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Don't Blame the Sluggish Economy on Uncertainty Alone

Nikolay Tsintsadze — Mon, 16 Aug 2010 11:00:00 EST

Filed under: Recession, Inflation, Financial Reform, Unemployment, Federal Reserve, Economy

The Federal Open Market Committee's post-meeting statement released on Aug. 10 was a reminder that this recovery won't come easily. It turns out that the Fed's previous predictions for economic growth were too optimistic.

The spending, housing and credit numbers that might signal sustainable progress are sluggish. Output and employment, the drivers for these factors, aren't improving at a meaningful pace.

Thus, the blueprint for growth seems simple: Increase output and employment, and the recovery should take off. What is stopping this from happening?

The Magic Word

While there are all sorts of explanations, ranging from changing demographics to bond vigilantes, one common force bears much of the blame for this lethargic economy. Probably every financial writer, pundit and analyst has cited this reason in some context: "uncertainty." It's arguably the financial world's most familiar explanation, and rightfully so.

After all, it's at least partially correct to say uncertainty is the reason businesses aren't hiring. Consumers are uncertain about their jobs, so they're not spending. Banks are uncertain about whether their potential borrowers can pay them back, so they're not lending.

However, the same justification could fit any situation, and even support the opposite argument. To say that something is certain is to effectively predict the future, which no one can do, despite how predictable things may seem. This is the case whether things are going well or going down the drain, whether unemployment is at a fantastic 4% or a dismal 25%.

What happened the last time something seemed dead-certain in the financial world? It was "certain" that housing prices were always going to increase. To say that ended poorly is the understatement of this young century.

Certainty is an illusion, and when things are going well, it's easy to claim there's certainty. Optimism creates an irrational state of mind because people naturally want to see good conditions and be certain about them.

So Why the Fuss?

It's true that more uncertainty can be infused into a situation. Much of the current inaction by consumers and businesses is blamed on there being more uncertainty than usual. However, this blame is largely misplaced because there is no real "usual," and additional uncertainty by itself does not cause inaction.

Consider the example of inflation: As any economics textbook will explain, when prices are rising, consumers tend to buy more and businesses tend to hire more. This is because inflation today suggests that the trend will continue, causing both prices and wages to be even higher tomorrow. Future prices cannot infallibly be foreseen, and they become more uncertain as they rise, but price growth still spurs spending. Because the fear of more inflation exists, businesses and consumers act.

In that situation, uncertainty actually breeds expansion, creating conditions that prompt consumers to spend or not spend, businesses to hire or not hire.

Uncertainty Is Not the Enemy

With inflation, it is the prevailing expectation that prices are lower today than they will be tomorrow that prompts action. The actors are biased to believe that what happens tomorrow will make today's decision a good one. If the bias were that tomorrow's facts would make today's decisions appear poor, indecision would result. A positive bias is confused with certainty, and a negative bias becomes uncertainty.

The government is the party often held responsible for today's uncertainty and often accused of adding to the pessimistic bias.

The new health care law imposes new charges on employers and contains over 200 instances in which the government "may" do something. The financial regulation law has similarly vague clauses and has provisions to charge banks for a rescue fund. Federal deficits are at record levels, and will have to be paid down. Social Security will too. Anything could happen with the soon-to-expire Bush-era tax cuts.

All of these government issues undoubtedly produce uncertainty. What is important is that they generate the expectation of higher future costs and taxes for consumers and businesses. Therefore, employment and output suffer.

It is already expensive to hire more workers. A New Jersey business owner calculates that it costs his company $74,000 to pay an employee a salary of $59,000, and after deductions and taxes, she only takes home $44,000. This business owner is not alone. Because of the problems facing the U.S., and its recent actions to solve others, there's a collective bias to believe that further changes would make hiring even more expensive.

So Blame Obama?

It is easy to see why there is a reluctance to spend or hire. Any decision that meets already tight criteria and seems like a good idea today could easily be invalidated by tomorrow's legislation. This is the expectation that the government is creating.

It is a completely different issue of how guilty this current administration is in producing and maintaining this bias. It inherited many of its problems, and there were no easy solutions to those issues. Even if it had taken all the right actions, there is no telling what bias the American people would now have.

Judgment about the administration's choices would probably still be divided across partisan lines. But this is less important than what it will do to fix this predicament. It must create a positive bias in its people that there will be a bright tomorrow and today's decisions will still be good decisions by future standards. The administration has the job of convincing businesses, consumers, and investors alike. This is no easy task, but recognizing that it is fruitless to battle uncertainty alone is a key first step.

