DJIA 9537.76 -7.21 (-0.08%) S&P 500 1269.73 -2.61 (-0.21%) Nasdaq 2326.09 +5.23 (+0.23%) Value Line Index 948.11 -3.53 (-0.37%) 30-Year Bond 100 13/32 -29/32 5.22% Yield
Pills got a boost today when one of the industry's leading vitamin retailers teamed up with one of the nation's top drugstore chains in a broad partnership. Vitamin and supplement retailer General Nutrition Companies <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: GNCI)") else Response.Write("(Nasdaq: GNCI)") end if %> popped up $4 3/8 to $19 3/4 on news of a pact with drugstore giant and Pennsylvania neighbor Rite Aid <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: RAD)") else Response.Write("(NYSE: RAD)") end if %> to open 1,500 GNC stores within Rite Aid locations over the next three years. The companies will also market a new proprietary line of vitamins to be called "PharmAssure." Company leaders crowed at a press conference today: "We expect that we can double our vitamin and nutritional supplement sales from the current levels in the first full year," said Rite Aid CEO Martin Grass, while GNC CEO William Watts said the deal would be "significantly incremental" to earnings within three years. And what business announcement would be complete these days without "a co-branded Internet e-commerce and nutritional information site"? Well, that's covered, too.
Shareholders of Trident International <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: TRDT)") else Response.Write("(Nasdaq: TRDT)") end if %>, which markets proprietary impulse ink jet technology, cheered today following the news that Illinois Tool Works <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: ITW)") else Response.Write("(NYSE: ITW)") end if %> intends to buy their company and give them a fat bonus for the privilege. Trident shot up $7, or 75.7%, to $16 1/4 after Illinois Tool said it will pay $16.50 per share for Trident, a 78% premium over yesterday's closing price. Investors often balk when their company chooses to make an acquisition at such a high premium, but Illinois Tool shareholders held fast today: the company's shares moved ahead slightly, ending up $1 1/4 to $63 1/8.
QUICK TAKES: Mac maker Apple Computer <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: AAPL)") else Response.Write("(Nasdaq: AAPL)") end if %> improved $3 1/4 to $45 after Credit Suisse First Boston boosted its rating on the stock to "buy" from "hold"... Millimeter wave digital radio systems maker P-Com Inc. <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: PCMS)") else Response.Write("(Nasdaq: PCMS)") end if %> soared $2 1/8 to $5 7/8 after it announced the first phase of the deployment of its point-to-multipoint (PMP) wireless access product with WinStar Communications <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: WCII)") else Response.Write("(Nasdaq: WCII)") end if %>... Wireless communications distributor Brightpoint Inc. <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: CELL)") else Response.Write("(Nasdaq: CELL)") end if %> shining for $1 3/4 to $18 9/16 after it said last night that despite two charges, it still expects to report Q4 EPS (before charges) of between $0.22 and $0.24, basically in line with Wall Street estimates... PC maker and marketer Gateway <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: GTW)") else Response.Write("(NYSE: GTW)") end if %> rose $2 5/16 to $58 5/8 after announcing a collaboration with EchoStar Communications <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: DISH)") else Response.Write("(Nasdaq: DISH)") end if %> to develop a satellite receiver for Gateway's PCs.
Two brokerages moved ahead today after reporting fourth-quarter earnings that beat the market's expectations. Morgan Stanley Dean Witter <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: MWD)") else Response.Write("(NYSE: MWD)") end if %> moved ahead $3 1/2 to $84 3/16 following its announcement of EPS of $1.49, smashing First Call's $0.96 consensus estimate. Lehman Brothers <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: LEH)") else Response.Write("(NYSE: LEH)") end if %> rose $1/2 to $54 1/8 on news of EPS of $0.51, well above First Call's $0.21 projection but off last year's $1.30 mark... Brokerage Southwest Securities <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: SWS)") else Response.Write("(NYSE: SWS)") end if %> rose $3 7/8 to $25 3/16 after Raymond James upgraded the stock to "buy" from "neutral"... Young adult fashion retailer Pacific Sunwear of California <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: PSUN)") else Response.Write("(Nasdaq: PSUN)") end if %> rose $3 1/4 to $21 3/4 after Lehman Brothers reiterated a "buy" rating on the stock today.
