Moving Job Overseas in Connection With Obama Tax Plan

As previously hinted, the process of Companies threatening to move jobs overseas in response to the Obama International Tax Reform Proposals has started. The newest CEO to speak out about the International Tax Reform is Microsoft.

Bloomberg reports that if the reform occurs, Microsoft will move jobs overseas to avoid excess taxation.

Obama had to know this was a possibility, and that many CEO's and lobbying groups will continue to threaten responses to any tax proposal that resembles Obama's earlier presentation.

Unfortunately, I believe that companies will go further than merely threatening to reduce jobs, they will actually move entire corporations to International Tax Havens, such as; Ireland, Bermuda, and other similiar low tax jurisdictions.

On the other hand, Obama is an intelligent negotiator and may be using the tax proposal to soften the blow of other less strignent taxes, in order to increase his leverage in future discussions.

Value Added Tax Proposal

The Washington Post Reports on a rumblings of a re-though on the Value Added Tax:

With budget deficits soaring and President Obama pushing a trillion-dollar-plus expansion of health coverage, some Washington policymakers are taking a fresh look at a money-making idea long considered politically taboo: a national sales tax.

Common around the world, including in Europe, such a tax -- called a value-added tax, or VAT -- has not been seriously considered in the United States. But advocates say few other options can generate the kind of money the nation will need to avert fiscal calamity.

To Read Entire Article Click Here.

Obama and International Tax Reform Part 2

President Obama unveiled his plans for international tax reform today.  The response from the business community, Republicans and Democrats was to be expected.  In this piece I will propose a better alternative to President Obama's proposal and I open to any criticism or faults my plan might have.  But, first a rehash of President Obama's proposal and the reactions from various leaders.  

• The Republicans are against any reform that would increase taxes, arguing that corporate tax rates in the United States are among the highest in the world.  Obvious response and expected.  
  

• Democrats, are reluctant to endorse such a sweeping change.  Many are enthusiastic about Obama's plans to reduce tax deferral, align deductions with income earned, and crack down on tax havens.  Others, are concerned that reform efforts could harm growth and employment.  Such as Max Baucus Chairman of the Senate Finance Committee, who in response to the plan said, "...further study is needed to assesses the impact of this plan on U.S. businesses."

• The business community is afraid and getting read to launch an all out attack on Obama's proposal.  That is an expected response.  Who wouldn't fight for $700 billion?  Or in reality, roughly, 245 Billion in taxes at 35%.  Assuming that is, they do not have any foreign tax credits attributable to the income, which they most definitely do have.  That brings the total, after a rough estimate of tax rates in so called tax haven jurisdictions, to 150 Billion (assuming 15-20% tax in the tax haven, for example, it is roughly 11% in Ireland).  
  

Without going into the details of the Obama tax proposal, which essentially doing a handful of things to raise to revenue: (1) matching deductions with income; (2) eliminating subsidiary deferral; (3) revising the check the box rules, and (4) crack down on offshore bank accounts.

As someone that knows a couple of things about this field, my first thoughts are that Obama needs to consult with a better team of advisors.  I strongly support the President, and understand his needs to raise revenue to fill in the holes in his budget proposal, recession proposals and other plans to be determined.  But, it is clear that he is barking up the wrong tree.  

This plan has shades of Jimmy Carter.  Someone that is worldly respected, but someone that did not grasp the economic implications of his decisions.  Obama, however, is someone that is intelligent enough to change his mind.  If he sees the problems with his plan, he will be able to correct it, that is the consistent pattern he has established during his time in office (at all levels).

Why is the plan wrong?  Simply put, taxing income that is earned overseas is against all principles of International Taxation.  This will decrease any competitive advantage or sink the playing field, by making us one of the very few countries to tax foreign source income.  

That is now the real problem.  The real problem is that taxing this income reduces the coffers of corporations, that are relying on this money for financing, stability and investor confidence.  By reducing billions of dollars in cash on the balance sheets of major corporations, many will feel the need to clamp down on expenses, reduce investment and likely lay off workers.  Which will only increase the unemployment in the United States.  Such a response could either further the recession, or suffocate any growth shown in the near future.  

 

Proposal

 

A better plan would be allowing companies to bring back their foreign source income without being subject to taxation, if they use the money to hire American workers (the workers do not have to be American, but a strong % would be encouraged).  The plan would allow for a deduction of 75,000 (or another number) for each worker hired. 

 

Example: Company X, 100 million dollars of foreign source income.  Company X is allowed to bring the full 100 million back into the United States, and use hiring deductions (75K per employee) to offset the tax rate on the 100 million in income.  Normally, the tax bill without the deduction would be roughly 35 million before tax credits.  Therefore, if Company X hires 665 workers and receives a 75K deduction for each worker, they would have a credit against the 100 million in foreign income of roughly 50 million.  This would reduce the amount taxable to 50 million, still subject to foreign tax credits and allow Company X to reduce their tax bill and increase their work force to generate more income.  

 

This proposal would have a couple of consequences.  (1) It would still allow the United States to receive tax revenue, either from the remaining portion of income not offset with credits/deductions, or if all of the income is offset with employee hiring deductions (75k) and foreign tax credits attributable to taxes paid in the foreign country where the income was earned, the United States could still recoup income from the workers salaries at ordinary income rates.  

Thus, if the 665 employees in aggregate earned 40 million dollars of income (or $60,150 on average), the United States, assuming a 15 % tax rate on ordinary income (tax rate reduced to reflect possible credits, exemptions, deductions, etc) would still have tax revenue of 6 million dollars, instead of the zero they are currently collecting.  Remember the 6 million is on top of the remaining portion of the 100 million that is not used for employee hiring deductions (however, I imagine most of it will be used if foreign tax credits are still available).   