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Northrop Grumman Earnings Preview: Impact of Budget Cuts

Nikolay Tsintsadze — Wed, 28 Jul 2010 19:00:00 EST

Filed under: Earnings, Government Spending, Investing

If you're a defense contractor like Northrop Grumman (NOC) that depends on the U.S. government for more than 90% of your revenue, talk about cutting the budget deficit gets a little prickly because it inevitably turns the spotlight on defense spending.

A huge chunk of the federal budget goes to mandatory spending -- about two-thirds of the total -- which includes entitlements such as Social Security, which the government must pay once certain criteria are met. The rest is
so-called discretionary spending (which must be decided in appropriations bills), and the largest chunk of that goes to defense.

The costs of defending this nation certainly add up -- annual U.S. military expenditures exceed those of the next 16-biggest-spending nations combined, or 46.5% of total world military spending -- especially with two wars in progress. And that doesn't even include spending on Homeland Security, Veterans Affairs and maintenance of nuclear weapons. (Not a place to cut corners.)

Adjusting the Strategy

However, with a record U.S. deficit of $1.47 trillion forecast for 2010, the administration is looking everywhere it can to cut spending, and the defense budget isn't escaping scrutiny. As a result, the companies that the U.S. hires for technological and defense expertise, such as Northrop Grumman, are adjusting their game plans.

Recently, Northrop -- whose main products are its aerospace, electronics, shipbuilding and information systems -- announced that it's going to close down its Avondale, La., shipyard in 2013 in an effort to consolidate its Gulf Coast shipbuilding business. In addition, the company is looking to sell or spin off the entire shipbuilding part of its empire.

This effort will undoubtedly hurt the company's bottom line in the near term. Northrop's shipbuilding business has generated a steady revenue stream -- accounting for $1.524 billion, or 17%, of a total $8.957 billion in total sales and service revenue in the second quarter of 2009 -- and the final cost of the plan will be significant. Still, shipbuilding is a crowded field, and management notes that it produces limited synergy opportunities with the rest of the company, and the competition for government contracts minimizes the potential profit margin.

A Sustainable Business Plan

The move will allow Northrop Grumman to concentrate on the more secure parts of the U.S. defense budget. These include manned and unmanned aircraft programs, both of which are critical to the military. In the long run, a renewed focus on the services that are unlikely to be pared in government budget cuts is a more sustainable business plan.

In time the success or failure of this plan will become apparent, but Northrop's July 29 second-quarter earnings report will probably reflect only the short-term results of the shipbuilding consolidation. Analysts expect profit between $2.13 and $2.27 per share, compared to $1.21 a year earlier. Included will be an estimated pre-tax charge of $113 million for the consolidation plan.

While it's a certainty that citizens will have to pay taxes, who will end up getting to spend them is a more complicated question.

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Supervalu Earnings: Grocer's Woes Continue with Profits Down 40%

Nikolay Tsintsadze — Tue, 27 Jul 2010 03:29:00 EST

Filed under: Recession, Earnings, Retail

Grocery shopping is usually an easy process for the customers. They go to the store, buy what they need, pay for it, and leave. This earnings season has proven that from the grocery store's point of view, the business is not as simple.

Supervalu (SVU) reported a net income of 31 cents per share this morning for their first quarter of fiscal 2011, which ended May 10, a 40% decline year-over-year. An after-tax charge of 12 cents per share that brought the figure down, but the quarter was a disappointment regardless. The 14 analysts covering the company expected average earnings of 42 cents per share.

The numbers are in line with the underwhelming report earlier this month from competitor Safeway (SWY), whose report, while compatible with overall analyst estimates, also marked a 40% decline in earnings per share. Safeway's struggles with margins and price cutting proved to be the issue that the entire industry would have to deal with.

New strategy has not paid off yet

Consumers have shown a strong preference for less expensive goods in the past few years, and Supervalu has had to shift its focus accordingly. The franchiser of the Bristol Farms, Cub Foods, Farm Fresh, Lucky, Save-A-Lot, Shop 'N Save names is now concentrating more on discount stores and cutting costs aggressively.

With this initiative, management hopes to give Supervalu an edge in the highly competitive grocery industry. Almost the entire team of executives is new. Most notably, Craig R. Herkert became CEO and president in 2009 after having the same role in the Americas for Wal-Mart (WMT).

However, both the business environment and company's financial position have limited its effectiveness in translating the new plan to a better bottom line. As consumers demand cheaper goods, stores must cut prices and margins. Supervalu took a hit from the small margins especially hard because it is also in a deleveraging stage.

The problem was exacerbated even further by the choice to close a number of its locations because of the renewed focus on discount stores. Net sales have fallen nearly 10%, largely due to the smaller number of sites. Cutting debt from the balance sheet in a situation where revenue has decreased and margins are depressed is a difficult strategy to implement.

