Saturday, March 18, 2006

Phantom Trade "Deficits"

Thursday's Wall Street Journal contained an editorial of stunning import. The title was "Trade Deficit Disorder."

While it would be duplicative and overly ambitious to attempt to restate the piece here, let me note the its key points.

First, and most informative, was its reference to a 1776 U.S. Advisory Committee on the Presentation of Balance of Payment Statistics. That group recommended that the words "surplus" and "deficit" be avoided, for their improper fostering of perceptions of, respectively, "good" and "bad" effects.

Second, as I have long believed, the US receives more payments from foreigners, to hold our IOUs, because we have a combination of the most vibrant, productive, and legally safe economy and country on the planet. There is no other country which offers these attractive elements for investor funds.

Third, the piece debunked the commonly-held notion that the US is now a "debtor" nation. Rather, by analyzing and including rates of return on our liabilities and our assets, a Harvard study from the Kennedy School finds that "American assets abroad earn higher than normal rates of return because of noncounted factors....." Since our liabilities are Treasuries, paying much lower rates of returns, we are, still, a net creditor nation in terms of income flows. In fact, the study determined that China is a net debtor to us.

Thus, as I have thought for many years, many pundits have the trade flow situation entirely backwards. It is our country's attractive investment climate that causes it to receive inflows from abroad. They desire access to our innovative economy, our system of strong legal protection of tangible and intellectual property, and our people's business acumen.

As with most strategy and long-term planning, having the right data is critical to making intelligent moves. It would appear most media pundits have been reading the wrong data, and drawing incorrect inferences therefrom.

Blog Name

As time has passed, and I have generated a fair number of posts on a variety of topics, a theme is evidently taking shape.

My brother commented on that, as we discussed my recent GE compensation post. As a result, I've toyed with various new names for this blog. The original one is quite forgettable and nondescript.

Thanks to my brother, who labelled my perspective, "the emperor has no clothes," I am leaning toward some descriptive title of that nature. This one, "The Reasoned Sceptic," attempts to strike a balance.

My partner cautioned me to not be constantly negative, or "angry." However, I pointed out that, because most people are so mediocre, most of my commentary is going to be critical. He agreed. In fact, I owe this revelation to my old boss and mentor from Chase Manhattan. He demonstrated to me, frequently, that using sensible logic and reason, with some facts, typically results in a strategist being sceptical of the schemes being hatched by most (average or below-average) managers.

So, in that spirit, I am trying out this new name for my blog. If you read this and have any suggestions, please feel free to express them, either in a post, or via email.

Google Growth

The past few weeks have seen some interesting stories about Google surface.

First, their CFO announced that revenue growth may indeed slow. Then some internal forecasts appeared in analysts' packages by mistake, causing the stock's price to tumble again. There were all sorts of comments from the Street about how fast growth is perhaps causing mistakes in execution at the firm. Though minor, the ones that appeared were cited as perhaps portending more serious problems at the firm.

I don't know that I agree with all of gravitous inductive reasoning. However, something else occurs to me about Google. As my partner and I discussed the recent company gaffes, he commented about their extraordinary growth and pioneering so many world-shaking information-handling initiatives.

Railroads in the 1800s, and airlines in the last century were both known for causing great turmoil as they rose to prominence. They also were known for having been terrible investments, in the aggregate. A lot of British investors lost a lot of money building and owning American rail lines. Similarly, many investors lost bundles in the fashionable business of airlines.

My point is, companies which participate in truly landscape-changing initiatives sometimes cause so much havoc, and require such vast amounts of capital to do so, that they wind up being mediocre investments. While being fashionable, and drawing competitive responses, sometimes investors continue to assume a later payoff, when, in fact, all the changes have drained value from the entire competitive landscape.

Radically new approaches to problems, like rail, air, and Google, sometimes seem to be so efficient that they fail to earn consistently superior returns themselves, even as they gut older business models and their value-adding structures.

The next few years should be quite interesting, as we see how Google performs over the longer term.

Thursday, March 16, 2006

Acceptance of Limits

Jesse Eisinger, of the Wall Street Journal's "Money & Investing" section, wrote a piece this week concerning how investors might see warning sign's of a company's demise before the management of the same company could.

Within the article, a fund manager is reported to have had a large position in one firm, Lear, a maker of automobile seats and interiors. The manager attempted to urge the management to take some specific actions regarding debt refinancing, which the firm's management evidently chose not to heed.

It appears that one of Mr. Eisinger's favorite topics is to cast institutional investors, such as the fund whose manager he quoted in his article, as frustrated, well-intentioned would-be saviors of incompetently managed firms across the US.

What is it about liquid markets and capitalism Mr. Eisinger and his favorite sources don't get? In my equity portfolio strategy, I select companies whose management I trust. Managements that have a clear track record of unambiguously superior fundamental and technical performance. Why on earth would I want to tell them how to run the company?

More to the point, why would any fund manager buy shares of a firm, hoping to persuade the management to do things differently? Doesn't that strike you as a rather low-probability, indirect and usually futile way to make money for retail investors? Counting on human behavior changing that easily seems to me to be a sure-fire recipe for disappointment.

Fund managers may occasionally win these battles. But it often becomes a private equity play, or, similarly, as in the case of Sears Holdings and Ed Lampert, a case of the fund manager buying the company for a public fund. Thus, his job changes, he owns the problem, and has foregone the benefit of market liquidity.

However, it seems to me that this is needless concentration of investor assets. And a lack of acknowledgement of the practical limits of being an institutional investor. One of the greatest benefits for a modern institutional investor is market liquidity. When a management no longer has the investor's confidence, it is relatively inexpensive and simple to sell the position and buy a more promising company's shares.

Why would any fund manager wish to complicate the already difficult job of out-performing the market by also trying to manage individual companies in his portfolio? And why does Jesse Esinger continue to write about those that do?

Who Will Win the Online Media Access Game?

This week, Amazon announced its plans to offer downloadable video content, for rental or purchase. This is the "other shoe" dropping.

With digital media, entertainment content truly is simply a good which may be stored, inexhaustably replicated and sold at near-zero marginal cost, from any source which legally is allowed to sell it.

Yes, Amazon still has to cut deals with the various IP rights holders to do this, but isn't the handwriting on the wall now? Anybody with a functioning order fulfillment model and enough money can play in this game.

This being the case, I was reflecting on what, among the various dimensions of consumer choice, will ultimately create a dominant online non-real-time video content purveyor? Since sufficient competition will probably exist to force prices within a narrow range, I would expect that it will be the vendor with the superior user interface. Whoever makes it easiest to use existing, and evolving, technology, to access, pay for, view and control the viewing of stored video content will probably dominate the market. Perhaps, like the early Merrill Lynch CMA account, some competitor will even patent an especially successful user interface, in order to protect their market position.

What about real-time video content? As it happens, today's Wall Street Journal featured a page one article concerning online "geofiltering." This is the process by which existing content providers, such as local TV affiliates, are prohibiting geographically unwanted consumers from accessing their program content.

Enter the Slingbox. Two brothers from, where else, California, have developed hardware to allow you to view local content from a different network location. For instance, a consumer could watch programming from the TV in their home by accessing it via the internet and a Slingbox. Think a bit more broadly, and the ability to disintermediate any geofiltered, online realtime video signal becomes obvious. Even if broadcasters employ IP address identification to exclude certain viewers, it's easy to imagine a service developed solely to provide "appropriate" geographic IP addresses, for a price. This was done for long-distance least-cost routing years ago.

It seems to me that the companies who are really in trouble now, as the WSJ article suggests, are the local TV affiliates. How much sense can it possibly make to "sell" the same rerun, or even first run, TV program, to hundreds of local affiliates in a world where it can more easily be accessed on demand from a single URL? There goes hundreds of millions of dollars of ad revenue, and, probably, your local TV station. Perhaps it can combine with your remaining local paper to operate a zip-code-localized information-content provider. But non-local content? How can it possibly economically justify its existence for that in the coming years?

Monday, March 13, 2006

Wrigley: A New Growth Story to Watch?

Saturday's feature Wall Street Journal piece about the Wrigley Company was a breath of fresh air.

The article described the radical break from past "business as usual" management by the current Wrigley heir and CEO, William Wrigley, Jr. It was most refreshing. To judge from his remarks, as reported, Wrigley may well be coming into my portfolio in the near future.

It's always been my contention, given my marketing roots, that any product/market segment can be grown, if one is sufficiently creative. Old stalwarts of seemingly-dead segments routinely get picked off by someone with a better idea for a sleepy niche. Perdue did that with chickens, for example. So why not gum, candy and confectionary items?

The raw innovative and consumer-directed energy that came out of the new Wrigley's mouth are promising indeed. I had actually forgotten that he had stepped up to buy Hershey, when it put itself on the auction block a few years ago.

With so much dismal management incompetence to observe, and on which to comment, it's a real joy to read and write about someone actually understanding the need for growth, risks included. The real risk to a company is not growth, and the uncertainty it can bring, but the certainty of death without growth.

Sunday, March 12, 2006

Goodbye Dubai- The Port Operations Management Case

This week brought mixed feelings for me regarding our American democratic government experiment.

Perhaps never before have I been so proud and supportive of President Bush. His clear-sighted, broad-minded statements of concern for a growing isolationism among Congressional members, and our need for friends among Mideast states in this war on terror, caused me to have new respect and admiration for our President.

At the same time, the voices of many of our Congressional members causes me great concern for our geopolitical and economic well-being in the near- and longer-term. My own state's ill-informed and wrong-headed Senators were at the front of the legislative crowd now displaying a very un-American revulsion to free trade.

What most concerns me about this was voiced, separately, by none other than Tom Wolfe, in yesterday's excellent interview with him, written in the Wall Street Journal. Wolfe focused many of his remarks on the unique greatness of our country, in that it genuinely allows people to be free and express themselves with few limits. By being who we are as a nation, and the best that can be, we are not replicable.

This is very important economically. Friends of mine, especially liberal ones, chide me on the size of US debt held by other nations. I reply that this is no great concern, because they see the matter incorrectly.

Where else on the planet will a wise nation or individual place their trust and wealth? Which other nation offers the rule of law, opportunities to innovate, and our freedoms? We needn't worry yet, because no other nation can absorb the size of capital flows ours can, and also be trusted by the world. The day we need to worry is the day India or China are as trustworthy as is the US on the matter of transparency of government and law, and the unequivocal rule of law.

Thus, it is not good enough to say, "well, India, China, or the UAE would NEVER allow a US company to own port operations in their countries. Why should we be different?"

We should be different because that is who we are as a country. We ARE different. It is what sustains our economic lifeblood and allows us the unique ability to run large trade deficits. We don't so much owe the world, as the world wants part of our economic success, and will pay to gain that access.

In that light, the Dubai port operations management mess is a very troubling behavioral indicator. I believe our President is right to worry about the protectionist, un-American signal it may send to the Mideast Arab states, and to the world at large. This could cause lasting economic damage to the US far beyond what most of our mediocre legislators comprehend.

As usual, in our democracy, we get the government we deserve. A capable President in this case, but 535 ill-informed, small-minded headline grabbers.