PUTIN’S RUSSIA REFORM WITH AN IRON FIST (P. 54)
JUNE 7, 2004
AOL PROBE SUPERCOMPUTERS WHY THE SEC CASE WILL AMERICA WON’T GO AWAY (P. 36) CATCH JAPAN? (P. 132)
/ www.businessweek.com
The 100 Best Small Companies
HOT GROWTH COMPANIES Page 86
K-Swiss, No. 15, marketed its timeless sneaker into a retro hit. Sales doubled in two years
June 7, 2004
86
Special Report
Shuffle Master’s winning hand— and other Hot Growth success stories
Over the past few years, smaller companies have played an ever-larger role in bolstering and stabilizing a shaky U.S. economy. They’re nimble, exploiting market openings and often sparking innovations that ripple through Corporate America 88 Happy Returns for the Class of ’02 Many Hot Growth alumni are thriving
92 K-Swiss: Sleek Sneaks Kids have embraced the shoes’ retro look
94 Cognizant: Welcome to America An Indian outsourcer’s stateside triumph
96 Aeropostale: Mall Rat Heaven Why young teen girls flock to the retailer
101 Engineered Support: Fighting Spirit Superportable gear for the armed forces
102 Bio-Reference: Lab Fab Its lab reports boast the personal touch
104 Hot Growth Company Tables
News: Analysis & Commentary
36
36 Showdown at Time Warner An sec probe of aol’s ad accounting could help angry investors sue
40 Bush: Operation Comeback
NUMBERS GAME
Time Warner’s accounting woes
Can he overcome a barrage of bad news?
42 The Bright Side of $40 a Barrel At least it gets oil companies prospecting
6 | BusinessWeek | June 7, 2004
132
44 Schwab Plays Defense
BUILT FOR SPEED
This is a battle with few precedents
Supercomputers: The U.S. vs. Japan
48 A Preemptive Strike Against Cancer Drugs like aspirin could help a lot
Will cutting commissions be enough?
46 Commentary: Spitzer vs. Grasso
50 In Business This Week
cover photograph by jorgbadura@stocklandmartel.com, styled by naila n'zinga; (this page, bottom left) dennis brack/aurora
86 The Hot Growth 100
LUCK BE A LADY
54
International Business 54 Russia: Putin’s Game
RUSSIAN ENIGMA
Westerners think he’s turning back the clock. The reality is more complicated
Will Vladimir Putin the KGB autocrat or Vladimir Putin the economic reformer carry the day?
60 India: The Economy How will it pay for social programs?
64 Carmakers: Toyota Finally, it has traction in Europe
69 International Outlook France’s crackdown on Islamic radicals
Economic Analysis 30 Economic Viewpoint Tyson: Why the trade deficit is deceptive
32 Economic Trends ceo perks; multinationals hire at home; measuring consumer confidence
33 Business Outlook U.S.: War jitters won’t kill the recovery South Korea: An economy out of whack
Finance 118 Housing: What’s Spooking Lenders What are higher rates likely to bring? It won’t be a pretty sight
120 Commentary: Homebuilding Lenders and builders are bullish. Why?
122 Gold in the Hollywood Hills? Private-equity firms are rushing in
126 Commentary: Wells Fargo
144 ‘Tommy John’ in High School More teen athletes opt for the surgery
146 A Steady Flow from the Oil Patch? Master Limited Partnerships’ big payoff
148 Tote That Laptop—with Style pc bags now come in wild hues
150 Footnotes The deadline on ira rollovers; dainty desserts; bug-resistant apparel
152 The Barker Portfolio
Government
How to make its Strong purchase work
53 Washington Outlook
Information Technology
154 Marcial: Inside Wall Street
24 Wildstrom: Technology & You
18 Chet Carlson:
Election-year games with tax cuts
Working Life 70 The Rise of the Mompreneurs
Polishing Macintosh for the workplace
Corporate dropouts are thriving on eBay
128 The Wonderful World of Wiki
The Corporation
130 Commentary: Apple Computer
72 Chrysler Puts Muscle on the Street
They’re Web sites anyone can edit—and they could transform Corporate America Rock on, iPod: What Jobs must do now
Its new 300 sedan is a suburban star
Sports Biz 111 Women’s Tennis: Back on Serve A new ceo turns the tour around
Science & Technology 132 Gunning for Speed Can the U.S. recapture the lead from Japan in the supercomputer race?
People
Personal Business
112 Making Hospitals Cry Uncle
138 Does Your 401(k) Cost Too Much?
How insurer Rooney turns up the heat
You’ve got a lot of money on the line. Don’t take high fees lying down
Management
142 Young Athletes, Big-League Pain
114 Commentary: CalPERS
Tougher regimens mean more injuries
Sniffing out the next big dividend payers
The Great Innovators Dogged Image Maker It took the inventor 21 years before his photocopying machine was a commercial hit
Features
13 UpFront 20 Readers Report 23 Corrections & Clarifications 26 Books: Micklethwait and Wooldridge: The Right Nation: Conservative Power in America Farrell: Deflation
28 BusinessWeek Best-Seller List 156 Figures of the Week 158 Index to Companies 160 Editorials
Its good-governance efforts: Too fierce?
116 Commentary: B-Schools Columbia Dean Feldberg gets an A-plus
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Government Waste: The Shameful Seven In Congress, fiscal irresponsibility is a bipartisan effort. From Big Bird to Ahmed Chalabi, here are some of this year’s most outrageous examples of Uncle Sam misspending your tax dollars
How to Avoid the “Phish” Hook
The Need to Fight Smarter, Not Harder Iraqis say a U.S. attack struck a wedding party. The U.S. says it hit a safe house for fighters. The truth may not matter. When it’s tough to tell friend from foe, aggressive tactics can win battles, but lose wars
Quick Fixes for Web Info Junkies Got a pet obsession? Sometimes general-purpose search engines like Google aren’t your best bet. From sports stats to fine art, you can satisfy your need to know online with specialized search sites. Here are some favorites of Tech & You columnist Steve Wildstrom
American Consumers: Still Shopping, Not Dropping With gas prices at an all-time high and home mortgage rates rising, some consumers may dial back a bit, but the rebounding job market should keep any dip minimal
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Tune in This Weekend for: | How to Lower the Cost of a Hospital Stay | Rising Mortgage Rates Find program dates and times in your area at www.businessweektv.com 10 | BusinessWeek | June 7, 2004
(top to bottom): stone/getty images; faleh kheiber/reuters; brand x pictures/getty images
Cyber scammers are getting more sophisticated. Don’t get reeled into handing over your personal info at fake versions of legit sites. Here are some easy ways to protect yourself
“In the event of an emergency, my hair can be used as a flotation device.” –Senator John Kerry, the presumptive Democratic Presidential nominee, citing safety features on his new campaign jet
EDITED BY IRA SAGER
AUDIT TALES
inching back. Still, near 80¢ on the dollar, a few are “approaching a distressed situation,” says Advantage Data analyst Pierre Robert. The bondholders are key in Nortel’s unfolding drama. If 25% of the holders of even one bond agree, that could force Nortel into a 90-day period during which it must produce financial reports. If not, then the bond maturity date accelerates, and it would have to pay down the debt. That’s not likely, but “clearly possible,” says one holder. Nortel has long-term debt of $3.9 billion. If the default process is initiated, and the payment clock starts, Nortel can tap its $3.6 billion in cash. Still, there’s a risk, analysts say, Nortel might have to sell assets if it’s forced to pay off every last penny. Nortel declined to comment. –Roger O. Crockett
BONDS’ ROLE IN NORTEL’S DEBT DRAMA
(clockwise from top) jerry avenaim/corbis; david rudes/bw; peter gridley/getty images
TENSE TIMES at Nortel
Networks, stemming from its ongoing accounting woes, could become even more anxious. The Brampton (Ont.) telecom giant faces a May 29 deadline to present audited financial data to Export Development Canada, a key guarantor of loans, or possibly face a painful multi-milliondollar payment. Complicating the issue is the roller coaster performance of Nortel bonds. A BusinessWeek analysis shows that Nortel bond pricing has turned volatile, as holders fret over its uncertain financial health. Prices are down sharply in recent months, though they are
THE BIG PICTURE
EARNINGS GAP Here’s how much women
of various races earn, compared with a dollar earned by a white male: RACIAL GROUP
AMOUNT EARNED*
75¢
ASIAN-AMERICAN
70¢
WHITE AFRICAN-AMERICAN NATIVE-AMERICAN HISPANIC
62.5¢ 57.8¢ 52.5¢
*Calculated using data from the U.S. Census Bureau and the 2002 and 2003 Current Population Survey March Demographic Supplement Data: Institute for Women’s Policy Research April 2004 report
DONATION NATION
The Art Of the Refund ELIOT SPITZER IS GIVING Donald Trump a refund. The New York Attorney General is returning $21,000 in campaign contributions to avoid the appearance of a conflict. The giveback was prompted by a May 18 court filing that alleges the ag’s judgment in a real estate dispute involving Trump was tainted because of the donations. Seems like déjà vu. In March, 1999, Trump gave $10,000 to Spitzer ’98—months after he had won the ag race. That money was given back, too, after an internal review found the donations came during a planned co-op conversion at a Trump building—a process Spitzer’s office oversees. In total, that’s $31,000 given, and $31,000 returned. Trump is still a committee “chair” of Spitzer 2006, which is raising funds for a possible run at the Empire State governorship. As such, Trump has pledged to “contribute and/or raise $100,000.” Indeed, Trump hosted a fund-raiser for Spitzer last fall at his Fifth Avenue apartment. A Spitzer spokesman maintains that writing checks is different than simply helping to raise cash. A spokeswoman says Trump was unavailable for comment. –Brian Hindo June 7, 2004 | BusinessWeek | 13
APOPLECTIC OVER POP-UP ADS IF YOU CAN’T kill the messenger, you might as well go after the paymaster. In what could be a new front in the war against unwanted Web ads, L.L. Bean is suing J.C. Penney, Nordstrom, Gevalia, and Atkins. On May 17, the Freeport (Me.) outfitter filed complaints accusing the companies of trademark infringement because their ads pop up when shoppers visit llbean.com. Bean says the ads confuse customers, who falsely assume it approves and profits from the pop-ups. Plus,
WELL WISHERS
IRAQ’S OIL MACHINE GETS IN GEAR UNCERTAINTY OVER Iraqi
security and petroleum production levels has helped lift oil prices to more than $40 a barrel. The high prices are, in fact, lifting Iraq’s own oil revenues, which could hit $1.92 billion for May, says Platts analyst John Roberts. Of course, once the security situation improves, Iraq will be able to produce more oil than the current 2.4 million barrels per day. Iraqi officials optimistically forecast a return to prewar output of 3 million bbl. per day by yearend. If that occurs, oil revenues could pass $2.5 billion a month. –Brian Hindo 14 | BusinessWeek | June 7, 2004
they grab inbound traffic. “It’s like a barker standing outside the door of your store, stealing customers on the way in,” says spokesman Rich Donaldson. Bean is seeking unspecified damages and an order barring the ads. The advertisers declined to comment. Going after the advertisers is Bean’s latest tactic. It has been trying to stop Claria, which distributes the software that delivers the ads in question. This so-called spyware is often downloaded unknowingly, hidden in free programs. Once on a pc, it searches for words that trigger the ads. Bean is one of at least nine companies suing Claria, which did not return calls. If Bean can scare off advertisers, it may not have to worry about spyware. –Adam Aston
NANOTUBULAR Little things to come?
MICROMANAGEMENT
TINY TECH What comes after nanotechnology?
There are signs—small ones, of course—that some folks are prospecting the next tiny thing. Pico, femto, atto, zepto, and yocto aren’t far behind. So-called Web squatters already own names based on a series of dimensions starting at one-thousandth of a nanometer, or 100-millionth the thickness of a human hair, including picotechnology.com, femtotechnology.com, attotechnology.com, and zeptotechnology.com. So what if a yoctometer is so small—1,000 trillion of them make up a nanometer—that it’s more imaginary than real? Same goes for the business plan of yoctotechnology.com. –Adam Aston
DRAWN & QUARTERED
(clockwise from top) courtesy of oak ridge national laboratory; ken catalino/creators syndicate; spike mafford/photodisc green/getty images
WEB WATCH
FACE TIME JULES KROLL
SILICON SAGAS
CONSUMERS ARE POWERING AMD’S CHIPS
MR. PRIVATE EYE NABS A BUYER What a birthday present. On May 18, Jules Kroll said he is selling the risk consultancy he founded to insurance and financial-services giant Marsh & McLennan for $1.9 billion. Kroll, who turned 63 the same day, says the “connective tissue here is very strong” because the new parent can extend Kroll’s investigative and advisory business to a broader range of clients. The sale will put $110 million into the pockets of the colorful Kroll, whose firm has done everything from hunting down the hidden fortunes of Saddam Hussein to restructuring Enron. Not bad for a guy who started his company 32 years ago to help prevent fraud at Marvel Comic Books. Kroll isn’t slipping out with the cash. He’ll stick around as vice-chairman at unit Marsh Inc., where he plans to dispense plenty of advice and coaching. Given the recent investigations over practices in various MMC units, such as mutual fund Putnam Investments, Kroll’s experience will likely be put to good use. —Diane Brady
between the No. 1 and No. 2 pc chipmakers is getting close again. During the third week of April, desktop computers built with Advanced Micro Devices chips outsold those based on processors from chip giant Intel 52% to 47% in U.S. retailers, according to research by Current Analysis in La Jolla, Calif. The last time the competition was this fierce was in the late 1990s, when amd was aiming its slingshot at Intel’s Pentium III chips. “It speaks volumes that amd is O.K. with consumers,” says Current Analysis analyst Toni Duboise. The perennial No. 2 didn’t hold the lead for long—by the following week, Intel was again on top in desktops, 51% to 47%. But make no mistake: amd is gaining on Intel. Over the last six months, its share of the retail desktop market has doubled,
to 50%, while Intel’s share during that period tumbled to 48%, from 72%. One reason for amd’s rise is that consumers see little difference between the performance of pcs using either chip. Many consumers are opting for pcs using amd chips because they typically cost 20% less than similar machines with an Intel processor. amd also gets a lift from pc gamers. They demand lots of horsepower and have embraced amd’s powerful Athlon64, a 64-bit microprocessor that Intel has so far not matched.
AMERICAN ICONS As the U.S. went to war
with Iraq, 2003 saw a big drop in trademark applications for most patriotic symbols, with one exception:
% change from 2002-03 of trademark filings with the following words or images:
–25% –5% +38% FLAG
Data: 13th Annual Report on Trends in Trademarks, Dechert LLP
16 | BusinessWeek | June 7, 2004
THE STAT
TRADEMARKS
PATRIOT
Of course, the retail numbers don’t factor in corporate purchases or direct sales such as those by pc leader Dell, a loyal Intel shop. And amd still trails Intel in the hot notebook category. But with tech-hungry consumers among the first to adopt new products such as the Athlon64, that trend could enhance amd’s image with mainstream buyers, says Duboise. “The consumer space is a more important market than ever,” she says. So at least for now, amd is nipping at Intel’s heels again. –Andrew Park
SOLDIERS
3.3 In millions, the approximate number of Americans who commute more than 50 miles each way to work. Data: Bureau of Transportation
(clockwise from top right) thinkstock/getty images; david harrison/photonica; tony wacker/nonstock; corbis; james keyser
THE LONG-RUNNING horse race
The Great Innovators As part of its anniversary celebration, BusinessWeek is presenting a series of weekly profiles of the greatest innovators of the past 75 years. Some made their mark in science or technology; others in management, finance, marketing, or government. In late September, 2004, BusinessWeek will publish a special commemorative issue on Innovation.
word. Carlson, frustrated at having to make endless hand copies of the patents passing through a law firm where he worked, became convinced that there was a better alternative than messy carbon paper or ink mimeographs. It would take 21 years for his rudimentary design to become a usable paper copying machine. However, the photocopier would eventually change the world, unleashing a wave of office productivity, empowering truth seekers to disseminate the Pentagon Papers in Washington and protest pamphlets in Moscow, and introducing a generation to the concept of a “paper jam.” Few saw the potential at first. But Carlson was nothing if not determined. Urged to stay in school by a school-principal uncle, he attended junior college and graduated in physics from California Institute of Technology. It was the midst of the Depression: Carlson sent out 82 applications before landing a job at Bell Laboratories. He was laid off within a year—and was working as a patent attorney when inspiration struck. Carlson’s “Eureka! moment” came when he realized that photo-sensitive materials could be used to put an image on paper. In his Astoria (N.Y.) lab on Oct. 22, 1938, he took a photoconductive zinc plate and rubbed it with a handkerchief to produce a positive charge. He laid a glass microscope slide printed with “10-22-38 Astoria” in India ink on top and exposed the plate to a light bulb. The part shielded by ink kept its charge and attracted negatively charged powder he sprinkled on top. Early demonstrations, performed with the materials he toted around in a cigar box, evoked little enthusiasm. More than 20 companies turned him down. Says Horace Becker, 81, the retired chief engineer of what later became the first Xerox copier: “For people to look at that and see the vision of a machine, you had to be desperate.” Joseph C. Wilson was such a man. The ceo of Haloid Co., the predecessor to Xerox Corp., Wilson was struggling to compete against the mammoth Eastman Kodak Co. He took a flier in 1947 on developing a copy machine using Carlson’s patents. It took a further 13 years—and breakthroughs on toner, lenses, and other components—before Haloid introduced a 2,000-pound machine, the 914, in March, 1960. So elegant was Carlson’s design that no real rivals existed until the late 1970s when Xerox, facing possible antitrust charges, helped create them by ignoring infringements on its patents. Carlson, paid in Haloid stock, became a millionaire. But he remained unconventional up to his death in 1968. He tried to give his wealth away by funding peace and civil rights movements. One afternoon in New York, Carlson, by then badly crippled with arthritis, saw a man selling balloons. He bought them all, walked into a park, and let them go. “He marched to a different drummer,” says his colleague Becker. ❚❚ –By Nanette Byrnes
A Dogged Image Maker AS A CHILD, Chester Carlson had few things in his favor. His father was crippled with arthritis, and his mother worked as a housekeeper to support the family until dying of tuberculosis when he was 17. To offset the family’s constant moving around, Ellen Carlson believed in making every day an adventure for her son. So Chet would walk around with notebook in hand, jotting down ideas for changing the world. When he was 12, Carlson told his cousin Roy: “Someday I’m going to make a great invention.” That day came on an October afternoon in 1938, and it would spark a revolution rivaling the invention of the printed 18 | BusinessWeek | June 7, 2004
bettmann/corbis
Chet Carlson spent 21 years turning photocopying into reality
Readers Report The power and promise of [customer] experience remains an abstract and untapped value for most companies.”
EDITOR-IN-CHIEF: Stephen B. Shepard MANAGING EDITOR: Mark Morrison ASSISTANT MANAGING EDITORS:
Joyce Barnathan, Frank J. Comes, Robert J. Dowling, Kathy Rebello ART DIRECTOR: Malcolm Frouman CHIEF OF CORRESPONDENTS: James E. Ellis PRODUCT DEVELOPMENT DIRECTOR: Bob Arnold EDITORIAL PAGE EDITOR: Bruce Nussbaum CHIEF ECONOMIST: Michael J. Mandel SENIOR EDITORS: James C. Cooper (Bus. Outlook), Peter Elstrom, Neil Gross, Mary Kuntz, Jeffrey M. Laderman, Christopher Power, Jane A. Sasseen, Ciro Scotti, John Templeman, Lee Walczak (Washington), Elizabeth Weiner SENIOR WRITERS: Catherine Arnst, Stephen Baker, Robert Barker, Aaron Bernstein, Anthony Bianco, Nanette Byrnes, Paula Dwyer, Mike France, Steve Hamm, Gene G. Marcial, Otis Port, Marcia Vickers, Gary Weiss ECONOMICS: Peter Coy (Economics ed.). Kathleen Madigan (Bus. Outlook ed.). James Mehring. Seymour Zucker (Sr. contributing ed.). Christopher Farrell (Contributing ed.) INTERNATIONAL: Patricia Kranz (European Edition ed.); Michael S. Serrill (Sr. ed.); David Rocks, Pete Engardio, (Sr. news eds.); Rose Brady (Sr. writer); Cristina Lindblad (Europe), Chester Dawson (Finance), Michael Shari (News ed.) ASSOCIATE EDITORS: Robin Ajello, Susan Berfield, Dan Beucke, Diane Brady, Michelle Conlin, Amy Dunkin, Hardy Green, Toddi Gutner, David Henry, John Koppisch, Robert McNatt, Ira Sager, Eric Schine PICTURE EDITOR: Larry Lippmann MANAGING ART DIRECTOR: Jay Petrow SENIOR ART DIRECTOR: Steven Taylor INTERNATIONAL ART DIRECTOR: Christine Silver SMALL BUSINESS EDITOR: Kimberly Weisul DEPARTMENT EDITORS: B-Schools: Jennifer Merritt. Computers: Spencer E. Ante. E-Business: Timothy J. Mullaney. Finance & Banking: Mara Der Hovanesian, Emily Thornton. Industries: Adam Aston. Internet: Heather Green. Management: Louis Lavelle. Media: Tom Lowry. Personal Business: Carol Marie Cropper, Anne Tergesen, Lauren Young. Scoreboards: Frederick F. Jespersen. Telecommunications: Steve Rosenbush. CONTRIBUTING EDITORS: Mark Hyman (Sports Business) STAFF EDITORS: Jessi Hempel, Brian Hindo COPY EDITORS: Prudence Crowther, Harry Maurer, Marc Miller (Deputy chiefs); Jim Taibi (Asst. chief); Aleta Davies, Doug Royalty (Sr.); Joy Katz, Barry Maggs, Anne Newman, David Pengilly, Monica Roman, Lourdes Valeriano. Researchers: Maria Chapin, Gail Fowler, Aida Rosario PRODUCTION COPY EDITORS: Larry Dark (Chief); Céline Keating, Robert J. Rosenberg (Deputy chiefs); Alethea Black, Sarah B. Davis, Robert S. Norman, David Purcell, Victoria Rubin ART: Don Besom, Alice Cheung, Gary Falkenstern (Assoc. dirs.); Jamie Elsis, Edith Gutierrez, Ron Plyman (Asst.). Graphics: Joan Danaher (Director); Rob Doyle (Deputy dir.); Laurel Daunis-Allen, Joe Calviello, Alberto Mena, Ray Vella; Eric Hoffmann. Imaging: James Leone (Mgr.), Alan Bomzer (Asst.), Neal Fontana, Nita Le, Rich Michiel, Leo Nieter, Joseph Rhames PHOTO EDITORS: Scott Mlyn, Ronnie Weil (Deputies); Anne D’Aprix, Kathleen Moore, Andrew Popper, (Assoc.); Sarah Greenberg Morse (Asst.); M. Margarita Eiroa (Traffic mgr.); Burte Hughes, Mindy Katzman, Lori Perbeck (Researchers) EDITORIAL OPERATIONS: Susan Fingerhut (Director); Ken MachlinLockwood (Mgr.). Karen Butcher, Francisco Cardoza, Thomas R. Dowd, Stephen R. Lebron, Peter K. Niceberg, Jane M. Perkinson, Karen Turok, Ilse V. Walton (Edit map mgr.), Mark Lang EDITORIAL TECHNOLOGY: Y. Steve Ben-Ari, Yo-Lynn Hagood, Steven McCarthy, Craig Sturgis, Mauro Vaisman ONLINE: Michael Mercurio (Managing. ed.), Douglas Harbrecht (Executive ed.), Arthur Eves (Creative dir.), A. Peter Clem, John A. Dierdorff, John Johnsrud; Will Andrews, Jaime Beauchamp, Beth Belton (News ed.), Jane Black, Joleen Colpa, Roger Franklin, Olga Kharif, B. Kite, Matt Kopit, James Kutz, Karyn McCormack, Justin McLean, Tzyh Ng, Patricia O’Connell, Suzanne Robitaille, Alex Salkever, Jessica Sanders, Mica Schneider, Amey Stone, Joshua Tanzer, Amy Tsao, Kathy Vuksanaj CORRESPONDENTS: Atlanta: Dean Foust (Mgr.), Brian Grow. Boston: William C. Symonds (Mgr.). Chicago: Joseph Weber (Mgr.), Roger O. Crockett (Deputy mgr.), Michael Arndt (Sr. correspondent), Robert Berner, Pallavi Gogoi. Dallas: Wendy Zellner (Mgr.), Stephanie Anderson Forest, Andrew Park. Detroit: Kathleen Kerwin (Mgr.), David Welch. Los Angeles: Ronald Grover (Mgr.); Larry Armstrong, Christopher Palmeri (Sr. correspondents); Arlene Weintraub. Philadelphia: Amy Barrett (Mgr.). Seattle: Jay Greene (Mgr.), Stanley Holmes. Silicon Valley: Robert D. Hof (Mgr.), Peter Burrows (Computer ed.), Cliff Edwards, Ben Elgin, Jim Kerstetter, Louise Lee. Washington: Mike McNamee (Deputy mgr.), Richard S. Dunham (Washington Outlook ed.); Rich Miller (Sr. writer); John Carey, Howard Gleckman (Sr. correspondents); Amy Borrus, Stan Crock, Paul Magnusson, Alexandra Starr, Stephen H. Wildstrom (Tech. & You), Lorraine Woellert, Catherine Yang. Beijing: Dexter Roberts (Mgr.). Bombay: Manjeet Kripalani (Mgr.). Frankfurt: Jack Ewing (Mgr.), Gail Edmondson (Sr. correspondent), David Fairlamb. Hong Kong: Frederik Balfour, Bruce Einhorn. London: Stanley Reed (Mgr.), Kerry Capell. Mexico City: Geri Smith (Mgr.). Moscow: Jason Bush. Paris: John Rossant (Mgr.), Carol Matlack, Andy Reinhardt. Seoul: Moon Ihlwan. Tokyo: Brian Bremner (Mgr.) EDITORIAL SERVICES: Broadcasting: Ray Hoffman. Business Manager: Barbara Boynton. Communications: Andrew Palladino (Director), Heather Carpenter, Kimberley Quinn. Information Services: Jamie B. Russell (Director), Susann Rutledge (Research mgr.), John Cady (Technology mgr.), Fred Katzenberg, David Polek, Susan Zegel. Office Managers: Roselyn Kopit, Gloria Kassabian (Washington). Readers Report: Yvette Hernandez. Reprint Permission: Nancy Johnson. Special Asst. to Editor-in-Chief: Christine Summerson
20 | BusinessWeek | June 7, 2004
–Lewis P. Carbone Minneapolis
MAKING YOURSELF ‘CUSTOMER FOR A DAY’ IS JUST COMMON SENSE “the power of design” (Cover Story, May 17) led off with a glowing description of how ideo helped Kaiser Permanente come up “with some surprising insights” about the nature of their patients’ experience in Kaiser’s medical offices and hospitals. These insights, and the others that Warnaco Group Inc. and at&t Wireless found, are surprising only to businesspeople who have never taken the effort to view their products and services from their customers’ perspective. Far from being “surprising,” these insights are common complaints among consumers. ideo deserves credit for the innovative and creative nature of their solutions. What’s mind-boggling is that it takes an outside consulting firm to convince major corporations of the importance of finding out firsthand what it’s like to use their products and services. –Brock B. Bernstein Ojai, Calif. your readers should know that the strategic use of customer-experience design predates ideo. Design Consortium has been quietly practicing design around
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BusinessWeek ******
the coincidence of BusinessWeek’s “Power of Design” Cover Story and (in the same issue) your choice of Walt Disney as one of the 75th anniversary “Great Innovators” (“He built a better mouse,” May 17) illustrates a powerful business lesson: When customer experience is at the core of a business strategy, distinctive and sustainable value follows. Walt Disney was a pioneer of engineered customer experiences. Today, firms such as ideo are creating differentiation and value with a similar philosoVPs, SALES: Beth Gregg (Midwest reg.), Robert J. Maund (West reg.), Louis Tosto (Eastern region) U.S. REGIONAL SALES DIRECTORS: Terri Dufore (Northwest), Rik Gates (New York and Intl.), John McShea (New York) VP, INTERNATIONAL ADVERTISING DIRECTOR: Paul Maraviglia VP, SALES DEVELOPMENT: Kimberly L. Styler VP, CONSUMER MARKETING: Joyce Swingle VP, BUSINESS DEVELOPMENT: Geoffrey D. Broderick GENERAL MANAGER, BUSINESSWEEK ONLINE: Peggy White SR. DIRECTOR OF FINANCE: Brian S. Dvoretz
PRESIDENT & PUBLISHER: William P. Kupper Jr.
JUNE 7, 2004 (ISSN 0007-7135)
the customer experience since 1985. Two early examples: For Apple Computer Inc., our Product Value Matrix process accurately predicted the actual market performance of the new PowerBook and competitive notebook computers in 1990 and 1991, as cited in your magazine for an Industrial Design Excellence Award in 1992. In the mid-1990s, a customer-experience-based redesign produced a greater-than-3,000% jump in yearly sales for Holiday Rambler’s Endeavor line of motor homes. –Ronald J. Sears, President Design Consortium Worthington, Ohio
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Readers Report phy—by ensuring that customer experiences are at the core of product design, innovation, and corporate-delivery strategies. Unfortunately, the power and promise of [customer] experience remains an abstract and untapped value for most companies. But a growing number of forward-thinking ones are finding innovative solutions by adopting these exciting new competencies and tools. –Lewis P. Carbone Founder and Chief Experience Officer Experience Engineering Inc. Minneapolis
SLAPS AND CLAPS FOR MANDEL’S MANIFESTO imagine my surprise when I opened Michael J. Mandel’s “In praise of heady growth” (Book Excerpt, May 17) and found a photo of me leading the rogues’ gallery of economists who allegedly belittle the role of technological change. While the company was good—Martin Feldstein, Paul Krugman, and N. Gregory Mankiw—the message was completely wrong. The truth is that economists have been emphasizing the role of technology as a driver of growth for at least 50 years, arguably ever since Adam Smith. I tracked down the two “anti-technology” quotes attributed to me. The first is from a 1997 magazine article wondering why the information-technology miracle had not yet registered an impact on productivity, as it should have. The statement came exactly one paragraph after I had recommended the economist’s standard litany of pro-technology policies: education, training, and expenditures on research and development. The second quote is from my introductory textbook (co-authored with William J. Baumol)— ironically, from a chapter extolling the central role of innovation in growth! In sum, I do not “downplay the role of technological change,” and I doubt that my three colleagues do, either. –Alan S. Blinder Princeton University Princeton, N.J. Imagine where our country would be if we redirected the Iraq war resources—investing $65 billion per annum into alternate fuels, for example, and employing 150,000 scientists instead of soldiers. Couple that with an additional fuel tax to encourage conservation (offset with a commensurate income-tax cut), and we would eradicate our dependency on the Middle East for oil. Arab countries would then be forced to
move from being oil-endowed economies to meritocracies. Mr. Mandel, you have the right agenda. How about running for President? –Randy R. Williams New York
SAUDI ARABIA: WHAT WAS SAID WAS PLENTY PRINTABLE re “shaking the timbers of the House of Saud” (International Outlook, May 17): We did strongly urge Americans to depart Saudi Arabia at a May 4 meeting of the Overseas Security Advisory Council, as we have been doing since Apr. 15, when the State Dept. published a notice to this effect. But no one from the U.S. Embassy in Riyadh is resorting to profanity to make this point. Before you quote a security officer or other American diplomat, please check with us to find out what we really said before going to “unprintable.” –Carol R. Kalin Counselor for Public Affairs U.S. Embassy Riyadh, Saudi Arabia
‘INFERIOR’ TEACHERS? TRY OVERWORKED AND UNSUPPORTED re “a bittersweet birthday” (Social Issues, May 17): I agree that “Poor children...often come to school with far more personal problems.” However, I greatly disagree that “poor schools are more likely to get inferior teachers.” I work incredibly hard, push my students to achieve more every day, and maximize my teaching time. Yet discipline issues, attendance problems, lack of parental support, missing resources, inferior textbooks, and misuse of funding contribute to the achievement gap. Our nation should work to ensure that poverty is not the reason children receive an inferior education and to equalize resources no matter the wealth of the community. Equality does not mean equal. It may take putting extra money and time into failing schools to close the achievement gap. –Laura A. Henderson Teacher, Atlanta Public Schools Hoschton, Ga.
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June 7, 2004 | BusinessWeek | 23
Technology & You BY STEPHEN H. WILDSTROM
Making Macintosh More Corporate Bill Gates used to brag that Microsoft made more money from each Macintosh sold than Apple Computer did. Apple’s hardware is now plenty profitable, but Microsoft software remains an important part of the Mac ecosystem. Microsoft’s latest effort for the Mac, Office 2004, could even persuade some corporate technology managers to take a fresh look at Apple.
FOR CORPORATE MAC USERS, the most important feature of the new Office is Entourage, the e-mail, contact, and calendar program. Entourage 2004 brings nearly all the features of Microsoft’s Exchange enterprise mail and scheduling service to the Mac. It will only work with recent versions of Exchange server with Web access enabled, and it fetches mail more slowly than Outlook on Windows. But Entourage supports the collaborative scheduling that is a mainstay in most offices that use Exchange. Finally having the functional equivalent of Outlook makes Macs running the os x operating system better corporate citizens. The changes in other Office components are less dramatic, but important. Word, Excel, and PowerPoint share a compatibility checker that can warn you about any difficulties that might arise if your document is loading in older versions of Mac or Windows programs going back to Office 97. Word gains a free-form note-taking option that allows it to work somewhat like OneNote, the handy Windows Office 24 | BusinessWeek | June 7, 2004
add-on. As in OneNote, you can take notes while recording a conversation or interview on the computer. Those notes are linked to the recording time code, making it easy to find the relevant point in the audio. PowerPoint has always been a bit of a poor relation in Mac Office. Perhaps spurred by Keynote, Microsoft has surpassed the Windows version. The biggest improvement is an enhanced formatting palette, which puts all the tools you need to create a PowerPoint slide in one handy window. Mac Office is not without its annoyances. For example, when you install it, the program automatically puts an icon for each component in the dock—the program picker at the bottom of the os x display. They are easy enough to remove, but their unbidden presence is rude. Office 2004 comes in two editions, standard ($400, $230 as an upgrade) and students and teachers ($150, licensed for educational use on up to three computers.) Later this year, a professional edition will add a new version of Virtual pc, which allows most Windows programs to run on a Mac. I believe that for ease of use, reliability, and security, Mac os x is the best desktop operating system available today. Still, the Mac is not a good choice if you depend heavily on a Windows-only application. But with a more compatible version of Office, plus Virtual pc to run the occasional Windows program, the Mac should get new life in business. It has definitely earned the chance. ❚❚ E-mail: techandyou@businessweek.com
Mac users now have an Office suite equal to Windows’
For a collection of past columns and onlineonly reviews of technology products, go to Technology & You at www.businessweek.com/technology/
(top) photograph by ethan hill
The new release ought to quell doubts about the future of Mac Office—a suite of programs with a turbulent history. Microsoft actually launched the suite in 1989, before a Windows version was available. When Steve Jobs returned to the company in 1997, Microsoft signed a five-year contract to continue developing Mac software, but that lapsed in 2002. In the meantime, relations between the companies were strained by Apple’s decision to develop a browser and e-mail program in competition with Internet Explorer and Outlook Express and a presentation software called Keynote that rivals Microsoft’s PowerPoint. But friction aside, the Mac is good business for Microsoft. And with Office 2004, Mac users for the first time in years have an office suite that is at least the equal of its Windows equivalent. Windows Office has increasingly emphasized integration with Windows Server, which interests corporate technology managers much more than end users. The Mac product keeps the focus on individuals and workgroups.
Books
America’s Right Turn THE RIGHT NATION Conservative Power in America
By John Micklethwait and Adrian Wooldridge; Penguin Press; 450pp; $25.95
While working in the U.S., British journalists John Micklethwait and Adrian Wooldridge have had their share of communications snafus. In The Right Nation: Conservative Power in America, one author describes being drafted into a course of “emergency bible study”
26 | BusinessWeek | June 7, 2004
values, not their economic interests. The authors point out that the most reliable indicator of whether people tilt toward the gop isn’t their level of income but whether they attend church. Conservatives also have profited from U.S. citizens’ unbridled optimism about social mobility. The authors report that a third of Americans think they will be rich one day. Many believe they already are: A poll in 2000 found that 19% thought they belonged to the richest 1% of U.S. households. With that mindset, it’s not surprising that many voters warm to every kind of tax cut and accept a fraying socialsafety net. Americans’ individualism and uncomplicated faith in capitalism have provided fertile ground for the conservative movement. But it is the Right’s aggressive ginning up of agenda-setting ideas that has allowed it to dictate public policy. The authors offer a convincing catalog of how, on issues ranging from welfare to international diplomacy, liberals have time and again been put on the defensive, forced to react to the Right’s proposals. That’s no accident: Conser-
Some 19% of Americans believe they’re among the richest 1%
roger kenny
when he wryly suggested that Jesus Christ struck him as something of a socialist. Then there was the time a Southerner understood their employer—The Economist— to be The Communist. Such were the hazards of documenting how the U.S. evolved from the liberalism of the 1960s to the hard conservatism that marks the federal government today. Nevertheless, Micklethwait and Wooldridge (the magazine’s American editor and Washington correspondent, respectively) gained remarkable access. At the Washington headquarters of Americans for Tax Reform, they sat in on the influential Wednesday meeting, where right-wing activists occasionally plot strategy with White House political director Karl Rove. The pair also journeyed far beyond the Beltway, for example chatting up members of Focus on the Family, a pro-family-values ministry based in Colorado Springs that inhabits a campus so vast it boasts its own Zip Code. In the end, the authors conclude that conservatives have out-thought, out-organized, and out-hustled their competition. Although it may be overstated, The Right Nation is smart, witty, and a pleasure to read. What makes the volume all the more impressive is that Micklethwait and Wooldridge are addressing audiences on both sides of the Atlantic. In trying to explain to Europeans why Americans have skewed so far to the Right, they identify one of the more intriguing aspects of U.S. politics: Voters often craft their political identities based on their
vatives have spent the better part of three decades building up influential think tanks such as the Heritage Foundation and American Enterprise Institute for Public Policy Research. More recently, the Right also has sharpened its political organizing, an area where the Left has historically held an advantage. The authors note that 95% of National Rifle Assn. members cast ballots on Election Day, compared with just 50% of the general population. Some of The Right Nation’s most compelling sections focus on the cultural underpinnings of U.S. politics, such as the proliferation of so-called planned communities across the U.S. Residents of these 230,000 selective neighborhoods tend to be suspicious of government and look to themselves rather than the state for basic services. The 55-acre Nevadabased community Front Sight, for example, caters to firearms enthusiasts: Those who purchase the bigger estates are rewarded with such goodies as use of
an Uzi machine gun and lifetime access to shooting ranges. Of course, not all gated communities are so conservative, the authors admit. But they observe that, in almost all cases, “the motive is secession: the desire to set up a society within a society.” The fact that President George W. Bush’s reelection in November is by no means assured poses some problems for the book’s thesis. True, many Americans are confirmed Rightists. But they don’t comprise even a slender majority of the voting public. The citizens who decide elections—suburbanites and middleclass women in particular—still see a vital role for government, particularly in public schools and environmental protection, and they generally support abortion rights. These voters don’t want big deviations from the broad status quo. So, in a sense, they are the conservatives—just not the kind The Right Nation so thoroughly tracks. –By Alexandra Starr
By BusinessWeek Writers
for thinking that “over the long haul, deflation is here to stay.” Price competition among businesses will remain fierce in the future, he believes, thanks to deregulation at home, the spread of capitalism abroad—including to China and India— and the growth of information technology, which boosts productivity and cuts costs. That doesn’t mean there won’t be the occasional inflation scare, of course. But should inflation show any signs of a pickup, the Fed, backed by the markets, can be counted on to swat it down, he says. This supply-side-driven deflation is a lot different from the price collapse of the Great Depression, when the economy caved in. In fact, Farrell says, it’s more akin to the U.S. experience of the late 19th and early 20th centuries. Back then, falling prices and rising living standards went hand in hand, as the economy transformed itself from an agricultural republic into an industrial powerhouse. So supply-side-driven deflation is something to be welcomed, not feared. In clear prose, Farrell lays out what this new deflation-prone era means for workers, companies, investors, and policymakers, recommending what each can do to cope. If he’s correct about what lies ahead, it’s advice worth listening to, in spite of today’s inflation jitters. ❚❚
Contrarian Advice DEFLATION What Happens When Prices Fall
roger kenny
By Chris Farrell; HarperBusiness; 228 pp; $22.95
Readers coming across the new book by BusinessWeek contributing editor Chris Farrell, Deflation: What Happens When Prices Fall, may be forgiven if they have the same reaction as an executive he quotes. “You think there’s going to be deflation?” he said to Farrell. “Well, I think you’re nuts.” But that might be shortsighted. Yes, the economy is booming now, and inflation fears are rising as prices of everything from gas to milk head up. But it was only last year that Federal Reserve policymakers and financial market investors were fretting about the dangers of a deflationary downturn in the economy, with prices and demand dropping in tandem. Farrell argues that the Fed and the markets were right to suggest that deflation was a possibility. In fact, he avers, last year’s brush with deflation won’t be the final one. The author identifies several reasons
June 7, 2004 | BusinessWeek | 27
Books
The BusinessWeek Best-Seller List HARDCOVER BUSINESS BOOKS
LAST MONTH
MONTHS ON LIST
PAPERBACK BUSINESS BOOKS
LAST MONTH
MONTHS ON LIST
1
TRUMP: HOW TO GET RICH Donald J. Trump with Meredith McIver (Random House • $21.95) Don’t forget to impress the boss.
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1
TRUMP: THE ART OF THE DEAL Donald J. Trump with Tony Schwartz (Warner •$6.99) Tax abatements and celebrity-schmoozing.
1
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2 3
THE AUTOMATIC MILLIONAIRE David Bach (Broadway • $19.95) Putting your investment program on autopilot.
2
4
SMART COUPLES FINISH RICH David Bach (Broadway • $14.95) Manage your money after you’ve tied the knot.
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THE FRED FACTOR Mark Sanborn (Doubleday •$14.95) The mailman’s philosophy of work and life, as described in a fable.
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NICKEL AND DIMED Barbara Ehrenreich (Owl Books • $13) How the working poor have to struggle to make ends meet.
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NICE GIRLS DON’T GET THE CORNER OFFICE Lois P. Frankel, PhD (Warner Business • $19.95) Avoid the lifelong habits that may block promotion.
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WHAT COLOR IS YOUR PARACHUTE? Richard Nelson Bolles (Ten Speed • $17.95) The 2004 edition of the enduring job-search bible.
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EXECUTION Larry Bossidy, Ram Charan (Crown Business • $27.50) Translating business strategies into results.
5
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SMART WOMEN FINISH RICH David Bach (Broadway • $14.95) A nine-step program.
3
5
MULTIPLE STREAMS OF INCOME Robert G. Allen (Wiley • $24.95) Building wealth from several sources, complete with checklists and worksheets.
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REAL ESTATE LOOPHOLES Diane Kennedy, C.P.A., Garrett Sutton, Esq. (Warner • $16.95) Tax and legal knowhow.
9
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THE FIVE DYSFUNCTIONS OF A TEAM Patrick Lencioni (Jossey-Bass • $22) Overcoming behavior that blocks teamwork.
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THE ERNST & YOUNG TAX GUIDE 2004 Ernst & Young LLP (Wiley • $16.95) Hey, that refund should be here by now.
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THE PRESENT Spencer Johnson (Doubleday •$19.95) The pursuit of happiness and success, described in a fable.
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THE FINISH RICH WORKBOOK David Bach (Broadway • $14.95) Track what you spend, and repair your credit.
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4
DEATH BY MEETING Patrick Lencioni (Jossey-Bass • $22.95) A fable illustrates how time flies when you’re doing constructive work.
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PRIMAL LEADERSHIP Daniel Goleman, Richard Boyatzis, Annie McKee (Harvard Business School • $14.95) Using "emotional intelligence" as a leadership tool.
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CHANGING MINDS Howard Gardner (Harvard Business School • $26.95) The art of persuasion, by a Harvard psychologist.
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J.K. LASSER’S YOUR INCOME TAX 2004 The J.K. Lasser Institute (Wiley • $16.95) Home-office deductions, marriage penalties, etc.
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THE COMING GENERATIONAL STORM Laurence J. Kotlikoff, Scott Burns (MIT Press •$27.95) The catastrophic results of boomers’ retirement, by an economist and a financial writer.