Still, these measures are absolutely necessary for the company's longer term prospects. It is better to face the strategic and financial issues sooner, as the management team is doing, rather than pretend they do not exist. While the present is bleak for this franchise, there is a good chance that the effort will create a more profitable future.

Grocers have seen bad times so far, but if their initiatives are successful, these times will be short lived.

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Domino's Earnings Preview: Does the New Pizza Really Tastes Better?

Nikolay Tsintsadze — Mon, 26 Jul 2010 06:00:00 EST

Filed under: Company News, Retail, Investing

Domino's Pizza (DPZ) claimed that its new pizza was tasty enough to spark a turnaround for the franchise. The coming earnings report will show if consumers agree.

In an effort to combat growing criticism of its core product, Domino's gave its pizza a new design. Using what it says are better ingredients and superior recipes, it hoped to heal its reputation for making, well, less-than-tasty fare. The franchise then launched an aggressive advertising campaign to inform the public that it heard the complaints and made improvements.

The plan was risky, as the promotion admitted that the previous pizza was not so great. Nevertheless, the clear improvement in the company's sales in the first quarter of this year suggests that Domino's effort has paid off so far. Same-store sales increased by 14% domestically in the quarter -- a feat largely attributed to the Better Pizza campaign.

A Lingering Aftertaste?

It's also possible that the sales growth was driven primarily by hype. After all, when America's biggest pizza franchise says it's making a huge change, it's not difficult to see how publicity alone would prompt many consumers to try the new pizza. But if they don't see a marked improvement, the campaign-generated sales growth wouldn't be sustainable.

One telling sign will be the earnings release for the second quarter on July 27. Analysts expect Domino's Pizza to report earnings of between 24 cents and 31 cents per share, compared to 21 cents a year ago.

If Domino's reports a number toward the higher end of the range, or beats the estimates outright, it means the company's campaign provided more than just a fleeting boost. The exact details of the report could have hints about the pizza giant's future plans as well.

Expanding the Franchise

In an effort to continue its growth, Domino's has embarked on an international expansion project. Because there are only so many domestic markets, other countries provide the best opportunity for expanding the consumer base. Intense competition within both the fast food and pizza industries means looking to new markets abroad is a necessity.

Still, the strategy isn't without risk. There is no guarantee that the new sites will be successful, even though some analysts believe international locations could outnumber those in the U.S. within a few years. Utilizing the franchise structure and simply licensing new locations might mitigate some risks, but the business could still have issues with international scale. Domino's management will likely offer a glimpse into how these projects have fared thus far when it issues its quarterly report.

Some parts of the actual pizza delivery business could hurt Domino's as well. Prices for some pizza ingredients, such as cheese, have spiked recently. This trend is difficult to gauge, and it could continue indefinitely. Furthermore, a lawsuit is pending against the company, which could end up increasing the amount drivers are paid. Because much of the franchise's business is delivering food, that might increase costs and hurt margins.

Concrete Test

Domino's prospects may be a bit hazy, but at least its innovative advertising campaign put the company in the spotlight again. It launched a new promotion, inviting customers to send their own pictures of the pizza for use in commercials and other ads. The Pizza Photo initiative could provide another sizable boost if the public receives it anywhere as well it did the Better Pizza.

For now, Tuesday's earnings report is the first concrete test for Domino's Pizza. A strong showing would be a convincing sign that the ad-driven sales gains hold weight. If not, then Better Pizza didn't make for a better stock.

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Earnings Preview: Can Coca-Cola Keep Its Soda Popping?

Nikolay Tsintsadze — Tue, 20 Jul 2010 06:24:00 EST

Filed under: Coca-Cola Company, Earnings, Market News, Investing

When Coca-Cola (KO) reports earnings for the second quarter of 2010 on July 21, analysts, on average, expect it to announce that it earned $1.03 per share, up from 92 cents per share a year ago.

Coke is America's largest beverage company and world's leader in marketing, manufacturing and distribution concentrates and syrups for nonalcoholic drinks. Its brands are iconic, with Coca-Cola, Diet Coke, Sprite, Dasani, Powerade and Minute Maid ranking as some of the most recognizable names worldwide.

Still, its management always keeps growth in mind. Recently, Coke paid $715 million to Dr Pepper Snapple Group for the rights to distribute some of its products in the U.S. This move should bring another substantial revenue stream, as the group's drinks are among America's most popular.

Low-Sugar, Noncarbonated Diversification

This is part of Coca-Cola's initiative to diversify its business. As consumers have gravitated more toward less-sugary drinks and a wider selection, the company has almost been forced to reduce its reliance on Coca- Cola. This effort has seen success, with Coke's noncarbonated beverages doing well in recent years.

