Business Blog: Hoover’s Business Insight Zone

Well, that was quick.

Don’t get me wrong: I’m glad that GM and the UAW came to such a tidy end to their negotiations. There’s much to be gained by both sides for finding a way through the fog after just two days of the UAW’s nationwide strike against the top US car maker. But, to be honest, the journalistic side of me would have loved for this thing to drag on for weeks, if only for the drama value. (Now we’re back to more acre-feet of navel-gazing by the financial markets. sigh)

So what about this deal? GM and the union are all smiles today, and most news sources are calling the deal a success, especially because it establishes an independent health-care trust that will take GM retirees’ health-care obligations off the GM balance sheet. Even though GM will contribute the lions’ share of funding for the trust, this is a vitally important move that is apt to be copied by Ford and Chrysler in their negotiations with the UAW.

Why is this so important? Two reasons. First, these health-care costs are vast — which is why the trust will be more than $50 billion. Second, these costs are structural. Until GM established some sort of provision like this, retiree health-care costs would always be a sea anchor on the company’s financial progress. This is a key competitive issue because many of GM’s competitors — companies like Toyota and Volkswagen — are headquartered in countries where health-care costs fall on the public sector rather than on individual companies. So, kudos to GM and the UAW for addressing the issue in a way that should be sustainable and that deals with realities as they are.

More coverage:

• Dow Jones newswire
• NYT via International Herald Tribune
• Chicago Tribune
• Financial Times

For more on the history and the consequences of retiree health-care costs as they relate to Detroit’s Big Three, see this 2006 New Yorker article from Malcolm Gladwell:

The Risk Pool

Today’s Company of the Day is Eastman Kodak.

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“You press the button, we do the rest.” That simple slogan captured the vision of George Eastman, the founder of Eastman Kodak who transformed the world of photography with his vision of easy-to-use cameras that anyone could operate. For a century and more, the company dominated the consumer photography market with blockbuster products like the Brownie and Instamatic cameras and Kodachrome film. Countless movies — whether 8mm home-made jobs or major motion pictures — were also shot on Kodak film. But that dominance has eroded over the past ten years as the revolution in digital photography has upended the film-based industry. These days, consumers who once sent their Kodak cameras back to the company for processing are much likelier to snap photos using digital cameras, then share the pictures online through services like Flickr and Facebook. On top of that, many of today’s motion pictures are never “films” at all, since they’re shot, edited, and distributed in all-digital formats.

These shifts in the marketplace have forced painful changes within Kodak. The company’s revenue figures have been flat or declining throughout this decade, and it has sustained big losses in thepast couple of years as it has shifted its focus away from film toward digital photography and imaging. How radical has the shift been? Kodak now has only half as many employees as it did in 1999.

This week, the company used the appointment of Philip Faraci as COO as a chance to say that its four-year restructuing process is nearly complete. Kodak hasn’t abandoned the film business altogether, since it still sees room for growth in traditional film cameras and preloaded cameras in big developing markets like China and India. But if the last few years are any guide, Kodak’s growth as a blended digital and traditional photography company will never be as simple as pushing a button.

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Here comes Halo 3 — but what does it mean for Microsoft and its Xbox 360 gaming console?

Since the inner workings of the video game business sometimes escape me, when I read pieces like this . . .

Microsoft may form Halo of profit over entertainment unit

. . . I often turn to my Hoover’s editorial colleague Chris Huston for his take. Here’s what Chris has to say about the likely impact of the blockbuster Halo 3 on Microsoft’s fortunes.

Well, it will be a success regardless of all the other question marks. I think it could even be looked at as a strategic success even if it doesn’t significantly boost console sales, which I don’t think it will. Most people who want to play Halo are probably avid enough gamers to already have an Xbox.

I think it’s a mistake to rely on one title, however big it is, to be the Messiah for any console company. It seems like analysts are putting it in that role more than Microsoft, to Gates and Company’s credit. Sony, in its heyday, (wow, am I already thinking of them as out of their heyday?) didn’t just have one killer exclusive, they had many: Final Fantasy, Gran Turismo, Grand Theft Auto, and Ratchet & Clank to name a few. Microsoft has Halo and maybe, one could argue, Project Gotham Racing – they don’t have enough.