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THE LAWS OF MONEY Suze Orman (Free Press • $13.95) More maxims for prospering, from the queen of personal finance.
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THE FIRST 90 DAYS Michael Watkins (Harvard Business School • $24.95) How to cope with disorienting career transitions.
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EFFECTIVE PHRASES FOR PERFORMANCE APPRAISALS James E. Neal Jr. (Neal Publications • $10.95) How about “attaboy”?
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PURPLE COW Seth Godin (Portfolio • $19.95) Astonish your customers.
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HOW WOULD YOU MOVE MOUNT FUJI? William Poundstone — (Little, Brown • $14.95) Logic puzzles used in job interviews.
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BULL’S EYE INVESTING John Mauldin (Wiley • $24.95) Understanding the changing investment cycles.
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13 14 15
START YOUR OWN BUSINESS Rieva Lesonsky (Entrepreneur — Media • $24.95) From soup to nuts.
2
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15 HOW TO BECOME A RAINMAKER Jeffrey J. Fox (Hyperion • $16.95) Any salesperson can become a money machine, says this marketing consultant.
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THINK AND GROW RICH Napoleon Hill (Ballantine • $7.99) Willpower is the key to achieving wealth, says this student of Andrew Carnegie.
LONG-RUNNING BEST-SELLERS
HARDCOVER BUSINESS BOOKS GOOD TO GREAT Jim Collins (HarperBusiness • $27.50) WHO MOVED MY CHEESE? Spencer Johnson (Putnam • $19.95) NOW, DISCOVER YOUR STRENGTHS Marcus Buckingham, Donald O. Clifton (Free Press • $27) FISH! Stephen C. Lundin, Harry Paul, John Christensen (Hyperion • $19.95) FIRST, BREAK ALL THE RULES Marcus Buckingham, Curt Coffman (Simon & Schuster • $27)
RAVING FANS Ken Blanchard, Sheldon Bowles (Morrow • $20) 21 IRREFUTABLE LAWS OF LEADERSHIP John C. Maxwell (Thomas Nelson • $22.99) PAPERBACK BUSINESS BOOKS RICH DAD, POOR DAD Robert T. Kiyosaki, with Sharon L. Lechter (Warner • $15.95) FAST FOOD NATION Eric Schlosser (HarperCollins • $13.95) THE E-MYTH REVISITED Michael E. Gerber (HarperBusiness • $16)
THE 7 HABITS OF HIGHLY EFFECTIVE PEOPLE Stephen R. Covey (Fireside • $15) THE TIPPING POINT Malcolm Gladwell (Back Bay • $14.95) GETTING TO YES Roger Fisher, William Ury, Bruce Patton (Penguin• $14) REAL ESTATE RICHES Dolf de Roos (Warner Business• $17.95) RICH DAD’S CASHFLOW QUADRANT Robert T. Kiyosaki, with Sharon L. Lechter (Warner • $17.95) THE RICHEST MAN IN BABYLON George S. Clason (Signet • $6.99)
BusinessWeek’s Best-Seller List is based on a survey of chain and independent booksellers that carry a broad selection of books on economics, management, sales and marketing, small business, investing, personal finance, and careers. Well over 1,000 retail outlets nationwide are represented. Current rankings are based on a weighted analysis of unit sales in April. Titles that have been on the Best-Seller List for more than two years appear as Long-Running Best-Sellers.
Reviews and more are available on AOL (Keyword: BW) or www.businessweek.com 28 | BusinessWeek | June 7, 2004
Economic Viewpoint BY LAURA D’ANDREA TYSON
Why the Trade Deficit May Not Loom So Large In 2003, after more than a decade of persistent and sizable increases, the U.S. trade deficit hit a high of 5% of gross domestic product. In March of this year the deficit reached $46 billion, shattering previous monthly peaks and putting the economy on course for another annual record. Since the trade imbalance is the most widely watched—and politically sensitive—
U.S.-BASED MULTINATIONALS account for 25% of American gdp and 20% of its employment. Despite their growing foreign operations, they remain decidedly American. In 2001, 77% of the global production, 80% of the global capital spending, and 74% of the global employment of U.S. multinationals occurred at home. From 1991 to 2001, these companies added five jobs in the U.S. for every three overseas. U.S. multinationals are also significant traders. In 2001, they accounted for about 58% of U.S. merchandise exports and about 38% of U.S. merchandise imports. Trade within U.S. multinationals—between parents and their foreign affiliates—accounted for a quarter of U.S. exports and 16% of U.S. imports. Such trade—and the bilateral imbalances it generates—should be understood not only as a reflection of the state of the U.S. economy but also as a manifestation of the economic decisions of individual U.S. companies. The nation’s trade statistics also overlook the reality that most U.S. multinationals rely more on their own overseas operations to sell goods and services around the world than on traditional trade channels. According to Rebecca McCaughrin, a Morgan Stanley economist, global sales through foreign affiliates were roughly equal to total U.S. exports in 1990. In 2002, these foreign affiliate sales totaled $17.7 trillion, more than double global exports of about $8 trillion. Now the global sales of the foreign affiliates of U.S. multinationals are about three times as large as total U.S. exports. Indeed, adding these sales to U.S. exports would 30 | BusinessWeek | June 7, 2004
reduce the U.S. trade imbalance by almost a full percentage point of gdp. Since U.S. multinationals are largely “us,” that makes sense. We should consider reporting our trade data that way in addition to our conventional method. Contrary to popular belief, U.S. multinationals continue to set up foreign operations not primarily to serve the U.S. market from low-wage production platforms but rather to serve overseas markets from local operations. In fact high-wage countries, such as those in Europe, accounted for more than 60% of the employment of the foreign affiliates of U.S. multinationals in 2001, and nearly two-thirds of these affiliates’ sales went to local customers. Some 24% went to other foreign markets. Only 11% of affiliate sales went to U.S. customers. So far, at least, the pattern of foreign direct investment by U.S. companies reveals a mostly makewhere-you-sell rule, and affluent countries offer the most attractive sales opportunities. That could change soon, though, with the rapid development of China. What do the facts about U.S. multinationals imply for American economic policy? First, the goal of policy should be to enhance the allure of the U.S. as a production location. A recent report by the Electronic Industries Alliance contains many sound proposals, including fast-track visa approval and broadening tradeadjustment assistance to all workers. Second, the primary goal of U.S. trade policy should be to make sure that companies based in the U.S. have access to foreign markets on fair terms— companies should not be forced to produce in foreign markets in order to sell in them. Third, the U.S. tax code should be adjusted to correct for the fact that over the past two decades the U.S. has become a less attractive production location from a corporate tax perspective. Finally, national trade statistics should be reported in ways that better capture the realities and complexities of our borderless world. ❚❚
Sales by foreign units of U.S. companies brighten the outlook
Laura D’Andrea Tyson is dean of London Business School.
photograph by ethan hill
indicator of America’s international economic position, its unexpected March surge renewed selling pressure on the dollar and fueled protectionist sentiments. Yet the trade deficit is a misleading gauge of the nation’s economic health. Discussions of trade imbalances are often cast in “us-vs.them” terms. According to popular rhetoric, if we export more than we import, we live within our means, and our companies and workers are beating their foreign counterparts. If we import more than we export, we spend more than we produce, and our companies and workers lose to foreign competitors. But who are we? As multinational companies expand their global production, sales, and sourcing networks, trade statistics give a deceptive answer.
Economic Trends EDITED BY JAMES MEHRING
Two researchers insist they’re not all bad
raditional theory in corporate finance teaches that executive perks are signs of excess that don’t help a company. Private jets, chauffeured limos, and other nonmonetary rewards, it is argued, are wasteful spending that neither boosts productivity nor motivates managers. Is the theory wrong? Amid juicy tales of misappropriation by ex-Tyco International ceo L. Dennis Kozlowski and others, a new study by Raghuram G. Rajan at the International Monetary Fund and Julie Wulf A RANKING OF PERKS at the Wharton BY INDUSTRY School offers 1 PETROLEUM REFINING surprising 2 COMMUNICATIONS 3 OIL & GAS EXTRACTION findings. The 4 TRANSPORTATION EQUIP. researchers 5 CHEMICALS 6 FOOD analyzed 7 PAPER confidential 8 ELECTRONIC EQUIP. 9 INSTRUMENTATION info from 10 BUSINESS SERVICES compensation BASED ON COMPANY PLANE, CHAUFFERED CAR, AND COUNTRY-CLUB MEMBERSHIPS consultants Data: As ranked by Rajan and Wulf Hewitt Associates Inc.; the data covered 300 large U.S. corporations from 1986 to 1999. As it turns out, those that offer more perks than others don’t always fit the classic profile—companies with much free cash flow and few prospects. For example, of the 14 industries ranked by the authors, No. 2 is communications (table), a highly competitive sector with ample room to grow. Equally important, the researchers argue, a blanket indictment of perks is unwarranted. They find that companies offer perks for reasons other than the private benefit of the recipient. Those include the lift that perks can supply to managerial productivity, which also benefits the company. For example, Rajan and Wulf show that larger outfits offer their ceos company planes when that can save time. Company jets are less common at corporations headquartered in highly populated areas and close to major airports. Similarly, ceos located in more densely populated regions with long commute times are the ones more
T
32 | BusinessWeek | June 7, 2004
likely to have chauffeur service provided. The researchers also suggest that companies give perks to raise managers’ effectiveness, since the status that comes with perks shows pecking order and conveys authority. And if ceos value their standing in the company, then perks can motivate them more costeffectively than the cash equivalent. To be sure, the darker side of perks is that pure greed will never go away. But Rajan and Wulf’s work suggests that the public outrage perks can create should be weighed against the added efficiency and managerial effectiveness they generate.
HIRE AMERICA IN 2004 Multinationals plan to create jobs at home
arge multinationals intend to put out the “help wanted” sign for larger numbers this year. What’s more, they are looking for U.S. workers to fill most of the positions. Those findings are the results of a PricewaterhouseCoopers survey of senior executives at U.S. multinational companies. The consulting firm’s Management Barometer survey for the first quarter of this year showed 46% of the 177 respondents intend to increase their global workforce in the next 12 months. That’s up from 37% a year ago. Among businesses that plan to hire, the average increase in payrolls is 4.4%. The survey should help to allay fears that outsourcing is causing the U.S. to lose out on the hiring gains. More than 75% of the new jobs will be in the U.S., with the remainder in foreign countries. Nearly three-quarters of the intended hiring abroad is for the purpose of serving local markets, said executives. In other words, companies are responding to improving business prospects around the world, just as they are in the U.S., by adding workers to serve those markets. All in all, according to Management Barometer survey director Pete Collins, less than 7% of the planned hiring will have the potential to replace U.S. |jobs.
L
CONFIDENCE SHAKERS
Consumers are rattled by more than numbers n may 25, the conference Board reported its confidence index rose to 93.2 in May, up from 93.0 in April. But the reading is still below those for December and January, in part, says the Board, because of higher gasoline prices and “escalating tensions overseas.” That reasoning echoes research done by Robert Keyfitz, a senior economist at the World Bank. He found noneconomic factors, particularly the war in Iraq, can curb consumer confidence. In an article in Business Economics, Keyfitz examined how economic and noneconomic factors accounted for the volatility in the confidence index from 2001 to 2003. Keyfitz created a proxy index for economic confidence, which used four components—growth in real per capita income, stock prices, the jobless rate, and inflation. He WHAT DRIVES subtracted CONSUMER SPIRITS? that from the INDEX: 1985=100 120 reported confidence 100 data to create 80 CONFIDENCE an index based 60 INDEX on nonAS REPORTED 40 ECONOMIC COMPONENT economic 20 JAN. ‘01 DEC. ‘03 shocks such as Data: Conference Board, National the Iraq war. Association for Business Economics The economic proxy trended lower for most of the time (chart), but the noneconomic index swung sharply. In Keyfitz’ view, “the deterioration in confidence is largely explained by noneconomic factors.” Keyfitz estimates that a 1% increase in the reported confidence index raises consumer spending by $1.1 billion, a relationship that holds true even when the attitude factors are not pocketbook issues. He calculates that “war jitters” and fears about weapons of mass destruction cut real consumer spending by $40.5 billion in 2002 and 2003, subtracting a small but still significant 0.3% from spending over the two years. ❚❚ –By Kathleen Madigan in New York
O
charts by eric hoffmann/bw
AN UNFAIR RAP FOR CEO PERKS?
War Jitters Won’t Wipe Out This Recovery Strong demand should overcome Iraq worries and higher gas prices U.S. ECONOMY
It has always been said that war is good for the economy, and in terms of dollars and cents that is usually the case. But much of the new uncertainty in the outlook stems from the situation in Iraq. The risks still evident there are one of the factors pushing up oil and gasoline prices. Iraq is also depressing consumer
charts by eric hoffmann/bw
confidence despite improving economic fundamentals, and it is weighing heavily on the stock market, even though earnings are performing better than expected. Iraq has even thrown the Presidential election and future economic policy up in the air, another reason the stock market is unsettled. Does all this uncertainty dim what promised to be a bright second half? Maybe, but not much. Each sustained $10-per-barrel rise in oil prices cuts a half percentage point from economic growth. Oil, at $41 per barrel, will nip at corporate profits. It will also nibble at consumer spending and lift overall inflation more than expected. But U.S. consumers have dealt with worse (chart). This time is different. Higher prices for oil and gas mainly reflect a strengthening U.S. and global economy, not a disruptive supply shock. Plus, factors beyond supply and demand are at work, such as risk premiums associated with market speculation that may prove temporary. Most important, coping with today’s prices is a lot easier in a strong economy than in a weak one. In fact, this is the point in every recovery—in this case, the long-awaited point—when classic business cycle forces come together to propel growth forward. That’s a process that’s difficult to stop, especially with job growth accelerating, capital spending surging ahead, exports responding to faster global growth, and an increasing need for businesses to boost their current inadequate inventory levels. Taken together, these power sources should overcome the drags exerted by the new war jitters.
THE IMPACT OF ANY IRAQ EFFECT will fall ultimately on consumers, whose spending will determine whether the U.S. economy roars ahead in the second half or merely glides forward. Households will confront both pluses and minuses in coming months, but in the end, consumers should have the financial momentum to keep spending at a healthy pace through the year. The biggest negative, of course, is the squeeze coming at the gas pump. The Energy Dept. reports that the average price of gasoline hit a record $2.06 per gallon in late May. Not surprisingly, the sticker shock at the pump has dimmed consumers’ view of the economy. The Conference Board cited rising gas prices as one reason
consumer confidence in May did not increase much despite the recent good news on the job front. The confidence index edged up to just 93.2 from April’s 93. An Iraq effect was also noted in the report. The Board said “escalating tensions overseas” offset some of the job market optimism. In fact, worries about Iraq have softened confidence for a while, and war jitters may have cut consumer spending by $40 billion over the GAS PRICES WERE FAR WORSE IN THE PAST past two years (page 32). True, today’s griping DOLLARS PER GALLON about gas prices echoes 2.00 RETAIL U.S. GAS PRICES the complaints heard 1.50 when oil prices spiked in the 1970s and early 1.00 1980s. But this is no 1980 0.50 rerun. Prices for other NOMINAL goods and services have 1980 DOLLARS* 0 risen by a wider margin ’80 '85 '90 '95 '00 ’04 *ADJUSTED BY CONSUMER PRICE INDEX 1980=1.00 than gas has. When Data: Energy Dept., Labor Dept., BusinessWeek adjusted by the consumer price index, gas costs 36% less than it did in 1980. Looked at another way, gas would have to cost $3.50 a gallon to take as much out of your wallet as it did in 1980. Plus, despite the popularity of minivans and suvs, households spent about 2.5% of their aftertax income on gas now, vs. more than 4% in the early 1980s. That may be why driving habits have not yet changed in response to higher prices. A survey by Paymentech lp found the same percentage of households plan to travel over the Memorial Day weekend as did in 2003, and the trip will be as long as or longer than last year’s.
LOWER DOWN THE LIST of minuses for consumers is the loss of two sources of cash: refi money and tax cuts. Already, applications to refinance a mortgage have fallen by two-thirds from mid-March to mid-May as mortgage rates rose by more than a percentage point. Consumers had been using money cashed out of refis to pay for bigticket items such as home remodeling, vacations, and cars. Losing that extra money will crimp some purchases. The 2004 fiscal stimulus from the Bush 2003 tax cuts, however, has proved to be much less than June 7, 2004 | BusinessWeek | 33
Business Outlook
BY JAMES C. COOPER & KATHLEEN MADIGAN
Business Outlook
expected. According to data through mid-May from the Internal Revenue Service, the average refund is up only 4.8% from the year before. The total amount of refunds mailed this year is only $13 billion more than the checks sent out in 2003. That falls short of the $40 billion to $50 billion economists estimated would flow into taxpayers’ pockets in this first half. But it also means households won’t feel much of a pinch after the economy has absorbed all of the stimulus from last year’s tax plan. With all these negatives weighing on consumers, the main saving grace for the second-half outlook is faster job growth and the income it will generate. The continued downtrend in new unemployment claims along with the small gain in help-wanted ads suggest job growth should settle into a range of about 200,000 a month in the second half. That’s strong enough to keep real aftertax income growing at the 4% yearly clip recorded in the first quarter. Even allowing for a pickup in inflation because of higher energy costs, the gains in income will help consumers keep the economy going in the second half.
THE BUSINESS SECTOR seems on solid ground as well. Already, outlays for new equipment and software have contributed about one-fourth of overall economic growth in each of the past two quarters. And from all signs, they will continue to supply a big thrust to growth in the second half. Order books are filling up rapidly as businesses strive to meet accelerating demand and replenish their depleted inventories. Even though new orders coming into manufacturers of
durable goods, which can be very volatile from month to month, dipped 2.9% in April, the three-month average still shows a strong upward trend. Orders began the second quarter well above their first-quarter average, and they are up 13.9% from a year ago. Most important, the same pattern is true for capital goods bookings (chart). Capital-goods orders are a key indicator of THE UPSWING IN business confidence, EQUIPMENT OUTLAYS since they represent big BILLIONS OF DOLLARS 63 bets on the direction of NONDEFENSE CAPITAL GOODS demand. And through 60 EXCLUDING AIRCRAFT April companies still 57 appear upbeat. 54 Factory orders are 51 coming from both ORDERS 48 domestic and foreign THREE-MONTH AVERAGE 0 sources. In February and APR. ’04 JAN. ’02 March, exports of goods, Data: Commerce Dept.; Global Insight, Inc. adjusted for inflation, posted the largest two-month gain in seven years. And in March and April, the Institute for Supply Management’s index of export orders was the highest in 16 years. For Corporate America, any new uncertainty could trigger slower growth later on. After all, business-sector jitters were a big factor that kept this recovery in low gear for so long. But companies haven’t experienced the current broad strength in demand since the late-1990s boom, and it will take a lot more than the bad vibes coming out of Iraq to alter that trend. ❚❚
SOUTH KOREA
An Economy That’s Out of Kilter THE ECONOMY of South Korea is
all of the growth in overall demand. Domestic spending has been facing a double whammy: higher oil hampered by the shakeout following prices and the anticipated Chinese a borrowing spree that strained the slowdown. As a result, the recovery finances of many households. Now, expected for this year may be slower consumer spending will be slowed than projected. further by the hike in oil prices. The first-quarter data were Inflation at the producer level is certainly disappointing. Real gross already reacting to pricier fuel, and domestic product grew by only 0.8% these higher costs could boost from the fourth quarter, or 5.3% from inflation for consumers. In April, the year before. More vexing was the Korea’s producer mix of sectors that price index recorded slowed. Private PRICEY OIL consumption fell MAY SLOW THE REBOUND its biggest jump in five years. 1.4%, while growth in PERCENT CHANGE FROM A YEAR AGO Korea came out of capital formation and 8 SOUTH KOREAN recession in mid-2003 construction slowed. 7 REAL GDP and managed to grow Goods exports, 6 by 3.1% for the year. however, surged, 5 Seoul is forecasting rising by 29% with 4 real gdp will grow by gains in vehicles, 3 6% for 2004, but semiconductors, and 2 private economists steel. For the second 0 I '02 II III IV I '03 II III IV I '04 are scaling back their quarter in a row, Data: Global Insight Inc. forecasts in light of exports accounted for
34 | BusinessWeek | June 7, 2004
the Chinese slowdown and oil costs. For long-term prosperity, the government must find a way to shift gdp growth from exports to domestic demand. Already, the government has cut sales taxes on certain consumer and luxury goods, and it may bolster public spending. The central bank has promised to keep interest rates low even if high fuel costs boost inflation. In a way, a Chinese slowdown may be one of the best developments for the Korean outlook, since it could lessen Korea’s dependence on foreign economies to support its industrial sector. If China’s expansion slows to 7% or 8%, instead of 9%, growth of Korean shipments to China should decelerate into the 30% range, instead of the current 40%. But domestic demand will have to pick up for Korea to achieve a betterbalanced economy. ❚❚ –With Moon Ihlwan in Seoul
News Analysis & Commentary
DETERMINED The SEC’s Cutler and Parsons have been sparring since 2002
ALSO IN THIS SECTION: launches The bright side of 40| Bush Operation Comeback 42| $40-per-barrel oil
costly bid vs. Grasso: 44| Schwab’s for the affluent 46| Spitzer Uncharted waters
INVESTIGATIONS
SHOWDOWN AT TIME WARNER (l to r) robert trippett/sipa press; john zich/reflexnews
Problems with AOL accounting leave Dick Parsons in a tight spot: Settling with the SEC could fuel an investor lawsuit
t was late 2003, and richard D. Parsons, chairman and chief executive of Time Warner Inc., had been at loggerheads with the Securities & Exchange Commission for more than 18 months. The issue: whether the company properly booked a slew of advertising deals negotiated by America Online Inc. before it merged with Time Warner. Parsons had already reduced aol’s reported ad revenues by $190 million over eight quarters. But he drew the line at sec demands that he restate even more by marking down an unusual $400 million advertising contract aol had struck with German media giant Bertelsmann in 2001. So Parsons decided on a bold course, a source close to the case tells BusinessWeek. He promised sec Enforcement Director
I
Stephen M. Cutler that he would “restate immediately” if outside auditors and other financial experts said the accounting on the Bertelsmann deal was wrong. For months, a panel of hired guns pored over aol documents, e-mails, and spreadsheets. In the end, they all concluded that, while the accounting fell into a gray zone, Time Warner’s financial statements were probably correct.
BATTLE OF WILLS case closed? not yet. Despite Parsons’ gamble, the sec isn’t buying the experts’ conclusions and still demands that Time Warner lower its revenues from the Bertelsmann contract. Unless Time Warner yields, the agency could notify the company this summer that it intends to sue, according to a source close to the
sec. The charge: misleading investors about the health of aol ad revenues. If the sec brings charges, Time Warner is likely to settle, BusinessWeek has learned. But the standoff, as reconstructed through interviews with corporate, government, accounting, and legal sources, already has become the rarest of events in post-Enron Corporate America—a monumental battle of wills between a regulator and a major corporation. With an aggressive sec stressing the need for companies to cooperate with its probes, Time Warner’s long-running resistance may have already exposed the company to heightened penalties. A Time Warner spokesman would not comment on the case or on any of the detailed charges except to say: “We continue to seek to cooperate fully with investigators.” The sec June 7, 2004 | BusinessWeek | 37
News Analysis & Commentary
BERTELSMANN LINK new management, in Middelhoff and AOL’s Westlake Village, Calif. the pressure on Parsons is Case were close friends Pro-After Inc., the new name of Purchase-Pro, immense. No matter how the during the tech boom has agreed to cooperate 56-year-old ceo resolves the sec case, he could leave Time Warner with the feds, says Gregory Garman, a vulnerable in other arenas. He could lawyer representing the company. A choose to settle the investigation, and the Homestore spokesperson says the comsec probably wouldn’t require Time pany was cleared in 2002. These cases threaten to involve former Warner to admit wrongdoing. But shareholder lawyers would likely use the set- aol officials—and could open Time tlement documents—containing the Warner to even more sec charges of helpsec’s view of the Bertelsmann ad deal— ing its ad clients commit securities fraud as fresh ammunition in a massive share- by falsely inflating the clients’ revenues. The Bertelsmann tangle stems from a holder suit working its way through federal court in Manhattan. Investors charge friendship, forged in the tech boom, bethat aol inflated ad revenues by $1.7 bil- tween aol founder Stephen M. Case and lion from 1999 through July, 2002. Share- ex-Bertelsmann Chairman Thomas Midholders lost some $56 billion in market delhoff. They formed a joint venture in value between Jan. 11, 2001, when the 1995 to run aol Europe. In March, 2000, merger was completed, and July 24, the companies signed a contract that gave 2002, when the company disclosed the Bertelsmann the right to demand that aol buy out Bertelsmann’s 49.5% intersec probe. Handing those unhappy shareholders est in aol Europe for $6.75 billion. aol an sec settlement would be unpleasant. could choose to pay in cash or stock. Case But Parsons’ only other choice is to roll and Middelhoff declined to comment. In March, 2001, Bertelsmann needed the dice and fight the sec. The ensuing trial would give plaintiffs’ lawyers a vir- cash. It exercised its option to sell and tual road map for their case—including tried to persuade Time Warner to pay in cash instead of stock. Time Warner much of the sec’s evidence. Adding to Time Warner’s legal jeop- agreed but demanded that the German ardy: Two aol ad deals are under crimi- company buy a large quantity—$400 nal investigation. Federal prosecutors in million worth—of aol ads in return for Virginia are probing PurchasePro.com, a the more valuable cash payment. now-bankrupt Las Vegas Internet firm, Bertelsmann agreed, and ads promoting while the U.S. Attorney in Los Angeles is its products began appearing online looking into Homestore Inc., an online immediately. So why the sec dispute? One accountprovider of real estate listings, now under
CRIMINAL PROBE
38 | BusinessWeek | June 7, 2004
ing source says that the sec believes the ads were hurriedly grafted onto a buyout deal that had nothing to do with ads. Instead of booking $400 million in ad revenues, the sec argues, aol should have lowered the $6.75 billion it paid for aol Europe by $400 million. That would reduce aol’s ad revenues of $3.6 billion in 2001 and 2002 by about 11%—and take a chunk out of profits for those years. The sec also has aol spreadsheets that give a wide range of values for the Bertelsmann option to sell its stake in aol Europe. The agency could argue that aol was gaming the price to adjust for whatever level of ads Bertelsmann committed to. Bertelsmann’s accounting of the deal jibes with the sec’s view, says a source familiar with the case. Who’s right? Experts say the deal is so unusual that accounting principles don’t specifically address it. The experts Parsons assembled agree with Time Warn-
The Pressure To Settle Is Growing
michael dannenmann
would neither confirm nor deny the investigation. However it’s resolved, the battle will leave scars. The sec’s hard-nosed tack will fuel complaints, already being voiced by defense lawyers, about overzealous enforcement. Time Warner’s stubborn refusal to settle the accounting dispute, prolonging uncertainty about the company, has depressed its stock. And while company finances have improved over the past year, the sec probe has impeded the issuance of stock or bonds, increasing pressure to sell assets instead. In essence, sources close to the case say, the sec suspects that aol gave Bertelsmann money that it used to buy aol ads. Such so-called round-trip deals violate securities laws unless disclosed because they mislead investors.
A two-year-old SEC probe into Time Warner’s AOL unit has turned into a standoff, with stark legal risks for the company no matter what it does.
er’s view, an accounting source says. They included Ernest L. Ten Eyck, a former sec official with a King of Prussia (Pa.) forensic accounting company. Ten Eyck would not confirm that Time Warner had hired him or comment on any conclusions he might have drawn.
PITTMAN AND CASE
monika graff/upi
A FEW GOOD CARDS? but some don’t back the Time Warner findings. “I would tend to agree with the sec,” says Jack T. Ciesielski, an accountant who publishes the Analyst’s Accounting Observer newsletter. While he has not seen any Time Warner documents, Ciesielski says, “the sec probably believes that the payments were spread out over many quarters to make them look like ad revenues rather than a single payment to close out options as part of a transaction over a piece of property.” Another problem for Time Warner: A source close to the case says the sec has interviewed Bertelsmann employees who say that the prices it paid for aol ads were above the market rate. One former Bertelsmann exec says that Bertelsmann never used all the ad space to which it was entitled. In sec filings, Time Warner has claimed it ran $400 million in ads. The sec considers its case strong, but Time Warner holds a few good cards, too. A source close to the company says aol started negotiating to sell Bertelsmann online ads a year before the aol Europe buyback. Bertelsmann’s payment for the ads and Time Warner’s payment for the buyback were separate—evidence, accounting sources say, that the deals were distinct. The crux of Time Warner’s argument, accounting and legal sources say, is that accounting rules allow it to recognize revenue as long as it delivers equal value in return. These sources say Time Warner argues that the sec shouldn’t be concerned with the underlying motivation for an ad deal. Even if Time Warner manages to settle the Bertelsmann affair, it still must con-
ternal investigation, McLucas looked at other ad deals, too—and turned up ample evidence of improper accounting. These sources say that the company ended the relationship with McLucas in 2002. Time Warner later retained Williams & Connolly, a Washington law firm known for an aggressive approach to prosecutors. McLucas declined to comment. PurchasePro and Homestore are among the aol ad partners cited by the shareholder lawsuit in Manhattan. The suit alleges that current and former senior officials, including Robert W. Pittman, aol’s president before the merger, knew of the deteriorating outlook for ad revenues in the fall of 2000 yet continued to make optimistic forecasts. Pittman did not respond to several requests for comment. A Manhattan federal judge on May 5 allowed the class action to proceed. She dismissed charges against Parsons, former Time Warner ceo Gerald M. Levin, and Case. But the judge saw enough evidence to continue scrutinizing Pittman and four other execs. Time Warner continues to pay Pittman’s legal fees. Parsons likes to call Time Warner’s legal problems “legacy” matters inherited from its ill-fated combination with aol. But the sec is dealing with a legacy, too—the massive mess left behind after Corporate America’s orgy of accounting misdeeds. Time Warner may think it’s just tussling over an accounting technicality. But the sec sees something else: A company that played with boom-era accounting and still defends its practices. For an sec determined to make sure the numbers game is over for good, that will never wash. ❚❚ –By Paula Dwyer and Catherine Yang in Washington, Jack Ewing in Frankfurt, and Tom Lowry in New York
AOL’s deals with two dot-coms are also under scrutiny
tend with the spreading PurchasePro and Homestore investigations. Eight officials from the two companies have pleaded guilty to criminal charges of inflating revenues through round-trip transactions with unnamed media companies. “It was a symptom of the times,” says accountant Ciesielski. “Lots of Internet companies structured their deals to look like they had steady revenue growth.” One of those media companies, according to a criminal information filed in the PurchasePro case, is based in Dulles, Va., aol’s hometown. Government sources say that company is aol, and aol’s pre-merger sec filings confirm that it had contracted with PurchasePro to help the Las Vegas company find buyers for its software. The court filing alleges a secret side agreement: The media company helped buyers pay for the products, and in return PurchasePro gave the media company $30 million in warrants for PurchasePro stock. A government source says aol booked $30 million in stock warrants as ad revenues in 2000. After reports of PurchasePro’s accounting problems surfaced in February, 2001, Time Warner retained William R. McLucas, sec enforcement director from 1989 to 1998, to assess aol’s dealings with PurchasePro and Homestore. According to sources familiar with the in-
WHAT HAPPENED In 2001, Time Warner agreed to pay $6.75 billion for media giant Bertelsmann’s stake in joint venture AOL Europe. At the same time, Bertelsmann bought $400 million in ads, primarily on AOL.
IF TIME WARNER FIGHTS The SEC is likely to bring securities fraud charges this summer. A trial would provide a road map for shareholders suing Time Warner over charges that it hid AOL’s true financial condition.
AT ISSUE The SEC contends the ad deal was an offset against the price of the AOL Europe stake and that booking the $400 million as ad revenue inflated AOL’s profits. Time Warner says independent experts agree with its treatment of the two deals as separate.
IF TIME WARNER SETTLES The company probably won’t be forced to admit wrongdoing, but the SEC charges will boost the shareholder suit. The SEC penalties could be stiff because the agency views Time Warner as uncooperative. June 7, 2004 | BusinessWeek | 39
ELECTION 2004
BUSH ROLLS OUT OPERATION COMEBACK Can he calm unrest over Iraq and the economy? etsy berlin is angry. “I don’t know what [President] Bush is talking about when he says this is a strong economy; this economy is getting worse,” says Berlin, 44, a self-described “domestic goddess” and registered Republican from Ambler, Pa. “There are job layoffs, prices are rising.” Oh, and one more thing: “I’m a proud American, but this Iraq war puts a bad taste in my mouth.” Come November, this Bush voter plans to switch to Democrat John F. Kerry. Alarmed about defections of people like Berlin, the White House is launching a massive political offensive aimed at convincing an increasingly skeptical public that the Administration is on the right track. Most important, Bush must demonstrate that he has a coherent plan to turn around an occupation of Iraq that has badly damaged his standing in the world and with voters at home. But he must also convince warweary Americans that the economic recovery is real, despite their concerns about skyrocketing gas prices and a middle-class squeeze. Facing dire polling numbers, the White House believes its challenge is a communications problem, while most voters see the domestic and international concerns as real. “There’s a feeling that something is very wrong,” says independent pollster Dick Bennett. “It’s going to be very difficult for the Bush campaign to come to grips with it until they acknowledge what
B
The President’s approval rating has dipped below 50%
40 | BusinessWeek | June 7, 2004
PR OFFENSIVE Expect more speeches on Iraq
people are feeling and change course.” With much fanfare, but broadcast network cameras conspicuously absent, Bush opened Operation Comeback with a May 24 speech at the U.S. Army War College in Carlisle, Pa. Long on high-toned themes but short on specifics, he argued that the Iraq war is going better than most think. “We’ve had so much bad news that the perception developed that it was out of control,” admits Bush adviser
Charles Black. “It will take a lot of energy and effort to improve the perception.” Bush’s pr push will certainly be sustained and aggressive. Among its key components: five speeches on the future of Iraq leading up to the planned June 30 transfer of sovereignty, a new U.N. resolution designed to draw erstwhile allies back into the fold, and consultations with estranged partners during the upcoming Group of Eight economic summit in Sea Island, Ga. and the 60th anniversary of the D-Day landing. At the same time, Vice-President Dick Cheney and top Cabinet officials are opening a second front to spread cheer on the economy. At a May 24 campaign event in Little Rock, Cheney hailed a “growing prosperity” that stems from “the fastest rate of growth since Ronald Reagan’s first term in the White House, and the fastest rate of any major industrialized nation in the world.” But even Commerce Secretary Donald L. Evans sees an uphill battle. “It’s tough to break through the negative news that shows up on the front page of the paper, or shows up on the tv screen at night,” he says. How bad are things for Bush? His approval rating has dipped to between 41% and 48% in the polls. No President below the 50% mark in May has won reelection in the past half-century. Now even some core supporters are souring. A May 20-23 abc News/Washington Post Poll found that in the past month Bush’s jobapproval rating has dropped by 11 points among conservatives, 7 points among Republicans, and 7 points among veterans’ households—all strong Bush constituencies. Much of that dissatisfaction has to do with the economy. Despite a long list of positive economic indicators, from strong job growth to healthy corporate profits, voters are increasingly concerned about Bush’s stewardship. Many middle-class workers, after years of stagnant wages, feel pinched by record-
chris usher
News Analysis & Commentary
high gas prices, rapid inflation for grocery staples such as milk, rising healthcare and tuition costs, and higher local taxes. Add to that a fear of job loss from outsourcing and uncertainty about Iraq, and there’s a growing sense of doubt that the recovery is deep and durable. “There’s a tremendous disconnect between political rhetoric and economic reality as perceived on the ground,” says Jon Delano, a Carnegie Mellon University political scientist. “The [economic] numbers look good on paper, but that’s not what people are feeling.” Indeed, only 31% of voters say the economy is improving, according to a May 18-19 Fox News/Opinion Dynamics Poll, while 49% think it’s deteriorating—
gloom. That means convincing undecideds like Barry Aprison, director of science and technology at Chicago’s Museum of Science & Industry. Aprison, 50, was impressed with Bush’s May 24 speech but remains uneasy about the Iraq endgame. “His argument is logical and well thought out, but the reality on the ground is so negative,” he says. “Things that we’re trying to accomplish just are not being accomplished.” Still, Aprison is not ready to embrace Kerry, whose economic views worry him. But the good news Aprison and others are seeking may be slow in coming. Many analysts doubt the recent wave of violence will end anytime soon. Flynt L. Leverett, a former top Middle East offi-
ready has seen inflation decline, unemployment drop, the currency strengthen, and oil and electricity production rise. Now Washington is counting on Lakhdar Brahimi, special adviser to U.N. Secretary General Kofi A. Annan, to overcome jockeying among ethnic factions and fashion an interim government that would take office on July 1 and pave the way for elections next year. But questions remain about whether Iraqis will view the transitional regime as legitimate. “In name, it will have sovereignty,” says Nancy Soderberg, vice-president of the International Crisis Group in New York and a former U.S. ambassador to the U.N. “In reality, it will be different.” Even with all the bad news for Bush,
Cracks In Bush’s Base
Do you approve or disapprove of the way George W. Bush is handling his job as President? Republicans
Conservatives APRIL MAY
Veterans
APPROVE
DISAPPROVE
APPROVE
DISAPPROVE
APPROVE
DISAPPROVE
75% 64%
24% 33%
89% 82%
11% 15%
54% 47%
45% 51%
If the 2004 Presidential election were held today, for whom would you vote? Republicans
Conservatives BUSH APRIL MAY
KERRY
NADER
71% 18% 7% 63% 27% 5%
BUSH
KERRY
88% 9% 84% 9%
Veterans NADER
2% 3%
BUSH
KERRY
NADER
51% 41% 4% 44% 46% 5%
Data: ABC News/Washington Post polls, Apr. 15-18, May 20-23, 2004, survey of 1,005 adults, margin of error +/- 3%
a reversal of the optimism felt as recently as January. The pessimism is particularly pronounced among workers earning $50,000 to $75,000 a year—a bloc that usually leans Republican. Now, by 2 to 1, that group says the economy would improve if Kerry won, the poll found.
GAS-PRICE GLOOM treasury secretary John W. Snow argues that a lag normally exists between the beginning of a boom cycle and public perception of it. Still, he acknowledges the gas price spike has hurt. “Higher gas prices are creating a financial hardship for millions and millions of Americans,” he says. “We know that. Those higher gas prices, in a way, are becoming a proxy for how they feel about the economy.” Some Bush advisers think good news from Iraq will ease the sense of economic
cial in Bush’s National Security Council, goes so far as to say that Bush “doesn’t have an answer on security.” None of the options open to Bush is good, he says. Despite any new U.N. resolution, other nations are unwilling or unable to deploy large numbers of troops to share the security risk. And it’s unlikely Americans can do the job without at least 300,000 troops—a major escalation. That leaves the Iraqis, but Baghdad won’t have the projected 260,000 soldiers and police for at least a year. “We’ve got to get Iraqis into the fight,” says a senior Administration official. Still, there are glimmers of progress. The Sunni hotbed of Fallujah is relatively quiet. Moqtada al-Sadr, the radical Shia leader, has evacuated Karbala, is losing ground in Kufa, and faces grassroots pressure to leave Najaf. The economy al-
the election is hardly lost. Despite his big drop in job approval, the President still is nearly even with his Democratic foe. “If Bush doesn’t respond to the downward spiral he finds himself in, he’s conceding the election,” says gop consultant Thomas N. Edmonds. “But there’s still plenty of time to turn this around.” Edmonds is right. But Operation Comeback has to be more than just happy talk. Until the situation in Iraq stabilizes—and voters can buy gas without flinching—the President has a problem. And that’s something that even months of positive reports on jobs and economic growth might not be able to overcome. ❚❚ –By Richard S. Dunham and Stan Crock, with Rich Miller and Lee Walczak in Washington, Dave Lindorff in Philadelphia, Rose Brady in New York, and Joseph Weber in Chicago June 7, 2004 | BusinessWeek | 41
News Analysis & Commentary ENERGY
THE BRIGHT SIDE OF $40 A BARREL Oil and gas companies finally are hiking exploration and production budgets
bust cycles in recent decades, oil companies today hesitate to take development risks. Instead, they’re using cash to buy back stock, pay down debt, and up dividends. In addition, analysts say the industry lacks quality drilling prospects, particularly in the U.S. “In past cycles, when we saw $40-a-barrel oil we saw a much more dramatic impact than what we are seeing this year,” says Crandell. Indeed, except for Royal Dutch/Shell Group, which recently boosted its 2004 e&p budget by about 17.5%, to an estimated $11.8 billion, most of the larger companies are holding their budgets steady for now. Exxon Mobil Corp. says it’s sticking with its $12 billion in planned e&p for the year; Occidental Petroleum Corp. is doing the same with its $1.5 billion. Says Occidental President Dale R. Laurance: “We continue to focus on maximizing profit.”
CANADA CRUDE Oil sands are cost-effective
J
ust when you think commodity prices can’t go higher, the market proves otherwise. In the past week, crude oil prices rose to a record high of $41.74 a barrel, before settling back to about $41. Natural gas, too, stands at triple the average price of the 1990s. While prices are expected to recede, most pundits agree that strong demand and tight supplies have raised the floor on which they’ll fall. “I think we’re in new territory as far as oil and gas prices are concerned,” says legendary energy magnate T. Boone Pickens Jr. “I don’t see prices dropping to $30 a barrel again.” There’s a silver lining to this costly cloud, however: The stubbornly high prices are finally encouraging companies to explore, develop, and produce more oil and natural gas. Ultimately, that should help bring prices down. Like Pickens, most analysts expect oil prices to remain above $30 and natural gas above $5.50 per 1,000 cubic feet through next year. 42 | BusinessWeek | June 7, 2004
And that means a host of new opportunities for prospecting could open, including some that were economically unfeasible before. “Clearly, a lot more projects are producible at these higher prices,” says John Felmy, chief economist at the American Petroleum Institute. Already, a burst of new spending on exploration and production (e&p) is getting underway. Lehman Brothers Inc. analyst James D. Crandell estimates that worldwide e&p spending by some 335 oil and gas companies will rise 6% in 2004, to $147 billion. That’s up from the 4% increase he forecast at the beginning of the year, when companies based their investment decisions on an average price of $25.29 for oil and $4.17 for gas. Still, that’s nowhere near the e&p boost seen in past price spikes, and the deeply conservative industry is unlikely to go hog-wild. Having survived several boom-and-
but if most of the industry giants aren’t changing plans based on what they consider short-term price movements, smaller, nimbler independents have been far quicker to react to higher prices this year. They tend to invest in smaller, cheaper domestic projects. In May, Fort Worth-based oil and gas producer xto Energy Inc. lifted its e&p budget 20%, to $600 million, for example, while Houston-based Newfield Exploration Co. raised its spending 8.3%, to $650 million. Meanwhile, higher prices have allowed Denver-based K.P. Kauffman Co., a privately held oil and gas concern, to raise its e&p from $80 million this year to $200 million next year, as the company brings the remaining 500 of its 1,100 oil and natural gas wells up to full capacity. Lower prices in recent years had made it too expensive for the company to operate the wells. “It took basically $40 oil and $6 natural gas to get the banks to step up and say ‘go to work,’ ” says ceo Kevin P. Kauffman. It’s not just traditional wells that are being taken out of mothballs. Companies are also looking more closely at developing nonconventional oil and gas sources. Stepped-up efforts to extract natural gas from coal deposits in the Rocky Mountains and petroleum from Canada’s so-called “oil sands” are underway, for example. Although oil and gas from these sources had been too costly to produce at lower prices, now money can be made dragging it out of rock
Small players have been first to raise spending
courtesy syncrude canada ltd.
‘GO TO WORK’
News Analysis & Commentary
PRICEY OIL SPURS NEW INVESTMENT 160 140 120 100 GLOBAL SPENDING ON EXPLORATION AND PRODUCTION OF OIL AND GAS
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Carter says that when it completes a $7.8 billion expansion project in early 2006, it will boost production by 44% to 360,000 barrels a day. All of this activity bodes well for oil service and drilling firms, too. Simmons & Company International in Houston estimates the worldwide oil and gas rig count will increase from an average of 2,173 in 2003 to 2,371 this year, then rise to 2,506 in 2005. In the U.S. alone, rigs should jump 13.1%, to 1,161, in 2004; another 7% rise is likely in 2005. The increased activity is already driving prices up throughout the sector. Starting May 1, both Halliburton Co. and bj Services Co. will boost prices 8% and 7%, respectively, for domestic pressure pumping, a technique that increases the flow from existing wells. Equipment maker Smith International Inc. has announced a 3% to 5% hike for such gear as drill fluids, bits, and downhole drilling tools. And rates to rent a deepwater rig have soared: According to analyst Kurt Hallead of rbc Capital Markets, rigs cost $120,000 to $150,000 a day in the fourth quarter of 2003. Now, those same rigs go for $150,000 to $170,000 a day. The only question: When is all that drilling going to produce enough new oil and gas to send energy prices back down to earth? ❚❚ –By Stephanie Anderson Forest in Dallas, with Peter Coy in New York, Christopher Palmeri in Los Angeles, and Laura Cohn in London 44 | BusinessWeek | June 7, 2004
IS SCHWAB’S LATEST COME-ON ENOUGH?
