Friday, June 04, 2010

Ballmer & Microsoft Roasted On CNBC- Herb Greenberg Returns!

Microsoft CEO Steve Ballmer has been in the news in the past few days.
The Wall Street Journal's All Things Digital conference gave rise to an extensive interview of Apple's CEO Steve Jobs by Walt Mossberg. Jobs made some disparaging remarks about PCs and laptops, intending, many thought, to diss Microsoft.
Ballmer shot back with some rather lame comments, to judge by this morning's Journal article on the topic. Essentially, Ballmer's remarks boiled down to, 'oh yeah? Well, we're going to come out with a tablet, too! So, there!'
But I think by far the more interesting treatment of Ballmer was on CNBC yesterday morning.
Herb Greenberg, the very outspoken and independent-minded analyst who left MarketWatch last year, is back on CNBC. In New Jersey, no less, which had to have been tough to move from Newport Beach, California. Not to mention from one nearly-bankrupt state to another. But, I digress....
Spurred on by Greenberg, several guests and co-anchors spiritedly debated the Apple/Jobs vs. Microsoft/Ballmer/Gates topic.
Greenberg was pretty firm in his contention that Microsoft has just gone nowhere. Either he, or another guest, noted, as I have contended in this blog years ago, that Microsoft's biggest disadvantage is a huge operating system business which hinders its ability to excel in entertainment devices, applications and other software or hardware areas. Someone even called for the spinoff of the unit containing the XBox. Just like I did years ago.
At one point, somebody said that Ballmer simply 'has his head in the clouds,' which I think is being charitable.
As the nearby price chart of Apple, Microsoft and the S&P500Index for the past five years illustrates, Ballmer's Microsoft has done no better than the index, while Apple has shot ahead with a total return exceeding 400%.
Ballmer has completely dropped the ball for his shareholders. One guest argued that you can't even "bring back" Bill Gates because- horrors!- he's still there in a Chairman capacity.
The most stunning and disappointing element of the discussion was when the CNBC blonde female co-anchor, whose name escapes me just now, argued that it wasn't fair to cast the choice as 'Apple vs. Microsoft,' and why couldn't portfolio managers hold Microsoft as one of many tech issues?
As someone with equity and options management experience, I found that comment to be totally inane. Why would anyone take equity risk on a single issue when it performs no better than the diversified S&P, which one can buy for a fraction of the transaction cost?
Of course, this comment came from someone who works for GE, another equity that managers seem to love to hold, while it either loses money or goes nowhere.
At least it was fun to see Greenberg back and firing on all cylinders.

A New Exodus of Traders From Banks To Hedge Funds

Right on cue, with the recent passage by both Houses of Congress of some form of FINREG bill, traders at publicly-held firms are heading for the exits. The exodus was heralded by yesterday's Wall Street Journal's Money & Investing section's lead article, Hotshot Traders Leave Street.

Seasoned traders at several large commercial banks are now leaving to either start their own hedge funds, or take seed capital from established private funds, such as Citadel.

According to the Journal article, several existing hedge funds have created new structures to fund and, thus, capture some of the newly-fleeing talent from the publicly-held banks.

The only comment I would add is that these hotshots are, in reality, something like a third wave of such an exodus. There haven't been that many stellar performers remaining in the publicly-owned finance sector for some years. What we are now seeing is merely the latest purging of top, young talent following a well-worn path to the shadowy world of hedge funds.

This phenomenon ought to give legislators and would-be regulators pause. After all, doesn't that leave commercial bank trading in the hands of lesser talent? And push the better traders into a less-regulated part of the industry, where oversight is far scarcer, and leverage potentially much greater?

Sounds like a recipe for more counterparty risk and heavy sector losses, as the latest batch of smart young things head off to risk other people's money and pay themselves handsomely in the process, doesn't it?

Thursday, June 03, 2010

Warren Buffett, Moody's & The FCIC- Addendum

In my earlier post today, I neglected to mention one important facet of Warren Buffett's testimony before the FCIC.

To expect Buffett to have uttered one iota of criticism of Moodys, or the current government-sanctioned ratings oligopoly, is to overlook the salient feature of Buffett's appearance before the panel.

Buffett's Berkshire Hathaway is believed to hold a substantial portion of Moodys shares, and is reputed to be the latter's largest shareholder.

That, alone, tells you all you need to know about Buffett's remarks before he even approached the microphone.

Buffett wasn't ever going to say anything which could be construed to damn the current ratings oligopoly or Moodys. That would have likely caused a drop in Moodys' stock price, which would bring substantial loss to Berkshire.

