Wednesday, May 27, 2009

Ackman Vs. Target

05/27/09 - 12:07 AM EDT


The much-anticipated annual meeting of retailer Target(TGT Quote) is Thursday and large shareholder Bill Ackman of Pershing Square has been in a long-running battle for the past several weeks to win five seats on the board.

Ackman has spent $10 million to $15 million of his own money on his campaign thus far. Although he's won over the support of two influential proxy advisory firms -- RiskMetrics and Proxy Governance -- he faces a daunting task in winning Thursday's vote. In its latest issue, Barron's magazine proclaimed that Ackman's campaign was "off-target," stating that "Ackman's initiative could be one of the worst-conceived efforts in recent years by an activist investor."

On Tuesday, Ackman pledged to retain his stake in Target for at least five years if he's elected to the company's board. He said his personal stake in Target is now worth more than $55 million.
Here's my view on the campaign.

A Review of the Fight

Ackman's Pershing Square has been a shareholder in Target for more than two years. In 2007, he opened Pershing Square IV, which was a fund solely dedicated to investing in Target. Pershing's funds own 3% of the stock outright with options to purchase at least another 2%, many of which are already in-the-money.

From very early on in his stock ownership of Target, Ackman has been an outspoken critic of the company. His calls for the company to unlock value in its real estate holdings date back to at least 2007.

Earlier this year, Ackman apologized to investors in Pershing Square IV after his option bets on Target had gone against him resulting in a drop in fund performance of 89.5% as of the end of January. Target management has used Ackman's option holdings to imply that he's more a short-termist than other investors and that his proposed changes are riskier.

Ackman's plan for Target consists of four parts: (1) unlock up to $40 billion in real estate value by placing the land under the stores in a real estate investment trust structure and then leasing back the land from the REIT; (2) sell the entire credit card operation; (3) improve the quality of the board of directors; (4) close the performance gap over time with Target's No. 1 competitor Wal-Mart Stores(WMT Quote).

Proxy Governance has supported Ackman's activist efforts and his full slate of nominees for Target's board. RiskMetrics, the more influential of the two proxy advisory firms, has recommended two of Ackman's five nominees (Ackman himself and Jim Donald, the ex-CEO of Starbucks(SBUX Quote)). Glass Lewis, another proxy advisory firm, has rejected Ackman's nominees and supports Target's full slate.

In the weeks leading up to Thursday's vote, Ackman has taken to the airwaves to make his case. He's an exceptional communicator. He's clear, thoughtful and forceful in making his case. I don't think there's a better activist investor currently practicing today when it comes to communication skills.

Target, for its part, also has been pushing its rebuttal to Ackman's criticisms, taking 10 minutes at the beginning of its most recent earnings call to cast doubt on the Pershing plan.

What's Worked With Ackman's Campaign

1. Target's performance has clearly lagged Wal-Mart's recently, and that's relevant. Barron's includes figures in its article that show Target's total three-, five- and 10-year returns vs. Wal-Mart, Costco(COST Quote), and the S&P 500. The results are through April 30, and cite Morningstar. The reported returns imply that Target's returns have been pretty good on a five and 10-year basis, even though they've lagged their peers in the last three years.

I was incredulous after reading this and so I went to Morningstar to revisit these numbers. What I found on its site tells a different story than the Barron's numbers. On the currently reported numbers (through May 22), Target's year-to-date, one-, three-, five- and 10-year returns all clearly lag their industry and the S&P, although the five and 10-year are roughly comparable with Wal-Mart).

2. This Target board is out of touch, like many corporate boards. There are many compelling points Ackman makes about how out of touch the Target board has become. Its directors currently own only 0.27% of the total Target shares outstanding. Many directors only hold shares given to them through options or equity grants. They've consistently relaxed the director tenure limits to allow directors like former Telstra CEO Sol Trujillo to serve up to 20 years on the same board.

Most corporate governance experts would tell you that a director no longer has "fresh eyes" to look at a company's issues and challenges after eight years on the same board. A two-decade term limit is outrageous. It's also ridiculous to hear that Target's nominating committee refused to meet with Ackman or his nominees about joining the Target board last year but paid themselves fees for sitting on this committee, even though that committee didn't meet once formally during the year. I can't recall seeing that in a recent large company proxy.

Target's board deserves a revamp. Its practices suggest a cozy group of insiders seeking to protect their job security as directors, rather than doing the right thing for shareholders. Things likely will change significantly in future boardroom battles, as last week the Securities and Exchange Commission threw its support behind "proxy access," which would make it much less expensive to mount campaigns and give shareholders a real choice in who they want to represent them on the board instead of only choosing from the incumbent slate. If Target's board doesn't change Thursday, it most certainly will next year.

3. This is a legitimate campaign -- not a distraction. As the Barron's article stated over the weekend, there is no shortage of management apologists who come out of the woodwork when there is a dissident proxy fight. Most of the time these commentators who support the status quo usually complain that the company isn't the worst of the bunch and therefore an activist campaign is a waste of time and a distraction.

That approach has allowed mediocre boards to persist in this country for decades. As the points I've mentioned verify, this campaign certainly has merit. What's more, Ackman has paid his way to put it on. He has real "skin in the game" -- unlike most, if not all, of these kinds of critics. The fact is that if more mediocre boards had been "distracted" by legitimate activist campaigns over the past two years it's likely we'd have a much stronger capital markets system today than the one which absolved itself of any risk management responsibility.

4. Ackman's made a great case. I tip my hat to Ackman, including his spirited attack of the Barron's article, for being a very precise and skilled communicator. I think he's made about as strong a case as an activist can make at this time against Target.

What Hasn't Worked

1. Target's poor performance relative to Wal-Mart hasn't been compelling enough. It's hard to win an activist campaign arguing what Target should have done in the last few years. Shareholders are human. They take short-cuts, they summarize, they look for sound-bite logic for understanding a campaign, and then they base their voting decisions on this incomplete information. Some shareholders rely heavily on what the major proxy advisory firms say when deciding how to vote. Although Ackman's made some salient points on how Target has lagged Wal-Mart, he will not gain as much shareholder support as he could have if the gap had been much more compelling.

2. The REIT component of Pershing's plan doesn't match today's environment. A large part of Ackman's plan includes increasing shareholder value through creating a new Real Estate Investment Trust. It matters not that Target uses Richard Sokolov, the president of Simon Property Group (SPG Quote) (who competes against General Growth Properties, of which Ackman is a large owner), to discredit Pershing's plan. The optics of the plan don't match the current environment we're operating in even if the substance of the plan is on the mark. It will be difficult to convince many investors to take a leap of faith on a sudden creation of $40 billion in value from moving a few shells around. At the moment, skepticism reigns.

3. Jim Donald's communication skills haven't matched Ackman's. As RiskMetrics' recommendation confirms, there appears to be the most support for Donald as a second pick for the Target board after Ackman.

During a recent joint CNBC appearance, Donald, who also helped build Wal-Mart's grocery business before leaving for Starbucks, failed to match Ackman's oratory skills. When someone questioned Donald about what changes as a director he'd like to see Target make, he deferred, saying that he needed some time to study things in more depth. It was modest and diplomatic but not in keeping with a bloody-nosed proxy fight.

What's more, it played to what Target has tried to press -- that there's nothing that significant to fix at the company. It would be ideal if all shareholders took the time to review all candidates' utterances prior to forming their selections, but unfortunately sound bites matter, and that one hurt.

When all is said and done Thursday, I expect that Ackman will win two seats on the Target board, along the lines as RiskMetrics suggests. In the long run, it should greatly help Target's other shareholders and prove the naysayers wrong. Ackman hasn't run a perfect campaign, but it's been very effective, and he will consider it a success with this kind of outcome. It also will give him the chance to further press his views at the board level. It's likely that Thursday's showdown will be a preview of many more activist contests to come next year, once the new SEC proxy access rule goes into effect. Sleepy boards should get ready for more distractions.

At the time of publication, Jackson had no positions in the companies mentioned.

Eric Jackson is founder and president of Ironfire Capital and the general partner and investment manager of Ironfire Capital US Fund LP and Ironfire Capital International Fund, Ltd.

