by Peter Lynch
Soon after this sale of stock, Bildner’s opened two new outlets in a couple of Boston department stores, and these flopped. Then it opened three new outlets in the center of Manhattan, and these got killed by the delis. It expanded into more distant cities, including Atlanta. By quickly spending more than the proceeds from the public offering, Bildner’s had overextended itself financially. One or two mistakes at a time might not have been so damaging, but instead of moving cautiously, Bildner’s suffered multiple and simultaneous failures. The company no doubt learned from these mistakes, and Jim Bildner was a bright, hardworking, and dedicated man, but after the money ran out, there was no second chance. It’s too bad, because I thought Bildner’s could have been the next Taco Bell. (Did I really say the “next Taco Bell”? That probably doomed it from the start.)
The stock eventually bottomed out at $⅛, and the management retreated to its original stores, including the one across the street. Bildner’s optimistic new goal was to avoid bankruptcy, but recently it’s bought The Chapter. I gradually unloaded my shares at losses ranging from 50 percent to 95 percent.
I continue to eat sandwiches from Bildner’s, and every time I take a bite of one it reminds me of what I did wrong. I didn’t wait to see if this good idea from the neighborhood would actually succeed someplace else. Successful cloning is what turns a local taco joint into a Taco Bell or a local clothing store into The Limited, but there’s no point buying the stock until the company has proven that the cloning works.
If the prototype’s in Texas, you’re smart to hold off buying until the company shows it can make money in Illinois or in Maine. That’s what I forgot to ask Bildner’s: Does the idea work elsewhere? I should have worried about a shortage of skilled store managers, its limited financial resources, and its ability to survive those initial mistakes.
It’s never too late not to invest in an unproven enterprise. If I’d waited to buy Bildner’s until later, I wouldn’t have bought it at all. I should also have sold sooner. It was clear from the two department-store flops and the New York flops that Bildner’s had a problem, and it was time to fold the hand right then, before the cards got worse. I must have been asleep at the table.
Great sandwiches, though.
12
Getting the Facts
Although there are various drawbacks to being a fund manager, there’s the advantage that companies will talk to us—several times a week if we’d like. It’s amazing how popular you feel when enough people want you to buy a million shares of their stock. I get to travel from coast to coast, visiting one opportunity after another. Chairmen, presidents, vice presidents, and analysts fill me in on capital spending, expansion plans, cost-cutting programs, and anything else that’s relevant to future results. Fellow portfolio managers pass along what they’ve heard. And if I can’t visit the company, the company will come to me.
On the other hand, I can’t imagine anything that’s useful to know that the amateur investor can’t find out. All the pertinent facts are just waiting to be picked up. It didn’t use to be that way, but it is now. These days, companies are required to tell nearly all in their prospectuses, their quarterlies, and their annual reports. Industry trade associations report on the general industry outlook in their publications. (Companies are also happy to send you the company newsletter. Sometimes you can find useful information in these chatty highlights.)
Rumors, I know, are still more exciting than public information, which is why a snippet of conversation overheard in a restaurant—“Goodyear is on the move”—carries more weight than Goodyear’s own literature. It’s the old oracle rule at work: the more mysterious the source, the more persuasive the advice. Investors continually put their ears to the walls when it’s the handwriting that tells everything. Perhaps if they stamped the annual and quarterly reports “classified” or mailed them out in plain brown wrappers, more recipients would browse through them.
What you can’t get from the annual report you can get by asking your broker, by calling the company, by visiting the company, or by doing some grassroots research, also known as kicking the tires.
GETTING THE MOST OUT OF A BROKER
If you buy and sell stocks through a full-service brokerage firm instead of a discount house, you’re probably paying an extra 30 cents a share in commissions. That’s not a lot, but it ought to be worth something besides a Christmas card and the firm’s latest ideas. Remember, it only takes a broker about four seconds to fill out a buy or sell order, and another fifteen seconds to walk it to the order desk. Sometimes this job is handled by a courier or a runner.
Why is it that people who wouldn’t dream of paying for gas at the full-service pump without getting the oil checked and the windows washed demand nothing from the full-service broker? Well, maybe they call him or her a couple of times a week to ask “How are my stocks doing?” or “How good is this market?”—but figuring the up-to-the-minute value of a portfolio doesn’t count as investment research. I realize the broker may also serve as a parental figure, market forecaster, and human tranquilizer during unfavorable price swings. None of this actually helps you pick good companies.
Even as far back as the early nineteenth century, the poet Shelley found stockbrokers (or at least one of them) eager to lend a helping hand to their clients. “Is it not odd that the only generous person I ever knew, who had money to be generous with, should be a stockbroker?” Today’s brokers may be less likely to send large, unsolicited donations to their clients, but as information gatherers they can be the stockpicker’s best friend. They can provide the S&P reports and the investment newsletters, the annuals, quarterlies and prospectuses and proxy statements, the Value Line survey and the research from the firm’s analysts. Let them get the data on p/e ratios and growth rates, on insider buying and ownership by institutions. They’ll be happy to do it, once they realize that you’re serious.
