Monday, October 26, 2009

Focus on Operating Efficiency: Net Operating Profit Margin

In a previous installment, I covered a measure of after-tax operating profitability known as NOPAT (Net Operating Profit After Taxes). NOPAT serves as a relevant indicator of a firm's ability to operate efficiently, as it strips away many transitory, one-time items from the picture, focusing only on the firm's core business profitability. From an analytical perspective however, NOPAT may be more significant as a numerator of a ratio than as a stand alone measure. One of the most important such metrics is the Net Operating Profit Margin (NOPM).

Calculating the Net Operating Profit Margin is very easy, assuming however that you can properly ca
lculate a firm's Net Operating Profit After Taxes. See this post if you need a refresher on NOPAT. Anyways, below is the formula:

Net Operating Profit Margin = NOPAT / Sales Revenue

Hewlett-Packard (HPQ) FY 2008 NOPM Calculation

Net Operating Profit Margin = NOPAT / Sales Revenue
= $8591M / $118,364M

To verbalize HP's NOPM of 7.26%, we would say that for every dollar of sales, HP was able to generate 7.26 cents worth of after-tax operating profit. For many companies, operating profit margin may be a more concise measure of performance than the commonly cited Gross Profit Margin. Several small business owners I know are proud of what they perceive to be an impressive gross profit margin at their business. I usually dismiss such talk, as any fool can go out and sell cheaply manufactured products to generate a healthy looking gross profit margin. To pass the NOPM test though, you must be able to operate the organization efficiently and effectively.
Because net operating profit margins vary greatly across industries, it's most productive to compare NOPM's across competing organization's within an industry. Below is a focus on HP and it's primary tech industry competitors from a NOPM perspective.

Clearly, industry leaders like IBM and Apple tend to have very healthy net operating profit margins. There's a little bit of "chicken or the egg" dilemma inherent to that observation; i.e. larger industry leaders are better able to exert their will down the supply chain and operate more efficiently.

Although NOPM is only one element that should be considered when evaluating a company's/stock's relative investment attractiveness, it is nonetheless a very insightful indicator of the profitability of a company's operations.The most important analysis that should be performed as a companion to the NOPM calculation is an evaluation of a firm's leverage. NOPM strips out interest expense, effectively looking at the firm from a non-levered position.I'll get into that portion of analysis later via an examination of the debt-to-equity ratio.

*no positions
Sphere: Related Content

Friday, October 23, 2009

Windows 7 Upgrade From RC to Home Premium

Based upon the sheer level of confusion and misinformation that's percolating across the internet, I'd like to clear up an issue that many people have been speculating about.

Can I Use a Windows 7 Upgrade disc to install the recently released, fully operable version of Windows 7 on top of the RC installation? The answer is yes.

About a month ago, I installed the Windows 7 RC on a separate partioned hardrive of my Mac. I also own two copies of XP, and a copy of Vista Ultimate; however, both had been removed from my Mac prior to the RC installation. From within Windows 7 RC, I took the following steps that resulted in a fully functional install of Windows 7 Home Premium.

1) Purchased Windows 7 Home Premium at the student discount price (at least I'm recouping a fraction of the price of business school prior to graduation) of $29.99.
2) Downloaded the installation files onto my Windows 7 RC desktop. Time was approximately 40 minutes.
3) Click the setup.exe file to begin installation.
4) Select a "Custom" or "Clean" Installation.
5) Enter the product key provided during checkout.
6) Enjoy your fully operable version of Windows 7 Premium.

To the best of my knowledge, Microsoft has acknowledged that the above installation method is a viable possibility; however, they've also claimed that it is not a "supported" method of installation. I'll provide an update if there are any problems, but thus far everything is running perfectly smoothly.

Disclosure: no position in MSFT stock. Furthermore, Microsoft has absolutely no role in the publishing of this post, including but not limited to free products, or even a remote suggestion that I provide their new product with free publicity.
5) Enter the Windows 7 Home Premium product key obtained during Sphere: Related Content

Monday, October 19, 2009

Evaluate Operating Performance: Net Operating Profit After Taxes

Although I'm partial towards the use of Operating Cash Flow (OCF) as a primary basis for performance measurement, investors should nonetheless be familiar with Net Operating Profit After Taxes (NOPAT). NOPAT is completely derived from the income statement, subjecting itself to the usual non-cash adjustments dictated by GAAP. However, NOPAT is useful because, as the name implies, it is strictly a measure of operating performance.