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Wednesday, May 20, 2009

SEC May Shift Board Control

05/20/09 - 08:42 AM EDT


On Wednesday, the Securities and Exchange Commission will hold meetings on whether and how shareholders should be allowed to nominate directors to boards of companies in which they hold stakes. If a rule is agreed upon and put in practice in the next 90 days it could dramatically change the relationship between shareholders and management teams for years to come.

The normal course of business since the SEC was created decades ago was that management holds all the cards in selecting its board and insulating itself from criticisms from shareholders. Management picks the directors it wants, it can stagger its re-elections to make it next to impossible to overturn the board in any one year, and shareholders face huge costs and long odds in putting up their own candidates.

Even after the Enron and WorldCom scandals earlier this decade, the SEC saw fit to change nothing with respect to making corporate boards more accountable to shareholders. That's about to change.

With the latest downturn, and the large antipathy directed towards the SEC from the media and shareholders thanks to its overlooking Bernie Madoff and doing nothing to prevent large institutions like Citigroup(C Quote), Lehman Brothers, and Bear Stearns from imploding, the SEC can no longer look the other way. Chairwoman Mary Schapiro was brought in with a mandate and, so far, she's giving every indication that she's cleaning house and going the extra mile to give shareholders a voice for their concerns. All this has implications for the number of shareholder activist battles we'll see starting in 2010 and beyond. But more importantly it should truly improve the risk-adjusted returns for all public companies.

A few weeks ago, the SEC took an important first step in helping shareholders have more of an impact in annual votes. It announced it intended to get rid of "broker votes" being counted in favor of a management team's incumbent slate.

To explain how this works, take the recent case of Bank of America's (BAC Quote) annual meeting last month. Most press coverage focused on how a shareholder resolution was passed with a majority (50%) vote that stripped CEO Ken Lewis of also holding the chairman title. However, the truth is that broker votes played a key role in preventing other significant changes from occurring at the same meeting.

Here's how it works: Broker votes are those placed by brokers who hold the stock in the name of their clients. If these brokers don't receive specific instructions on how to vote their shares during proxy season (which happens the vast majority of the time for the vast majority of proxy votes), the brokers can vote them in the manner they see fit. About 99% of the time this means voting the shares in favor of management, artificially raising the perception of how much support there is for management among shareholders.

For Bank of America's vote, the Wall Street Journal calculated that broker votes would account for about 22% of the overall vote. This means that if BofA's vote had been held in 2010 instead of 2009, when broker votes will not be counted towards the election results, the shareholder proposal to separate the chairman and CEO titles would have been 64% instead of 50%. Moreover, based on last month's shareholder results, it's likely two other shareholder propositions would have passed: (1) allowing shareholders to call special meetings to possibly replace members of the board and (2) an advisory vote of executive compensation, or so-called say-on-pay. Two directors, Lewis and Temple Sloan, also would have received enough votes to vote them off the board entirely.

With the debate about allowing shareholders more "proxy access," the SEC is suggesting shareholders receive a more direct say on who will be elected to a board, at a significantly lower cost. Until now, it's been entirely the choice of management who gets elected to serve on the corporate board. Shareholders simply get to vote up or down on these nominees. The SEC wants to allow shareholders to put forward their own nominees for directors to be voted on. If there are eight spots open on the board, and eight put forward by management and four put forward by shareholders, the SEC is saying, "Let the best eight candidates with the highest number of votes serve." Sounds very democratic, doesn't it?

It's quite conceivable that in a few years at least the largest shareholders will see all potential directors parade through their offices in the weeks leading up to an election, pressing the flesh and making their case to be elected, much like politicians do in general elections.

The SEC's proposed rule, which will be debated Wednesday, will require shareholders to hold 1% of the company's shares outstanding in order to nominate directors to serve on companies with a market capitalization greater than $700 million. For companies under $700 million in market cap, shareholders will need to hold 3% in stock; for companies under $75 million in market cap, shareholders will need to own 5% of the shares outstanding.

By asking for "skin in the game" from shareholders who want to suggest candidates, the SEC hopes to ensure the candidates are of the highest quality and the suggestions are from the most serious shareholders.

Take the current battle being waged by Pershing Square's Bill Ackman, who is seeking to elect four directors to Target's(TGT Quote) board. He's estimated the current proxy battle, which will be resolved next week, is costing his firm $10 million to 15 million. He will pay this out of his own pocket, even while the incumbent board pays for all of its costs out of shareholders' pockets. It shouldn't be so costly or on such uneven terms to put forward some candidates for consideration.

When I hear management -- like that of Target -- complain that a shareholder challenge is too distracting and costly that it keeps it from running the business, I think to myself that if management had done a good enough job of running its business to begin with in the first place, shareholders wouldn't have been forced to take up a crusade against it.

These new shareholder-friendly rules from the SEC will serve all shareholders better than the old skewed rules. There will be a burst of challenges in 2010 and 2011 in response to these new rules and many boards will see their composition change significantly in response to the challenges. My prediction is that this initial "cleansing period" will prompt other boards to preemptively change themselves before being forced to by their shareholders. Counter-intuitively, I expect these new rules, in the long run, to lead to fewer shareholder showdowns, not more. Sunlight is the best disinfectant and the ability to cost-effectively run a credible proxy contest against a sleepy board will rouse many of these boards to heal themselves of what afflicts them.

At the time of publication, Jackson had no positions in any stocks mentioned.

Eric Jackson is founder and president of Ironfire Capital and the general partner and investment manager of Ironfire Capital US Fund LP and Ironfire Capital International Fund, Ltd.

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Friday, May 15, 2009

MF Global: Reemerging Broker

MF Global is the leading exchange-traded futures and options broker with a global footprint. It emerged following a spin-out from the large British hedge fund MAN Financial several years ago. It went public in the summer of 2007, before the two Bear Stearns hedge funds failed in August that year. MF’s IPO raised more than $4 billion, making it one of the largest that year.

Since then, the company’s stock price has fallen on hard times. It’s down 78% since its IPO, which is significantly more than other brokers like BGC Partners (BGCP; down 70%) and Knight Capital (NITE; up 11%).

Most of the problems the company experienced over that time were of its own making. Just a couple of weeks ago, the company was forced to pay a trader $30 million for deceiving him about the amount of his trading losses 8 years ago. There appears to have been a cavalier culture in the past that has led to other problems. Last year, then CEO Kevin Davis, admitted the firm suffered over $145 million in losses due to a rogue trader in Memphis. The lack of risk management led to Davis’ removal and the appointment of Bernard Dan.

MF’s stock bottomed out late last November at $1.72 – down from its all-time high of $31.08 in December 2007. Today’s it’s at $5.85, up 187% for the year. The new CEO has brought down its debt, bought back convertible notes, and closed down smaller offices in Western Canada.

Just on a pure rebound basis, there’s good reason to think the stock will continue to rise. Late last month, Pali Research initiated coverage on MF Global as a “Buy” with a one-year price target of $8. Consider also that, in early September – prior to Lehman Brothers’ bankruptcy filing – MF was trading at $7.58. Today, the company has a much stronger balance sheet and is benefitting from increased volumes of trading thanks to Lehman being out of the market.

There are several other possible catalysts for the stock. Later this year, we’ll find out if MF gets approved to be a primary Treasury dealer. Also, Wednesday, the Treasury department announced standardized OTC derivative trading. This means that more derivative contracts will be exchange-traded – bringing more volumes to MF.

Despite all these positives, the company should continue to work hard to cut costs out of the business. This is a company whose biggest costs are all employee-related. Globally, they have over 3,300 employees. Their closing of the Canadian offices were a good start, but more work needs to be done across the company in cutting costs in order to boost margins. The company’s operating margins were 10% in the last quarter. FCStone Group (FCSX) – a much smaller competitor, who nevertheless has more employees per dollar of revenue than MF – had operating margins last year of 23%. It should be the larger MF with better margins than the smaller FCSX, not the reverse.

There is always a possibility for a buyout at some point. IntercontinentalExchange (ICE) or CME Group (CME) might be potential buyers who want to move downstream to own the brokers who sell their futures and options. Both of those companies have been on a tear this year and will continue to look for adjacent acquisitions that can keep their growth going.