It’s slashing commissions in a bid to win over the high-net-worth clients it so badly needs hat’s up at Schwab? After a flurry of activity in recent years aimed at beefing up the brokerage’s lucrative advice business for affluent and wealthy individuals, Charles Schwab & Co. announced on May 25 that it will slash prices for trading commissions. And not by a little. Fees are coming down 33% for most online trades and by 66% for wealthier customers with more than $1 million in assets at Schwab. The move will cost San Franciscobased Schwab an estimated $95 million in lost revenue over the next year, or about 3% of total revenue. Schwab’s shares briefly swooned 3% on the news, but Chief Executive David S. Pottruck figures the move will help boost business in the long run. Don’t mistake the commission cuts as a play to generate trades. Far from it. After getting burned in that business following the tech bust four years ago, Schwab has been trying mightily to remake itself as a fullservice brokerage. But the war for the so-called mass-affluent investors with accounts of $100,000 or higher, as well as for high-net-worth accounts of $1 million or more, has not been going well for Schwab. It’s losing out to stronger players such as Ameritrade, which can undercut it on price, and to Merrill Lynch & Co. and Fidelity Investments, which have reputations for more attentive hand-holding. And Fidelity also offers lower fees. It charges most clients $14.95 for a single trade. That compares with the $29.95 that Schwab has been charging most clients, who will now pay $19.95. Schwab hopes that the fee cuts,
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which take effect in mid-June, will help it hang on to a larger share of those customers. It needs all the help it can get. In the quarter ended Mar. 31, Schwab added only 159,800 new accounts, down from 171,000 new accounts a year ago and 232,300 two years earlier. It had a total 7.5 million accounts, down from 8 million in the same quarter a year earlier.
WAITING FOR A PAYOFF as for high-net-worth accounts, Schwab is still waiting for a payoff from its aggressive push into this potentially lucrative market. Its 2-year-old top-ofthe-line advice service, Schwab Private Client, claims about 18,000 customers—about double a year ago. Those accounts hold $18 billion in assets, up 140% from a year earlier. But that’s just a tiny sliver of the market. Still, the move to cut fees seems to be ringing all the right bells with independent fund advisers. Those are the money managers who handle individual acand use RISKY Pottruck counts is betting on Schwab as a custodian more feefor their clients’ holdbased clients ings—about a third of all Schwab assets. “My one big concern about Schwab was that they were just nickel-and-diming people to death,” says Susie Johnston, a financial adviser at Cherry Hills Investment Advisors in Littleton, Colo. “I’m glad to see they are not going to do that anymore with commissions.” The question is whether the commission cuts will be enough. Schwab maintains it is on the right track. But laying claim to a bigger share of the country’s investment riches will be no easy task. ❚❚ –By Louise Lee in San Mateo, Calif., with Lauren Young in New York
photograph by mark wilson/getty images
and sand. By early 2005, for example, Devon Energy Corp. expects to start developing an oil-sands field in Alberta. When running at full production in 2008, the $400 million project should produce an estimated 35,000 barrels a day. The company says the field has more than 300 million barrels of unbooked reserves. Syncrude Canada, a joint venture that includes subsidiaries of ExxonMobil and ConocoPhillips, operates the largest oil-sands project in the world in Alberta. President James E.
News Analysis & Commentary C O M M E N TA RY BY MIKE FRANCE
Spitzer vs. Grasso: Uncharted Waters New York’s attorney general has based his suit on an obscure, vaguely worded law
Now Spitzer has unveiled a new legal innovation. He’s using New York’s obscure Not for Profit Corporation Law to try to force ex-New York Stock Exchange Chairman Richard A. Grasso to return more than $100 million in compensation. Will the gambit work? In law and business alike, most bold risks flop. That could certainly happen in this case. Spitzer’s case is a very rare lawsuit indeed—one with almost no direct precedents. Neither side can confidently predict how judges or jurors will react to their arguments. “This is completely uncharted territory,” says James J. Fishman, a professor at Pace University Law School who is a co-author of New York Nonprofit Law and Practice. The Not for Profit Corporation Law is, like most other statutes, quite vague. It says that an officer’s compensation should be “reasonable” and “commensurate with services performed.” Spitzer’s defenders like to point out that these words were successfully used in 1998 to force Adelphi University President Peter Diamandopoulos to refund part of his compensation—which soared, in 1996, to the then-shocking sum of $837,000. This seemingly close precedent would appear to bode well for Spitzer. But there’s a big difference between the case against Diamandopoulos and the one against Grasso. Under New York law, Adelphi is a “Type B” nonprofit—a category that encompasses educational, religious, scientific, and cultural institutions. In contrast, nyse is considered a “Type A” nonprofit, which includes trade associations, country clubs, labor unions, and consumer cooperatives. The salient difference between the two: Type B nonprofits have charitable public missions. They owe a broad duty to the citizens. In contrast, Type A nonprofits 46 | BusinessWeek | June 7, 2004
tend to be private. They’re legally responsible to their owners. “The two are totally different creatures,” says Fishman. “There is less of a halo around Type A” nonprofits. The distinction could wind up having a substantial impact in this case. Plenty of trade associations provide their leaders seven-figure incomes. And there is broad legal authority, outside of the narrow confines of New York State’s nonprofit case law, for the notion that charitable and noncharitable boards of directors should have wide discretion over how much money to pay top managers. But the fact that nyse’s board may have had a lot of room to set Grasso’s pay does not mean that it had no ceiling whatsoever. Sure, some industry lobbyists, college football coaches, and symphony directors may make more than $1 million annually, but it’s doubtful that too many of them earn more than $40 million and HAPPIER DAYS consume almost all of their organization’s At the SEC net income. in 2003 Grasso’s compensation had no obvious parallels in the nonprofit world—and it’s not clear at all that his pay package was fully disclosed to the directors of the stock exchange. In these circumstances, a jury could well decide that the vague words “reasonable” and “commensurate” in New York’s Not For Profit Corporation Law have concrete meaning as limits on executive compensation. Assuming the case goes to trial, about the only way Grasso’s attorneys can defend his pay package is by arguing that he deserves as much money as the Wall Street tycoons he regulated. But that position is a stretch. Compared with, say, Goldman Sachs, Merrill Lynch, or Citigroup, the nyse doesn’t have equal “revenues, income, or employees. And its mission does not include a search for profits,” says Daniel L. Kurtz, a New York nonprofit legal specialist who used to lead the state ag’s charities bureau. Nor did Grasso face any personal business risk. Bottom line: Both sides have much to lose in going to court. That’s why many observers predict a settlement. But if the hard-charging Grasso refuses to cut a deal, a fascinating battle is all but guaranteed. And Spitzer’s status as a legal innovator will be put to a test. ❚❚
Both sides have much to lose in court: Many foresee a settlement
chris usher
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awyers aren’t exactly known for their creativity. But Eliot Spitzer is not a typical attorney. Ignoring traditional regulatory boundaries, the politically ambitious New York attorney general has turned a little-known state statute, the Martin Act, into a surprisingly powerful tool for policing analysts, investment bankers, and mutual-fund managers.
News Analysis & Commentary RESEARCH
against tumors that are dependent on the hormones estrogen and progesterone, reducing the risk of these types of cancers by 26%. Hormone-dependent tumors account for 60% to 70% of all breast cancer cases. Ibuprofen had a weaker effect, while acetaminophen, which is not an nsaid, offered no protection. The Columbia scientists based their study on 10 years of lab research. They knew that aspirin blocks an enzyme in the blood called cox-2 that stimulates estrogen production. Testing its effect in mice, Dr. Andrew J. Dannenberg of Weill-Cornell Medical College, a co-author of the jama report, found that aspirin reduced both estrogen and breast tumors. Still, cancer experts say the Columbia cause it shows which type of breast cancer study wasn’t flawless. It only followed would most likely be prevented—and why. the women for a year, and was retrospective—the outcomes were based on DOWNSIDE TO DAILY DOSES participants’ reports of their own behavthe researchers studied 3,000 Long ior and open to bias, a problem with Island women, half with breast cancer many such studies. But more money is and half without, and analyzed how often being poured into prospective trials, they took aspirin, ibuprofen (such as which give a drug to a large population Advil), and acetaminophen (such as over a number of years to see what hapTylenol). They found that 20.9% of the pens. The National Cancer Institute is women with breast cancer had taken as- conducting a seven-year trial with pirin regularly for six months or longer 22,000 women to see whether tamoxbefore they were diagnosed, compared ifen, a breast cancer treatment, or Eli Lilwith 24.3% of the women in the control ly & Co.’s Evista, an osteoporosis drug, is group. That adds up to a 20% lower risk better able to prevent breast cancer. Reof breast cancer for aspirin users vs. sults are due in 2006. The nci says there are more than 40 nonusers. The drug was most effective other drugs in chemoprevention trials, ranging from old standbys like aspirin to new targeted therapies such as AstraZeneca plc’s Iressa, a lung cancer treatment approved in 2003. M.D. Anderson doctors are ASPIRIN Clinical trials indicate that testing Iressa and Tarceva, a similar daily use reduces polyps in people drug by Genentech and osi Pharat high risk of colon cancer; new maceuticals, in heavy smokers in an study shows aspirin reduces risk of attempt to prevent lung cancer. estrogen-positive breast cancer There can be a downside to giving a pill every day to prevent disCOX-2 DRUGS Celebrex was ease. Merck & Co.’s anti-baldness approved for prevention of colon polyps in 2000; COX-2 drugs are in drug, Proscar, was able in a large tritrials for prevention of breast al reported last year to reduce cancer prostate cancer by 25%, but the men on Proscar who did develop cancer PROSCAR Developed to fight tended to get more deadly tumors, baldness, a large trial found that it possibly because of the drug. reduces risk of prostate cancer by Still, cancer specialists are ensome 25% couraged. “Oncology is two decades TAMOXIFEN Approved in 1998 for behind cardiology when it comes to prevention of breast cancer in highdisease prevention, but we are berisk women ginning to get smarter about it,” EVISTA An osteoporosis treatment says Dannenberg. The 212,000 currently in a large trial, it’s being women likely to be diagnosed with compared with tamoxifen to see breast cancer in the U.S. this year which best prevents breast cancer can only hope so. ❚❚ –By Catherine Arnst in New York
A PREEMPTIVE STRIKE AGAINST CANCER
The news that aspirin may cut risks gives a big boost to a slew of promising drugs
48 | BusinessWeek | June 7, 2004
An Ounce of Prevention
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rug companies are pouring billions of dollars into developing new targeted therapies for cancer, and so far none are close to a cure. But there is a countervailing force to their quest: the search for widely available drugs that could stop cancer from starting. Chemoprevention, as the field is called, just got a win with the news that aspirin, already used to prevent heart disease, reduces the risk of the most common form of breast cancer. No one is ready to recommend that women start popping aspirin every day, in part because the drug can cause gastrointestinal side effects. But the report, in the May 26 issue of The Journal of the American Medical Association, does raise the hope that women already taking aspirin to prevent heart disease may be getting another valuable benefit. “I think this is a very important paper,” says Dr. Waun Ki Hong, a pioneer in chemoprevention at the M.D. Anderson Cancer Center in Houston. Hong says a number of drugs have now been shown to suppress cancer, including aspirin and similar nonsteroidal anti-inflammatory drugs (nsaids) such as ibuprofin. In fact, aspirin has already proven effective in preventing colon cancer. A stream of studies over the last few years has also focused on aspirin’s potential against breast cancer, but with mixed results. The jama study, by researchers from Columbia University, is noteworthy be-
News In Biz This Week EDITED BY MONICA ROMAN
JOSEPH GREGORY
WHEN YOU’RE NO. 2... One of Wall Street’s longestrunning job vacancies was filled on May 24, when Joseph Gregory, 52, became president of Lehman Brothers. The investment bank, run by hands-on CEO Richard Fuld Jr., 58, hasn’t had a second-in-command since 1996. So why the new appointment? Now, “if I’m not available, Joe is clearly No. 2,” says Fuld. He can also rely on Bradley Jack, who was promoted from co-chief operating officer to the office of the chairman. Fuld doesn’t plan on retiring anytime soon. But he has been doing more globe-trotting to win over clients and expand Lehman’s reach. Like Fuld, Gregory earned his stripes in Lehman’s hallmark fixed-income business. As the firm diversified, he became the head of global equities and, later, co-COO with Jack. Gregory says he wants to take Lehman to the next level by adding new talent. “As we continue to get the absolute best people here, that will be our competitive advantage,” he says. Rivals, be warned. –Emily Thornton 50 | BusinessWeek | June 7, 2004
A BEEF WITH WELLINGTON Add Wellington Management to the list of asset management companies being investigated by the Securities & Exchange Commission. While Bostonbased Wellington has been notifying clients for several weeks that it’s under an sec probe related to trading practices and procedures, the news didn’t hit the press until May 26. Wellington says it doubts the inquiry has anything to do with market timing or late trading, which have plagued several highprofile fund families, including Strong and Janus. Wellington manages $120 billion in 13 mutual-fund and annuity portfolios for Valley Forge (Pa.) Vanguard Group, the nation’s largest fund family. Vanguard said in a statement: “To date, we are not aware of any specific link between the inquiry and Wellington’s management of Vanguard funds.”
BRUT FORCE AT NASDAQ
pay $190 million in cash for SunGard’s Brut unit, operator of the Brut network, which Greifeld helped develop. Greifeld aims to bolster nasdaq’s falling market share and beef up its technology. Buying Brut could add 10% to 12% to nasdaq’s current 51% share of trades reported through its system, he says.
ET CETERA… ONE CINGULAR >>Computer Associates has SENSATION? offered $10 million to resolve German telecom Deutsche Telekom said on May 25 it will buy networks in California and Nevada for $2.5 billion from Cingular Wireless, jointly owned by BellSouth and SBC Communications. Cingular had shared the networks with T-Mobile USA, a dt subsidiary. By selling the assets, Cingular avoids a hurdle that could have held up its proposed acquisition of AT&T Wireless, which also owns networks in the same Western states. Analysts now figure the merger will easily close by yearend. For T-Mobile the deal brings much-needed capacity to spur growth. Although it has expanded, T-Mobile wasn’t seen as a true nationwide player without facilities in California, analysts say. Now it has a 5% share of the Golden State’s wireless market.
GE’S TEPID SPIN-OFF If you’re Robert Greifeld, ceo of NASDAQ, you can take it with you. A year after leaving SunGard Data Systems to become nasdaq’s chief, Greifeld is cutting a deal with his former employer to acquire its electronic trading network. On May 25, nasdaq announced it will
on mortgage insurance at a time of rising interest rates—though ge insists that any slowdown will be offset as higher rates boost returns in the company’s investment portfolio. The real worry may be the prospect of more share sales by ge, which still owns 70% of the $10 billion insurer.
Investors didn’t exactly flock to Genworth Financial’s coming-out party on May 25. Shares of the General Electric insurance spin-off were priced at $19.50, below the expected range of $21 to $23, and ended the day unchanged after trading as low as $18.75. Investors were skittish about its reliance
a federal accounting probe. Krispy Kreme Doughnuts reported a $24.4 million quarterly loss, its first since going public. Toys ‘R’ Us sued Amazon.com to stop other toy merchants’ sales on the site.
>> >>
CLOSING BELL
TiVo jazzed Wall Street with the news that it added 264,000 new subscribers in the quarter ended Apr. 30, thanks to its deal with DirecTV. TiVo shares rose 6%, to $7.99, on May 26. CEO Mike Ramsay expects the TV recording company to be profitable by 2006. 9
DOLLARS TIVO STOCK PRICE
8 7 6 0 MAY 17, '04
MAY 26
Data: Bloomberg Financial Markets
(right)daniel acker/bloomberg news; chart by ray vella/bw
HEADLINER
News Washington Outlook EDITED BY MIKE McNAMEE
Why the GOP Can’t Lock in Tax Relief MIDDLE-CLASS TAX BREAKS in an election year: Now that’s a tune
dan herrick-kppa/zuma press
both parties can sing, even in the Red-Blue Nation. The House has been crooning through a monthlong concert of tax votes orchestrated by Majority Leader Tom DeLay (R-Tex.). A bipartisan majority endorsed permanent relief from the marriage penalty, locked in the 10% tax bracket, and servatives fear that Democrats in tight not only continued the child credit but ex- races can now campaign as tax-cutters. “I panded it to include the upper-upper mid- don’t see how Republicans are going to dle class. Lawmakers even threw in anoth- use this as an election issue,” says Chris er year of protection from the dreaded Edwards, director of fiscal policy at the Cato Institute. alternative minimum tax (amt). But listen closer, and discordant notes can be heard. House gop leaders were dis- Insidious Levy appointed that Democrats went along with moderate senate Republicans, such as the tax votes, robbing Republicans of a John McCain (Ariz.) and Olympia J. Snowe dream campaign issue. And they face for- (Me.) are also muddying the picture. They midable opposition in the Senate from cen- are resisting most tax breaks that aren’t trists in their own party who are appalled at paid for with offsetting revenue increases the $530 billion, 10-year price tag. Says or spending cuts. They say they’ll go along Heritage Foundation Vice-President with only $27 billion for one-year extenMichael Franc: “Just don’t expect the [tax sions of marriage-penalty relief, the 10% breaks] to survive the Senbracket, and the current ate.” The tax relief rush is child credit. Finance Comlikely to stall until just before mittee Chairman Charles E. the election—and even then, Grassley (R-Iowa) intends to Congress will extend the roll those cuts into a single cuts for at most one year. bill sometime this fall. But gop leaders hoped to use pre-election partisanship these middle-class goodies could sink even the one-year as bait in an election-year extensions. trap. The Republican plan: The Senate’s $27 billion Sucker Democrats into votcap won’t fund relief from ing against popular tax the amt—an insidious levy breaks set to expire in 2005, that hits 3 million mostly then use those votes to DeLAY His tax middle-class families. If Congress bludgeon them in the cam- relief plans are doesn’t extend its patchwork amt paign. “This is election-year likely to stall in protection, that number will shoot up politicking,” says Charles B. the Senate to 12.7 million in 2005, on its way to Rangel (D-N.Y.), top Demo30 million by the end of the decade. crat on the Ways & Means Committee. The stumbling block: An amt fix would But the gop strategy failed. Thanks to jack up the deficit by $18 billion in 2005 years of redistricting, most Dems are in and $500 billion over 10 years. safe seats and have little to fear from gop None of this campaign season’s tax attacks. And the few of their colleagues maneuvers are likely to move any serious in swing districts could happily go along tax debate forward. That will have to wait with the cuts, secure in the knowledge until after Inauguration Day next Januthat the most expensive items—such as ary—and a new initiative from either a regranting a $1,000-per-child tax credit to elected George W. Bush or new President couples earning up to $250,000—are like- John F. Kerry. ❚❚ ly to die in the Senate. Indeed, some con–By Howard Gleckman
CAPITAL WRAPUP A TROUBLED PICK FOR THE FTC comcast has dropped its bid for Walt Disney, and the feds’ case against Microsoft is all but over. But both issues live on in the fight over Deborah Majoras, the White House’s pick to head the Federal Trade Commission. A former Justice Dept. antitrust lawyer, Majoras, 40, angered state officials who thought she was too soft in negotiating a settlement with Microsoft. At her June 2 hearing, however, lawmakers will focus on her role in a 2001 plan to hand ftc oversight of media mergers to the more partisan Justice. The proposal was part of a reorganization promoted by departing ftc Chairman Tim Muris and Charles James, Majoras’ former boss at Justice. Joe Sims, a partner at law firm Jones Day, where Majoras worked before and after her 2001-03 stint at Justice, helped shape the plan. It sank when Senator Fritz Hollings (D-S.C.), then Commerce Committee chairman, got wind of it. Now Senator Ron Wyden (DOre.) has put a hold on Majoras’ nomination. It doesn’t help that the Dems’ pick for another ftc seat, Jon Liebowitz, lobbies for the Motion Picture Association of America and may recuse himself from many media cases. “If Majoras and Liebowitz are on the commission, it will not survive as an effective watchdog on media mergers,” says Jeff Chester of the Center for Digital Democracy. Majoras declined to comment. –Lorraine Woellert
An old fight over media mergers rears its head
June 7, 2004 | BusinessWeek | 53
News International Business RUSSIA
PUTIN’S GAME BY PATRICIA KRANZ AND JASON BUSH ladimir v. putin, tyrant. The ex-kgb colonel is pushing Russia back to its Soviet past by clamping down on the media, skewing elections, throwing the country’s richest tycoon in jail, renationalizing property, and becoming more assertive abroad. It’s so simple to see. Or is it? When analyzing Russia, it is easy to get sucked down Alice’s rabbit hole, where nothing is ever quite what it seems. Remember how Western Kremlinologists got it all wrong? After failing to predict Mikhail S. Gorbachev’s rise to power, they never dreamed he would be outwitted by the buffoonish Boris N. Yeltsin. Then, no one in the West—neither the press nor professors, neither Presidents nor Prime Ministers, neither nato, the cia, nor mi6—predicted the demise of the Soviet Union in 1991. After Russia’s financial collapse in 1998, few, if any, foresaw that the economy would grow by 38% during the next five years. In the same vein, Putin may yet confound those who forecast the resurgence of a neo-Soviet Union. That’s because there are two Putins: the autocrat and the shrewd reformer. If the reformer gains the upper hand, a stronger, more democratic Russia may yet emerge. For the moment, Putin the autocrat is the one inspiring widespread criticism. This is the ruler who has shown little appetite for the messy back-and-forth of democracy, who has steadily centralized power, and who used underhanded tactics to ensure a landslide victory in the
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March presidential election—even though he was a shoo-in. This is the same Putin whose regime ordered the arrest of Russia’s richest man, ex-Yukos Chief Executive Mikhail B. Khodorkovsky, on charges of fraud and tax evasion, a move many consider politically motivated. Hard Man Putin could go even further: He may decide to hit Yukos with a back tax bill so big that it bankrupts the company and Khodorkovsky is forced to give up his shares. In the worst-case scenario, the big privatizations may be declared illegal, creating chaos in the markets.
WESTWARD HO? but such a scary outcome is not inevitable. Putin, after all, was handpicked by Yeltsin to continue the monumental task of reviving Russia. Putin learned the tactics of reform while serving under St. Petersburg Mayor Anatoly Sobchak, one of the earliest liberal politicians in Russia. As deputy mayor in charge of external relations, Putin even found time to earn a PhD in economics. His thesis advocated greater foreign investment in the raw-materials sector—hardly the position a nationalist neo-con would advocate. “Putin was very familiar with Western influences even in Soviet times, so he fits this role [of reformer] much better than Yeltsin,” says Alexei Mukhin, director of Moscow’s Center for Political Information. Many observers focus on Putin’s kgb background and his entourage of siloviki, the “men of power” who hail from security backgrounds. But Putin’s government has more reformers than siloviki. Prime Minister Mikhail Fradkov is a former trade minister and representative to the European Union. His deputy, Alexander Zhukov, an economist and ex-businessman with a diploma from Harvard Busi-
ness School, belongs to the reform camp. Economy Minister German Gref and Finance Minister Alexei Kudrin are strong free-market advocates. Backed by these and other advisers, Putin has already changed Russia. “The Putin reforms are about giving individuals more liberties, lowering the tax burden, and reducing administrative hassles,” says Al Breach of Brunswick ubs, a Moscow brokerage. Not many in the West know how much Putin has already achieved. The government has kept a lid on expenses, using the gains from high oil prices to pay off debt. Now the trade surplus is $60 billion, the budget is solidly in the black, and gross domestic product is up by 7% a year. Skeptics assume that this impressive performance stems mainly from high oil prices. Yet Russia’s growth is also being driven by a surge in productivity—a predictable result of the market reforms launched in the 1990s and continuing under Putin. Overall, labor productivity is growing by 14% a year. With the nonoil sector gaining traction and reserves hitting $90 billion, Russia may even withstand an oil slump. Peter Westin, chief economist at Aton Capital brokerage in Moscow, figures that every dollar off the price of a barrel of crude would trim Russia’s gdp growth by less than three-tenths of a percentage point. Even a fall to $20 a barrel would leave the economy growing around 5% a year. Putin’s reforms are also giving companies and workers good reasons to emerge from the shadow economy. His decision to slash the personal income tax to a flat 13% brought millions of citizens onto the tax rolls. With their taxes lower, many workers now are pressuring employers to report their full income. Why? Because the workers are applying
konrad r. mueller/agentur focus/contact
Westerners think the Russian President is turning back the clock. The reality is much more complicated.
ENIGMA Will the autocrat or the reformer win out?
News International Business “We’ve identified a continuous and sharp rise in optimism that’s unprecedented for Russia,” says Andrei Milekhin, head of Moscow’s Romir Research Group. “It’s everything: confidence in the President and confidence that we will live better, that gdp will double, and that our children will live better.” Consider the Shershniev family. Parents Zhenya and Natasha were both actors in the summer of 1990. They lived in a small, two-room apartment in the center of Moscow with their son and daughter, Ilya and Polina. Their paychecks did not go very far, but the stores didn’t have much merchandise to sell anyway. The nearby Dorogomilovo Gastronom was as big as any supermarket in the U.S., but its shelves were almost empty. Now the Dorogomilovo store is filled with everything from once-scarce toilet paper and tropical fruits to Argentine beef and Russian-made dairy products. Ilya,
for mortgages, car loans, and retail credit, and they want to prove they have the income to afford the payments. Bank lending is surging by 30% a year, while ruble deposits rose by 50% last year. Meanwhile, businesses are less exposed to the mob violence that once marred and often ended the lives of Russian entrepreneurs. According to the Internal Affairs Ministry, there were 70 contract killings in Russia in 2002, compared with 600 to 800 annually a few years earlier. “Under Yeltsin we were freer, but under Putin it is more civilized,” says Gennady Klimov, editor of Karavan, a paper in Tver, 60 miles from Moscow. Russians under Putin have even forsaken their traditional pessimism.
now nearly 22, is co-head of Swiss Realty Group’s commercial real estate office in Moscow. He recently traded in his used Mercedes S Class sedan for a new $69,000 bmw convertible. Putin’s reforms are being felt not just in Moscow. Yes, it’s still easy to find cities and villages filled with poor pensioners and unemployed factory workers. But things are looking up in many regions. In Tver, 44% of the population still lives below the poverty level. Yet even here, new stores, apartments, factories, and banks are changing the face of the city. “It’s common in Russia now that money from Moscow is going into the regions,” says Alexei Surkov, general director of Siburpet, a shiny new chemical factory in Tver. There and elsewhere, Russian managers know it’s sink or swim. Take the Tver Sewing Factory. In Soviet days, 70% of the factory’s output consisted of military or police uniforms. Instead of Red Army greatcoats, the factory now makes smart civilian suits for busy Russian businessmen. “We’re optimists. We have already survived difficult times,” says General Director Irina Alekseeva. The same transformation is taking place in Voronezh, an industrial city of 800,000 some 300 miles south of Moscow, at the heart of the “black earth”
RUSSIA ON THE REBOUND The economy is booming by any yardstick . . . 1996-99
2000-03
REAL GDP
–0.1% 6.8% AVERAGE ANNUAL % CHANGE
INVESTMENT
–7.5% 10.3%
125
ELECTION 2000 2004
BILLIONS OF DOLLARS
CENTRAL BANK RESERVES
100
Mobile-phone owners
75
Cinema ticket sales*
50
Outstanding consumer loans
25 0
AVERAGE ANNUAL % CHANGE
'96
'98
'00
'02
'04 EST.
10
BILLIONS OF DOLLARS
FISCAL BALANCE
–5.8% 2.2%
. . . and Russians are spending with a passion
Laptop sales* New foreign-car sales* Advertising revenues*
0
0
–10
Bank debit cards
–20
Data: BusinessWeek, Brunswick UBS
56 | BusinessWeek | June 7, 2004
$10
$140
MILLION
MILLION
$1.02
$10.98
BILLION
BILLION
41,700 312,000 43,000 203,000 $760 $3.29 BILLION
5
21
MILLION
MILLION
Disposable income per capita* $534 Retail market turnover* $69
CURRENT ACCOUNT BALANCE
% GDP
36.2 MILLION
MILLION
CAPITAL FLIGHT*
% GDP
4.4% 11.6%
1.4 MILLION
$1,368 $135
BILLION
BILLION
22%
36%
–30
Middle class**
–40
*Annual figures for 1999 vs. 2003 **Share of respondents identifying themselves as middle class, July, 1999, vs. February, 2004 Data: BusinessWeek, Renaissance Capital, Bank of Russia, AKAR, ITResearch, Troika Dialog, Public Opinion Foundation
'96
'98
'00
'02
*NET PRIVATE SECTOR CAPITAL FLOWS
'04 EST.
(l to r) photographs by andrey rudakov/capital’s eye; jeremy nicholl/polaris
MOSCOW WHEELS As incomes rise, so does a new sense of optimism
VIRGIN ATLANTIC FLIGHT
004
New York to London
virginatlantic.com
UNAUTHORIZED BEDTIME NONSENSE D TONTERêAS NO AUTORIZADAS A LA HORA DE DORMIR D
The seat in our new Upper Class¨ Suite converts into the largest fully flat bed in business class. This has generated a lot of excitement. Should this excitement happen to manifest itself in the form of an occasional light-hearted practical joke, Virgin Atlantic Airways formally recommends not getting caught. D Note: A glass of lukewarm water is available upon request. El asiento en la nueva suite Upper Class est dise ado para extenderse completamente y formar la cama m s espaciosa disponible en business class. Esto ha generado mucha emoci n. En el caso de que esta emoci n se manifieste en forma de una travesura casual, Virgin Atlantic Airways les recomienda que no se dejen ver. D Atenci n: Un vaso de agua tibia est disponible al pedirlo.
fn ids rds+ fn
SL
Boston ¥ New York ¥ Newark ¥ Washington DC ¥ Orlando ¥ Miami ¥ Las Vegas ¥ San Francisco ¥ Los Angeles
D Pajama Party Policy
D Pol tica de ÒPajama PartyÓ
Just because youÕve changed into your complimentary Sleep Suit doesnÕt mean itÕs time for bed. Featuring an ottoman to seat a guest, itÕs okay to invite people to your Suite. However, we do not recommend inviting everyone in Upper Class¨ back to Òyour placeÓ to listen to music, watch movies or send crank text-messages to other passengers.
El que se haya cambiado la ropa y ahora tenga puesto su nuevo par de pijamas cortes a de la aerol nea, no significa que es hora de dormir. Con el asiento adicional, puede compartir con otros pasajeros en su suite. Sin embargo no recomendamos que invite a todos los pasajeros en Upper Class a su suite para escuchar m sica, ver pel culas o enviar mensajes de texto traviesos a los dem s pasajeros.
Please: no bouncing, somersaults or pre-bedtime belly flops.
D Complimentary Monster Check Passengers who cling to an irrational fear of scary monsters or large spiders hiding under their beds should ask for assistance. A flight attendant will make a quick check while converting your Upper Class Suite into a fully flat bed, complete with fluffy pillow and comfy duvet. Wait for a thumbs up signaling Òall-clear.Ó
©2004 Virgin Atlantic Airways. Not all products/services available on all flights.
D Bed & Breakfast Spend a lazy morning lounging in bed. Flight attendants will serve you breakfast while you enjoy up to 43 video and audio channels or read the paper. Unfortunately, airline regulations restrict cabin crew from administering a morning cuddle.
D Holding OneÕs Horses
Por favor: no salten o hagan volteretas antes de la hora de dormir.
D Verificaci n Gratuita de Monstruos Aquellos pasajeros que sufran de un temor irracional hacia monstruos o ara as gigantescas que se esconden bajo la cama, deben pedir ayuda. Uno de nuestros asistentes de vuelo verificar r pidamente mientras convierte su suite Upper Class en una c moda cama, completa con almohada y edred n. Espere la se al especial para asegurarse de que todo est bien.
D Hospitalidad Completa Pase una ma ana relajante acostado en la cama. Asistentes de vuelo le servir n desayuno mientras disfruta de hasta 43 canales de v deo y audio o lee el peri dico. Desafortunadamente, las directrices de la industria proh ben que los asistentes de vuelo le den un abrazo ma anero.
Upper Class Suites are rolling out across our fleet. Your patience is appreciated.
OKD@RD CN MNS QDLNUD EQNL L@F@YHMD
farming region. The city’s two businesses were defense and agriculture, which took the biggest hammering when the Soviet Union collapsed. Yet today Voronezh is thriving. Industrial production rose by 10% last year, while real incomes were up by 13%. The city’s defense plants have switched to civilian production. Even more impressive is the explosive growth of small and midsize businesses in the region. Sergei Naumov, who heads the local branch of Opora, a small-business lobbying organization, says that the province of Voronezh now boasts 600,000 small businesses, a twofold increase in the past three years.
SLASHING RED TAPE much of the credit for this renaissance belongs to Governor Vladimir Kulakov, who has promoted small businesses and cracked down on bureaucratic corruption. Even journalists and civil liberties groups give him high marks, despite his background as a kgb general. “Considering his background, he’s a person with completely liberal views,” says editor Dmitri Dyakov of the Voronezhsky Kurier. There’s still a lot more for the reformers to do. A few weeks after Putin’s March reelection, he announced that he would raise taxes on oil companies while cutting pay-
roll taxes for all other companies by onethird. One of his biggest goals now is to slash red tape. Putin aims to pare the number of bureaucrats by 20%. And he plans to cut the number of licenses and permits required to register and run a business. It’s these economic moves that SHOPPING MALL catch Russians’ at- The assortment tention. In a March of retail goods is poll by the Levada expanding fast Center, a leading Russian pollster, just 3% of citizens criticized Putin for failing to defend democracy and political freedoms. That compares with 34% who criticized him for the war in Chechnya and 24% who think he’s not doing enough to fight terrorism. Russians overwhelmingly voted to reelect Putin. “We have an electoral monarchy, but we elected him ourselves,” declares Boris Prasolov, chairman of the Social Chamber of the Voronezh Region. This “monarchy” does have its critics—and despite the government’s con-
trol of the broadcasters, their comments are heard. The print media slam everything from the infringement of civil liberties and the war in Chechnya to the President’s persecution of Khodorkovsky. Even Russians who would prefer a more liberal leader accept Putin. “When Putin was elected the first time, everyone was afraid that he would start arresting a lot of people. But the only one he arrested was Khodorkovsky,” says Moscow psychologist Masha Kapitza. To many people, Putin’s crackdown on Khodorkovsky looks less like an attempt by the state to reassert its direct control over business and more like part of a drive to break the excessive power of the oligarchs. “Big Business will exist, but it
PUTIN’S REFORM REPORT CARD The President has already pushed through important reforms . . .
. . . but the next phase will be much tougher
FIRST TERM
SECOND TERM
(2000-03) TAXES Cut and simplified the tax rates to encourage payment and reduce the burden on business. The principal changes: a flat 13% income tax and a low 24% profits tax. Tax revenues have risen sharply.
(2004-08) BUREAUCRACY Putin wants to slash the number of government employees to cut down on corruption and stop functionaries from smothering business. Within days of his reelection, he reduced the number of ministries from 30 to 17.
LAND Abolished serious restrictions on private land ownership, a key symbolic break with the Communist past. Farmland can now be bought, sold, or mortgaged for the first time since the 1917 Revolution, kick-starting investment in agriculture. BANKING Appointed a new team to head the central bank and reform the banking sector. Lending and retail deposits are growing fast, and a new law, setting up federal insurance for private deposits, should speed growth of banks and improve their regulation. PENSIONS A new system is designed to encourage private pension funds and generate long-term capital for Russia’s financial markets. LEGAL AND JUDICIAL Overhauled commercial legislation, pushing through new laws in labor relations, customs, trademarks, and bankruptcy. The changes create a clearer legal environment for business. Putin has also supported reforms to the court system, designed to make judges more accountable and reduce corruption.
FINANCIAL SECTOR A new law on mortgages will make it easier for banks to reclaim mortgaged property. All Russian companies and banks will have to adopt international accounting standards by 2007. NATURAL MONOPOLIES Putin plans to break up and partially privatize the electricity and railroad industries. The gas industry will stay state-owned, although Putin may raise prices toward market levels. MILITARY Russia has too many soldiers, they’re working with outdated equipment, and morale is at rock-bottom. Putin plans to move gradually from a large conscript army to an allvolunteer force. TRADE Putin aims to enter the World Trade Organization, to increase Russia’s access to global markets and improve its image among investors. The European Union wants Russia to agree to hike domestic energy prices before it joins. June 7, 2004 | BusinessWeek | 57
will not be able to buy the government,” says Finance Minister Kudrin. Many businessmen seem to support the new rules. “The current system represents the end of oligarchic capitalism. Business should not be involved in political issues,” says Vladimir O. Potanin, head of conglomerate Interros. Foreign investors are hardly deterred by the Yukos affair. Cargill is set to break ground on a new $102 million vegetable oil plant in Voronezh. On May 6, Alcoa Inc. announced it was buying two big aluminum plants. Lennart Dahlgren, country manager for Swedish retailer Ikea, which plans to invest $1.5 billion in Russia over
the next five years, says companies should think long-term. “I’m saying to all the big companies: ‘Just come here for a week, visit the shops, and see how people spend.’ ” In many ways, Putin’s rule is much like that of the czars of old. The people trust him, and the elites know they better get along with him. Dmitri Trenin, senior associate at the Carnegie Moscow Center, argues this neo-czarism needs time and further capitalist development before it can mature into a full democracy sustained by a politically active middle class. “Democracy in Russia will not grow out of wise heads or kind hearts. It will grow out of pocketbooks,” he says.
Putin could still go too far and renationalize Yukos and other big companies. Foreign investors would probably bolt. Another thing to watch is the way Putin behaves in the next election. If he changes the constitution to secure another term for himself, democracy will take a great leap backward. Most observers do not think Putin will blacken his legacy that way. The more likely prospect is that he will appoint a favorite as Prime Minister, giving that person a choice platform from which to run for President. Which Putin will prevail? The autocrat is on a roll. But don’t underestimate the power of the reformer to surprise. ❚❚
RUSSIA’S INDUSTRIAL GIANTS GAZPROM
LUKOIL
CEO: Alexei Miller Prospects: Putin has ruled out radical restructuring of this behemoth, which owns a quarter of the REVENUES world’s gas reserves. But Putin backs lifting BILLION restrictions on foreign ownership of Gazprom shares. He will probably reach a deal with the EU over domestic gas prices, which the EU says Russia must hike before joining the WTO.
$27.1
TNK-BP Controlling Shareholders: BP PLC (50%); Mikhail Fridman’s Alfa Group and Viktor Vekselberg’s AccessRenova (50%) REVENUES Prospects: The No.3 oil outfit was BILLION formed last year when BP invested $7 billion to acquire a 50% stake in the Russian oil company TNK, owned by Fridman and Vekselberg. BP is continuing to up its investments in Russia.
$9.8
58 | BusinessWeek | June 7, 2004
YUKOS
President and Controlling Shareholder: Vagit Alekperov Prospects: The government plans to privatize its remaining 7.6% stake in REVENUES Russia’s largest oil company. BILLION It’s likely to favor a sale to a foreign investor—ChevronTexaco and ConocoPhillips are rumored to be in the running. Following a tax investigation in 2002, Lukoil agreed to stop using tax havens to cut its tax bill.
$23.1
SURGUTNEFTEGAZ Controlling Shareholder: Vladimir Bogdanov Prospects: The No. 4 oil company isn’t popular with minority investors, REVENUES who accuse Surgutneftegaz of BILLION poor corporate transparency and bad management. The Kremlin seems to like it: Putin has praised Surgutneftegaz’ socially responsible attitudes, which include good pay for workers and investment in the community.
$7.7
Controlling Shareholder: Mikhail Khodorkovsky Prospects: The No. 2 oil company is at the center of a test case of Putin’s relations REVENUES with Big Business. The BILLION government says Khodorkovsky and his partners defrauded the state of taxes and privatization revenues. A big question is what will happen to the 40% stake in Yukos owned by Khodorkovsky, who was imprisoned in October.
$16.3
SIBNEFT
UNIFIED ENERGY SYSTEM CEO: Anatoly Chubais Prospects: The national electrical monopoly, 51% stateowned, needs billions to REVENUES rebuild a crumbling power grid. BILLION With Putin’s support, Chubais plans to break up UES into privately owned generator and distribution companies. But the government keeps changing its mind over how the pieces will be sold.
$13.1
NORILSK NICKEL
Controlling Shareholder: Roman Abramovich Prospects: The No. 5 oil company aborted a megamerger with Yukos late last year, and the REVENUES two companies are still wrangling BILLION over the terms of the break-up. France’s Total has confirmed that it is vying for a large minority stake in Sibneft. ChevronTexaco is also said to be interested. The Kremlin says it would welcome a deal.
$6.6
Controlling Shareholder: Vladimir Potanin’s Interros Group Prospects: The world’s No. 1 producer of nickel and palladium REVENUES caused the Russian stock BILLION market to plunge in April when rumors swirled of Potanin’s arrest. In fact, Potanin has been careful to avoid controversy. The state auditor has said Norilsk has nothing to fear. But investors are jittery all the same.
$5
(clockwise from top left) photographs by maxim marmur/ap/wide world; vladimir davidov/capital’s eye; grigory tambulov/kommersant; anatoly mitkov/capital’s eye; oleg nikishin/getty images; rebecca naden/pa photos; geoffrey smith/ap/wide world; dmitrii tchebotaev/reflexnews
News International Business
News International Business RURAL SCHOOL Education is a top priority for the Congress party
NEW RULERS, FRESH DOUBTS How will India’s shaky coalition government fund its promises? pencer white isn’t convinced. Investor jitters over India have calmed considerably since the Indian National Congress party installed well-known reformers in top posts after its May 13 election victory over the right-wing Bharatiya Janata Party. But White, chief Asia equity strategist for Merrill Lynch & Co., has still cut the India exposure of his
S
60 | BusinessWeek | June 7, 2004
emerging-market funds from 6.5% to 4.5%. For the past year, “India has been the jewel in the crown,” he says. “Its attraction was not only great companies but also a government that was creating more options for foreign investors and moving away from running state assets.” Now, White fears, India will slow privatization and reform of stifling labor laws. Such skepticism illustrates the paradox facing the new government.
India is amid its greatest boom in decades, and two economists with impeccable reformist credentials lead the incoming team: Prime Minister Manmohan Singh and Finance Minister Palaniappan Chidambaram. Yet the markets are cutting Congress little slack. Despite a recent rally, stocks haven’t recovered from a steep, post-election selloff. A big reason is fleeing foreign investors, who have pumped a record $10 billion into Indian equities since last year.