Remote access communications equipment company Data Race <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: RACE)") else Response.Write("(Nasdaq: RACE)") end if %> raced ahead $1 1/4 to $5 1/4 after it said it is working on new modem technology for handheld PCs, which it plans to make compatible with Microsoft's <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: MSFT)") else Response.Write("(Nasdaq: MSFT)") end if %> Windows CE system... Web address registrar Network Solutions <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: NSOL)") else Response.Write("(Nasdaq: NSOL)") end if %> shot up $44 1/2 to $216 1/2 after Prudential Securities boosted its rating on the company to "strong buy" from "accumulate," raising its 12-month price target to $250 from $76... In-flight retailer SkyMall Inc. <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: SKYM)") else Response.Write("(Nasdaq: SKYM)") end if %> shot up $7 5/8 to $25 1/4 on its announcement that it formed a new subsidiary, skymall.com, to manage its online business as of Jan. 1... Maternity retailer Mothers Work <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: MWRK)") else Response.Write("(Nasdaq: MWRK)") end if %> gained $1 1/8 to $12 5/8 after it said December same-store sales were up 16.4% from year-ago levels and announced the launch of MaternityMall, its online sales division.
Computer networking equipment company Cisco Systems <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: CSCO)") else Response.Write("(Nasdaq: CSCO)") end if %> moved ahead $3 7/8 to $103 5/8 after announcing pacts for home network development, including a voice-enabled cable modem deal with E-Tech and a voice, video and data networking arrangement with General Instrument <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: GIC)") else Response.Write("(NYSE: GIC)") end if %> and AT&T <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: T)") else Response.Write("(NYSE: T)") end if %>... Home improvement retailer Lowe's Companies <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: LOW)") else Response.Write("(NYSE: LOW)") end if %> hammered out a gain of $1 9/16 to $53 13/16 after it announced a 10.2% same-store sales increase for December. Total sales for the month improved 23.7% to $1.21 billion from $978 million last year... Among other companies moving on comparable sales news, Wal-Mart <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: WMT)") else Response.Write("(NYSE: WMT)") end if %> took on $1 1/2 to $84 1/8 after it posted a 9.4% rise in December comp-store sales -- 9.1% at Wal-Mart stores and 11% at Sam's Club. For more retail same-store sales numbers, click here.
Internet portal company Lycos <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: LCOS)") else Response.Write("(Nasdaq: LCOS)") end if %> zoomed ahead $5 1/2 to $71 1/2 after announcing a deal with PC maker IBM <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: IBM)") else Response.Write("(NYSE: IBM)") end if %> to make Lycos the Internet start page for new Aptiva PCs... Drug distributor McKesson <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: MCK)") else Response.Write("(NYSE: MCK)") end if %>, which will replace merger partner HBO & Co. <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: HBOC)") else Response.Write("(Nasdaq: HBOC)") end if %> on the Standard & Poor's 500 Index Jan. 12, took $2 3/8 to $83 13/16 today... Specialty finance company Sirrom Capital Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: SIR)") else Response.Write("(NYSE: SIR)") end if %> rose $2 to $8 after FINOVA Group <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: FNV)") else Response.Write("(NYSE: FNV)") end if %> agreed to buy the company for about $379 million in stock... Equine branded apparel designer Polo Ralph Lauren <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: RL)") else Response.Write("(NYSE: RL)") end if %> cantered ahead $2 1/8 to $22 3/8 after Morgan Stanley Dean Witter upgraded the stock to "strong buy" from "outperform," boosting its price target to $30 per share from $28 per share.
