Abraham Lincoln, the Farmer’s Daughter and Wal-Mart’s Comps
Brokerage firms and the financial media’s mishandling of Wal-Mart’s quarterly earnings is reminiscent of one of Abe Lincoln’s most clever courtroom victories. Lincoln’s opposing counsel made a lengthy and well-reasoned argument for their client, concluding their innocence. Lincoln began his rebuttal with a story. ‘One day a farmer’s young son came running up to him as he toiled in the fields. “Papa, sister is in the barn with the farmhand. She’s pulling her dress up and he’s pulling his britches down…I think they are going to pee on the hay.” On his way to the barn, the farmer replied, “son, your facts are right but your conclusion is wrong.” Lincoln then addressed the opposing counsel, stating that “your facts are right, but your conclusion is wrong” convincing the judge and earning a victory.
Similarly, the Street reasoned that Wal-Mart’s comp store sales would be weak primarily due to declines in food prices and instructed clients to avoid owning Wal-Mart going into the quarter. Wal-Mart’s comps were in fact negative, but instead of falling, the stock rallied. Your facts are right, but your conclusion is wrong.
Procter & Gamble—Cutting In Deeper Than Gillette
PG reported a 4% quarterly drop in organic volume earlier this month and, not surprisingly, the brokerage firms punished shareholders dearly for the company’s missing analysts’ expectations. The stock was down about 9%, or $15 billion of PG’s total market value. To us, this response is the typical knee-jerk reaction from the transaction-driven world of stockbrokers, who are too-often busy convincing clients to buy and sell stocks, instead of finding long-term, sustainable value in which to invest. Unlike traders, investors view these events as opportunities to either add to an existing position or establish a new one if the potential return is attractive.
Four days ago and with much less drama from Wall Street, PG filed its 10K and annual report with the SEC. The letters to shareholders from outgoing CEO A.G. Lafley and incoming CEO Bob McDonald should be required reading for anyone who aspires to excel in merchandising or as an investor, in our view. Let’s assume you are going to read them, and dig a little deeper into the numbers.
Some may argue that PG’s envious performance under Lafley’s leadership was really driven by the company’s acquisition of Gillette in 2005. But when we examine the last ten years' results and look beyond the Gillette acquisition, we uncover the DNA of a very good business. During the pre-Gillette period, management grew sales nearly 8% annually and operating income over 12%, all while holding R&D and CapX steady.
While this period did include a few acquisitions like Iams, Clairol, and Wella, PG’s ability to improve margins and cash flow is demonstrative of its acumen in identifying, developing and marketing products which convey high value to consumers worldwide. Though growth has moderated since 2006, PG has continued to improve margins with modest capital investment. In Investorland, businesses like PG that can consistently produce more cash with less are truly rare and valuable.
PG shareholders will likely endure rough seas over the next few quarters as brokerage firms struggle to accurately predict short-term results—the latter all the while missing the quiet idle of PG’s cash generating engine, which is currently ginning over $11 billion in free cash flow each year.
Chipping Away
The Inventure Group which trades under the symbol SNAK is a small but interesting company, though not without risk. Its recent investor presentation is filed here, for the maker of potato chips, snacks & distributor of berries under the Rader Farms names. The company also manufactures and distributes chips/snacks under license from TGI Friday’s (30% of net revenues) & Burger King (side note – interesting to see the growth of restaurant-branded items at traditional retailers). Though the company has made some inroads with Wal-Mart, its biggest customer by far is Costco which was 24% of its business last year. In looking at its financials filed last week, the balance sheet caught our eye. SNAK’s stock market value is $50 million, but it has $69 million in assets. Subtract the $10 million debt that SNAK owes from its $69 million in assets and the book assets are still greater than the market value ($59 million - $50 million = $9 million). Over ½ of the assets are cash, inventory and receivables, which isn’t too difficult to value. With SNAK solidly profitable and on pace to put about $4 million in cash in its coffers this year, investors may be overlooking this company. Source: Company filings.
Cost of Smokes vs. Basics in the Ukraine.
It’s surprising to see that cigarettes cost less than Budweiser, Big Mac’s and Colgate toothpaste but more than milk, bread and Coca-Cola. The folks at footnoted.org spotted this on slide #14 of a recent Philip Morris investor presentation filed with the SEC. source: footnoted.org, SEC filings
How does this market drop compare to others?
Outstanding chart comparing the current market decline to past stock market declines. Source: dshort.com
How Americans spend their day
For data junkies only. Click here. Source: New York times
What Britain eats
Watch the decline in canned peas consumption and shopping trends for dozens of other items over the past 30 years. Source: Timesonline
Bueller? Bueller?
After a day of carousing in downtown Chicago, Ferris (Matthew Broderick) and his buddy Cameron (Alan Ruck) return Cameron’s dad’s restored Ferrari 250 GT California to his house. The boys’ attempt to rewind the odometer accidentally sends the car through the glass wall to its death in the ravine. The house is on the market −You can own a piece of 80’s pop-culture history for $2.3 million as seen here.
Sympathy for the Buyer
We wouldn’t trade places with the Wal-Mart buyer who has to endure the demo for this new hygiene product especially given the close confines in the display rooms. Garment Guard of Irvine, CA is marketing subtle butt™, a disposable gas neutralizer. Users wear the product which contains an activated carbon pad that, as the wind breaks, purportedly neutralizes the odor of even the nastiest, beaniest of meals. No word yet on its ability to dampen the accompanying acoustics. $9.95 for a 5-pack.
“I buy expensive suits. They just look cheap on me.” -- Warren Buffett
Have a thought or comment? Give us a call or email.
Scott Alaniz, CFA
Joe Chumbler, CFA
Rogers (479) 657-6940
Information in this report has been obtained from sources that we believe to be reliable. Boston Mountain Money Management does not guarantee its accuracy or completeness and assumes no responsibility for actions taken with respect to information contained herein. The authors held a position in Wal-Mart Stores at the time of this newsletter.