If you use the broker as an advisor (a foolhardy practice generally, but sometimes worthwhile), then ask the broker to give you the two-minute speech on the recommended stocks. You’ll probably have to prompt the broker with some of the questions I’ve listed before, and a typical dialogue that now goes—
BROKER: “We’re recommending Zayre. It’s a special situation.”
YOU: “Do you really think it’s good?”
BROKER: “We really think it’s good.”
YOU: “Great. I’ll buy it.”
—would be transformed into something like this:
BROKER: “We’re recommending La Quinta Motor Inns. It just made our buy list.”
YOU: “How would you classify this stock? Cyclical, slow grower, faster grower, or what?”
BROKER: “Definitely a fast grower.”
YOU: “How fast? What’s the recent growth in earnings?”
BROKER: “Offhand, I don’t know. I can check into it.”
YOU: “I’d appreciate that. And while you’re at it, could you get me the p/e ratio relative to historic levels.”
BROKER: “Sure.”
YOU: “What is it about La Quinta that makes it a good buy now? Where is the market? Are the existing La Quintas making a profit? Where’s the expansion coming from? What’s the debt situation? How will they finance growth without selling lots of new shares and diluting the earnings? Are insiders buying?”
BROKER: “I think a lot of that will be covered in our analyst’s report.”
YOU: “Send me a copy. I’ll read it and get back to you. Meanwhile, I’d also like a chart of the stock price versus the earnings for the last five years. I want to know about dividends, if any, and whether they’ve always been paid. While you are at it, find out what percentage of the shares is owned by institutions. Also, how long has your firm’s analyst been covering this stock?”
BROKER: “Is that all?”
YOU: “I’ll let you know after I read the report. Then maybe I’ll call the company....”
BROKER: “Don’t delay too long. It’s a great time to buy.”
> YOU: “Right now in October? You know what Mark Twain says: ‘October is one of the peculiarly dangerous months to speculate in stocks. The others are July, January, September, April, November, May, March, June, December, August, and February.’”
CALLING THE COMPANY
Professionals call companies all the time, yet amateurs never think of it. If you have specific questions, the investor relations office is a good place to get the answers. That’s one more thing the broker can do: get you the phone number. Many companies would welcome a chance to exchange views with the owner of 100 shares from Topeka. If it’s a small outfit, you may find yourself talking to the president.
In the unlikely event that investor relations gives you the cold shoulder, you can tell them that you own 20,000 shares and are trying to decide whether to double your position. Then casually mention that your shares are held in “street name.” That ought to warm things up. Actually I’m not recommending this, but fibbing is something that some people would think of, and the odds of your being caught in it here are nil. The company has to take your word for the 20,000 shares, because shares held in street name are lumped together by the brokerage firms and stored in an undifferentiated mass.
Before you call the company, it’s advisable to prepare your questions, and you needn’t lead off with “Why is the stock going down?” Asking why the stock is going down immediately brands you as a neophyte and undeserving of serious response. In most cases a company has no idea why the stock is going down.
Earnings are a good topic, but for some reason it’s not regarded as proper etiquette to ask the company “How much are you going to make?” any more than it’s proper etiquette for strangers to ask you your annual salary. The accepted form of the question is subtle and indirect: “What are the Wall Street estimates of your company’s earnings for the upcoming year?”
As you already know by now, future earnings are hard to predict. Even the analysts vary widely in their predictions, and companies themselves can’t be sure how much they’ll earn. The people at Procter and Gamble have a pretty good idea, since that company makes 82 different products in 100 different brands and sells them in 107 different countries, so everything tends to even out. But the people at Reynolds Metals couldn’t possibly tell you, because it all depends on aluminum prices. If you ask Phelps Dodge what it will earn next year, Phelps Dodge will turn around and ask you what the price of copper is going to be.
What you really want from investor relations is the company’s reaction to whatever script you’ve been trying to develop. Does it make sense? Is it working? If you wonder if the drug Tagamet will have a significant effect on SmithKline’s fortunes, the company can tell you that—and they can also give you the latest figures for Tagamet sales.
Is there really a two-month backlog on orders for Goodyear tires, and have tire prices really gone up as you’ve concluded from local evidence? How many new Taco Bells are being built this year? How much market share has Budweiser added? Are the Bethlehem Steel plants running at full capacity? What’s the company’s estimate of the market value of its cable TV properties? If your story line is well-defined, you’ll know what points to check.
Better that you lead off with a question that shows you’ve done some research on your own, such as: “I see in the last annual report that you reduced debt by $500 million. What are the plans for further debt reduction?” This will get you a more serious answer than if you ask: “What are you guys doing about debt?”
Even if you have no script, you can learn something by asking two general questions: “What are the positives this year?” and “What are the negatives?” Maybe they’ll tell you about the plant in Georgia that lost $10 million last year but has now been closed down, or about the unproductive division that’s being sold off for cash. Maybe some new product has come along to speed up the growth rate. Back in 1987, investor relations at Sterling Drug could have told you if the recent medical news about aspirin had boosted sales.