In addition to expanding its lineup, the company has also worked to spread its reach abroad. Coke distributes to over 200 countries, and is experiencing speedy growth in emerging markets. Almost three-quarters of its revenues come from outside the U.S. China and India have been particularly effective platforms for the business in the last few years.

Coca-Cola is trying to revolutionize beverage industry technology as well. Its new machine, the Freestyle, is a futuristic, touchscreen fountain-drink dispenser. The Freestyle mixes the drink with the appropriate syrups and concentrates after the user picks a drink, so the beverage is concocted on the spot. Dr Pepper Snapple Group was willing to invest 135 million in the machine in exchange for rights to use it.

The Future of Coke

Coca-Cola's eponymous product won't be enough to sustain the company, but the business remains very successful. Despite being a latecomer to the market for nonsoda beverages, this segment has been profitable for Coke.

Coca-Cola will always have heavy exposure to the fluctuating price of critical inputs such as sugar, oranges and cocoa, and these commodities can experience unpredictable price moves. But that's a risk all of Coke's competitors face as well. If a major change does occur, Coke's scale and brand would give it an advantage in weathering the storm.

Arguably the world's most-recognized name, Coca-Cola will continue looking to reinforce its reputation as it expands its global footprint.

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PepsiCo Earnings Preview: On a Quest to Conquer the Snack World

Nikolay Tsintsadze — Mon, 19 Jul 2010 08:00:00 EST

Filed under: Company News, Coca-Cola Company, Pepsico, Earnings

PepsiCo (PEP), the beverage and food giant, will announce its second-quarter numbers on Tuesday, and analysts expect it to report earnings per share of $1.07 to $1.10, up from $1.02 a year earlier.

If the numbers they anticipate are correct, it will mark a continuation of the company's stable period of success. However, that doesn't mean that PepsiCo management is standing pat. Having been effective in the regions where it has previously focused, PepsiCo is looking to expand into new markets.

Critics repeatedly argue that Pepsi's prospects are limited because of its constant competition with Coca-Cola (KO), the clear leader in the soda business. This is a valid point: Coca-Cola has one of the strongest brands on the planet. But Pepsi's strength lies in its diversification.

Not Just Soda

PepsiCo's revenues are buoyed by its snack business, which accounts for 46% of its profits in North America. Its many brands, including Frito Lay, Gatorade, Quaker, Tropicana and Doritos, hold a massive portion of the snack sector in both the U.S. and Western Europe, with a nearly 40% and 23% share of the market in the two areas, respectively.

Despite those large market segments, there's room for PepsiCo to grow in all of its areas of business, particularly by expanding in emerging markets. Pepsi products can be found in almost 200 countries, but the brand isn't strong in every one. As developing countries continue to increase their embrace of Western brands, Pepsi has the opportunity to acquire a great number of willing, untapped customers.

In places where it has a foothold already, PepsiCo has been working to increase its appeal by introducing new products and improving existing lines. It has, for example, been working with Starbucks (SBUX) to create ready-to-drink coffee beverages. By tweaking packaging sizes and designs, it hopes to appeal to more consumers and increase margins at the same time.

Health-Targeted Taxes Would Be Unhealthy for PepsiCo

While its brands are strong, some uncertainty surrounds Pepsi's future. In the U.S., a federal initiative to reduce the nation's high levels of childhood obesity could hurt Pepsi's profits. In particular, proposals to tax certain unhealthy foods, sugary sodas in particular, could strike directly at the bottom line. While no such legislation has gotten off the ground in Congress, and local proposals have mostly failed to make much headway, it's possible that a soda tax could find support.

Furthermore, commodity prices could swing in ways detrimental to Pepsi. It uses vast amounts of corn and sugar to make its products, and spikes in their prices would be felt immediately. In addition, Pepsi's recently acquired bottlers would see their profits shrink if energy prices were to increase sharply.

Still, those risks are not enough derail analysts' expectations for PepsiCo. As the strongest player in the snack industry and combining with Coca Cola to capture 70% of the American beverage market, it is in a position of power. PepsiCo should encounter few problems in its quest to become even more of a worldwide staple.

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Harley-Davidson Earnings Preview: Estimates Are All Over the Map

Nikolay Tsintsadze — Mon, 19 Jul 2010 08:00:00 EST

Filed under: Company News, Earnings, Investing

Harley-Davidson (HOG) investors better strap on their helmets. The iconic U.S. motorcycle manufacturer reports its second-quarter earnings on July 20, and analysts are colliding in their estimates, where profits forecasts range from 26 cents per share to 56 cents.

However, if the actual figure is anywhere within that range, it will be a marked improvement over last year's earnings of 8 cents per share in the same quarter. This near-definite increase doesn't mean that everything is sunny for Harley-Davidson.