Calculation of NOPAT is relatively straightforward, you're simply multiplying Income From
Operations Before Taxes by the corporation's effective tax rate. To calculate the tax rate, divide income tax expense by net income before taxes(NIBT); make sure you place NIBT, also known as Pretax Income in the denominator, and not Operating Income. Once you've determined the total taxes owed, you just subtract it from Operating Income to arrive at NOPAT. The two step process is delineated below:

Tax Rate = Net Income Before Taxes / Income Tax Expense
Net Operating Profit After Taxes = Income From Operations Before Taxes X (1-Tax Rate)

*Note that a company's annual reports and 10-Q's will not always show a neatly constructed income
statement that spoon feeds you the Operating Income, Pretax Income, and Income Tax Expense lines. GAAP doesn't require the income statement to be constructed in any special sort of way, thus you may have to occasionally deploy some common sense. Nearly all of the time however, websites like Yahoo!Finance and (if you have a subscription) S&P's NetAdvantage will go ahead and break out the necessary line items. The point is, pay attention.

I'll use Hewlett-Packard Company (HPQ) to illustrate an example calculation of NOPAT:
HPQ NOPAT - Year Ended October 31st 2009
Tax Rate = $2144M / $10,473M
= 20.47%

Net Operating Profit After Taxes = $10,802M X (1-.2047)
= $10,802M X 0.7952

Hewlett-Packard's NOPAT of $8590M compares with net income of $8329M for fiscal year 2008; at only 3% less than NOPAT, 2008 net income is indicative of only a modest amount of interest expense for the year ($329M). The disparity between NOPAT and net income isn't always so m
inimal, as can be seen in the chart below:
General Electric (GE)'s large disparity between NOPAT and net income is an obvious first observation to make. The primary driver of this phenomenon is the $26,209M worth of interest expense incurred by the company during 2008. The second result of such a massive interest expense is that GE's 2008 effective tax rate was only 5.3% (interest is deductible). The relationship between these two variables will change based upon the industry, and circumstances specific to the company.

*long GE
Sphere: Related Content

Friday, October 16, 2009

Measuring Investment Capacity: Operating Cash Flow to Capital Expenditures

The price that an investor is willing to pay to acquire a share of a corporation's common equity is largely a function of the corporation's potential earnings growth. When purchasing a stock, you are effectively paying for earnings growth in advance of its actual occurrence. At a basic level, in order to grow, a company must be able to invest in both its existing and future property, plant and equipment. A grading contractor who can barely afford the maintenance on his existing machinery will most likely not be expanding the business any time soon. Therein lies the analytical significance of the Operating Cash Flow (OCF) to Capital Expenditures (Capex) Ratio.

Once again, net cash flows provided by operating activities serves as the foundation of this ratio; because non-cash items on the income statement won't exactly help a company purchase a new tract of land or an excavator, we can go ahead an dismiss net income as irrelevant. The point is to isolate the cash generated by a company's operations, and determine whether it is adequate to fund investment in its income producing assets. To calculate the ratio, simply go to the statement of cash flows, and divide "Cash flow from operations" by "Capital Expenditures". A ratio greater than one (1) indicates that a company's operations are generating the cash necessary to fund its annual investment needs. I'll use the cash flow rich Exxon (XOM) as an example:

Operating Cash Flow to Capital Expenditures = Operating Cash Flow / Capital Expenditures
= $59,725M / $19,318M
= 3.09

During fiscal year 2008, Exxon generated over three times the cash needed from operations in order to fund investment in its plant, property and equipment. The chart below compares the ratio for several other companies.

