Daily Dose of Optimism

Pre-Paid Legal (PPD) - Marketing the Business

I've been following Pre-Paid Legal (PPD) for a while now. The company sells "legal insurance policies" - basically, you pay a monthly fee, and if you need legal services at some point, you can call on a local lawyer affiliated with the company to help you with it. Like insurance, the company makes money if you don't use it.

Most of the commentary I read is negative, with the primary criticism being that the company is a
multi-level marketing scam - where the people selling the product are people who've already purchased it. Apparently, most of the new memberships come from such associates.

However, I read an article in Barron's about a month ago that said the company's services are actually quite handy - this particular investor had actually sampled the service in Connecticut - and was able to use a Pre-Paid Legal lawyer for two separate items, saving a decent amount of money. He conceded that the primary issue with the company was how they marketed their services; that the associate marketing steered the product disproportionately to a market that did not appreciate the benefits.

I'd say that last point is correct. About a few weeks back, someone at the office (I have no idea who) dropped this flyer on the desks of everyone around me.

Download PPD-101-Reasons.pdf

That's Pre-Paid Legal marketing in action. If there is merit to this product, the company would probably be much better off selling their product through insurance agents who are already having conversations with customers about protection. As a result, I'm keeping this one on my short watchlist. - Ed 

What Big Companies *Really* Want from New Hires

I would imagine that this rings true for anyone who has worked at a large company and spent any time reading their recruiting literature:

Courtesy of Creating Passionate Users.

Ed's Choice Quotes for Sunday 7/16/06

This quote is as applicable to investing as it is to business:

• "The secret of business is to know something that nobody else knows." - Aristotle Onassis

Frustrated by politics in the workplace...or Washington? Just remember:

• "It's cronyism when it's not your friends." - Ed

A good one from Jim Rogers:

• "Certainty doesn't exist in the smart investor's world."

And, as a guiding principal for foriegn policy:

• "Excessive partiality for one foreign nation, and excessive dislike of another, cause those whom they actuate to see danger only on one side, and serve to veil and even second the arts of influence on the other. Real patriots, who may resist the intrigues of the [favored nation], are liable to become suspected and odious; while its tools and dupes usurp the applause and confidence of the people, to surrender their interests. The great rule of conduct for us, in regard to foreign nations, is, in extending our commercial relations, to have with them as little political connection as possible." - George Washington

The Joys of Corporate Powerpoint, Continued

I made reference to Edward Tufte's book, the Cognitive Style of Powerpoint, in my earlier post, the US Government, Powerpoint, and other disasters.

I realize that the point of that title is somewhat lost if you have not read much about what Powerpoint does to organized, logical thought. Here's a quick article from Wired magazine (2003):

When information is stacked in time, it is difficult to understand context and evaluate relationships. Visual reasoning usually works more effectively when relevant information is shown side by side. Often, the more intense the detail, the greater the clarity and understanding. [...]

Presentations largely stand or fall on the quality, relevance, and integrity of the content. If your numbers are boring, then you've got the wrong numbers. If your words or images are not on point, making them dance in color won't make them relevant. Audience boredom is usually a content failure, not a decoration failure.

At a minimum, a presentation format should do no harm. Yet the PowerPoint style routinely disrupts, dominates, and trivializes content. Thus PowerPoint presentations too often resemble a school play -very loud, very slow, and very simple.

As someone who has spent a lot of time working with powerpoint, as well as having to read presentations created by others, I am quite familiar with the value of the "presentation" to salespeople and mangers, as well as its deficiencies for real communication and teaching.

Corporate managers will generally confess, away from the office, that they like powerpoint (as opposed to a written white paper) precisely for the opportunity to be vague, avoid specific commitments, or to keep some cards up their sleeve.

Just bear that insight in mind the next time someone hands you a "deck," "presentation," etc. - Ed

• For a longer New Yorker article from 2001 on Powerpoint, see here.
• I highly recommend Tufte's powerpoint pamphlet, which can be purchased here.
• For a related short but excellent read by Tufte, see this here.

Advice on Preparing for NASD Licensing Exams

After some recent experiences studying for multiple NASD/NFA licensing exams (the infamous "Series x" exams) I thought I would offer a few tips to others who may be facing this process, and who aren't being shepherded through the process by a firm-sponsored training program. For such self-learners, here are some tips:

Always use the STC online or CD-ROM final exams.  You will save much time in grading and reviewing your own exams, I can't believe I actually took one of these exams with the paper finals. Electronic finals also offer a few other advantages:

• The actual exams are on computers, so you will be more comfortable with the clunky Prometric (or other) facilities if you've done some computer-based testing already.
• Some of the STC electronic exams offer diagnostics. This will tell you which chapter you missed the most questions from, so that you can read just those chapters for review. This is potentially a massive time saver.

