Random Thoughts: American Express, Kraft, and MGM

1. American Express (AXP) CEO Kenneth Chenault had these sobering words to say (from American Express's 2008 Annual Report):

The experience of the past year reinforces the principle that people should not spend more than they have the capacity to earn and pay back. And financial services companies should not encourage people to get over their heads in debt. Healthier consumer behavior is better for everyone in the long run. (Shareholder letter, page 9)

You might say Mr. Chenault deserves an obviousness award, except that millions of Americans are currently swimming in mortgage and credit card debt.

The upside is that American Express has plenty of room to grow: "Today, cash is used for about two-thirds of global personal consumption." Every time someone uses a credit card instead of cash, American Express receives a transaction fee. If American Express continues to successfully expand, it will make plenty of money.

On a side note, I don't understand why American Express isn't issuing credit cards with embedded chips here in the States. Almost all American credit card companies are still using the old magnetic strip technology, which is lovely--if you're into identity theft.

Magnetic strip technology makes stealing your credit card information very easy. The Europeans have figured this out and have mostly switched to embedded chip technology. American Express's Blue card used to offer embedded chip technology, but that's apparently been replaced by an ExpressPay system. If you have information about whether the ExpressPay system is more secure than the embedded chip technology, please post a comment.

2.I just realized that all of my lunch items, except for the bread, are Kraft-branded (KFT). This wasn't intentional--I don't care about brand names and usually focus on price. As a result, I was surprised when I peeked in my sandwich drawer and saw a) Kraft cheese (I love Kraft's extra sharp cheddar); b) Kraft mayo (with olive oil); and c) Oscar-Mayer lunch meats. (Kraft owns Oscar Mayer.) As more Americans brown-bag their lunches to save money, Kraft stands to benefit.

Also, Kraft recently provided me with good customer service, which is an important marketplace differentiator. In an era of increasing generic and store-branded competition, customer service matters more than ever. My issue related to Oscar-Mayer lunch meats. I complained that a package of turkey slices went bad too early. Nothing else in the same fridge drawer went bad, not even the other lunch meats. I asked Kraft to double-check their packaging on that particular item. I received a letter from a Kim M that acknowledged my issue, along with a coupon for a replacement pack. Now that's excellent customer service. Kudos to Kraft and Kim M.

3. Some interesting tidbits from MGM Mirage's (MGM) annual report:

Wasn't 2008 Supposed to Be the Bottom?: "Our current expectations for 2009 indicate that operating cash flow will be lower than in 2008." (page 3)

Yield Premiums Gone Wild: MGM issued $850 million of 11.125% senior secured notes due 2017 (page 4). Treasuries currently offer around a 3% yield. When a company has to offer 11%+ secured notes to attract financing, that's scary, isn't it?

Someone Benefited from Hurricane Katrina?: MGM received "insurance recoveries of $635 million which exceeded the $265 million of net book value of damaged assets and post-storm costs incurred...[MGM] recognized $284 million of insurance recoveries in income." (page 8)

I have little sympathy for MGM. During its 2008 annual shareholder meeting, I asked (former) CEO Terrence Lanni how he planned to adjust to the changing economic environment. I suggested he should lower prices and stop charging for basic items like internet access. He disagreed and seemed to mock my concerns. Other than licensing the MGM name, I didn't see any new streams of revenue. I left that meeting stunned that MGM's management didn't seem to feel the need for major changes. And so it goes.

Disclosure: I may own an insignificant number of shares in AXP, MGM, and KFT. The ownership of shares, if any, has not influenced any opinions expressed above.

2008 in Review

At the end of each year, I like to re-visit my hits and misses. Let's start with the misses.

My biggest mistake was thinking we didn't need any capitulation (July 25, 2008). The market hit the skids shortly thereafter. At the time I made the call, the S&P 500 was 1,257--now it's 869. That's a loss of around 30%. (Not as bad as Hilary Kramer, but too close for comfort.)

Of course, the market did capitulate later on, and on September 18, 2008, I said it was a good time to slowly re-enter the market. Unfortunately, the S&P 500 was 1206 on September 18, 2008--now it's 869. That's a loss of around 28%.

