The Government Breaking Its Own Laws

Even if you're not an avid investor, you've probably still heard of the issues plaguing the US auto industry. It's very much been mainstream news and I've even written about it on Investing Decoded. However, like I've said previously, these problems are systemic and have developed slowly over many years. Nobody should be too surprised that the industry is in the state it is in now.

However, some of the recent developments with Chrysler have really disappointed me and are a prime example of why government and politics don't mix. Fundamentally - the government has broken its own laws - specifically contract law and incorrectly favored one party over another in the Chrysler bankruptcy proceedings.

Imagine If....

To help you understand what happened, let me set up a hypothetical scenario.

Imagine if I came up to you asking for a loan for a new company I was starting. When considering if you want to lend me the money, you would do a risk/reward assessment - is the potential money you can make from lending me the money outweigh the risk that I might not be able to pay you back. You may not do a lot of formal number crunching that investors do, but you would ask basic questions:

'What does your business do, and how likely is it to be successful?'
'If I give you the money, what do I get in return?'

Now, say I tell you, well, you can have a few options on how to loan me the money.

1. You can be a standard lender (aka creditor) - As a standard creditor, I will pay you 8% a year every year until I pay the money back. But if the company goes under and I can't pay you back I will give you 10% of the assets leftover
2. You can be a 'preferred' creditor - As a preferred creditor, I will pay you only 5% a year, but if I can't pay you, you will be 25% of the leftover assets.
   
3. You can be a shareholder - As a shareholder (i.e. you get stock in the company) you buy a piece of the company itself instead of just giving a loan. As a shareholder you'll have a say on how the company is run and can profit potentially infinitely if the company does well. However, if the company goes bankrupt, you get nothing...you lose all your money.
   

So with these options, based on your risk tolerance and the type of investment you're looking for, you can pick either one.

Chrysler's Situation

With Chrysler, there were many entities in all 3 of those categories. Also, the government owned a big piece of the company through the bailouts given last year. Well, since it went bankrupt, the assets of the company go to the creditors based on what type of creditors they were (i.e. preferred creditors get more than regular ones and stock holders get nothing). This is basic contract law that is applied in pretty much all corporate bankruptcies.

But the government had its own agenda. It turns out, the preferred creditors in Chrysler will get $.30 for every dollar they are owed in the bankruptcy. However, the United Auto Workers Union, who are essentially unsecured creditors (i.e. number 1 on the list above) will be getting $.43 to the dollar. The debt risk structure is essentially being turned up-side-down. But wait, that's not all, the UAW will also get a 55% stake in the new company - an equity stake! Some are estimating that the UAW will be recouping all of its investment.

You don't have to be a financial genius to figure out that this smells fishy. The government has undermined contract law to favor the UAW over the creditors, and Pres. Obama has pulled the 'the creditors are the very hedge funds and banks that caused the financial crisis in the first place' line to justify it. Of course, it has nothing to do with the fact that the UAW endorsed Obama and strongly campaigned for him. I'm sorry, but I'm not buying it. The precedent that this action sets can easily cause a crisis in confidence in the credit markets - and we really don't need any more of that. The dangers of government getting too involved in politics has proven itself, yet again, to be a double-edged sword.


Questions/Comments/Feedback?
Please don’t hesitate to let me know of any questions or comments you have about this post or any other. If you want me to write about something else investing related, do let me know!

The Standard Disclaimer:

The stuff I just wrote above is my opinion and my opinion only. Please do not take it as fact. Perform all necessary research and analysis prior to acting on anything I've said above. This includes consulting with a financial advisor.

Stock Discussion - Millicom International (MICC)

Today I want to take a break from the general economy discussions and get a little more focused on how to make $$! Let's discuss a stock that I've been a fan of for a while and think has some serious long term (albeit somewhat iffy short term) prospects.

Industry I Like - Emerging Market Wireless Telecom

I mentioned long long ago when I first started Investing Decoded, but generally when trying to find stocks I want to invest in I first try to find industries that I think will be strong. My rationale for this is simple - if you're an outstanding company in a poor industry, your company will probably still not perform very well in the stock market (Check out Toyota motors' 1 year stock chart, for example). Furthermore, industry trends are a little easier to predict because there are no company specific variables that you have to factor in.

With that said, one of my favorite long term industries is emerging market wireless telecommunications. Yes, this is a very specific industry, and you might be asking "How in the world did you think of something like this?" Well, as with many of my investing inspirations, is personal experience.

10 years ago, the wireless revolution was well on its way in the US. The average person was starting to get a cell phone in his/her hands and it was beginning to become a staple tool in both business and personal environments. This isn't surprising - a heavily industrialized society like the US needs the most efficient communication means possible. What did surprise me, however, was when I was on a trip to India, I saw a similar revolution! Wireless communications was taking its hold at much the same pace as in the US - something that I don't think most people would've expected. Wireless service providers were able to get their phones in the hands of even the poorest peasants in the Indian countryside, dramatically revamping the way they want about their daily lives.