UNTESTED COALITION investors have reason for caution. The Congress-led government is an untested coalition of 18 leftist and regional parties that swept into power promising greater resources for education, health care, irrigation, and other programs needed to lift the 650 million rural population out of poverty. Politicians in several financially strapped states have set off alarms by promising more subsidies—moves that Singh has denounced. So far, the government hasn’t answered the biggest question: Where will the money come from? Federal and state governments are staggering under fiscal
robert nickelsburg/getty images
INDIA
News International Business
TEMPLE BEGGARS Hundreds of millions live in poverty
62 | BusinessWeek | June 7, 2004
to spin off big stakes in oil, gas, and auto companies. Before the election, the government had slated RED INK Federal and state FINANCE CHIEF 240 state-controlled governments will likely have a CHIDAMBARAM companies for possicombined budget deficit of 9% of gross domestic product this year. And ble privatization. Investors are most insince official debt stands at 82% of GDP, there’s little room for new terested in such borrowing. outfits as telecom company mtnl, aluTAX RECEIPTS Collections in India are minum maker Nalco, notoriously low, with many and the Shipping companies, small businesses, and Corp. of India. But farms paying no taxes. Also, Congress Singh says he will The new has pledged not to hike rates. only sell money-losgovernment INVESTOR JITTERS Foreigners ers. And many are in promises greater pumped $10 billion into Indian poor states such as spending on social equities last year. This will likely fall Bihar and Bengal, because of worries over new policies. services and where politicians use them to dole out infrastructure. But ASSET SALES Last year the government raised $3.5 billion by patronage. Subir it faces serious selling off state companies, but Gokarn, chief econofinancial Congress now says it will slow mist of rating agency constraints: privatization. Crisil Ltd., says such Data: Institute of International Finance operations are only panies and on manufacturers. The gov- worth the land they stand on. Deficit hawks are more worried about ernment is starting to tax information technology companies on domestic earn- profligate state governments. A day after ings and will soon tax exports. But to get the election victory, Y.S. Rajasekhara more companies on the rolls, it must over- Reddy, the new Congress chief minister come powerful lobbies and implement bet- for the southern state of Andhra Pradesh, promised free electricity to farmers. ter systems to monitor small businesses. New Delhi could make a bigger impact Economists estimate that would boost if it introduced a value-added tax, which power subsidies by 20%, to $475 million. imposes levies on the production and dis- Politicians in neighboring Tamil Nadu tribution of goods and services. In Europe then hiked power subsidies by one-third. There are some bright spots. The Conthe vat raises more revenue than would sales taxes. A tax-reform commission gress coalition inherited a strong econoheaded by Finance Ministry official Vijay my with $114 billion in foreign reserves, up from $40 billion three years ago. India L. Kelkar in 2002 endorsed the vat. The northern state of Haryana already has a relatively high savings rate of 23%. uses the vat and has And last year, low interest rates helped boosted tax revenues states retire $14.2 billion in loans owed by 30%, Kelkar says, the central government. This trimmed the while states such as deficit a bit. And although India’s public Kerala, Maharashtra, debt load is high at 82% of gdp, it has Karnataka, and Pun- been able to finance it through local instijab plan to implement tutions, rather than rely on foreign marit this year. If used na- kets. “The banks are flush with liquidity,” tionwide, the vat reasons Standard & Poor’s sovereign ratcould yield $20 billion ings analyst Joydeep Mukherji. “So annually in govern- there’s no risk of a crisis.” This fiscal fix won’t be resolved ment revenue. Congress hasn’t stated its overnight. The best the financial community can hope for is that the deficit keeps position. Business also hopes moving in the right direction rather than that Congress at least deteriorate under the new government. will continue to divest And investors? They’d better keep a close small stakes in state eye both on reformists in New Delhi and companies. After years hungry politicians in the states. ❚❚ –By Manjeet Kripalani in Bombay, of slow progress, the with Pete Engardio in New York bjp in 2003 managed
India’s Fiscal Crunch
(top to bottom) photographs by gurinder osan/ap/wide world; getty images
deficits equal to 9% of gross domestic product, one of the highest levels of government debt in the world. Yet Congress already has ruled out two obvious sources of new revenue: major sell-offs of state assets, which last year netted $3.5 billion, and tax increases. Protectionism is out, too. “In today’s environment, one can’t increase taxes or hike import tariffs or close the doors to foreign direct investment,” says Jairam Ramesh, the party’s economic adviser. What’s more, with interest rates and oil prices rising and investor sentiment for emerging markets on the wane, the global climate isn’t as friendly to India as it was in 2003. This is why analysts anxiously await the budget that Chidambaram, who helped put India on firmer footing during a previous stint as Finance Minister in the mid-1990s, is to unveil in July. So far, Congress officials have released few details about how they will finance greater social spending. Observers aren’t expecting miracles. India has lived with high budget deficits for 15 years, and neither the bjp nor Congress before it made much headway in reducing them. “The problem with the budget is hard to fix because it’s structural and has a lot to do with the political dynamics of India,” says Gregory Fager, Asia/Pacific director at Institute of International Finance Inc., a Washington think tank for the banking industry. New Delhi can do many things to whittle that problem down, though, if Congress has the political will. For example, it could trim generous food and fertilizer subsidies, slash overstaffed bureaucracies, and use federal fund transfers to coax spendthrift states to do the same. The government also could find ways to get more companies to pay taxes without chilling investment. Despite a maximum 35% rate for corporations and 30% for personal income, India collects just 14% of gdp in taxes, a skimpy rate by world standards. That’s because most farmers, small businesses, and rapidly growing service companies pay little or nothing, thanks to exemptions or evasion. As a result, the heaviest burden falls on salaried employees at big com-
News International Business sign studio in southern France, Toyota’s recent models look distinctly Mediterranean. Its Yaris, which starts at $12,000, exudes Latin flair with its cute snout and peppy stance. Toyota’s new compact minivan, the $25,000 Corolla Verso, matches the avant-garde styling pioneered by French and German rivals. “To me, Toyota has a dynamic and cool image,” says Celine Massonaud, a 37-year-old decorator who lives outside Paris and recently bought a rav4 sportutility vehicle.
YARIS IN PARIS Whimsical design from a French studio
BENCHMARK FOR EFFICIENCY
AUTOS
european auto makers will come under increasing pressure from efficiency gains Toyota is securing with its Valenciennes facility. The compact, star-shaped factory features a production area with limited space for parts or components. The 21⁄2 hours’ worth of inventory on hand is lower than at any other Toyota factory in the world. “Some Toyota engineers said this plant couldn’t work,” recalls Leroy. “They said if we had any problem, it would stop the lines.” The daring design VITAE JUSTO VEST was a hit. By putting every production ibulum ornare process under one roof, Toyota cut the investment required for the plant by 40%, to $732 million. The thin inventory acts as a warning when things go wrong, since backlogs or rapidly depleted stacks of the others badly,” says Peter Soliman, components are immediately noticeable. partner at Booz Allen Hamilton’s DüsselToyota’s biggest challenge in Europe is dorf office. no longer products, but brand image. AlSoaring sales are also helping Toyota’s though the Japanese giant regularly ranks bottom line. European revenues rose first in a variety of quality surveys across 35.3% in 2003, to $19.5 billion, while op- Europe, consumers don’t yet perceive Toyerating profit soared nearly ninefold, to ota as the quality leader. “That’s our No. 1 $654 million. Behind the sales surge are headache,” says Toyota Motor Europe heavy investments in local production—a Chief Executive Shuhei Toyoda, one of the strategy Toyota has followed with great founding family scions. But as Europeans success in the U.S. Half the Toyotas sold in see more Toyotas, opinions are changing. Europe are built in Britain, France, and “The people I know who have one told me Turkey. In 2005, when a joint-venture they never had any problem even after two plant with psa Peugeot Citröen starts op- years,” says Farhat Daouadi, a 49-year-old erations, that number Parisian taxi driver who will rise to 60%, nearly exchanged his Renault matching the level of for a Toyota Avensis LOVE THOSE TOYOTAS local production in the Verso diesel minivan. THOUSANDS U.S. market. By 2010 900 Twenty years ago, EuroANNUAL VEHICLE the company aims to pean auto execs trooped SALES IN EUROPE sell 1.2 million cars in 600 to Japan to learn how to Europe, matching Peubolster quality and geot and Ford Motor productivity. Now, at Co. “People are taking 300 home, they’re learning serious notice, but no how tough the Japanese one has a good plan to can be. ❚❚ 0 combat [Toyota],” says –By Gail Edmondson '95 '96 '97 '98 '99 '00 '01 '02 '03 '04* *Company sales target Booz Allen’s Soliman. in Valenciennes with Data: Company Reports Thanks to its new deAdeline Bonnet in Paris
TOYOTA’S NEW TRACTION IN EUROPE t’s monday afternoon inside Toyota Motor Corp.’s Valenciennes plant in northern France, where workers bend over the assembly line to meet demanding hourly production targets. Demand for the plant’s Yaris subcompacts is outstripping the 920-per-day output. So Valenciennes has hired 500 more workers and is adding a third shift for round-the-clock production—a first in Toyota manufacturing history. “We produce a car every minute. That’s the maximum. The solution is to try three shifts,” says Didier Leroy, senior vice-president of Toyota Motor Manufacturing France. Toyota, long a marginal player in Europe, is suddenly becoming a fearsome market force. Sales in Europe rose 20.6% in the first four months of this year, following a 10.4% leap in 2003, to 835,000 cars—a dramatic performance given that the European market shrank by 1.3% last year. Those gains pushed Toyota’s market share in Western Europe to 5.3% in April, up from 4.5% a year ago, overtaking Mercedes and Audi and edging close to Italy’s Fiat. “Every point Toyota gains is hurting
I
64 | BusinessWeek | June 7, 2004
photograph by stuart isett/polaris; chart by laurel daunis-allen/bw
Stylish models and an innovative factory have Renault, Fiat, and others worried
News International Outlook EDITED BY ROSE BRADY
France’s Crackdown On Islamic Radicals WHEN HE WAS French Foreign Minister early last year, Dominique
virginia mayo/ap/wide world
de Villepin forcefully led the fierce diplomatic opposition to U.S. and British plans to attack Saddam Hussein. Now, as his country’s Interior Minister following a government reshuffle in April, Villepin is applying the same bold style to countering Islamic radicalism at home. Shortly after taking on his new job, Villepin quickly moved to deport a Lyons-area Islamic preacher. More recently, Villepin has opened deportation proceedings against other radical preachers, including a prominent Turkish religious figure in the Paris area. It’s part of a new, more intrusive government policy toward Islamic fundamentalists. Although France has quietly deported other Islamic radicals in the past, Villepin is now issuing strident statements that imams preaching in France need to “know our language and our culture”—or face expulsion. “We have to distance ourselves from foreign extremists, who don’t have any place on our soil,” Villepin said in an early-May interview with Paris daily Le Figaro. Some dismiss Villepin’s tough talk as a bid to burnish his image as rightful heir to President Jacques Chirac in advance of presidential VILLEPIN Will elections in 2007. But efforts lead to the muscular rhetoric is less— or more— in line with a Eu- extremism? ropewide crackdown. Late last year, Italy began deportation proceedings against Senegalese, Moroccan, and Algerian Islamists. In April, Home Secretary David Blunkett stripped the British citizenship of Egyptian-born radical preacher Abu Hamza. Yet France is the key country in the uneasy coexistence between security-conscious European governments and Islamic minorities. Close to 10% of France’s population is of Muslim background, a higher share than for any other country in Europe. Thanks to successive waves of immigration to France since the 1950s,
Muslims are second only to Roman Catholics as France’s leading religious group. It is also the fastest-growing.
“Strong Terrorist Threat” paris has adopted a two-track approach to Muslim residents since September 11. It helped them set up a “French Council of the Muslim Cult” to act as the community’s official representative in government dealings. At the same time, tougher laws limit Islamic headgear in schools, while authorities are tightening surveillance of the mosques. The Interior Ministry says 27 Islamists have been deported since late 2001, and several terrorist cells have been busted. “We’re facing a very strong terrorist threat,” says ministry official Véronique Guillermo. But Villepin’s plan to promote an Islam respectful of French secular traditions will be difficult to carry out. Up to half of France’s 1,500 imams are foreign, and many don’t speak French well. Training Francophone imams will take years, and Muslim communities may not accept them. “It’s naive to think we can have a French Islam with government training,” says Vincent Geisser, an Aix-en-Provence researcher on Muslim communities. A more effective policy of countering radicalism, Geisser thinks, is to make French political life more representative. Not one of France’s 577 deputies or 313 senators has a Muslim background. The risk Villepin runs in stressing the stick over the carrot is that French Muslims will be more—not less— tempted by radicalism. ❚❚ –By John Rossant, with Adeline Bonnet, in Paris
GLOBAL WRAPUP GERMANY’S PRESIDENT WILL PUSH REFORM the election of former International Monetary Fund President Horst Köhler as German President is a sign that the conservative Christian Democratic Union is setting the agenda, even though the centerleft Social Democrats control government. By virtue of its majority in the Parliament’s upper house, the cdu was able to control the May 23 vote: The President is elected by both houses as well as various representatives specially chosen for that purpose. But can Köhler, an outspoken advocate of economic reform, use the largely ceremonial presidency to sway a reluctant public? His influence will be greatest if the conservatives, led by Angela Merkel, regain control of government, which could happen as early as next year. Köhler will speak more frankly than other politicians about the need for painful changes such as reduced job protections. He could thus stake out positions that his own party—which has a mixed record on reform—would have trouble repudiating later.
ISRAEL AND EGYPT BOOST ENERGY TRADE economic ties between Israel and Egypt could improve in the wake of a major gas deal between the countries. On May 23, Israel Electric Co. agreed to purchase $2.5 billion worth of Egyptian natural gas over the next 15 years from East Mediterranean Gas Corp., an Egyptian-Israeli consortium. Israeli Prime Minister Ariel Sharon backed the deal despite lobbying from British Prime Minister Tony Blair for a contract with British Gas and its Palestinian partners for supplies from a field located off the Gaza Strip. June 7, 2004 | BusinessWeek | 69
Working Life E-tailing
way to balance work and family or many high-pow- ing everything from fashion to farm ered women who put “for- equipment, with the highest-sellers mer” in front of their titles to grossing up to $1 million a month. Of the stop out and stay at home estimated 48% of these sellers who are with their kids, selling stuff on women, many are “mompreneurs”—coreBay often starts as a dal- porate stopouts who have found in eBay a liance, a means of purging way to tap into an international marketclosets of never-worn mistakes and strip- place from their kitchen tables and finesse ping the guilt from all those forays to Fi- a saner work-life balance at the same lene’s Basement and the ever-seductive time. It’s no coincidence that the rise of Prada and Gucci outlets. By picking up an the eBay mompreneurs comes as more extra pocketbook here, a pair of thrift- highly educated women are choosing to store-priced stilettos there, these moms in turn flip the WHENEVER items on eBay—essentially WORK Wood, shopping their way to earnings. with son Ever since founder Pierre M. Landon, Omidyar started the global makes her own schedule bazaar by selling a broken laser pointer for $14, the eBay economy has given Mayan villagers a chance to sell their pottery to Park Avenue princesses and rural Kansas collectors an opportunity to vie against Christie’s. Now, with the help of wireless technology, digital photography, and friendly postmen, eBay is becoming a hot new career for managerial-class moms. “Flexibility is a big part of it. But they also get the opportunity to do something they enjoy,” says eBay Inc. ceo and President Margaret C. Whitman. “Often these women are trading in areas they have always been passionate about.” Today, upwards of 430,000 people in the U.S. alone— more than are employed worldwide by General Electric Co. and Procter & Gamble combined—earn a full- or part-time living on eBay sell-
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MEGASELLERS on ebay, however, says Marsha Collier, author of the bestselling Starting an eBay Business for Dummies, “there’s no commuting. No back-stabbing. No office politics. No glass ceiling. No need to waste gas. No waiting in line at the post office, because they’ll pick up for free. I mean, how much better could it be?” For former Dow Chemical Co. engineer Kim Kincaid of Leavenworth, Kan., not much. She began selling antiques on eBay in 1998 as a hobby (her first coup: a $7.50 Pillsbury Doughboy cookie jar that sold for $75). Today she moves at least $100,000 worth of antiques and rare books a month. But she is still able to arrange her schedule around her four- and 10-year-old sons. “When women look at the workforce once they have children,” says Kincaid, who now runs the business with her husband, sister, and parents, “they say: ‘I’m going to be working for $2 an hour after child care and not having all that time with my kids.’ ” Ann Whitley Wood, a Stanford University grad who has a law degree from the University of Texas at Austin, quit her job as an appellate attorney at Dallas blue-chip firm Haynes and Boone in 2000 after her second of three children was born. She simply couldn’t figure out a way to make the job work part-time. Yet as a buyer on eBay, she was dumbfounded by the volume sellers were doing. So she started experimenting. (Her first sale: an old evening gown hanging in her closet, $400). In 2002, she got more professional, scouring last-call sales for Lilly Pulitzer dresses and Kate Spade handbags. She now makes a decent part-time income. The idea of selling on eBay came to Elise Wetzel as a way to raise funds for her kids’ preschool. Holding a virtual garage sale on eBay seemed like a better idea than pushing overpriced candy or tired wrapping paper. Wetzel, a former director of marketing at
nancy newberry
The Rise of the Mompreneurs EBay has given corporate dropouts a new
stay at home with young children. The percentage of working women with children under the age of one dropped from a record 59% in 1998 to 55% in 2002, after rising steadily for 30 years. Some see the decrease as a referendum on the work-life balance. As in, it doesn’t exist.
The Corporation Strategies THE 300 Its massive chrome grille turns heads
Going, Going… Gone! Managerial-class moms who are ditching Corporate America are finding a career on eBay. Some of the reasons:
IDEAL “STOP-OUT” JOB No more hour-long commutes, inflexible bosses, and office politics ATTENTION TO DETAIL A common trait among women that can hurt them in corporations becomes a major plus online ULTIMATE EQUALIZER Small sellers can use their higher level of customer service to compete with big companies SUPPLY-CHAIN SHOPPING Trips to outlet malls and last-call sales double as a way to build inventories for online sales FAMILY BONDING Many women enlist their kids, siblings, parents, and spouses in the business Data: BusinessWeek; Marsha Collier, Starting an eBay Business for Dummies; Julia Wilkinson, eBay: Top 100 Simplified Tips & Tricks
Unilever, quit her job after attending her Northwestern University Kellogg School of Management reunion in the summer of 2002. Of all the women there who had two kids, she was the only one who was still working. “It was like I missed the memo,” she says. After the school fundraiser, she was hooked and today has an eBay business called iSold It, which is fast developing into a chain of online consignment stores. EBay, experts say, is a welcome, recession-proof option for many women, especially since it makes a virtue of the very traits that are often perceived as weaknesses in Corporate America. Research shows, for example, that women’s detail-oriented strengths—as well as their tendency to bear down and have lunch at their desks—are impediments to advancement. On eBay, those so-called shortcomings become a competitive advantage, allowing women to provide the kind of high-touch customer service—the Holy Grail among buyers— that the big retailers just can’t give. The real test now will be how the eBay entry on the updated résumé plays when they try to return to the corporate world. That is, if they even want to. ❚❚ –By Michelle Conlin in New York
For more mompreneur profiles, go to www.businessweek.com/magazine/extra.htm 72 | BusinessWeek | June 7, 2004
Chrysler Puts Some Muscle on the Street Its fast-selling new performance sedan is a star in hip hop videos and suburbia hen chrysler launched a major new family sedan program, codenamed lh, in 1992, the joke in Detroit was that it stood for “Last Hope.” The auto maker was in deep financial trouble and desperately needed a success. It worked, for about four years: The stylish Dodge Intrepid, Chrysler Concorde, and Eagle Vision gave the company a boost in the mid ’90s. But, plagued by quality problems and stiff competition, Chrysler gradually saw its car share slip back, from nearly 10% in 1996 to 6% today. Now, Chrysler is taking another shot at car glory as it rolls out its newest sedan: the boldly styled, muscular Chrysler 300. The stakes couldn’t be higher. In the past three years, Detroit’s No. 3 auto maker has racked up operating losses of more than $4.5 billion. ceo Dieter Zetsche has vowed that Chrysler will break even this year and is counting on its cars to help it do so. But his grand plan to
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move the Chrysler brand upscale and free it from the industry’s brutal price wars got off to a stumbling start last year. The new Pacifica minivan was panned as too expensive, underpowered, and poorly advertised. Chrysler’s swoopy Crossfire coupe fared little better. Rising gas prices are putting even more pressure on the company’s core truck lineup, which faces a glut of competition. And with parent DaimlerChrysler beset by quality problems at its flagship Mercedes-Benz division and planning to dump its 34% stake in Mitsubishi Motors and 10.5% stake in Hyundai Motor, the pressure is on to finally turn things around in Auburn Hills. The good news is this time Chrysler appears to have the right cars to gain some traction. The new 300 sedan and Dodge Magnum sport wagon have been a hit with critics and dealers. Starting with their massive egg-crate chrome grilles, they made an instant impression. “This mobster in a pinstripe may just save the franchise,” proclaims the headline on Car and Driver’s review of the high-end
Zetsche vows that Chrysler will break even this year
The Corporation Strategies DODGE MAGNUM The wagon, which starts at $22,500, will hit showrooms in June
300C. Hip hop artists have adopted the head-turning 300C as their new favorite ride. The car even wins raves from Ford loyalists at BlueOvalNews.com, an unauthorized Web site for Ford devotees, where 46% voted the 300C “excellent.” Says Wes Brown of auto consultant Iceology: “It makes the majority of vehicles on the road look like blobs.”
NICE PRICE chrysler has also avoided pricing itself out of the market. The 300 sedan, which went on sale in April, starts at $25,000. The Dodge Magnum, a sports wagon built on the same platform, hits showrooms in June and starts at $22,500. That has helped the new models get off to a fast start. The company already has sold more than 10,000 of the 300s and has orders for 55,000 more. Chrysler execs won’t divulge volume goals for the two cars, but auto forecasters expect the company to sell 155,000 to 200,000 in the first full year of sales. That’s about half what the top-selling
CAN THE 300 REVERSE THE SLIDE? Chrysler badly needs its new sedan to be a hit. Its share of U.S. car sales has been declining since its last new sedans came out in the early 1990s. chart by ray vella/bw
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PERCENT OF U.S. CAR MARKET
10 8 6 4 0 ‘93 ‘94 ‘95 ‘96 ‘97 ‘98 ‘99 ‘00 ‘01 ‘02 ‘03 ‘04* Data: Ward’s Automotive Reports
*THROUGH APRIL
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Toyota Camry sells, but better than the 130,000 lh cars Chrysler sold last year. Chrysler execs hope the strong reception gives credibility to their vow to sell leading vehicles in key high-volume segments. Says Zetsche: “This is a bold target, and the 300C makes people [think] this might be realistic.” No one is expecting the 300 to become a once-a-decade hit on the scale of Chrysler’s first minivan in the ’80s or the Ford Mustang in the ’60s. But with few other new Chrysler cars coming out in 2004—most of the company’s newproduct blitz is in pickups, suvs, and minivans—this is clearly Chrysler’s most important introduction in years. If all goes well, Chrysler will set the stage for an overhauled Neon small car scheduled to hit showrooms in the fall of 2005, followed by a replacement for the midsize Dodge Stratus a year later. “We are known as a truck company, with not much reputation for cars,” says Zetsche. “Changing that is very important.” It won’t be a slam dunk. The carmaker must ensure that the models don’t lose their appeal after the initial flurry of interest dies down. Dodge’s decision to offer only a wagon version of the Magnum may turn off customers looking for a family sedan, who will now find nothing larger in the Dodge lineup than the Stratus. Dodge won’t confirm widespread expectations that it will introduce a Magnum sedan next summer, dubbed the Charger. Chrysler also faces a challenge in persuading Americans of the advantages of rear-wheel drive. For drivers worried about how those vehicles handle on icy
roads, Chrysler will provide traction control and electronic-stability control on high-end versions and as options on others. But Chrysler isn’t the only U.S. auto maker that’s making a big push with new cars. The 300 and Magnum will face off against Ford’s latest family cars this fall when the Ford Five Hundred and Mercury Montego sedans and the Freestyle wagon arrive. At least Chrysler seems to be learning from its mistakes. Consumers were turned off by the sappy Pacifica ads featuring singer Celine Dion. The 300 is clearly being sold as a performance alternative to dull family cars. And no one would call the 300C underpowered. Equipped with a 340-horsepower Hemi V-8, the sedan can smoke most other autos in suburbia. It is gaining street cred, too. Rap artists 50 Cent and G Unit included a 300C in a recent music video. Says Iceology’s Brown: “This could be Chrysler’s Escalade.” Of course, all that horsepower might be a liability if gas prices stay up in the stratosphere. Here, too, though, Chrysler may have an answer: The biggest engine in the 300 and the Magnum is a more fuel-efficient version of Chrysler’s popular Hemi V-8. It comes equipped with displacement on demand, which cuts off half of the cylinders when extra power isn’t needed. That can improve fuel economy as much as 20%, resulting in combined city and highway mileage for both the 300 and the Magnum of 20.6 mpg. A muscle car that doesn’t gulp down gas? Chrysler might have a winner at last. ❚❚ –By Kathleen Kerwin in Detroit
Persuading buyers of the the virtues of rear-wheel drive may be a challenge
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security
Taking Action // Making Progress
>> Real progress is being made toward crafting specific solutions to security threats. The solutions are the result of cross-agency, public-private collaborations — perhaps the first faint draft of a blueprint that may be used to guide future efforts. Our collection of opinion pieces by distinguished and knowledgeable writers begins with the Hons. Gary Hart and Warren Rudman, who first sounded the alarm about the terrorist threat months before Sept. 11. What follows is a mixed bag: examples of solid progress on some fronts, distress about foot-dragging on others. The strong message: turning around our immense ship of state is no easy job. But turn it must, and turn it will…
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>> How Secure Are We?
Taking Action // Making Progress
homeland security
Gary Hart and Warren Rudman Co-chairs, U.S. Commission on National Security/21st Century Through some frightening times during the Cold War, we learned that there is no absolute security. Since terrorists demonstrated our vulnerability to attacks on the homeland at the dawn of the 21st century, our insecurity is now even more immediate. But this does not mean that more — much more — cannot be done to defeat those who hate us. The U.S. Commission on National Security/21st Century forecast terrorist attacks and urged coordination of our homeland defenses, in the form of a new Department of Homeland Security, eight months before Sept. 11. Few in the new Bush administration or in the Congress or in the media took our warnings and recommendations seriously. As we approach the third anniversary of Sept. 11, the lack of a sense of real urgency about homeland security is nothing short of appalling. The National Guard must be trained and equipped to prevent terrorist attacks and to respond to them if they occur. Instead, too many Guardsmen and -women are deployed in Iraq, and too many of them are “first responders,” local police and firemen in civilian life. So America is made doubly vulnerable. We are years away from having common databases and common communications systems among Federal border control agencies. Seaport security is lagging woefully. States and local communities are getting inadequate direction and guidance from Washington. Our political leaders are not urgently demanding protective action from Corporate America, particularly those critical infrastructure industries upon which our very national survival depends. The list goes on. Apparently the theory is that the dual wars in Afghanistan and Iraq will prevent future terrorist attacks. But these wars, especially in Iraq, are fueling recruitment by terrorist organizations. “Jihad” is the watchword among young men in refugee camps and among the unemployed on street corners throughout the Arab world. America must do more, and must do it more urgently, if we are to successfully prevent future terrorist attacks on our own homeland. The threat is immediate.
> > The Game Has Changed! Earl Agron, Director of Port and Container Security, APL Limited Before Sept. 11, security meant protecting cargo from damage and pilferage, and ships and people from accidents. Now, it also means protecting shippers’ supply chains from terrorism. But the goal is the same: to tackle the real risks while still allowing world commerce to flow smoothly. We have made considerable progress in building what amounts to a labyrinth to trap would-be terrorists.
Key components include government programs such as the Customs-Trade Partnership Against Terrorism (C-TPAT) and the Container Security Initiative, along with the Bioterrorism Act and newly installed radiation detectors at ports. In addition, the countries of the International Maritime Organization (IMO) have ratified the International Ship and Port Facility Security Code (ISPS). ISPS
AT&T Builds on a Legacy To Secure America’s Future AT&T’s support for homeland security precedes the formation of the Department of Homeland Security and continues as the company is set to provide services for a variety of critical security projects. AT&T recently won a follow-on contract from DHS’s National Communications System to provide priority calling services for officials during emergencies. First awarded in 1993, the system allows preemption of clogged networks with a special calling card. “Helping agencies understand the integration of complex technologies is one of our core capabilities,” says Lou Addeo, president of AT&T Government Solutions in Vienna, Va. AT&T plans to participate in upcoming homeland security projects, including: SPIRIT, a DHS technology integration program, eMerge 2, a program to implement enterprise-wide solutions at DHS, and OASIS, a Coast Guard modeling and simulation system. “We have a legacy of providing emergency telecommunications and networking services to several of the Homeland Security agencies,” says Addeo. “We’ve been entrusted to deliver the technology behind some of the government’s most highly specialized operations.”
requires detailed security assessments and plans for ports and vessels around the world. Two issues stand out. All trading nations naturally want to protect themselves, and so adopt security regulations. Country A issues rules for imports, while Country B regulates exports. Pretty soon, the rules conflict or become overly burdensome. Without coordinating regulations, we risk getting lost in a maze of administrative requirements and missing the bad guys altogether. The International Maritime Organization coordinated the rules for ships and ports. The World Customs Organization should do the same for cargo. Second is the question of whether security measures should be voluntary or mandatory. Voluntary measures have their place. But if something significantly improves security, why not mandate it? Requiring certain solutions
Taking Action // Making Progress
homeland security
SPECIAL ADVERTISING SECTION will keep security costs from becoming a competitive issue and will ensure that all maritime companies invest uniformly in security. That’s important, because terrorism is a global problem that needs global solutions. Governments and the maritime industry must continue to work together to create effective deterrents while still permitting global trade to flow freely.
> > Safety and Security Go Hand in Hand in Nuclear Power Infrastructure Dr. Nils J. Diaz, Chairman, Nuclear Regulatory Commission The Nuclear Regulatory Commission’s mission is to regulate the nation’s civilian use of nuclear materials to ensure the adequate protection of public health and safety. The NRC approaches safety, security, and emergency preparedness in the nation’s nuclear power infrastructure in an integrated manner and has directed the operators of this critical national asset to enhance its “defense-in-depth.” In dealing with a terrorist threat, these three approaches are characterized by interlocking relationships. For example, security concerns, including potential terrorist threats, raise many of the same issues involved in safety — for instance, avoiding and mitigating reactor accidents. Everything comes down to a single postulate: shut down the reactor, cool the core, and maintain barrier integrity. These are things we know how to do well and should be able to do whether faced with a terrorist act or a nuclear accident. The maxim is that what is good for safety is also good for security. Reactor safety features designed to address such events as tornados, hurricanes, fires, and floods also provide a high level of resistance to terrorist attacks. And, by the same token, these same structural features — supported by sound and visible protection measures — are powerful deterrents. To paraphrase former New York Mayor Rudy Giuliani, it’s harder to get into a nuclear plant than it is to get out of the Riker’s Island prison.
EMCOR: Making Sensitive Facilities Safe And Keeping Them That Way In today’s security-conscious environment, businesses and government agencies are acutely aware of the need to protect their assets against attack. Many have made incorporating security systems in both new construction and existing facilities a priority. EMCOR Group Inc., a global leader in specialty construction and facilities services across a diverse range of industry and market sectors, is called on to install and maintain detection and warning systems in some of the most sensitive locations in the U.S. Such systems “are much more sophisticated, cost-effective, and user-friendly than in the past,” says Frank T. MacInnis, EMCOR’s CEO. “The security systems we install and maintain range in complexity and provide enhanced levels of information.” EMCOR, based in Norwalk, Conn., recently installed access control at a major U.S. international airport, including a security system that scans incoming license plates. At the Pentagon, EMCOR installed an intelligent fire-detection system that can distinguish hazardous from benign substances. EMCOR also maintains a system that can secure 150 Washington, D.C., buildings and buildings in other U.S. cities with the push of a button.
In case of emergencies, substantial on-site and off-site mitigating measures can be taken. At the reactor site, these measures are generally considered part of reactor safety; off-site, they are part of general emergency preparedness. Thus, emergency preparedness works in a synergistic fashion with the other layers of security, protecting reactor fuel and coolant systems and containment. These barriers, each complementing the other, are designed, tested, and inspected to provide reasonable assurance that the
Pitney Bowes Delivers on Making Workplace Mail Secure In the post-Sept. 11 environment, including the anthrax scares of the following months, consider the havoc that would ensue in your workplace if an unknown powder spilled from an envelope. To prevent this nightmare scenario, many businesses and government agencies have turned to the Secure Mailing Solutions system from Pitney Bowes Management Services, Stamford, Conn. PBMS has taken the guesswork out of choosing the right bio-agent detection technology by evaluating dozens and selecting the best. Then, “we recommend a total, secure mail solution based on perceived risk, cost, and required delivery time,” says Judy Eckert, the company’s director of mail solutions. Pitney Bowes employees working at customer locations are prescreened through background checks. One objective is to establish single delivery portals at the client’s workplace, so that mail, packages, and freight all pass through a single gateway. “We provide the right people, following the right practices, equipped with the right technology,” says Rich Coakley, director of solutions design at PBMS.
Taking Action // Making Progress
homeland security
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public and the environment will be protected from radiological releases, regardless of the cause. The NRC is committed to ensuring that those who operate the nation’s nuclear power plants do so in a way that provides adequate protection to the public.
> > Securing the U.S. and Protecting Personal Liberties Daniel W. Sutherland, Officer for Civil Rights and Civil Liberties, Department of Homeland Security Sept. 11, 2001, was a turning point in our nation’s history. The homeland security effort began immediately, and continues in earnest today. We are strengthening security at airports; realigning our intelligence-gathering functions; improving the enforcement of our immigration laws; and better protecting our power and utility plants. And, President Bush courageously struck at the heart of terrorism by attacking its networks in Afghanistan and Iraq. The senior leadership of the Department of Homeland Security is committed to an important proposition: in all we do to enhance security, we must accomplish our goals in ways that protect our civil rights and civil liberties. Our core mission at DHS is not just to protect America’s assets — our buildings and airports and power plants — but to protect America and our way of life. This commitment is clear in the Department’s first strategic plan. The vision statement — given to all Department employees—establishes an important tone: “Preserving our freedoms, protecting America … we secure our homeland.”
The first guiding principle is to “protect civil rights and civil liberties.” The principle states: “We will defend America while protecting the freedoms that define America.” Policy-making across the Department is being affected by these principles, from projects relying on the collection of information about American travelers to the humane enforcement of immigration laws to the Department’s hiring practices. The Department is also using a unique model of decision-making. This Department, alone among cabinet agencies, has two senior leadership positions dedicated to civil liberties and privacy: the Officer for Civil Rights and Civil Liberties and the Chief Privacy Officer. These two officials assist the senior leadership of the Department to shape policies in ways that enhance security while protecting personal liberties. Secretary Ridge’s decision that these senior positions will report directly to him underscores the Bush Administration’s strong commitment to the idea that the protection of civil liberties will play a prominent role in the homeland security effort.
> > Terrorism, Technology, and America’s New Appeasers Dan Verton, Author of Black Ice: The Invisible Threat of Cyber-Terrorism
Six months after Secretary of Homeland Security Tom Ridge warned America’s high-tech industry at the inaugural National Cyber Security Summit in Palo Alto, Calif., that the nation’s electronic infrastructure presents “an attractive target for terrorists,” the nation remains shackled by inflexible thinking and blind to future threats. The true face of al-Qaeda and other SAP Answers the Call for Homeland Security terrorist organizations is one that few AmeriThe ability to deliver timely information into the right hands is cans have come to appreciate and accept. often the key to success, whether that information relates to the This is a thinking and technologically sophismilitary’s protecting citizens, first responders’ tackling an inciticated enemy that values formal training and dent, or businesses’ securing supply chains. education and that understands the critical “Total visibility allows for better response to threats,” says role that information technology plays in the daily operations of America’s economy and Steve Peck, president of SAP Public Services Inc., a Washington, national security. D.C., subsidiary of SAP AG, headquartered in Walldorf, Germany. The security appeasers want to SAP, a pioneer in enterprise, supply chain, and integration ignore the facts: al-Qaeda’s history of technologies, provides software that enables government and milistudying the use of modern technologies tary agencies, as well as private companies, to enhance security. and its reliance on operatives with degrees “We provide enterprises with the full finance, personnel, and in engineering; laptop computers seized training picture that helps homeland security efforts work,” says around the world that contained evidence John Barry, SAP vice president for defense and security. of al-Qaeda’s interest in the computer sysSAP’s NetWeaver is the key application platform for security tems that control the electric power grid and purposes. NetWeaver pulls data from diverse applications and other critical infrastructures in the U.S.; provides actionable knowledge to decision-makers. and the continued radicalization of young The U.S. Navy deploys SAP software to manage vessel mainpeople who are studying mathematics, tenance, and the results should make anyone feel more secure. computer science, and engineering. “Now two thirds of Navy vessels are active while one third are in Groups like al-Qaeda understand the dock, instead of the other way around,” says Peck. need to strike at America’s economy as a means to curtail U.S. military action overseas
Taking Action // Making Progress
homeland security
SPECIAL ADVERTISING SECTION and to reverse U.S. political support for Israel. To ignore this fact is to ignore the evolutionary nature of terrorist tactics and to appease those who think that all terrorists are, and will forever remain, a mindless horde of thugs living a hand-to-mouth existence in caves in Afghanistan. The Bush administration has tried rallying the private sector — which owns and operates more than 85% of the
Northrop Grumman Takes Pride In its Wide-Ranging Expertise “We do it all.” That’s how Dave Zolet, vice president, homeland security, at Northrop Grumman Corp., succinctly describes his company’s wide spectrum of homeland security activities. “Our focus has long been on national security and defense,” Zolet says. “Our activities extend from the undersea to space to cyberspace.” As an example of its activities, the Los Angelesbased defense giant is part of a joint venture that manages “Deepwater,” a broad-ranging modernization program that has been undertaken by the U.S. Coast Guard. The company also delivers satellite technologies to the U.S. Department of Defense and recently won a contract to supply the Department of Homeland Security’s secure data network with sensitive technology. Zolet describes Northrop Grumman’s approach as “holistic.” By this, he means that Northrop takes into account not just a particular project’s technical requirements but the full picture, in the context of customer policies, budgets, and missions. “The homeland security marketplace is here to stay,” Zolet says. “Our skills and capabilities put Northrop Grumman in a great position to lead.”
nation’s critical infrastructures — around its so-called National Strategy to Secure Cyber Space, released on Feb. 14, 2003. However, according to Richard Clarke, the former chief advisor to the president for terrorism and cyber security, the DHS has not followed up in a meaningful way to see if or how private industry is implementing the improvements called for in the strategy. To not accept the evolving nature of the terrorist threat is simply to wish it away. And hope is not a sound basis for a critical infrastructure protection policy in the 21st century.
law enforcement information. Under a new DOJ Law Enforcement Information Sharing initiative (LEIS), local, state, tribal, and federal law enforcement agencies (LEAs) will have access as never before to investigative information and other critical criminal intelligence. Attorney General John Ashcroft launched the initiative when he mandated a new proactive policy that law enforcement information held by DOJ will be shared with other law enforcement agencies unless specifically prohibited. The new policy and LEIS initiative will facilitate the detection and prevention of terrorist and other criminal activities and help provide effective, coordinated response. Currently, LEAs can access information held in federal databases relating to criminal histories. However, there is no unified capability to share key information relating to ongoing investigations or intelligence. In addition, with a few exceptions, there has been no automated access across law enforcement organizational boundaries to the information contained in thousands of standalone records management systems of individual LEAs. The LEIS initiative will address both these areas: providing state and local LEAs with new capabilities and services for accessing, analyzing, and disseminating investigative and intelligence information and enabling access by all levels of law enforcement (local, state, tribal, and federal) to information residing in separate, currently disconnected systems. A critical imperative in the development of the LEIS initiative is to protect citizen privacy by imposing and enforcing adherence to strict privacy policies and procedures. Three other guiding principles deserve special mention: first, presenting DOJ as a single, one-stop information sharing entity; second, promoting partnership among local, state, tribal, and federal law enforcement agencies; and third, closely cooperating with the Department of Homeland Security and other federal agencies.
Web Directory AT&T Corp. http://www.att.com EMCOR Group Inc. http://www.emcorgroup.com Northrop Grumman Corp. http://www.northropgrumman.com Pitney Bowes Inc. http://www.pb.com SAP http://www.sap.com
> > Department of Justice Creates New Law Enforcement Information Sharing Capability Vance E. Hitch, Chief Information Officer, U.S. Department of Justice The Department of Justice is embarked on fundamental transformation in the way it processes and shares critical
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SPECIAL REPORT
The 100 Best Small Companies
HOT GROWTH COMPANIES
86 | BusinessWeek | June 7, 2004
steve labadessa
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t’s no small feat to spot a great business opportunity in today’s fast-changing economy. Building a sustainable enterprise from that insight is even tougher. It requires speed, flexibility, innovation, and at least a little luck to thrive in the face of relentless competition. This year’s annual Hot Growth list of America’s fastest-growing small companies reveals an impressive lineup that has mastered that high-stakes game. Consider Las Vegas-based Shuffle Master Inc. Founded in 1983 by John Breeding, an entrepreneur who figured out how to make a reliable cardshuffling machine that allowed casinos to quickly and securely deal more hands, the company has cashed in big on the explosive growth of new casinos and the resurgent popularity of poker. That wasn’t enough for Shuffle Master. Breeding left the company in 1997, but current Chairman and ceo Mark L. Yoseloff is extending his company’s winning streak by plowing profits into finding new products. A former college professor with a doctorate in math from Princeton University, Yoseloff invests more than 12% of the company’s revenues in research and development, far more than most peers. Spending big has helped the company stay on top in its niche with an array of sophisticated new machines—the latest of which can quickly shuffle through a deck of cards and determine whether the deck is full. That saves casinos money by allowing them to open fewer new decks. The r&d has also led to a new line of business for the company: proprietary card games such as Let It Ride and Crazy 4 Poker, which the company licenses to casinos. Royalties from such games now make up half of revenues. “We’re doing a lot of things besides being that shuffler company,” says Yoseloff. As a strategy, it’s better than an ace in the hole. Over the past three years, as the
WINNING HAND Shuffle Master’s Yoseloff makes R&D a priority
HOT GROWTH COMPANIES broader economy moved through recession and into a slow recovery, the company has consistently posted top-notch numbers. Sales have grown an average 19.8% a year, to $68.8 million, while net income has climbed 25.2%, to $18 million, good enough to rank them No. 19 on our annual Hot Growth list.
THE WINNERS BY THREE MEASURES Data: Standard & Poor’s Compustat
Sales Growth* HEADWATERS JETBLUE AIRWAYS PETMED EXPRESS SFBC INTERNATIONAL
ON THE PULSE Shuffle Master’s strength in a tough economy is no fluke. Over the past few years, smaller companies generally have played an outsized role in bolstering a shaky U.S. marketplace. Strengthened by low interest rates on their borrowings and a focus on consumers who kept on spending, smaller players were vital to the overall economy in the recent down years. “Small businesses have been a source of stability to a very troubled economy, and more recently a key source of growth,” says Mark Zandi, chief economist of consulting firm Economy.com Inc. Just as important, the group has been an incubator of new ideas, some of which will undoubtedly change our world. Alumni of our Hot Growth list include network titan Cisco Systems, video game leader Electronic
Arts, and such familiar names as Black Entertainment Television, Papa John’s International, and eBay. The ability to find—and then exploit— a sweet spot in the economy is still the common denominator of our list. Our top company, PetMed Express Inc., forged a whole new industry by selling pet medications via e-mail, phone, or fax. Though now under pressure from veterinarians unhappy with losing this profitable business, the company has already become America’s largest pet pharmacy. Others have just as smartly played the challenging job market. No. 3 University of Phoenix Online is one of several education companies helping people make themselves more marketable. Universal Technical Institute, No.2, trains automo-
HOT GROWTH ALUMNI
Many Happy Returns for the Class of 2002 he ingredients that go into making a hot growth company can be a combustible mix. Either you get a moon shot that keeps soaring into the stratosphere— or a bottle rocket that can’t handle success and flames out. Had you invested in a portfolio of BusinessWeek’s Hot Growth companies from two years ago—the Class of 2002—you’d have gotten a few of those moon shots and made some money. Each year, BusinessWeek takes a second look at the Hot Growth list from two years before. That is enough time, we feel, to account for any short-term anomalies in a given business and to compare companies fairly with the broad-based market indices. The report card is in for the Class of ’02, and it’s pretty good: Of the 100 companies in the 2002 rankings, 58 posted positive total returns during the past two years, while 37 suffered negative returns (five companies
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were not included because they’ve since been merged out of existence). If you had bought one share in each member of the Class of ’02, your Hot Growth portfolio would be up 15.4% today. Better yet, if the performance of the Hot Growth companies of 2002 were graded on a market-weighted basis—which is how returns for the major stock market indices are computed—the group would be up 23.2% as a whole. By comparison, the small-cap Russell 2000 Index was up 12.6% during that same period, while the Standard & Poor’s 500-stock index rose just 6.5%. It’s the second time in a row that BusinessWeek’s Hot Growth companies beat both of those benchmark indices. But previous Hot Growth rosters—the Classes of 2000 and 2001—contained a lot of tech companies that imploded and their returns overall were much weaker. And the odds are working in favor of the Class of 2002 in
UNIVERSITY OF PHOENIX ONLINE
140.5% 110.7 102.2 77.0 73.7
*Average annual sales growth for the past three years
tive technicians in servicing everything from trucks to boats. Baby boomer spending combined with low interest rates and a housing boom have been the forces behind No. 39 scp Pool Corp. The world’s largest wholesale distributor of pool supplies, scp’s sales rose by 19.4% a year, on average, over the past three years, to $1.19 billion in 2003. ceo Manuel J. Perez de la Mesa is riding a wave of new-pool building that could sustain the company for years to come. Some 80% of scp’s sales are supplies necessary for the upkeep of the 7 million swimming pools already installed. Health care is such an engine of
FROM AWESOME TO AWFUL
another sense, too. Any small company that demonstrated the ability to grow rapidly between 1998 and 2001, when the recession took many Data: Standard & Poor’s Compustat weaker players down with it, clearly had a leg up as the economy improved. Take a look at Chico’s FAS, which three years later is still going strong. Continuing education provides another apt lesson. Of the top 10 performers from the Class of 2002, four were in the education business: Career Education, Strayer Education, Apollo Group, and Corinthian Colleges. All have seen their stock prices more than double since 2002 as millions of downsized and underemployed workers flocked back to school to buff up their credentials or even develop new skills for their next career. And the lessons keep coming. All of those education companies except one, Apollo, show up on this year’s list, too, along with a number of new names. The biggest single winner of the past two years was Central European Distribution Corp., a Sarasota (Fla.)-based company whose shares soared 204% over the past two years. CEDC is a major liquor distributor in Poland. Given its early entry—the company
Earnings Growth* UNIVERSAL TECHNICAL INSTITUTE AMERICAN MEDICAL SYSTEMS AMERICAN HEALTHWAYS RELIV INTERNATIONAL BIO-REFERENCE LABORATORIES
Return on Capital*
1242.9% 662.5 379.2 277.8 271.7
brian smith
*Average annual earnings growth for the past three years
UNIVERSAL TECHNICAL INSTITUTE PETMED EXPRESS UNIVERSITY OF PHOENIX ONLINE COACH MTC TECHNOLOGIES
68.5% 51.5 35.3 35.1 32.5
*Average annual for the past three years
growth that 19 of our companies are drawn from its ranks, up from 9 in 2001, a reflection of a general explosion in medical spending. To help insurance companies and big employers grappling with soaring health-care costs, No.32 American Healthways Inc., for example, employs a team of nurses, dieticians, and therapists in eight call centers around the country. Under contracts with insurance companies, this medical swat team contacts members with chronic diseases such as diabetes and asthma to educate and coach them on how to deal with their condition, including ensuring they get the right tests and medications.