MF Global remains a broker to watch. They will announce their latest quarterly earnings on May 21st.

[Jackson’s fund is long MF.]

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Thursday, May 14, 2009

Canadian Banks Should Target Growth Across the Border

05/14/09 - 01:04 PM EDT


Canadian banks pride themselves on having mostly sidestepped the global downturn that has ensnared almost every U.S. financial firm, and their conservatism has been admirable. Now it's time for them to take advantage of their relative strength and gobble up some weaker players to the south.

The "Big Five" Canadian banks -- Royal Bank of Canada (RY Quote), Toronto-Dominion Bank(TD Quote), Bank of Montreal(BMO Quote), Canadian Imperial Bank of Commerce(CM Quote) and Bank of Nova Scotia (BNS Quote) -- are doing better than Bank of America(BAC Quote), Citigroup(C Quote) and various U.S. regional banks since the storm clouds formed in August 2007.

The stocks of these Canadian banks are down between 30% to 44% since then, compared with declines of 80% to 95% for the U.S. banks. The one U.S. bank which has notably outperformed the Canadian banks is JPMorgan Chase(JPM Quote), which is only down 22% since August 2007.

The Canadian banks need to decide how they are going to take advantage of their relative health on the global stage to serve their shareholders. All five of these banks have traditionally stayed focused on their home market. That seems laudable when you look at the wreckage of banks like the U.K.'s Royal Bank of Scotland(RBS Quote), Switzerland's UBS(UBS Quote) and Australia's Macquarie Group.

Bank of Nova Scotia, or Scotiabank, has experimented a little with expansion into Mexico and Latin America. Royal Bank of Canada has dipped its toe in the U.S. market by buying Centura Banks in North Carolina. TD Bank bought online broker Ameritrade, Banknorth in New England and Commerce Bank in New Jersey.

Instead of expanding globally, these Canadian banks have been consolidating domestically and wanted to shrink further until their government stepped in to prevent it. Without the ability to merge and shed overlapping costs in their domestic market, all these banks should be looking to grow elsewhere, and there appears to be no better place than to their south.

Following the U.S. government stress test results last week, all U.S. banks (large and regional) are raising capital in secondary offerings to beef up their capital reserves. There is a feeling that all these banks have a new lease on life. This is a perfect time to be a buyer of these assets at these levels -- it's not necessarily the best time to be a seller if you think things are finally starting to brighten up after the last two years of thunderstorms.

The Canadian banks should be going after the best of the large U.S. regional banks. Royal Bank of Canada is large enough to make a run at PNC Financial(PNC Quote). Any of the Canadian banks could look to digest smaller players like People's United (PBCT Quote), Fifth Third(FITB Quote), Marshall & Isley(MI Quote), Huntington Bancshares(HBAN Quote) and First Niagara (FNFG Quote).

Banks in the Southeast, such as BB&T(BBT Quote), Suntrust(STI Quote) and Regions Financial(RF Quote), might be more open to a buyout deal but could bring more risk with their current loan portfolios. However, with the large number of Canadian snowbirds who vacation or live in Florida, there could be an advantage to having a large footprint in that state.

Last summer, Scotiabank was one of the suitors sniffing around the assets of National City before PNC took it over. There is a big difference between some of the healthier regional banks today and Nat City then.

There are still risks facing the Canadian banks. The Canadian economy generally lags the U.S. and unemployment is likely to get worse over the coming months (although Canada actually added jobs in April). As unemployment rises, so too will the banks' losses from credit cards, mortgages and auto loans.

Yet with a newly strengthened Canadian dollar and the banks' relative strength, this could be a golden opportunity for the Canadian banks. They should not squander this chance at making serious inroads into the U.S. market.

At the time of publication, Jackson was long Fifth Third.

Eric Jackson is founder and president of Ironfire Capital and the general partner and investment manager of Ironfire Capital US Fund LP and Ironfire Capital International Fund, Ltd.

This article was originally published in

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Wednesday, May 13, 2009

New York Times Could Use Mogul Aid

05/13/09 - 12:36 PM EDT


The New York Times Co.(NYT Quote) continues to struggle. Even after raising $250 million from Carlos Slim at a 14% interest rate and selling its own building and leasing it back for another $225 million, the company is facing a bleak future in a bleak industry.

Advertising revenue keeps grinding down. It dropped 27% in the first quarter alone compared to the year before. The company has stopped paying its dividend and is looking at unloading its stake in the Boston Red Sox. Yet, even if it does this, the Times will continue to be forced into major cost cuts next year to avoid bankruptcy, if current advertising trends persist.

For some people, those difficult economic realities don't change their love of the country's biggest newspaper. Entertainment mogul David Geffen tried recently to buy the 19% stake in the NYT owned by Harbinger Capital. No deal was struck because Geffen was reportedly unwilling to pay above market price for the shares.

It's likely that moguls will continue to look at buying some of the NYT. Equally likely is that the Ochs-Sulzberger family will agree to sell part of the company to these interested parties because it will be much more palatable to them than the prospect of losing control of the company entirely through a bankruptcy filing.

There are several reasons why Harbinger Capital would want to sell its stake in the newspaper. Harbinger bought its stake with great fanfare in late 2007. At the time, NYT was one of several large established media companies that Harbinger owned, with an eye to pushing them to adopt certain changes that would positively impact their stock prices. They took large stakes in Media General(MEG Quote) and Cablevision(CVC Quote), making their views known immediately on what needed to be done.

Yet, the world has changed for Harbinger since then and the NYT investment certainly hasn't worked out well for them financially. They've been hit with redemptions like any big hedge fund, and they've turned their back on media, drastically reducing their Media General and Cablevision stakes.

Harbinger's founder, Phil Falcone, is now spending a lot of time looking at starting a new satellite phone service and might raise a dedicated fund for that purpose. Selling its stake in the Times would be another turning of the page for Harbinger.

The most likely suitors for Harbinger's stake will be moguls like Geffen. For some reason, moguls appear to be drawn to the newspaper industry. Sam Zell bought Tribune. Geffen and Eli Broad were interested in the Los Angeles Times. Broad and Ron Burkle sniffed around The Wall Street Journal, before another mogul, Rupert Murdoch, closed the deal with the Bancroft family.

Besides Geffen's interest in the Times, and Slim's existing ownership stake that could potentially grow over time, Bloomberg LP has apparently been looking at buying a stake, as have the Google(GOOG Quote) founders (although Scott Galloway, one of Harbinger's two representatives on the NYT board, denies there have been discussions with Google).

The Ochs-Sulzberger family has given every indication that it wants to hang on and ride this out. The dividend used to be a major source of income for some family members. There are also several younger members of the family working their way up in the organization with hopes of taking on key leadership roles in time.

Yet, time isn't really on the side of the family. The current economic environment likely will continue to pressure the company. The Times could start charging for online content or make cutbacks in the newsroom, but it's likely it will still be facing a cash crunch next year.

If it's a choice between cutting the NYT's journalistic standards and selling an equity stake to a mogul who views the ownership stake like a bauble to brag about to friends, I think the family will take the money.

Some moguls like trophy real estate assets; others like trophy newspaper assets. The New York Times is the biggest newspaper trophy in the world. My guess is that the Ochs-Sulzberger family will stay involved in the paper, but there will be two new moguls sitting on the board by this time next year.

Eric Jackson is founder and president of Ironfire Capital and the general partner and investment manager of Ironfire Capital US Fund LP and Ironfire Capital International Fund, Ltd.

Originally published in

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Tuesday, May 12, 2009

DigitalGlobe IPO Could Be Boon for GeoEye

5/12/09 - 01:08 PM EDT


[Note: after this story was published GEOY saw its shares sink when management mentioned on their conference call that 1 type of photo taken from their new satellite was a mix of black and white with color. They discovered it 2 days ago and couldn't say what, if any, impact it would have on future revenues as they were determining what happened. Investors sold first and asked questions later and -- to be fair -- GEOY management should have been more crisp in their answers. The stock has bounced off its lows. It's also a volatile stock during options week.]

GeoEye(GEOY Quote), the geospatial imagery company that sells images to corporate and government customers taken from its satellites, has received extra attention this past week because primary competitor DigitalGlobe (which will hold the ticker DGI) is holding a rare IPO on Thursday.