Success for Harley still hinges on expanding its consumer base. While brand loyalty is remarkably strong among its current customers, this group is growing older. Repeat buyers, largely baby boomers, account for half of sales. Harley-Davidson must find a way to further diversify its buyers and appeal to new motorcyclists, while not losing the support of existing fans.

International growth is one way Harley is trying to do this. That's a sensible strategy, but it's far from a sure thing, given protectionist attitudes and cultural differences in many countries. And Harley's brand appeal isn't nearly as strong overseas as it is in the U.S.

At a Crossroads

If consumer spending doesn't pick up speed again, Harley may be producing meager returns for an extended period. The motorcycle business is very cyclical, and the most recent economic downturn resulted in a sharp decrease in sales and a rapid increase in debt.

As a response, Harley is aggressively cutting operating costs. This has helped improve margins, but it's hardly a long-term strategy. The firm also cut its dividend by over two-thirds in early 2009 to maintain a supply of cash. While this has provided some degree of stability for the business, investors looking for dividend growth won't be attracted.

Despite the risks, Harley-Davidson is in a position to capture market share throughout the world. Some analysts are optimistic that its efforts to open new dealerships and increase its reach with younger consumers will pay off. If so, Harley-Davidson could become a fast ride again.

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The Recession-Proof Fireworks Industry: More Bang, More Bucks

Nikolay Tsintsadze — Sat, 03 Jul 2010 13:30:00 EST

Filed under: Company News, Technology

As on every Fourth of July, fireworks will be the main attraction all across the country this Sunday (sorry, Toy Story 3). Millions of Americans will watch stunning displays. Very few in attendance, however, will recognize the full impact of what they are seeing: fireworks are a booming business and several factors indicate that they will be for many years to come.

Between 1998 and 2009 annual fireworks industry revenues more than doubled, according to the American Pyrotechnics Association. Last year's total take was $945 million, up from $940 million in 2008. Even a devastated economy could not slow growth.

Regulation Does Not Hurt Revenues

The firecrackers and sparklers that consumers typically buy are regulated by every level of government. While the Feds are entitled to basic controls on the industry, states and townships can impose further restrictions. While most states have few or no additional bans, a handful have very strict policies. Municipalities are able to enforce even tougher laws on top of state rules. However, during difficult financial times, both townships and states allow the expanded use and sale of fireworks because of the tax revenues.

Julie Heckman of the APA says that with a dire need for revenue in many communities, more areas have been loosening firework laws. Improved safety has certainly helped the industry's rise, as well. The APA estimates that injuries per 100,000 pounds of fireworks fell more than tenfold from 1976 to 2008, while consumption is up to 213 million pounds from 29 million pounds over the same period.

Can Growth Continue?

If anything, even greater industry expansion is likely, as more states see the tax benefits to relaxing regulations. Rhode Island, which recently began allowing handheld, ground-based fireworks, will bring in over $1 million in tax proceeds, according to Heckman. And Indiana imposes a "safety tax" that is used to fund its fire-fighting services. Even when the economy rebounds completely, such laws are unlikely to be changed back or made more restrictive.

All of which is good news for an industry that continues to innovate. With improving technology, such as the ability to lodge microchips on the actual shells, and advancements in chemistry, the brilliance of fireworks shows has improved apace.

Heckman notes that now more shapes and colors are possible than ever before. This weekend she will be attending a show in which a ribbon design, like the one used by breast cancer foundations, will be displayed by fireworks. Heckman believes that even more complicated figures will be possible in the future, and that letters and logos are not far off.

Sponsorship Potential

That's sure to attract corporate attention -- what better way, after all, to advertise a company than by blasting its name or logo some 2,400 feet into the air for thousands of people to see? Businesses are already recognizing the marketing potential in fireworks, primarily by sponsoring shows in towns that would otherwise cancel them. For example, in Dallas, the Dr. Pepper Snapple Group recently stepped in to subsidize the Independence Day fireworks when the city could not afford them.

The fireworks industry is positioned for explosive growth on both the consumer and commercial levels. While the shows this weekend will often be spectacular, it's easy to believe that next year they will only be better.

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Russell Rebalancing Guarantees a Volatile Friday in the Markets

Nikolay Tsintsadze — Fri, 25 Jun 2010 15:45:00 EST

Filed under: Investing Basics, Index Funds, Investing

"Beating the index" is a common goal of individual investors and fund managers alike -- but that begs the question: Which index are they all trying to beat? The answer to that question is the reason why June 25 will be an extremely volatile trading day.

On Friday, after the market closes, the Russell Investment Group will announce how it will rebalance its indexes in the annual event known as the Russell Reconstitution. All of its indexes will see changes in the baskets of stocks they include.