With that experience I was able to come to a basic conclusion - wireless communication is one of the earliest and most revolutionary advancements any emerging market experiences, and any company that can efficiently tap this market in its infancy will be extremely successful.

Enter Millicom International Wireless

So now I have the industry picked out, so I decided to see if I can find any companies to invest in the concept in. There's always the usual candidates - Verizon, Vodafone, AT&T, etc. But these guys are big and diversified - I was looking for emerging market, not large diversified market. BUT, there was one name that instantly hit the chord. Millicom, a European based company that's been providing wireless services for over 20 years, specifically targets emerging markets that have not experienced the wireless revolution yet.

http://www.google.com/finance?q=micc


What Makes MICC So Special?

A natural question here would be "Why MICC? Wouldn't the big guys with all their resources just destroy a smaller player when they wanted to?" Well, yes, except when the big boys don't have the expertise and know-how to do what MICC does best. MICC competitive advantage lies in its ability and experience in penetrating markets earlier than anyone else. They are experts in going into war-torn third world countries and setting up distribution networks as well as infrastructure to get the citizens cell phones. They make money by setting up these networks and selling pre-paid cell phones to the citizens of a third world country - thereby making them an early entrant on what usually is a very lucrative market. And, like I said earlier, there's always a market for wireless communications in third world countries. What's not to like??

How To Play MICC

MICC has traded between a high in the $120s to a low of $20s over the past year. So if you don't have the stomach for it, don't invest here. However, at it's current price of the mid-50s I think there's an attractive opportunity here. I think the stock has long term running room to at least the mid-70s, and you get a nice 4+% dividend yield to hold you over until then. There may be some shorter term downside, and I would definitely dollar-cost average down during those times.

As long as there's emerging markets in the world, MICC will be able to benefit from doing what they're better than anyone else at doing - connecting those markets and getting them on the path to communications revolutions. If you see the big boys like Verizon starting to do this, I would definitely consider that a sell signal for MICC. However, until that day (which I still think is pretty far away), MICC is buy in my book.


Questions/Comments/Feedback?
Please don’t hesitate to let me know of any questions or comments you have about this post or any other. If you want me to write about something else investing related, do let me know!

The Standard Disclaimer:

The stuff I just wrote above is my opinion and my opinion only. Please do not take it as fact. Perform all necessary research and analysis prior to acting on anything I've said above. This includes consulting with a financial advisor.

Chrysler's Bankrupt...Time for Some Change - Part II

As I mentioned in the previous post, the troubles the auto-makers are currently facing have been years in the making. It’s wrong to blame the crisis in Detroit on the current recession since the seeds of the crisis were planted years ago through poor strategic decision making by the management of these companies.

However, instead of continuing to dwell on the reasons for the issues, I want to now discuss where to go from here. I strongly believe that American designed/built cars are on par with cars made in any other country. Despite the current climate, American talent and ingenuity is still very much intact and can be leveraged to pull the troubled auto industry out of the hole it has dug itself in. If I were the CEO of one of the big three, I would go to my next meeting with the board of directors with a plan that would look something like this:

Not So Classic Simplicity

I strongly believe that a lot of the issues that Ford, GM, and Chrysler face are related to size – the companies became too large, too complex, and too spread out in order to function effectively. 20 years ago, having Chevy, GMC, Oldsmobile, Pontiac, Saturn, Cadillac, Buick making essentially the same cars but marketed differently may have made sense. However, the brand name of a car doesn’t mean what it used to. Today’s consumer identifies brand by price point – a Cadillac is more luxurious and refined than a Chevy and, therefore, costs more. People today don’t care as much about additional stigmas associated with the brands (e.g. Pontiac is the ‘exciting’ version of Chevy, even though the cars are essentially cost the same). There are a few exceptions to this – but these are very niche brands that can continue to survive (e.g. Jeep, Corvette). Also, much of this consolidation is already happening – Pontiac and Saturn are both on the chopping block for GM.

In the end, I think the auto-makers should simplify their branding and marketing strategy to the following. All other brands can either be eliminated or absorbed into the existing ones:

GM – Chevy, Cadillac, Corvette, Buick (Buick primarily because of it’s success overseas)

Ford – Ford, Lincoln

Chrysler – Dodge, Chrysler, Jeep

Leaner, Meaner, and more Nimble

On the production side, the Big Three need to also simplify and become more efficient in their production processes. This means reducing the production capacity and making some tough, yet necessary, cuts in areas that are just not profitable. Again, this is something that’s already occurring, but it needs to aggressively continue. Companies like Honda have been very successful as the smaller, but more nimble player in the marketplace where they can easily react to changes in consumer tastes. Following this trend, at least initially, will help the big three reset themselves in position for future growth and success. In other words, take a few steps back now to take a whole lot more steps forward in the future.

Listen Very Carefully – You Can’t Afford Not To!

This goes hand in hand with the previous points. Now that you’ve simplified your company and made it more responsive to the needs of the car buyer, you need to listen to those buyers very very carefully. Figure out exactly what they’re looking for. Obviously GM wasn’t listening when they built cars like the Aztex and the HHR. You need to be proactive. not reactive, to the tone of the marketplace and this is the best time to strongly emphasizing this trait.

