Small Things (a poem)

Small Things

Swine flu is in the air.
CNN promises not to fear-monger as the word “pandemic”
flashes across the screen.
I think of the Mexican peso first, then of the Mexican people dying.
It occurs to me my priorities are screwed up.

But then I realize that’s the point--the constant scramble
to survive
to make money
to take care of your family,
It re-arranges everyone’s priorities,
forces people to think ahead, not backwards,
and it seems to work, until it doesn’t.

President Obama’s on the screen now,
talking about that flu again.
I think of the Mexican people first this time.
I think about the American schools shutting down,
and American kids happy to stay home.
I think of how a small thing can multiply into a big thing
and make its way up here without warning.

And then I realize a good thing can also multiply
And come here,
Something we’d never thought about before
until it came here
and changed our lives.

Small things, like six-year old Pierre Omidyar,
arriving in America from France,
his parents from Iran,
Not knowing their little boy would create eBay.

Small things, like Paul and Clara Jobs
adopting a little half-Syrian boy
born in Milwaukee
and bringing him to Mountain View, California,
where he would grow up and give us Apple Computers.

Smaller things, too, like 27 dollars loaned by a man in Bangladesh
who spoke at Stanford in 2003
and caught the ears of Matt and Jessica Flannery,
who then founded Kiva.org.
Soon came millions of dollars to help the poor.

Small things become big when they cross borders
undeterred by risk, failure, or fear.
They come, these small things,
flu particles, yes, but also the seeds of a bright future,
Burrowing their way forward.

(2009)

Wells Fargo Shareholder Meeting (2009): the Age of Uncertainty

I attended Wells Fargo's 2009 annual meeting today in San Francisco, California. Wells Fargo (WFC) did not seem to anticipate such a large crowd attending its meeting. It had to scramble to set up more chairs in an adjacent viewing area where shareholders could view the meeting on a large video screen. In a scene reminiscent of a Friday night club, some shareholders (including myself) had to wait downstairs before security allowed us to take the elevator to enter the meeting. Per its conservative image, Wells Fargo did not offer any coffee or refreshments. I asked an employee whether Wells Fargo had served coffee or refreshments at last year's meeting, and she said she didn't remember Wells Fargo serving food or drinks at any annual shareholder meeting.

Chairman Richard "Dick" Kovacevich spoke first and appeared in a good mood, making several well-received jokes. He earned my respect for being forthright in this earlier speech, where he stated, "We [the financial sector] really caused this crisis."

After the formal portion of the meeting had concluded, he turned the meeting over to President and CEO John Stumpf. First, let me give you some visuals. Mr. Kovacevich is a tall man who exudes confidence in a friendly way. Mr. Stumpf, on the other hand, is shorter, more intense, and much more brusque. I would almost compare them to Robert DeNiro and Joe Pesci (Goodfellas or Casino, take your pick)--effective men, each in his own way.

Mr. Stumpf delivered a short presentation. He began by rattling off all the names of failed financial institutions--AIG, Bear Stearns, Countrywide, Fannie Mae, Lehman Brothers, Merrill Lynch, and WaMu. These are "difficult times," he said. He went through some slides showing that Wells Fargo had made money and continues to grow. One slide was confusing--it showed WFC reporting $0.70 of diluted EPS, but had a shadow area that added $1.51 in EPS, which assumed the inclusion of credit reserves. Including the credit reserve build, the additional EPS would have brought the numbers in line with previous earnings. I did not understand what the additional EPS meant, and even after I asked Mr. Stumpf to explain it again during the Q&A, I still didn't fully understand it. (My current understanding is that Wells Fargo had set aside billions of dollars to cover expected future loan losses, especially due to the Wachovia acquisition, and had it not been forced to account for its expected losses, its earnings per share would have increased.)

Mr. Stumpf talked about the dividend and the "difficult decision" to cut it. He indicated WFC would increase the dividend when "practicable" to do so. Wells Fargo's cutting of its dividend signals a tectonic shift. If you go back to a time when banks were staid creatures, people would buy banking shares for the dividend. They expected that a bank would slowly and conservatively increase deposits and make more loans over time, allowing the bank to steadily increase its dividend. As a result of their consistent dividends, banking stocks were called "widows and orphans" stocks--held by husbands to protect their families when they died. That age is over. Banks have lost the public's trust, and with it, we have entered a new world of uncertainty. This change is shocking because even banks that acted conservatively, like Wells Fargo, had to cut their dividends, breaking their implicit promise to maintain steady payouts. If there is one unfortunate lesson to be learned from this crisis, it's that being good didn't pay off. As a result of widespread and creative financial engineering, the good banks got sucked into the morass created by bad banks like Citigroup (C) and Bank of America (BAC). Now, senior citizens looking for income have few places to invest. Even preferred shares are suspect.

Mr. Stumpf returned to his theme of consistent growth. He said that even during this tough time, WFC "grew revenues by 6%" while reducing expenses by 1%. He said the amounts loaned also increased, although most of that increase came from the commercial and wholesale areas, not the consumer. Deposits also increased as a result of the "flight to quality."