While this may not sound like a significant event, historically, the response of the markets to it has proven otherwise. According to calculations by Anne Price of NYSE Euronext, the volume of trades spikes considerably on the day of the Russell Rebalance. Compared to an average daily volume of 1.4 billion shares traded on the New York Stock Exchange, reconstitution day in 2009 saw a staggering 2.35 billion shares traded.

Why Is This Day So Important?

Because so many funds either tie themselves to or measure their performance against the broad Russell indexes, knowing what stocks will be in those indexes make a huge difference. Many funds designed to track a specific index are obligated to hold only stocks in that index -- for example, a fund that is designed to mimic the Russell 1000 might be restricted to holding only Russell 1000 stocks. Thus, when stocks are dropped from or added to an index, fund managers have to respond accordingly.

Benchmarked funds, whose gains and losses are judged against a certain index, commonly hold many of the stocks that are included in their benchmarked index. What better way to insure a performance close to that of the Russell 2000, for example, than to include a lot of Russell 2000 stocks? Again, the result of this game of follow the leader is that when a commonly-used index changes its makeup, fund managers must respond.

In the case of the Russell Indexes, the effects are amplified because they are especially popular benchmarks. Russell Investments estimates that $3.9 trillion of institutional investor money is benchmarked to an index, and that Russell's own indexes are the most widely used benchmarks.

The Effect on Investors

This heavy trading that institutions will have to engage in creates an interesting scenario for investors. When a company's stock is added to an index, demand can see a sizable jump as managers move to add it to their portfolio. Naturally, all that action can rapidly increase a stock's price, and investors who can anticipate such jolts can achieve a substantial return.

However, such anticipation has been going on for months by an enormous number of speculators. It would be exceptionally difficult to find a company that was set to be added that other investors had overlooked. Only in this scenario would someone be able to profit significantly from the Russell Reconstitution, and only through blind luck would it be possible.

Hunting for a Rare Opportunity

Nonetheless, even though the possibility for profit is minuscule, speculators continue to look for opportunities. This will only add to the volatility that is to be expected on Russell Rebalance day, even though the official rebalance will not happen until after the market closes.

Institutional investors, speculators, and traders of every kind will be particularly active, and the day may prove to be a dangerous one. Anticipating the index is just as risky as trying to beat it, and even investors who aren't trying to do so should be extra wary on this particular day.

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As Sonic Earnings Stumble, Drive-In Chain Turns to New Marketing Chief

Nikolay Tsintsadze — Thu, 24 Jun 2010 14:45:00 EST

Filed under: Earnings

Sonic (SONC) is one of America's few remaining chains of drive-in restaurants, where customers park in a booth, order through a speaker system, and then dine in the car after a carhop delivers the meal. As popular as this system has been in the past, Sonic is struggling to bring recession-weary customers back to its booths.

During its earnings call after the market closed on June 21, the company reported an underwhelming earnings figure of 18 cents a share for the third quarter. Wall Street analysts had estimated earnings between 19 and 21 cents a share. Worse, the profit figure included a one-time gain of three cents a share from a tax benefit.

Excluding the gain and other special items, Sonic's net income dropped 37.5% from a year earlier. Management cited the combination of debt reduction and disappointing same-store sales as the reason for the decline. (The transcript of the earnings call has more details.)

What Do These Numbers Mean for Investors?

Lynne Collier, the managing director of Restaurant Research at Sterne Agee, sees this regression as a "serious setback." She notes that investors were looking for this quarter to mark the turnaround for Sonic and a return to financial growth. The company was to use this period as a springboard for the next quarter, which is typically its strongest one. Now there is doubt as to whether sales can recover and Sonic can end its fiscal year on a good note.

Compounding the problem is Sonic's financial leverage. In an attempt to strengthen its balance sheet, the company has been paying off some of its debt. Usually, reducing liabilities is beneficial to a company, but it can be painful in the short run since cash used to pay off debt isn't available for other purposes such as expansion, or marketing.

Weakness in Sonic's current fourth quarter, which runs from June 1 to Aug. 31, implies that the coming colder months will see an even worse dip in activity at the start of the next fiscal year.

Sonic's Business

While the booth and drive-through system is part of the company's image, it makes for volatile sales. The setup depresses sales during the winter, as people are less likely to want to sit in their cars and eat in bad weather, especially as gasoline to run their heaters gets more expensive.

This isn't the only issue that Sonic must address. One of its historical selling points, original drinks, is being tested. Calling itself the "Ultimate Drink Stop," Sonic has prided itself in having an unrivaled selection of exclusive drinks. Now, other players in the restaurant field are challenging this claim by rapidly expanding their drink offerings to compete with Sonic.