Always Keep Quality In Mind

The quality of cars has advanced by light years over the past 15 years. In 1990, quality was a differentiating trait – a marketing tool that some auto-makers used and some largely ignored. Today, however, advances in production technology have really evened out the playing field when it comes to build quality. This means that having high quality cars won’t differentiate you positively (since so many cars today are such high quality). On the other hand, making poor quality cars will get you kicked out of the party in a real hurry – there’s no easier way to negatively impact your image than to sub-standard build quality. Therefore, having a strong focus on quality at all times is not only a good thing, it’s imperative. The big three need to continue investing and staying ahead of the curve in this department to stay competitive.

Those are some of the high-level steps that I think the big three need to take to bring them back to prominence in the automotive landscape. There’s no doubt that the process will be a long and arduous one – one that may include more than one bankruptcy. However, there’s no doubt in my mind that if the right steps are taken, prosperity will reign.

Questions/Comments/Feedback?
Please don’t hesitate to let me know of any questions or comments you have about this post or any other. If you want me to write about something else investing related, do let me know!

The Standard Disclaimer:

The stuff I just wrote above is my opinion and my opinion only. Please do not take it as fact. Perform all necessary research and analysis prior to acting on anything I've said above. This includes consulting with a financial advisor.

Chrysler's Bankrupt...Time For Some Changes Part I

Last week it finally became officially - the Chrysler Corporation filed for bankruptcy. I say finally because it was a long time coming...for much longer than this recession has gone on for. But don't think I'm pessimistic about the state of the US auto industry. On the contrary, I'm more on the optimistic side. Nonetheless, I think it's worth discussing how the US auto industry came to this point.

Cars That People Want...Not as Simple As It Sounds?

The current state of the US auto industry really has its roots in the 90's. During that time, the US carmakers were rolling in profits through the newest fad in autos - SUV's. The 90's gave birth to the biggest growth in the SUV market and made the heavy, gas guzzling, yet very suitable for families vehicles a mainstay in driveways around the world. Gas was well under $2 a gallon (sometimes below even $1) and people were willing to pay a premium for big cars that did not carry a stigma of 'family haulers'. Detroit automakers understood this demand and took full advantage of it - perhaps too much. Soon enough they began relying on these high profit margin cars to support their bottom line.

But when gas prices began their steady but uninterrupted rise over the last 5 years, sales of those big SUV's fell dramatically. US automakers realized that they were overly dependent on the SUV's. They were slow to realize the shift their customers were making from big expensive vehicles to smaller more efficient ones. Other carmakers - particularly the Japanese ones - did see this shift and came out with cars that they understood very well - efficient, high quality, and respectable cars with less frills and more practicality.

Since this time, the big 3 (Ford, GM, Chrysler) have steadily lost market share in the US - to the point where Toyota is now in contention with Ford as the 2nd leading automaker in the US in terms of sales.

Straw The Broke the Camel's Back

Although the US automakers were incredibly slow in reacting to the change in the marketplace for cars in the US and lost more market share than in any other point in their history, they were still able to survive. Why? Because the economy was so good and credit was easily available. Yes they were losing market share, but they were still able to sell enough cars to stay afloat until the cars they made aligned with the market demand.

Unfortunately, with the credit crisis, the time frame for this return to prosperity was drastically cut short. And soon GM and Chrysler found themselves in a precarious situation where their options became very limited. Even the billions the American government injected to the automakers was not enough to stave of the event that was 10 years in the making - a major automaker declaring bankruptcy.


Leading Up To Bankruptcy

Out of the 3 automakers, Chrysler has been in the most dire situation for a while now. In my opinion, their cars are by far the worst quality and least appealing out of all the automakers. Furthermore, after Daimler sold Chrysler (the Mercedes carmaker owned Chrysler for about 10 years) to private equity firm Cerberus, much of the management was retained at Daimler, leaving Chrysler weaker than even.

It's no surprise then that Chrysler was the first to go under. For weeks they tried to restructure over $6 billion in debt with the help of the Obama administration. They also tried to forge an alliance with Italian automaker Fiat as a restructuring effort. Unfortunately, an agreement could not be reached and Chrysler was forced into bankruptcy. Although Chrysler as a company will still be around, it will be in a much different form than it is now.

In my next post, I will discuss what this new structure may look like and the bumpy road Chrysler has in store. I will also discuss how the Obama administration has tried to twist the bankruptcy and unfairly blame the debt holders for the bankruptcy. So, stay tuned!



Questions/Comments/Feedback?
Please don’t hesitate to let me know of any questions or comments you have about this post or any other. If you want me to write about something else investing related, do let me know!

The Standard Disclaimer:

The stuff I just wrote above is my opinion and my opinion only. Please do not take it as fact. Perform all necessary research and analysis prior to acting on anything I’ve said above. This includes consulting with a financial advisor.