(2) This proposal will increase hiring, possibly even increase hiring over demand, which will result in the need for hyper innovation to find a use for the workers.  This could spur another wave of American revolutions, similar to the industrial revolution, technology changes in the 1990's, and allow for higher GDP and growth.  By decreasing the unemployment rate this will spur demand for consumer products, and decrease pressure on credit card companies and all types of financial institutions worried about collecting from individuals without means (which is taking place currently at Capital One, JP Morgan, Citi, etc).  

(3) Such a proposal will still allow the American government to collect revenue.  Their main concern.  This will also be a proposal that is backed by the American people, helping politicians save face with their constituency and increase their chances for election.  Obviously, everyone will not find this proposal to be beneficial, maybe not even American corporations who do not want to be forced to be engaged in massive hiring.  

Bottom Line: this proposal will increase the productivity of American corporations, increase GDP, raise revenues, raise consumer confidence, and help reduce the national deficit.  It is at least worth a look.  

 

 

Justice Souter to Retire

Interesting news about Justice Souter.  Everyone had known that Justice Souter was the only Justice to not have picked any clerks for the upcoming term.  And apparently that was with good reason.  The WSJ, NPR and other outlets apparently have a source that Souter has informed the White House of his decision to retire. 

Souter is 69 years young, and is still sharp in his legal analysis.  Maybe, he wants to spend more time with his family or retire on top.  But, for whatever reason, Souter is leaving the bench.  

The vacancy strikes away a liberal vote on the bench (4-1=3).  It is common sense that Obama will replace Souter with another liberal.  Hopefully, the new Justice will not pull a Souter and go away from his ideological views (many believed that Souter was a consevative when appointed by Bush Sr. in 1990).  

Some current speculation has Cass Sunstein as a potential front runner.  Cass was recently appointed by President Obama as head of the White House Office of Information and Regulatory Affairs (OIRA), but this would obviously be a huge step up for Professor Sunstein who has spend many years with the University of Chicago.  

Another potential replacement is William Clinton (you know Bill).  However, I cannot see this occuring, because he would be too difficult to confirm, even with a majority in the House and Senate (thanks Specter).  

Over the next few weeks, expect to hear a lot of speculation about former University of Chicago professors, and even some that might have recently moved to Harvard (you know who I am talking about, if not use google).  

Lawyer Takes Own Life

Sad news out of Washington today.  The head of the Supreme Court/Appellate practice group at a respected firm, based out of Atlanta, comitted suicide today.  He was apparently one of the 24 other attorneys who was told they were going to be laid off.  

He was a graduate of Yale and a former attorney with the Justice Department during the Clinton administration.  

Thoughts and prayers go out to his family and his friends.  

On a side note, I wonder when the big law firms will realize that 160,000 grand for a new associate is paying too much.  They are much better off paying around 90-100 and using the savings to hire more attorneys to increase their bottom line (when times are good).  Over paying for credentials (essentially what they are doing) leads to inefficiency.  By hiring candidates and giving themselves a chance to prove their worth, it is a better proposition for both parties.  

Obama's Tax Deferral Plan

The Obama administration in their budget proposal outline, recently indicated that they are leaning towards finding a way to close the tax deferal techniques used by multinational corporations to shelter income.

The general rule is that income produced in a foreign country by a corporation that is set up in that country (subsidiary of US company) is not subject to taxation on their income in the United States.  This is referred to as foreign source income.  

Obama wants to make the foreign source income currently taxable, and avoid the benefit of deferral.  Belieiving this will reap billions of dollars in taxable income.  He is right, it will produce billions of dollars, but it will severely harm the corporations in intends to tax.  

Such an approach would be a enormous disaster for multinationa companies, GE, Coke, Procter and Gamble, Caterpillar, and the like.  Especially with pharmeceutical companies like Phizer, Abbot Labs, Eli Lilly and other smaller drug companies.  The drug companies often move their intellectual property offshore to avoid the chance of heavy income taxation by the United States Treasury.   Other manufacturing companies have similiar intentions.  

The problem with Obama's proposal (and there is many) is that requiring income inclusion by American companies of their offshore income, will result in reduced profitability, a drop in their stock prices and potentially an enormous amount of layoffs to control costs and cushion the effects of the increase in taxes.  

If Obama wants to continue a rise in unemployment and further damage the economy a plan to end the benefits of offshore deferral will certainly accomplish that goal.  This is coming from someoen that fully supports Obama and his general agenda.

If Obama really wants to increase Treasury revenues and raise employment in the United States, he should take two actions.  

(1) The administration should look into enacting (as the Bush administration did) a tax holiday on income being repatriated back into the United States.   Allow the multinations to bring their income back, without being subject to burdensome tax rates currently in effect.

(2) Lower corporate income taxes.  This will increase the incentive for foreign corporations in high tax jurisdictions (UK, Germany, etc) to set up their subisdiaries in the United States. Allowing the United States to tax their profits and add to the Treasury.  This will also induce American corporations to keep their intellectual property in the United States, instead of moving it offshore increasing the amount of jobs and revenue for the Treasury.  

These are the actions the Obama administration should take, not increasing the burden on our employers and our jobs.  

Subpoena Issued for Zell and Chicago Tribune ESOP

Interesting news today, that the Chicago Tribune has received a Subpoena about their leveraged ESOP transaction in 2007.