This situation could be similar to what happened when Visa(V Quote) went public after MasterCard(MA Quote) -- DigitalGlobe's IPO should bring a big boost to GeoEye's valuation.

In the two months leading up to Visa's IPO last spring, MasterCard's stock price increased 26%. Following the IPO, MasterCard kept chugging, rising 24% over the two months post-IPO, which was better than Visa's 18.6% growth over the same period.

DigitalGlobe and GeoEye essentially operate a duopoly in the United States. Although they both compete fiercely for new business, they share a number of the same customers such as the National Geospatial-Intelligence Agency (NGA).

They have expertise in launching and deploying specialized satellites that can take pictures of a home plate from space -- in color. That's helpful for mapping, planning and, of course, national security.

There are very high barriers to entry in this business and it's not well known that the NGA funds the development and launch of these two companies' satellites. Their largest single customer has a built-in incentive to buy images from both.

Until Thursday's IPO, GeoEye has been the only public company in this duopoly, so the comparisons to judge valuation have been not ideal. Being a smaller-cap company also has led many to pass over GeoEye in the last year, especially as delays occurred around the launching of its latest satellite last fall and NGA giving the thumbs-up to the quality of the images coming from the new satellite (which was finally launched in March).

GeoEye's first-quarter numbers released last night were a positive surprise. Quarter revenue of $45 million exceeded analyst estimates of $41 million and was up significantly from a year-ago $35 million. Earnings per share were -9 cents, down from -5 cents a year ago but way ahead of analysts' estimates of -25 cents.

What's most impressive about these numbers is that the NGA only gave the green-light to the new GeoEye-1 satellite in late February. At that point, the previously announced service agreement had NGA committed to purchase at least $12.5 million per month for the next year or $37.5 million per quarter.

However, on the earnings call management indicated that very little revenue from this agreement was recognized in the quarter, suggesting that demand from other customers for GeoEye-1 images - those who didn't have to wait on the NGA's operational approval before purchasing their images -- was high.

It's especially intriguing to speculate how much Google(GOOG Quote) is paying for these images. GeoEye struck a deal with Google last fall prior to the satellite launch and stuck the Google logo on the side of the rocket.

This precluded GeoEye from selling images to Microsoft(MSFT Quote) or Yahoo!(YHOO Quote). GeoEye's management has yet to reveal the financial terms of its deal with Google, but the strong revenue growth gives some hope for continued ramp-up in the coming quarters.

From a cost perspective, some in the media have discussed GeoEye cash situation vs. the large costs of developing new satellites. The latest quarter's loss might make observers wonder if there's a lot to get excited about this business, even with growing revenue.

These concerns are overblown for a number of reasons. GeoEye went through a recent accounting restatement that ended in the first quarter and significant professional service fees were associated with this. In fact, SG&A for the quarter was up $3 million to $10 million compared to a year earlier, but most of those costs are one-time.

Revenue should continue to ramp up to historical operating margins of 45%. The company should be growing its earnings and cash over the next 18 months. Management also discussed several new hires the company is making in different areas of the business in anticipation of future demand. In addition, any new satellite development costs will be shared with the government as has been the case over the last few years.

In the last two months, GeoEye's stock price is up 34%. I suspect the stock will keep chugging as a much wider audience comes to understand the geospatial industry, thanks to the media attention focused on Thursday's DigitalGlobe IPO.

Please note that due to factors including low market capitalization and/or insufficient public float, we consider GeoEye to be a small-cap stock. You should be aware that such stocks are subject to more risk than stocks of larger companies, including greater volatility, lower liquidity and less publicly available information, and that postings such as this one can have an effect on their stock prices.

At the time of publication, Jackson was long GeoEye.

Eric Jackson is founder and president of Ironfire Capital and the general partner and investment manager of Ironfire Capital US Fund LP and Ironfire Capital International Fund, Ltd.

Originally published in

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AgFeed Still Looks Like a Bargain

By Eric Jackson

5/12/2009 11:30 AM EDT

AgFeed (FEED), an animal feed and pork company based in China, announced its first-quarter results on Monday morning. Its quarterly earnings of $3 million or 8 cents per share were ahead of analysts' estimates for 5 cents.

Even though revenue came in slightly light at $33.4 million instead of the $37.2 million expected, AgFeed's shares rallied as much as 15% before dropping back to about a 10% gain for the day in late trading. On a mostly red day across the board, AgFeed's results were encouraging.

Despite concerns about the HIN1 flu virus, which is still active globally, management sought to comfort nerves by pointing out the steps the Chinese government had taken to insulate the country from any risk.

Investors seemed to focus particularly on the comments from AgFeed's chairman pointing out the hog prices would rise in the second half of the year.

AgFeed has been on a tear since the start of the year, rising 170% year to date. Yet, currently, even after today's positive news on the latest quarter, the stock trades at an enterprise-value-to-EBITDA ratio of less than 5.

The primary risk facing the company is how the H1N1 virus continues to play out across the world. It has yet to really affect China, and pork remains one of the country's most popular dishes. In some ways, the H1N1 virus could benefit a vendor like AgFeed, which is selling nutrients to better protect that industry. Earlier in April, for example, AgFeed announced a partnership with the swine genetics provider Hypor. AgFeed is positioning itself as a must-have nutrient provider to any pork farmer in China.

However, in the short term, AgFeed's stock price will rise and fall with earnings expectations. Investors are presumably taking comfort from the company's announcement on Monday that first-quarter earnings were solid and that prices look set to rise at a healthy pace in the second half of the year, despite the current swine flu concerns.

The second major factor holding back the company is the "China discount." We see this in stocks such as Fushi Copperweld (FSIN - commentary - Cramer's Take) or any smaller-cap China stock. Many U.S. investors are concerned about AgFeed's governance and transparency.

To answer this, FEED is taking steps that are common to many other companies in their situation. It has opened a "corporate office" in the U.S. and also selected an American, Gerard Daignault, as chief operating officer. The company has also done its best to assemble a board of directors that shows that it is familiar with U.S.- and European-style governance standards. However, it's difficult to meaningfully differentiate AgFeed on this dimension in comparison with any other Chinese peer - at least not yet.

For the time being, an investor is left to weigh the upside of pricing, broad interest in agricultural stocks, Chinese demand for pork and the continued recovery of that country's domestic economy. When you weigh those against AgFeed's current valuation, I find it inexpensive and will continue to hold it for likely the rest of the year.

At the time of publication, Jackson's fund was long FEED.

Please note that due to factors including low market capitalization and/or insufficient public float, we consider FEED to be a small-cap stock. You should be aware that such stocks are subject to more risk than stocks of larger companies, including greater volatility, lower liquidity and less publicly available information, and that postings such as this one can have an effect on their stock prices.

Eric Jackson is founder and president of Ironfire Capital and the general partner and investment manager of Ironfire Capital US Fund LP and Ironfire Capital International Fund, Ltd.

Originally published in

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Reviewing CryptoLogic's Earnings and Call

5/7/2009 4:26 PM EDT

CryptoLogic (CRYP), an online gaming software provider, announced earnings last night that topped estimates by 5 cents a share, although they missed the top line revenue estimate. For the first time in several quarters, they stopped draining cash at an alarming pace due to cost cuts which should continue to play out for the rest of the year -- ending the quarter with $38 million in cash.

CRYP investors weren't happy, and cut the shares by 19% in today's trading.

I listened to the earnings call this morning and was impressed that the company has cut back on its large costs in response to the drop in revenues they've seen in the last year as they moved to more of a licensing model. The company has no debt and, a few quarters ago, it looked like it was trading below its cash. That was deceiving because they were seeing that cash drop an an unsustainable rate.

Thankfully, that has changed and they now expect to be profitable by the month of June and moving forward. So, you have a company with a $6.37 stock price and $2.80 of that made up of cash with no debt.

The CEO and CFO were a little cryptic on the call about the specific numbers they would put out over the course of the rest of the year. They kept repeating that the results would be in line with previous guidance. I think the lack of clarity led to a sell-off in the stock.