I also had a near-miss. On July 30, 2008, I praised Garmin when it was selling around $36/share. Fortunately, less than a week later, on August 5, 2008, I sold my shares, writing, "I sold Garmin (GRMN), taking a [small] loss. I violated the rule of never catching a falling knife." Garmin is now around $19/share.

My top hits in 2008?

1. Not only did I predict Longs Drugs would be bought out, I also identified the eventual buyer:

Longs is going to be a good company and attractive takeover target...CVS is going to be knocking one of these days.

I made the call on May 29, 2008. On August 12, 2008, CVS announced it was buying Longs Drugs.

2. On September 19, 2008, I correctly said that Transmeta (TMTA) was trying to conserve cash to become more attractive as a buy-out candidate.

TMTA looks like a company trying to conserve cash to survive. If you're looking for a growth story, this isn't it; however, as long as its patent portfolio remains viable, TMTA may be a potential takeover target or value play at the right price.

On November 17, 2008, Novafora bought Transmeta.

3. I correctly called a short-term bottom in banking stocks and Colonial Bancgroup (CNB) shares. My joyful reaction at making the correct call is here.

4. I called MGM overpriced and told the CEO at MGM's shareholder meeting he was propagating unrealistic expectations:

[Despite your rosy outlook] you're basically telegraphing that you're going to lose money because you're expanding and spending money while entering a recession...

In the same post, I wrote,

Overall, I believe MGM will not be able to replicate its record in 2007 and will make less money in the short term.

At the time, MGM was selling for around $52/share. Now it's at $12.74/share.

If you read the full post, you will see that I disliked the CEO at the time, Terrence Lanni. Mr. Lanni recently resigned after the WSJ reported that he had falsified his resume.

(By the way, the only other CEO who rubbed me the wrong way was Trimble Navigation's (TRMB) Steven W. Berglund. Let's see what happens with him and his company in 2009 and beyond.)

5. Recently, I called the drop in the Canadian dollar overdone. So far, it appears I accurately called the bottom.

6. I called GE a good buy when it was around $14.66 a share. It closed today at $15.66. GE's current dividend yield of 7+% shows it is willing to pay investors to wait until better times.

My favorite "hit," however, had nothing to do with a prediction. At the Yahoo shareholder meeting, I told Chairman Bostock to stop talking about Microsoft, comparing his repeated and unnecessary public proclamations to words from a jilted ex-girlfriend. I also politely suggested Mr. Yang go on a sabbatical. We haven't heard a peep out of Bostock for months now, and Mr. Yang has gracefully exited. Meanwhile, Yahoo stock has quietly made a comeback from around $9/share to around $12/share.

Aside from hits and misses, what was my biggest lament? That this article wasn't more popular among my regular readers. I don't think we're going to see the end of "OCM," so perhaps the article will gain more popularity with time.

As for my thoughts on 2009, I am looking forward to it. I think the S&P 500 will hit 1012 in 2009, but whether it stays there is anyone's guess. Here's the annual Barron's challenge if you're into forecasting.

My riskiest 2009 stock is Maxim (MXIM). I am hoping it will go to $14.90/share by early 2010. I started buying Maxim shares at around $12/share and have been averaging down. Maxim closed today at $10.98/share. If I'm right, my Maxim shares will appreciate 30+% in around one year.

The market's gyrations notwithstanding, it's important to remember that most Americans enjoy one of the highest standards of living in the world. If you disagree, may the new year bring you knowledge and a much-needed passport.

The information on this site is provided for discussion purposes only and does not constitute investing recommendations. Under no circumstances does this information represent a recommendation to buy or sell securities or make any kind of an investment. You are responsible for your own due diligence.