This is interesting for a number of reasons.  First, depending on the Department of Labor's theory in the case, it could lead to a complete stoppage of these transactions.  Leveraged ESOP buyouts are a unique way to gain special tax treatment for buyers, avoiding unrelated business income tax in the business by forming an S Corporation and using the ESOP to buy the shares.  

However, an ESOP has a fiduciary duty to the plan particpants (employees who own the company). Thus, any activity that leads to destruction of their equity, has the potential to lead to an array of lawsuits.  Interesting here is the DOL's issuance of subpoenas.  This could mean that the DOL is going to pubicly make a statement with their position and potentially file a lawsuit against Sam Zell and the Tribune ESOP.  The basis of the lawsuit would be a violation of ERISA fiduciary duties.  

Second, this could lead to future legislation or court precedent that could again end the use of this sort of transaction in buyouts.  

Third, if the Tribune is successful defending a potential lawsuit, this could increase the use of S Corp ESOP transactions, especially with public companies. 

The House of Dimon

A couple days ago I wrote about JP Morgan and their inflated stock price.  Some of the reasons offered to justify that conclusion were the off balance sheet derivatives, commercial real estate and credit card exposure.  In reaching this conclusion, I noted that Jamie Dimon is hands down the best leader in his industry.  Therefore, in this day and age, it is productive and beneficial to profile a man that history will remember fondly, whenever that time comes.  

After reading House of Dimon, I am obliged to consider the possibility that JP Morgan is not overbought.  At some point there has to be a management premium built into a stock, and Jamie Dimon is the kind of CEO that induces such a premium.  

The new book by Patricia Crisafulli  offers rare insights regarding Mr. Dimon's handling of JP Morgan before and during the Financial Crisis.  

The book offers some keen insight into the day to day handling of employees by Mr. Dimon and it becomes clear early on why Mr. Dimon has been so successful.  The book explores the various traits that have made Mr. Dimon successful.  One tactic that caught my eye was his habit of keeping a form of a "to do list" in his pocket.  Everytime someone owed him an answer, a report, or any response, he would write that down on a piece of paper and keep it in his pocket.  Once he received the answer he wanted, he would cross off the item on the piece of paper.  This was a way for him to keep track of everything his management team was doing, and make sure jobs were getting accomplished.

If there was a problem in the Company, he made sure that it was his problem.  Unless, someone decided not to share the particular problem, in it was solely the individual's responsibility.  Something he strongly frowned upon.   

What makes Mr. Dimon shine is his ability to hold others accountable.  He is ferociously competitive and tries to instill his competitive nature in his employees.  

He keeps daily tabs on his management team and works just as hard as any employee at the company.  In a day and age where expensive furniture, lavish corporate jets and needless frills are the norm, Mr. Dimon is the unusual.  

This is a great profile.  I would recommend this to anyone involved in management, investing or interested in starting a business.  

My only criticism of the book is in the pudding.  Because the book does a great job at allowing you inside the mind of a cutting edge thinker, it does not allow for any second guessing of Mr. Dimon.  It would be interesting to see what moves Mr. Dimon thought were off base, and how he might have changed the companies direction with a little more clarity.  A weak criticism of a fine biography.  

To purchase a copy, I added an Amazon link that should be to the upper right of this post.  Enjoy.  

 

So Much For The Berkshire Downgrade

A day after downgrading Berkshire Hathaway, one of Berkshire's largest investments increased 32% with the potential for a lot more upside.  In one day Warren and Berkshire made a total of about 1.4 Billion dollars.

Not a bad one day profit right?  Of course, who knows what will happen next week.  But, this might be a signal that Bank stocks are ripe for a rapid comeback.  It could be that they continue to increase as the profits roll in over the next few weeks.  

Goldman reports April 14th, and it is rumored that they are considering a stock sale of up to 10 Billion dollars.  They would use this money to pay off TARP and rid themselves of the strings attached with TARP and the government oversight they despise.  Given the timing of this rumor, it could also signal strong results for Goldman.  Beside their rising stock price, the results would have to be strong to justify a stock offering.  

Stay tuned.  

Capital One and American Express

It will be interesting to see the direction of AXP and COF over the next couple of months.  With unemployment increasing at historic rates, to 8.5% at the end of March, it will be interesting to see the default rates at the various credit card companies.  

Obviously, the market thinks they losses will be extremely painful.  AXP is down 66% over the past 5 years and down 56% over the past 10 years.  COF is down 81% over 5 years, or 73% over the last decade (ouch).  

This does not include Visa and Master Card, which of course do not have credit exposure, just swipe exposure, which I like to call it, refers to the amount of useage of the Visa and Mastercard customer and how many times the cusomter uses the card and the amount of his or her purchases.  They do not extend credit lines to consumers.  And they are glad they do not.  

On the other hand, AXP and COF do extend credit lines.  AXP increased the amount of their credit exposure over the last couple of years, before the onslaught of the credit storm.  This, horribly timed decision has come back to bite AXP, and will continue to harm them as unemployment spikes.   Which it likely will, based off the reports of economists.  

Capital One, recently had their credit rating affirmed, but their outlook was revised to negative continuing forward.  Clearly the credit rating agencies have had a rough couple of years, lowering their credibility for the foreseeable future, but it looks like they stated the obvious lowering their outlook to negative.  The stock inreased 5% on the news of the outlook, largely reflecting a sign of relief in the affirmation of the ratings, but also indicating the obvious nature of the Fitch credit call.  Everyone knew this was coming, and it was largely seen as inevitable.  