Most of the challenges that lie ahead of Sonic are endemic to the restaurant business. Competition is cutthroat, and with so many individual businesses fighting over customers, differentiation is difficult -- hence the need for a marketing recharge.

Analysts had complained that the company's marketing strategy was getting somewhat old. Sonic apparently agreed, announcing that Danielle Vona, a former PepsiCo (PEP) vice president, is the new chief marketing officer. She brings to the job a good record at PepsiCo for introducing and promoting new products, including the Propel and Sierra Mist brands plus juice and dairy products, during her 11 years with the company.

Future Prospects

If Vona is effective, sales volume should be able to recover from recent troubles. The booth and drive-through business model, in spite of its flaws, is what separates Sonic from every other fast-food restaurant. Retaining that separation and improving the brand's attractiveness can keep existing customers while bringing in new ones.

Sonic has proven its ability to open new locations successfully, and there are countless possibilities for new franchises. In New Jersey, for instance, lines for newly opened Sonic restaurants can stretch for blocks and last past midnight.

The possibility of expansion of both franchises and profitability make Sonic an interesting company to investors, if only a fresh marketing campaign can bring in the customers.

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Elliott Wave Prediction: Is the Dow Heading for Another Plunge?

Nikolay Tsintsadze — Sun, 20 Jun 2010 09:00:00 EST

Filed under: Recession, Economy, Investing

Think the market's bad enough now? If you believe the Elliott Wave Principle, a market-analysis theory that predicted the 2008 fall, you can expect it to get much worse.

Stock analyst Robert Prechter, who uses the principle in his financial forecasts at Elliott Wave International, predicts the market will suffer a cataclysmic collapse in the next six years. The firm's monthly Elliott Wave Theorist newsletter forecasts that the Dow Jones Industrial Average ($DJI) will lose more than 90% of its value in that time, MarketWatch reported last week.

For some investors, such pessimism is doubtless difficult to understand. Despite fears of a double-dip recession and frequently disappointing macroeconomic data, an actual decimation of the market seems unfathomable. Even during the Great Recession, the Dow didn't fall below 6,000. Imagine what a full 5,000 points below that would be like.

Explaining the Elliott Wave

Essentially, the Elliott Wave Principle uses a form of crowd psychology to understand and predict investor behavior. Because stock prices are driven by human decisions, the principle uses patterns in human behavior to analyze financial markets.

While the theory is complex, the basic idea is that financial markets cycle through alternating waves of optimism and pessimism, with the length and intensity of the waves depending on their stage in the cycle. The cycles themselves last for different amounts of time, ranging from minutes to centuries, and display unique features.

According to the Elliott Wave Theorist, the market is currently in the longest type of cycle, called a "supercycle," which takes decades -- or even centuries -- to manifest. Typically, when such an oscillation reaches a top or bottom, it's either extraordinarily profitable or tremendously destructive. Elliott Wave expects the latter to occur by 2016.

Can Elliott Wave Forecast the Future?

But the theory hasn't yet proven it can flawlessly predict the market. While Elliott Wave has accurately anticipated some of the major swings that stocks have experienced, it hasn't been perfect. For every move that it called correctly, like the 2008 dip, it has made an error, like its failure to foresee the rally in the last year or so.

In the end, Elliot Wave is only one form of technical analysis, the merits of which are hotly debated. Technical analysis uses statistics, rather than market news or companies' intrinsic value, to predict market activity.

Different analysts have many different ways of assessing the market, and asking them how the market will behave will yield an incredible range of answers, both positive and negative.

So while there is always a possibility that the financial markets collapse, it's far from a certainty. Only in 2016 will the world find out whether the famous theory is right.

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Laws and Lasers: Dangers of Cheap, Powerful Devices Outracing Regulation

Nikolay Tsintsadze — Thu, 17 Jun 2010 16:00:00 EST

Filed under: Energy, Technology

Not that long ago, nobody would mistake the weak lasers a person could buy at retail outlets for the stuff of science fiction. Today, that's changing. The Spyder III Pro Arctic looks more like a lightsaber than an ordinary laser pointer. The concern is that it acts more like a lightsaber, too.

The device, developed by Wicked Lasers, is the most powerful hand-held laser readily available to the public. According to the Wicked Laser website, the Arctic is dangerously strong, with the capability to burn skin, cause permanent eye damage, and set fire to anything flammable.

In some ways, it's even more of a menace than a lightsaber. While the fictional Jedi blades have a length of just a few feet, the Arctic has a range of up to 45 miles. All for less than $200.

No Doubt That Risk Exists

Not surprisingly, there has been a considerable uproar about the Arctic. Many are upset that such a laser can be purchased over the Internet for less than a Kindle. They argue that such products are no less hazardous than firearms, and unlike guns, there are no mandatory background checks for buyers of lasers.

