Tuesday, November 25, 2008

Nordstrom's skewed incentive plan.

What kind of long term incentive plan involves accelerated vesting of stock units?

This is precisely the kind of incentive that is outlined in Nordstrom's revised 2004 Equity Incentive Plan (EIP) that I found in its recent 8-K filing (11/24/08). It outlines a plan to accelerate vesting of restricted stock units from 3 years to 6 months. This has some really strong implications considering that the stock is trading at its lowest levels in the past year! Ironically, the company states the purpose of the EIP is "to promote the long-term success of the Company and its subsidiaries and the creation of shareholder value by (a) encouraging Employees and Non-Employee Directors to focus on critical long-range objectives,......"

With restricted stock units vesting as fast as 6 months, there is almost, a myopic focus on the short term rather than long term. The awards of such restricted stock units is completely at the discretion of the 4 directors on the Compensation Committee as stated by the 8-K filing, "The (Compensation) committee shall select employees and non employee directors who will receive benefits under this plan."

What will be interesting to see is who will be awarded such restricted stock units in the months to come. As per Nordstrom's latest proxy filed in April of 2008, none of the named executive officers had any outstanding restricted stock awards. It almost appears as if the company is laying the groundwork to start issuing some lucrative restricted stock units to certain executive officers and directors.

Friday, November 21, 2008

Juggling Citigroup Directors drop the ball?

The idea behind having independent outside directors on a company's Board is primarily the expert third party advice that they can potentially provide. Ofcourse, 'potentially' is a key word here. Just nominating a few senior executives from other companies to your board is not enough. The 'potential' needs to evolve into an active and interested director. This transformation from 'potential' to 'actual' happens when these directors are regulars at Board meetings and devote time that is needed to provide advisory services to these public companies.

Unfortunately, another by-product of the financial crisis has been the spate of director resignations at financially troubled companies.

The WSJ recently reported on the growing number of such Board resignations at public companies. This should come as no surprise when you consider the number of boards that each of these "outside experts" are sitting on.

As an example consider the number of public company boards that some Citigroup directors are sitting on: As per the company's proxy statement issued in 2008, the final tally of directors who sat on more than 2 public company boards looked like this:
(The numbers in brackets show the total number of public company boards that these directors sit on.)

Sir Winfried Bischoff (4),Kenneth T. Derr(3),John M. Deutch(4), Anne M. Mulcahy (3),Dr. Judith Rodin (3), Robert L. Ryan(5- He retired from one in June'08)

Goldman Sachs looks like this:

William W.George (3), James A Johnson (3), Lois Juliber (3), Rajat Gupta (4) Laxmi Mittal (4)

Besides this, 3 out 13 board members at CITI are CEO's of other public companies. At Bank of America 2 board members are CEO's of public companies.

With directors sitting on multiple Boards, how can shareholders expect a focused and attentive Board? For those that sit on 3 or more Boards, they could even be getting mixed up in the issues and concerns at different companies. It wouldn't be a stretch to imagine getting mixed up while juggling meeting dates, agendas and decisions when you are managing compensation, audit, risk review etc at multiple public companies, not to mention the non profits that also vie for your attention.

image: mcglinch.com

Basel Committee Strategy to Combat Financial Crisis.

Yesterday, the Basel Committee announced a "comprehensive strategy" to combat the banking crisis. Chief among the recommendations were:

  • Ensuring the risk capture process under the Basel II framework included both book and off-balance sheet exposures.
  • Increasing capital buffers that will aid in times of stress.
  • Increasing vigilance over liquidity levels at cross border banks through stronger supervisory frameworks.
  • Using Basel II to build up governance practices at banks.
For a full report click here.

While on the subject of Basel and its supervising body, Bank For International Settlements (BIS), back in September, Már Gudmundsson, the Deputy Head of the Monetary and Economic Department of the BIS, addressed the Financial Technology Congress at Boston.