MGM Mirage Shareholder Mtg, May 13, 2008 (and "Star Trek: The Experience" Review)

I recently went to Las Vegas to attend the MGM Mirage annual meeting, which took place at the Luxor. The food spread was fabulous, as you might expect. There were several different kinds of jam, honey, pastries, and fruit juice, in addition to the usual coffee. Kirk Kerkorian was in the audience, and it was fun seeing his cameo appearance on the two large screens used to broadcast the speakers at the podium. The background on the stage used changing colors to highlight the theme this year, "Vision." (The full theme was listed in the annual report: "Vision with action can change the world." -- Futurist Joel Barker)

MGM opened by presenting how well they had done last year in terms of revenue. Of course, the stock was down about 40% this year, so the presentation, while entirely accurate in terms of breaking new records, seemed more historical than future-seeking. The CEO, J. Terrence Lanni, then made his own presentation and answered questions. He emphasized the new City Center project, which looks like a model city, combining retail, housing, and a resort, all in one location on the Strip (http://www.citycenter.com). MGM apparently owns more real estate on the Strip than any other casino operator, and is making good use of it. When asked a question about congestion, CEO Lanni said that he agreed that the project was contributing to the "Manhattanization" of Vegas, but there was no other option because of the limited land available for development near the Strip. He also said that residents should be thankful, because it was projects like these that allowed them not to pay any state income tax.

The presentation also mentioned the DubaiWorld alliance, where DubaiWorld, now a 9% owner, could eventually become a 20% owner. The CEO welcomed the investment and said he looked forward to expanding in Dubai and Abu Dhabi, saying that both countries had substantial experience in attracting tourism and building exquisite resorts. I had welcomed the international diversification of MGM's portfolio, but I had not considered the additional advantage of partnering with Dubai, which does have excellent experience in building luxury properties.

Some mention of an alliance with an Indian reservation in Detroit was mentioned, where MGM would lend its name and expertise to the resort in exchange for revenue-sharing. Another casino was also scheduled to open in Atlantic City, increasing MGM's geographic reach.

The alliance with the Detroit casino was part of an interesting revenue model called "capital-lite." Basically, MGM is willing to license its name to other casinos to give them credibility in exchange for revenue. It appears that such a business model will generate significant cash while involving minimal investment; however, in the long term, if these casinos do not do well or reduce quality, MGM's image may suffer.

The first "question" was from a government official from Detroit, thanking MGM for coming into their city and saying that they had a history of making the cities they entered better (a not-so-subtle request for more charitable donations for Detroit to ensure MGM's status as a cooperative, good neighbor). Some other questions dealt with personal issues, such as someone who was injured over a decade ago at the Excalibur property. The CEO said he couldn't take credit or detriment for whatever happened, because the event occurred before MGM bought out the property, but he was sorry for what happened. It was a very deft answer. Another person bemoaned the high prices for certain services, such as internet access at hotels. The CEO answered this question deftly also, asking whether the speaker had escalated his concerns to a manager at the time (the speaker said he had not). Someone else, apparently not happy with the complaints, got up and said that he had invested in MGM many years ago with Kirk Kerkorian's group, and apparently bought MGM bonds in the 80's and had done very well and encouraged people to stay in the stock for the long term.

That was sort of the theme of the day--that although the economy wasn't doing well, and the situation would be challenging, in the long run, MGM was positioned well, and much better positioned than its main competitors, the Las Vegas Sands (LVS) and the Wynn. Those two stocks were down more than MGM's stock year to date, and apparently, the newest LVS project, the Palazzo, wasn't doing as well as expected. There was some mention of how the federal government and California were taking away certain funds, thereby increasing the cost of building a highway directly from Southern California (Orange County?) to Las Vegas. The CEO mentioned the possible 20 billion dollar deficit was causing the California Governor to dip into other funds to balance the budget, thereby impacting transportation projects.

I asked two questions. One, which casinos brought in the most revenue and profit, and which brought in the least? The CEO mentioned that in terms of both revenue and profit, the top casinos were Bellagio, Mandalay Bay, and Mirage. I wasn't expecting the usual players to be on both lists, and I was hoping that some international resort, like the MGM Macau, would also be among the top producers, but it does make sense that the more established casinos would be the major revenue and profit generators. The CEO facetiously asked if he got a prize for answering correctly, but forgot to answer the question about which were the worst revenue and profit generators.