AXP largely relied on high end customers to support their profits, however, as stated, in recent years as growth slowed, they tried to move into the large end market to charge higher rates and spread the awareness of their brand.  Without this move, they would not be sweating the bullets as they will over the next year or two.  Largely a reflection of this is Warren Buffet's failure in recent months to increase his position in American Express.  This might be because of an agreement with the company to not increase his position past a certain threshold, however, given the nature of the market, they company would likely waive this provision (if it exists) to allow Warren Buffet to show the market his confidence in AXP.  

An investment in AXP would easily increase the confidence of the company and be a signal to investors that AXP is a bargain at these levels.  To this date in April, WB has not added to his position and is silent on all matters relating to AXP.  

In a surprising annoucement, AXP recently voted to maintain their dividend at 18 cents a share. With the large financial conglomerates reducing their dividends, BAC, C, WFC, USB and others, it was a welcomed surprise to investors.  However, how prudent that decision will prove to be, has not be determined.  In today's envrionment, it is almost foolish to not cut the dividend, because as many companies have stated, earnings predictions are unclear.  

Obviously, the decision to maintain the dividend was a reflection of the board's need to instill confidence, protect the stock price, and to show the quality of their brand.  With the yield currently at around 5%,  they had plenty of room to cut the dividend and still provide income to long term investors.  

The common rule of thumb for credit card losses, is that each 1% percentage uptick in unemployment equals 1% in credit losses.  With unemployment expected to reach close to 10% (most economists predicting 9.5%), credit card companies and banks likely have a lot of pain left to report.  Maybe, they will be helped by the new FASB rules on Market to Market accounting.  

Time to Short JP Morgan Chase?

JP Morgan is up 77% over the past month.  The stock is approaching $30, a level it has had a hard time sustaining since December of last year.  

Clearly, JP Morgan made a prudent decision to cut their dividend to 5 cents a share about 6 weeks ago.  But, will this be enough to avoid more government aid or a dilutive capital raise? Probably not.  

The chances of JP Morgan receiving further government aid, is also on the high side of unlikely. But, not impossible.  However, based on the prospects for further decline in commercial real estate, mortgage securities, and their purchase of Washington Mutual, it would not be out of the realm of possibility to consider a share offering sometime in the near future.  Add to the mix their enormous off the balance sheet derivatives exposure and you might want to consider raising shares while the stock price is high enough to avoid massive dilution.  

Moreover, HSBC recently raised $18.5 billion through a share issuance, something that the market clearly had been anticipating by the strong reaction in HSBC shares.  

So, what is the difference between an HSBC share raise and a potential JP Morgan share raise? The difference is the market wanted HSBC to raise money and the market expected HSBC to sell shares.  Many investors and analysts (save Mike Mayo) believe JP Morgan is not in a position to need a substantial capital raise.  By taking actions to cut their dividend and the horizon of a profitable quarter, JP Morgan is seen as the guiding light in the banking sector.

Investors are partially correct.  JP Morgan is by far the best domestic banking franchise and they have the best leader in the industry with Jamie Dimon.  But, two years ago very few thought Bank of America would need aid, and no one suggested any possibility of trouble for AIG.  

I am not suggesting titanic troubles, I am merely suggesting that JP Morgan will be a safe short until their earnings release on April 16th (Thursday).  A firm with a tier 1 capital ratio of 10.9% and earnings power that exceeds 15 billion dollars is of course due for respect and admiration. But, their stock has outperformed lately on exceeding expectations of financial recovery.  Even if you believe we have bottomed, JP Morgan needs to fall back in the mid to low 20's to then remerge with an upward trajectory.

Therefore, it looks like JP Morgan could be a safe 15% to 20% return in a matter of days or even weeks if you have the stomach to stay through earnings season.  Of course, all of this is subject to the whims of government decisions and Geithner annoucements.  

To further back of this theory, Mike Mayo has slapped a $24 dollar price target on JP Morgan. This implies a downside of roughly 15% from today's stock price.  If the bank stocks rally tomorrow on Meredith Whitney's not so bearish call on financials, it may be a stronger entry point to engage this trade.  An entry point closer to $30 would be ideal.  

Hopefully shorting JP Morgan at these levels works out better than Jim Rogers' decision to short JP Morgan around March 13th.  If he continued that trade, he is down almost 60% to date.   

Time Frame: 5-7 Days

Potential Profit: 15% to 20%+

Risk: Below Average

Disclosure: I do not have a position in JP Morgan in any direction.  

Meredith Whitney Rally Tomorrow?

It will be interesting to see if there is a Meredith Whitney rally in financial stocks tomorrow.  She definitely helped pull the financial indexes back today from a larger sell off.  But, the full effects of her surprisingly bullish call on financial stocks might be felt tomorrow.

Is it just me or does it seem like she makes these calls for her clients, and not based on her actual opinion? When her clients are short, and there positions are moving against them, she comes out and supports a bearish position.  When her clients have finally decided to dip their toe in the market, she comes and and issues an optimstic call, even with famed analyst Mike Mayo comes out on the same day and calls for a sell of the bank stocks.  

However, she did maintain a cautious attitude pointing out the low level of tangible equity for the bank stocks.  But, she did reccomend against shorting financial stocks, which could lead to a strong short covering over the next day or so.  Who actually listend to Ms. Whitney for more than one day is still to be determined.  

Maybe, with Whitney's new firm and her desire to become profitable, she has let her clients needs act as a conflict of interest in her reserach (and probably before hanging up her shingle). This is purely an opinion.  But, the timing of her appearances on financial networks (CNBC), seems to support this conjecture.  