On the negative side, you’ll learn there’s been an increase in labor costs, that demand for a major product has slipped, that there’s a new competitor in the business, or that the falling (or rising) dollar is going to reduce profits. If it’s a clothing manufacturer you’re addressing, maybe you’ll discover that this year’s line isn’t selling and that inventories have piled up.
At the end, you can sum up the conversation: three negatives, four positives. In most cases you’ll hear something that confirms what you suspected—especially if you understand the business. But once in a while you’ll learn something unexpected—that things are either better or worse than they appear. The unexpected can be very profitable if you’re buying or selling stocks.
In the course of my research I find something out of the ordinary in about one out of every ten calls. If I’m calling depressed companies, then in nine cases the details will confirm that the companies ought to be depressed, but in the tenth case, there’ll be some new cause for optimism that isn’t generally perceived. The same ratio holds, but in reverse, for the companies that are supposedly in great shape. If I make 100 calls, I find 10 surprising situations, or if I make 1,000 calls, then 100.
Don’t worry. If you don’t own 1,000 companies, you don’t have to make 1,000 calls.
CAN YOU BELIEVE IT?
For the most part, companies are honest and forthright in their conversations with investors. They all realize that the truth is going to come out sooner rather than later in the next quarterly report, so there’s nothing to be gained by covering things up the way they sometimes do in Washington. In all my years of listening to thousands of corporate representatives tell their side of the story—as terrible as business might have gotten—I can only remember a few instances when I was misled deliberately.
So when you call investor relations, you can have full confidence that the facts you’ll be hearing are correct. The adjectives, though, will vary widely. Different kinds of companies have different ways of describing the same scene.
Take textiles. Textile companies have been around since the nineteenth century. JP Stevens got started in 1899, West Point-Pepperell in 1866—these are the corporate equivalents of the Daughters of the American Revolution. When you’ve been through six wars, ten booms, fifteen busts, and thirty recessions, you tend not to get excited by anything new. You’re also strong enough to admit readily to adversity.
The investor relations people in textiles have picked up enough of this old-guard attitude that they manage to sound unenthusiastic when business is terrific, and absolutely downcast when business is good. And if business is poor, you’d think by the spirit of the interviews that the executives were hanging themselves by their percale sheets out the windows of their offices.
Let’s say you call up and inquire about the wool-worsted business. “Mediocre,” they say. Then you ask about polyester-blend shirts, and they answer, “Not so hot.” “How’s denims?” you wonder. “Ah, it’s been better.” But when they give you the actual numbers, you realize that the company is doing great.
That’s just how it is in textiles, and in mature industries in general. When looking at the same sky, people in mature industries see clouds where people in immature industries see pie.
Take apparel companies, which make the finished products from textiles. These companies have a tenuous existence and are forever disappearing from financial life. For the number of times they’ve declared Chapter 11, you’d think it was an amendment to the Constitution. Yet you’ll never hear the word “mediocre” from an apparel person, even when sales are disastrous. The worst you’d ever hear from an apparel person during a retailers’ Black Plague would be that things were “basically okay.” And when things are basically okay, you’ll hear that the situation is “fantastic,” “unbelievable,” “fabulous,” and “out of this world.”
The technology people and the software people are equally Pollyannaish. You can almost assume that the more tenuous the enterprise, the more optimistic the rheto
ric is going to be. From what I hear from the software people, you’d think that there’s never been a down year in the history of software. Of course, why shouldn’t they be upbeat? With so many competitors in software, you have to sound upbeat. If you appear to lack confidence, some other sweet-talker will win all the contracts.
But there’s no reason for the investor to waste time deciphering the corporate vocabulary. It’s simpler to ignore all the adjectives.
VISITING HEADQUARTERS
One of the greatest joys of being a shareholder is visiting the headquarters of the companies you own. If it’s in the neighborhood, then getting an appointment is a cinch. They’re delighted to give tours to the owners of 20,000 shares. If it’s someplace across the country, maybe you can sneak in a visit on your summer vacation. “Gee whiz, kids, just sixty-three miles from here is the main office of Pacific Gas and Electric. Mind if I stop in for a peek at the balance sheet while you guys sit on the grass in the visitor’s parking lot?” Okay, okay. Forget I suggested it.
When I visit a headquarters, what I’m really after is a feel for the place. The facts and figures can be gotten on the phone. I got positive feelings when I saw that Taco Bell’s headquarters was stuck behind a bowling alley. When I saw those executives operating out of that grim little bunker, I was thrilled. Obviously they weren’t wasting money on landscaping the office.
(The first thing I ask, by the way, is: “When is the last time a fund manager or an analyst visited here?” If the answer is “two years ago, I think,” then I’m ecstatic. That was the case at Meridian Bank—22 years of up earnings, a great record of raising dividends, and they’d forgotten what an analyst looked like.)
Seek out the headquarters with the hope that if it’s not stuck behind a bowling alley, then it will be located in some seedy neighborhood where financial analysts wouldn’t want to be seen. The summer intern I sent to visit Pep Boys—Manny, Moe, and Jack reported that the Philadelphia cab drivers didn’t want to take him there. I was as impressed with that as almost anything else he found out.