I also asked the last question, which basically went like this: "I feel there's a missing gap here today. You keep mentioning that there's going to be a recession, but you're spending money and you're not cutting back on expansion. In a recession, you make money by either cutting expenses or increasing prices, and you haven't said anything concrete that makes it sound like you're going to do either one. Some of the people who asked questions here today sounded like nudniks, but perhaps the one gentleman had a point about certain prices, especially internet use prices, being too high. Maybe MGM should reduce certain prices to attract more casual and mid-week visitors. As it stands, you're basically telegraphing that you're going to lose money because you're expanding and spending money while entering a recession."

The CEO responded by saying that the board had gone though several recessions [a dig at my younger age] and had done well eventually after each one. He said that lowering prices wouldn't work, because it would be like the failed strategy that gas stations took in the old days, when one station would lower prices by a penny, causing the competitor across the street to lower his prices, leading everyone to lose money. [This sounded like an anti-trust issue, and it concerns me generally when CEOs say they won't cut prices in any circumstance as a matter of policy.] He ended on a high note saying that MGM had made money in all kinds of economic environments, that its stock price would increase in the long term, that its stock price was too low right now, and he hoped that the investors would stick with MGM, and MGM would stick with its investors. His response received enthusiastic clapping from the audience, and the meeting was done.

I prefer CEOs that are humble (see John Deere's CEO, Robert Lane) and not so much "showman-y," but I am sure Mr. Lanni's colleagues consider him to be charismatic. In addition, Lanni was a former CFO, so he obviously has substance. Overall, I believe MGM will not be able to replicate its record in 2007 and will make less money in the short term, but I will watch its stock price carefully, and if it continues to plummet, at some point, it should make a good value buy.

For those of you who are interested in my Las Vegas accommodations, I stayed at the Las Vegas Hilton, which is different than the Hilton Grand Vacations Club (though both are near each other). The Hilton Vacations Club is on the Strip, though far from the main drag, and is the more traditional Hilton hotel. The LV Hilton is located behind the Rivieria Hotel and takes some physical effort to get there. When deciding where to stay, you should probably use the Hilton website (www.hilton.com) rather than the LV Hilton website (http://www.lvhilton.com). While you can still get Hilton points from either hotel, the LV Hilton is owned in part by a different company.

The LV Hilton hosts "Star Trek: The Experience." If you are staying at the hotel, you get a discount on an all-day pass (at least when I was there). The "Experience" consists of three parts--first is the open restaurant, Quark's Bar and Restaurant; second is the Borg Invasion; and third is the Klingon Encounter.

Quark's Restaurant looks just like the Deep Space Nine restaurant. If you are lucky, you will see an actual Ferengi come by and chat you up, and you can buy the rules of the Ferengi next door at the Star Trek store. When I went to a female Vulcan to ask a question about opening and closing times, she greeted me by saying, "Yes, human?" I started cracking up, but she kept a straight face. All the actors in the events are well-trained. That professionalism alone did it for me, and made me a fan of the "Experience."

The Borg Invasion is basically an invite into a genetic study that goes awry when the ship is attacked by the Borg. Several Borg entities, including the Queen, make an appearance, but I won't spoil it for anyone by saying more. This event is like Michael Jackson's "Captain EO" and Great America's "Days of Thunder," where the show revolves around 3-D effects (in the Borg event, it's actually "4D") and you, as the audience, get to participate in what is occurring.

I preferred the Klingon Encounter, because it is more action-oriented. It involves a roller-coaster type ride and really makes you feel like you are under attack. I enjoyed hearing Captain Picard's voice and actually seeing the interior of the Enterprise. If you can't go to both events, go to the Klingon Encounter, unless you are a bigger fan of Deep Space Nine and the doctor on that show.

There is also a "Behind the Scenes" tour, which I was unable to attend. Two people in line ahead of me went and raved about it. They also received a certificate of attendance, which was high-quality and something a fan would probably frame. Overall, I had a good time in Las Vegas and would recommend a trip there to anyone who is willing and able to walk long distances--the way the Vegas Strip is set up, you have to walk quite a bit to get from attraction to attraction.

© Matthew Rafat (2007)