Spinoff of Redbox

Heard on the Street had a column today about Redox and their parent company Coinstar.  Essentially the article called for investors to sell their Coinstar stock based on valuation.  

Currently, Coinstar is trading at about 44 times 2009 earnings (which they are expected to beat).  While, Netflix is trading at around 27 based on 2009 earnings.  The argument could be made that 44 is clearly a reflection of the investor’s optimism for Coinstar to beat earnings and a more reasonable multiple of 35 is probably the correct valuation (based on future growth prospects). 

This leads me to my point, what are Coinstar's options to sustain shareholder value. In the next year they will probably have to compete directly with both Netflix and Blockbuster.  Blockbuster has already started testing kiosks and plans to start rolling them out in full force in the next couple of months.  While, Netflix has decided to stay out of the kiosk market for now. 

With the increased competition from Blockbuster and the crowded rental market in general, what should Coinstar do to avoid a falloff in growth and revenue?  For now and the foreseeable future, no matter what Blockbuster does there is going to be growth with Redbox.  But, at some point they will hit a wall and Blockbuster will eat into their profits and maybe their margins (however it is more likely Blockbuster is going to get the margin damage). 

The best option for Coinstar might be a spinoff of Redbox.  The market would value the spinoff based on future earnings and the potential for Redbox would be inflated based off of positive results thus far. 

The hopefulness surrounding any offering would help shareholders get a pure play on Redbox.  Which is the reason many of them are looking into Coinstar in the first place.  This could also pave the way for a takeover by Netflix or a move by another media company to acquire Redbox at a heightened valuation.  This is something shareholders always enjoy.  

The only problem at this point is the IPO market.  Only a handful of deals have been done this year, and only the strong companies have succeeded. 

If anyone could break through the frozen IPO market it would be Redbox.  The $1 dollar service is clearly recession proof and recessionary forces are actually likely to increase Redbox rentals.  Moreover, they have not even begun to penetrate a majority of the markets.  

When the street values a company at 44 times this year’s earnings, it is a reflection of confidence in a company’s future.  Therefore, a deal might be able to happen, despite the strong head wind. 

To lock in gains now, they could sell a majority of the shares and keep the proceeds to invest somewhere else.  They could also maintain an interest, in case this decision turns out to be regretful.  

Will this likely happen?  Probably not.  But, even though it sounds crazy, and probably is, it could be the best move in a long term plan for Coinstar.  

Should Nike Buy Under Armour?

Nike needs to start considering what benefits they would have by exploring a purchase of Under Armour.  Nike has tried to duplicate many of Under Armour's signature products, including the first product, the Under Armour underwear gear. Additionally, Under Armour's cold gear is a popular item for football players in cold weather games, along with their increasing popularity to younger generations of athletes.   

Under Armour's recent introduction of running shoes is also a threat to long term shareholder value for Nike.  As of right now, the shoes are barely noticeable to Nike, with billions of dollars of sales in running shoes and running apparel for Nike.  Under Armour is only trying to steal a small piece of the pie.  But, with young consumers very aware of the Under Armour brand, it seems that Under Armour has the momentum to one day steal a greater piece of that pie.  Nike could act now to thwart any chances of Under Armour damaging their market share.  Obviously, any threat is years away, but now is the time to put an end to that possibility.  

But, the biggest benefit would be a purchase of Under Armour at a depressed price and before they truly start developing momentum as a public company.  Currently, Under Armour is trading south of $20 a share ($18.07 as of April 3).  Nike could use their $2.6 Billion in cash or more prudently offer a deal that includes their stock as consideration.  

If Nike offered in the $28-33 a share range they would be offering an excellent premium.  A premium that most shareholders will not be able to turn down, and a price the board will have a hard time rejecting (but they will try and try hard).  

CEO Kevin Plank, would likely put up a strong fight.  It is doubtful that he would want to sell the company he has built from the ground up at such a young stage or even at all.  That is why the strong premium would be necessary. Insiders currently own less than 7% of the company. This means Plank does not have the votes necessary to defeat a strong takeover attempt by Nike.  He would have to show his large shareholders that he has a long term plan superior to the offer by Nike.  A difficult burden, considering the economy and retail's relative uncertainty.  

Nike needs this deal to take advantage of the recession.  They have an iconic brand and management has made prudent decisions over the last decade.  Nike has a relatively small debt load for a retailer (800 million) and this would not add to that burden.  Moreover, Nike still has momentum in a variety of developing nations, introducing Under Armour would only help that cause.  

Pulling the trigger now will allow Nike to gradually incorporate Under Armour within their brand and decrease competition for many of the products they sale head to head.  This will have the benefit of increasing margins and stifling any attempt at price wars.  

Nike can clearly compete against Under Armour, and probably win most of the battles over the long run.  But, instead they could acquire Under Armour at a discount price, use their inventory controls, superior management, and industry knowledge to build a stronger Under Armour, cut costs and create a real asset to shareholders.  

Such a purchase would also ensure that Nike's growth continues.  Nike is becoming a mature company and growth is still respectable, but Under Armour if properly utilized and managed could add to the bottom line in a big way.

At the very least, Nike needs to consider the option.  And if they deem the option to be profitable, they need to act quickly, because Under Armour will not always be trading under $20 dollars a share.  

*I do not have a position in either Nike or Under Armour, nor have I ever.  

 

What would Mortgage Rates Be Without Government Aid?

Seeing that mortgage rates are at an all time low.  I started wondering what the rates would be without the government intervention, that we have slowly become accustomed to.  