To zero in on such innovators, BusinessWeek looks at a broad universe consisting of publicly traded companies with revenues ranging from as little as $50 million a year to as much as $1.5 billion. Then we rank them by sales and earnings growth and return on capital over a threeyear period to identify those companies with a solid track record. Any company on the list must have a market cap of at least $25 million and a share price of at least $5. And we cut any company that has had recent earnings slides or whose stock has underperformed the Standard & Poor’s Industrial Composite Index. The top 100 contenders make our list.
The 2002 Winners... TWO-YEAR TOTAL RETURN*
CENTRAL EUROPEAN DIST. CAREER EDUCATION COGNIZANT TECH. SOLUTIONS INTERNATIONAL GAME TECH. APOLLO GROUP CHICO’S FAS STRAYER EDUCATION ENGINEERED SUPPORT SYSTEMS CORINTHIAN COLLEGES HIBBETT SPORTING GOODS
204.0% 184.7 176.1 142.6 137.4 125.8 123.5 121.9 107.7 107.7
By the numbers, they’re an impressive bunch. Average annual sales growth over the past three years for the group hit 26.9%, while average earnings growth was an even stronger 79.3%. By comparison, the s&p industrials posted sales and earnings growth of 4.5% and 0.5%, respectively, over the same period. Even more heartening, the average return on capital for our Hot Growth 100, a good measure of how well management is deploying its assets, was 17%, vs. 4.4% for the s&p industrials.
IN THE RIGHT PLACE No doubt some of these companies benefit from good oldfashioned luck. Considering how the war on terror and the war in Iraq have boosted defense spending, it’s no surprise that a number of defense and security-related companies rank high on the list. And in today’s lean military, there’s plenty of demand for help. “There is not a lot of increase in internal manpower in the [armed] services,” says David S. Gutridge, ceo of No. 11 mtc Technologies Inc. “That has helped create a need for additional contractor services.” mtc provides engineering support and other
...And the Losers *Calculated using the stock price as of Apr. 30; excludes companies not trading on that date
pushed into Poland in 1991 soon after the fall of the Berlin Wall—the reseller now has a virtual stranglehold on the Polish market. The most spectacular flop of the past two years was the company that ranked No. 1— and made BusinessWeek’s cover—in 2002. The Singing Machine Co., a Coconut Creek (Fla.) maker of home karaoke equipment, has seen its shares plunge 92.8% over the past two years. Singing Machine was the victim of a poorly timed expansion, launched just as competitors were coming
out with cheaper machines. But even among the losers on the list, hope springs eternal. Nautilus Group Inc., whose 63% decline was the third worst of any member of the Class of 2002, brought in a new management team in 2003 led by ex-Levi Strauss & Co. exec Greggory C. Hammann. Hammann has wasted no time in trying to resuscitate Nautilus: After the company CHICO’S CHARM The retailer shows its staying power
TWO-YEAR TOTAL RETURN*
–92.8% ORTHODONTIC CENTERS OF AMERICA –73.1 NAUTILUS GROUP –62.7 ADVENT SOFTWARE –62.4 ADVANCED MARKETING SERVICES –58.7 GAIAM –56.1 ICT GROUP –56.0 MEDQUIST –52.9 PEC SOLUTIONS –50.8 MTR GAMING GROUP –48.1 SINGING MACHINE
was hammered by cheap knockoffs of its popular Bowflex exercise equipment, Hammann boosted the research-anddevelopment budget from $5 million to $13 million to roll out new equipment that has capabilities the competition doesn’t. “We’ve put more innovation into Bowflex the past six months than we did in the prior six years combined,” he boasts. But only time will tell whether Nautilus Group can light the fuse a second time. –By Dean Foust in Atlanta June 7, 2004 | BusinessWeek | 89
HOT GROWTH COMPANIES
BARGAIN HUNTING In that drive to market, some opportunities are always left behind. Those tasty scraps are meat and potatoes for some Hot Growth companies. No. 18 Bradley Pharmaceuticals Inc. acquires, enhances, and markets drugs developed by larger drug companies but deemed too tiny to be worth promoting. A moisturizing cream the company bought from Syntex Corp. in 1994 has spawned a whole line of skin prod-
THE GROWTH AREAS The 100 companies on our list come from all parts of the economy, but at any given time certain hot sectors dominate
ucts, which helped generate $84.8 million in sales over the past year. Similarly, Encore Acquisition Co., the No. 73 company run by the father-and-son team of I. Jon Brumley and Jonny Brumley, acquires and develops the relatively small oil fields that their larger competitors aren’t interested in expanding. In 1999 the company bought a field in southeastern Montana from one of the
RECIRCULATING SCP Pools’ Perez counts on repeat customers
Industries NO. OF COMPANIES ON THE 2004 LIST 2001 LIST
HEALTH CARE EQUIPMENT & SERVICES RETAILING COMMERCIAL SERVICES & SUPPLIES CONSUMER DURABLES & APPAREL HOTELS, RESTAURANTS, & LEISURE PHARMACEUTICALS & BIOTECHNOLOGY SOFTWARE & SERVICES ENERGY TECHNOLOGY HARDWARE & EQUIPMENT CAPITAL GOODS HOUSEHOLD & PERSONAL PRODUCTS Data: BusinessWeek, S&P Compustat
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19 16 10 9 6 6 6 5 5 4 4
9 11 8 8 3 6 19 0 14 7 0
major oil producers, and after reengineering it has boosted production from 8,600 barrels a day to 12,600. That has helped send earnings up an average of 91.8% annually over the past three years. Of course, rising energy prices have also given Encore a boost, as they have to No. 77, Matrix Service Co., which provides maintenance, repair, and construction services to refineries, pipeline and marketing terminals, and power plants. With oil at $40 a barrel, it’s hard to see that trend ebbing. Lucky, however, cuts both ways. Regular readers of this list will note that information technology, long a staple, has been hurt by the anemic economy of recent years, which forced Corporate America to hold back on capital spending. The number of hardware, software, and semiconductor companies on our list has withered—from 41 in 2001 to 11 this year. Of course, a reinvigorated economy will help technology and nontech players alike in the year ahead. But it won’t dampen the pressure to outsmart rivals with innovative new products and services. This year’s crop of dynamos are eager for that challenge. ❚❚ –By Amy Barrett in Philadelphia with Christopher Palmeri in Los Angeles and Stephanie Anderson Forest in Covington, La. For Q&As with some of the execs on this year’s list, visit www.businessweek.com/magazine/extra.htm
daniel lincoln
services to the U.S. Defense Dept. and intelligence agencies and has generated an average return on invested capital over the past three years of 32.5%, among the highest on our list. No. 33 Engineered Support Systems is also using cash generated by war-time demand for its heavyduty air conditioners to build out a portfolio of military offerings and push annual sales increases to more than 15%. While some on the list are helping the government wage war, others are simply aiding bigger companies in their everyday battle for market dominance. No. 13 Cognizant Technology Solutions Corp. does it outsourcing for big companies like MetLife and J.P. Morgan Chase using teams of software developers in India. And Charles River Laboratories International Inc., No. 57 on our list, provides biomedical research products and services, including genetically altered animals for drug safety testing, to Big Pharma players. “They are utilizing our staff and facilities to do things faster,” says Charles River Chairman and ceo James C. Foster. “Everything in this business is about speed to market.”
HOT GROWTH COMPANIES K-SWISS
Teach an old sneaker enough new tricks–and kids will come running
HAPPY RETAILERS The tv ads have helped keep that first shoe Nichols fell in love with—the K-Swiss Classic—the company’s top seller. Last year it accounted for 66% of sales. With such focus, K-Swiss doesn’t get stuck with a lot of inventory from new shoes that don’t sell. That gives it a profit advantage over competitors that introduce a blizzard of styles each year. K-Swiss’ operating profit margin is 20%, vs. 11.6% at Nike and 7.6% at Reebok International Ltd. It has also made retailers—which don’t have to accept as many returns from disappointed customers—quite happy. “They are one of the most profitable brands we carry,” says Glenn S. Lyon, president of the Finish Line Inc., a sporting goods chain based in Indianapolis. “We’re not tak-
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those with white stripes on white leather, K-Swiss’ profits and sales have doubled, to $54 million and $465 million, respectively, over the past two years alone, helping boost the company to No. 15 on Business Week’s list of the fastest-growing companies. While Nichols loved the classic look of the K-Swiss shoe, he saw that its marketing needed a drastic overhaul. The Westlake Village (Calif.) company was still being run by the two tennis-playing Swiss brothers, who 20 years earlier had designed a leather sneaker with shock-absorbing insoles as an upgrade from the canvas shoes of the day. Nichols quickly upped the price from $40 to $60 a pair, cut out sales to discounters that he be-
K-Swiss WHAT’S HOT
RANKING
Tennis shoes based on a 40year-old design that’s now a retro-hit. Profits and sales doubled in two years.
#15 SALES
$465.4 MILLION EARNINGS
$58.7 MILLION
LOCATION
Westlake Village, Calif.
alanlevenson.com
TYING ONE ON Nichols liked the shoes so much he bought K-Swiss
or steven nichols it was love at first sight. As the head of children’s shoes at Stride Rite Corp. in the mid1980s, Nichols was so enthralled when he first encountered a K-Swiss tennis shoe that he tried to persuade his boss to buy the company. When that didn’t work, he put together a group of investors and bought it himself for $20 million in 1986. The sneaker’s design was so timeless, Nichols thought, it could sell for the long term. “This is a 50-year shoe,” he said. So far, so good. Sales at K-Swiss Inc. have increased more than twentyfold since Nichols stepped in. Buoyed by a trend toward retro sneakers, especially
lieved had cheapened the brand, and positioned K-Swiss as a conservative choice for anyone who wanted an alternative to flashier designs from companies such as Nike and la Gear. And he broadened his base, introducing a children’s line, signing up more full-priced U.S. retailers, and expanding overseas. But it wasn’t until the late 1990s that the real breakout began. That’s when Nichols beefed up his marketing team, hiring brand managers from places like Procter & Gamble Co. and targeting the core 14-to-24-year-olds who buy more than half of all sneakers. K-Swiss began advertising on television, in particular on cable networks such as mtv and in youth-oriented magazines such as Vibe and Teen People. Suddenly the shoes were off the tennis court and on the stoop. A series of ads two years ago featured a troop of trendy young people posing in street settings and rapping lines like “I wear my K-Swiss, at my place with my crew. I like them white and new.”
HOT GROWTH COMPANIES
STOCK SLUMP Even as K-Swiss struggled to find another hit, its stock was on a tear, up from a split-adjusted price of $3 four years ago, to a high of $28 in January. The downside of KSwiss’ big runup is that Wall Street now thinks it may be short of breath. The stock has fallen 19%, to $20, since Apr. 28. That’s the day that Nichols announced the company’s 2004 sales and earnings growth would be less than previously expected. The main problem: K-Swiss got a temporary boost from a dispute between Nike and retailing powerhouse Foot Locker Inc. The percentage of K-Swiss’ sales coming from Foot Locker doubled, to 29%, last year, as the giant athletic-shoe retailer stocked up on non-Nike sneakers. But now that Foot Locker and Nike have patched things up, orders have fallen for K-Swiss. Now, it remains to be seen if K-Swiss’ retro look will stay in vogue. “Are KSwiss cool? They used to be,” says Andre Dailey, a 17-year-old who was shopping for sneakers recently at Los Angeles’ Beverly Center mall. “They’re like sandals. Everybody has got a pair.” That’s the hazard of success in a fashion-oriented business: Nichols and his marketing team will have to work extra hard to make sure that K-Swiss’ classic shoes remain stylish in the minds of young consumers. ❚❚ –By Christopher Palmeri in Los Angeles 94 | BusinessWeek | June 7, 2004
NARAYANAN The next stop will be China
COGNIZANT TECHNOLOGY SOLUTIONS
What’s a nice Indian tech company like this doing stateside? eaneck, new jersey, is an unlikely stop on the way to Bangalore. But even as politicians aim their election-year rhetoric at India and China, Teaneck is where you’ll find one of the fastest-growing outsourcers, Cognizant Technology Solutions Corp. Independent since 1996, the former information-technology unit of Dun & Bradstreet Corp. has snared 193 clients for such it services as programming and Web design. Thanks to juicy contracts with customers such as J.P. Morgan Chase, adp, First Data, and Nielsen Media Research, Cognizant landed the No. 13 spot on this year’s Hot Growth list. Its revenues grew at a 38% average annual clip over the past three years, while profits increased almost 50% a year. A dollar invested in Cognizant in January, 1999, would have returned $90 at the end of 2003. “The results are unmatched,” says analyst Ashish R. Thadhani of investment bank Brean Murray & Co. Cognizant, like such India-based ri-
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vals as Wipro, Tata Consultancy Services, and Infosys Technologies, has taken advantage of an army of well-trained, inexpensive it programmers and project managers scattered throughout India to provide cost savings for clients. But Cognizant has outpaced those older peers by pioneering a border-straddling structure that includes American nationals and Indians with extensive exposure to U.S.
Cognizant WHAT’S HOT
RANKING
Cognizant’s U.S. sales forces gives it an edge in outsourcing softwareprogramming and Web-design jobs to India.
#13 SALES
$413.5 MILLION EARNINGS
$67 MILLION
LOCATION
Teaneck, N.J.
dennis kleiman
ing as many guesses at new things.” But even a “50-year shoe” has its limitations. And the company’s track record on coming up with new products has not been good. Last year, Nichols scrapped a line of outdoor shoes made under a license from National Geographic. Similarly, a startup line of sneakers without shoelaces called Royal Elastics has been a disappointment, to say the least. This year the company has stuck closer to home with its new Ramli sneaker, which looks a lot like the KSwiss Classic but has a colorful stripe running along the bottom. Another new launch, the Gorzell, has five singlecolor stripes and resembles a running shoe from the 1970s. Retailers say the new models are selling well. And K-Swiss is promoting its entire lineup with a series of ads encouraging sneaker wearers to customize their shoes with personal touches like fancy laces and graffiti. “The Classic look is sort a blank canvas,” says marketing chief Deborah Mitchell, 42.
HOT GROWTH COMPANIES business culture in key customer-relations roles. The headquarters and sales force and some programmers in the U.S.—about 30% of employees—makes deals and takes care of clients, while the staff in India delivers the work.
SCHEDULE CONSCIOUS “We essentially converted what was a 100-person Indian company into a U.S.-based company so that we could be closer to customers and build relationships,” explains ceo Lakshmi Narayanan, who left rival Tata in 1994 to join the outfit when it was a unit of d&b. The Bangalore native oversaw Cognizant’s Indian operations until December, when he in-
herited the ceo mantle from retiring founder Kumar Mahadeva. Clients like the local attention. They also respect the fact that Cognizant stays on schedule—and unlike many rivals doesn’t nickel-and-dime on extra work that pops up in the course of a project. The company even keeps smaller customers such as the Philadelphia Stock Exchange happy. The regional bourse is spending less than $500,000 this year on a back-office redesign. “They treat us just like we were one of their big customers,” says Melva S. Demmer, vice-president for business-systems development at the exchange. Clients also laud Cognizant’s expertise in the financial and health-care in-
dustries, the source of an estimated 70% of its revenue. “They have about the most satisfied set of customers I’ve ever seen,” says Gartner analyst Rita Terdiman. That means a lot to Cognizant, whose future growth depends on expanding relationships with its current customer base. No wonder the political rumblings have had little effect. “We haven’t felt any impact of this,” Narayanan says. He’s more worried about rising wages in India, a threat to his cost advantage. So Cognizant is expanding its horizons once again by moving into China, where a vast pool of educated technology workers is still cheap. ❚❚ –By Brian Hindo in New York
AEROPOSTALE
eens may say they the cash, acquired want to be trendsetters, the chain from but most are fashion fol- Federated for about lowers. It’s a simple in- $14 million. Geiger, 58, has sight, but understanding it has been the key to one of made plenty of the hottest recent success changes in his NO DUMMY Geiger stories in retailing: Aeropostale Inc. The eight-year run. He lowered the chain’s New York-based apparel chain of 494 shifted a business sights, focusing on mall stores is the top retailer on our Hot largely aimed at younger teens Growth list, at No. 5. Its earnings over the young males topast three years have jumped an average ward females, because they buy more annual 88%, to $54.3 million, on average clothes and because those goods enjoy yearly sales growth of 54%, to $734.9 mil- higher profit margins. Instead of continulion. The company has a market cap of ing to go head-to-head with rivals Abercrombie & Fitch Co. and American Eagle $1.3 billion. That’s a big change from a few years Outfitters Inc. in trying to attract highago. In 1996, as a division that retail giant school and college-age shoppers, he Federated Department Stores Inc. had aimed the brand at younger teens. Geiger gotten as part of its Macy’s acquisition, pursued the popular active-casual look of Aeropostale was a lackluster performer with just 100 shops. That’s when Julian R. Geiger, a former Macy’s execuWHAT’S HOT RANKING LOCATION Clothes for young tive, was brought in to teenage girls. The try to turn things chain doesn’t try to SALES EARNINGS around. Two years later lead the fashion his management team, parade, but its prices with an investment are lower than rivals’. MILLION MILLION bank putting up most of
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Abercrombie and Eagle but made the clothes slightly less sexy and revealing to appeal to younger shoppers and their parents. He added more Aeropostale logo shirts, because kids like to identify with a brand that way. The reward: “It’s less competitive down there,” Geiger says. He also chose not to compete with the likes of Abercrombie in setting fashion trends, choosing instead to follow significant trends quickly. “Most kids want to be fashionably safe and look like everybody else,” Geiger explains. So while Abercrombie and American Eagle reduced the number of cargo pants on the sales floor last fall, they remained a steady third of Aeropostale’s merchandise. “You can still make money when a product is on a downtrend,” says chief merchant Christopher L. Finazzo. “We get a monopoly on it.” Aeropostale fits a girl’s wallet. Recognizing that the average female teen comes to the mall with
#5
New York, N.Y.
$734.9
$54.3
suzanne opton
To lure teenage mall rats, you need the right cheese
HOT GROWTH COMPANIES
mark katzman
only $40 in her pocket, Aeropostale is the most promotional teen-specialty retailer, analysts say, and preplanned sale signs and two-for-one deals dominate the stores. Wachovia Securities llc estimates that Aeropostale’s prices, after scheduled discounts, are 50% lower than Abercrombie’s and 30% lower than Eagle’s. Lindsay O’Rourke, 16, whose father is a computer consultant, notices the price difference while shopping at Aeropostale in the Manhattan Mall in New York. She eyes a $34.50 pair of belted cargo shorts with a 40%-off sign above them and notes they would cost $50 at Abercrombie. “My dad likes me to watch my spending,” she admits. Geiger measures how well his nonstop promotions are performing, too. Every day, the chain compares its supply of goods to how fast they are selling. “If something is selling too fast, we will actually raise the price,” he says. “Of course, it’s still on sale.”
NET SWEAT But not everything about Aeropostale is cheap. To jump on the right trends, Aeropostale is among the most diligent teen retailers when it comes to consumer research, says Lazard llc analyst Todd Slater. In addition to high-school focus groups and in-store product tests, Aeropostale late last summer launched an Internetbased program that seeks online-shopper input in creating new styles. The company targets 10,000 of its best customers for each of those tests (it does 20 a year) and averages 3,500 participants. Such customers recently helped designers narrow down a range of hooded sweatshirts by silhouettes, color, and logo. The final product sold well: Aeropostale credits such insights for much of its 18.9% surge in firstquarter same-store sales. Still, with teenagers, science can only get you so far. Aeropostale’s biggest challenge is that its customers’ tastes can change overnight. Teen retail is full of faded stars, from Buckle Inc. to Wet Seal Inc. The chain also faces some tougher competition from Abercrombie and Eagle, which, after struggling for a period, show signs of picking up. But Geiger thinks his approach leaves plenty of room to run. He says Aeropostale can fill out to 900 stores, giving it four more years of strong growth—time enough to develop or buy another store concept. Right now, though, Aeropostale is looking hotter than the latest fashion trend. ❚❚ –By Robert Berner in New York
DANIELS It’s all rapid deployment now
ENGINEERED SUPPORT SYSTEMS
Supertough, superportable field equipment for the U.S. armed forces ilitary times have changed. During the Cold War, the U.S. could position troops near specific pockets of Sovietcontrolled Eastern Europe and leave them there for months or even years, because it could always find its adversaries. Now, to fight the war on terrorism, U.S. forces must roam all over the world. Supplying the new military is different, too. No longer the exclusive realm of giant equipment makers like Boeing Co. and Lockheed Martin Corp. with multiyear contracts, the companies serving today’s military are often smaller and quite specialized. That describes No. 33 Engineered Support Systems Inc. perfectly. The St. Louis outfit builds supertough, portable gear for the U.S. military forces: 920watt generators the size of U-Haul trailers, heaters that thrive in subfreezing
M
temperatures, $5,000 air conditioners at their best at 115F. “It’s all rapid deployment now,” says ceo Gerald E. Daniels, a Boeing veteran who joined last year. Engineered now controls an estimat-
Engineered WHAT’S HOT
RANKING
Supplying rugged generators and air conditioners to the Pentagon. Profits are up an average 49% over the past three years.
#33 SALES
$646.2 MILLION EARNINGS
$50.6 MILLION
LOCATION
St. Louis June 7, 2004 | BusinessWeek | 101
HOT GROWTH COMPANIES ed 70% to 90% of the mobile militarygenerator and air-conditioner market. That kind of dominance is not a plus for future growth. Company execs expect internal expansion of just 5% to 7% annually, but Daniels has his sights set on gobbling up other companies to beat those numbers. He intends to complete at least two acquisitions a year. At that speed he’ll beat the rate charted by Chairman Michael F. Shanahan, who founded the company in 1982 and began the acquisition spree in 1998. By snatching up small manufacturers and service
providers and giving their management plenty of autonomy, the company has swelled its top line from $64 million in fiscal 1997 to an expected $800 million this year.
WAR GAINS As the military’s needs have shifted, so has Engineered’s shopping list. The heightened mobility of the military has increased demand for surveillance gear. So Engineered has sought out companies that make things like sensors, biohazard detectors, and communications gear to monitor battle landscapes.
Of course, it also helps when your major customer—the U.S. Defense Dept.—is furiously ramping up orders. The Pentagon’s budget for military products and services will grow from $78.5 billion in 2003 to a projected $105 billion by 2008, according to government estimates. Right now the focus is on troops in the Middle East, but 10 years from now, who knows? Whether it’s the heat of the desert or the chill of the Arctic, wherever U.S. forces find themselves fighting, Engineered is ready to follow. ❚❚ –By Roger O. Crockett in Chicago
BIO-REFERENCE LABORATORIES
Your report is back from the laboratory –with all the trimmings linical laboratory tests to cumulative reporting testing is often cast as the that tracks disease trends, all at commodity business of no extra charge. “We don’t live health care. Nobody in a world of proprietary techneeds a patent, after all, to nologies,” notes Marc D. Groddo routine analysis of a man, the 52-year-old president, patient’s cholesterol or chief executive, and chairman iron levels. But Bio-Reference Laborato- who launched the laboratory ries Inc. of Elmwood Park, N.J., has dis- business in 1987 after buying a CLIENT KUDOS network development at covered it can capture market share from lab in a doctors’ complex in Grodman is taking Prison Health Services Inc., gorillas like Quest Diagnostics Inc., Wayne, N.J. “It’s how you use Bio-Reference to which handles health care which controls about 12% of the $36 bil- the technology and deliver new levels of service for 267,000 inmates across lion market, by offering an unusual de- the service.” the country, notes that BioGrodman, an internist by training, ad- Reference doesn’t charge extra to crunch gree of personalized attention and diagnostic prowess in complex and mits that emphasizing a personal touch data and prepare reports on health or higher-margin areas such as oncology can cut into profitability. Bio-Reference, disease trends that emerge from testing and gene testing. It’s a field that’s expect- No. 16 on this year’s list, spends about inmate populations. Those reports help ed to expand, thanks to an aging popula- double the percentage on sales and mar- Prison Health develop programs for distion, increasingly sophisticated technolo- keting as the national labs, and has oper- ease management. gy, and more emphasis on early detection ating margins of roughly 10%—a little Grodman gets especially excited when more than half that of other big players. and monitoring of drug treatment. he talks about new developments in onBut customers love the extra atten- cology, where diagnosis increasingly exThe result is a fast-growing regional player that counts prison systems and tion. Joanna Garcia, vice-president of tends beyond finding cancer to characterleading cancer doctors izing the specific genetic in the New York area makeup of tumors. among its clientele. “We’ve taken the lab What unites such dibusiness to new fronverse groups is their tiers,” he says. That WHAT’S HOT RANKING LOCATION Clinical testing for desire for a greater levdoesn’t sound like a clients that want el of attention than man who feels the only something extra, such SALES EARNINGS most of Bio-Referway that he can comas oncology expertise ence’s national rivals pete is on price. ❚❚ or personalized provide, from cus–By Diane Brady handling of tests. MILLION MILLION tomized handling of in New York
C
102 | BusinessWeek | June 7, 2004
#16
Elmwood Park, N.J.
$114.2
$7
andrew kist
Bio-Reference
SPECIAL REPORT
Hot Growth Companies TO WIN A POSITION IN THIS TABLE, a company must excel in three ways. The selection process begins by ranking companies according to their three-year results in sales growth, earnings growth, and return on invested capital. The ranks in the table are calculated from these numbers. A company’s composite rank is the sum of 0.5 times its rank in return on total capital plus 0.25 times its sales- and profit-growth ranks. COMPANIES WERE DRAWN from Standard & Poor’s Compustat database of more than 10,000 publicly traded corporations. To qualify, a company must have annual sales of more than $50 million and less than $1.5 billion, a current market value greater than $25 million, a current stock price of at
least $5, and be actively traded. Banks, insurers, real estate firms, and utilities are excluded. So are companies with declines in current financial results or in stock price, as well as companies where other developments raise questions about future performance. SALES AND EARNINGS are the latest figures available through the most recent 12 months. Earnings include net income from continuing operations before gains or losses from extraordinary items. INCREASES IN SALES AND PROFITS are calculated using the least-squares method. If results for the earliest year are negative or not available, the average is for two years.
COMPANY (STOCK SYMBOL)
CURRENT RESULTS SALES $ MIL.
1 PetMed Express (PETS) Pompano Beach, Fla. 954 979-5995
EARNINGS $ MIL.
87.4
6.2
210.2
23.2
664.2
RETURN ON CAPITAL is earnings expressed as a percent of debt and equity. For ranking purposes, the maximum allowable annual return on invested capital is 100%. If companies have made substantial accounting restatements, long-term returns may be averaged for two years instead of three years. TIME PERIODS VARY according to the month of a company’s fiscal yearend. Profitability and growth are calculated based on the most recently available data. STOCK PRICE DATA are as of May 5, 2004. A ● indicates that a company also appeared in last year’s rankings (BW—June 9, 2003).
THREE-YEAR AVERAGES INCREASE (%) SALES PROFITS
102.2
RETURN ON CAPITAL
INVESTMENT DATA STOCK PRICE MARKET 52-WEEK P-E VALUE HIGH - LOW RECENT RATIO $ MIL.
173.9
51.5
13 – 3
11
37
212
29.1 1242.9
68.5
48 – 24
46
53 1280
145.4
73.7
86.6
35.3
94 – 41
87
71 1383
427.4
32.0
61.7
137.0
28.7
27 – 10
23
21
734.9
54.3
53.7
88.2
28.2
25 – 11
24
26 1330
433.9
50.5
140.5
43.1
29.8
30 – 13
23
14
726.1
80.6
44.1
61.2
24.4
36 – 22
31
36 2816
768.5 100.2
43.3
52.9
27.4
48 – 19
44
38 3827
23.5
17.5
107.5
32.3
39 – 14
27
24
1214.5 225.9
19.9
53.7
35.1
45 – 21
44
37 8177
Online, phone, and mail-order retailer of pills for pets
2 Universal Technical Institute (UTI) Phoenix 623 445-9500 It trains car technicians
3 University of Phoenix Online (UOPX) Phoenix 800 366-9699 Higher education in virtual classrooms
4 Multimedia Games (MGAM) Austin, Tex. 512 334-7500
635
It’s laid a bet on electronic gambling
5 Aeropostale (ARO) New York 646 485-5398 ● Clothing stores for fashionable teens
6 Headwaters (HDWR) South Jordan, Utah 801 984-9400
746
Services for the energy industry; turning coal sludge into synth fuel
7 Corinthian Colleges (COCO) Santa Ana, Calif. 714 427-3000 ● For-profit provider of career-oriented education
8 Chico’s FAS (CHS) Fort Myers, Fla. 239 277-6200 ● Retailer of women’s fashions and accessories
9 USANA Health Sciences (USNA) Salt Lake City 801 954-7100
220.9
525
Nutritional supplements, foods, and body-care products
10 Coach (COH) New York 212 594-1850 ● Designer and manufacturer of leather goods and accessories
11 MTC Technologies (MTCT) Dayton 937 252-9199
212.5
13.9
34.7
27.1
32.5
33 – 18
27
26
352
362.9
87.3
40.9
92.9
15.9
74 – 27
69
36 3074
413.5
67.0
38.0
48.8
18.5
57 – 18
45
47 2887
429.1
15.1
50.0
155.3
15.0
42 – 18
32
22
345
465.4
58.7
24.5
35.3
22.3
28 – 14
19
13
687
114.2
7.0
18.1
271.7
17.2
23 – 5
14
26
162
572.0
48.0
30.7
26.7
21.2
32 – 15
23
24 1102
84.8
20.2
58.6
115.8
13.5
33 – 15
27
19
Info tech services for the U.S. government and commercial clients
12 Eon Labs (ELAB) Laurelton, N.Y. 718 276-8600 ● Manufactures generic drugs
13 Cognizant Technology Solutions (CTSH) Teaneck, N.J. 201 801-0233 ● Business outsourcing and consulting for tech needs
14 Central European Distribution (CEDC) Sarasota, Fla. 941 330-1558 ● Importers of beer, wine, and spirits in Poland
15 K-Swiss (KSWS) Westlake Village, Calif. 818 706-5100 The athletic shoemaker also sells clothes and accessories
16 Bio-Reference Laboratories (BRLI) Elmwood Park, N.J. 201 791-2600 Its Northeast labs do clinical tests and diagnosis
17 Hot Topic (HOTT) City of Industry, Calif. 626 839-4681 ● These stores carry the fashion and music trends of teens and tweens
18 Bradley Pharmaceuticals (BDY) Fairfield, N.J. 973 882-1505 Dermatology, respiratory, gastroenterology, and nutritional products
104 | BusinessWeek | June 7, 2004
419
HOT GROWTH COMPANIES COMPANY (STOCK SYMBOL)
CURRENT RESULTS
THREE-YEAR AVERAGES
SALES $ MIL.
EARNINGS $ MIL.
68.8
18.0
19.8
25.2
30.3
36 – 15
34
48
1470.8
52.8
18.1
50.4
21.2
31 – 13
28
27 1302
1345.8
141.7
53.3
75.2
14.1
71 – 29
69
50 6893
146.4
33.7
23.5
15.5
26.7
130 – 63
124
55 1327
141.9
17.9
13.9
162.2
16.1
25 – 10
15
23
351.7
48.2
19.0
31.3
20.3
50 – 25
46
33 1525
227.9
15.4
22.0
19.9
21.2
41 – 13
35
15
227
575.6
53.0
14.5
60.7
18.3
42 – 23
41
14
727
840.9
55.8
12.1
31.0
30.6
35 – 21
29
22
1181
81.8
5.1
8.9
277.8
16.6
12 – 3
10
34
151
204.4
18.3
18.4
66.2
15.7
9– 4
9
7
111
355.9
30.6
33.5
64.8
13.4
48 – 32
43
42 1277
518.1
76.3
14.8
22.3
28.2
30 – 20
27
18 1379
196.0
18.9
47.8
379.2
11.2
31 – 12
25
45
646.2
50.6
15.3
49.1
17.3
62 – 22
49
26 1268
158.7
11.5
16.3
28.7
19.9
31 – 5
27
27
318
195.5
6.4
7.7
49.6
19.6
24 – 9
20
17
95
54.8
5.5
11.8
61.5
16.7
9– 5
8
11
57
548.4
48.4
22.7
68.0
13.1
51 – 15
49
41 1939
1156.3
148.6
14.5
35.4
17.8
93 – 51
88
43 6016
1194.1
53.4
19.4
21.3
17.7
42 – 20
41
28 1450
226.9
39.3
29.7
34.0
14.5
54 – 37
53
52 1980
225.6
12.7
7.4
120.8
15.2
35 – 8
28
22
292
64.3
3.2
48.0
159.1
8.9
20 – 13
19
NM
159
67.2
9.1
19.4
36.8
14.7
62 – 25
44
31
274
144.4
8.6
54.4
43.7
12.0
18 – 12
17
19
160
573.1
88.6
31.4
100.0
10.9
72 – 31
67
19 1591
1040.3
80.2
21.1
30.9
14.8
26 – 13
22
22 1743
914.5
67.7
12.1
39.5
15.9
43 – 13
38
800.2
71.2
28.4
36.7
12.9
37 – 22
36
19 Shuffle Master (SHFL) Las Vegas 702 897-7150 ●
INCREASE (%) SALES PROFITS
RETURN ON CAPITAL
INVESTMENT DATA STOCK PRICE MARKET 52-WEEK P-E VALUE HIGH - LOW RECENT RATIO $ MIL.
839
Manufacturer of casino products
20 Dick’s Sporting Goods (DKS) Pittsburgh 412 809-0100 ● The retailer sells athletic gear, apparel, and equipment
21 Career Education (CECO) Hoffman Estates, Ill. 847 781-3600 ● Programs in info tech, health care, and other fields
22 Strayer Education (STRA) Arlington, Va. 703 247-2500 ● Offers degrees to working adults at Eastern U.S. campuses and online
23 Merit Medical Systems (MMSI) South Jordan, Utah 801 253-1600 ●
402
Products used in cardiology and radiology procedures
24 FLIR Systems (FLIR) Portland, Ore. 503 684-3731 See in the dark with its thermal-imaging cameras
25 Escalade (ESCA) Wabash, Ind. 260 569-7233 Manufacturer of sporting goods and office equipment
26 Alliance Resource Partners (ARLP) Tulsa, Okla. 918 295-7600 ● It mines coal for industry and utilities
27 Tuesday Morning (TUES) Dallas 972 387-3562 Retailer of closeout household merchandise
28 Reliv International (RELV) Chesterfield, Mo. 636 537-9715 Nutritional supplements, foods, and skin products
29 Champps Entertainment (CMPP) Littleton, Colo. 303 804-1333 Operates and franchises a chain of casual-dining restaurants
30 Panera Bread (PNRA) Richmond Heights, Mo. 314 633-7100 ● Bakery-cafés that are rising across the U.S.
31 Yankee Candle (YCC) South Deerfield, Mass. 413 665-8306 ● Candles, candle-holders, and scented products
32 American Healthways (AMHC) Nashville, Tenn. 615 665-1122 ●
803
Provider of disease management and care
33 Engineered Support Systems (EASI) St. Louis 314 553-4000 ● Sells electronic and support equipment to the U.S. military
34 Amedisys (AMED) Baton Rouge, La. 225 292-2031 Delivers health-care services to your home
35 Sportsman’s Guide (SGDE) South St. Paul, Minn. 651 451-3030 Catalog and Internet retailer of sports and recreation products
36 CCA Industries (CAW) East Rutherford, N.J. 201 330-1400 Manufactures and markets health and beauty aids
37 Urban Outfitters (URBN) Philadelphia 215 564-2313 ● Retailer of clothes, housewares, and hipster accessories
38 Varian Medical Systems (VAR) Palo Alto, Calif. 650 493-4000 ● Producer of X-ray and oncology products
39 SCP Pool (POOL) Covington, La. 985 892-5521 ● A wholesale distributor of swimming pool supplies
40 Corporate Executive Board (EXBD) Washington, D.C. 202 777-5000 ● Business research, analysis, support, and executive-ed services
41 Caché (CACH) New York 212 575-3200 ● Upscale women’s clothier
42 Providence Service (PRSC) Tucson 520 747-6600 Contract provider of government social services
43 Quality Systems (QSII) Irvine, Calif. 949 255-2600 ● Software and services for managing health-care and dental practices
44 Cantel Medical (CMN) Little Falls, N.J. 973 890-7220 Medical and scientific products and services
45 Pediatrix Medical Group (PDX) Sunrise, Fla. 954 384-0175 Contractors providing maternal, fetal, and newborn care
46 Pacific Sunwear of California (PSUN) Anaheim, Calif. 714 414-4000 ● A retailer of hot fashions for younger people
47 Sanderson Farms (SAFM) Laurel, Miss. 601 649-4030
11
756
A poultry producer, rising to the top of the pecking order
48 Education Management (EDMC) Pittsburgh 412 562-0900 ●
38 2633
Operates career-oriented educational institutions
June 7, 2004 | BusinessWeek | 105
HOT GROWTH COMPANIES COMPANY (STOCK SYMBOL)
CURRENT RESULTS
THREE-YEAR AVERAGES
SALES $ MIL.
EARNINGS $ MIL.
205.7
19.5
10.5
12.1
21.8
19 – 7
16
21
401
54.1
4.1
38.1
38.4
12.1
20 – 10
19
30
122
118.7
13.4
77.0
80.7
8.5
26 – 9
25
25
370
120.3
24.2
14.3
11.9
18.6
45 – 25
38
25
580
756.2
39.5
22.1
67.0
12.1
28 – 16
27
22
838
476.1
49.2
23.2
17.5
15.1
33 – 23
31
21 1010
499.3
24.3
14.9
10.4
17.9
18 – 14
18
15
413
241.4
21.7
30.6
96.6
9.0
57 – 10
56
25
516
634.2
78.4
25.3
65.2
11.0
48 – 26
47
29 2130
990.1
93.6
12.6
15.2
18.1
43 – 28
40
24 2186
1070.2
101.7
110.7
64.2
6.3
47 – 20
28
30 2917
1041.2
110.4
17.6
25.1
15.1
52 – 32
51
23 2284
135.9
13.9
5.4
35.2
15.9
26 – 8
26
22
288
726.2
29.7
7.5
36.1
15.8
28 – 12
25
19
567
1038.7
102.2
10.1
2.1
18.9
37 – 24
36
23 2333
380.3
22.2
8.4
125.9
12.7
41 – 15
38
18
383
321.0
20.3
15.3
23.9
15.1
26 – 12
25
28
571
176.2
31.6
18.9
662.5
8.7
31 – 14
26
29
876
199.3
17.0
10.3
34.3
15.1
28 – 14
22
25
407
1396.8
116.0
10.8
29.5
15.5
32 – 23
30
14 1518
122.3
6.9
23.8
25.5
12.6
23 – 12
18
17
1420.6
112.4
34.8
63.9
7.6
54 – 36
53
24 2660
237.5
46.4
20.1
176.6
7.5
40 – 15
40
43 1945
72 Bright Horizons Family Solutions (BFAM) Watertown, Mass. 617 673-8000 ● 491.7
21.6
17.6
29.9
13.4
52 – 30
45
28
590
223.6
62.6
25.6
91.8
7.4
32 – 17
28
14
863
781.2
68.3
16.2
9.4
15.6
26 – 13
25
26 1716
427.5
73.3
28.4
32.6
11.5
57 – 28
57
25 1844
730.5
59.9
19.4
89.8
10.0
56 – 35
54
31 1831
598.8
12.9
44.6
40.9
8.6
20 – 6
11
181.4
33.4
18.7
19.6
14.0
49 Marine Products (MPX) Atlanta 404 321-7910
INCREASE (%) SALES PROFITS
RETURN ON CAPITAL
INVESTMENT DATA STOCK PRICE MARKET 52-WEEK P-E VALUE HIGH - LOW RECENT RATIO $ MIL.
Manufactures Chaparral powerboats
50 Sensytech (STST) Newington, Va. 703 550-7000 Military surveillance, communications, and imaging systems
51 SFBC International (SFCC) Miami 305 895-0304 Runs research and clinical trials for drug and biotech outfits
52 ANSYS (ANSS) Canonsburg, Pa. 724 746-3304 ● Simulation and analysis software for designers and engineers
53 ManTech International (MANT) Fairfax, Va. 703 218-6000 Info tech services for U.S. defense and intelligence agencies
54 Matthews International (MATW) Pittsburgh 412 442-8200 ● From plaques to urns, it memorializes the past and passed-away
55 Conn’s (CONN) Beaumont, Tex. 409 832-1696 Retailer of appliances, consumer electronics, and household products
56 Middleby (MIDD) Elgin, Ill. 847 741-3300 Cooking up kitchen equipment for the food service industry
57 Charles River Laboratories Intl. (CRL) Wilmington, Mass. 978 658-6000 Provides biomedical research products and services
58 Applebee’s International (APPB) Overland Park, Kan. 913 967-4000 ● International chain of family restaurants
59 JetBlue Airways (JBLU) Forest Hills, N.Y. 718 286-7900 A leading low-fare airline
60 Renal Care Group (RCI) Nashville 615 345-5500 ● Outpatient and hospital care to patients with kidney disease
61 Nutraceutical International (NUTR) Park City, Utah 435 655-6000 Nutritional-supplement manufacturer
62 Big 5 Sporting Goods (BGFV) El Segundo, Calif. 310 536-0611 Athletic equipment and apparel retailer for the fit and fashionable
63 Certegy (CEY) Alpharetta, Ga. 678 867-8000 Check-processing, credit, e-banking, and other financial transactions
64 Drew Industries (DW) White Plains, N.Y. 914 428-9098 Components for manufactured homes and recreational vehicles
65 Hibbett Sporting Goods (HIBB) Birmingham, Ala. 205 942-4292 ● Retailer of sporting goods, shoes, and apparel
66 American Medical Systems (AMMD) Minnetonka, Minn. 952 930-6000 Makes medical devices for urinary, erectile, and prostate conditions
67 Daktronics (DAKT) Brookings, S.D. 605 697-4000 Signs of the times: It makes programmable displays
68 Apria Healthcare Group (AHG) Lake Forest, Calif. 949 639-2000 Provider of respiratory and infusion therapy and medical equipment
69 Multi-Color (LABL) Cincinnati 513 381-1480
111
No one tag fits this producer of consumer-product labels
70 J.M. Smucker (SJM) Orrville, OH 330 682-3000 Food products include peanut butter, too
71 Gen-Probe (GPRO) San Diego 858 410-8000 Diagnostic products for testing blood Child care for employer-sponsored programs
73 Encore Acquisition (EAC) Fort Worth, Tex. 817 877-9955 Amasses and exploits oil and natural gas reserves in North America
74 Fossil (FOSL) Richardson, Tex. 972 234-2525 ● Producer of fashion watches and other accessories
75 Cooper Cos. (COO) Pleasanton, Calif. 925 460-3600 ● Contact lenses and women’s health-care products
76 Respironics (RESP) Murrysville, Pa. 724 387-5200 Seller of respiratory products
77 Matrix Service (MTRX) Tulsa, Okla. 918 838-8822
15
188
Makes and maintains storage facilities for oil and chemicals
78 CARBO Ceramics (CRR) Irving, Tex. 972 401-0090 Sells ceramics for oil production, mineral grinding, and metal casting
106 | BusinessWeek | June 7, 2004
70 – 35
66
31 1045
HOT GROWTH COMPANIES COMPANY (STOCK SYMBOL)
CURRENT RESULTS SALES $ MIL.
