Annual Reports: Part 2

I've been reading my annual reports and wanted to share the items I found interesting:

CME Group, Inc. (CME): this company generates revenues primarily from its clearing and transaction fees. (10K: page 31). In other words, it's a clearinghouse. [Update on 4/27/09: CME also "operates two self-regulatory futures exchanges" and offers information products--I did not mean to imply that CME is only a clearinghouse.] "Many clearing firms [CME's major customers] have expressed the view that...clearing houses should be operated as utilities rather than part of for-profit enterprises." (10K: page 41). Read that again--CME's customers are trying to lower their costs and will pressure CME on its margins.

Also, who's running this show? CME has 33 directors on its board. (10K: page 33) Of these 33 directors, 20--a majority--own trading rights on CME's exchange. CME is "dependent on the revenues from the trading and clearing activities of its members. This dependence may give them substantial influence over how we [CME] operate our business." (10K: page 33)

Duke Energy Corporation (DUK): Duke Energy's primary currency rate exposure is to the Brazilian real. A 10% devaluation in the currency exchange rate in all of Duke Energy's exposure currencies would result in a net after-tax loss on the translation of local currency earnings of approximately $10 million in 2009. (10K: page 31).

Interesting partnership with Walmart (WMT): "In a unique agreement with Wal-Mart, beginning in the second quarter of 2009 and for the next four years, our Texas facility will supply wind energy for a portion of the total energy used by more than 350 stores." (Shareholder Letter: page 7)

Goldman Sachs (GS): on the very last page of its 10K, Goldman Sachs lists its "Business Principles." Definitely worth a read, although I choked a little when I got to, "Integrity and honesty are the heart of our business." You can read the list of principles here.

Google Corporation, Inc. (GOOG):

International influence: "when Venezuelan broadcaster El Observador was shut down by the government, it started broadcasting on YouTube." (Shareholder letter)

Hear that, Microsoft?: More than one million organizations use Google Apps today. (Shareholder letter)

The future: "Computers will be 100 times faster still and storage will be 100 times cheaper." (Shareholder letter)

Holy cow, did Google just admit its P/E is too high?: "We believe our revenue growth rate will generally decline as a result of a number of factors including increasing competition, the inevitable decline in growth rates as our revenues increase to higher levels and the increasing maturity of the online advertising market. We believe our operating margin will experience downward pressure..." (10K, page 19).

Despite all its cool programs, Google is basically an advertising company: "Advertising revenues made up 99% of our revenues in 2006 and 2007 and 97% of our revenues in 2008." I wonder what caused that that 2% difference? DoubleClick?

Harvest Energy Trust (HTE): this stock is not a currency hedge. A lower Canadian dollar (relative to the U.S. dollar) actually helps the company's bottom line.

Jack in the Box, Inc. (JACK): first, kudos to JACK for maintaining its stock price. If you had bought and held JACK from January 2008 until now, you'd be about even. In a market where most stocks have dropped 30%-45% in that same time period, JACK and CEO Linda Lang deserve recognition. By the way, to those companies who claim they cannot find women to be on their Boards, how about Ms. Linda Lang? She's the closest thing to a miracle worker you can find right now.

Here's one reason JACK has done well: "Our focus continues to be on premium products versus deep value or discounting messages." (Shareholder letter)

Move towards franchising: "Jack in the Box transitions to a new business model comprised of predominantly franchised restaurant locations." "Our long-term goal is to increase the percentage of franchise ownership to the 70% to 80% range by the end of fiscal year 2013." (Shareholder letter) I hope this doesn't diminish JACK's brand. In my experience, franchisees tend to have worse customer service compared to company-owned locations.

Morton's Restaurant Group (MRT): Anyone with an extra invite to a Boardroom event, let me know: "Morton's continued to aggressively promote private dining for meetings and special occasion events in our private dining Boardrooms...Boardrooms generated approximately 19% of Morton's revenues in fiscal 2008." (Shareholder letter)

New York Times (NYT): "More than 40% of our full-time work force is unionized." (10K: page 11); "As of December 28, 2008, the underfunded pension obligation for our qualified pension plans was approximately $643 million." (10K: page 44).

Panera Bread Co. (PNRA): this one has nothing to do with PNRA's annual report. I just wanted to thank PNRA for its customer service. I recently lost a gift card at Panera Bread's Campbell, CA location. It had about 75 dollars left on it. I spoke to the local manager, who told me to call another PNRA representative. I got in touch with Robert J. and explained what happened. I faxed him my last two receipts (I keep my last two receipts to keep a record of transactions).

Robert told me PNRA couldn't track down the card without the full number on the back of the card, but he would see what he could do. He told me he'd get back to me within a few days. He actually did. Despite PNRA's and most companies' policies that the value of their gift cards will not be replaced if lost or stolen, he re-issued me the card. Now that's good customer service.

Word to the wise: whenever you get a gift card, write down and save the full number on the back, or register it online. Many companies allow an outside contractor to handle gift cards, so there's little communication in how to track the card. As a result, even with the most recent receipt, it's difficult to track down a lost gift card.

Customer service is important. In fact, it's the main way food retailers can differentiate their product. I used to go to McDonald's (MCD), because I really liked their coffee. Over time, some McDonald's locations got lazy. Some of its franchised locations would not offer half-and-half or sugar, or their half-and-half would be left on the counter, unchilled for hours. (This didn't seem to happen at non-franchised locations.) Anyway, when I wrote McDonald's customer service, they apologized and said they would fix it. After some follow-up communications, they contacted the supervisor at the location and copied my entire email to her. I was really upset--I had thought my complaint was anonymous--what customer in a food establishment wants the staff to know he's complained about them? Here is a snippet from my email to McDonald's, in case readers are interested:

The eggnog shake machine wasn't working, so I got a vanilla shake with gunks of yellow in it, rather than a smooth yellow shake. To the manager's credit, she allowed me to substitute another sundae for the eggnog shake, but she didn't seem to understand that my large shake was more expensive than a sundae. I know these are minor complaints, but McDonald's has more competition these days. You are competing against Starbucks and Panera, not just BK and Taco Bell. You are failing miserably in terms of service.

You need to analyze more why workers at Panera and Starbucks are more courteous than McDonald's and take action. Although your products and prices are competitive, you will lose market share if customers feel they can get better service elsewhere.

I've stopped going to McDonald's, even though I like their coffee. And I don't own McDonald's stock.

Pepsico, Inc. (PEP): Kudos to Pepsi for its colorful, descriptive 10K. After seeing page after page of different Pepsi products, I started wondering if Pepsi was the world's main supplier of food and drink.

Pepsi's motto: "joy, optimism and energy" (10K: page 6).

Walmart's influence: "In 2008, sales to Wal-Mart Stores, Inc. (Wal-Mart), including Sam's Club, represented approximately 12% of our total net revenue." (10K: page 45).

Playboy Enterprises (PLA): some interesting acronyms: PPM (per per month); VOD (video on demand); and SVOD (subscription package). Apparently, most companies are focusing on VOD. (10K: page 9).

Best summary of a company ever: "Playboy magazine is a general-interest magazine, targeted to men, with a reputation for excellence founded on its high-quality photography, entertainment, humor, cartoons, and articles on current issues, interests, and trends." (10K: page 9). Perhaps Playboy's corporate lawyers really do read Playboy for the articles.

Demographic of Playboy subscribers: median age is 35, with a median annual household income of approximately $59,000. (10K: page 9).

It's a small company: Playboy only has 626 full-time employees, at least as of February 27, 2009. (10K: page 12).

Also, in case you didn't already know, Hugh Hefner essentially owns the company. Mr. Hefner owns 69.53% of the Class A voting shares (10K: page 20). Class B shareholders--apparently, most of the shares owned by the average Joe--cannot vote, although they can come to the annual meeting in Illinois.

Wesco Financial Corporation (WSC): Charles Munger compares his company with Berkshire and basically tells the public to buy Berkshire instead of Wesco: "Business and human quality in place continues to be not nearly as good, all factors considered, as that in place at Berkshire Hathaway. Wesco is not an equally-good-but-smaller version of Berkshire Hathaway, better because its small size makes growth easier." (10K: page 7)

Wynn Resorts (WYNN): some internal family drama: "Elaine P. Wynn is married to Stephen A. Wynn, but an action to dissolve their marriage has been filed."

At least the nephew's doing all right: "Andrew Pascal is the President of Wynn Las Vegas LLC...Mr. Pascal is the nephew of Mr. and Mrs. Wynn." (page 8, proxy statement)

Macau is where it's at: "Macau generated approximately $13.6 billion in gaming revenue in 2008...making Macau the largest gaming market in the world." (10K: page 6)

SJM in Macau: "SJM, which is controlled by Stanley Ho, operates 19 of the 31 existing casinos [in Macau]." (10K: page 6).

Sharing the wealth: Wynn is charged a special gaming tax of 35% of gross gaming revenue and "must also make an annual contribution of up to 4% of gross gaming revenue for the promotion of public interests, social security, infrastructure and tourism." (10K: page 13) Is it just me, or does that 4% look like a source of kickback money to government officials and their friends? I also like the language of "up to" 4%. Who determines the actual percentage? Seems like a material point.

Bring cash, please: for purposes of the gaming tax, Wynn cannot include deductions for gaming bad debt. (10K: page 22)

A pet peeve from a former English major: does anyone at Wynn own a Strunk and White style guide? In some places, the period or comma was placed outside the quotation marks, instead of inside. (10K: pages 4, 6) This ain't the U.K., buddy.

Note: Part 1 is here.