But here's what they did say. They would generate between $0.65 - $0.71 in EPS for the year. (This would be a big jump in growth, as the current quarter saw an EPS loss of $0.10.) With 13.8 million shares outstanding, and the previous cash balances mentioned, that means CRYP -- at its closing price today -- trades at 4.8x current year's projected earnings (excluding cash).

If the management can truly deliver the revenues and earnings to hit this guidance, the stock is cheap.

Please note that due to factors including low market capitalization and/or insufficient public float, we consider CRYP to be a small-cap stock. You should be aware that such stocks are subject to more risk than stocks of larger companies, including greater volatility, lower liquidity and less publicly available information, and that postings such as this one can have an effect on their stock prices.

Position: Long CRYP.

Originally published in

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GeoEye (GEOY) Staffing Up

5/7/2009 3:18 PM EDT

GeoEye (GEOY) just announced it will be hiring 12 people in their production facility in St. Louis, which is responsible for professional services relating to the satellite images they take for their government and commercial customers. They've also increased the physical space at this location to do this.

It's always a bullish sign for a stock price to see staffing increase -- especially in today's environment. It speaks to their confidence in future earnings.

In the case of GEOY, their new GeoEye-1 satellite is now collecting images and generating revenues. We should start to hear about how this is translating into earnings on next Tuesday's Q1 earnings call for the company.

As I've also noted here before, next Thursday will be the IPO for GEOY's top competitor: DigitalGlobe (DGI). This IPO should actually be a good thing for GEOY, as it will provide the first true apples-to-apples public comp for the company.

Position: Long GEOY

Originally published in

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TBS International: Looking Back or Looking Forward?

5/7/2009 7:15 AM EDT

Yesterday, after the markets closed, the dry-shipper TBS International (TBSI) reported its earnings. I've previously been bullish on the stock and said that I would be continuing to hold it through earnings and beyond. That's still the case. The results were disappointing and the stock dropped as much as 23% in the after-hours session.

Yet, here are some things worth remembering if you own the stock and are wondering what to do today given these results:

- The earnings estimates which TBSI "missed" on were an average of 2 wildly divergent analysts. One was very bullish and one very bearish. TBSI missed the average of the two for EPS, but actually beat ($72MM vs. $62MM) for top-line revenues. It's also clear that the bullish analyst who kept his estimate of a $0.43 EPS quarter clearly didn't listen to the TBSI Q4 call on April 1st where they specifically projected a loss (on target with the numbers they delivered) for the quarter. If that analyst had properly taken down his estimates (as the other analyst did), these numbers would actually have been a "beat."

- The stock price ended up last night's AH session at $9.93 -- or about where it last traded on Monday at 10am. It's had a heck of a run this week.

- The after-hours session traded about 10% of TBSI's daily volume. Any highs or lows in the pre-market or after-market sessions around earnings must be taken with a grain of salt; moreso with a smaller-cap company like TBSI.

- The company won't hold its earnings call until later this morning at 10am ET. Therefore, all the action in the AH is based on the earnings press release which is 95% backwards-looking to the results of the last quarter. There were only a couple of sentences in the press release looking to the current quarter and these were positive, saying that there was evidence of renewed (but still early) growth in their business. It's not uncommon to see a stock price perk up as management talks more positively with more color commentary during the call in market hours (if they do).

- I would be surprised if the market didn't focus more on the forward-looking comments of TBSI management today and only focused on that last quarter's numbers. That would really be a first for this earnings season, given what we've seen with casinos, financials, and others. I also find it hard to believe that TBSI isn't benefitting from the same trends DryShips (DRYS) said they were when they talked last week.

- The simple truth is that TBSI and other dryshippers see their stock prices trade in close proximity to the Baltic Dry Index (BDI). If that keeps going up over the next week, as it has been in response to the good news coming out of China, TBSI and the other shippers will see their stock prices increase and these earnings numbers will matter little. Remember in mid-March when TBSI warned of needing to discuss debt covenants with their bankers and the stock dropped sharply on the news to $5.09? Six trading days later, its stock price hit $7.24 -- or a 42% increase in about a week.

Obviously, we don't have crystal balls here, but it's important to keep everything in perspective. It's my view that China is on the track now to growing its industrial production slowly and surely in the months ahead, which should also carry over to some other emerging economies like India. As that happens, I expect the BDI to track slowly and surely upwards. That's why I will keep holding TBSI and why I think the shippers will continue to do well.

Position: Long TBSI.

Originally published in

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Monday, May 11, 2009

Fifth Third and Huntington: Big Winners from Stress Test

5/8/2009 12:30 PM EDT

Earlier this week, I said I thought that Fifth Third (FITB) and Huntington Bancshares (HBAN) were my favorite banks going into the Stress Test results. They've been the best bank performers today -- up 57% and 45% respectively today and more for the week.

I've sold my FITB May $6 calls this morning but rolled some of that profit into August $17.50 calls, as I see further upside ahead. Put me squarely in Jim's camp on financials versus Doug's(at least with respect to these smaller regionals).

For these two smaller players specifically, yesterday's news takes away the fear of highly dilutive future offerings. Yes, the risk of a drop in commercial real estate but that is countered with the potential for consumer mortgage re-fis continuing as we saw earlier in the week with FITB. What yesterday's results showed is that Midwestern regional banks were much better positioned than those in the Southeast (although FITB has its share of Florida exposure). This makes me less concerned about the commerical real estate shoe dropping in that part of the country.

Position: Long FITB.

Originally published in

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OM Group (OMG) is a Specialty Chemical Company that's Too Cheap

5/8/2009 1:12 PM EDT

I've taken a long position in OM Group (OMG). OMG operates prdominantly in two segments: Advanced Materials and Specialty Chemicals (especially used for memory disks and circuit boards). It is a big cobalt refiner, so the price of that underlying commodity is also a driver on the stock price.

It's a conservatively run company with $272 million in cash and only $26 million in long-term debt. It's most recent quarter, announced yesterday, had a small loss. However, it's expecting to stay cash flow positive this year and a weaker dollar, recovering commodity prices, and increasing chemical demand (with Dow's recent earnings being encouraging) should all help the company's future results.

The stock sold off yesterday and has bounced back today. In my view, there's still a lot of value here. The stock currently trades an a trailing 2.2x Enterprise Value to EBITDA ratio. That's just too cheap, when you consider DOW's is currently 7.4x.

As OMG delivers future positive quarters, expect its stock price to jump.

Position: Long OMG

Originally published in

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YHOO's Blue Lithium Acquisition Is Working

5/8/2009 3:29 PM EDT

I use Yahoo! (YHOO) Finance a lot and have noticed in the last couple of weeks that its Blue Lithium acquisition is doing a great job at placing targeted display ads with geographic relevance. Much better than Google (GOOG). Kudos to the Yahoo! team responsible.

Position: None.

Originally published in

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Hey Microsoft, Use Debt Sale for M&A

05/11/09 - 12:25 PM EDT


Eric Jackson

This morning brought news that Microsoft(MSFT Quote) will be selling five, 10-, and 30-year debt as soon as perhaps later today. This makes a lot of sense. Microsoft has been overly conservative in how it's managed its business since its founding, due to the personal biases of Bill Gates.

Investors couldn't complain in the early days, but the last 10 years have been grim from a shareholder-return perspective. Even when you count the dividends you've received as a shareholder Redmond initiated that program in the early part of this decade, you still have seen total shareholder returns of almost -50% from holding Microsoft for 10 years -- far below the Nasdaq and Microsoft's chief competitors like IBM (IBM Quote), Oracle (ORCL Quote) and faster-growing Apple (AAPL Quote) and Google (GOOG Quote). That's depressing for Microsoft investors and employees alike.

From a capital structure perspective, Microsoft's antipathy toward debt has always puzzled investors. Here is a dominant franchise, with perhaps the most pristine balance sheet in the world and a remarkable cash-generating ability, and yet it still keeps an enormous amount of cash on its balance sheet and refuses to use debt.

There are two open questions regards this debt issuance announcement: (1) How much debt will they issue? and (2) How will they use it?