79 Medical Action Industries (MDCI) Hauppauge, N.Y. 631 231-4600 ●
EARNINGS $ MIL.
THREE-YEAR AVERAGES INCREASE (%) SALES PROFITS
RETURN ON CAPITAL
INVESTMENT DATA STOCK PRICE MARKET 52-WEEK P-E VALUE HIGH - LOW RECENT RATIO $ MIL.
125.7
9.4
19.3
28.9
12.9
23 – 11
18
20
182
214.9
16.5
22.4
54.3
10.4
25 – 14
22
16
258
445.6
109.7
34.7
17.6
12.2
30 – 14
29
19 2002
327.1
55.0
33.1
39.6
9.3
51 – 36
51
32 1710
299.7
16.6
13.5
50.7
12.6
41 – 16
32
21
334
1112.0
27.2
26.6
17.7
12.5
58 – 21
54
26
675
416.3
6.1
10.6
49.5
13.0
10 – 2
10
39
260
158.2
52.2
11.9
14.8
15.8
43 – 24
41
32 1672
483.0
110.7
17.5
16.4
14.4
47 – 29
39
28 3013
985.9
47.3
13.5
120.6
10.6
39 – 16
32
16
581.8
60.2
17.4
36.2
12.2
51 – 30
47
31 1794
329.9
38.5
12.3
84.4
11.4
31 – 15
27
13
477
101.1
6.3
7.9
102.2
11.7
34 – 6
11
6
40
821.5
61.9
20.9
22.0
12.3
49 – 31
44
37 2272
124.9
10.3
16.9
32.6
12.3
40 – 11
32
29
591.6
67.5
13.9
17.6
14.5
54 – 34
54
20 1304
273.4
45.0
14.9
20.0
13.0
28 – 16
25
28 1200
78.7
13.6
14.0
17.0
14.0
39 – 20
33
23
293
453.4
18.1
18.3
39.5
10.6
30 – 15
27
30
523
1039.1
61.1
22.4
23.6
11.0
23 – 15
22
21 1243
185.6
13.8
21.6
26.8
10.4
33 – 7
22
31
413
120.3
10.6
12.2
45.7
11.1
22 – 11
22
29
297
Manufacturer of disposable surgical-related products
80 Gulf Island Fabrication (GIFI) Houma, La 985 872-2100 Builds platforms and other structures for offshore oil and gas drilling
81 Patina Oil & Gas (POG) Denver 303 389-3600 U.S. petroleum exploration and production
82 ResMed (RMD) Poway, Calif. 858 746-2400 ● Rest well: Its products diagnose and treat sleep-disordered breathing
83 JoS. A. Bank Clothiers (JOSB) Hampstead, Md. 410 239-2700 ● Still tailored to the classy professional, it now offers casual wear
84 ScanSource (SCSC) Greenville, S.C. 864 288-2432 Products that help stores cash-in at the checkout counter
85 Navarre (NAVR) New Hope, Minn. 763 535-8333 Distributor of consumer software, music, and DVDs
86 Techne (TECH) Minneapolis 612 379-8854 Manufacturing and marketing of diagnostics and biotech products
87 Gentex (GNTX) Zeeland, Mich 616 772-1800 ● Makes automotive and fire-protection safety products
88 Finish Line (FINL) Indianapolis 317 899-1022
761
This retailer sports the latest athletic footwear
89 Global Payments (GPN) Atlanta 770 829-8000 Processor of financial transactions
90 RC2 (RCRC) Bolingbrook, Ill. 630 633-3000 Die-cast model cars, trains, action-figures, and toys
91 SigmaTron International (SGMA) Elk Grove Village, Ill. 847 956-8000 Contract manufacturer of electronics products and components
92 Cheesecake Factory (CAKE) Calabasas Hills, Calif. 818 871-3000 It is O.K. to have dessert first at their chain of restaurants
93 American Vanguard (AVD) Newport Beach, Calif 949 260-1200 ●
288
Its pesticides and agricultural chemicals protect crops
94 Simpson Mfg. (SSD) Dublin, Calif. 925 560-9000 ● Structural connectors used to build homes
95 K-V Pharmaceutical (KV.A) Saint Louis 314 645-6600 Maker of generic and branded drugs and drug-delivery systems
96 Young Innovations (YDNT) Algonquin, Ill 847-458-5400 ● Smile services: makers of dental instruments and supplies
97 A.C. Moore Arts & Crafts (ACMR) Blackwood, N.J. 856 228-6700 Sells hobby, household decoration, and holiday supplies
98 Quiksilver (ZQK) Huntington Beach, Calif. 714 889-2200 ● Surf and snowboard stores and clothing lines
99 Inter Parfums (IPAR) New York 212 983-2640 Perfumes and cosmetics manufacturing
100 Lifeline Systems (LIFE) Framingham, Mass. 508 988-1000 ● In emergencies, its service sends help with the press of a button
ALPHABETICAL INDEX OF COMPANIES The number that follows each company name indicates its ranking in the table
A.C. Moore Arts & Crafts 97 Aeropostale 5 Alliance Resource 26 Amedisys 34 American Healthways 32 American Medical Sys. 66 American Vanguard 93 ANSYS 52 Applebee’s Intl. 58 Apria Healthcare Group 68 Big 5 Sporting Goods 62 Bio-Reference Labs. 16 Bradley Pharmaceuticals 18 Bright Horizons Family 72 Caché 41 Cantel Medical 44 CARBO Ceramics 78 Career Education 21 CCA Industries 36 Central European Distrib. 14
Certegy 63 Champps Entertainment 29 Charles River Labs. 57 Cheesecake Factory 92 Chico’s FAS 8 Coach 10 Cognizant Technology 13 Conn’s 55 Cooper Cos. 75 Corinthian Colleges 7 Corporate Exec. Board 40 Daktronics 67 Dick’s Sporting Goods 20 Drew Industries 64 Education Management 48 Encore Acquisition 73 Engineered Support Sys. 33 Eon Labs 12 Escalade 25 Finish Line 88
FLIR Systems 24 Fossil 74 Gen-Probe 71 Gentex 87 Global Payments 89 Gulf Island Fabrication 80 Headwaters 6 Hibbett Sporting Goods 65 Hot Topic 17 Inter Parfums 99 JetBlue Airways 59 JoS. A. Bank Clothiers 83 K-Swiss 15 K-V Pharmaceutical 95 Lifeline Systems 100 ManTech Intl. 53 Marine Products 49 Matrix Service 77 Matthews Intl. 54 Medical Action Inds. 79
Merit Medical Systems 23 Middleby 56 MTC Technologies 11 Multi-Color 69 Multimedia Games 4 Navarre 85 Nutraceutical Intl. 61 Pacific Sunwear of Calif. 46 Panera Bread 30 Patina Oil & Gas 81 Pediatrix Medical Group 45 PetMed Express 1 Providence Service 42 Quality Systems 43 Quiksilver 98 RC2 90 Reliv Intl. 28 Renal Care Group 60 ResMed 82 Respironics 76
Sanderson Farms 47 ScanSource 84 SCP Pool 39 Sensytech 50 SFBC Intl. 51 Shuffle Master 19 SigmaTron Intl. 91 Simpson Mfg. 94 Smucker (J.M.) 70 Sportsman’s Guide 35 Strayer Education 22 Techne 86 Tuesday Morning 27 Univ. of Phoenix Online 3 Universal Tech. Institute 2 Urban Outfitters 37 USANA Health Sciences 9 Varian Medical Systems 38 Yankee Candle 31 Young Innovations 96
June 7, 2004 | BusinessWeek | 109
Sports BizTennis have played only a handful of events since squaring off at Wimbledon last summer, and Serena seems less interested in tennis than in her acting and fashion design careers. Top-ranked Justine Henin-Hardenne lost early at Roland Garros after being sidelined for six weeks with a viral infection. Second-ranked Kim Clijsters won’t play because of a wrist injury, and gimpy feet have kept three-time French Open champ Monica Seles off the tour for a year. For a sport dependent on personalities and rivalries, that spells trouble. But it could be a lot worse—and was. Scott inherited an organization in disarray. When he took over, the 39-year-old, who had played three years on the pro circuit and spent nine years as coo of the men’s atp Tour Inc., became the wta’s third chief in six he improbable moyears. Tour revenues were ment when the fortunes of down 40% in 2003 because the stumbling women’s global sponsor Sanex, a unit tennis tour began to turn of Sara Lee Corp. that makes around took place inside body-care products, had the small office of Wimblepulled out. The wta board don referees last June. spent much of its time There, just two months into his job as squabbling, and the tour was ceo of wta Tour Inc., Larry Scott gathrunning a seven-figure budgered a handful of top pros and laid it on et deficit. the line: Work together to step up efforts To clean house, Scott has with sponsors, fans, and the media, or the built consensus in a manner game would continue to flag. Says Scott: that’s drawing comparisons “I told them the definition of insanity was to Ladies Professional Golf doing the same things over and over and Assn. Commissioner Ty M. expecting a different result.” Votaw, whose business savvy Under Scott, the tour is casting off its has stabilized women’s golf. crazy ways. His bridge-building skills are “The mentality used to be: unifying the archipelago of entities— Let’s get our share,” says players, tournaments, management comScott of the me-first attitude panies, and Grand Slam events—that opof players and tournaments erate independently, and more often than SWEET 17 Can that turned sponsors off. “I not, at odds. As a result, the tour is startSharapova want the wta to have a repuing to harness its potent stable of sexy, win fans and sponsors? tation as one of the most athletic, and bankable stars. “The wta fisponsor-friendly sports in nally has everyone pulling in the same diThat’s not to say women’s tennis sud- the world.” Scott’s other measures include rection,” says Stephanie Tolleson, head of tennis for management powerhouse denly is serving all aces as the French a five-year fiscal plan, streamlining the img. The results are already visible: new Open gets rolling. An epidemic of injuries board from 11 members to 8, and bringing sponsors, more prize money, and even a has left the tour resembling a hospital in a professor of human relations from 9% boost in attendance so far over 2003, ward in recent months. Serena (knee sur- Harvard Business School to smooth decigery) and Venus (muscle strain) Williams sion-making. which saw a dip from 2002. Most important, Scott has jettisoned the idea of a global sponsor, instead breaking the tour’s properties apart by region to squeeze as much out of the brand as pos■ Restructured operating budget and turned deficit into surplus sible. The tour has sealed deals worth $15 ■ Boosted sponsor revenues by 15% million over five years with appliance ■ Increased prize money from $52 million to $58 million maker Whirlpool in Europe, Dubai Duty ■ Beefed up player relations, including pre-tournament access to media Free in the Asia Pacific/ Africa/Middle East region, and media company Tom ■ Increased cooperation with both ATP Tour and the Grand Slam events, Group, a subsidiary of Hong Kong-based including TV packages, coordinated Web operations, calendars, media Hutchison Whampoa, in China. Sponsor guides, and medical services for players. THE BOSS dollars are 15% higher than when Sanex ■ Implemented five-year fiscal plan Political skills was on board. Prize money is up from
Women’s Tennis: Back on Serve Larry Scott inherited a WTA in disarray. Now the tour is looking sharper
(top to bottom) danny moloshok/ap/wide world; robert laberge/getty images
T
Scott’s Solid Shots
Data: BusinessWeek
June 7, 2004 | BusinessWeek | 111
People Crusaders ROONEY A decade-long fight against “ungodly” health-care costs
about $52 million last year to $58 million in 2004, tour officials say. Scott also has shown a deft political touch. He persuaded the wta board to restructure the tour’s budget—now in the black—so that players and tournaments receive their share of sponsor money only after the wta meets its operating and marketing costs. He has made pre-tournament interview sessions mandatory and enlisted stars to make more appearances for sponsors. “Anything Larry has asked us to do has made sense,” says two-time Wimbledon and U.S. Open champ Venus Williams, who at Scott’s urging has met with potential sponsors such as Vodafone Group plc and Bed Bath & Beyond Inc. “He has a handle on what our brand is all about and what we can offer in the marketplace.”
“FEMININE SIDE”
112 | BusinessWeek | June 7, 2004
Making Hospitals Cry Uncle Has insurer J. Patrick Rooney found an unorthodox way to turn up the heat? onservative millionaire J. Patrick Rooney is on a mission from the Almighty: Bring down crushing and “ungodly” health-care costs. For more than a decade, he has worked to replace traditional insurance with tax-free health savings accounts (hsas), which people can use to pay for their own medical care. “I’m doing the right thing, and I think the Lord will be pleased about it,” he says. Using his fortune to open doors in Washington, Rooney has relentlessly preached his gospel. Last year, Congress saw the light: gop lawmakers inserted a $6.4 billion tax break for hsas into a Medicare prescription-drug bill. And a
C
recent survey by Mercer Human Resource Consulting says 75% of employers are likely to offer the accounts by 2006. A courtly 76-year-old, Rooney has never hidden the fact that he stood to profit from his crusade. After pioneering hsa sales with his old company, Golden Rule Insurance, he sold out to UnitedHealth Group Inc. for $893 million just before Congress passed the tax break. He promptly founded Medical Savings Insurance Co. to sell more hsas.
PR HARDBALL but rooney isn’t relying on just the power of his ideas and political connections to make his company profitable. The Indianapolis-based insurance entrepreneur also is backing a nonprofit group
michael l. abramson
critics of tennis as a business have long pointed out that it lacks a major U.S. tv broadcast deal because each tourney controls its own rights. Ratings for women’s tennis on espn have been flat or in decline for the past couple of years, and the U.S. Open women’s final has slipped in 2002 and 2003. Insiders say Scott played an important behind-thescenes role in helping the U.S. Tennis Assn. cobble together its recently unveiled U.S. Open Series. The novel tv package groups 10 formerly independent men’s and women’s tournaments on cbs, espn, and nbc leading up to the Open, providing more coherence for fans. Scott is also troubled by the rash of injuries. He is looking at everything from pushing back January’s Australian Open a week or two to allowing top players to compete less and still maintain their rankings. Some insiders worry that the tour’s pipeline of emerging stars is dangerously thin. With head-turners like Martina Hingis and Anna Kournikova either retired or close to it, the tour is banking on relatively unproven newcomers such as sassy 17-year-old Russian Maria Sharapova to keep sponsors and fans engaged. Sharapova has been featured in the tour’s “Get In Touch With Your Feminine Side” marketing campaign and will be among the first subjects of a new magazine-style tv show debuting on the Tennis Channel this summer. “You can’t fabricate the personality factor,” concedes Scott. But as he’s demonstrating, you can play to your strengths—and boost your chances of winning. ❚❚ –By Douglas Robson in Paris
that uses hardball tactics to get hospitals to cut prices. The nonprofit, called Consejo de Latinos Unidos, campaigns on behalf of uninsured Hispanics. Last year, Consejo pressured the nations’ No. 2 hospital system, Tenet Healthcare Corp., to cut rates for uninsured patients and revamp its collection practices. At the same time, Rooney’s Medical Savings won about $2 million in debt forgiveness from Tenet. Now, Consejo’s leader, Republican strategist K.B. Forbes, has turned his attention to Florida. Hospitals being pilloried there say Rooney’s company owes them millions in unpaid bills, too. And Rooney has suggested that a new Consejo target— hca Inc., America’s largest hospital operator—could take a lesson from Tenet and shake its bad press by cutting a deal to forgive Medical Savings’ debts. Rooney, who pledged seed money to Consejo and hired a Washington public relations firm to draw attention to its cause, says he doesn’t control Forbes. “K.B. has to paddle his own canoe,” Rooney says. Besides, says Rooney, his drive to cut health-care costs, especially hospital fees, is about more than money: It’s a moral crusade. As such, he makes no apologies for unorthodox methods.
ARM-TWISTING? that includes backing Forbes, a onetime Medical Savings employee. “Forbes presents himself as an advocate of the consumer,” says Linda S. Quick, president of South Florida Hospital & Healthcare Assn. But Consejo “seems to be initiated and financed by Rooney and others selling individual insurance.” With his folksy demeanor, Rooney comes across as an endearing do-gooder. He is also one of the most powerful voices on the Right. Since he pioneered hsas in 1990, Rooney, his family, and employees have poured more than $5 million into Republican causes. Rooney’s new model of health coverage, which has won support from President George W. Bush, replaces traditional in-
surance with tax-free health savings accounts and high-deductible policies. The argument: If patients must pay out-ofpocket for, say, the first $1,000 in bills, they will seek more cost-effective care. That, Rooney maintains, will unleash market forces to hold down costs. Big insurers, including Aetna Inc. and many regional Blue Cross Blue Shield Assn. plans, began rolling out hsas this year. For hospitals, the plans pose a threat: bad debts. Patients accustomed to first-dollar coverage find they must pay before insurance kicks in, and many don’t. In April, hca blamed a rising tide of unpaid bills for its soft first quarter. It’s not just patients who aren’t paying. Medical Savings routinely marks down its policyholders’ hospital bills by as much as 80%. “Yes indeed, we’re making unilateral decisions,” Rooney says. “But by God, we have to hold the hospitals down to a reasonable price.” Medical Savings tells providers to accept its checks as full payment—or collect from patients. But as Forbes has demonstrated, hospitals pursuing low-income patients are vulnerable to attack. Last year, Consejo stoked press coverage of poor patients being hunted down by bill collectors. “Nobody wants these cases where someone was sick and the big, bad hospital is suing them,” says Richard Morrison, a vice-president at Orlando’s Adventist Health System, which says Medical Savings owes it some $1 million. Consejo zeroed in on Tenet in 2001 after Forbes uncovered examples of bareknuckle collection practices—such as a lien on a Louisiana patient’s beat-up mobile home. His timing was perfect. Tenet was trying to acquire hospitals in four cities and had drawn fire from the feds over its Medicare billing. At critical junctures, Forbes would trot out patients to portray Tenet as intent on gouging the poor. Tenet lost three of the acquisition deals.
Behind the scenes, Tenet was in talks with Medical Savings over its unpaid bills. In January, 2003, Tenet caved. It forgave nearly all of Medical Savings’ debt and lowered prices for the uninsured. In return, Consejo dropped 10 lawsuits. The deals with Consejo and Rooney were “contemporaneous and simultaneous,” a Tenet executive says. Like Tenet, hca has sought a truce. In mid-2003, Chairman and ceo Jack O. Bovender Jr. set up a meeting with Rooney to explain hca’s discount policy in hopes that Rooney would persuade Forbes to back off. But prior to the meeting, Rooney forwarded a memo to Bovender from Medical Savings President Randy Suttles that drew parallels between hca’s situation and Tenet’s. In the memo, which hca made available to BusinessWeek, Suttles notes that Tenet had shaken some of its bad press after making a deal with Medical Savings. “hca is in similar circumstances,” Suttles wrote. A livid Bovender canceled the meeting. When asked about the email to Bovender, Rooney says: “The one thing hospitals can’t afford is a loss of public trust.” And he isn’t afraid to get in their faces. “If we go to the hospital and beg, they’ll say: ‘We’ll give you 20% off,’ ” says Rooney. “Well phooey—that’s still an outrageous price. And we’re not going to pay it.” Indeed. More than 20 Florida hospital groups—including hca—are suing Medical Savings for some $7 million in overdue payments. hca and other Florida hospitals figure they have better odds of bucking Forbes and Rooney than Tenet did: They’re not under serious regulatory scrutiny, and they’re moving to help the uninsured. Rooney paints a different picture, saying hospitals are lining up to deal: “Tenet is not the only one.” Both he and Forbes—independently, of course—predict victory. ❚❚ –By Lorraine Woellert in Washington
“By God, we have to hold the hospitals down to a reasonable price”
A Little Help from a Nonprofit? FALL, 2000 Talks break down
between health-care insurer Medical Savings and hospital operator Tenet over some $2 million in unpaid bills. JANUARY, 2001 With $100,000 in pledges from J.
Patrick Rooney’s Fairness Foundation, which shares an address with Rooney’s Medical Savings, K.B. Forbes launches nonprofit Consejo to fight for the health-care rights of lower-income,
uninsured Hispanics. JANUARY, 2002 Thanks in part to a PR firm hired by Rooney, newspapers start running positive stories about Consejo. FEBRUARY, 2002 Consejo
sues Tenet on behalf of the uninsured. WINTER, 2002 Forbes takes credit for upsetting Tenet's bid to buy three hospitals. Tenet CEO Jeffrey Barbakow tries to enlist Rooney’s help
in dealing with Forbes. JANUARY-FEBRUARY, 2003
Tenet forgives about $2 million owed by Medical Savings and reaches a deal with Consejo to charge the uninsured discounted rates. Data: BusinessWeek
June 7, 2004 | BusinessWeek | 113
ManagementGovernance C O M M E N TA RY BY LOUIS LAVELLE
CalPERS: Too Fierce?
A
t progressive Corp.’s shareholder meeting in April, ceo Glenn M. Renwick was up for reelection to the board, but the California Public Employees’ Retirement System wasn’t going along. The giant pension fund withheld support for him, citing a “business relationship” that could impair his judgment. A sweetheart deal? Lucrative consulting contract? Not quite. Progressive last year bought software from Fiserv Inc., where Renwick is a director. The cost: $3,595—a measly 0.0001% of Fiserv’s revenues. If Renwick is miffed, he’s not saying; he declined comment. But he’s in good company. At 2,400 companies this year, 90% of its portfolio, Calpers is withholding support for directors— many whose sins are exceedingly small. Most are audit committee members who let auditors consult—which can be an incentive to overlook problems. Others have attendance gaps or minor conflicts. Calpers wants to bring such issues to the fore. Says spokeswoman Patricia K. Macht: “Our way to vote our conscience is to cast our protest vote against those directors.” If Calpers wants the attention of wayward directors, it has it. But if it wants lasting change, targeting the worst would be better. By faulting everyone, Calpers risks marginalizing its voice—becoming the pension fund that cried wolf. What’s more, Calpers’ approach could backfire. The Securities & Exchange Commission is considering making it easier for shareholders to nominate board candidates. Business interests are furious, saying the move would cause chaos. Calpers’ no-vote campaign confirms their worst fears and gives them a potent argument against one of the most important reforms to come along in decades. Says John J. Castellani, president of the Business Roundtable: “It’s a broadbased agenda that has gone too far.” Moreover, Castellani and others say that reflects Calpers’ pro-labor agenda. They point to its attack on Safeway Inc., right
It has pulled the plug on 90% of its boards
114 | BusinessWeek | June 7, 2004
on the heels of a bruising supermarket strike. Union-dominated Calpers withheld support for ceo Steven A. Burd and two directors with business ties to the grocer, all of whom won reelection anyway. Calpers acted after Safeway had already agreed to replace three other board members, leading some to conclude that the attack was payback for Safeway’s tough strike stance. Says Kevin A. Hassett, director of economic policy studies at American Enterprise Institute: “This is shareholder activism designed to further labor’s ends.” In theory, Calpers’ position on auditors who consult is right: They shouldn’t. But not every company that permits it is equally wrong. It makes sense for auditors to do some nonaudit work, such as tax services. That’s why Congress made that exception in the Sarbanes-Oxley Act, subject to many safeguards. And while consulting fees that exceed audit fees are a problem, that’s not the case at every company cited by Calpers. At Coca-Cola Co. and BusinessWeek parent McGraw-Hill Cos., Calpers targeted audit committee members even though consulting fees at both companies declined in 2003, represented less than half of all fees, and were mostly for tax services. Calpers’ tough stand on director conflicts also makes sense—except when they no longer exist. At Verizon Communications Inc., Calpers targeted Sandra O. Moose, citing the company’s relationship with her former employer, Boston Consulting Group. But that relationship ended more than three years ago, which eliminates the conflict under New York Stock Exchange rules. At Lockheed Martin Corp., Calpers had James R. Ukropina in its crosshairs because the company gets legal services from his former law firm. He left the firm in 2000. Calpers says it wants errant companies to change; 50 already have or are mulling improvements, including Gap and American Express. Exceptions for some directors would weaken the campaign, argues Macht: “We’d be accused of having sacred cows.” True, Calpers isn’t alone in its hard-nosed approach. And with thousands of companies to evaluate it’s tempting to let the data decide. But a dogmatic approach weakens Calpers’ credibility and tars companies that are making progress. A targeted approach can work just as well. Consider that building-trades union funds raised the consulting issue at 33 companies, and 21 agreed to changes—all without a single protest vote. Teddy Roosevelt would call that speaking softly and carrying a big stick. It’s a lesson Calpers would do well to learn. ❚❚ For companies and directors on the CalPERS list, go to www.businessweek.com/magazine/extra.htm
illustration by tim lane
Why its good-governance crusade may now be doing more harm than good
Management B-Schools C O M M E N TA RY BY JENNIFER MERRITT
This Outgoing Dean Gets an A-Plus Feldberg tapped Wall Street’s expertise—and wallets—for Columbia’s B-School
M
ention columbia Business School and Wall Street nearly always comes to mind. The school’s links to New York City’s elite downtown financial firms are legendary—more than 50% of the B-school’s mba grads secure finance jobs. Among Columbia’s active—and check-writing—alumni are the likes of Henry Kravis, Sallie Krawcheck, and Mario Gabelli. The school’s faculty boasts former Presidential advisers and Nobel prize winners. And Columbia’s executive programs consistently win the praise of the world’s biggest companies. With a résumé like that, it’s hard to recall the bad old days in the 1980s when mediocre admissions standards, a crumbling building, and an also-ran reputation in the business and academic worlds had driven away alumni support. A paltry $16 million endowment reinforced the decline. Faculty infighting was rampant. That was all before Meyer Feldberg. The debonair, high-energy South African took over as dean in 1989 and reshaped the school over the
next 15 years. Now, at 62, he’s retiring, leaving the impressive turnaround as his legacy. All along, it was Feldberg’s goal to create the “quintessential business school in the quintessential business city.” On this, he never backed down. It was a classic case of strong leadership. He was able to inspire others to follow and—better yet—contribute to the school. He wrangled support from alums who helped rebuild the school’s reputation and expand its endowment to $280 million— a more than sixteenfold increase. “Meyer had the vision and the energy and capability to execute [it],” says Russell L. Carson, a 1967 grad who is a partner in private equity firm Welsh, Carson, Anderson & Stowe and a member of the school’s board. Yet his influence went beyond Columbia’s gates; deans across the B-school world have since followed his lead in globalizing curriculum and forging international partnerships. Feldberg, who’s known for his signature suspenders, colorful shirts and ties, and a gift for persuasion isn’t shy about taking his share of credit. It’s true, he says, that “the faculty, students, alumni, and the board feel great about Columbia Business School now. But a lot of things had to happen first.” Soon after he arrived, Feldberg made three decisions that, at the time, seemed risky—even downright foolish—but that would ultimately shape the character and success of the school. First, long before it was faddish, Feldberg decided to go global. After all, he had come from halfway around the world and had seen the dangers that arise when a country is cut off from the international community. So he set
Turnaround Artist THEN...
...AND NOW
ENDOWMENT
A paltry $16 million, lower than most schools
A $280 million nest egg puts it among the highest
SELECTIVITY
47% of all applicants admitted, with just 2,500 applying
Only 11% to 13% admitted in past four years, with about 6,500 applying
COMMUNITY
Unfocused curriculum; homogeneous student body
Finance-oriented with a global focus; students are 30% international
FACILITIES
A crumbling, roach-infested Uris Hall; limited space
$41 million new building and a $20 million refurbishment of Uris Hall
ALUMNI
Successful alums shunned school and rarely gave money Board includes Henry Kravis and Russ Carson; alums have donated millions Data: Columbia Business School, BusinessWeek
116 | BusinessWeek | June 7, 2004
marc bryan-brown
In 1989, Meyer Feldberg inherited an institution without direction, money, or much respect. Here’s the legacy he leaves upon retirement from Columbia Business School:
Finance Banking about to recraft the school’s curriculum, push faculty research beyond U.S. borders, and reshape the student body into a more cosmopolitan, internationally focused group. All the while he was wooing back alums in international trade, like Liz Claiborne Inc.’s then-chief executive, Jerome Chazen, who could appreciate the message—and gave Feldberg his first big gift, $10 million, to get the effort going. Today most students in the mba program speak two or more languages and have lived or worked abroad. There are 25 joint programs with international schools, including an Executive mba program with London Business School.
Look Out Below, Lenders
The end of the mortgage boom is nigh– and it could get ugly for banks and thrifts
Pledging Allegiance
For Feldberg’s lessons on how to turn around a B-school, go to businessweek.com/magazine/extra.htm 118 | BusinessWeek | June 7, 2004
n most markets—be it stocks, & Arnett Inc., a San Francisco brokerage, bonds, or commodities—most par- expects bank and thrift profits to grow by ticipants never realize the market as little as 6% this year and a mere 5% in has topped until it’s too late. But 2005, after years of 20%-plus growth. for banks and the rest of the na- Two new forces are likely to play havoc tion’s mortgage lenders, the sig- with bank profits: a margin squeeze as nals are as clear as can be. It’s be- the Federal Reserve raises short-term coming painfully evident that the funding costs and the rise in mortgage delinquencies and decurrent surge in housfaults among borrowing activity probably ers—many of them represents the blow-off THE IMPACT OF RISING RATES with weak credit—who to a four-year party. have opted for adThe latest evidence: Demand for mortgages will slow... justable-rate mortThe Commerce Dept.’s BILLIONS OF DOLLARS gages. Says Bove: “At May 26 report that 450 NEW MORTGAGE the risk of a little hypersales of new single- 400 ORIGINATION VOLUME bole, 2005 is going to family homes fell 350 be a bloodbath.” 11.8%—the biggest 300 Just how much pain monthly drop in a 250 will an industry condecade. Mortgage de- 200 traction cause? Plenty, mand could decline 0 I II III IV I II III IV I II III IV for the simple reason even more sharply in '02 '03 '04 'EST. that the nation’s banks coming months. Al...the refi boom will end... and thrifts have inready, refinancing acBILLIONS OF DOLLARS creasingly staked their tivity is down more 900 REFINANCING VOLUME loan portfolios on the than half from 2003’s 750 mortgage and homerecord pace. And over- 600 equity businesses. Over all mortgage origina- 450 the past year, banks tions could tumble 300 have raised their hold36.5% in 2004, to $2.4 150 0 ings of residential trillion, and an addiI II III IV I II III IV I II III IV '02 '03 '04 'EST. mortgages by some tional 28% in 2005 as $125 billion, to $1.35 demand for housing ...and buyers will shift to ARMs PERCENT trillion, or about 18% of cools and refis dry up, 35 their assets. At the same says Doug Duncan, ADJUSTABLE-RATE 30 MORTGAGES AS A time, home-equity chief economist for the 25 PERCENTAGE OF ALL MORTGAGES loans have soared by Mortgage Bankers 20 36% over the past year, Assn. (mba). 15 to a record $324 billion. Tally it all up, and it 10 To handle these loan may not be a pretty 0 volumes, lenders have sight for the financial I II III IV I II III IV I II III IV '02 '03 '04 'EST. built up huge infrasector. Richard X. Bove, Data: Mortgage Bankers Assn. structures. According to bank analyst for Hoefer
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chart by laurel daunis-allen/bw
feldberg’s next big gamble was to hitch Columbia’s academic and intellectual wagon to the field of finance. Back then, investment banks barely noticed Columbia, instead plucking grads from Harvard University and the University of Chicago. But Feldberg insisted that, despite a recession that was hitting the sector hard, finance was the most global of all industries—and the easy commute from Wall Street to 116th Street made Columbia a natural. Then Feldberg made another bold move: Just weeks after the notorious Central Park Jogger incident in 1990, he declared Columbia’s allegiance to New York City. “People really thought I was nuts then,” he says. “The New York economy was in the toilet, there was crack all around, people were getting shot in the streets and raped in the parks.” Even in the face of board pressure that the school decamp for a northern suburb, Feldberg toughed it out and “got lucky,” he says. Soon after, the city rebounded and Wall Street’s money engine went into overdrive. Top-notch professors, like economist and Nobel winner Joseph E. Stiglitz, joined the faculty. What’s more, even as the city faced some downs—particularly the devastation after September 11 and the aftermath of numerous Wall Street scandals—Columbia has managed to keep an even keel. For Columbia’s new dean, R. Glenn Hubbard, there are still plenty of challenges, from finding more space—the school is already outgrowing its new building—to teaching global business in a more anxious world. Lucky for him, Feldberg laid a solid foundation. ❚❚
AT THE PEAK Housing may have hit a high-water mark this spring
Ralph Hall, chief operating officer for gmac Mortgage. But some mortgage brokers and credit counselors contend that lenders are loosening their credit standards to qualify as many new borrowers as possible. And they claim that they’re pushing borrowers toward adjustable-rate mortgages that sport initial rates as low as 1.6%—but that could surge to upwards of 8% if rates climb sharply. “There is a much greater willingness on the lenders’ part to make the loan than in the past,” surmises Steve Bucci, president of Consumer Credit Counseling Service of Southern New England.
laura rauch/ap/wide world
SCARY STUFF
the mba, total mortgage-related employment has risen by 120,000 since 2001. Now it looks likely that banks and thrifts will have to drastically pare back on those extra workers. Indeed, the Seattle thrift, Washington Mutual Inc., laid off 2,900 in the first quarter after eliminating 4,500 in the prior four months, with most of the cuts coming in the firm’s mortgage lending departments. And the end of the mortgage boom is likely to trigger a deeper shakeout within the industry. “There are a lot of regional banks, brokers and mortgage banks that built their operations on refinancings,” notes Joe Anderson, a senior managing director at Countrywide Financial Corp. “When that business goes away and the margins drop, they don’t have other options.” The consolidation is already beginning: In mid-May, Citigroup acquired Principal Residential Mortgage, a Des
certainly, lenders are writing more loans to so-called subprime borrowers with poor credit histories: The volume of such loans surged 70% in the first quarter of 2004, to $105.6 billion. They now account for 18% of all mortgage activity, vs. 7% in the first quarter of 2003, according to Inside Mortgage Finance, a mortgage trade publication. If rates rise fast enough and high enough, analysts believe banks and thrifts could be facing “some scary defaults in the mortgage business,” predicts George R. Yacik, a vice-president at smr Research Corp., a Hackettstown, N.J., mortgage research firm. “There could be some real pain for lenders here.” Lenders maintain that they remain prudent. For one, they say sophisticated risk modeling with computer programs allows them to better predict the likelihood of defaults and charge more to cover greater losses on riskier loans. Many lenders maintain that they’re not basing their lending criteria on the initial level of the arms deals they’re now offering, but on worse-case scenarios in which rates rise much higher. “The industry has had the benefit of hindsight. We saw the big players—the West Coast thrifts—go out of business the last time,” explains Anthony T. Meola, an executive vice-president at Washington Mutual. No doubt about it, the 1980s housing boom had an ugly ending. Will lenders emerge in better shape this time? The amounts involved are much higher today, so let’s hope so. Either way, there’s a bumpy ride ahead. ❚❚ –By Dean Foust in Atlanta, with Christopher Palmeri in Los Angeles, David Welch in Detroit, and bureau reports
A fall-off in mortgages and refis could trigger an industry shakeout
Moines-based mortgage servicer, while Regions Financial and Union Planters agreed in April to combine their mortgage operations. And on May 21, Washington Mutual’s shares climbed nearly 9% on speculation that it might sell out to hsbc Holdings. A Washington Mutual spokesman declined comment. For the moment, though, most mortgage lenders are straining to keep the music playing as long as possible. gmac Mortgage Corp. has slashed its closing fees to as little as $900 and is allowing borrowers to lock in for as long as 60 days before closing, vs. the 45-day window that most lenders provide. “You have to look at your margins and see what you can give the consumer,” says
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Finance Housing C O M M E N TA RY BY DEAN FOUST
A Scary Stretch of Vacant Lots If demand for homes slows, builders’ recent land grabs could hammer profits
executive of Bloomfield Hills (Mich.)based Pulte Homes, Inc.: “We’ve got a much more disciplined business than we had in the past.” Maybe so. But even if builders have scaled back on overzealous construction, they are quietly engaged in a different form of speculation that could inflict real damage in a downturn. With suitable tracts of land increasingly scarce, many builders have been scarfing up new sites in the Southeast and West at a dizzying pace in recent years. Pulte, for instance, now controls about 290,000 lots—a seven-year supply, based on the 40,000 homes it expects to complete this year. ARIZONA Some Dallas-based Centex Corp. has a 76- land is selling for month supply of land, roughly 18 months almost triple its more than it had a year ago, notes Kathy appraised value Shanley, senior bond analyst at Gimme Credit, an institutional research service. Problem is, if the Federal Reserve tightens credit more sharply than expected, this land grab could create a serious drag on builders’ profits for years. That’s due to the interest expense of sitting on all that empty land, since most big builders finance their property purchases with bonds. The expense would soar if the land remains undeveloped for years because housing sales decline. That’s why Gregory E. Gieber, housing analyst for A.G. Edwards & Sons Inc., believes builders and developers may be setting themselves up for a fall with their rosy scenarios. “You can still see the optimism rising,” he says, “even as mortgage rates are on the way up.” Many in the industry maintain that such concerns are unwarranted. They argue that even with rising rates, they can keep up their heady double-digit 25% annual growth pace—but only if 120 | BusinessWeek | June 7, 2004
they keep snatching up land. “For the large builders to continue at the pace they’re growing, they have to buy more land just to stay where they are,” says Stuart A. Miller, chief executive of Miami-based Lennar Corp. Even if growth slows, builders say they have little choice but to stockpile land because local municipalities often take up to three years to sign off on building plans. And they note that they don’t always purchase land outright: Often, they simply take out options for later purchase. Even so, such options, which usually require deposits of 1% to 20% of the property’s value, are hardly risk-free, since they could become worthless. At Pulte, which holds 58% of its land this way, ceo Dugas contends that even if Pulte were forced to let all its options expire, it would not take “a significant hit.” Its existing options on land cost Pulte roughly $190 million, or a
SIGNS OF COOLING 1.4
MILLIONS OF UNITS NEW HOME SALES*
1.2 1.0 0.8 0
JAN. '03 Data: Commerce Dept.
APR. '04 *ANNUAL RATE
third of the $624 million it earned on $9 billion in revenues. Even if housing demand remains as strong as builders are banking on, the current bidding wars for new land could take their toll on future profits. As housing values have soared, builders have reaped lush margins by building on the cheap land that they acquired several years earlier. In the past year, however, the bidding for raw land in hot markets has become heated. In mid-May, Pulte outbid Toll Brothers Inc. and D.R. Horton Inc. when it paid a record $100.5 million for 276 acres at an Arizona state auction—nearly three times the property’s appraised value. And last June, 995 acres auctioned off by the Bureau of Land Management just outside Las Vegas went for $231,979 an acre—a 46% jump over the previous year’s auction and nearly three times the average of all earlier auctions. Given the spiraling costs of obtaining new land, analysts contend that homebuilders need housing values to keep rising sharply just to maintain their margins. But if demand for housing slows, builders could be left with shrinking margins and flat profits. That could leave them nursing a hangover once again. ❚❚
jeff topping; chart by ray vella/bw
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n past housing cycles, rising interest rates have usually spelled trouble for homebuilders, leaving them sitting on huge inventories of unsold homes. So with rates on the rise again, is the industry headed for another bust? Not if you listen to some of the country’s largest builders, who swear they’ve learned from past mistakes. Says Richard J. Dugas, Jr., chief
Finance Private Equity
Gold Beneath The Tinsel? Now private-equity firms are prospecting in Hollywood–and looking to cut costs n hollywood, financing a movie can be a tricky affair. So, too, it seems, is buying a studio. Late last year, when Sony Pictures Entertainment mulled buying MetroGoldwyn-Mayer Inc., the Hollywood studio faced a simple problem: how to do a deal without taking on debt or diluting Sony stock, both nonos for its Japanese parent. The answer: Sony sought out deep pockets, private equity firms, bringing in Providence Equity Partners and Texas Pacific Group to bankroll the deal. Now, Sony is moving
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with the speed of its summer hero SpiderMan. After finishing its due diligence on May 27, it could make a bid as high as $5 billion within the next few weeks. The breakneck negotiations highlight the sudden interest of private-equity funds in the entertainment biz. Until now, most of them avoided Hollywood because of its notorious resistance to pruning lavish perks, bloated salaries, and armies of hangers-on. But fat overhead is precisely what financial buyers feed off, especially when an industry is in the doldrums and its companies cheap.
NO POP Warner may drop the lackluster band Third Eye Blind
Moreover, there isn’t much competition right now in movies or music from “strategics”—private-equity slang for companies in the same industry that bid for rivals. Hobbled by its calamitous aol merger, Time Warner is sticking to expanding its cable-television systems. Walt Disney is under attack from shareholders for alleged poor management, and Viacom wants to dump its problem child, Blockbuster. Even if they could buy, many would face antitrust issues and other regulatory headaches. “Sarbanes Oxley is our silent partner,” says Jonathan Nelson, ceo of Providence Equity. “It has inhibited the risk-taking on boards.” So, flush with cash, private-equity funds are swarming over Tinseltown. In the process, the firms—which raise money from well-heeled investors looking to make large gains—could change the economics of Hollywood. Consider what happened on Mar. 2, the day after former Seagram Co. Chief Executive Edgar Bronfman Jr. closed a $2.6 billion deal to buy Warner Music Group. Prodded by his private-equity backers—Providence, Thomas H. Lee Partners, and Bain Capital—Bronfman cut 1,000 employees, merged two labels, and slashed the sevenfigure salaries of some top executives by
(l to r) photographs by everett collection; debbie vanstory/zuma press
BOND & CO. MGM might make films but may not distribute or market them
Finance Private Equity STREAMS OF CASH
MGM’s film library and the cash it spins off are key to Sony’s investors
when it sold independent film studio Artisan Entertainment to Lion’s Gate Entertainment for $169.5 million, Boston-based Audax Private Equity made an almost sixfold gain for investors. But it took seven years and several false starts to get there. Artisan, once a home-video company, hit it big with The Blair Witch Project movie in 1999, but then took on bigger-budget flicks that bombed and saw its overhead balloon. It eventually canceled plans for an ipo and turned the company over to industry veteran Amir Malin who cut the staff by nearly one-third, trimmed production, and prepped the company for sale. “Buyer beware,” cautions Audax
and perhaps make even more radical changes tomorrow. Warner has been living off the cash generated by its publishing catalog of some 1 million golden oldies. So Bronfman, nudged by his financial partners, wants to boost profits by axing lackluster acts—the rock band Third Eye Blind is a possibility—reevaluating how profitable ones are distributed, and revamping performance goals for the execs who spot new talent. “I think there’s an opportunity to run the business differently,” Bronfman told BusinessWeek after the deal. Plenty of people agree. Last year a half dozen private-equity firms turned out to back bidders for Vivendi Universal’s Hollywood and theme-park unit. They lost out to General Electric Co.’s nbc unit, which may sell its stake in the parks. And now, the firms are focused on mgm. Lee and others have besieged Time Warner Chairman and Chief Executive Richard D. Parsons because he is said to be interested in bidding for mgm. Parsons says he won’t consider a bid until Sony has decided what it’s going to do. Until recently, private-equity firms preferred to buy media Since last summer, private equity firms outfits with hard assets, such have swarmed over entertainment assets. as tv stations, movie theaters, Here are some recent deals: and newspapers that produce predictable streams of cash. MAY 2004 Texas Pacific Group and Providence They’re still buying them. On Equity Partners link with Sony to mull a $5 billion bid Apr. 20, Kohlberg Kravis for MGM. Thomas H. Lee Partners also considers Roberts & Co. beat out five oth- bidding with Time Warner. er firms to buy satellite-servic- APRIL 2004 Kohlberg, Kravis & Roberts buys es company PanAmSat Corp. satellite service company PanAmSat from from Rupert Murdoch’s 34%- DirecTV for$4.3 billion. owned Directv Group Inc. for $4.3 billion. Providence just MARCH 2004 Leonard Green & Partners leads $1.3 joined with Blackstone Group billion management buyout of video rental chain to buy Freedom Communica- Hollywood Entertainment. tions Inc., which owns 65 newspapers, including the Or- NOVEMBER 2003 Lee, Bain Capital, and Providence join with Edgar Bronfman Jr. to buy Warner Music for ange County Register, and $2.6 billion. eight tv stations. By contrast, when private- JUNE/JULY 2003 Texas Pacific, Carlyle Group, equity firms have bought con- Providence, Blackstone Group, and Lee join bids for tent providers in the past, the Vivendi Universal Entertainment but lose out to deals have been profitable, NBC’s $14 billion merger offer. but difficult. Late last year,
The Money Men Pounce On Hollywood
Data: BusinessWeek, Thomson Financial Corp.