Rates are currently sittting at around 5%, and their sister rate, the Certificate of Deposit is currently hovering around 2% for a one year term.  A clear push by the government to move into the risk assets.  A push that is starting to work.  

There is little doubt that interest rates will rise with inflation over the next couple of years, as we come out of this black hole.  The question is how high will they rise?  Julian Robertson and Bill Gross appearing on CNBC in January hinted at rates rising about 10% over the next couple of years (say 3-5).  This would create a once in a lifetime shot to lock in Treasury's with oustanding rates and low risk.  But, like the 70's very few people will take advantage of this.  

If interest rates do rise to the levels predicted by Gross and Robertson, China will not be happy. This will force teh government to likely intervene to bring down rates, by purchasing Treasuries in bulk.  But, even with the purchases, the interest rates might be unstoppable, given the amount of money that has been poured into the economy in the past year.  

Now back to mortgage rates.  Where would mortgage rates be, without the government intervention?  Mortgage rates need to reflect the risk of the lender.  Risk is at an all time high, with foreclosures, declining credit scores, and the unemployment surge.   

This storm of risk, would likely create a rate in excess of 7%.  Probably in the range of 7.5% to 9%.  Evidence of this is in the spike that occurred in rates around June of last year.  Without the government stepping in the spike may have continued.  Clearly this would not be a spike based on inflation, but rather extreme risk and even deflation. 

This type of interest rate (higher than 7%) would have further harmed the economy and forced even more damage to the American Dream.  So, looking back, government intervention is probably a good thing at this stage (stating the obvious).  

Wall Street Journal vs. New York Times

Which is the better publication?  If you only had the time to read one paper, which paper would you read if you wanted to digest the greatest amount of financial data, news and analysis?  

Both publications have great websites.  WSJ.com has a neatly organized, and crisp paper feel. Even though it is a website, it seems to feel like you are reading a paper.  Recently, they have been adding more advertisements, which seem to distract from the content on the page.  But, who are we to argue with trying to make money?  Moreover, WSJ.com is moving away from the traditional black and drawing, synonomous with their paper.  Of course, they still frequently use the black and white drawings, but they are now adding more color content.  

The actual paper itself (that's right the stuff you can touch) is a simple reflection of purity.  The paper is great visually and leaves hardly any room for improvement.  The quick summaries on the front page, and the neat columns help the reader with organization and fluidity.  

Recently the Journal added a more significant sports section.   This is a move I see as desperate and largely a reflection of Murdoch's role with the paper.  Sports are great, but they are meant for ESPN.com, local papers and speciality outlets (CNN SI, Sporting News, Rivals, etc).  Not the WSJ.  However, they are providing some insightful reporting that most sporting outlets do not offer, or rarely offer.  However, this is besides the point.  People do not, and will not buy the WSJ for their sports section.  If they want to cut costs, start there.  They need to focus on retaining the brillant reporters that they are consistently aiming to cut, and stop forcing salary cuts.  This is their greatest asset, and they need to protect this asset with due care.  

In the past year or so, the WSJ has also moved away from their traditional bread and butter of being the place for breaking news.  They have succumb to reporting yesterday's news, instead of using their deep bench of sources to provide unique market insight.  It is possible this is being to harsh, but take a look at the front page on a 7 day basis.  At least 3 out of the 7 days contain a frong page story that simply reports what happened in the market that day or the day before.  This is simply not acceptable content for a paper of their prestige.  

The WSJ needs to turn back to reporting that breaks news, instead of summarizes news.  They are still the best in the business at unique content, but under the standards they have self imposed, their unique and insightful content has waned.  

Instead of conitnuing the criticism of the Journal, I should point out the merits of the WSJ.  They provide a great host of opinion related articles, their financial reporting is second to none (Sorry Financial Times).  And they offer quality reporting on a daily basis.  However, the long term criticism seems to be related to the direction the Journal is being forced to walk.  Away from original content and more towards reducing costs by just regurgitating already written content.  

The New York Times on the other hand has strongly improved over the past year or two. Maybe this is a reflection of perception.  It is quite possible that the decline in the WSJ has made the NYT look like better.  Of course, I am referring strictly to their Business related reporting.  

The NY Times website has a feel similiar to their paper product.  Which is great branding.  The NY Times website, is a touch better than the WSJ website, because of the similiarity and the familiar appeal.  

Content wise, the NYT's business page has started to offer the unique content that has dissipated at the Journal (still there but not at the same level).  However, they do not offer the same amount of content, or the depth of the WSJ reports.  I know this is something they are working on, and something they aim to improve.  

Overall, I have a shift in the two papers.  The NYT has become more competitive with the Journal and will keep trying to compete.  Luckily for the WSJ they have their secondary offering, Barrons, to help them stay a step ahead, in marketing and content.  

At the end of the day, if I had to chose one publication, I would stick with the WSJ.  But, it is always good to supplement your reading with a different view and various content.  That is currently the role the NYT plays in my life, and probably the lives of others.  But, keep your eye out for the continued trend towards improvement from the NYT and falloff from the WSJ.  

Charles Schwab

As promised here is the second review of a discount brokerage firm.  First, we looked at Trade King which received a score of 41 out of a possible 60 points.  Now we will examine Charles Schwab using the same set of factors.  We will give a score for these 6 factors, on a scale of 1 to 10, and sum the scores up to see who offers the best place to trade online.  