Clearly, some companies are more cash rich than others, and are better prepared to fund growth internally. A ratio of less than one (1) is indicative of a company that may need to borrow money, or that is in decline. I think we all know the story of Blockbuster (BBI); its ratio is so low because it is in decline (to be fair, it is officially in decline from a brick and mortar video delivery standpoint). OCF to Capex is definitely an important ratio that should be part of every investors toolbox. Sphere: Related Content

Thursday, October 15, 2009

Operating Cash Flow to Current Liabilities: The Self-Sufficiency Ratio

One of the most fundamental questions we can ask about a company is whether or not it is generating the cash necessary to service its debts. Furthermore, it's important to differentiate between cash generated from operations, and cash generated from financing activities (borrowing or stock issuance); once a company starts raising money for the sole purpose of meeting current debt obligations, we might as well just call it a Ponzi-scheme. To help make that determination, we'll use the Operating Cash Flow to Current Liabilities Ratio.

To calculate the ratio, first locate Net Cash Flow From Operating Activities (CFFO); its found on the statement of cash flows.Next, go to the balance sheet and locate Current Liabilities; this represents debt that matures in one year or less, accounts the company must pay within the year, and the current (one year or less) portion(s) of long term debt.You'll need to calculate the average amount of current liabilities for the period you're examining. Therefore, because the balance sheet represents only a single point in time, you'll need to average the current liabilities section from the two separate balance sheets which mark the beginning and end of the period for which you want to perform the analysis.Divide CFFO by the average current liabilities, and there you have the ratio. Any result less than 1 indicates that the company is not able to liquidate its current liabilities from operating cash flow; in other words, the company will probably have to sell assets, borrow money or issue stock in order to meet its short term debt obligations. (Hence, the "self-sufficiency" title to this post).The 2008-2009 solution is, of course, to conduct a mass layoff. Nothing frees up cash quicker than handing out 10,000 or so pink slips.

One company whose CFFO to Current Liabilities ratio I was particularly impressed with is Intel (INTC). I'll run through the calculation using Intel's numbers below:

Operating Cash Flow to Current Liabilities = Net Cash Flow From Operations / Average Current Liabilities

=$10,926M / ( ($7818M + $8571M) /2)
=$10,926M / $8194.5M

As you can see, Intel's ratio of 1.33 stacks up quite favorably against the other companies in the chart below:

Obviously, despite Wal-Mart's poor looking ratio of 0.4, there is no reasonable chance that it won't be able to pay its bills. I imagine that, being the largest employer in America, Wal-Marts wages payable account grows by hundreds of millions of dollars every week. In fact, accounts payable represented around 70% of Wal-Mart's short term debt. As is always the case, this ratio is not a silver bullet, and needs to be used in conjunction with other tools. Sphere: Related Content

Wednesday, October 14, 2009

Free Cash Flow: The Alternate Bottom Line

One of the themes that I continually emphasize with regards to fundamental analysis is an approach that treats net income as an ancillary, rather than primary, valuation metric. Instead, investors should use Free Cash Flow (FCF) as a starting point from which to assess a company.

Fundamentally, free cash flow is cash generated in excess of a firm's operating costs and capital expenditures (CapEx). Capital expenditures are investments a company makes in its property, plant and equipment. CapEx can be investment in new land, machinery etc., or substantial "repairs" such as putting a new roof on a building. Therefore, CapEx can simultaneously be thought of a
s investment necessary for growth of the business, and investment necessary for maintenance of the firm's assets. Free cash flow then, is a pure cash measurement that is indicative of the firm's ability to finance expansionary activities from internally generated cash. Conversely, negative free cash flow is potentially indicative of the need for future borrowing.

I prefer to take one additional step in the FCF calculation, and net out dividends. If a company regularly declares dividends, a real cash outlay will occur, and it will detract from the firm's ability to expand operations. You could argue that dividends are voluntary and can be reduced or eliminated; however, that would adversely affect the stock price as the market adjusted to the new,
reduced stream of cash flows. The point is, be aware that there are varying definitions of free cash flow. An example of the FCF calculation for General Electric (GE), 2008 reported results follows:

Free Cash Flow = Operating Cash Flow - Capital Expenditures - Dividends
Free Cash Flow= ($48,601M - $16,010M - $12,408) = $20,183M