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Managing Partner Geoffrey S. Rehnert. Now, more private-equity outfits are cutting deals with music and movie veterans as their partners from the get-go. When Brian C. Mulligan, the former Seagram chief financial officer, put together an $18 billion bid for billionaire Marvin Davis to buy Vivendi’s studio and record company, he lined up Carlyle Group, Bain, and Texas Pacific to bankroll the deal. The bid failed, but Mulligan’s projections showed that the real gold mine was the cache of old movies and music that could be exploited on dvds, online, and, eventually, wireless technologies. An initial public offering would produce the 20% annualized returns that most priBRONFMAN “An vate funds promise opportunity to investors. run the business With an existing differently” studio and distribution team already operating, Sony’s task at mgm, if it buys the studio, will be simpler. The game plan, say sources, is to shut down mgm’s 1,000-person distribution and marketing operation and keep the 50 or so in its moviemaking operation. mgm films, including the James Bond franchise, would then be distributed by Sony. The deal’s main driver: mgm’s library of more than 4,000 films, which throw off an estimated $430 million a year in cash flow from dvd, cable, and other sales—a figure that mgm says has been rising at more than 20% a year as new digital technologies and video-ondemand start to take hold. The cash flow is the key to generating handsome returns for Sony’s private investors. To appease its Japanese owners, Sony plans to operate mgm as a separate company, and would take a minority stake to keep debt off the company’s books. Still, the company hasn’t figured out an exit strategy for its financial partners, who want to cash in big returns for their investors. Sony could buy the partners out at some point down the road or, if the parent allows, take mgm public through an ipo. The private equity guys don’t care. They just want their returns. But if they win mgm, disagreement about how to reward the money men could open the door to another Hollywood staple: a great fight scene. ❚❚ –By Ronald Grover in Los Angeles and Emily Thornton with Tom Lowry in New York
de malglaive etienne/gamma
up to half, taking out more than $250 million a year in overhead. “Why wait a day when you can make the change now?” says Lee Managing Director Scott M. Sperling.
Finance Acquisitions C O M M E N TA RY BY LOUISE LEE
Wells Fargo’s Fixer-Upper Yes, Strong is a smart buy—but it will test the bank’s mettle at every turn
holders gives Wells Fargo Chief Executive Richard M. Kovacevich a chance to do his bank and the mutual-fund industry a big favor by becoming a model of compliance, governance practices, and investor-friendliness. “They have to be cleaner than clean” to keep investors on board, says Burton Greenwald, a mutual-fund consultant in Philadelphia. The task takes on an even greater importance because suddenly San Francisco-based Wells Fargo will be a major player in the mutual-fund industry. Adding Strong’s $34 billion in assets will propel Wells Fargo from 28th to 19th place among fund families, and give it $110 billion in assets. And Wells Fargo doesn’t intend to stop there: It aims to reach the top 10. For now, investors continue to eye Strong’s funds with KOVACEVICH Not one to suspicion. Since the mutualoverpay for a deal fund scandal erupted in early September, it has lost $9 billion in assets as of Apr. 30. Morningstar Inc. has rated Strong’s funds as a sell for months. But in buying damaged goods at a knockdown price of perhaps $500 million, Kovacevich is once again hewing to his strategy of quietly sniffing out bargains and never overpaying for a deal. So far, Wells Fargo hasn’t decided whether it will drop the tainted Strong name entirely or what will happen to Strong’s 70 funds. The bank will form teams of people from both Wells Fargo and Strong to analyze each Strong fund. Expect many of them to be merged into their counterparts at Wells Fargo, with 126 | BusinessWeek | June 7, 2004
the manager with the stronger track record running the combined fund. Wells Fargo was never touched by the scandal that still plagues some of the industry’s biggest players. And its 69 funds, including its flagship Wells Fargo Large Company Growth Fund, certainly have an untarnished reputation for compliance and governance. “We take corporate governance as the most important premise,” says Michael J. Niedermeyer, head of Wells Fargo’s investment-management business. “We think that this is a benefit we bring to Strong.” But in taking Strong aboard, it would do well to impose the strictest possible rules on its funds. “We’d like to see them go above and beyond the law because Strong’s history is so sordid,” says Gareth Lyons, an analyst at Morningstar. For instance, instead of waiting for the sec to come up with new governance rules, Wells Fargo could immediately adopt several sec proposals presently on the table. One, which Fidelity Investments and some other fund companies are fighting, would require that at least 75% of fund directors, including the chairman, be independent of the investment manager. Currently, Wells Fargo is almost there, with five of the seven di-
GOLDEN OPPORTUNITY Buying Strong gives Wells Fargo a chance to take a lead in making the mutual-fund business more investor-friendly by: AXING the Strong name and quickly contacting and reassuring existing
shareholders to stem the outflows and start winning new investments IMPLEMENTING reforms proposed by the SEC, including ensuring 75% of
board members are independent and disclosing how its fund managers are compensated SEIZING the high ground by voluntarily listing on quarterly statements how much investors are charged by the funds and creating more boards so that one doesn’t oversee every fund Data: BusinessWeek
rectors overseeing its funds now independent, including the chair. And Wells Fargo could adopt another sec proposal by disclosing how its fund managers are compensated. In fact, the bank could go even further and begin listing more clearly on regular statements how much an investor is paying to participate in a fund—as one fund family caught in the scandal, mfs, has started doing. Such moves would buck up jittery Strong shareholders and bolster an industry that has been severely tarnished. Certainly they won’t hinder Wells Fargo’s drive to win a place among the top 10 mutual-fund families. ❚❚
karie hamilton/polaris
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or wells fargo & Co., buying what’s left of Strong Capital Management could give the nation’s fourth-largest bank a golden opportunity. Menomonee Falls (Wis.)-based Strong saw its reputation destroyed over the past nine months by charges of improper trading, culminating in a $140 million settlement with the Securities & Exchange Commission on May 20. The task of reassuring Strong’s share-
InformationTechnology Innovations
Something Wiki ThisWayComes They’re Web sites anyone can edit–and they could transform Corporate America hen software developer Nicholas Pisarro Jr. saw his first wiki late last year, he knew it was unlike any Web site he had ever seen. On the site, a free online encyclopedia called Wikipedia, thousands of volunteers had written a breathtaking 500,000 articles in 50 languages since 2001—all thanks to the defining feature of wikis. To contribute, all they had to do to was click on an “edit this page” button and start typing. Now, Pisarro has wikis transforming the way people work at the company he founded, software maker Aperture Technologies Inc. Two dozen of the Stamford (Conn.) company’s 100 employees use them to brainstorm, track projects, write and edit documentation, and coordinate marketing. That has eliminated countless meetings, conference calls, and back-andforth e-mails. Says Pisarro: “Wikis allow this collaboration much better than anything else, so we get things done faster.” The amazing thing is that wikis work at all. Created in 1995 by Oregon programmer Ward Cunningham, who named them for the “Wiki-Wiki,” or “quick” shuttle buses at Honolulu Airport, wikis are special Web sites on which
W
anyone can post material without knowing arcane programming languages. Likewise, anyone can edit them. This can lead to mischief: Jokers have posted images of male anatomy on Wikipedia. But graffiti is usually gone within minutes, because the previous version of a page can be restored with a click. In sensitive corporate situations, access can be controlled, too. That’s one reason the onetime nerd
novelty is infiltrating the corporate world. Peter Thoeny, creator of twiki, a leading open-source wiki program, says at least 35,000 people have downloaded twiki since 2001. Two-thirds of his programs are going into businesses—Walt Disney, sap, and Motorola among them. To capitalize on the opportunity, startups such as Socialtext Inc. are selling wiki software. Ultimately, though, it’s likely that wikis will be pulled into collaboration software such as ibm’s Lotus Workplace. Like open-source software, wikis may make their biggest mark less as a business than as a potent force for change—in this case, in the way people work. Nowhere is that potential more apparent than in today’s far-flung, time-pressed corporate teams. Aaron Burcell, director of marketing for e-mail software startup Stata Laboratories Inc., says working on a wiki has cut the daily phone calls he made on a raft of projects to one a week. It also has allowed Stata to outsource more work, such as engineering, to India. Says Burcell: “I could justify the cost of the wiki just from the lower teleconferencing bills.” Wikis may find their way into more public use. Adam Hertz, vice-president for technology strategy at Eastman Kodak Co.’s online photo unit, Ofoto, is mulling their potential outside corporate walls: Shutterbugs could use them to let relatives and friends contribute stories about photos in their collections. Before long, we may all be hopping a ride on a wiki. ❚❚ –By Robert D. Hof in San Mateo, Calif. For an online tour of wikis and wiki software, go to www.businessweek.com/magazine/extras.htm
WHAT'S A WIKI?
HOW DO THEY WORK?
WHAT'S THE APPEAL?
A Web site on which anyone can post material and make changes fast, without using arcane commands. Volunteers have posted more than 280,000 English-language articles since 2001 to the online encyclopedia Wikipedia.
An “edit” link on each page allows anyone to add, change, or delete material, fostering easy collaboration. Eastman Kodak’s Ofoto uses wikis to help teams develop prototypes of new technologies, work with contractors, and coordinate other tasks.
Speed and simplicity. Voce Communications, a Palo Alto (Calif.) public-relations firm, keeps clients informed about campaigns and schedules faster and more reliably than it could with e-mail exchanges.
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luba lukova
Wiki World: Not Just for Geeks Anymore
InformationTechnology C O M M E N TA RY BY PETER BURROWS
Rock On, iPod What Jobs must do to maintain Apple’s dominance t has been 21⁄2 years since Apple Computer Inc. introduced its iPod digital music player, and consumers’ love affair with the sleek little gizmo just keeps gaining steam. Despite the iPod’s hefty price tag— $249 to $499—Apple has sold 3 million of them, making it far and
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ple’s own history: In 1980, it dominated pcs with a 16% share—but it badly misplayed its hand and now has less than 2%. Just as when Apple ruled the pc market, these are early days for digital music. “We haven’t even seen the big players make their mark in this market yet—like Microsoft and Wal-Mart Stores,” says David Munns, ceo of music company emi Recorded Music North America.
away the most popular music player on the market. Demand is so fierce for the new iPod Minis that there’s a six-week waiting list on Apple’s Web site. And the player is only half of Apple’s dominance in digital music. Its iTunes online music store accounts for 70% of all legal downloads. But as ceo Steven P. Jobs knows all too well, Apple can’t rest on its laurels. In tech circles, soaring success often masks future troubles. Look no further than Ap-
Make Friends what should apple do to stay on top? Plenty. For starters, it needs to embrace the new ways consumers want to buy music. While the iTunes store offers 99¢ downloads, Apple has yet to provide a subscription service for folks who want to listen to whatever they want for a monthly fee. To stare down a raft of new music players, Apple needs to broaden its prod-
DON’T STOP NOW, STEVE To cement Apple’s lead in the digital-music business, CEO Steve Jobs must address several looming threats:
1 2 3 4 5
PROTECT iPOD’S BLISSFUL KARMA: When it was new, buyers were enamored of the the device’s sleek design. But love at first sight is giving way to anger for some customers over crackly sound, battery troubles, and earbuds that won’t stay in the ear. Apple needs to fix these quality problems before rivals close the design gap. GO BEYOND DOWNLOADS: Jobs says people want to buy rather than rent their music.
But RealNetworks has 450,000 customers for its subscription service, which costs up to $9.95 a month. Apple should get into the rental game.
KEEP MICROSOFT IN CHECK: Microsoft is signing up customers for a technology called Janus that will let subscribers temporarily play rented music on portable players. Apple needs to come up with similar technology.
REMEMBER THE MAC: Hewlett-Packard is about to start reselling iPods under its own brand. Apple should find more such partners—say, Amazon.com or Nokia—so iPod technology can become the de facto standard in digital music. As Apple found out with the Macintosh, early innovation is no protection against an onslaught of new rivals. DON’T BE GREEDY: Cutting prices is another way to boost market share and become the industry standard. Apple shouldn’t do this right away since it can’t even keep up with demand now. But once supply improves, Apple needs to trim iPod prices.
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tal- music standard. More allies—say, Amazon.com, Cisco, or Nokia—could help Apple develop innovative new offerings and expand its distribution. Jobs also should rethink his views on subscriptions. He has refused to offer them, saying music fans want to own rather than “rent” their favorite songs. But more than 1 million people now have online music subscriptions. Market leader RealNetworks Inc. boasts 450,000 subscribers paying as much as $9.95 a month, up from 250,000 in the past year. Clearly, many consumers believe subscriptions are an easy, affordable way to discover new music. The subscription model may get even more appealing if Microsoft Corp. succeeds with its new “portable subscriptions.” Later this summer, the software giant is debuting new software, code-named Janus, that lets subscribers listen to rented music on portable players that use its Windows Media software. While Jobs and many others have doubted that the record labels would ever support this approach, Gorog says Roxio has signed deals with the five big labels. Janus “has the potential of cannibalizing download sales,” says a top record exec. Jobs needs to swallow his pride and get in the subscription game so his old nemesis doesn’t gain any advantage—again. To be sure, Apple still holds more cards than any single company in digital music. Besides elegant products, it has the best brand name in the business, the most momentum, and swank stores that are the perfect showcase for its wares. And Jobs is well aware that he can’t stand pat: He recently created a separate iPod division within Apple to emphasize the importance of the business. Still, hordes of rivals are massing at the gate. The iPod may yet become what Kleenex is to tissues or Jell-O is to gelatin desserts, but Jobs has much more work to do to PROUD PAPA There’s make that happen. ❚❚ a six-week waiting –With Tom Lowry list for the iPod Mini in New York
uct line. It should consider forming partnerships to add iPod technology to cell phones and other futuristic devices. And it needs to address nagging quality problems, such as scratchy-sounding headphones and disappointing battery life. While most buyers love their iPods, Apple has to hit a higher standard to keep its market share, premium prices, and good buzz it has with buyers. A swarm of competition is on the way. Rivals have unveiled more than 60 music players to compete with the iPod, and these devices can play music from a variety of services. The iPod, in contrast, works only with iTunes. “When you buy an iPod, you have one choice,” says Chris Gorog, ceo of Roxio Inc., which runs the rival Napster service. “That may work fine for early adopters, but mass-market consumers are going to want to shop wherever they want to shop.” Jobs needs to remember the prime lesson of the Mac: Make friends—lots of friends. While the Mac was an early hit, Apple couldn’t keep up against the investments of Microsoft, Intel, and a gang of rivals. Apple has cut a deal with Hewlett-Packard Co. to have the pc giant resell iPods under its brand name. Jobs should find more partners so Apple’s technology can become the de facto digi-
June 7, 2004 | BusinessWeek | 131
marcio jose sanchez/ap/wide world
In the ’80s, the Mac had 16% of the PC market. Now it has only 2%
Science&Technology Computing
CHEMISTRY Structure and behavior of a molecule
Gunning For Speed
Japan still has the fastest supercomputers. But U.S. companies are closing in ust over two years ago, Tokyo forced Washington to eat crow. A supercomputer funded by the Japanese government trounced America’s mightiest computer. In fact, the Japanese machine, called Earth Simulator, packed more number-crunching speed than the top 20 U.S. supercomputers combined. For years, some U.S. supercomputing gurus had been warning that Washington’s support of high-performance computing was too narrowly focused on the needs of the Pentagon’s nuclearweapons programs. Even acknowledging the U.S. strength in software, they warned that scientific research was being hobbled because U.S. supers were not designed to solve the really tough is-
J
132 | BusinessWeek | June 7, 2004
sues facing civilian scientists and engineers. Earth Simulator, built by Japan’s nec Corp., was proof positive of just how far behind the U.S. had fallen in scientific supercomputing. “I was stunned,” admits Raymond L. Orbach, director of the Energy Dept.’s Office of Science, a major sponsor of academic research. What surprised Orbach and other scientists wasn’t the raw speed of Earth Simulator. The Japanese had been describing their goals since 1997. The amazing thing was how superefficient it was, especially when running simulations of climate trends and fusion-energy generators On May 12, Energy Secretary Spencer Abraham laid out a comeback plan. Tennessee’s Oak Ridge National Laboratory will establish a new supercomputing center for open science and engineering.
It will consist of two or three monster computers from Cray Inc. that will dwarf even the Earth Simulator. The Japanese system theoretically can whiz through an incredible 41 trillion calculations every second. In supercomputer jargon, that’s 41 teraflops—“tera” for trillion, “flops” for floating-point operations per second. Thomas Zacharia, head of computing at Oak Ridge, says his Cray hardware should come close to 40 teraflops by the end of this year, jump to 100 teraflops in early 2006, and hit 350 teraflops by late 2007. The result, he says, will be a “major new tool for competitiveness.” And unlike Earth Simulator, the Oak Ridge supers will be available to remote users through a high-speed network. “We’re already seeing strong interest from the aerospace, auto, and chemical industries,” says Zacharia. Academic scientists who model the birth of stars and the origin of life may have the greatest hunger for supercomputing power. But supercomputers are used in a wide swath of industries, including finance, insurance, semiconductors, and telecommunications. Indeed, roughly half of the world’s top 500 supers are owned by corporations. While the machines used by business today don’t have the muscle to tackle the “grand challenge” problems in science, such as predicting climate change, they have become essential in developing better products and speeding them to market. Procter & Gamble Co. even engineers the superabsorbent materials in its baby diapers with a supercomputer.
images courtesy of prof. charbel farhat, department of aerospace engineering sciences, the university of colorado at boulder; courtesy of accelrys; courtesy of jamstec/esc; courtesy of ibm
AERODYNAMICS A supercomputer aircraft simulation
GEOPHYSICS Simulation of air currents at 6.2 miles Now, ibm and other suppliers are evolving designs that promise a new class of ultrafast supers and innovative software development tools. The U.S. may need the extra brawn. The Earth Simulator Center (esc) is nailing down a collaboration with Japan’s auto makers to harness the super for automotive engineering and simulated crash testing, says esc Director Tetsuya Sato. Even before Earth Simulator, there were signs that nec’s smaller supers, which weren’t available in the U.S. until recently, were delivering potent competitive advantages. For example, many Japanese cars are noticeably quieter than American models. One reason: Japanese carmakers routinely run very sophisticated aerodynamic simulations that show designers where to make subtle refinements in body shape to reduce wind noise. Earth Simulator isn’t the only threat. In computational biology—using software to tackle problems ranging from medical diagnosis to drug discovery— the U.S. has an even bigger handicap. In 2001, Japan’s Institute of Physical & Chemical Research, known as Riken, built a special-purpose computer for such notoriously difficult jobs as simulating the function of proteins. Called the Molecular Dynamics Machine, it has a speed of 78 teraflops—twice as fast as Earth Simulator. Why didn’t Riken’s computer ring alarm bells in Washington in 2001? Because special-purpose computers aren’t highly regarded by most analysts—they lack the versatility of general-purpose
BIOLOGY The anatomy of a protein
machines. Maybe they should take another look. In early 2006, Riken expects to unveil a far faster racer. Its cruising speed will be 1,000 teraflops, or 1 petaflops. While its main task will be elucidating the complex structure of proteins, Makoto Taiji, chief of Riken’s biocomputing team, believes it will also shine in nanotech: designing materials atom-by-atom. All told, the National Energy Research Scientific Computer Center in Berkeley, Calif., figures many American researchers labor under a supercomputing handicap of 10 to 100 times.
SEE HOW THEY RUN
running the complex software used to tackle really difficult issues in physics, chemistry, and simulated crash tests of cars, cots systems rarely eke out even 10% of their peak speed over extended periods. nec’s machines chug along at 30% to 60%. This dramatic difference in so-called sustained performance means that Earth Simulator isn’t just twice as speedy as the current U.S. champ—the asci q from Hewlett-Packard Co. at Los Alamos National Lab, which has a peak speed of 20.5 teraflops. Factor in efficiency, and the Japanese computer can be 6 to 20 times faster, with one test indicating a 36-fold gain. And Earth Simulator pulls this off with fewer processors—5,120 vs. the 8,192 chips in asci q. For most problems in business and nuclear weapons work, the cots approach works great. But in cuttingedge research, vector software code can be the pacing factor in how long a task takes to finish. That matters because it can determine where new insights first trigger breakthroughs and inventions. Plowing new ground in science can involve programs that take days or even years just to run—not counting the time to analyze results and revise the software for the next iteration. Before 1990, scientists trying to understand how proteins function would feed assumptions to a super, then wait a year to see the re-
Massive power is essential in tackling the “grand challenges”
there are two basic approaches to supercomputer design. nec’s supers use a socalled vector architecture, meaning they have custom silicon processors for brains (box, page 134). These chips are specifically designed for the heavy-duty math in science and engineering. In contrast, virtually all U.S. supers do their thinking with ordinary microprocessors—the chips found in pcs and video games. Until Earth Simulator came along, the U.S. was smug about this approach. Because commercial off-theshelf (cots) chips are produced in huge volumes, they’re much less expensive than nec’s chips. So when more speed is needed, ibm, Hewlett-Packard, or Dell can just “scale up,” lashing together 100 or 1,000 more chips—the “scalar” approach. However, the peak-speed ratings of cots clusters can be deceptive. When
June 7, 2004 | BusinessWeek | 133
Science&Technology Computing
NATURE’S SECRETS when it comes to demand for faster computers, there’s no end in sight. Probing nature is like peeling an onion: Each successive layer poses harder questions. Today, supers have virtually become the table stakes for scientific discovery. Further progress in science doesn’t rest only on the traditional interplay between theory and experiment, says Orbach. Simulations will be the “third leg of the stool,” he says. “I’m a theoretical physicist, and there are some problems for which there aren’t any theories. You can only understand that science through simulations.” cots technology was adequate for the “grand-challenge problems that confronted science and engineering in 1995,” says Suresh Shukla, manager of high-performance computing at Boeing Co. But today’s toughest problems, he says, “are not going to get solved efficiently on cots machines.” However, vector machines such as nec’s are expensive, with prices typically in the tens of millions of dollars. For the budget-minded, cots is the ticket. Last fall, a cluster nicknamed Big Mac was unwrapped at Virginia Polytechnic Institute & State University. It consists of 1,100 Macintosh G5 computers. Theoretically, it can wolf down 17.6 trillion
instructions a second. That’s almost 45% of Earth Simulator’s capacity—for 1.3% of its $400 million cost, a paltry $5.2 million. Clusters deliver more than low prices. What they do for “time to insight,” the research counterpart of industry’s time to market, is incalculable. With their own little super, engineering and research teams can bid adieu to monthlong delays while waiting for access to a jumbo cruncher at a National Science Foundation supercomputing center. So questions can get answered sooner despite using slower computers. “There’s another time-to-insight metric that needs to be considered: the time it takes to build an application,” says William R. Pulleyblank, director of exploratory computer systems at ibm’s Research Div. Writing soft- ware usually takes a lot longer than running it. If software development is accelerated because researchers can work with the same tools they use to write programs for pcs and workstations, it can offset even major differences in run times. In terms of the acceptance of cots technology, the record speaks for itself, says David W. Turek, ibm’s vice-president for deep computing. Since 1990, cots clusters have been shoving Craytype machines off the Top500 Supercomputer Sites list (www.top500.org) compiled by Jack J. Dongarra, a senior scientist at Oak Ridge. By 1994, clusters accounted for over half of the world’s speed demons. Last year, 95% were cots systems. “Look,” says Turek, “computer architectures are driven fundamentally by
economics. If I were to come out tomorrow with a really fast system, but you had to spend $500 million to buy it, there would be only one or two customers. That’s not a business.” Turek has a point, concedes Cray ceo James E. Rottsolk. “This market is not large enough to support the research and development expense that ibm or hp would have to spend” to sustain a separate family of vector chips. Worldwide sales of top-end supers have hovered around $1 billion a year for more than a decade, says idc. The Energy Dept. division that supports classified research found cots irresistible. In 1995, it launched the asci program to build a series of progressively faster clusters and leap from gigaflops to teraflops. The program’s crowning achievement will be a 100-teraflops behemoth called asci Purple. ibm expects it to come online next year at Lawrence Livermore National Lab. Livermore researchers are itching to see what this Purple number-eater can do. “For the first time,” says Mark K. Seager, assistant head of terascale computing, “we should be able to do a ‘button-to-boom’ simulation of a nuclear explosion.” It may take several months to simulate the trillions of interactions that happen in just a few billionths of a second. But that’s a breeze compared with running such a simulation on the Cray 1 that Livermore had in the late 1970s. With that super, recalls Seager, “we figured it would take 60,000 years.” Purple’s reign could be brief. ibm and Livermore are also building a still beefier machine, Blue Gene/L. When this experimental system springs to life next year, it may spit out 360 teraflops. But
In problems for which there is no theory, only simulations give answers
Vector vs. Scalar
Here’s how the two flavors of supercomputer chips differ:
» Vector chips do rapid-fire processing of strings of related numbers, or
CRAY 1 Back in 1976
134 | BusinessWeek | June 7, 2004
vectors, common in scientific problems. The chips in scalar systems process numbers one at a time. Imagine that a computer is helping prepare dinner. A vector-chip chef would send you to the market to buy everything on the menu. But a scalar helper would tell you to go buy lettuce. Then it would send you back for meat, again for vegetables, and then for dessert. In business software, vectors are rare, so problems can be divvied up among many chips, and total speed “scales” with the number of chips. But the scalar technique isn’t efficient when dealing with vectors, such as what happens to a car fender second after second in a simulated crash.
BLUE GENE A mock-up view
(l-r) photographs courtesy of cray inc., courtesy of ibm
sults. In the late 1990s, teraflops supers slashed each run to a day or two. With Riken’s 78-teraflops super, it’s only three or four hours, says researcher Taiji. On Riken’s upcoming 1-petaflops brute, it may be just three minutes. A scientist who can screen a different protein model for its pharmaceutical potential every few minutes clearly stands a much better chance of finding the key to a new drug than a researcher whose computer takes half a day to spit out each answer.
Science&Technology Computing Pulleyblank warns that this is by no means certain, because ibm does not have a computer big enough to verify the design of a system like Blue Gene, with 131,072 processors. If all comes together as hoped, Blue Gene may herald the start of a transition to the next generation of supercomputers—systems that combine the benefits of both vector and cots designs. Blue Gene’s chips are turbocharged with a special “pipeline” that pretends to be a vector processor. Cray has developed a similar architecture, dubbed Red Storm, in conjunction with Sandia National Labs. The first such cluster—a $90 million, 40-teraflops system—will be switched on at Sandia this summer. And Oak Ridge will deploy a 20-teraflops Red Storm cluster, half of it by late this year. There is universal agreement that
vector processing alone won’t suffice for the petaflops computers needed to solve the next layer of grand-challenge problems. The software for attacking these issues is mushrooming in size—and contains increasing amounts of the scalar code that cots chips handle so effectively. Having both Cray’s latest top-line machine, a Cray X1, and a Red Storm system under the same roof at Oak Ridge should provide valuable guidelines, Zacharia believes. Further out, the Pentagon’s Defense Advance Research Projects Agency (darpa) is sponsoring a contest to develop blueprints for petaflops systems with balanced vector/scalar performance to improve time to insight. Three companies are in the running: Sun Microsystems, ibm, and Cray. They’ll deliver digital models of their designs by 2006. Then darpa will hold a “bake-
off” to eliminate at least one. The remaining one or two will get funds to construct a working prototype by 2009. Japan doesn’t have anything like the darpa contest under way, says Earth Simulator’s Sato. But nec has a new family of supers up its sleeve that could be announced within the next year. Barring a major surprise from nec, the U.S. seems sure to regain the lead in supercomputers—thanks in large measure to Earth Simulator. The wake-up call it delivered helped galvanize a fresh approach to supercomputing. The results promise untold rewards to both industry and science. ❚❚ –By Otis Port in New York, with Hiroko Tashiro in Tokyo For a table and additional stories on supercomputers, go to www.businessweek.com/magazine/extra.htm
A Race for Flops...
Since 2001, Japan’s supercomputers have left the U.S. in the dust PEAK SPEED IN TERAFLOPS**
MOLECULAR DYNAMICS MACHINE* GRAPE-6* NEC EARTH SIMULATOR HP ASCI Q CALIFORNIA DIGITAL CLUSTER* APPLE CLUSTER DELL CLUSTER IBM ASCI WHITE HP CLUSTER LINUX NETWORX CLUSTER
78 64 41 20.5 20 17.6 15 12 11.6 11
Institute of Physical & Chemical Research (Riken) University of Tokyo Earth Simulator Center Los Alamos National Lab Lawrence Livermore National Lab Virginia Tech National Center for Supercomputing Applications Lawrence Livermore National Lab Pacific Northwest National Lab Los Alamos National Lab
*Not ranked on the latest Top500 Supercomputer Sites. Riken's system was installed in 2001; University of Tokyo's in 2002 operations per second Data: Riken, California Digital Corp., www.top500.org
3-D HEART Computation of blood flow
LOCATION
**Theoretical top speed in trillions of floating-point
DNA Making new discoveries is like peeling an onion
. . . And Tera is Just the Beginning Power needed to complete most complex task in one week TASK
PEAK SPEED
AUTOMOTIVE DEVELOPMENT HUMAN VISION SIMULATION AERODYNAMIC ANALYSES LASER OPTICS MOLECULAR DYNAMICS IN BIOLOGY AERODYNAMIC DESIGN COMPUTATIONAL COSMOLOGY TURBULENCE IN PHYSICS COMPUTATIONAL CHEMISTRY
100 TERAFLOPS 100 TERAFLOPS 1 PETAFLOPS 10 PETAFLOPS 20 PETAFLOPS 1 EXAFLOPS 10 EXAFLOPS 100 EXAFLOPS 1 ZETTAFLOP
(Note: A teraflops is a trillion floating-point operations per second. Peta and exa are 1,000 times faster and 1 million times faster. A zettaflops is 1 followed by 21 zeros calculations per second.) Data: NSF, Energy Dept., NASA
136 | BusinessWeek | June 7, 2004
(l-r) images courtesy of david m. mcqueen at new york university; courtesy of professor john m. rosenberg and Arahela grigorescu, university of pittsburgh
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Personal Business Benefits
Does Your 401(k) CostToo Much? Fees can take as much as 3% of an account each year. Watch out for conflicts of interest. BY ANNE TERGESEN
Y
OU CAN BARGAIN-HUNT FOR virtually any item on your personal balance sheet, from mortgages and car loans to mutual funds and brokerage accounts. But when it comes to what is probably your largest asset aside from your house—your 401(k) retirement plan—you’re stuck. Stuck, that is, with the investments your company selects, no matter how expensive they may be. ¶ Since many 401(k) plans consist of relatively high-cost mutual funds and insurance products, that’s generally bad news. Indeed, the average 401(k) participant in a big plan forks over 1.07% of the account balance each year, while small plan participants pay 1.4%, on average. With the most expensive plans running as high as 3%, “people are hollering about abuse,” says Ted Benna, a benefits consultant who created the 401(k) in 1980 and is now president of the 401(k) Assn., a consulting firm in Jersey Shore, Pa. It’s easy to see why. A worker who puts the $13,000 maximum you can currently invest taxfree into a 401(k) each year will have $1.166 million 138 | BusinessWeek | June 7, 2004
after 30 years, provided the portfolio returns 8% and costs 1.38% a year. But the investor will have 14% more if costs fall to 0.70% and 25% more if they’re just 0.25%, according to Vanguard Group, which is known for managing mutual funds but also administers 401(k)s. Considering that one study pegs investment fees for the average company pension plan at just 0.28%, why are 401(k) fees so high? For one thing, 401(k) plans are far more expensive to run. Indeed, a 401(k) has to maintain multiple separate accounts—tracking returns and transactions for each participant. Plus, since the 401(k) took hold in the 1980s, plans have added increasingly sophisticated services, including access to daily account balances, call centers, online transactions, and employee education programs. Over the past decade, employers have quietly shifted much of the cost of those services to employees. This has occurred in large part through a widespread system called rev-
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Who will pay 152| Barker: dividends next?
sources of their larger counterparts. Consider Putnam Investments, which besides managing mutual funds administers 401(k) plans. It recently upped the price to be on its selective Gateway list for one fund company that requested anonymity. “They tout these funds as the gold standard,” says an executive at the fund company. But while the funds are vetted for performance, it’s also “in part a pay-toplay list.” A Putnam spokeswoman strongly disputes that characterization. She says the company discussed “the offsetting of costs associated with recordkeeping expenses” with just a “handful” of Gateway funds. “This practice is disclosed to plan sponsors” and is “consistent with industry standards,” she adds.
Funds pay to be on the list of 401(k) choices
DANGEROUSLY EXPOSED
mark matcho
enue sharing, in which fees are taken out of employees’ funds and funneled to various service providers. But there’s more to the story. The Securities & Exchange Commission is investigating the disclosure of conflicts of interest in 401(k) fund selection. The U.S. Labor Dept., too, is looking into such issues as whether service providers who have a fiduciary obligation to keep plan costs reasonable are accepting improper payments from funds. They are also examining whether plan providers adequately disclose their fee arrangements. Among the
concerns: Such advisers may favor funds that pay them the most, instead of those that are the best investments. Over the past decade, 401(k) fees have become increasingly complex. Indeed, the fees collected from your account may be parceled out to several service providers (chart, page 140). Critics contend that some of these arrangements can create conflicts of interest that—although often at least partly disclosed in the fine print of mutual-fund prospectuses—are poorly understood, especially by investors and the small plans that lack the time and re-
Paying for a 401(k) Plan The smaller plans take a bigger bite than larger ones. The heftiest charge is for investment management.
PLAN PARTICIPANTS
INVESTMENT FEES
+
what can a 401(k) investor do to contain costs? Start by reexamining your plan’s options, weighing fees as carefully as investment objectives. Since 401(k) plans are tax-deferred, you won’t take a tax hit for selling a profitable holding. As a rule, the low-cost investment options include index funds and the institutional or co-mingled accounts that some plans—mostly big ones—offer. Company stock, though generally free, may leave you dangerously exposed to your employer’s fortunes. Meanwhile, although there may be an investment benefit to adding funds that concentrate in specific industries or stock categories—such as smallcap or international—keep in mind that they tend to cost more. If your 401(k) menu is short on bargains, ask your employer to add lower-cost alternatives, advises Sue Stevens, director of financial planning at researcher Morningstar. Be aware that the fees on rock-bottom 401(k)s can be as low as 0.12% a year, ADMINISTRATIVE FEES
+
TRUSTEE FEES
=
TOTAL FEES
100
1.26%
0.13%
0.01%
1.40%
500
1.17
0.08
0.01
1.26
2,000
1.00
0.06
0.00
1.07*
Average fees as a percentage of assets. Examples assume average account balance of $40,000. The larger a plan’s average account balance, the lower the fees are likely to be. *Due to rounding, these costs add up to 1.07%. Data: 401(k)source.com
June 7, 2004 | BusinessWeek | 139
Personal Business
140 | BusinessWeek | June 7, 2004
or investment management contract, says Joseph Valletta, partner at hr Investment Consultants in Baltimore.) The next step is to pick apart the expense ratio. By examining the fees bundled into it, you can see where the money is going. The prospectus should break the expense ratio into three categories of fees, namely: “investment management,” “12(b)-1,” and “other expenses.”
LUMP SUMS most of the expense ratio pays for exactly what you would expect: investment management. But a fund is also free to charge a 12(b)-1 fee—for marketing and distribution—of up to 1%. That can be used to cover the costs of servicing your account or marketing the fund to your plan. Some funds also levy “sub-transfer agent” fees to defray administrative costs. These are lumped into the “other” or 12(b)-1 categories in the prospectus and, according to Clark Consulting in North Barrington, Ill., can amount to 0.25% to 0.65%. Through revenue sharing, the funds in your 401(k) plan collect the fees and funnel some of that money to others. (As with mutual funds, you won’t see the fees deducted, since they’re taken out of your returns.) Some of the 12(b)-1 fees may go a broker-dealer or other intermediary who helped the fund land a slot in your 401(k) plan. And the sub-transfer agent fees—and often some 12(b)-1 revenue, too—goes to the company that administers your plan in order to pay for such services as record-keeping. Still, these arrangements have drawn criticism. Some contend they provide incentives for brokers and administrators to push funds with higher fees. Moreover, because these extra fees come out of participant’s balances, their increased use has transferred much of the 401(k) overhead to employees. Some revenue sharing payments are hidden. Often, this occurs when funds pay brokers and 401(k) administrators from their parent company’s profits, rather than from 401(k) participants’ balances. Still, some fund
FOLLOWING THE 401(k) MONEY TRAIL You won’t see a charge on your 401(k) statement, but you pay for investment management and other expenses through fees that are deducted from your account. Here’s an example of how the money gets spread around.
PLAN PARTICIPANTS TOTAL FUND EXPENSES
1.4% OF ASSETS
INVESTMENT FUNDS 0.75% of assets SUB TRANSFER AGENT AND 12(b) -1 FEES 0.25%
12(b) -1 FEES 0.40%
PLAN ADMINISTRATOR ADDITIONAL ADMINISTRATIVE FEES ($0 TO $200 PER PARTICIPANT)
BROKER/ DEALER
PLAN SPONSOR
AUDIT, LEGAL AND CONSULTING FEES
VARIOUS PROVIDERS Data: Clark Consulting, BusinessWeek
companies are starting to disclose the practice. For example, in a Mar. 18 sec filing, Boston fund company mfs says that it may pay “dealers” for selling its funds to retirement plans, among other services. The amount: up to 0.25% of the assets placed in the plan. Ask your employer if you’re bearing costs that aren’t included in your fund expense ratios. Check your quarterly account statement, too, since in some cases extra fees are deducted from the balance. Of course, your employer may also write a check to cover some plan bills. But that information isn’t generally available, says David Wray, president of the Profit Sharing/401(k) Council of America. Because of the 401(k)’s tax advantages, the only time it might make sense to shun a plan in favor of a taxable account is in the rare instance that its fees are exorbitant and there’s no matching contribution from your employer. But there’s no doubt that keeping the fees down can make a big difference in how large an amount you’re able to save. So don’t overlook how much you’re paying or remain silent if the tab is too high. ❚❚
mark anderman/the wild studio; chart by alberto mena/bw
according to Benna. So, even if your plan has average costs for its size, there’s room for improvement (table, page 139). Before weighing your alternatives, figure out how much you’re paying in fees. This can be tricky, because of a system of disclosure that puts the burden on you to request documents and comb through the fine print. Fees can take various forms: Most small to midsize plans bundle them into an all-inclusive number, while some larger plans break out the parts. Start by calling your company’s benefits department. Employers are generally required to divulge fees when participants ask. Request a prospectus for each of your funds. (You can also call the fund companies directly.) Here, you’ll find the expense ratios the funds charge to manage your money. Because expense ratios account for about 90% of the average 401(k) participant’s costs, this will give you most of what you need to assess your BENNA The fees. (If your plan uses 401(k)’s father annuities or co-minsays: “People gled funds, ask, respecare hollering tively, for the group anabout abuse” nuity expense contract
Personal Business Health league soccer, and travel baseball, with a game or a practice nearly every day. During a soccer game, he attempted to kick the ball, fell to his knees, and couldn’t get up. He had to be carried from the field. “I felt something pop,” says Gabe. It turned out he had a chip fracture of his hip. He sat out all sports for four weeks and has since given up soccer to focus on baseball.
SITTING OUT Former major league pitcher Burnside with son Paul, who had “Tommy John” surgery in March
FEEDING THE FRENZY
Year-round play and dreams of going pro are sidelining kids with serious injuries. BY MARK HYMAN
A
ll work and no play may make Jack a dull boy. But all play every day can make Jack a hurting boy. At the sports-medicine clinic of Children’s Hospital Boston, where dozens of young athletes hobble in daily, doctors are finding a surprising cause for many of those aches and pains: playing too hard, too often. Swimmers report sore shoulders. Tennis players clutch their lower backs. Soccer players yelp with leg
A Watch List for Parents
pains. All are victims of overuse injuries, a rising health crisis that is derailing or destroying promising careers. Just 15 years ago, overuse injuries accounted for 20% of patients visiting the Boston kids’ clinic, the first of its kind in the U.S. when it opened in 1974. Now it’s 70% and climbing. “Places like our clinic are being flooded with overuse injuries,” says founder Dr. Lyle J. Micheli. Case in point: Gabe Klein, a 7th grader who lives in Mamaroneck, N.Y. Last spring he was playing travel soccer, rec-
STEPPING UP TRAINING
GROWTH SPURTS
MUSCLE IMBALANCES
IGNORING THE PROBLEM
Many injuries occur when practice time is cranked up from two days a week to, say, five. Avoid increasing activity more than 10% a week.
As kids grow, muscles can become less flexible and more susceptible to injury. Parents should watch for periods of rapid growth.
Kids who play one sport year-round develop certain muscles as others remain weak. Consider a balanced conditioning program.