If Microsoft's history holds, the amount of debt issued through this will be modest. They've indicated that the offering will be "benchmark" size, which indicates at least $500 million. If you compare the debt-to-cash ratios of larger peers Oracle and IBM, Microsoft should be looking to issue much more than that. Oracle has an equal amount of cash and debt, implying that Microsoft should look at taking their debt load to $24 billion. IBM uses debt even more aggressively. IBM's debt-to-cash ratio implies that Microsoft could take on $60 billion in debt easily.

If Microsoft does announce that it will raise a lot of debt, that news alone will likely send its shares lower. The market might figure it plans another high-ball offer for Yahoo! (YHOO Quote) or to take over Facebook at the $16 billion valuation Microsoft agreed to at their last round. How the market interprets the amount of debt Microsoft raises very much depends on how they will spend it.

Microsoft has begun buying back stock in the last five years and currently has an open plan to buy back an additional $40 billion in stock between now and 2013. For years, several Microsoft investors have called on the company to buy back stock as a way of reducing the amount of cash inefficiently sitting on its books to its investors.

Microsoft has obliged over the last five years, using about $100 billion in capital to pay shareholders dividends or buy back stock. Yet that strategy has led to total shareholder returns over that period of about -25%. To be fair to Microsoft, the simple strategy of dividending out cash to shareholders and buying back stock hasn't worked out for many companies over the last two years, as companies like Microsoft and Sears Holdings (SHLD Quote) have watched billions of dollars of their capital used to buy back stock at now-inflated prices.

Continuing to just buy back more stock is not the answer for Microsoft's low stock price. The company needs to give its investors a strategy for how it is going to grow. Investors are currently pricing in the likelihood that Microsoft will essentially run itself like a utility for the next 20 years -- as well as spend money in areas like search or the Zune, which will never return the capital spent. They believe Microsoft's top line will stay flat.

Microsoft management has given investors no reason to believe otherwise. We've heard little to excite us about the future growth of this company, more about its obsession with getting a deal done with Yahoo! and catching Google. That's not a corporate strategy.

The status quo isn't working at Microsoft. There needs to be a plan for growth at Microsoft, and it needs to involve acquisitions. The business press is littered with articles about how IBM, Oracle, and Cisco(CSCO Quote) will be using their strong balance sheets to pick off once-in-a-generation priced acquisitions in the next year -- yet Microsoft's name is never mentioned as another suitor. With its cash-generating ability and more capital from a debt offering, it should be in the mix.

To be successful in the long run, Microsoft needs people to green-light the best acquisitions and teams of people with the right skill sets to integrate them. Frankly, Microsoft hasn't shown it has either of those abilities. Microsoft investors don't need another expensive aQuantive deal or Facebook investment that smacks of desperation and has questionable long-term value for the company's shareholders. It needs to take a page out of IBM's and Oracle's playbook, though, and start doing deals to grow its top and bottom lines.

A big debt issuance, with a skilled acquisition team, and evidence of some exciting growth-related deals could suddenly show the market that this elephant can dance again.

At the time of publication, Jackson was long Microsoft.

Eric Jackson is founder and president of Ironfire Capital and the general partner and investment manager of Ironfire Capital US Fund LP and Ironfire Capital International Fund, Ltd.

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Sunday, May 10, 2009

Cheering for Bill Ackman at Target (TGT)

I read Jesse Eisinger's great profile of Bill Ackman of Pershing Square in my final copy of Portfolio Magazine.

Bill took some shots when his Target (TGT)-only fund was down 93% earlier this year. He had to apologize to his investors, loosen the fund terms and injected $25 million personally into the fund. AG Andrew Cuomo even called Ackman up to compliment him for how he handled the situation.

The last I heard, Ackman's TGT-only fund's return was -50% -- still a big loss, but a remarkable achievement in a little over a month off the bottom. This jump corresponds with TGT's move from its early March bottom of $25 to around $40 today.

Ackman's results show how quickly a one-investment fund, combined with the use of options, can see performance dramatically increase (or decrease). (Ackman has already said he'll likely never do a single investment-fund again.) There is still a good chance that this formula will assure he returns all the original money to his investors and, who knows, maybe even return them a small profit.

I'll be cheering for Ackman. He's got ideas in spades, which is something the world needs more of these days. And, besides, who doesn't love a happy ending?

Position: None.

Originally published in on 5/6/2009 1:37 PM EDT

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Friday, May 08, 2009

CryptoLogic (CRYP) Rising Ahead of Thursday's Earnings

CryptoLogic (CRYP) is a provider of software to online poker and other gaming sites. It comes out with its latest quarterly earnings on Thursday morning before the markets open.

The stock has been pummeled in the last year, down from $22/share to $7.65 today. It has consistently disappointed with earnings and has seen its one-time significant cash reserve droop from $75MM last spring to $36MM at the end of December.

The company has been signing deals to provide its software to several online sites in the last few months -- a key part of its strategy to get back to profitability. The company's current management was under fire from the former CEO who, a few months ago, was trying to force some turnover in the executive ranks based on the poor stock performance. That threat now appears to have gone away.

Investors are bidding up the shares of CRYP, which are up 16% today, expecting more good news on Friday. You can expect the stock to go higher still -- in a manner similar to what we've witnessed in Crocs (CROX) over the last 2 days.

Please note that due to factors including low market capitalization and/or insufficient public float, we consider CRYP to be a small-cap stock. You should be aware that such stocks are subject to more risk than stocks of larger companies, including greater volatility, lower liquidity and less publicly available information, and that postings such as this one can have an effect on their stock prices.

Position: None.

Originally published in on 5/5/2009 2:44 PM EDT

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Status Quo Not Working for Microsoft (MSFT)

Microsoft (MSFT) didn't participate at all in yesterday's rally. It's sagging again today. It's been a very frustrating long holding over the past weeks and months.

The biggest problem this company seems to have with the investor community is a mistrust by investors in management's ability to grow the company. The forward multiple has been compressed way too much compared to the S&P average. It's indicative of how investors expect margins to stay high but revenues to drop over time.

One MSFT investor recently told me that he thought the company was better off running itself like a utility. Make no new investments, except the bare minimum to keep Office and its OS going. Slash everything else. Pay out capital to shareholders. I respectfully disagreed with him. I think that's a recipe for keeping the multiple where it is and seeing it gradually decrease over time.

MSFT can leverage its balance sheet and leadership position to start telling an exciting growth story again. But that's going to require a major change from the status quo of how it's operated for the last five years.

Position: Long MSFT.

Originally published in on 5/5/2009 12:19 PM EDT

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Was Bob Nardelli Ever Any Good?

Doug Kass wondered aloud in these pages last week about why anyone would care about what Bob Nardelli thinks, after he went on CNBC to debrief us on the Chrysler bankruptcy.

After this poor outcome, on the back of his disastrous six-year run at Home Depot (HD), it's fair to ask the question: Was Bob Nardelli ever a good manager?

Is it the case that he landed in two situations where the odds were stacked against him and anyone would have failed, or is he responsible for those two poor outcomes? If he was responsible, why was he so highly regarded coming out of General Electric (GE)? Was that high regard misplaced?

Although Chrysler dealt Nardelli a tough hand due to its size and market position, Alan Mulalley -- another outsider to the industry like Nardelli -- appears to be steering Ford (F) effectively through it.

Nardelli presided over Home Depot during the biggest housing market boom of the last century, yet it dramatically underperformed against Lowe's (LOW) over that period.

Favoritism no doubt played a role in Nardelli getting the Home Depot top job in the first place -- as Ken Langone (Home Depot cofounder and chair at the time) was also on the GE board and was very close to Jack Welch. They offered him this consolation prize days after he was passed over for Immelt. But what got Nardelli near the top rung of the ladder at GE in the first place?

Was Nardelli any good at GE and did he simply go into industries (retail and autos) in which lacked the experience to be successful, or was Jack Welch a poor judge of talent in letting him rise as far as he did at GE?

Nardelli's stumbles obviously hurt his own career prospects, but they also mar the reputations of Langone and Welch, as well as the mystique of GE's leadership funnel.

Position: None.

Originally published in on 5/5/2009 9:49 AM EDT

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Fifth Third: Mortgage Refi Hope vs. Stress Test Results

Fifth Third Bank (FITB) rocketed 25% yesterday after news came out that its mortgage unit had refinanced $21 million of Freddie Mac loans recently.