But at this HD transitional period in consoles, neither does Sony anymore. If Microsoft can get the same kind of bastion of must-have exclusives as Sony did in the PS and PS2 days BEFORE Sony can regroup and establish its own arsenal of killer exclusives, they will have a good shot at taking the throne.

Even as crippled as Sony is right now on a number of fronts for the PS3 (e.g. online community, siren-song titles, price point) it will be a very tough thing to pull off. It will take more than a Halo to get to those pearly gates.

Sounds good to me. In particular, I think Chris is right to emphasize how the console business as a whole — or at least the part of it where Sony and Microsoft compete — is going through a strategic shift to high-definition (HD) technology. In a year or two, there will be many more key titles that take full advantage of the technology, and it’s hard to imagine that Nintendo’s Wii will still be lapping the Xbox 360 and the Playstation 3 at that point. But the question remains: how many of the best games available then will play on the Xbox 360, and how many on the Playstation 3? How Microsoft and Sony navigate the path from here to there will dictate much about the success of their gaming ventures.

Today’s Company of the Day is Tim Hortons.

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Ask a Bostonian how popular Dunkin’ Donuts is on its stomping grounds of New England, and you might hear a glowing report about the chain’s coffee. Ask a Southerner the same about Krispy Kreme, and you’ll get an earful about the lightness and sweetness and perfection of their product. Yet for all the loyalty these chains enjoy in their home turf — and the sugar-caked smiles they inspire across the US — they don’t enjoy anything like the market penetration of Tim Hortons in its native Canada. The chain, which was co-founded in 1964 by National Hockey League star Tim Horton, serves a variety of doughnuts and baked goods, along with simple lunch fare and lots and lots of coffee. The chain has been so popular in Canada that the company has little room to expand there, except in selected areas like Quebec. So, like other successful Canadian companies before them, the company has looked to the massive US market for future expansion.

Challenges abound, starting with Starbucks and the aforementioned doughnut chains — above all Dunkin’ Donuts. Most of the US expansion Tim Hortons has enjoyed so far has come close to the Canadian border, where consumers already are familiar with the brand. But don’t count Tim Hortons out, because the chain has evolved over the years to appeal to more customers — by banning smoking, by expanding the menu, by putting stores in malls and other nontraditional venues, and by changing the interiors of the stores to make them more like sit-down restaurants and less like diners. While it wasn’t able to expand in the US very well during the years when Wendy’s International owned it (from 1995 until last year), the company’s current management is intent on bringing the best in Canadian breakfast food to hungry Americans.

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Today’s Company of the Day is Goldman Sachs.

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It’s been a long, hot summer in the financial markets, and the sweating is hardly over for mortgage lenders, big banks, buyout firms, and the rest of Wall Street’s players. Among the big investment banks, Lehman Brothers and Morgan Stanley felt some heat when they reported lowered quarterly profits this week. Bear Stearns, meanwhile, is sweating bullets after it took a huge hit from bad investments in the subprime mortgage market. Yet there sits Goldman Sachs, immaculate in a tailored suit, cool as the other side of the pillow, basking in the glow of a quarter in which earnings rose 79% from the same period a year ago.

That profit would have been impressive regardless — it was the third-highest quarterly figure in the firm’s nearly 140 years of business — but it was even more stunning considering that it came in a quarter when the company wrote off more than $1.5 billion in bad subprime loans. The subprime hit was offset by healthy gains in Goldman’s asset management, equities, and investment banking units. The firm even found a way to turn a profit in the mortgage arena when it shorted mortgage-backed bonds, thereby betting (correctly) that they would continue to decline. Goldman also reaped a tidy gain of $900 million when it sold its interest in Horizon Wind Energy.

Though Goldman isn’t quite perfect, it has enjoyed a balmy run of success during the years since its 1999 IPO, racking up enormous profits and paying out princely bonuses to its partners and executives. (Among Goldman’s leadership alumni: New Jersey governor Jon Corzine, former Treasury Secretary Robert Rubin, current Treasury chief Henry Paulson, and NYSE Euronext CEO John Thain.) These days, the company’s diverse business lines, deep pockets, and overall acumen have allowed it to thrive even as many other blue-chip financial firms have struggled to hold an even keel.