A few of his observations presented at this forum on the current financial crisis:

-Financial institutions are in the process of reducing their leverage and size, by both selling assets and reducing staff. The result will be a smaller financial sector, at least for a while.
-The banking system will probably have to operate with higher capital buffers than prior to the crisis.
-There might be additional capital charges under Pillar 2 (supervisory review process). In addition, there is an active discussion taking place on the merits of introducing a limit on the leverage ratio of financial institutions, which, depending on where it is set, might call for more capital than otherwise at the peak of the next boom.
-Banking supervisors will demand high quality data and analysis.

During his speech, he painted a picture of the future of the financial sector in the years to come. Here are a few of his predictions:

"1. Higher capital and liquidity buffers and higher risk premia will entail a higher cost of capital and credit than before the crisis. That is not necessarily bad, as risk was underpriced.

2. Financial firms basing their business models on cheap access to funding in wholesale markets will either have to adapt or disappear. In the United States, the trend is currently towards universal banking. Competition for deposit financing will also be intense for a while.

3. On the product side, a premium will be put on simpler products because regulators and investors will remain sceptical of complex structured products and because management of financial firms will insist on understanding the products they offer, at least for a while!

4. The originate-to-distribute model remains to be fixed, and the interests of all the various players in the securitisation chain have to be better aligned. However, that does not mean that the model will disappear. At the fundamental level, the idea of distributing risk away from the institutions at the core of the financial system to investors that are willing and able to share in the risks is basically sound.

5. Finally, the financial sector will become smaller and less leveraged. That is the only way the sector can be returned to soundness and profitability in the environment that is likely to prevail in the post-crisis period. However, such retrenchment has to be seen against the earlier growth of the sector"
For a full report on his speech refer here.

Thursday, November 20, 2008

Unrest at Citi India.

Citigroup lost its CEO of India and South Asia, Mr.Sanjay Nayar. He will be succeeded by Mark Robinson, a longtime Citi employee.

Mr.Nayar is slated to join Kohlberg Kravis Roberts & Co. early next year as CEO (India).

Citi is also planning to slash 1000 jobs in India, primarily in its lending arm- Citifinancial India. These changes come close on the heels of Citi's recent sale of its 12000 employee back office operations in India.

more to come....

Terrence Lani resigns from KB Homes.

After reports questioning the credibility of Mr. Terrence Lani's past education arose, he resigned from his CEO position at MGM Mirage. In an 8-K Sec filing yesterday, KB Homes also announced the departure of Mr.Terrence Lani from his director post at the company. As per the 8-K filed by KB Homes , Mr. Lani informed KB Homes of his decision on November 13th. Although, Mr.Lani would have us believe that the decision to resign from MGM and now KB Homes, is driven by the need to have some personal time, his decision came too close on the heels of the WSJ report about the authenticity of his MBA.

Mr. Terrence Lani was chair of the Compensation Committee at KB Home. If you remember, there were compensation governance issues at KB Homes when the CEO was accused of choosing favorable stock option dates for himself and others in his company. (Incidentally, he settled charges with SEC in September of this year.)
Mr.Terrence Lani had been director at KB Homes since 2003.

Wednesday, November 19, 2008

Pepsi's "Strategy to Succeed"

Yesterday, in an 8-K filing, the Pepsi Bottling Group, unveiled its new multi year initiative called "Strategy to Succeed".

This plan takes aim at the company's customer service, streamlines processes, takes a stab at reducing costs and at the same time "rationalize(s)" the company's supply chain.

Behind this grand statement lies a plan, which like many other companies today, scales back operations, (Pepsi will close 4 facilities in the U.S., as well as 3 plants and about 30 distribution centers in Mexico, Pepsi will also eliminate about 700 routes over time in Mexico), lays off global employees (approximately 3,150 positions will be eliminated, including 750 positions in the U.S. and Canada, 200 in Europe and 2,200 in Mexico) and makes changes to retirement/pension plans.