There's no question that when you look at FITB -- or any of the regional banks -- they look cheap on a price-to-book basis. Signs like yesterday's that the mortgage crisis is close to bottoming and that they will participate meaningfully in the recovery are a boon to the stock price.

The question you have to overlook in investing in a FITB (and the other smaller regionals) is what will Thursday's bank stress test results reveal about its capital needs. As such, the shares of FITB and other regional banks will trade like options this week.

If the stress test results are similar to recent earnings results, anything short of complete disaster will be taken as a positive and shares will rally. There are risks, but I've taken a small position in FITB. I particularly like the insider holdings at this bank (2.4%) and another Ohio-based bank, Huntington Bancshares (HBAN) (9% with some buying in the last week), compared to a Regions Financial (RF)(where insider holdings are less than 0.5%).

FITB and HBAN also have almost double and triple the short ratios respectively as RF. This rocket fuel will also send shares higher on even muted news on Thursday.

Position: Long FITB.

Originally published in on 5/5/2009 7:50 AM EDT

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Sears Holdings (SHLD) is Stuck in the Middle

Eddie Lampert, the reclusive hedge fund manager and Sears (SHLD) chair, made his annual public appearance yesterday at Sears annual meeting.

At the meeting, he said that the he was going to increase SHLD's investment in the Internet, including social networking. He also said they'd be investing in a concept called MyGofer within Sears stores which would allow shoppers to pick up merchandise they bought online.

To me, SHLD appears to be in what Harvard's Michael Porter would call a classic "stuck in the middle" problem of strategy. They're too expensive to compete with Walmart (WMT) on cost and they're not specialized enough to compete with other specialized niche retailers (except maybe on appliances or tools). Now, on top of that basic business model problem, they're trying to be good at Web retailing and social networking. Somewhere in Seattle, Amazon (AMZN) execs are rubbing their hands together with glee. Also, the MyGofer concept is already standard at most Walmart stores.

There's more work ahead for SHLD. It will take more that a better website to convince shoppers that they need to pay attention again to this tired chain.

Position: None.

Originally published in on 5/5/2009 10:45 AM EDT

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Thursday, May 07, 2009

Hedge Funds: Not as Weak as Media Portrays

For the last few months, the media has portrayed the hedge fund industry as in desperate need to hang on to as much capital as possible. Hedge fund limited partners have purportedly been lining up demanding breaks on fees and access to capital in the future -- and getting them. The truth is a little different (or at least a little more nuanced) than this perception.

Based on conversations I've had with managers in the industry, there are two factors which appear to differentiate between those hedge funds who have agreed to big concessions on fees and liquidity with their investors and ones who haven't.

The first factor at play is the perceived "quality" of the hedge fund or the manager running it. There appears to be a tiered system for how funds are perceived by investors (Tier A, B, C, D, etc.). I'm not going to say which hedge fund falls into which tier, but Tier A hedge funds have much more negotiating power in discussing terms than Tier C or D.

I know of one Tier A who was instructed recently by a very large and well-known investor to cut their fees and loosen their redemption terms. The fund politely declined. The investor not only kept their money in (at the old terms) but greatly increased their allocation.

On the other hand, Tier C hedge funds are agreeing readily to the demands of their investors.

The second factor at play is what kind of portfolio a hedge fund has. There's a big differnce between funds that have only public equities (especially in large liquid companies) in their portfolios and funds that invest in the illiquid positions valued on a mark-to-model, instead of mark-to-market, basis. DB Zwirn was a former high-flying fund that traded in the former type of positions. It recently sold itself to Fortress as it needed to be able to hold on to its portfolio position for a long time to see any kind of reasonable return. It simply couldn't sell these positions to meet redemption requests.

What's most interesting about these happenings is that, despite the market ravages of 2008, the best managers at the best hedge funds, when push comes to shove, are still in demand by investors. They are not having to cut their fees or loosen their liquidity terms, even when their own 2008 performance was poor. At the end of the day, investors have to place their money somewhere and these managers still have an advantage.

Position: None.

Originally published in on 5/4/2009 4:32 PM EDT

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Natural Gas: Off the Canvas

Materials and Energy are having another great day. Natural Gas has finally gotten up off its back in the last few days. The price of natural gas is up nearly 5% today to $3.72. This has been reflected in the ETF covering the space (UNG), which is up an equal amount.

It's in the underlying stocks that we see the biggest moves. Anadarko (APC) is also up 5%. Corporate Governance-challenged Chesapeake Energy (CHK) is up 7% today.

My favorite in the NatGas space is McMoRan Exploration (MMR), a smaller player in the Gulf. It's up 18% today. I discussed it a few weeks ago ahead of earnings. They disappointed, but the stock price has steadily risen since then. It still trades far below levels seen last year. After today's run, it's back at its early February 2009 levels.

Jim recently worried about how the current price of NatGas could negatively affect firms' operating results (especially smaller players) as the year rolled on, as they haven't prepared for the price of natural gas at these levels.

That risk is still there. However, the other side is that today is the first real evidence of an upswing in this commodity compared to others. We're also heading back in to hurricane season next month, which should support the price further. There should still be some price appreciation in this space in the weeks to come.

Position: None.

Originally published in on 5/4/2009 3:18 PM EDT

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Buffett's Free Pass

I was intrigued by two articles this morning reviewing the Buffett/Berkshire (BRK) shindig over the weekend by Doug Kass and David Morrow.

Both point out that Buffett gets a free pass at these get-togethers over the years (as well as from the press in general). Neither says this out of malice. They are stating fact.
Buffett himself did not conjure this reality up. He has simply done his job over the years with his colleagues at Berkshire and is living with the widespread media interest around him and the firm.

Yet if we've learned anything from the last year, it's that investors and the media need to do a much better job at being skeptical of conventional wisdom, of not being afraid to skewer a few sacred cows here and there.

I recall in 2004 the tempest in a teapot over whether Buffett should continue to serve on Coke's (KO) board of directors because he was on the audit committee who authorized their auditors at the time do some non-audit work. There were howls at the time against CalPERS and others who supported Buffett's removal from the board. The counterargument went something like: "It's Warren Buffett. How could you possibly oppose his re-election?" That's not a fair argument in my view.

I'm not suggesting a smear job of Buffett or Berkshire, or that he shouldn't have been re-elected to KO's board. I'm suggesting we not worship false idols. I'm suggesting we ask tough questions when they deserve to be asked, no matter who's being put on the spot to answer them. When there are legitimate questions to ask, investors and the press should ask them. The press shouldn't be afraid of losing their access to future interviews.

No one deserves a free pass after what we've witnessed in the last 18 months in the capital markets -- and Warren Buffett would be the first to agree.

Position: None.

Originally published in on 5/4/2009 9:34 AM EDT

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Wednesday, May 06, 2009

BAC Directors Don't See Their Future

Reading about how Bank of America's (BAC) directors have expressed full confidence in Ken Lewis staying on as CEO and how they didn't discuss any other director taking over as Chair than Walter Massey.

Massey has been on the board (and its predecessor board) for over 15 years, so he knows BAC. However, he has no banking experience in his own career background. Also puzzling, he's approaching BAC's mandatory retirement age.

Some critics have said this is an 18 member board that was hand-picked by Lewis and is showing favoritism to him instead of doing what's right for shareholders. I agree.

What these directors don't realize is that, with SEC rule changes coming next year including tossing out broker votes, it will be highly likely (unless BAC pulls off a Hail Mary type of stock performance between now and then) that Lewis (and probably several other directors) will be fired directly by shareholders at the ballot box.

It's another example of why this board is out of touch and needs fresh eyes on it -- including in the CEO spot.

Position: None.

Originally published in on 5/2/2009 8:35 AM EDT

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Sue Decker's Next Move

Remember Sue Decker? She was formerly the next CEO of Yahoo! (YHOO). That was until a tough 18 months following Terry Semel's abrupt departure after shareholders voted against his re-election in large numbers at the 2007 annual meeting.

Decker came to Yahoo! from DLJ, as the Internet analyst who used to throw tough questions at Tim Koogle and Jerry Yang. She took over as CFO and, by all accounts, did a great job in that role.