1. Price

2. Website Ease

3. Offerings

4. Service

5. Margin Rates

6. Execution

• Price: For balances under 1 million dollars, Schwab offers a rate of $12.95 per trade.  Definitely higher than Trade King, Scottrade, and a host of others.  However, 13 dollars is still not that expensive in the world of trading.  But, for day traders the cost can quickly add up.  On the other hand, Schwab offers zero fees for certain mutual funds that qualify under their OneSource Service.  Which mutual funds qualify can be found here.  The commmission on option contracts is a little pit more pricey with a price of $16.45 for each 10 option contracts.  For mutual funds not listed under the OneSource Service, the trade will put you back $17.00 dollars.  Score of 5.
• Website Ease: Schwab's website is sort of like many sites across the internet.  Full of good content, but completely hard to locate relative items, and rough on the eyes.  The site when looked at from afar, resembles a collection of junk strewn across a web page.  By putting a little more though into the presentation of the site, they could improve user ease and satisfaction.  Score of 4.  
• Offerings: Schwab definitely has more offerings than Trade King.  It offers, futures, options, equities, bonds, and one international exchange (Tornoto).  This allows Schwab to be above average, and beat out Trade King and Scottrade in this category.  Score of 6.  
• Service: While there have been a lot of complaints above Schwab's service, I found the service to be better than par.  They are definitely ready to assist with any rollovers or movements in your account.  The staff seems well trained to answer most of your questions, but they lack in physical offices.  Schwab does not have offices in many smaller cities, with decent populations.  This harms their service, but also puts them in line with other discount brokerage firms.  Score of 7.
• Margin Rates: This is the category you can see the clearest difference between other companies and Schwab.  Schwab offers much higher rates, than any of the other discount firms profiled, or to be profiled.  Compare Trade King versus Schwab.  For margin borrowing over 1 million dollars, you will get a rate of 4.5% with Trade King versus a rate of 6.25% with Schwab.  A total of 175 basis points higher than Trade King.  Not a good place to use margin, especially on borrowings of between $0 and $25,000.  Where you will pay around 8.50% for using margin.   You can find the current margin rates here.   Score of 2.  
• Execution: The execution statistics for Schwab are similiar to Trade King.  They are above average.  Score of 6.  
• Overall: It seems that overall Schwab performs very poorly.  They do have a good reputation and they do offer a solid amount of services.  But, they could definitely benefit from better margin rates, an improved website and lower fees.  I doubt they will ever lower their fees, so they are served best to focus on the other criticisms.  Why someone would pick Schwab over other discount brokers is something that clearly makes me wonder.  Unless, someone prefers talking to an actual broker, Schwab is not the firm they should be utilizing.  
• Total Score: 30

Bank Stocks on Monday

After 4 straight weeks of strong gains, it will be telling this week whether bank stocks pullback or whether they continue their rise.  

The Dow Jones Financial Index is up about 36% over the past 30 days.  If you used a leveraged ETF, as I wrote about yesterday, you would be up anywhere from 72% to 108%.  Not bad for a month's returns.  However, this was clearly due to their oversold nature.  It may be time to take profits.  

This week Citigroup (C), JP Morgan (JPM), Bank of American, Wells Fargo (WFC), U.S. Bancorp (USB), Goldman Sachs (GS), and Morgan Stantley will all be closely watched.  Along with some of the regional names, PNC, Sun Trust (STI), and Fifth Third (FITB).  

It is probably time for a pullback, but markets rally in unpredictable ways.  It is likely that they will shoot past their fair value and then fall hard in the coming days, assuming they are close to their fair value.  

The market might be getting a little ahead of itself.  All of the large banks have yet to detail their credit losses and add to reserves for the quarter.  We have seen a further decline in the prices of homes, and there has been a trend lately in commercial real estate that is not favorable.  

With the new FASB rules in effect, it will also be telling about the marks that the particular companies make on their loan portfolios.  It would be prudent for the companies to continue increasing reserves and to be conservative in their "new" valuations based off the recent FASB decision.  However, prudent is clearly not what average Wall Street CEO's main concern. American Express' recent decision to maintain their dividend is a perfect example of imprudence.  

During the conference calls it might be important to see if the banks talk anymore about FAS 140, and the potential effects it will have on their balance sheets.  FAS 140 due to come into effect in 2010, if not suspended, will have dramatic effect on a number of bank stocks and financial service companies. 

This is particularly true in regards to Citigroup.  If FAS 140 is put into effect Citi will be required to bring on their balance sheet a total of around 98.2 Billion, plus additional loss reserves.  This could possibly result in another round of government fund raising and further dilution in the value of Citi's stock.

Given the recent actions by the Financial Accounting Standard Board, and their recent modifications under severe duress.  It is not unlikely to think, they may be forced to either push back the FAS 140 rules to a later date, or to completely stop the FAS 140 rules from taking effect.  

Because we are a little less than 2 weeks away from earnings season for the bank stocks.  I would put my money on a strong pullback in these names over the next week or more.  After Goldman reports, likely better than expected earnings, bank stocks may continue their rise or engage in a sharp pullback due to concerns about credit card losses and commerical loans, depending on the details of each conference call.  Stay tuned.  

• Bank of America reports April 20th
  
• Citigroup reports April 17
  
• Fifth Third reports TBA
  
• Goldman reports April 14th
  
• JP Morgan reports April 16th
  
• Morgan Stanley, TBA 
  
• PNC reports TBA
  
• Sun Trust reports April 23
  
• U.S. Bancorp reports April 21
  
• Wells Fargo on April 22nd
  

NY Times and The Boston Globe

The decline in the newspaper industry is pretty amazing. It is not entirely surprising, but it has come as a shock to generations of newspaper readers.