The company hopes to make a pre-tax saving of around $140 to $170 million with this initiative. This does not include charges associated with changes in the pension plan.

The company is projecting a less than positive outlook for the coming period."Deteriorating macroeconomic conditions" in Mexico has also resulted in the Audit Committee of the Board of Directors approving a $412 million non-cash impairment charge. This primarily relates to certain intangible assets for their Electropura water business in Mexico.

In the 10-K filed by the company during the last quarter, there were several indicators of the company fighting a slump in the Mexico market including the physical case volume in Mexico decreasing by 9% for the quarter and 4% for the year-to-date period. These declines were partially offset by the growth in the the net price per case in this market.

Image courtesy: shopshorthills.com

Tuesday, November 18, 2008

Bernanke, Paulson, Sheila Bair at Financial Services Hearing.

The House Financial Services Hearing concluded at noon today, leaving Secretary Paulson on the defensive about the execution of the rescue plan as well as on the other side of the table from Chairman Bernanke and Chairwoman Sheila Bair with respect to allocating TARP funds to directly helping homeowners.

Secretary Paulson (to no great suprise) was grilled and probably deep fried by almost all the Representatives on the Financial Services Hearing committee. His responses, which were pretty standard irrespective of the questions, centered around:

1. TARP not being a vehicle for helping the auto industry.
2. TARP not being a vehicle for direct intervention to help homeowners.
3. TARP will not be used to purchase illiquid assets.

As you will probably notice, all these are just a collection of his past interviews/press releases over the last few days.

Chairman Bernanke on the other hand expressed support for Chairwoman Sheila Bair's plan to help affected homeowners directly, although he also expressed reservations on some aspects of her plan.

Chairwoman Sheila Bair of FDIC really did not have to answer almost any questions, barring a few to clarify her plan to help homeowners directly.A few points about FDIC Chairwoman Sheila Bair's homeowner rescue plan:

1. The plan will be available only to self occupied property owners.
2. The plan will renegotiate the mortgage payment down to 31% of the homeowner's income.
3. In case the homeowner redefaults, the government will be responsible for 50% of the money due. (this is the part that Fed Reserve chairman Bernanke hates)
4. The entire process will be executed by mortgage servicers, not by the government.

It was no surprise then, that at the end of the hearing, Chairwoman Sheila Bair and Secretary Paulson barely acknowledged each other as they walked to leave the hearing room.

If you are interested in watching Secretary Paulson's uniform responses or watching Secretary Paulson interrupted while trying to answer every question he was asked, here is where you'll find it.

Monday, November 17, 2008

Jerry Yang to Step down as CEO of Yahoo.

In a sentimental memo to his employees, Jerry Yang announced his departure from Yahoo. He will continue to be 'Chief Yahoo' and will be present as a member of the Board of Directors.

Mr.Yang took the mantle of CEO in June 2007. His tenure as CEO was marked by a spate of failed attempts to lift Yahoo out of the doldrums including the botched up deal with Microsoft,the abandoned search deal with Google followed by possible merger talks with AOL that went nowhere.

Chairman Roy Bostock, working with the independent directors and in consultation with Jerry Yang, is leading the process of assessing potential candidates to take over the position of CEO after Mr Jerry Yang steps down. The search will encompass both internal and external candidates, and the Board has retained Heidrick & Struggles, a leading international executive search firm, to assist in the process.

According to the statement issued by the company, Mr. Jerry Yang will step down as CEO as soon as a successor is appointed. He will continue to focus on "global strategy and to do everything I can to help Yahoo! realize its full potential and enhance its leading culture of technology and product excellence and innovation."

Whether this rekindles hopes of any deal with Microsoft or anybody else for that matter is up in the air....for now.

Friday, November 14, 2008

High tension, Great performances, an almost Emmy award winning saga......Hedge Fund Hearings on C-Span.