When she got promoted to president, the problems started. She's very bright, but seemed to not grasp the technology as well as she might have and didn't manage the business as well as was required. She left under a cloud a few months ago when Carol Bartz was given the top job.

She's taken on a number of directorships over the years: Intel (INTC), Costco (COST) and Berkshire Hathaway (BRK-A). She'll be in Omaha this weekend for that annual fiesta. She got on to the Berkshire board, after serving with Charlie Munger on the Costco board and getting to know him.

She's serving time in the penalty box now after her Yahoo! experience, but there's no question she'll be back at a firm soon. However, I believe (and stated so after her departure from Yahoo!) that she's more likely to end up in a financial role (or financial firm) next than a tech firm.

I think Berkshire would be a good fit for her -- not to take over for Warren, but for an important senior role. Omaha's a little different from NYC or the Bay Area but I think she would love the opportunity to be part of the Berkshire team and prove to the world how good she is. I expect some kind of announcement in the next six months.

Position: None.

Originally published in on 5/1/2009 4:39 PM EDT

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Why Steel Is Up

I had a reader ask me earlier why steel stocks were doing well today. Several of them, such as US Steel (X), Nucor (NUE), and AK Steel (AK) just announced their earnings in the last couple of weeks where they warned of slowdowns in their business. They've all been doing their best to reduce costs.

The reason for the rise today is that the shippers are doing well, as is Coal, as is Ag, as is Energy. James River Coal (JRCC) annouced a great quarter this morning (up 24% today now) and we also had the postive news from DryShips (DRYS). It's a commodity day today.

Stepping back, even with the steel companies' cautious comments, basic materials have taken a huge hit in the last 6 months. They are going to participate better than the market, as the economy shows further evidence of stabilization and then growth. Once true inflation kicks in from current Fed policy, that's when you should really expect commodities to fly.

I like all these parts of the materials sector, including steel, to do well this year. However, I tend to favor smaller stocks like AK vs. big integrated companies like Arcelor-Mittal (MT) or X. The scrap steel providers like Schnitzer (SCHN), Steel Dynamics (STLD), and Metalico (MEA) will move later than the steel companies as they are further downstream. I like MEA a lot from here as it hasn't yet full participated in the rally of the last few weeks.

Position: Long MEA.

Originally published in on 5/1/2009 3:01 PM EDT

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Tuesday, May 05, 2009

Motorola's (MOT) Problems

Motorola's (MOT) numbers this morning weren't pretty. For once in a long time, it wasn't only the Mobile Devices division that did in the quarter but the home networks and enterprise ones joined in, with profits in those units down 25% and 37% respectively from a year earlier.
Like a lot of companies this earnings season, MOT missed on the top line but beat on the bottom.
Mobile devices will not be spun-off any time soon, according to co-CEO Sanjay Jha.
Investors didn't like what they heard, and shares are off 7% this afternoon.

The company does have a number of positive things going for it. We're likely approaching the trough for worldwide sales of mobile devices. As people shun traditional PCs in favor of lighter netbooks and mobile computing devices, this market is set to rebound. RIMM's and Apple's (AAPL) recent earnings demonstrate this thesis is working. It's also comforting to know that, as bad as things have been for MOT, it still sold more phones than RIMM and AAPL did last quarter combined.

The bad news is that MOT is still led by an awkward co-CEO structure that was created when splitting the company seemed imminent. Greg Brown was an uninspiring choice to replace Ed Zander from the start. This company's board is still pretty much the one that oversaw the company perform hari-kari on itself. It's also very quickly destroyed its brand identity it had recaptured thanks to the RAZR.

It's possible the roll-out of the Google (GOOG) Android phones later in the year will create some buzz to jumpstart flagging mobile devices sales (down 45% from a year ago), but those are quite a few eggs in one basket. I would stay away from MOT.

Position: None.

Originally published in on 4/30/2009 3:11 PM EDT

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Best Bank You've Never Heard Of: Credicorp (BAP)

While we try to guess how our banks are going to do when results of the stress tests are released next week, there is an undiscovered (and potentially less risky) gem of a bank in Peru: Credicorp Ltd. (BAP).

The bank has been a steady performer over the last 5 years and still is performing well in the current environment over the last 6 months. In Peru, it's based in one of the most stable market economies in Latin America.

BAP's return on equity is over 21% with cash on hand greater than its debt ($4B). Its forward PE is only 8. Its revenues have dropped in the last quarter, as it's unquestionably tied to the commodity trade in South America. As the price of copper took a hit in the last 10 months, BAP traded down in sympathy.

If you believe that commodities are going to continue to appreciate over this year and into next, another way to play that is through BAP. Its credible management team has a solid 5 year track record to show for themselves (up 300% over that time).

Position: None.

Originally published in on 4/30/2009 1:33 PM EDT

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DigitalGlobe (DGI) IPO in mid-May Should help GEOY

Following my earlier post this morning on how GeoEye (GEOY) was started at a "buy" at Canaccord Adams, a reader pointed out to me that GEOY's duopolistic partner DigitalGlobe (DGI) finally announced yesterday that it will go public in mid-May.

DGI filed its S-1 to go public a year ago, but it hasn't been able to because of the general markets. It will be only the 5th IPO this year.

DGI's IPO is a positive for GEOY and -- I don't believe -- is yet reflected in the GEOY stock price. GeoEye has done a poor job communicating its strong story but, as a small company, it's been at a disadvantage getting people to pay attention. With increased analyst coverage, as we see today, plus future earnings calls and DGI's IPO in a couple of weeks, there will be a lot more attention given to this industry of satellite imagery and GEOY.

I bought some June out-of-the-money calls this morning, as I expect the good news of May to be reflected in the stock.

Position: Long GEOY

Originally published in on 4/30/2009 11:35 AM EDT

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BAC and C Need to Turn the Page with New Leaders

Bank of America (BAC) piled too much on its plate in terms of acquisitions -- especially the most recent ones that are so much larger than the little retail branch acquisitions that have been their bread-and-butter through their history.

However, there's a simple answer to their CEO question: he should leave. Imperial CEOs and their lackeys like to create this myth at times of stress and pressure that they are "indispensible men." Some shareholder during yesterday's BAC annual meeting even got up and asked the audience of shareholders: "If not Ken, who's going to lead us?" [To which he got a hearty applause]

I think there's an abundance of managerial talent available -- outside the bank if not inside the bank. The best thing for BAC shareholders (and for the ones of another embattled bank, Citigroup (C)) would be for a change at the top. Maybe they're good guys who are a victim of circumstance, but you would have to acknowledge that Ken Lewis and Vikram Pandit have failed their test of leadership in the last 18 months. It's time to turn the page and move on.

I would argue that Lewis has no credibility now after yesterday's vote to stay on as CEO. People need to realize that most of the BAC shares held by brokers were automatically counted towards his re-election yesterday and for him to keep the Chair and CEO titles. Had those votes not counted either way -- as will be the case thanks to the SEC starting in 2010 -- the votes against him (and the other directors) would have likely been 15 - 20% higher than the numbers reports.
This means a real majority of shareholders voted down the re-election of several BAC directors yesterday and almost three-quarters opposed Lewis keeping the Chair title.

That's not a mandate to continue leading. It's time for Lewis and Pandit to go.

Position: None.

Originally published in on 4/30/2009 7:57 AM EDT

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Monday, May 04, 2009

Time Warner (TWX) Looks Tired

There were a number of positives in Time Warner's (TWX) results and call this morning. It's also true to say that it and some of the other Big Media companies are showing signs of life here in these last few weeks which they haven't for months.

However, I think it's noteworthy that TWX has given up its earlier 7% gain and is now up only 1% on the day. We'll see what happens in the days to come.

I think with TWX, investors are looking ahead and wondering what kind of company do they have post-AOL spin? The economy and ad market could keep recovering and help the stock. Networks are doing well. Film's been resilient but it's a hit and miss business. Publishing, despite good results for the last quarter, is likely going to continue to be operating in a weak environment. For me, as an investor, I find few reasons to be in Big Media compared to some other industries.

Position: None.

Originally published in on 4/29/2009 3:43 PM EDT

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