Berkshire probably can't unload too much of its Moodys position now, either. Brokers would eventually leak the source of the sales, and the price would plummet.

As a steward of his shareholders' assets, Buffett was duty-bound to be upbeat, gentle and forgiving of Moodys. And the entire sector.

Don't be fooled by Buffett's aw shucks, grandfatherly demeanor. His main objective at the FCIC appearance was to avoid tanking the price of Moodys' equity. Period.

Warren Buffett, Moody's & The FCIC

Watching Warren Buffett's testimony before the FCIC yesterday was somewhat surreal. Called before the panel ostensibly due to his firm's substantial stake in Moody's parent corporation, Buffett did precisely what yesterday's lead Wall Street Journal editorial cautioned against,

"but America's most famous investor won't do his reputation any good if he endorses an oligopoly that has done so much economic harm."

Given the chance to criticize Moody's and its CEO, co-witness Ray McDaniel, Buffett punted rather spectacularly.

He gave the ratings firm a pass, saying that the recent financial crisis involved such a large bubble, in which everyone, even, aw shucks, Buffett, got fooled, that you just can't blame Moodys.

Therefore, it follows, McDaniel, too, is blameless, despite the fact that the ratings agencies were the government-appointed, enshrined keepers of risk ratings.

McDaniels, for his part, showed that, if nothing else, he and his public relations advisers have viewed the videos of various bank CEOs and senior executives testifying before Congress, the TARP oversight panel and the FCIC during the past year or more.

"I care about market share. I also care deeply about ratings quality," was the quote this morning's Journal attributed to the Moody's CEO.

That's pretty hard for me to believe, given what I've read and learned elsewhere about what happened with the rating of structured financial instruments during the housing finance frenzy. For example, there is this post, as well as several others found under the label 'Ratings Agencies,' in the sidebar to the right of this post, and the stories a ratings agency executive of my acquaintance related to me a few years ago. In the latter instance, he portrayed the process of rating structured instruments as one of high-flying, smart guys from investment banks engaging in intimidation, intellectual bullying and the lure of large fees for rating the securities AAA. When the ratings employees would demure, the investment bank staffers would impugn the former's intellect and skills, claiming they 'just didn't get' the nature and risks of the prospective instruments.

Read my post about Terry McGraw's little problem involving a push for growth at S&P's ratings unit. Still think Moodys and/or McDaniel weren't following S&P down a curve of declining ratings quality?

I think the truth of the entire matter was well-captured in yesterday's lead Journal editorial entitled Buffett and the Ratings Cartel.

The agencies' best defense is to claim that what occurred was historically unparalleled and, gosh, they sure are sorry if they were in any way to blame. But, you know, the whole financial universe was wrong about the housing bubble....Warren even says so!

Buffett, for his part, as the editorial contends, wants the legal buffer of inept, corruptible ratings agencies. He and other institutional investors want that government-appointed buffer on which to lean, and behind which to hide, should their own investors or shareholders ever feel like suing them for breach of fiduciary trust.

I particularly enjoyed the Journal's editorial's quote by PIMCO's Bill Gross, from a recent investor letter, that,

"the raters' credit models call to mind "an idiot savant with a full command of the mathematics, but no idea of how to apply them." "

Gross' view is much closer to my own regarding the ratings agencies.

It's very clear from yesterday's FCIC testimony that anyone within arm's length of those agencies, e.g., Buffett, and the agencies themselves, are running for cover, claiming widespread failure of credit quality assessment, and generally ducking all responsibility.

When he wasn't evading any connection with Moodys, Buffett interjected various comments displaying his rapacious desire to make money in any way he could. Remarks like his would have been met with scorn and anger, had they come from, say, Lloyd Blankfein. But Congress and its appointed demi-gods always seem to treat Buffett differently.

Call it, oh, I don't know, crony capitalism?

I wonder how much longer Buffett can gee whiz and aw shucks his way out of these tight corners before he uses up all his cachet?

Wednesday, June 02, 2010

Ingrassia On GM's Bankruptcy

On Tuesday, I wrote this post commenting on Paul Ingrassia's revealing book review in the Wall Street Journal. On a related note, yesterday's Wall Street Journal featured a long editorial by Paul, an old squash partner of mine, and Journal veteran, entitled The Lessons of the GM Bankruptcy.

In the piece, Paul wrote,

"Yet there were plenty of warnings. A dramatic one came in a January 2006 speech by Jerome B. York, who represented the company's largest individual shareholder at the time, Kirk Kerkorian. Unless GM undertook drastic reforms "the unthinkable could happen" within 1,000 days, predicted York (who died recently). As things turned out he was a mere 30 days off."