GE reported $17,410M for its 2008 net income, obviously a couple billion and change shy of its free cash flow generated for the year. The chart below looks at free cash flow v net income at GE and four o
ther companies.
Despite the fact that Exxon (XOM) makes every other industrial corporation look like a mom & pop general store, a major observation to be taken from the chart is that FCF can be either greater, or less than, net income. I wouldn't lay out a bright line rule as to what the ratio between these two should ideally be; the ideal relationship will change depending upon the specific corporation. For instance, Wal-Mart (WMT) primary method of expansion is via construction of new stores, a cash outlay that is already netted out of the free cash flow equation. There might not even be any new ventures for which Wal-Mart would need to apply its free cash flow. A diversified conglomerate like General Electric however, must constantly venture into new business activities, thus necessitating ample free cash flow. The more important point is to look at the FCF trend over time, and within the context of the company's current status. Sphere: Related Content

Tuesday, October 13, 2009

Earnings Quality Analysis: Operating Cash Flow to Net Income

In my intro to fundamental analysis, I focused on discrediting the P/E ratio as a viable means of gauging the relative value of a stock. The premise behind my campaign of disparagement was that net income, or the "E", is influenced by so many non-cash adjustments as to render its predictive value useless. In general, you could say that my complaints revolve around the concept of "earnings quality" (or lack thereof in many circumstances). Although earnings can consist of both cash and non-cash adjustments, I think we can all agree that earnings based on an increase in a company's cash position are of a higher quality than those which are not. Luckily, there's a useful ratio we can deploy against the income statement to determine the quality of a firm's reported earnings: Operating Cash Flow (CFFO) to Net Income

As the name implies, the ratio is calculated by dividing a company's operating cash flow by it's net income. Operating cash flow is an item found on the Statement of Cash Flows, and is often labeled "Cash Flows Provided by Operating Activities", or "Cash From Operating Activities". Basically, business activities are all placed in one of three categories: Operating, Investing, and Financing. Operating activities are the actions a company takes pursuant to its normal, or core business activities. For instance, a PC company like Hewlett-Packard (HPQ) sells computers and printers as it's core operating activity; if HP sold a piece of land it owned, that cash increase would not appear as cash provided by operating activities. Once you've located your CFFO number, move over to the income statement and find net income. Make sure you use the after tax figure. Divide the two, and there you have your ratio.

Example: Hewlett-Packard (HPQ), 2008 fiscal year totals
Operating Cash Flow: $14,591M
Net Income: $8329M
CFFO to Net Income = $14591M / $8329M = 1.75

The following chart should put HP's 1.75 CFFO to Net Income ratio in perspective; it shows that same ratio for HP and 6 other large tech firms.When a company's CFFO to net income ratio rises above 1, it is indicative of a strong ability to fund it's activities through generation of operating cash flow. In other words, a higher ratio means that the firm's earnings are of a higher quality. Both Apple (AAPL) and Intel (INTC) were able to generate cash from operations that was nearly twice reported earnings. Dell (DELL) however, actually generated less cash from operations than it reported in net income. If I were an investor in Dell, I would probably keep an eye on this ratio in order to determine whether it was a chronic issue at the company. A CFFO to net income ratio which remains below 1 for an extended period of time could be an indication that the company will need to raise money to fund its operations.

Next installment: Free Cash Flow: The Alternate Bottom Line

*no positions Sphere: Related Content

Monday, October 12, 2009

Intro to Fundamental Analysis: What's Wrong With the P/E Ratio?

Far too often, the relative attractiveness of a stock is discussed in terms of its price-to-earnings ratio (P/E Ratio). This is an inherently flawed method for determining a stocks value; although the "P" portion of the equation is an objective fact at any given point in time, the "E" is exceedingly more suspect in nature. For those new to this, "P" is the price of the stock, and "E" represents earnings, or net income. To keep things simple, suppose you have a $10 stock, issued by Company X. Let's also say that Company X has earned 25 cents/share each quarter of the past year, and it projects earnings of 25 cents/share for each of the next four quarters. In this situation, Company X will earn $1/share this year. Therefore, at a share price of $10, the stock is trading at 10 times earnings, or a P/E Ratio of 10. Note: Some investors like to use a forward P/E ratio, which basically looks at the next four quarter's worth of estimated earnings to determine the "E". Other fans of the P/E use trailing earnings to calculate the denominator; in other words, the sum of the four most recently reported quarterly per share earnings. I purposefully fashioned my hypothetical Company X earnings report such that both the forward and trailing P/E ratios are 10. This doesn't happen in real life.

