February 25, 2005
A Lesson from Medical Malpractice Suits
On the way to something else, I ran across an article, from Medical Economics magazine on why some doctors get sued more than others.It’s a bit dated—almost two years old—but the message of the article is applicable to anyone in business, not just physicians:
...... . . researchers from Vanderbilt University School of Medicine have . . . found a strong link between the number of patient complaints filed against doctors and the number of “risk management events” doctors were involved in. . . .
.....The researchers found that less than 10 percent of the physicians generated more than half the complaints, while 37 percent had no complaints lodged against them. Of the 135 events that resulted in malpractice claims, only 8 percent of the group accounted for nearly half the lawsuits. . . .
.....In a previous study of 125 mothers (or other family members) who filed suits over childbirth injuries, the researchers found that many of them cited dissatisfaction with physician-patient communication when asked what had prompted them to initiate claims. Nearly half of these women felt their doctors had misled them—or had not been completely honest—about what happened. Nearly a third said their doctors had not talked enough with them, or answered their questions adequately. Thirteen percent said their doctors didn’t listen to them.
.....In a subsequent study of nearly 900 maternity patients, a Vanderbilt team found that obstetricians who had the most lawsuits were more likely to be named in patient complaints elicited in a survey. Among the complaints: They didn’t listen, didn’t return phone calls, didn’t show concern or respect, or were rude. . . .
.....Boston plaintiffs’ attorney Alice Burkin has been representing injured patients for nearly 20 years. Over that time, it’s become obvious to her that while many doctors make mistakes, only some get sued. “The most important factor in many cases—besides the injury itself—is the quality of the patient’s relationship with the doctor,” says Burkin. “People just don’t sue doctors they really like. We’ve had people come in saying they want to sue some specialist, and we’ll say, ‘We don’t think that doctor was negligent. We think it’s your primary care doctor who’s at fault.’ And the client will say, ‘I don’t care what she did. I love her, and I’m not suing her.’
..... “On the other hand, I once had a breast cancer patient who wanted to sue her internist for delayed diagnosis, even though we felt the radiologist was clearly at fault,” Burkin recounts. “But this patient had been going to the internist for five years, and in all that time, he’d never taken time to really talk to her. ‘He never looked at me as a whole person,’ the patient told me.
..... “All of our clients have had bad medical results,” Burkin adds. “But when a patient has a bad result, the doctor has to take the time to explain what happened, and to answer the patient’s questions—to treat him as a human being. The ones who don’t are the ones who get sued.” . . .
This article could probably go on to say, if the subject wasn’t malpractice suits, that this group of physicians also have the highest amount of patient attrition over time. I would bet that the same study, applied to professional and services industries, would yield exactly the same result.
Let’s flip it around on the lawyers for a second. The highly talented yet supercilious attorney is much more likely to lose clients—or worse—than the lawyer whose skills are satisfactory, yet masters the ability to emphasize with their clients.
It’s true for investment advisors, painters, bankers, and interior decorators, too.
Posted by John at 9:53 AM | Comments (0) | TrackBackWal-Mart at the Unforgiving Mercy of the American Consumer
Wal-Mart is a victim, argues, James Surowiecki, the ever-insightful financial columnist for the New Yorker and author of the excellent book The Wisdom of Crowds. The company is at the unforgiving mercy of the American consumer:
...... . . It’s certainly true that manufacturers have a lot less pull in the marketplace than they used to. But they haven’t lost it to Wal-Mart and Target. They’ve lost it to you and me. The real transformation of the past thirty years is the rise not of the American retailer but of the American consumer. That’s why Wal-Mart is so tough to negotiate with, and so relentless in its quest for lower prices and lower costs. American consumers now consider it their due to have access to a wide variety of cheap, reliable goods. Their allegiances are fickle; brand loyalty is in fast decline. Wal-Mart is often spoken of as the most powerful company in the world, but it earns less than four cents on every dollar of sales, and its profit margins have stayed roughly the same year after year—which means that when it cuts costs with suppliers it passes along those savings to the customers, instead of padding its own bottom line. Wal-Mart can’t charge more; if it does, its customers will go elsewhere. The same is true of Target and Costco. In a sense, Wal-Mart is the elected representative of tens of millions of hard-bargaining shoppers, and, like any representative, it serves only at their pleasure......Several developments in the past three decades have combined to increase consumer clout. The Federal Reserve’s war on inflation got people accustomed to stable prices. Laws changed—until the seventies, it was actually illegal in many states to sell goods for less than the manufacturer’s suggested price. A sharp rise in the quality of most products narrowed the difference between big brands and upstarts, and an influx of foreign products dramatically increased competition. Finally, the explosion in information available to shoppers—from Consumer Reports, in the beginning, to the Internet today—made it much harder for manufacturers to get away with selling junk.
.....Wal-Mart and other superstores contributed to the trend. They undercut their competitors, and forced the rest of the world to adapt. But now Wal-Mart is stuck; it has no choice but to keep selling things cheap. That’s what it does. Which means Procter & Gamble—even super-sized—is stuck, too. . . .
This understanding of Wal-Mart is importantly insightful. Their relationship to the customer is based almost entirely on price, hence its slogan, “everyday low prices.” Contrast Wal-Mart’s situation to that of Starbucks, for example, whose relationship with its customers is based on a variety of factors totally unrelated to the price of the product.
In fact, Starbucks doesn’t even serve the best tasting coffee, at least according to ratings like Consumer Reports., Consumer Reports ranks Eight O’Clock coffee higher than Starbucks. (As our friend Michael Coles will tell you, Consumer Reports ranks Caribou Coffee number one.)
Starbucks’ relationship with its customers is based on Ray Charles. It is based on cache, an experience, and a number of other nouns unrelated to price. This difference explains the difference in profit margins; based on the two companies’ latest quarterly results, Starbucks earns almost triple amount of income relative to sales that Wal-Mart does.
The spot of maximum danger, however, is the middle point between “price” and “experience.” The department store industry, for example, has been firmly entrenched in this position for several years, explaining their inexorable decline.