Well, if being early on predicting GM's demise is remarkable, consider this post from October of the prior year, in which I wrote,

"Judging from where GM and Ford appear to be putting much of their energies these days, I’d say we’re going to be shy at least one major US-based car manufacturer before the decade is out. It may involve a merger among onshore rivals, if Congress is afraid to let so many UAW workers lose their jobs at once through a total financial failure of GM or Ford. But I'm willing to bet there will be one less automotive CEO in Detroit when 2010 dawns."

I admit to not having fingered GM by name, but I believe I was more sanguine, earlier, about a bankruptcy of one of the two, with GM the more likely candidate.

Then I wrote this post in July of 2008, in which I penned a sample letter of resignation and closure of GM by then-CEO Rick Wagoner.

It's not clear to me that you had to be Jerry York to see that GM was heading for real corporate death at accelerating speed. I think Ford was right there with them, except that they had the luck and courage to hire Alan Mullaly before they followed GM into Chapter 11.

Academic Wayne Mascio Confirms My Proprietary Research Findings

Back in early May, the Wall Street Journal published an article entitled Recalculating the Costs of Big Layoffs.

In the piece, a business professor named Wayne Mascio, from the University of Colorado, was quoted as saying,

"You can't shrink your way to prosperity."

Why didn't I think of that?

Wait, I did! In 1996! And published a piece shortly thereafter in Directorship, a magazine for board members. Then I applied the proprietary results in consulting and equity portfolio management applications.

The Journal article goes on to say that Mascio,

"has studied how companies in the Standard & Poor's 500-stock index have performed over 18 years. His conclusion: those who cut deepest relative to industry peers, delivered smaller profits and weaker stock returns for as long as nine years after a recession."

Well, that's nice, but there are so many caveats in the statement as to make it virtually useless for pragmatic management action.

There's another quote that speaks to a nuance regarding layoffs,

"Companies that used the recession to weed out weaker performers and trim bloated bureaucracies will fare better than companies that slashed across the board, analysts say."

Probably true, but how would the analysts know? From my own research experience, that's an extremely difficult type of data element to reliably recover from primary sources.

However, Mascio's work has other significant problems and flaws.

For example, why dwell on a recession? Not every company faces similar market responses in a recession. So measuring based on the admittedly-flexible recognition of a recession's beginning and end will leave the resulting research comparing business performances which aren't necessarily comparable.

For my own work on this type of phenomenon, I took a much simpler approach. Among several basic patterns of performance, I studied companies whose performances had fallen precipitously, with multiple years of bad total returns, then recovered. This not only allowed me to isolate the particular performance pattern, irrespective of the general economy, but also to estimate probabilities of companies successfully returning to consistently superior performances.

Mascio's use of "industry peers" presents problems, as well. In many sectors, competitors are divisions of conglomerates. In those cases, you can't take the top-line profits or total returns of the company and assign them to a particular division. So the ability to use what I believe to be the best metric of business performance, total returns over multiple years, is unavailable.

Many years ago, I was taught by Jerry Wind, a marketing professor at the University of Pennsylvania, that useful research must take account of a myriad of details at the design stage. The availability and reliability of data are paramount, and fudging them will result in unreliable conclusions.

In this case, Mascio's conclusions, as reported by the Journal article, are likely directionally correct. But there's no ability to assign probabilistic confidence levels, or even really compare such results across companies, given the various constraints which, according to the piece, were built into his research.

Tuesday, June 01, 2010

Why You Shouldn't Trust Journalists As Analysts

Paul Ingrassia, the former Wall Street Journal reporter, senior executive and Pulitzer Prize winner, wrote a candid review last week of Alex Taylor III's "Sixty to Zero," a tale of GM's demise.

Ingrassia's opening sentences say it all,

"Many of the journalists who covered the long decline of General Motors that led to last year's bankruptcy were, in their hearts, rooting for the company. Such reporters- I among them- would seize on the occasional piece of good news about GM to write something upbeat. It would be a journalistic coup, after all, to be the first writer to call the company's turnaround. In any case, no one who grew up during GM's heyday, in the 1950s and 1960s, wanted to see an American icon self-destruct."

There's no reason for me to go further in relating Ingrassia's well-written review. He details various pieces Taylor wrote in his effort to tout the ailing firm, and concludes with this quote from Taylor,

"The United States needs a domestic auto industry for its jobs, technology, wealth creation, trading balances and prestige."

Together, Ingrassia's inclusion of these passages tells us a lot about why we should simply not trust most beat reporting on US companies and industries.