A laser as potent as the Spyder III can cause serious injury. Beyond the obvious risk of skin burns, even reflected beams can cause irreversible eye damage. If someone were to thoughtlessly aim the Arctic at a plane, they could harm a pilot's eyesight, or worse. Such terrible and illegal incidents have happened, and could be repeated.

Technology Outruns Regulation

The hazards of misusing these lasers highlight an issue that crosses a range of industries: Technology frequently evolves faster than regulation. Currently, lasers are legally classified by their energy output, with the most powerful ones -- Class IV, which includes the Arctic -- being the most strictly controlled. However, even vendors of Class IV lasers have no legal obligation to inform their buyers of the risks involved in using the devices, verify a purchaser's age, or limit the power of their lasers.

These outdated rules are so lax because publicly available lasers were largely weak and inefficient when the regs were written. Now, as it becomes economically feasible to produce more powerful lasers for the general public, regulations must be strengthened. The specific laser at the heart of the Arctic has undergone a remarkable 50-fold increase in power in the last four years, while decreasing to a tenth of its former price.

What's next for lasers?

I spoke at length with Steve Liu, the CEO of Wicked Lasers, about both his product and the industry. He cites the efficiency of lasers as the reason for their astounding progress and potential. While light bulbs and LED lights operate at approximately 5% and 15% efficiency, respectively, laser diodes can approach 80% efficiency. This is an enormous advantage, and the possibilities inherent in the expanded use of lasers have sparked the interest of military, medicinal, and industrial scientists alike.

But Liu also noted that without regulatory reform, the divergence between existing laws and the technology realities will only widen. His company actually supports added supervision of consumer laser products, and imposes conditions for Arctic purchases more stringent than current Class IV requirements. For the industry as a whole, he suggested that stronger lasers receive a new set of classifications with stricter laws.

While these measures may be considered in the future, a risky situation exists now. Theoretically, a teenager could legally purchase a powerful laser and misuse it with disastrous results. Outrage would certainly follow, and potentially, an excessive regulatory backlash that could stunt the industry's growth. And while large corporations and public entities might not suffer as deeply, much of the innovation in the field comes from some of its smaller players.

Such a delay the industry's development would be a shame. Economical lasers used responsibly could actually benefit many people. NASA would surely appreciate the energy savings that lasers could offer. Among the possibilities: Cultivating plants in space using laser "grow lamps," which are 25% to 50% more efficient than current LED lamps. Consumers would love cell phones that project laser videos, which could be standard within a few short years.

However, reform must come first. None of these things will be possible if the public only sees lasers as unregulated weapons.

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Nebraska's Move to the Big Ten Means Big Money

Nikolay Tsintsadze — Mon, 14 Jun 2010 14:00:00 EST

Filed under: Media

The University of Nebraska-Lincoln has officially joined the Big Ten, the oldest NCAA Division I conference, in existence since 1896. The football powerhouse had been part of the Big 12 Conference since its inception in 1994. However, rumors of the Big 12 splitting up have been circulating in the last few years, with Nebraska the first team to actually leave.

At the academic level, the relationship should be mutually beneficial for both the conference and the school (check out Huskers.com for a rundown). Nebraska's presence in the conference will streamline collaborations between Big Ten universities; Nebraska's expected membership in the Committee on Institutional Cooperation would be a major factor in accomplishing that goal. The schools in this committee pool all of their resources -- human, monetary and technological -- to advance research projects and increase academic potential.

In addition, Nebraska and all the other Big Ten institutions may find it easier to recruit both students and faculty. This is a function of a more tightly-knit network that results from being a part of the same conference. The addition will also have a positive effect on federal and private funding for all involved parties.

The Big Money

Whatever the academic benefits, the most important part of this deal relates to college sports and the money it generates. In 2006, the Big Ten signed a 10-year contract with ABC/ESPN valued at $1 billion. That money goes a long in explaining Nebraska's interest in joining the Big Ten.

Such deals have made some NCAA conferences quite attractive. The Big Ten Schools received $22 million each during the last reported year in revenue sharing from the conference. As Nebraska becomes a part of this organization, it will enjoy these economic benefits. The Big Ten, famous for its strong football culture, is a much better place financially for the football-savvy Nebraska. As the conference expands, so does the possibility of a Big Ten title game. Conference championship games are known to be especially profitable.

Great sums of money are at stake. Some estimates suggest that Big Ten revenue from television could potentially double by 2016. This would imply that each school could receive upwards of $40 million per year for their membership in the conference. And as the money in college sports grows, the motivation to jump conferences in search of a better payday will grow too.

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