 percent. Both results rank in the upper one-fourth of small growth and value funds.
"It is a good fund that does well in its niche and has held up this year even though smaller-cap and especially financial stocks have had trouble," said Karen Dolan, analyst with Morningstar Inc. in Chicago. "We like it and consider it most appropriate around the periphery of a portfolio."
An indication of the fund's savvy investing is the fact that 10 percent of portfolio holdings were bought out at a premium by other companies or private-equity investors in the past year. That boosted the returns and provided money for further investment.
Perritt MicroCap Opportunities Fund is managed by Michael Corbett, who has been with the fund since 1999. Former finance professor Gerald Perritt, who launched his namesake fund in 1988, also is involved. They are assisted by three analysts.
They favor attractively valued stocks with favorable growth prospects. Portfolio turnover is low, and the expense ratio of 1.29 percent is reasonable for a micro-cap fund. But because many of the shares it owns are thinly traded, liquidity can be a problem.
Business services represents about one-fourth of the portfolio, with technology hardware, industrial materials and consumer goods other significant concentrations. Top holdings recently were Federal Home Loan Bank of Atlanta discount notes, Apogee Enterprises Inc., Universal Electronics Inc., Aladdin Knowledge Systems Ltd., Natco Group Inc., Force Protection Inc., Michael Baker Corp., Penford Corp., Spartan Motors Inc. and Trinity Biotech PLC.
This "no-load" (no sales charge) fund requires a $1,000 minimum initial investment.
Q. I don't know much about investing, but I want to open an individual retirement account. I was thinking of buying a life-cycle fund because it seems like a good hands-off approach. Are these funds good? - F.R., via the Internet
A. Life-cycle funds are definitely best for individual investors who don't want to make asset allocation decisions as time goes by. Studies have shown them to be more diversified and better-performing than the typical investor-chosen portfolio.
These funds offer investors a mix of stocks, bonds and cash that adjusts over the years, mostly to shift from stocks to bonds as the investor ages and moves closer to retirement. There is usually a target retirement date in the fund's name. Fidelity, Vanguard and T. Rowe Price are among the largest life-cycle fund competitors.
"Because they invest in several underlying funds at the fund company, life-cycle funds are really funds of funds," said Mark Salzinger, publisher and editor of The No-Load Fund Investor newsletter (www.noloadfundinvestor.com) in Brentwood, Tenn. "They're a great way to access several funds with small amounts and obtain cheap diversification."
Life-cycle funds are not well-suited to investors who wish to make their own tactical allocation changes, especially if their life circumstances could change significantly, he said.
Q. My employer offers a Roth 401(k) retirement plan. What advantages does this have over a regular 401(k)? - J.V., via the Internet
A. The Roth 401(k), available only to employees of companies that choose to offer it, combines attributes of a traditional 401(k) with those of a Roth individual retirement account.
"Basically, with the traditional 401(k), you contribute with pretax money and pay taxes on the distributions," said David Wray, president of the Profit Sharing/401(k) Council of America in Chicago. "With the Roth 401(k), you contribute with after-tax money and do not pay taxes on the distributions," provided you're 59 1/2 or older and you have held the account for at least five years.
If you anticipate a higher tax rate while working and a lower tax rate in retirement, the regular 401(k) makes more sense, Wray said. If you expect your tax rate to be the same or higher in retirement, use the Roth 401(k), he said.
Unlike a Roth IRA, you don't lose eligibility with a Roth 401(k) if your income exceeds a certain level. You can contribute the same amount to a Roth 401(k) as a traditional 401(k). You can own both types of accounts simultaneously, but the combined annual contribution limit is $15,500 in 2008, plus a $5,000 catch-up provision if you're 50 or older.
Consult tax and company information for more details before investing.
Q. What is a "coupon" in reference to a bond? - F.R., via the Internet
A. The coupon is the amount the bondholder receives as interest payments.
Although the bond might have actual coupons that are torn off and redeemed for interest, these days such records are more likely to be kept electronically.
"So, if you invest $100,000 at a 6 percent coupon rate, $6,000 is the income generated," said David Bendix, certified financial planner and certified public accountant with Bendix Financial Group in Garden City, N.Y. "The coupon varies based on the bond's maturity, and the longer you go out, the better the coupon you should get."
While the coupon is one consideration when choosing a bond, there are others. The issuer's credit rating is important, with issuers with higher credit ratings likely to be offering lower interest rates. Keep in mind that the higher the interest rate, the higher the risk the investor assumes.
The price of a bond is important. Prices of existing bonds fluctuate depending on overall interest rates. For example, when interest rates rise, prices of existing bonds fall because investors can purchase new bonds at higher rates.
Editor's Note: Andrew Leckey answers questions for Bull & Bear readers only through the column. Address inquiries to Andrew Leckey, P.O. Box 874702, Tempe, AZ 85287-4702, or by e-mail at andrewinv@aol.com.