Consumer products marketer Sel-Leb Marketing <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: SELB)") else Response.Write("(Nasdaq: SELB)") end if %> advanced $4 1/8 to $6 5/8 following last night's announcement of a new financing agreement with a Merrill Lynch <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: MER)") else Response.Write("(NYSE: MER)") end if %> subsidiary... Data transfer rate booster and recent Fool on the Hill subject Adaptec <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: ADPT)") else Response.Write("(Nasdaq: ADPT)") end if %> jumped $5 5/16 to $24 7/8 following an upgrade to "attractive" from "neutral" by Bear Stearns on the heels of yesterday's news of fiscal Q3 EPS of $0.20, which beat the Street's $0.14 estimate... Electronics manufacturing services provider Solectron Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: SLR)") else Response.Write("(NYSE: SLR)") end if %>, the featured company in today's Daily Double, gained $3 7/8 to $89 15/16 after agreeing to buy IBM's Austin, Texas electronic card assembly and test operations for an undisclosed sum.
Commercial laser company Spectra-Physics Lasers <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: SPLI)") else Response.Write("(Nasdaq: SPLI)") end if %> zinged ahead $2 9/16 to $11 1/2 after reporting that 89% owner Thermo Instrument Systems <% if gsSubBrand = "aolsnapshot" then Response.Write("(AMEX: THI)") else Response.Write("(AMEX: THI)") end if %> offered to buy 80% owner Spectra-Physics AB's shares for about $20 each... Chicken hatcher, processor, and marketer Pilgrim's Pride <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: CHX)") else Response.Write("(NYSE: CHX)") end if %> clucked up $1 1/16 to $23 3/16 after it agreed to buy a prepared food products plant from a subsidiary of privately owned Cargill Inc. for an undisclosed sum... Pharmaceutical company SuperGen Inc. <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: SUPG)") else Response.Write("(Nasdaq: SUPG)") end if %> grabbed $1 13/16 to $11 1/8 after Everen Securities reiterated a short-term "buy" rating.
Blaming "major storms in key markets," bookseller Borders Group <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: BGP)") else Response.Write("(NYSE: BGP)") end if %> warned that it expects to fall short of analysts' earnings expectations for the fourth quarter and fiscal 1998. Investors didn't take the news very well and threw the book at the company today, sending its shares down $5 1/16 to $20. Earnings for 1998 are projected to come in between $1.14 to $1.18 per share, which would miss consensus estimates by 4% to 7%. At least four brokerages lowered their ratings on Borders today, although ABN AMRO bucked the trend and issued an upgrade to "buy" from "outperform." Despite the weather-related explanation, some analysts are worrying that the threat posed by rivals Amazon.com <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: AMZN)") else Response.Write("(Nasdaq: AMZN)") end if %> and Barnes & Noble <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: BKS)") else Response.Write("(NYSE: BKS)") end if %> in the online retail area may have already crossed the border and affected the company's near-term performance. For more details, please see today's Fool Plate Special.
For-profit hospital operator Tenet Healthcare Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: THC)") else Response.Write("(NYSE: THC)") end if %> dropped $3 1/2 to $23 1/2 after reporting fiscal Q2 EPS of $0.40, missing the First Call mean estimate by a penny. Perhaps more worrisome, however, was Tenet's expectation that fiscal 1999 earnings per share will be "flat to up 5 percent" from the year before, which is a bit less than some analysts had been hoping. The company said Medicare reimbursement cuts, higher bad debt expenses, and dilution from its recently acquired Philadelphia operations are cutting into its short-term financial performance. Tenet was able to acquire eight Philadelphia-area hospitals late last year from the bankrupt Allegheny Health system for what seemed like a bargain $345 million, or about one third of revenues. However, all of those hospitals are bleeding red ink, throwing a new degree of uncertainty into Tenet's outlook. That uncertainty is being reflected in Tenet's share price, which is trading about 33% below last spring's high.