Consider also the sock business. If you’re not offering an “experience” like Mixzup, a start-up run by a Dover, NH mom, you’d better be the low cost purveyor of a plain vanilla product like crew socks,. The price of one is $10-$12 a pair, and the price of the other is $1 a pair. Being in the mushy middle of these two alternatives is probably the recipe for extinction.
This model is not just applicable to retail goods. In financial services, the retail brokerage business run by a Merrill Lynch, Smith Barney, or Wachovia is at risk in that dangerous middle ground, in our view. The “price” side, represented by companies such as Schwab, E*Trade, Ameritrade, biting from one end, and the “relationship” side, represented by a variety of private, boutique wealth management companies, chomping from the other, place traditional retail brokers at grave risk over the long run, in my view.
The buying public seems to have two separate and distinct silos—price and experience/relationship—for every almost every vendor they choose, based on their individual tastes and preferences. If a business isn’t firmly planted in one of those two positions, such an enterprise is likely to be a zombie.
Posted by John at 9:49 AM | Comments (0) | TrackBackFebruary 24, 2005
Considering Consideration
The Financial Times reports ($) on a study which finds, not surprisingly, that the consideration paid in an acquisition (cash or stock) is a key factor in predicting the acquirer’s share performance in subsequent years:
. . . Some studies suggest that deals paid for in cash, rather than stock, tend to generate better returns for investors in the acquiring company. A Citigroup study of US acquisitions between 1990 and 2002, for example, found that cash-financed transactions outperformed the industry by 4.3 per cent in a two-year period; stock-financed deals, by contrast, underperformed by 5.2 per cent.
Why? One reason may be that cash-financed deals raise pressure on acquirers to extract the value they perceive in a target. After all, interest payments focus the mind. Alternatively, stock financing may be not so much a cause as a marker of deals that are tricky to implement: mammoth acquisitions of publicly owned businesses, say, rather than manageable bolt-ons.
. . . cash does not guarantee a successful outcome. And investors should note another Citigroup finding: on average, the market's initial reaction is a good guide to whether the deal will dazzle, or disappoint, in the longer term.
Quite simply, issuing shares to buy another company has fewer immediate checks and balances than cash deals which may require the blessing of the bond market. Bond investors are generally more sober-minded than equity buyers, as they pay close attention a very basic equation: the ability for timely repayment of interest and principal.
If the bond market sours on an acquirer’s deal, that acquisition is much less likely to get completed. Serial acquirers issuing shares to do deals needed to pump earnings can’t be worried too much about the equity market’s reaction to any individual deal, since they have to have that acquisition. If the deal doesn’t happen, the earnings music stops and they’re standing there without a chair.
I find the final point of the FT article particularly interesting, as will shareholders of Proctor & Gamble and SBC Communications. P&G shares fell about 5% from a few days before announcement of the Gillette acquisition to a few days afterward. SBC shares fell about the same amount in the days surrounding its announcement of the AT&T purchase.
Posted by John at 2:02 PM | Comments (0) | TrackBackFebruary 23, 2005
Forward Thinking Leadership in Economic Development
Continental Airlines and American Airlines were awarded rights to begin passenger service to China starting later this year and in 2006. American’s route will be Chicago-Shanghai, and reflects one small piece of a concerted effort by Midwestern leaders to attract Chinese investment. The Financial Times recently reported ($):
. . . in the past 12 months a wave of Chinese companies has shown interest in the manufacturing heartland of the Midwest for the first time. . . .
Anita Tang, managing director of Royal Roots, a Chicago-based US-China business consultancy, says: "In China I probably get inquiries three to four times a day. I think it's going to be overwhelming; that's why we're spending over half our time developing it." . . .
In the Midwest signs of serious interest from Chinese companies have prompted soul-searching in a region that is acutely aware of manufacturing job losses caused by competition from low-cost Chinese manufacturers.
Chicago has a tiny Chinese population compared with the west and east coasts, and the Midwest is still little known in China. The region has to work hard to attract the substantial Chinese investment that could come to the US in the next decade. . . .
With hopes that Chinese investment could rival the levels seen from Japan, there is concern that the Midwest does not miss out again, even if it means attracting funds from a country blamed for job losses in the region.
"The opportunity is there for the Midwest to become the rustbelt again so it's all about attracting the right new players," says Robert Collins, a senior executive at Aon, the Chicago insurance broker that was the first foreign company to secure a joint venture insurance broking licence in China. Aon recently secured Lenovo as a client.
Marshall Bouton, president of the Chicago Council on Foreign Relations, says: "It's already late. Chicago and the region need to be looking down the road five to 10 years when Chinese companies will start to come in greater numbers." Some are starting to address the issue. Six months ago former Illinois senator Adlai E. Stevenson was named chairman of the newly formed Midwest US-China Association, whose mission is to attract Chinese investment into the Midwest. In December Chicago mayor Richard Daley led a delegation of businessmen, including executives from Boeing, the aerospace and defence group, and JPMorgan Chase, to Shanghai as part of a new "Shanghai-Chicago Dialogue". Chicago's two futures exchanges have been forging ties with the Dalian Commodity Exchange and the Shanghai Futures Exchange. . . .
Tian Dei You, commercial counsellor at China's consulate in Chicago, says a shared interest in manufacturing will continue to drive Chinese companies to the region: "China and the Midwest are really complementary, that's why so many Chinese companies are interested in coming here."
Tennessee Senator Lamar Alexander often relates the story of when, as a newly elected Governor of his home state in 1979, he and his peers met with President Jimmy Carter. Carter told them to visit Japan and persuade the Japanese "to make in the U.S. what they already sell in the U.S." In short, "ask for the order."
Alexander took the challenge. He led a consortium of business and political leaders to Japan, selling the advantages of locating manufacturing facilities in Tennessee.
Sure, he received the usual carping from editorial writers and political opponents about “wasteful junkets.” He was criticized for trying to attract companies like Nissan to come to a state which at the time had never manufactured a single car before.