Mr. Stumpf then talked about Wells Fargo's two major events: Wachovia and the government's $25 billion investment in Wells Fargo. He said the Wachovia acquisition was going well, and Wells Fargo would pay back the government as soon as practicable. He said companies fail when they confuse their mission with the results. WFC's mission was to help people succeed financially, and the result was that "we make money." Bad companies, he said, mix these up and focus on making money over serving their customers. Mr. Stumpf ended his presentation by pointing out Wells Fargo's charitable contributions, which were impressive.

The Q&A session was longer than usual, and most shareholders had interesting questions. One thing about Mr. Stumpf, though--if he doesn't like your question, he'll give you a quick answer and expect you to move on. Several times, he avoided answering questions by using humor to deflect the question (Those of you who remember my Joe Pesci comparison can start visualizing him saying, "Funny? Funny how?").

One shareholder asked about Citibank's (C) lawsuit against Wells Fargo (which relates to the Wachovia acquisition). Mr. Stumpf said Wells Fargo would defend itself vigorously.

I asked whether the government forced Wells Fargo to take TARP money. After all, if Wells Fargo didn't need it, why didn't they reject it? Mr. Stumpf tried to avoid answering the question, so I asked Mr. Kovacevich directly for an answer. He said government negotiations were confidential, but added, "We did not ask for the money." He said he took the money because it was in the best interests of the company at the time.

Another shareholder talked about a personal issue. Apparently, Wells Fargo had increased his interest rate. The shareholder complained about Wells Fargo's customer service. At first, Mr. Stumpf asked whether the shareholder had a question. (At this point, I started thinking Mr. Stumpf might take a bat to this guy's knees.) After the shareholder meekly said, "I guess I don't have a question," Mr. Stumpf wisely turned on the charm. He said, "I'm sorry," and directed the shareholder to a specific Wells Fargo employee for further assistance.

Another shareholder praised the bank. He was a former employee who had held Wells Fargo shares since at least 1998.

Another shareholder talked about zombie banks and whether nationalization would be a good idea. Mr. Stumpf replied, "We are solvent" and "clearly not a zombie bank." He said his understanding was that the President and Congress had rejected nationalization.

Another shareholder asked whether Wells Fargo anticipated raising its capital base, thereby diluting its common equity shareholders. In a telling sign of how uncertain the current environment is, Mr. Stumpf refused to comment one way or another. When you strip down the optimism, no one really knows. Look at page 78 of Wells Fargo's 10K:

Under SOP 030-3 (Accounting for Certain Loans or Debt Securities Acquired in a Transfer), we recorded at fair value all credit-impaired loans acquired in the merger based on the present value of the expected cash flows...using assumptions about matters that are inherently uncertain.

Essentially, Wells Fargo itself admits its numbers are "inherently uncertain." The only thing we know for sure is that Wells Fargo's earnings received a boost from a recent loosening of the mark-to-market accounting rules. Still, regardless of any accounting changes, at the end of the day, no one really knows anything, because there are too many unknown variables. That's why Wells Fargo accepted $25 billion of our money--it doesn't really know, either, and if it did, it would have paid back the government already. [Update: some banks have already paid back TARP funds. See here.] So of course the CEO can't promise to avoid further capital injections. Of course the CEO can't promise to avoid diluting the common equity shareholders. Like everyone else, he doesn't really know what's around the corner. When historians study this current time period, the honest ones will admit no one really knew anything. It's sheer hope and faith that's driving many Americans, and, by extension, the banks to which they owe money.

I went up to the mic one last time. I told Mr. Stumpf some people think that "too big to fail" should be "too big to exist." I implied that we weren't addressing any of the root causes of our current problems and that this crisis could happen again. I said it was frightening to see the stock market go up and down based on the appearance of the banking sector's good or bad health. I indicated that banks, a relatively small group, had tremendous power over the average Joe's 401k. I said that Wells Fargo had spoken against some regulation, such as executive pay restrictions (see also 10K: page 78), but it hadn't talked about what regulation it favored. I asked Mr. Stumpf to talk about what regulations he favored so that we could avoid another crisis.

Mr. Stumpf had a two-part answer. He said that only 22% of financial assets are held in commercial banks. He said most financial assets are held by unregulated entities, such as AIG (and others who thought credit default swaps were a great idea). At this point, his answer became somewhat confusing. From what I understood (and discussed with an Aussie couple after the meeting), Mr. Stumpf implied that we should expand financial regulation, but without adding another government agency. He did not favor the current situation, where multiple regulatory bodies cover select financial entities while excluding other major financial players. (Or, according to the Aussie gentleman, "Don't go swimmin' without your trunks"--demand everyone have some covering if they want to play in the pool.)

Mr. Stumpf also suggested we should try to minimize systemic risk. He seemed to indicate that all of the banks' assets should come under one umbrella so that the overall risk of the banking sector could be easily ascertained. Again, I am not certain this is what he said, because Mr. Stumpf talks quickly. While he clearly understands complex financial terms and ideas, he seems to have a hard time communicating those ideas to the general public. (This is why WFC needs Mr. Kovacevich--his easygoing, amiable style balances Mr. Stumpf's abrupt demeanor.) From what I heard, however, it sounded like even the banking sector's head honchos acknowledged that greater transparency and governmental involvement were necessary to minimize systemic risk. Perhaps thinking he'd said too much, Mr. Stumpf stopped. That's when I realized the point and theme of the meeting was to project confidence, because at the end of the day, that's what America needs, especially from the banking sector. I think Wells Fargo did an admirable job at the meeting, but again, no one knows anything. Only time will tell whether America exits this banking crisis stronger.

The AP's Michael Liedtke's review of the meeting can be found here. As of the record date, I had 9000 WFC shares. I used margin and felt uncomfortable with the volatility, selling all my shares at around $14/share. Investors who bought Wells Fargo stock recently and had the fortitude to hold on have been rewarded. As I wrote here earlier, an investor could have made 46% had s/he timed the market properly.

Random fact: Warren Buffett owns approximately 7.4% of WFC common shares. See page 13 of Wells Fargo's 2009 proxy statement.

Bonus: The Economist has an interesting article (May 14, 2009: "Three trillion dollars later...") on banking:

http://www.economist.com/opinion/displaystory.cfm?story_id=13648968

Institutional Analysts are Almost Worthless

On December 18, 2008, I bought Maxim at 12.00/share and told my readers about my buy. Maxim is now selling for $13.70/share--a 14.1% increase in four months. The S&P 500 declined 3.1% during this same time period.

At the time I bought Maxim, JP Morgan disagreed with me. On December 16, 2008, JP Morgan's Christopher Danely downgraded Maxim stock to "underweight." In response, I wrote, "Almost all these these analyst downgrades come after the bad news has already been released. Consequently, when a major firm issues a 'sell' or 'underweight' rating, that's when contrarians and value investors should take a closer look at a stock."

My call was obviously correct, but what's really frustrating is that now, after the run-up in the stock price, several analysts are recommending Maxim.

On March 14, 2009, Canaccord Adams upgraded Maxim. Maxim's stock price was $14.05/share.

On March 15, 2009, Citigroup (C) upgraded Maxim. Maxim's stock price was $14.12/share.

If you had listened to these two analysts, you would be losing money right now. I don't disagree with the analysts' upgrades, assuming a long term horizon. I still think Maxim is somewhat undervalued, but I have considerably reduced my holdings and am waiting to re-enter at a lower price.

I continue to be skeptical of institutional analysts and their ratings. We need an independent website that ranks firms and their analysts based on their actual performance over three, twelve, and twenty four month horizons. The website should follow various analysts and rank them based on stock performance following an upgrade or downgrade. Hedge funds or well-off investors have access to such information, but the ordinary public is left in the dark when ascertaining analysts' credibility. That's a shame, because the public's relatively short term memory allows most analysts and their firms to avoid accountability. The Motley Fool has tried to create something along the lines of what I've suggested, but it doesn't track professional analysts.

I have been told that FusionIQ's proprietary software does rank analysts. I have been given complimentary access to the software, but have not had the time to actually sign on and evaluate it. I hope to provide a report on FusionIQ at some point in the future.

Disclosure: I own Maxim shares, and a family member works for Maxim.

Mexico Peso Devaluation

Holy cow, Mexico's currency declined 4.59% against the U.S. dollar in one day. That swine flu...

You can buy Mexico's peso through CurrencyShares Mexican Peso Trust (FXM).

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.

Torture Still up for Debate, and a Bill Maher Joke

From "The Issue of Torture is not about its Efficacy":

http://www.cogitamusblog.com/2009/04/the-issue-of-torture-is-not-about-its-efficacy.html

I never really imagined in all of my 49 years on the planet that there would seriously be a debate in the United States about whether it is alright to torture a prisoner. I don't think of myself as naive or unjaded, but it just always seemed pretty clear to me that American political culture would not sanction the overt use of torture as a legitimate means of intelligence gathering or war fighting.

The NYT's Frank Rich talks about torture here. And he makes so much sense, you will ask yourself, "Where was he six years ago?"

Ah, the days of innocence.

Here's something funny to balance out the bitter. Bill Maher mentioned California's beauty pageant contestant, who may have lost the crown because of her opposition to gay marriage. (She said she favored "opposite marriage.") Here's what Bill Maher had to say:

She's extremely Christian, kind of hot, and she's dumb...It looks like the Republicans have a new Vice Presidential candidate.

I think the GOP might be considering it. Sigh. Where's a Barry Goldwater when you need one?

O'Neill on Social Security/Medicare: Ponzi Scheme

Paul O'Neill on Social Security and Medicare:

We've been spending money all along. It's a giant fraud; it's a giant Ponzi scheme. Every year we took the money and we spent it on other things.

There's a so-called famous lockbox in West Virginia I went to look at when I was secretary of the Treasury. You know what's in the lockbox? Actually it's a filing cabinet, and there are some pieces of paper that say, "We owe you." There's no money there; there are no investments there. There's nothing there but a piece of paper. That's a fraud.

People think, "Hey, I put money all my life in Social Security and Medicare." You didn't really. The government just took it and spent it on something else. There's no money there.

More here.