QUICK CUTS: Telecommunications services provider MCI WorldCom <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: WCOM)") else Response.Write("(Nasdaq: WCOM)") end if %> slid $3 1/4 to $75 1/8 after a report in USA Today said the company is on the verge of submitting an estimated $55 billion bid for wireless services company AirTouch Communications <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: ATI)") else Response.Write("(NYSE: ATI)") end if %>, opening a third front in a potential bidding war with fellow suitors Bell Atlantic <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: BEL)") else Response.Write("(NYSE: BEL)") end if %> and Vodafone Group <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: VOD)") else Response.Write("(NYSE: VOD)") end if %>... Advanced commercial and medical electronic instruments designer SeaMED Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: SEMD)") else Response.Write("(Nasdaq: SEMD)") end if %> sank $3 15/16 to $7 9/16 after saying delayed and cancelled projects will result in fiscal Q2 EPS between $0.15 and $0.17, short of the Zacks mean estimate of $0.21... Disposable specialty medical products maker Maxxim Medical <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: MAM)") else Response.Write("(NYSE: MAM)") end if %> was trashed for a $1 1/16 loss to $26 after reporting fiscal Q4 EPS of $0.39, $0.02 higher than a year ago but a penny below the First Call mean estimate.
Department store retailer J.C. Penney <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: JCP)") else Response.Write("(NYSE: JCP)") end if %> was marked down $3 5/16 to $43 after posting a 7.6% drop in December same department-store sales. The poor results, combined with lower gross margins from increased markdowns, will result in Q4 and 1998 EPS short of the First Call mean estimates of $1.06 and $2.73, respectively... Health benefits provider First Health Group Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: FHCC)") else Response.Write("(Nasdaq: FHCC)") end if %> fell $5/8 to $15 1/4 after saying it has lost a PPO and fee schedule services provider contract for a "significant potential workers' compensation service client," which will reduce the company's fiscal 1999 earnings forecast by about $0.13 per share... Sunglasses and sneakers maker Oakley Inc. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: OO)") else Response.Write("(NYSE: OO)") end if %> was burned $11/16 to $8 9/16 after saying soft footwear sales will lead to Q4 EPS of around $0.05, even with a year ago, but below the First Call mean estimate of $0.09.
Shareholders of family apparel retailer Stage Stores <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: SGE)") else Response.Write("(NYSE: SGE)") end if %> exited stage left today, dropping the stock $1 3/4 to $6 15/16. The company reported a 7.8% drop in same-store sales during the nine-week "holiday period" ending Jan. 2 due to unusually warm weather. The results will lead to Q4 earnings "significantly below" the current First Call mean estimate of $0.44... Semiconductors distributor Avnet Inc. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: AVT)") else Response.Write("(NYSE: AVT)") end if %> was knocked down $10 15/16 to $49 after saying a "significant" slump in December sales of core products in its electronics and computer marketing groups will result in fiscal Q2 EPS of about $0.75, missing the First Call mean estimate of $0.91... Industrial valve maker Watts Industries <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: WTS)") else Response.Write("(NYSE: WTS)") end if %> piped down $1 3/16 to $15 11/16 after saying a decline in its oil and gas business resulted in fiscal Q2 EPS of $0.42, $0.03 below what the firm said analysts had been expecting.
Craftsman tool maker Danaher Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: DHR)") else Response.Write("(NYSE: DHR)") end if %> was wrenched $1 3/8 lower to $52 1/16 after Wheat First Union lowered its rating to "outperform" from "buy"... Movie theater operator Carmike Cinemas <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: CKE)") else Response.Write("(NYSE: CKE)") end if %> fell $15/16 to $18 7/8 after giving the market a sneak preview of its Q4 earnings, which are expected to come in $0.08 to $0.12 per share below the First Call mean estimate of $0.23 per share. The company blamed the shortfall on low theater attendance in December and higher depreciation and interest expenses... Insurance and financial services company Nationwide Financial Services <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: NFS)") else Response.Write("(NYSE: NFS)") end if %> slid $1 1/2 to $52 7/16 after receiving a downgrade to "attractive" from "buy" from PaineWebber.