Now that everyone is hopefully up to speed, I can get into the real issue here: What's wrong with the P/E ratio? Well, as I said before, the problem is with the "E" or net income. In small business, net income - or more commonly "profit" - is simply the cash left over after you pay the bills. It gets a little more complicated with publicly traded corporations, all of which must adhere to Generally Accepted Accounting Principles (GAAP). Under GAAP, the quarterly income statements that all corporations must file include, and in some cases are dominated by, non-cash items. Let's say a company purchases a tractor for $10,000. Fast forward one year, and the company has accumulated say $900 worth of depreciation on the tractor. That $900 will be recorded as an expense on the income statement, reducing reported earnings despite there never being a $900 change in the company's cash position. As a contrasting example, consider a company that extends credit to a large customer on December 20th, selling $1M worth of software. The seller's assets will increase by $1M via a debit to accounts receivable, and revenue will increase by $1M. Assume that the terms of the sale on account dictate payment within 30 days. For the year ended December 31st, that company will report the $1M as revenue, although they probably won't have received the cash yet.

A further earnings distortion occurs based upon the quarterly price fluctuations of balance sheet assets the company lists as "marketable securities". Often times, a company will use surplus cash to invest in other company's stocks. The change in market value of these securities, whether or not they are actually sold for a profit (or loss), will be recorded as income (or loss) on the quarterly income statement. Obviously, these items are neither indicative of the company's operating performance, nor indicative of changes in its cash position.

Hopefully, by now all readers are appreciative of the reality that a corporation's reported net income is a fickle beast, and that it should not be trusted. Therefore, any ratio whose entire denominator consists only of "net income" should be viewed through a skeptical lens. Don't worry though, as this post is only the first part of the Fundamental Analysis series. Future posts will help investors develop a more holistic and accurate approach to stock analysis and valuation.

Next up in the series: Cash Flow From Operating Activities (CFFO) to Net Income Ratio Sphere: Related Content

Friday, October 9, 2009

How to Interpret Goodwill On the Balance Sheet

Imagine that you purchased a home with the knowledge that you were paying $50,000 more than its true market value. Now imagine that as part of your personal financial planning, you decide create a personal balance sheet, and you list that $50,000 as an asset. This would make absolutely no sense right? The answer is, it depends upon whether you are an individual, or a publicly traded corporation. For the individual, that $50,000 on your balance sheet is nothing more than proof that you are an idiot. A corporation however, would be well within their rights under generally accepted accounting principals (GAAP) to record that $50,000 as an asset on its balance sheet, and label it "goodwill".

Technically, the above example is not entirely representative of the concept of Goodwill. Goodwill refers to the amount paid, when acquiring a company, that is in excess of fair value of the firm's net assets. Let's say the fair value of Company A's net assets are $7B, and Company B purchases Company A for an amount which corresponds to $10B. After the transaction, Company B will be left with $3B worth of Goodwill on its balance sheet. Supposedly, this amount represents some sort of intangible value that Company B believes will exist in the combined company. The problem as I see it is that Goodwill has the potential to inflate the perceived level of Shareholder's Equity in a corporation. Let's say Company X has $10B worth of assets, $9B worth of liabilities, and $1B worth of shareholder's equity. Now, assume that Company X has $3B worth of Goodwill recorded as assets. If this amount is a non-cash asset, and furthermore is unlikely to ever be converted into anything of value to the company, then couldn't the argument be made that Company X actually has -$2B worth of equity?

These cases do exist in real life. Take URS Corporation (URS) for instance. URS "provides engineering, construction, and technical services to the power, infrastructure, Federal, and industrial and commercial market sectors in the United States and internationally." As of January 2nd, 2009, URS reported $7B in assets, $3.15B of which is classified as goodwill. A little investigation indicates that that a substantial portion of this goodwill is attributable to the company's 2007 acquisition of Washington Group International. Given that none of this goodwill has been written down since 2007, one might ask: why? Well, my bet is that URS is benefiting from one of the luckiest acquisitions that any company could have made in 2007. The reason being, Washington Group - as the name might suggest - specializes in contracts through the Department of Energy, most notably nuclear waste management and disposal contracts. With the cyclical resurgence of new nuclear construction in the United States, and Uncle Sam's status as a profligate spender, it appears that URS acquired a company that will be uniquely resistant to recessions over the next couple decades. So, for now at least, we can say that the goodwill on URS's balance sheet is reasonably justified. This isn't always the case.