Reporters are not sell-side analysts. And, for that matter, we know from the last decade's dot-com bubble that sell-side analysts are, in reality, marketers for the equities which their firms underwrite and in which they make a market.

You'd ordinarily think that a reporter was more objective than an analyst whose firm clearly has conflicts of interest.

Ingrassia's review tells you different. I am not sure Paul meant to open the media kimono quite so widely, but there it is.

It validates one of my very first posts on this blog, from 2005. In that post, entitled Speaking Truth To Power- the GM Situation, I wrote,

"Truly, as I have written in a prior post, this is simply not the company’s salient problem. GM cannot and does not design and produce vehicles which sufficient numbers of people will buy at prices which will sustain the company’s financial health.

You would not know any of this, to judge from the press’ reaction to the agreement. Or Wall Street’s reaction, for that matter.

I now wonder if GM, even in its last acts as a sustainably profitable enterprise, wields enough financial leverage to silence any significant, honest appraisal of its situation.

Do analysts worry that they will be shut out of conference calls if they point to GM’s revenue problems as insoluble? Do the various media outlets worry that they will have seen the last GM ads in/on their medium, should they report candidly about the company’s prospects?

It’s now beginning to seem to me that all these parties, “stakeholders,” if you will, literally have more to gain from a fatally bleeding GM than they do from a merged/acquired/failed GM."

How can we take seriously the supposedly-objective articles we read in the Journal, Forbes, Fortune,, if their reporters later admit they were rooting for their subjects the whole time? Not just biased, but actually choosing stories to paint better pictures of bad situations?

Could this, in addition to a faster news cycle and internet advertising, be a key reason that old media is dying?

How about CNBC, which so clearly tries to cheerlead the equities market? Such as when idiotic NYSE floor reporter Bob Pisani speaks so emotionally about what 'we' want in the market to see it go higher? As if reality is unimportant, and reporting the likely real trend is less crucial than spending on air time boosting any faint reason for viewers and other investors to buy equities?

Ingrassia's and Taylor's admissions prove my point that it certainly makes all business media coverage suspect.

Monday, May 31, 2010

Pawn Stars: Marketing 101

There is a program on the cable History Channel now in its second season entitled Pawn Stars.

A reality television program, the series provides a detailed look into the workings of a Las Vegas, Nevada pawn shop owned by a father and his son, Rick, with the grandson, Corey, and his friend also involved as employees.

For a clear, simple look at how business can be presented in a very understandable manner, it's hard to beat Pawn Stars.

I don't know how many times Rick, the son and co-owner, tells the audience, by speaking to the camera, or a customer, that he will mark up what he buys from them 100%. Thus, his purchasing decisions must include a price that allows for any refurbishment, and still allow him to realize a 100% profit on his acquisition costs.

What this tells you is that Rick and his father, a/k/a "the old man," have simplified their cost accounting to cover overhead with this markup policy. They don't even begin to try to allocated employee costs, utilities, taxes, etc., to individual items. They simply know that by buying something at $100, and re-selling it for $200, on average, they'll make sufficient profits to cover slow-moving merchandise, unsaleable items, frauds, and all other normal operating costs.

On a routine basis, they are presented with some diamond in the rough, such as an old Coca Cola salesman's display case. This was bought, rusted and missing parts, for something like $75. One of their frequently-appearing experts, a guy who restores old vending machines, motorcycles and the like, took a week or so to restore the case to mint condition, and tells Rick he'll be able to get several hundred dollars for it.

As to strategy, Rick frequently tells customers who want a lot more than he will offer on some antique firearm, chest, or other curiosity, that if they choose to sell it at auction, there will be listing fees, selling fees, brokerage fees, and the risk of auction prices.

Today, I saw him refuse a quilt composed of patches which each bore an original or facsimile signature of a celebrity. Rick told the seller that he just wasn't in a position to buy the item for tens of thousands of dollars, in hopes of finding one buyer who would happen to drop into his pawn shop and buy it for twice that price.

Instead, he counseled the would-be seller to contact an auction house.

The guys at that pawn shop really have an instinctive feel for market prices and a surprising amount of knowledge across a wide variety of goods. This makes for a very transparent, accessible lesson in the basic mechanics of business.

Know your key competitive advantages, stay within them, and stick to policies and strategies which work. At the pawn shop, their available capital, in cash, knowledge of many items, and end-user pricing sense, plus a large, steady customer flow, allows them to undercut other channels of re-distribution for many niche items.

Were that many other, larger businesses so adept at knowing their limits and their key competitive advantages.