FOOL
ON THE HILL
An Investment Opinion
by
Dale Wettlaufer
Reversion to the Mean
I don't know if the investing world agrees with this, but I consider there to be a "commodity" return on equity (ROE). It's about 11%, which is the historical annual rate of return for broad equity indexes and, not coincidentally, also the historical rate of return on book equity for American corporations. Over the last few years, return on more broadly defined measures of invested capital have increased, ostensibly as American business has streamlined itself and increased productivity.
One could argue effectively that some of the large increases in return on capital for the S&P 500 companies is due to both the changing composition of the S&P 500 to include companies like Microsoft <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: MSFT)") else Response.Write("(Nasdaq: MSFT)") end if %>, and to the huge writedowns that have decimated book values. These writedowns aren't just the pell-mell big baths such as "restructuring charges" and the like -- they include huge hits to owners' equity pursuant to FAS-106, Employers' Accounting for Postretirement Benefits other than Pensions. Thus, normal earnings on lower equity bases give you higher ROEs. If you adjust book equity for some of these writedowns, ROE for the broad market is not as high as it looks.
I wouldn't argue that it's as low as it has been historically, either. American business is enjoying a number of developments that have pushed up ROEs, including low nominal cost of debt and increasing supply-chain efficiencies. The question that some investors have been wondering about is the reversion to the mean for U.S. corporate returns on equity, and by extension, a reversion to the mean for the U.S. stock market. If there is a reversion to the mean at some point within the next few years, how can this come about?
For one clue as to how this could happen, just look at the performance of the S&P 500 versus the performance of the small- and mid-cap publicly traded companies. The bifurcation between S&P 500 companies and the rest of the investment world is due to the fact that S&P 500 companies have generated better returns on capital than the rest of the market. Part of that is from lower debt costs, which allows a company to replace higher-cost equity with lower-cost debt or to show better pre-tax margins. Part of it, though, is from better asset productivity, or asset turnover.
Less cash going back into the asset base needed to generate revenues provides more cash for strategic spending or to return to shareholders via share buybacks. Keeping capital costs down is one way that corporate America has responded to long-standing pricing pressures across the globe. Listen to Jack Welch of General Electric <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: GE)") else Response.Write("(NYSE: GE)") end if %> and this is the theme that you hear over and over again. In coming years, what does this mean for the broad sweep of American companies? One answer is that the reversion to the mean for ROE and equity market returns won't come from a huge stock market crash or a big recession that drops corporate profitability off a cliff. The reversion to the mean will come through further improvements to the supply chain of American business, resulting in better asset turnover and lower margins.
Why is it, for instance, that Amazon.com <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: AMZN)") else Response.Write("(Nasdaq: AMZN)") end if %> shot up the other day when it said pricing was very aggressive? My take is that the company probably realizes that if it's not aggressive with prices, someone's going to eat its lunch, and the company would never get the market share in its target markets nor get the general mindshare with consumers necessary to push other strategic initiatives ahead. One of those initiatives, in my opinion, is as an aggregator of retailers. Like an online mall, retailers will pay Amazon.com a "lease" to be on its site because that's where consumers go when they think of shopping. This is where the high-margin revenues are going to come from in the Amazon.com business mix.
With books, videos, CDs, and basically commodity-type consumer goods, investors should be cheering margin declines for Amazon.com. Don't hope for increasing gross margins. Wal-Mart <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: WMT)") else Response.Write("(NYSE: WMT)") end if %>, for instance, didn't get where it is by trying to best Kmart <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: KM)") else Response.Write("(NYSE: KM)") end if %> on margins. Wal-Mart focused on supply-chain efficiencies, inventory turns, customer retention, and low overhead to blow past Kmart. Because of these, it could earn a lower gross margin than its competitors and still generate a very high return on capital. Remember, return on capital is a function of margins and asset turns, and return on equity is a further function of leverage, or how much equity makes up the total capital base.