In 2008, Sprint (S) admitted that it's 2004 acquisition of Nextel was one of the poorest decisions ever made by a US corporation. Sprint didn't actually say that, but their balance sheet did; the company wrote down all of the Nextel related goodwill on it's balance sheet - all $29.5B worth. Way to go.

The moral of this story is that not all goodwill is created equal; it all depends on whether or not the acquisition which created the goodwill will ultimately be judged as a successful venture for the company. Such a determination is of course exceedingly difficult to make, as things like cultural incompatibility between the acquirer and the acquired can potentially ruin a deal that might have otherwise looked great on paper. Because of the obvious uncertainty in these situations, I personally tend to shun any stocks where the ratio of goodwill to total assets gets too high. How to define too high? I wouldn't issue a bright line rule on this one, but would just say that there is a 100% positive correlation between the goodwill-to-total assets ratio, and my level of discomfort with the company's fundamentals.

*Update: I realized that I neglected to mention a critical - and curious - component of goodwill. Unlike many other intangible assets whose "life" is fairly well defined, goodwill on the balance sheet is not amortized in any systematic way over time. Rather, it is subjected to an annual impairment test whereby the market value of the lingering goodwill is determined, and in the event that market is lower than book value, the goodwill must be written down to reflect this reality. Sphere: Related Content

Wednesday, October 7, 2009

Duke Energy: Earnings Management or Prudent Policies?

Earnings management is an ugly term; it carries with it the implication that a company has strategically timed and/or manipulated its financial statements in order to reach a more desirable earnings outcome. One of the areas that is susceptible to such tactics is the portion of the balance sheet labeled "Accounts Receivable"(AR).

Generally speaking, AR represents goods or services that a company has sold to a buyer on credit, i.e it has not yet received cash for the good/service, but it has booked the sale as revenue. The obvious question to arise from this scenario, especially during a recession is: what if the customer doesn't pay? The most precise answer to that question is that an aging analysis is performed, whereby increasing rates of loss are applied to the receivables based upon the number of days since credit was extended to the customer. For instance, we could classify all of our receivables as being 0-30 days outstanding, 30-60, and 90+. Experience might tell us that 2% of receivables in the 0-30 day category will end up defaulting, whereas a bill that's been out for over 90 days will "go bad" 10% of the time. These estimated loss rates are multiplied with the dollar value of receivable in each category, generating a loss estimate known as "Allowance for Doubtful Accounts". Interestingly, this number immediately counts as an expense in the income statement for the current quarter. If and when the debt is actually classified as "bad", there is no (net) effect on the balance sheet or income statement. Thus, the potential exists for a corporation to over estimate bad accounts in one quarter, and slowly bleed the "loss" back into the income statement over subsequent quarters. Need an extra 10 cents/share to beat analyst estimates? No problem, just dip into the "bad" accounts cookie jar and take it.

Now, I'm in no way claiming that Duke Energy (DUK) is engaging in this sort of chicanery. In fact, I own the stock and consider it to be a well-managed company. That being said, I'm intrigued by the fact that, since the recession began in December 2007, DUK's allowance for doubtful accounts, as a percentage of gross receivables, has steadily declined. On 3/31/2007, Duke classified 4.5% of it's outstanding invoices as "Doubtful". By 3/31/2009, in the depths of the recession, Duke only classified 2.79% of receivables as doubtful. These small percentage changes add up when you consider that DUK had $1.5Billion worth of accounts receivable as of the most recent reporting period. I'm surprised at this trend because I would assume that more households would forgo paying the electric bill during the recession than before.

