Category Archives: Investment firms

Snap (SNAP): non-voting shares (ii)

February 24, 2017 By in Investment firms, public offering, Uncategorized Tags: , , , , Leave a comment

Two potentially important issues arise with non-voting shares.  The underwriters and prospective investors in SNAP are clearly not worried about them.  Granted, they’re unlikely to emerge as actual issues in the near future, but here they are:

–value investors often buy shares in companies they believe are undervalued by virtue of  having bad management.  Their rationale is that management will change in one of several ways:  existing managers will learn from past mistakes and improve;  the board of directors will replace existing managers with better ones; shareholders will vote out current directors and replace them with better ones; the company will be taken over by a third party, which will toss out the incumbents and replace all of them with more competent individuals.

In the case of SNAP, management, the board and the voting shareholders are basically one and the same.  The likelihood of them firing themselves is pretty small.  And the chances of a hostile takeover are zero.  So the value investor argument for eventually buying SNAP shares that there’s a level below which they can’t go without triggering change of control doesn’t apply here.  So if things turn south with SNAP, the chances of rescue are small.

The results of this situation are plain to see in the Japanese stock market, where disenfranchised shareholders have had to watch their investment in family-owned company shares lie dormant for decades.

–change of control can happen voluntarily.  But does an acquirer have to buy non-voting shares in order to take the reins?  I don’t know.  But I don’t think the answer is clearly “Yes.”  Say Amazon decided to bid for the voting shares of SNAP at double the price of the publicly traded, non-voting ones.  AMZN could presumably then replace management and the board of directors and guide the company in any direction it chose–without buying a single non-voting share.  If this were to happen, my guess is that non-voting shares would plunge in value.  Years of expensive legal wrangling  would decide the issue one way or the other.

A third musing:   Can SNAP declare dividends for voting shares but not for non-voting?  The answer should be in the prospectus, which I haven’t read carefully enough to have found out.  But then I’m not interested in taking part in the IPO.

the issue of Snap’s non-voting shares

February 23, 2017 By in Investment firms, Uncategorized Tags: , , , , Leave a comment

A time-honored strategy for entrepreneurial individuals or families to maintain control over their enterprises is to issue two classes of stock.  One will be held by the entrepreneurs, the other by the investing public.  Shares of the former type will typically have a high multiple, say 10x, the voting power of the latter.  If the number is 10x, the entrepreneurs will still control a majority of the votes even if they hold only 10% of the outstanding shares.

Hershey shares are like this.  So, too, the New York Times, News Corp, Facebook and Google.

A variant on this idea, often used outside the US, is to list and issue to the public only preferred stock, not common.  Preferreds vary.  They derive their name from the fact they have some “preference” or other over common (which are also sometimes called ordinary). It may be a higher dividend.  Most usually in the US, preferreds simply have a place in line in the case of bankruptcy in back of all creditors but just ahead of common stockholders–which, to my mind, is as small a preference as you can get.

Snap (ticker: SNAP), the parent of Snapchat, is taking this idea one step farther.  It currently has two classes of stock:  Class C which has 10 votes per share and which the company’s founders hold; and Class B that has one vote per share and which is held by key employees and venture capital investors.  Snap intends to go public by issuing Class A shares that have no voting power at all.  Third party investors will have to accept the fact from Day 1 that they will never be able to wrest control of Snap from its insiders.

Questions:

–Will investors stand for this?

–Are the A shares really stock?   …or are they a funny kind of option?

–What does this say about value investing in the 21st century?

The answer to the first question is apparently “Yes!!!”

 

More tomorrow.

 

 

 

Warren Buffett selling Wal-Mart (WMT)

February 17, 2017 By in Berkshire Hathaway, Investment firms, Uncategorized Tags: , , , Leave a comment

Investment companies are required to file lists of their holdings with the SEC at the end of each quarter.  The latest such 13-F form for Berkshire Hathaway shows a buildup in Apple and airlines   …and the sale of virtually all of Buffett’s long-term holding in WMT.

WMT as icon

A powerhouse in the 1970s and 1980s, WMT has been a bad stock for a long time.  It had a moment in the sun during the market meltdown from mid-2007 through early 2009, when it rose by about 1% while the S&P 500 was almost cut in half.  Since the bottom, however, WMT has gained 40% while the S&P is up by 219%.

Wal-Mart isn’t an obviously badly run company.  It isn’t, say, Sears, or the Ackman-run J C Penney.  But it does have a number of impediments to achieving significant growth in earnings.  One is its already gigantic size.  A second is its focus on less affluent rural customers who were disproportionately hard-hit by recession and who have in many instances yet to recover.  There’s increased competition from the dollar stores.   And there’s Amazon, whose competitive threat WMT itself admits it played down for far too long.

My reaction:

—old habits die hard.  Mr. Buffett built his career from the 1950s onward on the observation, novel at that time, that traditional Graham/Dodd portfolio investing techniques glossed over the considerable value of investment in intangible assets–brand names, distribution networks, superior business practices.  However, by the time I entered the business in the late 1970s, other people–me included–were beginning to adopt his methods.  So thinking about intangibles became part of the toolkit, rather than something special.  Then, of course, the internet began to erode the power of intangibles to stop newcomers from entering a business.  Mr. Buffett, like any successful incumbent (including WMT), has been slow to adapt.