If enterprise resource planning software companies like SAP <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: SAP)") else Response.Write("(NYSE: SAP)") end if %>, PeopleSoft <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: PSFT)") else Response.Write("(Nasdaq: PSFT)") end if %>, JDA Software Group <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: JDAS)") else Response.Write("(Nasdaq: JDAS)") end if %>, and JD Edwards & Co. <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: JDEC)") else Response.Write("(Nasdaq: JDEC)") end if %> get corporations to thin out the asset bases of businesses, then the competitive front is pricing. Any company that can't compete on the former is going to have a heck of a time competing on the latter. Ever wonder why pricing announcements have always been a non-event to a positive event for Dell Computer <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: DELL)") else Response.Write("(Nasdaq: DELL)") end if %>? It's because its model is built for price competition while Compaq <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: CPQ)") else Response.Write("(NYSE: CPQ)") end if %> historically hasn't been so well equipped.
Similarly, why do warehouse clubs Costco <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: COST)") else Response.Write("(Nasdaq: COST)") end if %> and BJ's Wholesale Club <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: BJ)") else Response.Write("(NYSE: BJ)") end if %> generate excellent returns on capital with gross margins that are far less than half that of the typical grocery store company? It's because they invest less in the assets needed to get the product to you and price their inventory to turn quickly. Their suppliers thus finance their inventories just by providing receivables terms.
This, I would argue, is the way it's going to look across all sectors of the economy except where a company is selling intellectual property. That will always be a high-margin business that won't necessarily demand high capital turns. But the reversion to the mean for equity returns will be pushed by this "paradigm." Sam Walton was on this train long ago and so were the big-box retailers that have been such great performers. And within the last few years, companies such as SAP AG have added tens of billions of dollars to investors' capital by showing the rest of the companies in the world that can afford to license and implement its systems how to increase cash flow per dollar of capital invested in an enterprise.
The forward-looking companies in the country have already moved here. Thus, the rule-making dreadnoughts in the S&P 500 have performed better than the average publicly traded company by improving their business models. A company such as Procter & Gamble <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: PG)") else Response.Write("(NYSE: PG)") end if %>, for instance, is going to outspend in this area the generic brand companies that everyone was so afraid of in 1993. Even if that one generic diaper company didn't infringe on P&G's patent, it was still toast because of this.
Bottom line on these macro thoughts? Well, there are a few. First, this bodes very well for the ERP software companies. It's not a nice-to-have thing -- it's a need-to-have thing. Second, barring an exogenous shock to the market, the likely way the market will revert to the mean is a speeding up of asset turns and a decrease in margins for commodity goods, distributors, and near-commodity goods. Brand, for instance, is going to have to mean value as well as image. But that's not anything earth-shatteringly new, as a company like P&G knows. It just means they'll have to keep on working on delivering supply and distribution chain improvements and manufacturing efficiencies to the consumer.
For companies like Amazon.com, it means they're going to keep on pushing prices down as quickly as they can. The company that realizes that will reap the rewards of increasing market share without having to eat through all its capital. It'll be the company's vendors that finance it. In the near term, what would otherwise be working capital investment goes into brand investment. One is considered an income statement item, while the other is considered a balance sheet and cash flow statement item. However, they are both cash outflows, which is something many short-sellers haven't realized over the last year.
I expect that the shorts will be freaking out over the next couple years on Amazon.com's dropping gross merchandise margins. I fully expect the company's merchandise gross margin to get down to the 10% level over the next few years. That's not a negative, though. Keep your eyes on gross margins across corporate America. As asset turns quicken, margins will decrease. That's the nature of a competitive economy and the equilibrium of return on capital. Those companies that realize this first and make the decision to get there first, like Wal-Mart, will win the market share game and attain the nirvana of being the market share leader.
Please see the Motley Fool's Conference Calls page for call information and links to synopses.
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Contributing Writers Yi-Hsin Chang (TMF Puck), a Fool Brian Graney (TMF Panic), another Fool David Marino-Nachison (TMF Braden), a new Fool
Editing |