There is of course another explanation which I, as a DUK shareholder, would prefer to believe. Duke Energy could simply be tightening its credit standards for new accounts. Presumably, that action would reduce the number of non-payers. Since I don't think the electric company can outright deny service to a household, my best guess is that they are either requiring a deposit of some sort, or are requiring less credit worthy individuals to set up an automatic account draft. Another possibility is that households are being forced to put their electric account in the name of a more credit worthy family member. Finally, Duke might simply be shutting off power to non-payers quicker than before, essentially eliminating several months worth of noncollectable accounts.

Obviously, Duke Energy has a fairly reliable and predictable stream of revenue. Other corporations may not, and as such, investors should be cognizant of this accounting trick before they pony up for potentially over valued common shares.

*long DUK Sphere: Related Content

Monday, October 5, 2009

GE's Global Chief Warns of Chinese Slowdown

The head of GE International, Nani Beccalli, told the Financial Times during an interview that he is concerned about the risk that the governments of the world will withdraw stimulus support too rapidly, and potentially jeopardize the tenuous global recovery. Surprisingly, when asked which specific country(s) are most at risk of a government misstep, Mr. Beccalli cited China, reflecting his view that the Chinese economy would suffer a significant slowdown if support from Beijing is withdrawn too quickly.

I would venture to say that Mr. Beccalli, who is in charge of all of General Electric's operations outside the United States, is uniquely positioned to accurately assess both the global economy as a whole, and the relative contribution of it's individual nation components. Thus, the GE executives assertion regarding China represents the most credible bucking of conventional wisdom about that country in some time. After all, if every economic tale told about China is assumed to be valid and true, then it could reasonably be surmised that the red-nation is on the brink of not only taking over earth, but also venturing into neighboring solar systems and subjugating their alien inhabitants. For some, it just seems that the US is out of growth industries.

What will America's next growth industry be? I certainly can't say with any certainty, however, a quick thought process might reinforce the notion that we aren't supposed to know what comes next. First of all, imagine the year is 1950, and you as an American as surveying the nation's economic prospects for the next half-century. Could you, at that time, ever imagine that the semi-conductor industry would give birth to powerful American corporations? No, because you wouldn't have even known what a semi-conductor was, or when it would be invented. The Technology Sector as we know it was nothing in 1950; we couldn't even conceive of it's existence. Most people probably thought that US auto makers would continue taking over the world, oblivious to the fact that an upstart US tech company - Google - would come closer to achieving that goal than GM ever had. A little bit of skepticism could go a long way towards a more accurate assessment of China, not to mention the future of the global economic and political landscape.

*long GE Sphere: Related Content

Friday, October 2, 2009

Ken Lewis Bullied Into Retirement By Government

As everyone knows by now, Ken Lewis, CEO and President of Bank of America (BAC), has announced that he will retire at the end of 2009. Most people won't shed a tear over the departure of a well paid CEO, especially when that CEO presides over the nation's largest bank by assets, and we are in the midst of an economic recession. Throw in the fact that this recession has been largely blamed on reckless banking practices, and it wouldn't surprise me to hear a few cheers over Mr Lewis's resignation. The problem is, this guy is the wrong scapegoat. Ken Lewis did the financial system a favor - whether it was voluntary or not - by purchasing both Countrywide Financial and Merrill Lynch. Furthermore, Bank of America's purchase of Merrill was the result of unprecedented Government coercion. The federal government has well established the fact that, in times of crisis, it may take virtually any action necessary to restore the "peace". Whether it be post-911, or post-Lehman, the reality is that the rights of any individual or corporation take a back seat to what the federal government feels is best.

My opinion of Ken Lewis as a person was distinguished by one story in particular. A good friend of mine served a term in Bank of America's internship program, during which he participated in the largely uneventful activities that occur during such stints. On the last day of the program, the bank held a small luncheon for the interns, where they were able to get a free meal and mingle with the bank's middle management. Once again, a potentially unremarkable event. In the middle of the festivities however, Ken Lewis made an unexpected appearance. He shook the hand of every single intern, and thanked each plebe for the time that he or she had devoted to the bank. Obviously, if you choose to take the cynical view on this one, the conclusion is that Ken Lewis did not care about the interns. However, the fact that the CEO of the largest bank in the country would appear at an intern luncheon is something I consider pretty remarkable.

The point is, Ken Lewis went down because of a dysfunctional federal government, and the political class' need to divert attention away from it's own culpability. Sphere: Related Content