Honestly, the Cspan channel on T.V. has become the most engaging channel in recent times. I mean it has 'shows' that have drama, emotion, high stakes as well as glamour, not to mention the interesting lineup of financial industry 'celebrities'. Fox and gang can learn a thing or two from these hearings. No wonder there are blogs devoted to C-Span events (check out cspanjunkie)

In yesterday's episode of the star studded House Oversight Committee ‘show’, the hearing focused on the role of the hedge fund industry in the current financial crisis. The House Oversight Committee invited several advisors including a past SEC chairman along with a handful of hedge fund managers to investigate the role of the hedge fund industry in the current financial crisis.

This has been their general pattern of 'questioning'. They go with the advisory panel first, trying to get a sense of what can be done to correct the problems and then they hone in on the (supposed) 'perpetrators'. Of course there are those from both these sets of panels who will refuse to answer or provide any information feigning either ignorance (case in point, Mr Willumstad ex-AIG) or the Law professor (Joseph Bankman, Stanford University) from yesterday's panel who claimed most of the questions posed to him were outside his scope of expertise. Hmm...note to myself...blog about the 'dead wood' at these hearings...might make for some hilarious s(n)ide notes...more on s(n)ide notes later…

Anyway, expect changes in the regulatory landscape for hedge funds soon. Some of the often repeated advice from the advisory panel that came out (except of course, good ol' Prof Bankman):

1.There is a need for Federal oversight over hedge funds. The logic behind this is that hedge fund operations directly impact liquidity and the Federal Reserve Board is directly responsible for the state of liquidity in the markets.

2. The SEC should be able to able to inspect the information systems particularly the risk management systems of hedge funds and report the information coming out of this function directly to the Federal Reserve.

3. The Federal Reserve Board should impose 'Capital Adequacy Norms requirements' or 'Maximum leverage constraints' for all those 'too big to fail' type financial institutions.

4. To address large scale short selling activities by hedge funds, there was common consensus, that "under certain conditions", hedge funds should report their short positions to the regulators. Not to the public mind you, but to the regulators. This information would be kept confidential to the public at large.

S(n)idenotes **(refer footnote for meaning)

During the 5 minute presentation by the hedge fund managers, what came out was their desperate need to communicate to the House Oversight Committee and ultimately to the public watching this program, how their or their fund's incomes were not unreasonable or how they were completely in synch with the needs of the'common man'.

We had Mr.Philip Falcone (Senior Managing Partner of Harbinger Capital and ranked 707 on the world’s Billionaires List for 2008 by Forbes) depicting his deprived childhood- being one of nine children in a small remote town in Minnesota. Of course, the fact that, today, he calls some swanky dig in New York City his home is somehow not relevant..

Another hedge fund manager, Mr.John Paulson of Paulson & Co. Inc went to great lengths to explain his fund's squeaky clean and upfront policies with clients.

As expected, most of them were defensive, blaming the banking sector for most of the credit and financial markets' woes.
(According to one of these managers, the hedge fund industry is not as leveraged as the banking industry and Mr.Paulson most definitely supports additional regulation for these troubled industries which would not include regulating hedge funds.)

When questioned on potential regulation for the hedge fund industry, most hedge fund managers were quick to respond that the "financial tsunami" had occurred in the industries that were already regulated and not the hedge fund industry! I would challenge these hedge fund managers to say that with a straight face to all those displaced hedge fund employees who had to be laid off, precisely because of this financial crisis . That is ‘far removed from reality’ for you.

Anyway, if you want more of this drama, grab some popcorn and see the whole recorded shebang here.

**(s(n)idenotes (noun) : snide sidenotes)

Tuesday, November 11, 2008

Auditor's to blame for unreliable financial statements?

It can be safe to conclude that the recent financial crisis can be largely attributed to loose or missing internal controls coupled with a lack of adequate regualtion at large public companies. To guard against the lack of controls and regulation affecting the reliability of financial statements, these financial statements are certified as being 'true & fair' by 'independent', qualified and trusted public accounting firms.