Nissan indeed made the decision to build a truck plant in Smyrna, Tennessee. They were following not long after by tire maker Bridgestone. Other non-auto related Japanese companies came, including Sharp. Following the lead of the Japanese, U.S. companies such as General Motors’ Saturn Corporation and semi-truck maker Peterbilt Motor Company decided to build plants in Tennessee.
To date, Nissan North America has produced 4 million vehicles from two different Tennessee plants. Almost 160 Japanese-owned facilities have invested almost $10 billion in Tennessee and employ about 42,000 people.
Tennessee ranks fifth among U.S. states in automobile production and sits right in the center of what is now known officially as the Southern Auto Corridor. Roughly 159,000 Tennesseans are employed in the industry, accounting for 38 percent of the state’s total manufacturing base.
The state is home to more than 1,000 automotive suppliers. About 400 of those suppliers have announced plans to expand their existing facilities, representing additionally capital investments of approximately $1.1 billion.
We have contended for some time that Chinese foreign direct investment in the U.S. is poised to expand significantly over the next decade. It’s time to “ask for the order.”
It takes forward thinking, independent-minded leadership to be sitting in the Midwest, a region hurt by the loss of thousands of manufacturing jobs, and actively court investment and trade with China. Their efforts will bear fruit. Congratulations to those Midwestern leaders.
Posted by John at 7:10 AM | Comments (0)A First in Chinese Banking
Here’s a first in Chinese banking: a foreigner has been hired as a senior manager for a major Chinese bank, reports the People’s Daily. Lonnie Dounn from the Hong Kong and Shanghai Banking Corporation (HSBC) has been hired as the chief credit officer for the Bank of China. Dounn has been overseeing HSBC’s risk control apparatus in the Asia Pacific region since 1998.
This hiring comes on the heels of a meeting the China Banking Regulatory Commission held with management of the country’s “Big Four” banks, during which the banks were warned of tough punishment for fraud and poor lending practices.
Posted by John at 6:56 AM | Comments (0) | TrackBackGrowing Hispanic Media
Hispanic Business reports that Hispanic media on the whole will grow 11% in 2005, while mainstream media’s growth may trail by as much as 4%.
Posted by John at 5:01 AM | Comments (0) | TrackBackFebruary 22, 2005
Lowe's: Needing Home Depot to Survive
Bob Tillman just retired as CEO of Lowe’s, and in doing so, graciously gave some credit for Lowe’s success to his principal rival:
. . . Home Depot's nationwide growth binge in early 1990s forced North Carolina-based Lowe's to rethink its strategies or drop out of the race, says Robert Tillman, who steps down today after 42 years with the company.Lowe's overhauled its stores, enlarging and designing them to appeal to women. It grew from a regional operator to the nation's No. 2 home improvement chain, behind Home Depot.
"We got a little lucky," said Tillman in a phone interview from his office at Lowe's headquarters. "As much as they aggressively wanted to put Lowe's out of business, they helped us survive." . . .
Competition is good not just for customers, but for good companies and their shareholders. The best companies quickly learn from their threats and adapt to them, saving jobs and shareholder wealth over the long haul. Companies operating without strong rivals, however, inevitably become the corporate version of a wildebeest, an ungainly pack animal ripe for the picking by more lithe competitors.
Posted by John at 10:23 AM | Comments (0) | TrackBackThe Moaning of the SBC Wildebeest
In the wild, wildebeests moan constantly. Corporate wildebeests do as well, seeking government-mandated insulation from competition. Former hedge fund manager Andy Kessler hears the moans from SBC and its peers as he analyzes the SBC-AT&T deal:
. . . Dig deep enough, and you’ll figure out that SBC’s fate hangs on the thread of a carefully worded section of the Orwellian named Telecommunications Reform Act of 1996.
Congress was duped by Reed Hundt into thinking they were getting real competition. The ’96 Act insisted that regional Bells should share their lines with others, and voila, competition. Not so. Tucked in the legalese were pages of gobbldey-gook on how to set prices to share these copper wires—a formula known as TELRIC, total element long-range incremental cost. Rather then use historic costs that with depreciation would likely be close to zero, TELRIC is a fuzzy future cost. Its pie in the sky—the hypothetical cost of stringing new phone lines today.
But that’s like figuring the price of getting to Europe using the hypothetical cost of digging a tunnel under the Atlantic Ocean, instead of computing airfare. It gives Bells a license to steal. Only a fool would string copper phone lines today—you’d run fiber capable of gigabit speeds—yet copper is how we determine prices.
A phone call is just 16K of data bandwidth. The math is easy. Based on current gigabit fiber line monthly fees, the value of phone service is a meager 1.6 cents per month. That’s it. Amazingly, SBC charges $18-$22 and rising per month and complains that’s below their costs! (By the way, that’s what AT&T does for businesses today—runs data lines of fiber to bypass SBC and lower corporate phone costs.)
Current line-sharing costs are not just slightly off, they are on a different planet. So how does SBC, Verizon, Bellsouth or Quest transition from phone-company to data-company? They don’t. They pray TELRIC is written in stone. . . .
Companies like SBC and Verizon aren’t just praying in the First Church of TELRIC, they’re putting lots of cash in the offering plate as it goes by. According to the Center for Public Integrity, SBC has expended almost $73 million related to lobbying since 1998. They’ve made over $10 million in political contributions, split fairly evenly between both parties.
The point for investors, as Kessler rightly implies, is that companies that have to get Washington to set the competitive landscape for them are generally poor investments. The difference between 1.6 cents and $18-$22 is simply too great for a free market place to ignore. As we heard from Walter Wriston, the market always proves to be bigger than Washington.
Posted by John at 8:50 AM | Comments (0) | TrackBackFebruary 21, 2005
Will India Answer Wal-Mart's Knocking?