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Goldman’s terrific results have inspired waves of commentary. I thought this item from the Wall Street Journal’s MarketBeat blog, which talks in more depth about Bear Stearns’s quarter, was particularly interesting:

Bear Stearns Necessities

First FORTUNE magazine spread the Icahn love in a cover story back in June, and now Forbes reports that his wealth has spiked in the past year, from a mere $8.7 billion to a much healthier $14.5 billion. This makes him, by Forbes’s estimate, the 18th wealthiest person in the US.

Possibly this does not comfort Motorola CEO Ed Zander. Here are the opening paragraphs of the FORTUNE piece:

Motorola CEO Ed Zander was enjoying a moment of relief from his company’s struggles last January, mingling with fellow corporate chieftains at the World Economic Forum in Davos, Switzerland, when he got the message that makes CEOs see their careers flash before their eyes. The news: Carl Icahn was calling him out. He had bought a 1.4% stake in Motorola and was demanding a seat on the company’s board.

A few days later Zander made what has become a ritual trip for CEOs caught in Icahn’s cross hairs, hastening to the investor’s sumptuous offices on the 47th floor of Manhattan’s GM Building. The setting is an integral part of the Icahn treatment. CEOs en route to his lair parade past a giant 19th-century watercolor of Napoleon riding to glory over the Russians in the Battle of Friedland, just the sort of rout Icahn covets in his corporate battles.

When Zander arrived, the 71-year-old Icahn ushered him into his immense suite, a paneled aerie overlooking Central Park festooned with museum-quality antiques, portraits of European gentry, and an exquisite portrait by French master Camille Corot. It resembles the drawing room of a British aristocrat, exuding the air of overwhelming wealth and confidence that Icahn - lord of $12 billion in investment capital - summons to bend CEOs to his will. “I told Zander the truth,” recalls Icahn. “I said, ‘You have a great company. Why did you screw it up?’” After that opening salvo, which Icahn says he delivered in a joshing tone, he mounted his charm offensive. He told Zander that Motorola’s stock was vastly undervalued.

Icahn’s success should comfort his fellow investors in the companies with which he tangles. Even though Icahn didn’t win the board seat he wanted at Motorola, his overall campaign to maximize the value of the shares he holds (through his Icahn Enterprises) raises the tide for his fellow shareholders as well.

The Company of the Day is Blackwater USA.

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“I’m the best there is at what I do. But what I do best isn’t very nice.” That’s what the superhero Wolverine said by way of introduction in the X-Men comic book. The same might be said for the non-fictional Blackwater USA, the private contractor that has come to prominence because of its role in the US occupation of Iraq. Blackwater is in the news this week after a Baghdad firefight on Sunday in which its agents shot and killed several Iraqis — either insurgents or innocent civilians, depending on who’s telling the story. The Iraqi government has talked about revoking Blackwater’s license to operate in Iraq. It’s not clear, however, that Blackwater needs any such license under its contract with the State Department, whose diplomats it guards in Baghdad’s Green Zone, or that the shaky government of Prime Minister Nouri al-Maliki actually has the power to expel the company.

The larger issue for many Iraq watchers is what role private security companies like Blackwater should play in Iraq. The company’s fighters, who include many former Navy SEALs, Army Green Berets, and other special forces troops from the best militaries in the world, make far more money working for Blackwater than they would for formal military units, and in at least some cases they operate beyond the reach of ordinary US or Iraqi laws, since they are not US military personnel and are exempted from Iraqi legal prosecutions. Yet these mercenaries are also essential to the US occupation, since they take on jobs that lie beyond the ambit of the military or the capabilities of other security services. (Blackwater declines to call its contractors mercenaries, but that’s what they are — fighters for hire.) The work they do isn’t very nice, but given that the US won’t be removing its diplomats from the Green Zone anytime soon, it appears that Blackwater will have to keep doing it.

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See also my colleague Daysha Taylor’s Bizmology writeup on the Blackwater fracas.

