H&R Block Bull's Rebuttal
by Louis Corrigan ([email protected])

Much of what Bill says is certainly correct. H&R Block has a weak track record outside the tax preparation business. After creating CompuServe, Block failed to capitalize on its success. Not only that, but it then left $250 million or more on the table by immediately selling its shares of WorldCom. Focusing on the core business makes sense, but a company like Intuit has proven far more adept and patient at letting its Internet-related investments bear fruit. That's what Block should have done, given that it wasn't desperate for cash. And yes, the sub-prime mortgage business is risky, the annual percentage rate on RALs is rich, and Block's credit card business has been a disappointment. Yadda, yadda, yadda.

But guess what? Block has still produced a compound average growth rate (CAGR) of 21.6% since FY95. Analysts are currently looking for 22.8% EPS growth for the year ending April 30, with EPS growth of 26.9% in FY99. Analysts project 15% long-term growth for Block but 25% for the industry. Given Block's recent performance and growth opportunities, I think Block will track closer to the higher rate. Right now the stock trades at about 22 times forward earnings, about in line with other large-cap issues with equally dependable consumer franchises.

Now let's consider Bill's McDonald's french fry analogy. Sure, all restaurants instruct servers to build the ticket by promoting specials, deserts, pricey vino, etc. How much room does McDonald's currently have for such maneuvering? In my view, just about none. In terms of its domestic business, McDonald's is a mature franchise at both the macro and micro level. The company has pretty much succeeded at leveraging its brand in all the logical ways.

The same just can't be said of Block. Indeed, this company offers a well-known financial services business that has managed to maintain a solid reputation, double-digit growth, and terrific profitability despite years of basically screwing up its ancillary endeavors. Bill seems to find ethical problems with the potentially heady profits from increased refund anticipation loans (RALs). Fine. Think of more Foolish possibilities, from getting clients to open Roth IRAs to selling them insurance.

Insiders own just 5.6% of the stock according to last year's proxy statement. If Block's current management can't find ways to leverage its unique position in America's rapidly consolidating financial services industry, I'm sure others will.

Next: The Bear Responds