Wal-Mart is not yet in India, but they’re itching for the opportunity, without a doubt. A.T. Kearney’s 2004 Global Development Index (pdf) ranks emerging markets by the size of the opportunity they offer to retailers; in their survey, India second only to Russia (yes, ahead of China). Bloomberg columnist Andy Mukherjee notes that just 7% of India’s households, in aggregate, have purchasing power which surpasses the entire countries of Brazil and Turkey. He goes on to examine the retailing opportunity and obstacles in a excellent overview:
Posted by John at 8:55 AM | Comments (0) | TrackBack. . After years of speculation that an end to the ban on foreign ownership was imminent, a government minister this month announced that a new policy on investments in retail will be announced in two months. The new regime is expected to relax the rules just enough to give a foothold to global majors without upsetting the government’s communist backers too much.
"We will have to ensure that foreign investment in retail doesn’t replace or displace existing retailers," Indian Trade Minister Kamal Nath told reporters in New Delhi. . . .
Mohan Guruswamy, chairman of New Delhi-based think tank, Centre for Policy Alternatives, wrote recently in the Hindu Business Line newspaper that if each of India’s 35 biggest cities gets a Wal-Mart, and if the Indian stores replicate the U.S. chain’s employee productivity, 432,000 people will lose their jobs.
The other argument against FDI is the "infant industry" case. How will Indian chains such as Crossroads and Shoppers’ Stop compete with the likes of Wal-Mart, which, as Guruswamy says, "will be able to sustain losses for many years till its immediate competition is wiped out?"
If Wal-Mart is such a big threat, how come half of the sales in the $3.8 trillion U.S. retail trade industry are still generated by single-store businesses more than four decades after Sam Walton opened his first store in Rogers, Arkansas?
Conventional wisdom says that not all FDI is equally wholesome. The type that comes in seeking to efficiently utilize a country’s natural resources and labor is good; the kind that only seeks a market – like in banking or retail – should be shunned.
"There is a general misconception that market-seeking FDI in domestic sectors such as retail yields little development impact," says a recent World Bank study by researchers Vincent Palmade and Andrea Anayiotas. "The opposite is true."
"FDI in retail," the authors explain, "has been a key driver of productivity growth in Brazil, Poland, and Thailand, resulting in lower prices and higher consumption. Large-scale foreign retailers are also forcing wholesalers and food processors to improve. And they are now becoming important sources of exports: Tesco in Thailand and Wal-Mart in Brazil are increasingly turning to local products to feed their global supply chains. . . "
IBM: Using Open Source to Remake Itself
Speaking of reinvention, IBM is using open source for its own reinvigoration, as CNET reports:
. . . Buoyed by the success of cooperative ventures promoting Linux in Brazil and a few other developing countries, IBM plans to spread its open-source philosophy to other parts of the globe in 2005.
....The program involves sponsoring faculty awards at universities, erecting Linux competency centers where local application developers can hone their skills, and collaborating with venture capitalists to form indigenous start-ups that in turn could become the bedrock for local, autonomous IT activity. . . .
"It is an even chance that someone in Russia or China will come up with the next big thing," said Andrew Clark, director of strategy and market intelligence for the venture capital group at IBM. "It is literally a war for the best and brightest. If we don’t get there, somebody else will."
In 2004, IBM concentrated on establishing the program and spent most of its energy on the "BRIC" nations: Brazil, Russia, India and China. In 2005, the company will increase its efforts in those countries but will also begin outreach programs in Eastern Europe and elsewhere, Clark said. . . .
Microsoft, Intel, Hewlett-Packard and Advanced Micro Devices have all started to train their eyes on the growing mass of consumers and businesses in emerging markets.
Most of these programs follow the same general outline. The multinational companies try to jump-start local Silicon Valley-type hotbeds of tech activity, in the hopes of one day turning a region into the next China.
IBM’s strategy differs slightly. The company is not primarily interested in selling services or software to local markets. Instead, it wants to identify and groom local talent that, ideally, will develop technology that IBM can then sell to its mostly existing customers in developed nations, Clark said. . . .
"We look at where the gaps are in our ability," he said. IBM uses what it calls its GAP (growth alliance program) procedure to identify indigenous talents–online game technology in South Korea, for example, or semiconductor design in China–and plot it against international demand.
In 1998 Fortune magazine quoted Bill Gates thusly: "Although about three million computers get sold every year in China, people don’t pay for the software. Someday they will, though. And as long as they’re going to steal it, we want them to steal ours. They’ll get sort of addicted, and then we’ll somehow figure out how to collect sometime in the next decade." Seven years later, the addiction appears to be tied to Linux, not Microsoft.
Posted by John at 8:35 AM | Comments (0)A Whiff of Decay at Microsoft?
Our pal Coty Rosenblath alerted us to an interesting commentary by Michael S. Malone, who pens a regular “Silicon Insider” column for ABC News. The whiff of decay at larger companies is sometimes barely noticeable, Malone writes, yet its presence almost inevitably augurs major difficulties, as was the case with Silicon Graphics and Hewlett-Packard. Malone’s nose is currently twitching over Microsoft:
...... . . Great, healthy companies not only dominate the market, but share of mind. Look at Apple these days. But when was the last time you thought about Microsoft, except in frustration or anger? The company just announced a powerful new search engine, designed to take on Google – but did anybody notice? Meanwhile, open systems world – created largely in response to Microsoft’s heavy-handed hegemony – is slowly carving away market share from Gates & Co.: Linux and Firefox hold the world’s imagination these days, not Windows and Explorer. The only thing Microsoft seems busy at these days is patching and plugging holes.
.....Speaking of Gates: if you remember, he was supposed to be going back into the lab to recreate the old MS alchemy. But lately it seems – statesmanship being the final refuge of the successful entrepreneur – that he’s been devoting more time to philanthropy than capitalism. And though Steve Ballmer is legendary for his sound and fury, these days his leadership seems to be signifying nothing.
.....There are other clues as well. Microsoft has always had trouble with stand-alone applications, but in its core business it has been as relentless as the Borg. Now the company seems to have trouble executing even the one task that should take precedence over everything else: getting “Longhorn,” its Windows replacement, to market. Longhorn is now two years late. That would be disastrous for a beloved product like the Macintosh, but for a product that is universally reviled as a necessary, but foul-tasting, medicine, this verges on criminal insanity. Or, more likely, organizational paralysis.
.....Does anyone out there love MSN? I doubt it; it seems to share AOL’s fate of being disliked but not hated enough to change your e-mail account. And do college kids still dream of going to work at MS? Five years ago it was a source of pride to go to work for the Evil Empire – now, who cares? It’s just Motorola with wetter winters.
.....None of this should come as a surprise to Gates. I remember in the mid-90s he shrugged off the claims that Microsoft was unstoppable by noting that the electronics industry was so cyclical that no company ever stayed on top for long. In that light, Microsoft had a longer run than most. It is still a well-run company, which argues that its fade will be long and slow, like DEC, rather than a sudden death like Wang. And it may yet come back – there may already be something revolutionary under way in a back lab in Everett or Mountain View – but, like Yahoo! And Apple before it, Microsoft may have to die in order to be reborn. . . .
“Creative destruction” or “reinvention” have become business buzzwords, but they are important tools of survival for large companies. General Electric has deftly managed its own reinvention process over the years; consequently, GE is the only surviving charter member of the Dow Jones Industrial Average.
Behemoths fighting to maintain the status quo are inevitably carved up; whether Microsoft is in this category remains to be seen. One important factor in its favor is $34 billion in cash and zero long-term debt.
Posted by John at 7:12 AM | Comments (1)February 18, 2005
The Appeal of Boring and Beautiful in the Stock Market
James K. Glassman, writing for Tech Central Station, reminds us that boring can be beautiful when it comes to the stock market:
In 1996, a couple of marketing professors named Thomas Stanley and William Danko transformed some startling research on the habits of America's wealthy into a big bestseller called The Millionaire Next Door. They found that, unlike Donald Trump, most millionaires live with modesty and prize frugality and that, unlike Bill Gates, they made their money from boring businesses in quiet niches. In the book's appendix, the authors provide a list of popular millionaire occupations. Among them: owning ambulance services, cafeterias, funeral homes, mobile-home parks and meat-processing plants. The very rich head companies that control pests, distribute wholesale groceries, offer tug-boat services and manufacture curtains."Typically," write Stanley and Danko, "it's…mundane categories of businesses that provide wealth for their owners. Often dull-normal industries don't attract a great deal of competition, and demand for their offering is not usually subject to rapid downturns."
There's an important lesson here for investors in stocks. As a shareholder, you should always think of yourself as an owner, or a partner, in a business. "Focus on companies, not stocks," writes one of my favorite sages, H. Bradlee Perry of Babson Capital Management. The businesses that produce American millionaires deserve your attention. Dull, in other words, is good.
Of course, dullness is in the eye of the beholder. There's no definition, no Mundane 500 Index to track. My strong suspicion, however, is that, over the long run, stocks of companies in dull businesses have outperformed stocks of companies in sharp ones. . . .
. . . many wallflower stocks are priced inefficiently -- often too low. Such anomalies really do exist, even in a generally efficient market. As Warren Buffett wrote to his Berkshire Hathaway shareholders in 1988: "Observing correctly that the market was frequently efficient, [academics and Wall Street pros] went on to conclude incorrectly that it was always efficient. The difference between these propositions is night and day."
If the market were always efficient, Buffett wouldn't be worth $41 billion.
There’s a very important related lesson, however, one which Buffett also preaches heavily, by the way. If you read Stanley’s book you don’t just find wealth created from “mundane” industries. The group of people Stanley profiles also kept within their circle of competence in creating their wealth. They typically didn’t jump around from one industry to another.
In investing, there’s nothing wrong with sticking to what you know. Doing so improves the odds you’ll do well. That’s what we preach around here.
Posted by John at 7:51 AM | Comments (0) | TrackBackFebruary 17, 2005
Another Nail in the Coffin of the Recording Industry
Speaking of the twilight of sovereignty, we just witnessed another nail in the coffin of the recording industry as we know it. Consider the case of Maria Schneider, who won a Grammy during Sunday's awards for her album "Concert in the Garden." Not one copy of "Concert in the Garden" has ever been sold in a record store. CNET News.com reports:
. . . Schneider, 44, financed her Grammy-winning album through an Internet-based music delivery service called ArtistShare that opens the financing of production to dedicated fans.
Schneider said she believed she might be the first artist ever to win a Grammy for an album distributed solely on the Web. But she said that other musicians had already approached her about trying similar experiments of their own.
"It's been very gratifying for me. It's a new way for fans to be closer to artists and artists to be closer to fans," Schneider told reporters after receiving her award.
"They (fans) came into the project long before I completed my CD," she said.
Schneider, who was ArtistShare's first participating artist, said she had funded the cost of her original budget before she started recording, an anomaly in recording, particularly with jazz albums.
The "Concert in the Garden" CD was limited to 10,000 copies, with 9,000 available for pre-order to participants and 1,000 held in reserve for later auction, through ArtistShare.
"This record cost $87,000 to make. I already made my money back," she said. "I'm not splitting the profits with the distributor, the record store and the record company. It's working so well for me". . .
It's an active affirmation of "The Long Tail" theory, so well articulated by Chris Anderson in Wired magazine last fall.
Maria Schneider's website is hosted by ArtistShare, a service allowing direct communication--even collaboration--between an artist and their fans. Schneider's site includes its own free streaming radio of Schneider's work, which I'm listening to as I write these words.
How long do you think it will be until an artist wins a Grammy without selling a single physical copy of their work?
Posted by John at 8:52 AM | Comments (0) | TrackBackMore Wisdom From Wriston
We just featured some comments from former Citigroup Chairman Walter Wriston, in probably his last extensive interview prior to his recent death, on CEO compensation and the role of compensation consultants. In his conversation with A.J. Vogl, editor of Across the Board, Wriston also spoke on one of his favorite topics, the twilight of sovereignty:
Let's talk more broadly now about the outlook for the economy. In the last issue of Across the Board, I interviewed Pete Peterson, and he argued that a financial meltdown is imminent.
Pete's been singing that song for twenty years, and the weather outside ain't in meltdown yet. The facts he has are wrong. The deficit of the United States as a percentage of GNP is very low and manageable. There ain't no meltdown. He has an agenda, and that's fine -- it's a free country. But I don't know any economist who agrees with him about it, and I hang out with Milton Friedman and Gary Becker and George Shultz and all these guys. They all say, Forget it -- it's ridiculous. He doesn't address the deficit that means something, and that's Medicare and Social Security, to say nothing of the Army-Navy pension fund, which is trillions of dollars.
I had lunch a while back with Bob Rubin -- he was nice enough to ask the old crock over. He said, You and I don't agree about things, do we? I said, No, Bob, I think we don't. So he said, What's your beef? I said, Well, the famous lockbox of Social Security has $1.2 trillion of IOUs and no cash. And you took that money and you paid down the public debt and the trumpets blew, and your grandchildren won't have to pay it off. But how the hell do you think you're going to redeem those IOUs? There are three ways. Print the money? Bad news. Get Congress to appropriate the money? Forget it. Borrow the money? Yes. So the federal budget includes the Social Security trust fund as an asset.
Government accounting makes Enron look like a bunch of boys playing with marbles. It's just terrible. In fact, one of the interesting things is that Congress requires that the comptroller report to them every -- I think it's April 1. And he said in his last report, The internal controls of the federal government are so bad that I can't give any assurance that the numbers in this report can be relied upon by the public.
If Peterson's favorite topic is meltdown, yours appears to be "the twilight of sovereignty," which, of course, was also the title of a book you wrote in 1992.
And which Thomas Friedman repackaged ten years later.
What happens when night falls?
That's a good question. George Shultz, who is one of my best friends, read the book when it first came out, and we went down to Washington and had a debate about it. He said that if you don't have a sovereign government, then who the hell do you deal with if you've got a problem? Which is true, of course, and that's the problem with Palestine. So sovereignty is important, but with the Internet the power of central governments has attenuated and will continue to attenuate. . . .
The argument is made that multinationals will take over the powers of the state.
Yeah, the arrogance of international corporations and so forth. The answer to that is that they can't. I live at UN Plaza, at 49th Street. I can't park on the street because I don't have diplomatic plates. But if I'm the third undersecretary from Bangladesh, I can park any goddamn place I want. And if I'm drunk and disorderly or if I kill someone, the worst thing to happen to me would be I'd be ejected from the country. . . . But the sovereigns can no longer act capriciously without attracting an enormous audience, and that attenuates their power. . . . We see it in the Tom Brokaws and crazy Dan Rather. Nobody's watching them anymore. Why not? People are on the Internet or they're on cable.
So you see the Brokaws and Rathers as comparable to the sovereign states.
They used to be, because they were a monopoly, and now they're not a monopoly.
Because information recognizes no borders?
Yes. You can't stop it, just as you can't stop the power of the market. The market is more powerful than governments. Now, you can argue that that's bad -- and you may have a point -- but I'm saying that's the reality, and you can see that power in action every day of the year. Actually, the power of information flowing through the Internet can subject "arrogant multinational corporations" to the same deconstructive tendencies Wriston sees for government and the media.
Actually, the power of information flowing through the Internet can subject "arrogant multinational corporations" to the same deconstructive tendencies Wriston sees for government and the media.
Posted by John at 8:40 AM | Comments (0) | TrackBackGrowing Hispanic Homeownership in California
A USA Today article on "new urbanism" and Latinos mention that one-third of California homebuyers had Hispanic surnames in 2004, up significantly from 2002's experience of under 20%. Increasing incomes lead to greater home ownership, which has been the traditional way most families in the U.S. have created wealth.
Posted by John at 8:16 AM | Comments (0) | TrackBackFebruary 16, 2005
Illumination on CEO Pay from the late Walter Wriston
Why would a board of directors agree to such a "heads I win, tails I hit the lotto" plan such as the one HP awarded Carly Fiorina? Walter Wriston, former Chairman and CEO of Citigroup, gave an answer shortly before his recent passing. In probably his last extensive interview, Wriston spoke with A.J. Vogl, editor of Across the Board, a magazine published by The Conference Board and read mostly by Fortune 500 executives. I'm sure the readership loved these remarks:
As you look over the business landscape today, how would you say CEOs are performing?
It's an interesting question, and to answer it I ask myself: Where are the business leaders? My mentor George Moore would have described them as "playing mouse." They're hiding. Who are the spokesmen for American business today -- name me one, quick. . . .
So why aren't there business leaders standing at the barricades today? Because they know that if they do stand up, the media, with justification, will ask, Hey, how come this guy earned $200 million last year and got $1 million in registered stock besides -- and, by the way, the interest rate on his deferred comp is 12 percent, and last I looked the federal funds rate was below inflation. Business leaders haven't got an answer for that; they may feel in their heads that their position on compensation is indefensible.
When I retired from the local bank here, there was nobody in my industry who made $1 million a year. You could argue we weren't worth any more, and you'd probably be right, but the difference between $950,000 and $200 million is quite a stretch.
How did executive compensation get so seriously off-track? I hold compensation consultants responsible. They come into your boardroom with their PowerPoint displays and say, We've posted your competitors' salaries on this trend line, and your guy is only in the third quartile -- isn't that terrible? And the board says, We can't have that-put him in the fourth quartile. And then the consultants pack up their little projector and go on to the next corporation, and compensation is ratcheted up again and again and never goes back.
And CEOs walk away with bigger and bigger pay packages.
I'm talking out of school, but it's true. I was the longest-serving director of General Electric and chairman of the comp committee that put Jack Welch in the job. When I read the 10-K and saw what he had coming to him from GE upon his retirement, I went over to see him, although I was retired at the time. I said, Jack, this is going to come back and bite you in the tail. His reply to me was, Did I miss something? Well, I said, you can laugh, but if you're retiring with a billion dollars, which most people could live on if they trimmed a bit here or there, you might think why the hell shouldn't you have a plane for life, an apartment, and your laundry done. But at some point it's going to come back and make the business community look like fools. And, of course, that's what happened when it all came out during Jack's divorce. It wasn't about money so much as it was about belonging to a club: Whatever Jack has, Larry Bossidy has to have, and so on. . .
At the time, did you or any other directors challenge the consultants and say to them, This is a line of bull you're feeding us: You're just ratcheting up compensation. We're going to draw a line in the sand.
We said that; a lot of boards I was on said that. . . . I was on one board where we needed a new CEO, and when I looked at the compensation package I told the consultant, This guy may be able to walk on water without his wings clipped, but it seems to me that this package is excessive. And the headhunter said, Yeah, but I got two or three other offers for this guy -- do you want him or don't you?
Like, take it or leave it?
Almost like that. Finally, I said, OK, let's go ahead. And it turns out this fellow is doing a superb job. All this is to explain how the market was made: It was made by consultants. . . .
The market is also make because of companies that don't pay enough attention to management succession. This responsbiliity, of course, ultimately rests with the board of directors. Companies with poor succession planning are much more likely to pursue the "rock star" outsider CEO, whose pay is much more heavily influenced by the consultant cabal Wriston described.
Posted by John at 2:03 PM | Comments (0) | TrackBack
Success Through Failure for HP's CEO
Graef Crystal, columnist for Bloomberg News and former compensation consultant, reveals that former HP Chief Executive Officer Carly Fiorina actually received more by failing than she would have received if she had succeeded in her job. You can read more by following this link, but an excerpt follows:
The only way Carly Fiorina could have hoped to receive $21.4 million was to be ousted from her post as chief executive officer of Hewlett-Packard Co. . . .
Let's start with the $14 million in cash that she was handed in accordance with Hewlett-Packard's formal severance pay policy. That was 2.5 times her salary and target bonus of last year.
That sounds innocent enough; many companies offer a multiple of 3, not 2.5. Fiorina's target bonus -- the bonus that is hypothetically payable for achieving but not exceeding performance targets for a given year -- turns out to have been 300 percent of salary. In dollars, her target bonus for fiscal year 2004, which ended this past Oct. 31, was $4.2 million.
For a target bonus, that's wildly high. Most companies' target bonuses are in the 100 percent to 125 percent of salary range. I examined bonuses paid for 2003 to 495 CEOs running U.S. companies with market caps of $3 billion or more. I found that in 46 cases a CEO earned an actual bonus -- not just a target bonus -- of 300 percent of salary or more. That's only 9 percent of the CEOs. . . .
It's ironic that during her tenure, Fiorina didn't perform up to target. Her full-year bonuses for the fiscal years 2000 through 2004 ranged from 0 percent of salary in fiscal years 2001 to 293 percent of salary in fiscal 2002. But for the second half of fiscal 2002 and the first half of fiscal 2003, her target bonus was increased to 400 percent of salary from 300 percent in recognition of the heavy lifting she was doing with the Compaq merger. What a hoot. She never came close to earning the target bonus that she has now been paid 2.5 times over. . . .
Crystal goes on to detail a pay package which has to be read to be believed. For example, the compensation committee of HP's board ignored its own criteria and awarded Fiorina an extra bonus of $567,000 during the company's fourth fiscal quarter ended October 31, 2004, just a few months before she was fired.
The line of applicants to become Fiorina's successor must be a mile long, no?
Posted by John at 11:47 AM | Comments (0) | TrackBackFebruary 15, 2005
Economic Troubles in Puerto Rico to Cause Shifts in the U.S. Hispanic Demographic
If the economists at Global Insight are correct in their expectations for the Puerto Rico economy, immigration to the U.S. mainland may rise significantly over the next few years:
. . . Many decisions over the last 20 years have altered the economic relationship between Puerto Rico and the United States. The phasing out of the IRS Special Code 936 (which exempted U.S. firms operating on the island from paying U.S. corporate taxes) over a period of 15 years ending in 2005 and the protests against the U.S. Navy's use of Vieques Island for target practice have not only complicated the business environment in Puerto Rico, but they have has also undermined its economy, which relies on the U.S. military presence in many communities. But not only has the U.S. military recently decided to vacate Vieques, it is now leaving the main island as a whole�creating economic distress for even more communities.
In the past, when things were good on the "mainland," then things were good on the island. But that relationship has been changed and weakened. Puerto Rico now faces competition from the rest of the world, particularly China, Mexico, the Dominican Republic, followed by the rest of Central and South America. Free trade agreements and globalization are making it harder for the island to lure outside investment. It remains a hot spot for manufacturing, though, and has one of the best-educated workforces in the region, something that will help attract firms planning to do business in the "shining star of the Caribbean," as the government advertisement goes. Nevertheless, Puerto Rico has some of the most severe anti-business labor laws in the United States, as well as the largest number of holidays of any modern manufacturing environment, something that works against its competitiveness. . . .
The Mexican Hispanic population has been about 70%-75% of the U.S. Hispanic demographic in recent years. Three major factors are likely to cause a marginal shift in the origins of the Hispanic populace in coming years:
- The economic problems in Puerto Rico identified above
- Probable disuption in the Central American textile industry caused by the lifting of WTO quotas
- Increased job creation in Mexico combined with a falling birthrate.
The combination of this factors could cause an important shift in the country origins of the U.S. Hispanic population, an important consideration for investors and marketers.
Posted by John at 8:55 AM | Comments (0) | TrackBackFebruary 14, 2005
Monkey See, Monkey Do
January 30, 2005: SBC to Acquire AT&T for $16 Billion
February 14, 2005: Verizon Agrees to Buy MCI for $6.75 Billion
February 13, 2005
The Interplay of China's Cost of Labor and its Demographics
Although the common perception in the U.S. is that China's largest "raw material" is cheap labor, the pool, in this case, only runs so deep. China's demographics work against a long-term, low cost labor advantage, particularly in a increasingly global labor market.
Dali Yang, professor of political science at the University of Chicago, effectively melds both of these issues in an excellent article (subscription required) in the latest Far Eastern Economic Review:
. . . Helped by a booming economy, recovering agricultural prices and lower agricultural taxes, the supply of migrant labor from rural areas is tighter than it has ever been in the reform era. Take the Pearl River Delta region in Guangdong province, a bellwether because of its huge migrant labor population. According to an estimate by the Guangdong provincial government, the number of migrants in Guangdong reached 21.3 million in February 2004. One out of every three jobs in Guangdong is held by someone whose household registration is elsewhere, mostly migrants from the countryside in China's interior. Yet in 2004, the region's factories, especially the assembly lines that demand long work hours and offer the lowest pay, experienced difficulties recruiting migrant workers.
This came as a surprise to the many observers who considered China's labor supply inexhaustible, particularly since the Ministry of Labor and Social Security still reports a surplus of labor nationally. But assuming relatively stable economic growth, demographic trends predict that the supply of entry-level. low-skilled industrial workers will now start to shrink. As the number of new 15-year-olds steadily declines over the next 15 years or so, this will translate into more bargaining power for those entering into the labor force in the future. It also means that those who lose their jobs in middle age and beyond will stand a better chance of finding new employment. . .
. . . some employers in the Pearl River Delta have already started to offer more attractive benefits--including better pay and improved living conditions--in order to retain and attract workers. The increase in migrant-labor wages is beginning to make up for the stagnation of recent years. Most interestingly, those cities such as Shanghai and Tianjin that have adopted measures to improve educational access for the children of migrant workers in addition to better work and pay conditions have not suffered from the shortage of migrant labor. Some of the major employers in Guangdong already offer a substantial pay premium plus health care and social security benefits. . . .
Demographic trends are largely inexorable, although they may be shaped on the margin by migration or other factors. In other words, China's labor shortage is "baked in the cake," and in a few years the focus of the economic fear mongers will have to turn to another country or region of the world.
Posted by John at 9:03 PM | Comments (0) | TrackBackFebruary 11, 2005
Learning from HP's Mistakes
Let's remember some bigger picture investing lessons from the travails of HP, courtesy of Forbes publisher Rich Karlgaard. In this morning's Wall Street Journal he offers an editorial (subscription required) entitled "Carly Fiorina's Seven Deadly Sins." His commentary contains some excellent lessons for investors, touching on several themes to which we pay close attention at our firm:
. . . 2. Failing to see the cheap revolution. Carly allowed HP to drift onto the wrong side of the defining divide in the global economy. The cheap revolution has two elements: plummeting hardware costs combined with the Web-mediated ability to run world-class operations from anywhere. Dell is on the right side of the cheap revolution divide. It sells powerful servers for under $5,000 and keeps overhead low in Round Rock, Texas, where the average three-bedroom house sells for $200,000. HP sells servers for tens of thousands and keeps high overhead in Palo Alto, Calif., where the average three-bedroom sells for $1,500,000.
IBM's deal to combine its personal computer business with that of China's Lenovo is one effort by that elephant to get on the right side of not only the "cheap revolution," but the "size revolution" covered below. One way to judge the management qualities of larger companies is the realignments they make to handle these two "revolutions."
3. Failing to see the consumer revolution. A huge shift has occurred in the last five years. The coolest tech products now go straight into the consumer market. Until a few years ago, most got a footing in the business market first: Copiers, PCs and cellphones were expensive products that only became cheap riding the Moore's Law curve over time. Today, the most transformative products and services go straight for the consumer: Blackberry, Apple iPod, eBay, Orbitz, Google, WiFi and so on. Carly has ineffectively maneuvered HP into this consumer field.
The MIT Technology Review has found a group of radiologists using their iPods to move their patient's images across departments and workstations where they work. Business adopts a consumer product.
4. Obsession with size over flexibility. Carly is blamed for ignoring a tech truism that large mergers never work. Maybe we need to go deeper and challenge the very premise of these mergers: that large scale is a requirement of success in the global economy. By merging with Compaq, Carly clearly believed this. But maybe the opposite is true -- that speed and flexibility now trump scale. The cheap revolution has armed startups and small companies with powerful, cheap technology and access to global labor pools. You don't need a large organizational unit to manage your outsourcing initiative. Just go to www.elance.com. . . .
When you hear a CEO talk about scale, just think "bathroom scales." Heavier is unhealthy in today's economy.
Posted by John at 8:45 AM | Comments (0)Who's Really the Stupid Nimrod?
The business press dumping on Carly Fiorina since her resignation from Hewlett-Packard earlier this week seems disingenuous to me. The problem with televised business news is the same problem with televised news in general: there's too much focus on the rise and fall, triumph and failure, success and scandal of "rock stars" whose images are created by those image she garnered.
It's easy to put the blame for HP's failures solely on Ms. Fiorina's shoulders, but the ill-fated deal to buy Compaq did get approved by the board of directors of HP. Funny, I haven't seen any HP board resignations this week.
Moreover, the shareholders of HP also approved the deal. Because of the proxy fight over the deal initiated by Walter Hewlett, a former HP board member and son of HP co-founder Bill Hewlett, the pros and cons of acquiring Compaq were aired ad nauseam. Shareholders had their opportunity to sell their HP shares at that time at much higher prices than today's quote. Moreover, they've had that same opportunity every day the stock market has been open for business since the deal closed.
The lesson: when you make an investment mistake, focus on the reasons you really made that mistake. Did you really do all the homework you should have? Did you believe what you really wanted to believe? Did you let euphoria overwhelm logic?
When I screw up, I'm angry. Sure, I'm mad at the stupid bunch of nimrods to whom I entrusted my firm's and my client's money. I let them know about it, trust me.
Focusing on the anger, however, won't help prevent similar mistakes in the future. After all, I'm the stupid nimrod that made the final decision. Dispassionately analyzing my own mistakes which led to the loss in the first place is the only way I know to effectively prevent the same mistake from recurring. A shareholder in Hewlett-Packard (fortunately we're not one) who wallows in the Carly Fiorina blame game going on right now stands a good chance to be a sucker who'll lose more money in the long run. Don't be one of those people.
Posted by John at 8:23 AM | Comments (0) | TrackBack