Math is your friend. The more math questions on the test, the easier the test. When a test primarily covers rules & regulations, there are a ton of potential conditions that you can be asked. When the test is math, they expect you to know 2-3 formulas that you will apply 50 times. That allows you to pass with a minimal amount of memorizing.

The STC practice exams are generally always harder than the actual exams. A friend of mine explained this as follows: STC wants you to have a positive test experience, so they will make sure that you are overprepared for the actual exam by the time you take the fourth practice exam. I have found this to be true in practice.

Do I have to read every chapter? Well...it depends. If you know nothing about the industry or material in question, you'll be well served by reading every chapter, but if you generally know the details, you can get away with taking practice exams, and then following up on chapters you are less familiar with. Of course, if you are an anxious test-taker, you will always feel better having read everything, but frequently, several whole chapters will have almost no material on the exam.

Happy studying! - Ed

Following up on a Rumor: Google Finance

I was inspired over the weekend to take a closer look at the free finance web portal space, and in doing some research, I came across this August 2005 rumor (posted on Silicon Beat) that Google was going to launch a finance site by September 2005.

I've made my opinions known about what I think of Google's capacity for development outside of their core search functional area, so I'm not super-optimistic that Google Finance will be a "Yahoo Killer," or even a serious competitor (although I remain open to surprises).

Nonetheless, I'm quite interested in what y'all have heard about whether Google actually has something serious in the works to roll out in, say, 2006. Or, for that matter, whether there are other legitimate contenders for the "major free finance portal throne" that I should pay attention to. - Ed

Link: SiliconBeat: Next up: Google Finance

Now that we have Google Talk, the whispering here in Silicon Valley is that Google hopes to launch Google Finance sometime in September. We haven't confirmed this, but the word is that Google wants to replicate Yahoo Finance, but do it even better. It is in talks with data vendor Revere Data, a San Francisco company -- which will provide the data and analytics on U.S. public companies for the service. Revere did not respond to multiple requests for comment yesterday. Google didn't comment either.

Patrick Byrne Emails BusinessWeek, Michael Steinhardt

Patrick Byrne gets into it with a BusinessWeek reporter via email, hosted on the website of "Bob O'Brien". Link

I don't follow OSTK closely, although as a regular reader of Jeff Matthews, I am kept abreast of the general details. Generally, it is acknowledged that when management fights short-sellers, something isn't right. Still, it's also unusual that multiple media sources are so far ahead of a relatively small story like this one. Perhaps the added attention afforded this episode by blogs is evidence of how web micro-communications are amplifying stories in the mainstream...

Two things to share.

First: Byrne's convoluted take on how he doesn't think about meeting Street estimates:

Regrettably, much of the rest of your question concern either quarterly "misses," which is odd, because my announced goals are always annual, or make the mistake of discussing "misses" in the context of numbers from Wall Street analysts which I have not only specifically disclaimed, I rarely if ever even read. (Look at it this way: suppose Joe announces, "Tim will score 20 points in a game of basketball this afternoon," and you disclaim that, but go out and score 18 points, or even choose to play hockey this afternoon, have you "missed" your numbers? Why are they even "your" numbers? Aren't they "Joe's" numbers? In short, are "your" numbers the numbers that you announce as your own, or are they what get assigned to you by people who don't have any idea what you plan on doing this afternoon?)

Second: Among many other things, Byrne noted that Michael Steinhardt was the son of a jewelry fence for the mob. Why this is really relevant to OSTK I am too lazy to figure out, but it was interesting to me. The excerpt below is from a 2001 Forbes article, which provides details from Michael Steinhardt's autobiography, No Bull, a book that I plan to read someday.

Perhaps, instead of being the CEO of a marginal online retailer, Byrne should become a stock market historian? - Ed

Forbes (2001): For 40 years, demi-billionaire hedge fund operator Michael Steinhardt hid from the world the truth about his father, Sol Frank "Red" Steinhardt. Now, 60 years old and in retirement, Michael Steinhardt has decided to come clean in his newly published autobiography, No Bull: My Life In and Out of Markets.

