IWERKS TO BUY RIVAL; SHAREHOLDERS REACT NEGATIVELY TO DEAL.

Byline: Dave McNary Daily News Staff Writer

Burbank-based Iwerks Entertainment announced Tuesday it has agreed to buy rival Showscan Entertainment Inc. for $27.4 million in stock to take advantage of the growing market for virtual reality attractions.

But the deal faces strong resistance from Wall Street and institutional shareholders who told Iwerks management during a two-hour conference call they believe the deal is too risky for Iwerks. Management insisted the deal will start producing profits by April 1999.

``There was a very negative reaction expressed during the call,'' said Julie Pearce, an analyst with Red Chip Review. ``People felt this was not the best use of Iwerks' resources.''

The deal, due to be closed in November, brings together the two largest players in motion simulation - giving customers the illusion of movement of screen images by matching them with seat motions through films like ``Devil's Mine Ride'' and ``Dino Island.''

The combined entity will have ride-films showing in 160 locations, 215 employees, a 60-title library and annual revenues of about $60 million. The transaction will have to be approved by shareholders of both companies, with Showscan shareholders owning 32 percent of Iwerks if the deal goes through.

Roy Wright, chairman and chief executive officer of Iwerks, said the combined company will be able to better serve current customers and improve its marketing and sales effort. Wright, who will retain his titles, said the new company will be able to save money by eliminating duplicate functions but did not specify if any of the 41 jobs at Culver City-based Showscan would be cut.

The deal will undoubtedly face a tough sell, based on Wall Street's first reaction. Iwerks shares fell 56 cents to $4.31 while Showscan shares rose 25 cents to $2.94 - far under the $3.66 a share price proposed by Iwerks.

Under the deal, each share of Showscan stock would be swapped for 0.85 share of Iwerks. That ratio values Showscan at $3.66, based on Iwerks' closing price Tuesday. Analyst Kevin Skislock of L.H. Friend, Weinress, Frankson & Presson said Showscan is not worth that much.

``The merger has merits but they are outweighed by Iwerks paying too much for Showscan,'' Skislock said. ``I would recommend against it.''

Iwerks said holders of 1.2 million shares of Showscan, or 21 percent of the total shares, have agreed to back the deal, along with holders of 1.6 million shares of Iwerks stock, representing 13.2 percent of Iwerks shares.

The deal will give Iwerks, which operates about 100 theaters, an attraction within Los Angeles for the first time by taking over Showscan's CineMotion facility at Universal CityWalk. Iwerks said it will also gain better access to the fast-growing Asian market, where Showscan operates 26 of its 60 theaters.

``This solidifies everything for us and really strengthens our core business,'' said Vito Sanzone, vice president of marketing for Iwerks.

Iwerks, which is also in the giant-screen theater and theme-park attractions business, reported Tuesday a loss of $10.3 million, or 85 cents a share, for its fourth quarter ended June 30, compared with profits of $976,000, or 8 cents a share, in the year-earlier quarter. Revenue fell 22 percent to $8.92 million.

The company said $5.6 million of the loss represents AT&T Corp.'s decision to end its sponsorship of Iwerks Reactor Portable Simulation Theaters. Iwerks warned it will be in the red in the first and second quarters of fiscal 1998 because of acquisition costs and other factors.

Iwerks was founded in 1986 and went public in 1993 at $18 a share with shares hitting $37 a few weeks later. But enthusiasm ebbed over prospects for virtual reality attractions and the stock has yet to recover from a 1994 slide.

Showscan was founded in 1984 and went public in 1987. It lost $3.9 million on revenues of $17.5 million for its fiscal year ended March 31.