—WMT as metaphor for today.  WMT could become more profitable quickly if its heartland lower-income customer base could earn more money.  One way to do that would be to bar imported goods from the country, with an eye to creating manufacturing jobs in the US.  Of course, that would also destroy the WMT value proposition in the process.  So rolling the clock back to 1950 isn’t the answer, either for the health of WMT or for its customers.

the death of research commissions?

February 15, 2017 By in Investment firms, soft dollars, Uncategorized Tags: , , , Leave a comment

Investors in actively managed funds pay a management fee, usually something between 0.5% – 1.0% of the assets under management yearly, to the investment management company.  This is disclosed in advance.  It is supposed to cover all costs, which are principally salaries and expenses for portfolio managers, securities analysts, traders and support staff.

What is not disclosed, however, is the fact that around the world in their buying and selling securities through brokerage houses, regulators have allowed managers to pay substantially higher commissions for a certain percentage of their transactions.  The “extra” amount in these commissions, termed soft dollars or research commissions, is used to pay for services the broker provides, either directly or by paying the bills to third parties.  Typical services can include written research from brokerage house analysts or arranging private meetings with officials of publicly traded companies.  But they can also include paying for third-party news devices like Bloomberg machines–or even daily financial newspapers.

Over the last twenty years, management companies have realized that instead of supplementing their in-house research with brokerage input, they could also “save” money by substituting brokerage analysts for their own.  So they began to fire in-house researchers and depend on the third-party analysis provided to them by brokers   …and funded by soft dollars rather than their management fee.

For large organizations, these extra commissions can reach into millions of dollars.  Yes, the investment management firm keeps track of these amounts.  But they are simply deducted from client returns without comment.

 

This practice is now being banned in Europe.  About time, in my view.  Strictly speaking, management companies may still use soft dollars, but they are being required to fully disclose these extra charges to clients.  Knowing that clients would be shocked and angered if they understood what has been going on, the result is that European investment managers are abandon soft dollars and starting to rebuild their in-house research departments.

What’s particularly interesting about this for Americans is that multinational investment managers with centralized management control computer systems–which means everyone except boutiques–are finding that the easiest way to proceed is to make this change for all their clients, not just European ones.

The bottom line: smaller profits for investment managers and their brokers; much greater scrutiny of soft dollar services (meaning negotiating lower prices or outright cancelling); and higher returns for investors.

candidate Trump vs. President Trump on banks

February 6, 2017 By in Getting financial advice, How your broker gets paid, Investment firms, Uncategorized Tags: Leave a comment

During his presidential campaign, Donald Trump repeatedly accused Hillary Clinton of being in the pocket of the big banks and brokerage houses.  He suggested that, unlike himself, she would act as president in the banks’ favor and against the interests of ordinary Americans.  That made her “Crooked Hillary.”

So it’s at least very surprising that in his first flurry of activity as President, Trump is advocating changes in government policy that are very favorable for big bank profits, while potentially harming customers and the financial system as a whole.

eliminating fiduciary responsibility

His first action has been to derail implementation of the mandate, recently instituted by President Obama, that financial advisers handling individuals’ retirement investments act as “fiduciaries.”  Put in the simplest terms, fiduciaries have a legal obligation to act in the client’s best interest rather than in their own.  This implies not recommending products that have a history of bad performance, but which pay high sales commissions to the salesman.  Apart from the Obama exception about pension assets, stockbrokers and insurance salesmen have no such requirement today.  (Congress has repeatedly refused to enact the necessary legislation.)

an example

Donsider three investment products:

–Product A is a Vanguard index fund.  It charges 0.08% of the assets per year as a management fee.

–Product B is an XYZ brand fund that is for all practical purposes the same as an index fund. Buyers pay a commission of 5% of the assets invested to acquire shares. The fund charges 1% of assets as a management and pays your broker 0.50% of your assets yearly as what amounts to a retention fee.

–Product C is just like Product B, except that its managers have underperformed the index by 2 percentage points for each of the past ten years.

Of these three, a fiduciary can legally only recommend A.  Because a broker or other financial adviser must only do things that are good for you, not what’s best for you, he can likely recommend both B and C if he believes you won’t lose money from them.  That’s even though C will likely perform 3.5 percentage points worse than A each year.

In a world where stocks gain an average of 8% a year, the holder of C makes 4.5%.   In nine years, the holder of A will have   doubled his money.  The holder of C will probably be up by 40%.

the Trump rationale

Trump administration official Gary Cohn, formerly a high executive at Goldman Sachs, explains that Mr. Trump believes the Obama rule is bad.  Why?  …because it may reduce consumer choice by potentially driving the purveyors of high-cost, poor performance products out of business.  That is, the Obama rule somehow “hurts” people by increasing the amount of money they’ll have at retirement.  This is sort of like saying we should eliminate car safety inspections because they prevent used car dealers from selling autos with no brakes–thereby limiting consumer choice.  Media reports say the analogy Cohn actually used is that the Obama rule is like having supermarkets that can only sell food that’s good for you.  Huh?

More tomorrow.