Sol was a compulsive high-stakes gambler and colorful New York nightclub patron. He was also New York's leading jewel fence, a convicted felon and pal to underworld figures such as Meyer Lansky and "Three Finger" Jimmy Aiello. The night before crime figure Joey Anastasia was rubbed out in the Park Sheraton barbershop in 1957, he and Sol were out on the town gambling together

NY Post: Chris Byron on Google Stock Option Accounting

Christopher Byron had an interesting article in today's New York Post on how expensing of stock option grants could impact the company's reported net income.

Effectively, he says Google's net income gets a 10% boost from not expensing stock option grants to employees, which will change this year.

It's interesting how the NY Post business section, which can run as few as three articles on a given day, always manages to produce at least one gem.

It's hard to imagine an article like the one below running anywhere in the WSJ. - Ed

Link: New York Post Online

But there's one thing you're not likely to read about in any bullish report on the stock: Though Google's net income is growing faster than its top-line revenues (a fact that is almost always pointed out by bullish analysts), roughly 10 percent of that net income (and maybe quite a bit more than that) appears to be coming from paying the company's employees in stock instead of cash.

What's more, those payments have been taking place under accounting rules that sharply reduce the portion of the awards that have to be treated as expense items on the company's income statement, thereby reducing costs while boosting net income.

There is language in Google's most recent quarterly financial report warning that these rules are about to change, and that beginning this month, the company's net income will show a resulting downward adjustment. The adjustment appears to work out to at least a $100 million haircut for 2005 earnings, or about 40 cents per share.

I pulled up the 3Q 10Q, which had this sentence: "If we had adopted the provisions of SFAS 123 at the beginning of 2004, net income would have been reduced by approximately ... $74.3 million in the nine months ended September 30, 2005."

Full excerpt from the 9/30/05 GOOG 10Q:

Effect of Recent Accounting Pronouncements

In December 2004, the Financial Accounting Standards Board issued SFAS No. 123 (revised 2004) (“SFAS 123R”), Share-Based Payment, that addresses the accounting for share-based payment transactions in which an enterprise receives employee services in exchange for equity instruments of the enterprise or liabilities that are based on the fair value of the enterprise’s equity instruments or that may be settled by the issuance of such equity instruments.

BankStocks.com on REIT Valuation

Interesting BankStocks.com piece from September 2005 on how to value mortgage REITs. Key idea:

[A mortgage REIT's] dividend yields should equal the companies' cost of equity capital, because the equity cannot meaningfully compound in a REIT structure, as essentially all earnings are paid out.

I get this idea; informed reader comments that might refute this are welcome. - Ed

BankStocks.com: Listening to company after company at FBR's Non-Prime Mortgage Investor Tour last week, I came to a realization: a mortgage REIT that generates the majority of its income from its REIT subsidiary (as opposed to its taxable related-sub) should trade at book value (or, at most, a slight premium to book).

Period.

People who thought that all those non-prime mortgage REITs created last year would trade at 5%-10% dividend yields (and a lot of people thought that) were living in a fantasy world. Rather, these companies' dividend yields should equal the companies' cost of equity capital, because the equity cannot meaningfully compound in a REIT structure, as essentially all earnings are paid out. (Recall that to keep its tax advantage, a REIT must pay out 90% of income in dividends).

So the REIT simply takes my dollar of investment, leverages it, and pays me out the leveraged return. The increase in book value as a result of this activity is de minimis. The only way the book value of my equity would meaningfully grow is via the greater fool theory, where non-rational investors bid the stocks up above book value per share and the company issues common, thus generating accretion to book value per share.

While I may be alone in viewing these companies this way, the logic is sound and I would rather not be the fool that creates book value accretion for the current holders.  Link

How Insurance Works - Part II

For the instances where an insurance company has to pay out claims, here's some advice on adequate reserving from the 2001 Berkshire Hathaway Chairman's Letter:

Even when [insurance] companies have the best of intentions, it’s not easy to reserve [for future claims] properly.

I’ve told the story in the past about the fellow traveling abroad whose sister called to tell him that their dad had died. The brother replied that it was impossible for him to get home for the funeral; he volunteered, however, to shoulder its cost.

Upon returning, the brother received a bill from the mortuary for $4,500, which he promptly paid. A month later, and a month after that also, he paid $10 pursuant to an add-on invoice.

When a third $10 invoice came, he called his sister for an explanation. “Oh,” she replied, “I forgot to tell you. We buried dad in a rented suit."