In the past 6 months the Chicago Tribune, Chicago Sun Times, the Philadelphia Daily News, and the Minneapolis Star Tribune have all filed for Bankruptcy.

Most of these newspapers will restructure and come out of this stronger than they did before their collapse. Bankruptcy court will allow them to discharge many of their debts or lower their debts to gain an ability to actually service the particular obligations.

It was not surprising to learn that the NY Times is considering closing the Boston Globe. I have no doubt this would improve their cash flow and help them move away from a possible collapse. But, it is amazing that another storied paper, The Boston Globe, might succumb to the decline in print advertising and the recessionary pressures.

To be fair, the NY Times is offering to keep the paper open if the unions accept concessions, equal to about 20 million dollars of cost savings for the NY Times. Once reader of the Globe, had this to say: “If you took the paper away and I can’t read sports, what am I getting up in the morning for?” he asked.

While that is not exactly a great reason to live, it does reflect the desperation of many New England residents who have grown up reading the Globe. Losing a hometown paper, can be traumatic (in a that's not good kind of way).

Asking the union to take concessions in a down economy and in an industry where the members of the union are not paid salaries or wages that are anywhere near excessive, is asking a lot. However, it is hard to see what choice they have. If they believe the NY Times is real in their threat to shut down the Globe, if they want to keep their job, they only have one option. Accepting the offer of reduced pay, pension benefits, and whatever else is on the table.

The NY Times, who recently cut their dividend, imposed pay cuts, and annouced their known cash concerns have a lot to worry about. Without the cash infusion by Carlos Slim, they would be in even more trouble.

The problem, is not so much declining advertising reveue, as it is the debt levels of these papers. The Tribune was doomed to fail from the beginning after Sam Zell's leveraged S Corp ESOP transaction. In which he over burdened the Tribune and single handily forced the paper into bankruptcy.

The Chicago Sun Times woes can be attributed to IRS debts of over $600 million dollars. And many of the other papers can also attribue their woes to heavy debt loads and poor operating decisions.

It is problematic that revenue is declining, but it is not the sole reason for the demise of the industry. The newspapers are still cash cows, but they made unacceptable assumptions about their future growth and used debt to finance that assumed growth.

***The Wall Street Journal had a recent article about the history of bankruptcy and its importance within capitalism.

Leveraged ETF's

Investors, without paying margin costs (and not getting a potential tax deduction for investment interest) can now use a variety of ETF's to increase their chance of gains and losses.  

Amazingly enough, the ETF's have been created during the past couple of years.  One of the more popular ETF's in this category is the ProShares Ultra Financial ETF, or ticker UYG.  This ETF is leveraged 2x against the Dow Jones U.S. Financial Index (DJUSFN). 

Therefore, an increase in the index of 5%, leads to a gain of 10% for the holder of the security. Likewise, a loss of 10% in the index (really bad day), will lead to a loss for the security holder of 20%.  This all assumes, the price of the security on the previous day reached its actualy value.

Assume, that the price of UYG reaches $4.00 dollars on Monday.  The $4 dollars reflected the price paid for the security at the end of the day.  However, the actual net asset value of the ETF was $3.80. Therefore, even though the stock was trading at $4.00, the stock is mispriced by market demand, by 5.3%.  Therefore, if the next day, Tuesday, the index increases by 5%, implying a gain of 10% for investors holding UYG, the actual security will only be up 4.5% and investors will be complaining that the ETF does not follow the index.  Rather, it is just catching up to yesterday's error in pricing, based on market demand.  

Because of leveraged ETF's, especially the 3x leveraged ETFs offered by Direxion (popular ETFs include, FAZ and FAS), traders are finding volalitility even when the market lacks the movements they desire.  For the average investor, trading these ETF's can be a little challenging.  Especially if you do not have a day trading account, and have to stay in the ETF for the 3 days required by SEC regulations.  It is probably best to avoid the leveraged ETF's.  

Some commentators have blamed the financial volatility on the leveraged ETFs.  One is Mad Money host Jim Cramer.  I attribute this, to his inability to short because of the parameters of his Charitable trust and his need to find something to talk about on his show.  While, it is true that the relative firms have to trade to adjust their positions to the swings of the ETFs, those trades are a reflection of the market moves, and not their particular moves.  It is the investor that decides to buy or sell the index, not the firm sponsoring the ETF.  

Bad Number that Really Isn't That Bad

All of the data that is transmitted every week, is usually old news. Everyone knew we were losing jobs. Everyone knows that that GDP is falling. Everyone knew that the average work week would be shorter. But, did people realize the average work week would decline so precipitously over the past year?

Yesterday's news that the average work week declined to an average of 33.2 days per week, was actually quite alarming (but maybe not surprising). Apparently, it is the worst measurement on record (going back to 1964).

Giving this number more credibility is the criteria of the measurement. This is not a number that has to be indexed for inflation or adjusted based on increased population. This is simply a number that measures, without error, exactly that, the number of hours of average work in a week by an American worker.

This measurement is supposed to be considered a "leading" indicator by economists of the economy. It would seem to tell us that demand is in decline, and the economy is in for more pain. While this might true, there is another plausible explanation. The decline in demand, might simply be a reflection of reduced credit, for small businesses and larger corporations.

Demand is the key to any economic turnaround. Without demand our economy will continue to erode. Maybe it is simply that demand is so tied with the credit markets (as I believe it is), that demand will not return until businesses are sure they have the operating capital to continue business as usual. Without credit, there is an obvious pullback in demand. Let's hope this is the problem, and it is not a reduction in the need for goods and services of American Businesses.

For a synopsis and reaction to the labor statistics click here.