Current market conditions threaten any number of big buyout deals (like First Data’s) and IPOs (like KKR’s). While this puts a crimp in the plans of private equity firms and the big banks that fund their deals, it hardly puts them out of business. Witness these stories:

Goldman will “pursue smaller deals”

For the past few years, Goldman has pursued massive leveraged buyouts, such as the $27 billion deal for Alltel Wireless. But problems in the credit markets have brought those buyouts to a halt. [...]

Goldman’s new smaller deals strategy will focus on “PIPES” — private investments in public equity. With PIPES, investors take smaller stakes in target companies, and provide financing that helps smaller companies survive while they restructure.

Two items from the Wall Street Journal’s Deal Journal blog also reinforce this point:

Financial Engineering is Dead; Long Live Growth Equity!

[Growth equity] is a term that you will likely hear more in the next six months, given the increasing chorus predicting that 2008 will be well under way before the leveraged-buyout-loan mess starts to get cleaned up. The term essentially refers to private-equity investments that are less reliant on leverage and may or may not buy a controlling stake.

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Removing the ‘L’ From the LBO

Tennille Tracy reports in with some highlights from the 14th annual Private Equity Analyst Conference, sponsored by Dow Jones & Co., in Midtown Manhattan.

The first panel of the day is over, it is clear private-equity firms are adjusting to life in a tighter credit market. Some say they are even pursuing deals that won’t require as much debt financing. All say they are using this credit-market inspired timeout to refocus on running and improving the companies they already own.

My observation from this is similar to what I’ve said before about Warren Buffett: the savviest players in the business world figure out how to make money in good times and in bad times. That’s how you know they’re the savviest, and that’s how they really earn their keep. They adapt.

I estimate that what we’ll see in the next year or two is a downgrade in the reputations of some supposed financial wizards who did fine when the sailing was smooth, but who can’t handle the rough weather in the markets today. Meanwhile, the Warren Buffetts and Steve Schwarzmans and Boone Pickenses will do just fine.

First, check out this detailed Aleph Blog post by David Merkel:

Eight Notes on Residential Real Estate

The post offers many links to other stories addressing specific aspects of the mortgage crisis, so you can pick which parts of the story most interest (or scare) you and go from there.

Second, this post from Knowledge@Wharton

How We Got into the Subprime Lending Mess

offers a thoughtful and thorough overview of how we got to where we are today, when the credit crunch from the mortgage industry threatens the broader economy. This one comes complete with historical perspective and comparisons between the US mortgage market and housing markets abroad.  With all the daily hyperventilation and speculation about what’s coming next in the mortgage / real-estate / credit meltdown, this sort of perspective is quite tonic.

Today’s Company of the Day is The New York Times Company.

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The New York Times reigns supreme among the big American newspapers in terms of its reputation, the tenure of its publication, and even in the number of visitors to its Web site. But like the rest of the newspaper business, it faces a hard battle: figuring out how to make money when more and more readers are happy to get their news online — and from nontraditional sources like blogs — rather than in traditional print form. If it were only about the content, going online would present no problem, as the popularity of the Times’ site suggests. But while The New York Times Company long ago figured out how to turn a healthy profit from the advertising in printed newspapers, it still hasn’t mastered the trick of making money online, an increasingly urgent need as print advertising dwindles by the month.

Today marks a shift in the company’s online strategy, since it’s the first day in the post-TimesSelect era. For the past two years, the company put its historical archives and much of its current op-ed content — including prominent columnists like Thomas Friedman and Paul Krugman — behind the TimesSelect subscription wall. The Times claims that TimesSelect had revenue of $10 million per year when they shut it down, a number that sounds better than it was because it doesn’t take into account how many page views (ergo advertising revenue) the company lost because the content couldn’t be accessed by search engines like Google. While Internet pundits have hailed the death of TimesSelect, the market challenges facing the company have led at least one Wall Street analyst to downgrade it from “neutral” to “sell.” Its reputation and business prospects may be better than those of Tribune Company and other rivals, but The New York Times Company still hasn’t figured out how to grow its business in an age that media historians may someday label “The Death of Newspapers.”