Auditor processes and procedures at various public companies undergo an indepth scrutiny by the PCAOB (Public Company Accounting Oversight Board). This is a private body that was established by the Sarbanes Oxley Act, 2002 with a mission to keep an eye on public company auditors.

Unfortunately, the number of cases where the auditors have been reported to have failed in their responsibilities is growing at an alarming rate. 2 recent cases related to the incompetence of senior executives of Deloitte were recently brought to light. Both these executives were partners at the Chicago office of Deloitte.

In one case, the Deloitte partner Christopher E. Anderson, showed gross negligence by ignoring 'apparent errors' in financial statements resulting in an overstatement of earnings, assets and revenues.

In the other case, the Deloitte partner, Thomas Flanagan used his information about the financial and non financial aspects of his client company to profit from trading in that company's securities, sort of like 'insider trading. This breaks the SEC's rule regarding 'independence' requirements for auditors. This was not a one time or one client incident. He did this over a period of 3 years and for all the clients where he was the engagement partner (including Walgreens, AllState and USG Corp). Consequently, the reliability of all those financial statements where he signed off comes into question. Walgreens, Allstate and USG subsequently conducted a legal investigation and concluded that their annual and quarterly financial reports were unhindered by the Deloitte Partner's activities. (How is that possible?!!)

This is just the tip of the iceberg. The PCAOB publishes the results of the inspections of such accounting firms here. I have to warn you that this is by no means a small list....My suggestion would be to find out who is the auditor of the company that you are invested in, ( you will get this from the company's annual report, if you cannot find it, send me a message and i will get you the name) and find out if this auditor is on the PCAOB inspection list. (the probability that they are on this list is very high.) You can read the inspection report to find out which company and what matters were raised during the inspection. Granted that these inspection reports cite historical cases, but knowing who is certifying the financial statements of the companies that you are invested in, is a key piece of information. This is definitely some useful reference reading that every investor should use.

Wednesday, November 5, 2008

Obama And You- 2

In case you are wondering how you can use President Elect Obama's resounding victory (there, I used the word again!) to benefit your current investment portfolio, I suggest looking back at the sectors/industries that he discussed during his time on the campaign :

1. Infrastructure: Barack Obama believes that it is critically important for the United States to rebuild its national transportation infrastructure – its highways, bridges, roads, ports, air, and train systems. Companies doing business in these areas should certainly benefit in a big way. Obama has promised to address the infrastructure challenge by creating a National Infrastructure Reinvestment Bank to expand and enhance, not supplant, existing federal transportation investments. The Bank will receive an infusion of federal money, $60 billion over 10 years, to provide financing to transportation infrastructure projects across the nation.

2. HealthCare: Obama has stressed on revamping the health sector...presumably a lot of money would be invested in this sector. Health Care companies should stand to benefit in the next 4 years.

3. Energy: President Elect Obama has a lot of goodies for this sector....increased job generation, committment to put a million hybrid plug in cars on the road by 2015, reduce green house gas emissions, increased importance to renewable sources of energy etc.

Based on President Elect Obama's industry proposals, here are a few companies that will face better prospects in the near future:
(Standard Disclaimer: This is not a recommendation to buy or sell or trade. Just for informational (and recreational) purposes only. Please make investment decisions at your own risk.)

You get the general idea....With the markets as depressed as they are, lots of good deals out there in these industries and others.

Obama And You.

With Obama's resounding victory, this is the time to really try and understand his stand on issues that affect us personally...let us start with his stand on the Government sponsored bailout plan going forward: (Click on the image to see a bigger image)

Another thing,try playing on the Obama Tax Calculator to find out how much you are looking to potentially save under Obama's Tax policies.

And here is what we should expect from him on the mortgage industry revamp: