>Health Care update from Washington
March 31, 2010
>So a few weeks ago we had a member of Obama’s transition team and a former Hillary Care White House staffer at a roundtable. He said Health Care was dead two days when he talked after the Massachusetts election. What he did not know was the story would break two days later that the (EVIL) insurance companies were going to anounce 30% price increases to make their 2% margin next year. Since with millions of lives that transpires into hundreds of millions in profits this infuriated the two people that matter in Washington as well as their all too willing accomplices. So we had a talk with our Washington connection.
He is dumbfounded by the Hallmark bill. Not only could Washington have accomplished the same ends months earlier without the nuclear option, but this action has poisoned the waters. Pointing out the political suicide of the action, he also discussed that due to the partisanship the issue had already caused thru the two “summits” at this point getting something done was a less worse alternative to not getting something done. Focus groups tell insurers and politicians that if people are told insurers increase costs they will believe it, while if they are told insurers dont save costs they don’t believe it. Thus, the third party payer system inherently has a distrusting element that the Democrats understood and were all too willing to incorporate into their agenda.
Now players from insurers to hospital to drug companies to payers have 4 years to make changes. They will. United Health Care is reviewing getting out of the individual health care insurance space. Dupont who self insures and is backed by Lloyds has lost the reinsurance backing (rumor has it). Now with reduced incentives for Medicaid reimbursement California insurers had to make changes. Just nobody thought that the President and Mrs. Pelosi seeing this happening in her state would create the kind of promises and deals so unprecedented in history to ram this thru. The caution …look out if Republicans get control of the House or Senate and are in charge of oversight after the election,. It wont be pretty what they uncover in the dealmaking. Health Care is now a pure partisan issue. We will get Mark back on the road this summer.
>Retail Roundtable in Boston
March 20, 2010
>Shelley Forrester does quite a lot of surveying consumers as does Craig Johnson. They discussed the new definition of value as everyone is trading down on something and more money being spent on the home. A definition that does not know how to cook but yet is making the transition from eating out as often. Branded product is making a comeback yet private brands also winning especially some moving up the quality chain. Stores making better inventory controls and better replenishment helping turns. Spoke of TJ Maxx overcoming poor curb appeal and taking advantage of new MFO sourcing (made for outlet) there buying strength takes advantage of longer runs(paying vendors to make more of brand name product) and similar strategies to keep getting enough product. Finally travel experience getting more and more unpleasant time, money and energy demands getting worse not better a longer range down cycle. Are missy stores seeing turn around. Craig watching trend closely.
>A New York presenter likes Nokia (NYSE: NOK, $15.42). The stock is up about 15% since it was recommended a couple weeks ago, but there is still significant upside left. The company had been losing ground in smartphones up until recently, but gained market share on the high-end of the handset market in Q4. New versions of its Symbian operating system coming ut in 2010 will make the user experience much more enjoyable and should finally make the platform appealing to app developers. Nokia is seeing some success with is data and messaging offerings. The company is still dominant in the low-end of the market, where its unparalleled scale and stenght of its distibution network make it very hard for rivals to compete effectively.
>Air Products: Leveraged to Strengthening US Economy
March 18, 2010
>Our NY presenter believes Air Products and Chemicals (NYSE: APD, $74.55) is a good value at the current level. Volumes are picking up in the company’s core onsite gas business. 40% of the company’s contracts are long-term, take or pay agreements, guaranteeing a certain level of output sold. APD is expanding into multiple growth areas. There are solid signs of growth in emerging markets, particluarly in Asia. The company had its $60/share all cash offer for Airgas rejected by ARG board, but the presenter believes the deal will go through later this year. Other competitors are not likely to enter a bidding war. If the merger takes place, 60% of APD’s business will be domestic, and thus leveraged to the upside in the US Economy in 2011-2012. His target is $90 based on 15 times FY 2011 earnings.
>A New York presenter likes Yum! Brands here (NYSE: YUM, $37.63). The company has a tremendous opportunity in China. It’s the largest QSR chain there, but the penetration rate is only 3%. MCD is the only true global competitor in the country. The company can count on years and years of expansion in other developing countries as well. Management is working to reverse declines in the domestic market, and there have been signs that the US operation is improving. The Street’s expectations for a turnaround in NA are low, so if the company is successful, the upside could be significant. The presenter forecasts EPS to reach a $3 run rate within 18 months. At 15x earnings, his target is $45.
>Tatum LLC
March 15, 2010
>Sam Norwood is a Senior Partner at Tatum LLC who provides financial staffing and advice throughout the country and monthly conducts the Tatum Survey. As our partners in their review of the economic conditions we have found their monthly insight to be one of the highest value added insights to the economy. Sam overseas the monthly survey and his thoughts here reflect his personal opinion of the economy.
“I am trying to be optimistic about the mid-to-longer term, but my view is actually quite pessimistic. At this stage we cannot grow our way out…it would take double digit growth for over a decade, and this is not in the cards. We3 cannot tax our way out…it would take 15 percentage points added to each level of the marginal tax rates. This is not in the political cards, and even if it was attempted, the result would be economically disastrous. Can we borrow our way out? I don’t think so. Currently our own Fed and the Chinese account for over half the purchases of new Treasury bills, notes, and bonds. What happens if China boycotts our debt, just as the OPEC nations stopped shipping us oil for a while in 1973? And, while our Fed probably NEEDS to be buying our debt now in order to keep interest rates low (artificially) what happens when the time comes to unwind the excess levels of liquidity that has been injected to bail the world out of the crash a year ago? No, I think borrowing is also not in the cards to provide a way out. If the healthcare passes, we will be adding another very expensive entitlement our spending, like Medicare/Medicaid and Social Security. If you consider that the sum of entitlements, military, and interest on the debt account for over 80% of Federal spending, that leaves less than 20% that is discretionary. It would take a catastrophe to bring about meaningful spending reductions. Monetary policy can accommodate only so much in accommodating irresponsible deficit spending. Projections currently visualize trillion dollar deficits many years in the future. Typically these projections are optimistic. Then add universal healthcare which the Liberals are now seeing as a fundamental right. The outlook is for an unsustainable trend. As Herb Stein devlared in a profound moment of insight: An unsustainable trend will come to an end”. Wonderful. We just do not know how or when, but my view is that it will be a wrenching period of adjustment.
This is not the first time in history that irresponsible governments have gone through extended periods of spending beyond their capacity to tax. The ultimate solution has always (not just sometimes, but ALWAYS) been to debauch the currency. Just run the monetary printing presses and let inflation ultimately bail out the borrowers. We will pay off our debts with cheaper dollars. Our Federal government is not the only entity over its head in debt. How about our states, such as California? The states cannot bail themselves out through currency devaluations (and therefore self-imposed inflation. Therefore, they have a Constitutional requirement to balance their budgets. But many states, especially the more “progressive” are ignoring this legal requirement. They are also playing cook-the-books to hide the biggest part of their liabilities. In the case of California, the reported general obligation debt is approaching “only” $100 billion. State Agency debt, not included in the G.O number, is over $200 billion, and unfunded pension liabilities are also over $200 billion. So, California’s debt is over a half a trillion dollars. The rating agencies are threatening to cut their debt ratings. There is talk of the Federal government (our tax dollars) guaranteeing all state debt. If we thought there were corporations that were too big to fail, how about states? States are too big to fail. They would also benefit from a dose of inflation so they can pay off their debts with cheaper dollars.
Individual households are deeply in debt. Much of the middle class is maxed out on their credit cards after having used their homes as ATM machines in refinancing to support their excessive lifestyle for many years. Lower classes are in worse financial trouble. A large percentage of homes are under water financially. A dose of inflation could bring them back so their values might again be higher than the mortgages financing them. Suppose by magic inflation were to double the value of homes and double personal income overnight. Wow. Homeowners could instantly afford their mortgage payments with their higher income. I believe that a populist government, recognizing that there are more voters that are borrowers than lenders, and not being very mindful of the interim turmoil caused by an inflationary spiral, might see inflation as a positive thing and would hope to see more of it. The last thing any administration wants to do is to see the collapse happen on their watch. No administration wants to be the one that has to reduce spending, particularly reductions in “entitlements”.
Greece is a perfect example of what could happen in our states. Facing certain defaults on its debt, Greece had to admit to hiding 3/4 of their deficit. The IMF is stepping in with requirements that Greece must implement a severe austerity program that will last for many years. There is rioting in the streets. In Europe this could spread to Spain and Portugal, maybe Italy and Ireland and Belgium. While Greece is small, if the other countries fell into the same situation, the stresses would be come large. These countries are in debt way over their heads through an imbalance in receipts versus disbursements. They cannot bail themselves out using the traditional method of debauching their respective currency because their currency is the Euro. Germany, and to a lesser degree, France, are the only internal sources of European bailouts. How do you think the German and French taxpayers are going to feel about bailing out their less responsible neighbors? This situation could rip the EU apart.
A part of the U.S. investment community seems to be unmoved by these developments. They look at current inflation and say, “What inflation? As long as the Economy is weak we don’t have to worry about inflation. You can’s push a string. It takes rising demand to pull the string for rising prices”. Well, I for one would hope that the current statistical recovery will morph into a full fledged period of economic growth, when we will indeed see the CPI basket of goods and services rise. But inflation can also be seen as the declining purchasing power of the dollar. By flooding the market with liquidity (for instance through the Fed buying huge amounts of Treasury securities) we inevitably diminish the value of each dollar, and this will inevitably show up in a rising CPI.
The overall point of all of this is that as I look out over the next 5 years I am pessimistic because I do not visualize the world getting fiscal control. The ultimate adjustment, when it comes, will be horrific. In the near term, I sometimes feel like the guy who has jumped off roof of the 20-story building and says, as he passes the 11th floor, well, this doesn’t seem to hurt a bit.”
>SuperMedia: Turnaround Play
March 11, 2010
>A New York presenter recommends SuperMedia (NASDAQ: SPMD, $39.40). This publisher of directories just emerged from bankruptcy in January, with a debt load reduced from close to $10 billion to $2.75 billion. Management’s much more focused strategy and improving economy make this an attractive turnaround story. The company’s unique guarantee program differentiates SPMD from competiton. Strong online presence, growth in direct mail, and opportunities in mobile applications should help mitigate negative trends in print directories. The upside is 100%+, based on comparison to DEXO, a major competitor, which has also gone through bankruptcy.
>Tatum/Roulston Report
March 10, 2010
>The pundits just can’t get enough economic data to make their point. Wall Street economists can’t help but compare the current recovery to the past. It just seems they can’t be talking to the same companies, bankers and consumers we see in our travels around the country and the Tatum Survey is hearing every month. As we have said recessions are economic while depressions are emotional. The credit meltdown has had a lasting emotional impact unlike anything we have seen in the last 50 years. Savings, retirements and a good degree of confidence was lost and not soon to be replaced. Political and credit signals are creating ongoing uncertainty and this month in the Tatum Survey, we see that maybe unemployment is slowing but overall employment is not growing. Uncertainty is reflected in sloppy backlogs, capital expenditures and to some extent credit availability.
There is a leaderless funk that is concerning in its breadth. Business has reached a bottom and rebounded to a plateau where business after business we talk to compares to the levels they saw 3-5 years ago with little sign of visibility. There are businesses in isolated segments that are growing and some even thriving with catalysts in technology and health care spending to go along with government stimulus. We are not naysayers, but reality is that consumers are weighing the issues of credit and debt much differently than the last 20 years. Common sense tells us as we look at the state of commercial and consumer mortgages that banks are not likely soon to change their flexibility and generosity. Politicians are entering their “season”, so rhetoric is bound to rise. Our view is the market has pockets of opportunity for good managers. In general valuations reflect sluggish growth. Selectivity, accountability, transparency and diversification are our focus in 2010.
To read the full Survey click here.
>A NY presenter likes Live Nation Entertainment (NYSE: LYV, $13.41). The company finalized its merger with Ticketmaster in late January and is now a fully integrated entertainment services platform. Management was conservative with its guidance for cost synergies from the deal and there could be significant upside to company’s projections, beginning in 2011. Sponsorships and new ticketing schemes designed to cut out the secondary market for tickets, represent significant incremental revenue opportunities. The presenter targets a 20% upside, but stresses that his estimates don’t include potential top-line synergies. The stock is only followed by two analysts currently.
>Our NY presenter recommended GrafTech International (NYSE: GTI, $13.15). This producer of graphite electrodes has the leading share in an industry, where top 5 players command 65% of the market. GTI has the strongest manufacturing network of all competitors with only one other player having true global presence. The company has locked in supply of needle coke, the raw material essential in manufacturing of GE’s. As demand recovers, GrafTech should be able to return to pre-crisis operating rate levels. Leverage in the business model will translate into significant incremental EBIT. The upside is 50%+. The company has paid down debt and has liquidity available to finance expansion.
The Collaborator 