Child athletes and parents shouldn’t assume that injuries will magically go away. Check out minor pains before they become major ones. Data: Kids and Sports, by Dr. Eric Small
142 | BusinessWeek | June 7, 2004
ann states
Young Athletes, Big-League Pain
why are kids pushing sports so hard? All too often they’re impelled by dreams of a college scholarship or the riches of professional sports. Media coverage of gargantuan pro contracts has more parents than ever smitten with the idea of Becky one day playing center court at Wimbledon. “It’s amazing how many parents project their children at professional levels,” says Vern D. Seefeldt, director emeritus of the Institute for the Study of Youth Sports at Michigan State. Coaches feed the frenzy, too. When a soccer guru or tennis tutor urges playing another tourney or jacking up practice time, parents often don’t object. “They’re being told by the coach: ‘Your son has amazing potential and needs to improve his serve next week.’ There are few people guiding the parents who have the welfare of the child at stake,” says Dr. Eric Small, head of the Sports Medicine Center for Young Athletes in Mount Kisco, N.Y., and author of Kids & Sports. Making the injury list even longer is the trend toward sport specialization. A decade ago a peppy 10-year-old might divide his play among soccer, basketball, and baseball seasons. Now more are being channeled to one sport that they play year-round. The extra training improves skills but adds to the wear and tear. Baseball pitchers are especially at risk: Witness high school junior Paul Burnside, who recently underwent elbow surgery to save his pitching career (page 144). For some prodigies there’s no arguing with the single-sport approach. Golfing phenom Michelle Wie, 14, was a tennis player, swimmer, even a slugger on the Little League Baseball team in her native Hawaii, until she turned 9. Then her fa-
Personal Business was over, she was a point guard on the basketball team. “I was a terrible shot, but fast,” says Hamm. “My dad never said: ‘Go out and work on soccer.’ The decisions about playing came from me.” Hamm tells kids to avoid early specialization. For their part, sports docs advise parents to monitor closely how much time their children are putting in. Sudden spikes in hours that coaches demand can
SURGERY
‘Tommy John’ Comes To High School
U
ntil recently, high school junior Paul Burnside was blissfully unaware that pitchers his age could be candidates for “Tommy John” elbow surgery. Paul, son of former MLB pitcher Sheldon Burnside, knew of accomplished pitchers who had undergone arm reconstruction, but they were ailing big leaguers. That changed in March. Paul, 17, was one out shy of victory for Jefferson Davis High School in Montgomery, Ala., when he felt “something a little weird” in his elbow. A few weeks later he had the operation that is named for 26season major leaguer John, a tendon transfer from the wrist or hamstring to the elbow to take the place of a damaged ligament. Burnside is hardly the only teenager taking this route. Once high school heavers paid homage to their heroes by mimicking their pickoff moves and trick pitches. Now they’re having the same elbow surgery— which costs at least $10,000 and involves a long, painful rehabilitation. Even some surgeons who perform the operation are worried about the trend. They say it stems from year-round seasons, competitive pressure, and often, pushy parents and the quest for college scholarships. Says James R. Andrews, a leading orthopedic surgeon: “We ask every parent: ‘Does your child really have the talent to utilize this surgery?’ The problem is, every one of them says yes.” No one is sure how many high school ballplayers—mostly pitchers and catchers, whose positions require strong throwing arms—are having Tommy John operations. But Andrews, who practices in Birmingham, Ala., and has treated the elbows of dozens of major leaguers, including all-stars John Smoltz and Kerry Wood, thinks the numbers
144 | BusinessWeek | June 7, 2004
JOHN Post-op, 14 more seasons
are soaring. From 1988 to 1994, he performed the surgery on seven high school players. In 2003 he operated on 55. Back in 1974, when Dr. Frank W. Jobe dreamed up the operation to fix John’s elbow, the idea of repairing the arm of a high school player would have been ridiculed. John’s surgery was done strictly “to save a career,” recalls orthopedic surgeon Lewis A. Yocum, team physician for the Anaheim Angels, who trained under Jobe. After surgery and a year off for rehab, John went on to pitch 14 more seasons. Because of a rash of elbow injuries among high school players, however, the once-experimental procedure is being sought out by anxious parents. That has Andrews on a crusade against the cause of this epidemic—too little preparation, too
be a warning. Still, says Small, the New York doctor, “parents are so focused on their kids being superstars that they think they’re doing a service when training jumps from 10 hours a week to 30. They love their child, but they have blinders on.” Often those blinders don’t come off until a youngster gets hurt. But by then a 12-year-old’s sports career can be over. ❚❚ much pitching. He blames year-round play, endless summer tournaments, even rules that deny a relief pitcher the proper number of warm-up pitches. For families who come to Andrews, Tommy John surgery is the only hope of keeping alive the dream of a college scholarship or a rich deal with the pros. Andrews says he counsels families to consider more conservative treatment, such as lengthy rest periods, and to look at elbow reconstruction as a last resort. Still, notes Rick Wolff, a youth sports expert and author of The Sports Parenting Edge: “It’s a rare parent who says: ‘Know what? Play ball for fun. Forget about scholarship money or a pro contract.’ For most families, if surgery is the only way to move up, it’s a no-brainer.” Surgeons say that before operating, they also try to determine if high school patients have the potential for a lengthy sports career. Operating on a pitcher who may play just a handful of high school games and quit after a year of difficult rehabilitation makes little sense. “Just because we have a hammer doesn’t mean everything is a nail. Obviously, the surgery isn’t designed for everybody,” says Yocum. Even after careful screening, the careers of most high school players who have Tommy John surgery end quickly. Out of 27 of Andrews’ high school patients interviewed recently by the American Sports Medicine Institute, a research center affiliated with the surgeon’s clinic, only 10 went on to pitch in college. More than half quit the sport less than two years after surgery. Sheldon Burnside, who pitched with Detroit and Cincinnati in the 1980s, has reason to hope that Paul—a 6-foot-4, 200pounder—won’t be among those who quit baseball early. In the game in which his elbow gave out, Paul turned in a performance that Roger Clemens would have been proud of, allowing just three hits and notching 10 strikeouts. Recently the Colorado Rockies sent a scout to have a look at him. “No one in this city has thrown the ball as hard as Paul has,” says Sheldon. If rehab goes well, Paul’s next pitch is scheduled for 2005. –Mark Hyman
vj lovero/icon sports media
ther, B.J., decided his daughter’s focus would be golf. “It was clear she had more talent in golf than anything else,” says B.J. Four years later she nearly won the Kraft Nabisco Championship on the Ladies Professional Golf Assn. tour. There’s more than one path to the big leagues. Soccer Olympian Mia Hamm’s parents encouraged her to play different sports. When high school soccer season
Personal Business Investing
A Steady Flow from Oil Master Limited Partnerships pay high yields. BY STEPHANIE ANDERSON FOREST
C
rude oil, natural gas, and gasoline prices have soared in recent months, yet returns for major oil company stocks have been flat. Is there another way to get in on the action in energy? Energy-sector master limited partnerships (mlps) and income (or royalty) trusts are just that. They’ve shown high returns, tax advantages, and a knack for consistently increasing distributions. Current yields run about 7.5% for mlps and 11% for trusts vs. 2.1% for the Standard & Poor’s 500 Energy index. Over the past five years, mlps posted a total return of 27.2%, while trusts returned 25%, compared with 21.3% for the energy index. While both entities are required to pay out essentially all of their cash flow in distributions, neither pays income taxes, which eliminates the issue of double taxation of dividends. Here’s a look at how these vehicles operate, and some pros and cons of owning them.
depreciation, and produce stable cash flow. Because the mlp is not taxed, most of that cash flow passes directly to the investor. In any given year, an mlp investor will typically pay income tax on only 10% to 20% of the cash distributions. Taxes on the remaining 80% to 90% are deferred until the investor sells the units and pays the capital-gains tax rate. Pension funds and mutual funds can-
not own mlps. However, there is now legislation before Congress that would eliminate that ban and open the door to new investors.
How do MLPs today differ from those that went bust in the 1980s? Energy-related mlps two decades ago offered high yields but very little growth, leaving them unable to sustain their dis-
Pumping Cash For Investors Energy analysts are recommending these yield plays
What is an MLP? An mlp has a general partner who manages the business, and limited partners who invest capital. Limited partner units trade like stocks. mlps pay quarterly cash distributions. Stock analysts who cover other energy companies often follow mlps and income trusts.
MASTER LIMITED PARTNERSHIP/SYMBOL
Crosstex Energy XTEX
PRICE*
$25.78
YIELD*
COMMENTS
6.4% Natural gas pipelines, processing plants
Enbridge Energy Partners EEP
43.80
8.5
Transports oil and liquid natural gases
GulfTerra Energy Partners GTM
37.57
7.6
Pipelines, and platforms in Gulf of Mexico
Inergy NRGY
22.92
7.0
Specializes in propane distribution
Kinder Morgan Energy Partners KMP
40.73
6.9
Largest MLP, 35,000 miles of pipeline
How do MLPs generate cash flow for their distributions?
Magellan Midstream Partners MMP
47.52
7.1
Big refined petroleum pipeline system
The bulk of mlps own “infrastructure” assets—such as pipelines and storage facilities—that are used to process, transport, and store oil, natural gas, and refined petroleum products. They collect revenues for their services and are highly dependent on how much volume they can push through, say, a pipeline. As demand for commodities increases, so will demand for services. But mlps are not directly exposed to energy price fluctuations. Pipelines and other fee-based assets have a long economic life, generate lots of
Plains All American Pipeline PAA
31.35
7.1
Stores oil and liquefied petroleum gas
TEPPCO PartnersTPP
36.09
7.4
Refiner and pipeline operator
ROYALTY AND INCOME TRUST/SYMBOL
PRICE
YIELD
146 | BusinessWeek | June 7, 2004
COMMENTS
Canadian Oil Sands Trust** COS_U.TO $42.20 4.7%
Largest owner of Canadian oil sands
Hugoton Royalty Trust HGT
22.28
8.2
Holds U.S. oil and gas reserves
Pengrowth Energy Trust PGH
13.45
14.2
Big Canadian oil and gas producer
San Juan Basin Royalty Trust SJT
22.85
9.6
Major oil and gas holder in Southwest
Vermillion Energy Trust** VET_U.TO
17.80
11.5
Pumps oil and gas north of Canadian border
*May 24. **Trades in Canadian dollars on the Toronto Stock Exchange Data: Wachovia Securities, RBC Capital Markets, BusinessWeek
Fashion tributions. The new breed of mlps, which was pioneered in the late 1990s by Houston-based Kinder Morgan Energy Partners lp, focuses on high yields and also on growth. That’s driven mostly by acquiring fee-earning assets from major oil and power companies that don’t regard them as part of their core operations. Kinder Morgan plans to hike its payout by 8% this year, to about $2.90 a unit, says President Michael C. Morgan.
How do income trusts differ? Most U.S. income trusts hold royalty interests in producing oil and gas reserves, but they do not buy other assets. As assets are depleted, distributions fall. Most Canadian trusts continue to purchase assets and grow. They focus mainly on oil and natural gas production, making them highly sensitive to price fluctuations. “If oil and gas prices stay high, that’s good,” says s&p credit analyst Michelle Dathorne. “But if they revert substantially, distributions could go down, and that needs to be factored in by investors.”
Taxes on MLPs are a pain— may need to be filed in various states
What impact will rising interest rates have on these entities? As yield-oriented investments, they tend to decline when interest rates are rising. Indeed, since mid-April—when rates began their climb—mlps are off an average of 8.3%, vs. 1.5% for the s&p 500-stock index during the same onemonth period. But some argue the drop has created a buying opportunity because entities will be able to raise distributions to more than offset rising rates. “The stocks have been oversold,” says analyst Yves Siegel of Wachovia Securities. “Most of the damage has already been done.”
Are there other disadvantages to investing in MLPs and income trusts? Taxes on the investments are one of the biggest headaches and could include filing income taxes in various states where the mlps and trusts have assets. rbc Capital Markets’ Mark S. Easterbrook advises: “If you’re going to invest, get an accountant because things could be very complicated.” ❚❚ 148 | BusinessWeek | June 7, 2004
Green with Envy Toss the sad sack your laptop arrived in. Bags now come in wild hues. BY LARRY ARMSTRONG
S
ure, you need to carry a computer. But you don’t have to lug it in that homely corporate-issue black bag. Padded bags designed specifically for laptops are ablaze with color, not only the pinks that are so hot this year but also cool, sherbet-like oranges and limes. Take the messenger-style Commute from Timbuk2 Designs (timbuk2.com). This $100 tote can accommodate most standard laptops and comes in nine color combinations. If green-and-silver (shown) or orangeand-yellow are too flamboyant for you, try the navy or deep red models. Timbuk2’s coolest feature? The inside is lined with plush corduroy. For the neon look, KaraB makes its faux-patent-leather Metro Backpack ($85) in hot pink, lime green, and robin’s-egg blue. Or combine all three colors in a striped, laminated cotton canvas bag that looks as if it’s ready for the beach. Matte vinyl versions come in soft yellow, pink, and blue pastels. The company is new, and distribution is limited, so try the Web site: karab.com.
More choices: Last TIMBUK2 year, red and tan ver- Padded with sions of the Italian- corduroy, leather Slim Triangle at $100 Brief from Lodis (lodis.com) were so popular that the company decided this year to add fun colors—magenta, green, and blue—in a pebble-grain finish ($195). Casauri’s single-compartment laptop envelopes ($58 to $65) are handsome enough to be carried by the Museum of Modern Art’s MoMA Design stores. Now there’s a new portfolio model in the same colors— pink, kiwi, red, and navy—with plenty of extra pockets for papers, phones, and pdas. It’s $106 at casauri.com. ❚❚
Make a Big Splash with Color METRO BACKPACK
ITALIAN STYLE
ENVELOPE
Faux patent leather from KaraB—at $85
From Lodis in pebble grain leather—at $195
A single compartment, from Casauri—from $58
Personal Business Footnotes EDITED BY TODDI GUTNER
TAXES
A TOUGHER REGIME FOR IRA ROLLOVERS
DINING
DOWNSIZING YOUR DESSERT NEVER MIND SUPERSIZING. When it comes
to dessert, the next big thing may be minimizing. Restaurateur Richard Melman is offering two-bite portions of sweets on the lunch menus of three of his Chicago eateries—Petterino’s steak house, Shaw’s Crab House, and Vong’s Thai Kitchen. Price: $1 apiece. Melman declares ittybitty versions of such staples as lemon cheesecake “a smash hit.” They let diners indulge—but only a little, in keeping with today’s diet-conscious times. Next, he plans to add these treats to dinner menus and introduce them in more of his Lettuce Entertain You Enterprises restaurants. —Michael Arndt 150 | BusinessWeek | June 7, 2004
APPAREL
Bug-Proof Clothes FORGET ABOUT STICKY, smelly bug spray. In time for insect-biting season, fly-fishing
and sporting attire specialist Orvis and its sister, travel clothing company Ex Officio, have introduced insect-repellent clothing that has passed the necessary Environmental Protection Agency muster. The garments are treated to repel mosquitoes, ticks, ants, flies, chiggers, midges (a.k.a. no-see-ums), and other things that go buzz. The active ingredient, permethrin, derived from the chrysanthemum plant, is bonded to the garment fibers and is good for 25 washings. (Do not dry-clean.) Orvis’ buzz off garments, mostly all-cotton, include shirts, pants, socks, and hats for men and women ($45 to $169, orvis.com). Its Marquesas buzz off shirt ($69) is designed specifically for fly-fishing—with two hidden pleats in the back that allow greater mobility for casting and a strip for attaching flies of the tied variety. Ex Officio’s buzz off gear for men, women, and kids, includes tops, pants, and accessories for street or trail in polyester and poly-cotton blends, some with moisture-wicking properties and added sun protection ($9 to $84, exofficio.com). —Christine Summerson
INVESTING
Do you throw out your mutual fund statements unopened when the market goes down? Maybe you shouldn’t. If the value of your account falls below a minimum, it could cost you. Three of the five largest fund families, which manage 25% of the industry’s assets, charge up to $16 annually if a retail account sinks below PIMCO Funds $2,500 $16 a minimum balance. The Vanguard Group 2,500 10 reason? It costs too much Fidelity Investments 2,000 12 to service accounts that American Funds 250 None generate little in fees. Franklin Distributors 250 None Some will waive the fee if you have at least $30,000 in other accounts. FUND COMPANY
ACCOUNT MINIMUM*
ANNUAL FEE IF ACCOUNT FALLS BELOW MINIMUM
*Retail accounts only. Fees may be waived for combined account balances exceeding $30,000 or $50,000, depending on the firm. Data: Fund companies
(clockwise from left) david flaherty; dan yaccarino
IF YOU’RE ROLLING over an ira or 401(k), don’t miss the Internal Revenue Service’s 60-day deadline for completing the transaction. In recent years, the irs had been allowing extensions for all kinds of reasons, says Ed Slott, editor of Ed Slott’s IRA Advisor Newsletter (800 663-1340; irahelp.com). But in late April, the agency signaled an end to its leniency when it denied a taxpayer’s request for more time. If you miss the deadline and don’t have a valid reason—such as an inability to complete a rollover because of hospitalization or an error by a financial adviser or bank—you’ll have to pay income tax on your profits, plus a 10% penalty if you’re under the age of 591⁄2.
Personal Business The Barker Portfolio BY ROBERT BARKER
Sniffing Out The Next Big Payouts
payers in the s&p 500 this year to 376. Who’s next? That’s what I wanted to know as I surveyed a list of the remaining 124. Some, such as at&t Wireless, which is being bought by Cingular Wireless, are out. Another 27 had no free cash flow (cash from operations, minus capital spending) over the past four quarters, according to the Reuters Fundamentals data base. Among the rest are a slew of technology companies, such as emc, that hope for fast growth and so plow the cash they create back into operations. Veritas Software, which in the past year generated $536 million in free cash flow, plans to keep it all, both as an
Dividends Ahead? COMPANY/SYMBOL
FREE CASH FLOW*
Cisco Systems CSCO
$5,888
Qwest Communications Intl. Q Time Warner TWX
4,111
Dell DELL
2,869
Oracle ORCL
2,638
Amgen AMGN
1,710
Xerox XRX
1,631
Nextel Communications NXTL EMC EMC
1,566
WellPoint Health Networks WLP
4,225
1,331 1,274
COMMENTS
Is not “religiously” opposed to a dividend Heavily in debt; dividends nowhere in view None since AOL deal; renewed payout "premature" Still favors share buybacks over dividends $8 billion in till, but bidding $7.7 billion for PeopleSoft Focused on stock buybacks, up to $5 billion worth Acquisitions a more likely use of cash flow Lenders will not permit company to pay dividend Sees itself as high-growth company; payout unlikely Merging with Anthem, whose board will weigh a dividend
*Cash from operations, minus capital spending, in millions, trailing 12 months Data: Reuters Fundamentals, BusinessWeek
152 | BusinessWeek | June 7, 2004
operating cushion and as a reserve for acquisitions and stock buybacks. A Veritas spokesman told me that “a dividend isn’t the best possible use of cash.” JUST THE SAME, I FOUND even some well-known tech names are softening the Silicon Valley dogma against dividends. Cisco Systems, for one, generated the most free cash flow among the nondividend-paying s&p 500 (table). In 2002, shareholders voted down a proposal for a payout, and a Cisco spokeswoman said the board right now doesn’t deem a dividend a good idea. But she added that in March, ceo John Chambers told a Wall Street crowd that he does not have a “religious” view on the question, opening the door a bit. In the past year, Cisco generated free cash flow of 86¢ a share. Were it annually to pay out, say, 13¢, its stock would yield 0.6%, about what Intel and Microsoft already pay. Lexmark International, the big maker of computer printers and supplies, is another tech stock that may get a dividend. Last year’s change in the tax law, which sharply cut the rate on dividends, is only one reason. Since finishing a plant expansion in 2001, Lexmark has accumulated $1.4 billion in cash. In the past 12 months alone, it generated $563 million in free cash flow. Just because a company created free cash doesn’t mean a dividend is coming. Qwest Communications International, whose cash flow was swelled by an asset sale, can’t pay one until it clears restrictions imposed by lenders. Ditto Nextel Communications. Time Warner ended its dividend in 2000 amid a calamitous merger with America Online. It’s back on a better financial footing, but ceo Richard Parsons recently made clear to Wall Street that he is eyeing ways to invest the cash flow. A dividend, he said, is “premature.” Elsewhere, the time is looking ripe. Two health insurers that are merging, Anthem and Wellpoint Health Networks, each generate lots of cash and a dividend is a live possibility. Another prospect is Kroger. Two years back, new credit terms freed the supermarket operator to restore a dividend it had ended in 1988. A third of its cash flow now is devoted to cutting debt, the rest to stock buybacks—or a dividend. Dividend stocks can lag bull markets. But they’re a hedge at other times. Through May 24 this year, s&p 500 dividend payers returned 1.5%, while nonpayers lost 2.8%. Think of dividends as unemployment insurance for your portfolio. ❚❚ E-mail: rb@businessweek.com
More major tech names are mulling dividends
ethan hill
You’re getting a nice, double-digit raise. Not in your paycheck, but your portfolio. Standard & Poor’s expects companies in its s&p 500-stock index to pay out almost 14% more in cash this year. More are raising dividends and others are starting them. The likes of Costco Wholesale and Xilinx have boosted the ranks of dividend
Personal Business Inside Wall Street BY GENE G. MARCIAL
WHY HIGH OIL PRICES MAY SPARK OPERATIONS AT TIDEWATER. SAFEWATCH EZ FROM NAPCO MAY BE A SECURITY BREAKTHROUGH. HAVE BUYOUT SUITORS SET THEIR HEARTS ON ST. JUDE MEDICAL?
W
ith oil prices surging, investors are seeking vessels that the rising tide might lift. To some pros, Tidewater (tdw), operator of the world’s largest fleet of offshore oil-service ships, is attractive at 27.24—down from 35 in early March. That drop was due to a slowdown in Gulf of Mexico BIDING drilling. But Roderick McKenzie of ITS TIME investment firm Sterne, Agee & Leach DOLLARS sees a pickup in the gulf and says that 40 international operations will give 35 Tidewater’s earnings their strongest 30 push. “[Drilling] has picked up in 25 TIDEWATER Southeast Asia and West Africa—and 20 the Middle East outlook is good, as the 0 OCT. 20, ’03 MAY 26, ’04 majors start new projects,” he says. Data: Bloomberg Financial Markets Top prices spur a boost in exploration, he notes, which expands Tidewater’s business. He recently upgraded his rating to a buy, figuring Tidewater is worth 35, based on 19 times his 2005 earnings forecast of $1.35 a share, and 13 times his 2006 estimate of $1.95. In 2004, McKenzie expects $1.04, reflecting the Gulf problem, vs. 2003’s $1.57. Scott Kuensell of Brandywine Asset Management, which owns shares, says Tidewater, with its 570 vessels, is positioned to profit from a surge in activity anywhere in the world. Although the Gulf of Mexico has been a challenge, he, too, expects drilling there to revive soon. And with the stock trading below its net asset value of $28 a share, Tidewater is cheap, figures Kuensell.
Napco Could Make a Haul With This Alarm Gizmo
I
n april, as Napco Security Systems (nssc) stock started to drop—along with the rest of the market—from a splitadjusted 11 a share, many bailed out. But not Neal Goldman of Goldman Capital Management. By May 14, the stock had tumbled to 6.84. So Goldman upped his stake, to 4.9%. “Despite the stock’s fall, sales and earnings are getting better,” says Goldman. Napco, mentioned in this column on Dec. 9, 2002, when it was at 4.40, makes electronic locks, fire and burglar alarms, and security cards for building access. A giant win for Napco, according to Goldman, is a recent pact with adt Security Services, a unit of Tyco International and the largest U.S. installer of security systems, to custom-make a simple-to-use lock system for adt. Dubbed the Safewatch
154 | BusinessWeek | June 7, 2004
AFTER A TUMBLE 15
DOLLARS
12 9 6 3 NAPCO SECURITY 0
SYSTEMS
OCT. 20, ‘03
MAY 26, ‘04
Data: Bloomberg Financial Markets
St. Jude’s Bruise Should Clear Up Fast
S
t. jude medical (stj) tumbled 2%, to 73, on May 17, after it revealed that the Food & Drug Administration had delayed for a month the approval of its new Epic crtdefibrillator. St. Jude is a leader in cardiac rhythm-management devices, including pacemakers. These devices account for 71% of its sales. The fda has no issue with the product, says Tao Levy of Deutsche Bank Securities. It simply needs more time to review the filing. Some buyers, who didn’t want to be named, see St. Jude as A POUNDING takeover bait. “St. Jude would be a prize PULSE? for the likes of Boston Scientific and DOLLARS Johnson & Johnson,” says one West 90 Coast fund manager. Both would profit 80 from St. Jude’s products, she adds. 70 Boston Scientific needs them to 60 complement its coronary stents, says 50 ST. JUDE MEDICAL this pro, and j&j needs to boost its 0 OCT. 20, ‘03 MAY 26, ‘04 pharmaceutical business. In a buyout, Data: Bloomberg Financial Markets St. Jude could fetch more than analysts’ 12-month targets of 85 to 90, she figures. Robert Gold of Standard & Poor’s, who rates St. Jude “accumulate,” sees it earning $2.25 a share in 2004 and $2.70 in 2005, vs. 2003’s $1.83. j&j declined comment, and Boston Scientific did not return calls. ❚❚ Gene Marcial’s Inside Wall Street is posted at businessweek.com/ today.htm at 5 p.m. EST on the magazine’s publication day, usually Thursdays. See Gene on Fridays at 1:20 p.m. EST on CNNfn’s The Money Gang. Note: Unless otherwise noted, neither the sources cited in Inside Wall Street nor their firms hold positions in the stocks under discussion. Similarly, they have no investment banking or other financial relationships with them.
photograph by ethan hill; charts by eric hoffmann/bw
Tidewater: Ready to Rise
ez system, it lets a homeowner arm or disarm the alarm with the turn of a key—with no code. adt installs 600,000 security systems a year, and Napco ceo Richard Soloway says that in two years, ez will be installed in 50% of that volume. Goldman figures Napco should earn 42¢ a share on sales of $60 million in fiscal 2004 ending June 30, and 80¢ on $75 million in fiscal 2005, up from 14¢ on $57 million in 2003. He sees the stock at 20 in a year.
Personal Business Figures of the Week STOCKS
U.S. MARKETS S&P 500 Dow Jones Industrials NASDAQ Composite S&P MidCap 400 S&P SmallCap 600 Dow Jones Wilshire 5000
S&P 500 1200
MAY
NOV.
MAY MAY 20-26
1140
1125
1120 1114.9
1050
1100
975
1080
1114.9 10,109.9 1976.2 588.6 281.3 10,869.1
2.4 1.7 4.1 4.1 5.0 2.8
0.3 –3.3 –1.4 2.2 4.0 0.6
19.5 17.5 30.9 29.5 37.4 21.9
641.4 335.4 554.7 556.1 240.6 382.2 114.7 193.6 117.7 154.4 706.9
3.1 1.8 2.0 2.8 2.4 3.3 6.9 2.8 4.0 5.1 3.5
3.1 –4.3 –0.2 0.8 7.4 0.6 –1.0 –4.1 –0.6 6.7 1.4
15.3 15.2 17.3 21.7 24.2 20.8 15.4 11.5 6.1 37.2 34.1
BusinessWeek 50* BW Info Tech 100** S&P/BARRA Growth S&P/BARRA Value S&P Energy S&P Financials S&P REIT S&P Transportation S&P Utilities GSTI Internet PSE Technology
COMMENTARY Equities rebounded strongly as investors shook off fears of inflation along with the drag on consumers’ wallets and spirits from rising energy prices. Once again buyers returned to the techladen NASDAQ, betting U.S. growth will top expectations. Large caps did well, too, as the S&P 500 rose five straight days. The Dow lagged, hurt by a lawsuit against cigarette maker Altria.
*Mar. 19, 1999=1000
BEST-PERFORMING GROUPS
7.5 6.1 6.0 5.6 4.4
4-WEEK TOTAL RETURN
%
LEADERS
–3
–2
Internet Software 111.5 Divsfd. Metals & Mining 76.1 Internet Retail 73.9 Wireless Services 72.3 Oil & Gas Refining 67.6
ALL EQUITY
–1
0
1
52-WEEK TOTAL RETURN
%
GLOBAL MARKETS
MAY 26
WEEK
S&P Euro Plus (U.S. Dollar) 1148.5 London (FT-SE 100) 4438.3 Paris (CAC 40) 3659.9 Frankfurt (DAX) 3867.5 Tokyo (NIKKEI 225) 11,152.1 Hong Kong (Hang Seng) 11,692.6 Toronto (S&P/TSX Composite) 8319.0 Mexico City (IPC) 10,062.6
FUNDAMENTALS S&P 500 Dividend Yield S&P 500 P/E Ratio (Trailing 12 mos.) S&P 500 P/E Ratio (Next 12 mos.)* First Call Earnings Revision*
0.5 –0.7 0.5 –0.1 1.7 5.6 1.9 3.0 MAY 25
1.65% 20.9 16.8 1.40%
% CHANGE YEAR TO LAST 12 DATE MONTHS
–2.6 –0.9 2.9 –2.5 4.5 –7.0 1.2 14.4 WEEK AGO
1.67% 20.6 16.5 2.12%
26.9 11.5 26.8 36.7 37.3 23.2 22.6 53.7 YEAR AGO
1.70% 30.5 16.9 –0.75%
*First Call Corp.
TECHNICAL INDICATORS
MAY 25
WEEK AGO
READING
S&P 500 200-day average 1083.4 1080.3 Positive Stocks above 200-day average 59.0% 49.0% Neutral Options: Put/call ratio 0.82 0.88 Positive Insiders: Vickers NYSE Sell/buy ratio 2.81 2.93 Negative
WORST-PERFORMING LAST LAST 12 GROUPS MONTH % MONTHS % Tobacco –13.1 Photographic Products –14.5 Constr. & Farm Machinery –8.0 Insurance Brokers –6.0 Constr. Materials –7.7 Intgrd. Telecomms. Svcs. –5.1 Employment Services –7.4 Airlines –4.5 Intgrd. Telecomms. Svcs. –7.2 Biotechnology –1.6
INTEREST RATES
LEADERS
Real Estate Financial Domestic Hybrid Precious Metals
4-WEEK TOTAL RETURN
–4
LAST 12 MONTHS %
EQUITY FUND CATEGORIES
MUTUAL FUNDS
%
**Feb. 7, 2000=1000
LAST MONTH %
Personal Products Airlines Internet Retail Internet Software Regional Banks
Data: Bloomberg Financial Markets, Reuters
WEEK ENDED MAY 25 S&P 500 U.S. DIVERSIFIED
% CHANGE YEAR TO LAST 12 DATE MONTHS
WEEK
SECTORS
1060
900
MAY 26
0.5 –1.1 –2.1 –2.1
Japan Diversified Emerg. Mkts. Pacific/Asia ex-Japan Diversified Pacific/Asia
LAGGARDS
LAGGARDS
Latin America –10.5 Diversified Emerg. Mkts. –9.6 Pacific/Asia ex-Japan –9.2 Japan –8.6
Utilities Domestic Hybrid Large-cap Growth Large-cap Blend
50.2 39.4 38.4 37.1
KEY RATES
MAY 26
Money Market Funds
0.59%
0.59%
0.77%
90-Day Treasury Bills
1.08
1.04
1.09
2-Year Treasury Notes
2.45
2.58
1.31
10.6 11.5 16.6 17.0
10-Year Treasury Notes
4.66
4.79
3.43
WEEK AGO YEAR AGO
30-Year Treasury Bonds
5.37
5.50
4.41
30-Year Fixed Mortgage †
6.28
6.30
5.37
†BanxQuote, Inc.
EQUITY FUNDS 4-WEEK TOTAL RETURN
52-WEEK TOTAL RETURN WEEK ENDED MAY 25 S&P 500 U.S. DIVERSIFIED
%
5
10
15
20
ALL EQUITY
25
Data: Standard & Poor’s
52-WEEK TOTAL RETURN LEADERS
Credit Sse. Inst. Sm. C. Gr. 15.8 Oppenheimer Real Asst. A 6.3 Rydx. Invse. Dyn. Dow 30 H 6.2 Rydex Inverse Small Cap H 4.4
Pacific Advs. Sm. Cap A American Heritage Fidelity Japan Small Co. ProFds. Wrlss. Ultsr. Inv.
LAGGARDS
LAGGARDS
Fidelity Adv.. Korea A iShares MSCI S. Kor. Idx. Eaton Vance Grtr. India A iShares MSCI Brazil Idx.
30
%
LEADERS
–17.0 –17.0 –15.6 –15.0
%
90.2 83.3 80.3 76.9
ProFunds UltSh. OTC Inv. –42.0 Rydex Dynam. Vent. 100 –41.9 Rydex Dyn. Tempest 500 –31.8 ProFunds UltraBear Inv. –31.7
BLOOMBERG MUNI YIELD EQUIVALENTS Taxable equivalent yields on AAA-rated, tax-exempt municipal bonds, assuming a 30% federal tax rate. 10-YR. BOND
30-YR. BOND
General Obligations
4.11%
Taxable Equivalent
5.87
7.10
Insured Revenue Bonds
4.27
5.21
Taxable Equivalent
6.10
7.44
4.97%
THE WEEK AHEAD PURCHASING MANAGERS’ INDEX
CONSTRUCTION SPENDING
Tuesday, June 1, 10 a.m. EDT » The Institute for Supply Management’s May industrial activity index is expected to have slipped to 61.5%, from 62.4% for April. That’s based on the median forecast of economists surveyed by Action Economics. An expected bright point is respondents’ continued indication that their companies are picking up the pace of hiring.
Tuesday, June 1, 10 a.m. EDT » Building outlays during April probably climbed 0.5%, after a 1.5% jump in March. VEHICLE SALES Wednesday, June 2 » May sales of U.S. and imported vehicles likely rose to an annual rate of 16.7 million, from 16.4 million in April. FACTORY INVENTORIES
Thursday, June 3, 10 a.m. EDT » Manufacturing inventories
156 | BusinessWeek | June 7, 2004
most likely increased 0.5% in April, following a 0.3% rise in March. EMPLOYMENT Friday, June 4, 8:30 a.m. EDT » Nonfarm payrolls are forecast to have grown by 200,000 in May, with factory payrolls probably adding 20,000 jobs. In April, employment grew by 288,000, with 21,000 in manufacturing. The jobless rate likely held at 5.6%, and the average workweek probably ticked up to 33.8 hours, from 33.7.
The BusinessWeek production index held steady at 219.1 for the week ended May 15, up 13% from the previous year. Before calculation of the four-week moving average, the index improved to 219.5.
For the BW50, more investment data, and the components of the production index visit www.businessweek.com/magazine/extra.htm
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CHRONOMAT EVOLUTION
Index
The Companies This index gives the starting page for a story or feature with a significant reference to a company. Most subsidiaries are indexed under their own names. Companies listed only in tables are not included.
A Abercrombie & Fitch (ANF) 96 Adam Opel (GM) 64 Adkins 14 ADP 94 Advantage Data 13 Adventist Health 112 Aeropostale (ARO) 96 Aetna (AET) 112 A.G. Edwards (AGE) 120 Amazon.com (AMZN) 50, 130 AMD (AMD) 16 American Eagle Outfitters (AEOS) 96 American Express (AXP) 114 American Healthways (AMHC) 86 America Online (TWX) 36 Anthem (ATH) 152 Aperture Technologies 128 Apollo Group (APOL) 88 Apple (AAPL) 20, 24, 130 AstraZeneca (AZN) 48 AT&T Wireless (AWE) 20, 50, 152 Aton Capital 54 Audi 64 B Bain Capital 122 BC Capital Markets 42 Bear Stearns (BSC) 160 Bed Bath & Beyond (BBBY) 111 BellSouth (BLS) 50 Bertelsmann 36 BET (VIA) 86 Bio-Reference Laboratories (BRLK) 102 BJ Services (BJS) 42 Blackstone Group 122 Blockbuster (BBI) 122 BlueOvalNews.com 72 Boeing (BA) 101, 132 Booz Allen Hamilton 64 Boston Consulting 114 Boston Scientific (BSX) 154 Bradley Pharmaceuticals (BDY) 86 Brandywine Asset 154 Brean Murray 94 Buckle (BE) 96 C Career Education (CECO) 88
Carlyle Group 122 CBS (VIA) 111 Cendant (CD) 152 Centex 120 Central European Distribution (CEDC) 88 Charles River Labs (CRL) 86 Charles Schwab (SCH) 44 Chico’s FAS (CHS) 88 Christie’s 70 Chrysler (DCX) 72 Cingular 50, 152 Cisco Systems (CSCO) 86 Citigroup (C) 46, 118 Clark Consulting 138 Coca-Cola (KO) 114 Cognizant Technology (CTSH) 86, 94 Columbia TriStar 122 Comcast (CMCSK) 53 Computer Associates (CA) 50 ConocoPhillips (COP) 42 Corinthian Colleges (COCO) 88 Costco (COST) 152 Countrywide Financial (CFC) 118 Cray (CRAY) 132 Crisil 60 Current Analysis 16 D DaimlerChrysler (DCX) 72 Dell (DELL) 16, 130, 132 Design Consortium 20 Deutsche Bank (DB) 154 Deutsche Telekom (DT) 50 Devon Energy (DVN) S 42 DirecTV (DTV) 50, 122 Dow Chemical (DOW) 70 D.R. Horton (DHI) 120 Dubai Duty Free 111 Dun & Bradstreet 94 E Eastman Kodak (EK) 18, 128 eBay (EBAY) 70, 86 Economy.com 86 Electronic Arts (ERTS) 86 Eli Lilly (LLY) 48 EMC (EMC) 152 EMI 130 Encore Acquisition (EAC) 86 Engineered Support Systems (EASI) 86, 101 Enron 36 ESPN (DIS) 111
158 | BusinessWeek | June 7, 2004
Experience Engineering 20 ExxonMobil (XOM) 42 F Fannie Mae (FNM) 118 FDS (FD) 96 Fiat (FIA) 64 Fidelity Investments 126 Filene’s (RVI) 70 Finish Line (FINL) 92 First Data 94 Fiserv (FISV) 114 Foot Locker (FL) 92 Ford (F) 64, 72 Freedom Communications 122 Friedman Billings Ramsey (FBR) 44 G Gap (GPS) 114 Gartner 94 GE (GE) 50, 70, 122 Genentech (DNA) 48 Genworth (GNW) 50 Gevalia 14 Gimme Credit 120 GMAC Mortgage (GM) 118 Goldman Capital 154 Goldman Sachs (GS) 46, 160 Gucci (GUC) 70 H Halliburton (HAL) 42 HCA (HCA) 112 Hewitt (HEW) 32 Hewlett-Packard (HPQ) 130, 132 Hoefer & Arnett 118 Homestore (HOMS) 36 HR Investment 138 HSBC (HBC) 118 Hutchison Whampoa 111 Hyundai 72 I IBM (IBM) 128, 132 Iceology 72 IDEO 20 IMG 111 Infosys Technologies 94 Intel (INTC) 16, 130, 152 Interros 54 iSold It 70 J J.C. Penney (JCP) 14
J.P. Morgan Chase (JPM) 86, 94 Johnson & Johnson (JNJ) 154 K Kaiser Permanente 20 Kinder Morgan (KMI) 146 Kohlberg Kravis Roberts 122 K.P. Kauffman 42 Krispy Kreme (KKD) 50 Kroger (KR) 152 Kroll Associates 16 K-Swiss 92 L LA Gear 92 Lazard 96 Lehman (LEH) 42, 50 Lennar (LEN) 120 Levi Strauss 88 Lexmark (LXK) 152 Liz Claiborne (LIZ) 116 L.L. Bean 14 Lockheed Martin (LMT) 101, 114 M Marsh & McLennan (MMC) 16 Marvel (MVL) 16 Matrix Service (MTRX) 86 McGraw-Hill (MHP) 114 Medical Savings Insurance 112 Mercedes (DCX) 64, 72 Merck (MRK) 48 Merrill (MER) 46, 60 MetLife 86 MGM (MGM) 122 MFS 138 Microsoft (MSFT) 24, 53, 130, 152 Mitsubishi Motors 72 Morgan Stanley (MWD) 30 Morningstar 126, 138 Motorola (MOT) 128 MTC Technologies (MTCT) 86 MTNL 60 N Nalco 60 Napco Security (NSSC) 154 NASDAQ (NDAQ) 50 Nautilus Group (NLS) 88 NBC (GE) 111, 122 NEC (NIPNY) 132 Newfield (NFX) 42 Nextel (NXTL) 152 Nielsen Media 94 Nike (NKE) 92 Nokia (NOK) 130 Nordstrom (JWN) 14 Nortel Networks (NT) 13
O Occidental Petroleum (OXY) 42 Orvis 150 OSI Pharmaceuticals (OSIP) 48 P PanAmSat (SPOT) 122 Papa John’s (PZZA) 86 PetMed Express 86 Prada 70 Principal Residential Mortgage 118 Prison Health Services 102 Procter & Gamble (PG) 70, 92, 132 Progressive (PGR) 114 Providence Equity 122 Prudential (PRU) 118 PSA Peugeot (PEUGY) 64 Pulte Homes (PHM) 120 PurchasePro.com 36 Putnam 16, 138 PwC 32 Q Quest Diagnostics (DGX) 102 Quicken Loans 118 Qwest (Q) 152 R RBC Capital Markets 146 RealNetworks (RNWK) 130 Reebok 92 Regions Financial (RF) 118 Reuters (RTRSY) 152 Robert Half (RHI) 152 Royal Dutch/Shell (RD) 42 Roxio (ROXI) 130 S Safeway (SWY) 114 Sandler O’Neill 44 SAP (SAP) 128 Sara Lee (SLE) 111 SBC (SBC) 50 SCP Pool 86 Simmons 42 Shipping Corp. of India 60 Shuffle Master (SHFL) 86 Singer Machine (SMD) 88 Smith International 42 SocialText 128 Sony (SNE) 122 Standard & Poor’s (MHP) 60, 86, 146, 152, 154 Staples (STPLS) 152 Stata Laboratories 128 Sterne Agee & Leach 154 St. Jude Medical (STJ) 154 Strayer (STRA) 88 Stride Rite (SRR)92 Strong Capital 126 SunGard Data (SDS) 50
Sun Microsystems (SUNW) 132 Syncrude 42 Swiss Realty 54 T Tata Consultancy 94 Tenet Healthcare (THC) 112 Texas Pacific Group 122 Thomas H. Lee Partners 122 Tidewater (TDW) 154 Time Warner (TWX) 36, 122, 152 TiVo (TIVO) 50 T-Mobile (DT) 50 Toll Brothers (TOL) 120 Tom Group 111 Toyota (TM) 64, 72 Toys ‘R’ Us (TOY) 50 Tver Sewing Factory 54 Tyco (TYC) 32, 154 U Unilever 70 Union Planters (UPC) 118 UnitedHealth Group (UNH) 112 Universal Technical Institute 86 University of Phoenix Online 86 V Vanguard Group 50, 138 Veritas Software (VRTSE) 152 Verizon (VZ) 114 Viacom (VIA) 122 Vivendi (V) 122 Vodafone (VOD) 111 Volkswagen 64 W Wachovia Securities (WB) 96, 146 Wal-Mart Stores (WMT) 130 Walt Disney (DIS) 20, 53, 122, 128 Warnarco (WRNC) 20 Warner Music Group 122 Washington Mutual (WM) 118 Wellington Management 50 Wellpoint Health (WLP) 152 Wells Fargo (WFC) 126 Wet Seal (WTSLA) 96 Whirlpool (WHR) 111 Wipro 94 WTA Tour 111 X Xerox (XRX) 18 Xilinx (XLNX) 152 XTO Energy (XTO) 42 Y Yukos 54, 160
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Editorials
A Rare Misstep By Eliot Spitzer
E
liot spitzer, New York State Attorney General, is the investor’s hero. He has led the charge in ending conflicts of interest on Wall Street, cleaning up the mutual funds industry, and curbing excessive ceo pay. But in going after former New York Stock Exchange Chairman Richard A. Grasso to retrieve $100 million in compensation, Spitzer is stepping
into a potential conflict of interest of his own making. His case is misguided, misdirected, and likely to tarnish Spitzer’s own political future. Here’s why: By most measures, Grasso’s nearly $200 million in compensation as ceo of the nyse is wildly excessive. But who is responsible for giving it to him? Spitzer’s answer is that Grasso and Kenneth Langone, the former chairman of the nyse’s compensation committee, misled the nyse board and tricked it into giving Grasso an outsized pay, pension, and bonus package. Spitzer is suing Grasso and Langone to get much of the money back but is giving a total pass to the nyse’s board. But the notion of Bear Stearns head James E. Cayne, Goldman Sachs ceo Henry M. Paulson Jr., and former New York State Comptroller Carl McCall being naive, indifferent, or stupid victims of Grasso’s and Langone’s deceitful manipulations is simply beyond belief. These are smart, tough men. It was their decision to pay Grasso like the
Russia’s Surprise Reformer
S
ix years ago, russia was in a financial crisis. The government defaulted on its ruble debt and declared a moratorium on principal payments on foreign-currency loans. After that, burned foreign investors treated Russia like toxic waste. Yet contrary to expectations, the economy grew 38% in the next five years. Now Russia has a trade surplus of $60 billion
a year and annual economic growth of 7%. Affluent Russians use cell phones, own laptops, and tool around in foreign cars. Rising oil prices, of course, have a lot to do with Russia’s unexpected economic success. So does President Vladimir V. Putin. Yes, he threw oil giant Yukos tycoon Mikhail B. 160 | BusinessWeek | June 7, 2004
ceo of a big global financial institution rather than like the administrator of a nonprofit foundation. Not prosecuting the board undermines Spitzer’s case (page 46). Worse, Spitzer, a Democrat, is thinking of running for New York State governor in 2006 and is preparing a large fundraising campaign. Much of this money will be raised on Wall Street, perhaps from firms led by the very same men Spitzer is choosing not to prosecute. McCall, in addition, is a prominent state Democrat who could be vital to Spitzer’s political future. Spitzer’s decision not to include these board members in his lawsuit clouds his case with the appearance of conflict of interest and is unseemly at best. Then there’s the matter of the law. Spitzer is suing Grasso under New York State Not-For-Profit Corporation Law, which says that an officer’s compensation should be “reasonable” and “commensurate with services performed.” But there are two types of nonprofits. Type B nonprofits, such as religious, educational, and scientific institutions have singular public missions. Type A nonprofits, such as trade associations, country clubs, and consumer coops are private and are responsible to their owners. The nyse is something of a hybrid. It regulates itself, but there’s no denying that its seat-holding members, especially the specialists, make enormous profits. Grasso was paid to defend their interests. The law is not at all clear on what is “reasonable” here. Spitzer has our respect for all that he has done to reform the financial industry and protect the little guy. But his case against Grasso is ill-considered.
The case against Grasso is a mistake on several counts
Khodorkovsky in jail for fraud and tax evasion. And yes, he clamped down on the media and manipulated the last election to guarantee a landslide victory for himself. Clearly, the ex-kgb agent is a political authoritarian. But he is turning out to be an economic liberal as well (page 54). Much to the astonishment of the West, Putin is cutting taxes, abolishing restrictions on land ownership, insuring bank deposits, encouraging private pensions, and creating a more stable legal system for business. By cutting the income tax to 13%, Putin is bringing millions of Russians in from the cold of the underground economy. For the first time, Russians are asking employers to report their full incomes so they can get mortgages, credit cards, and car loans from banks. Yet there is an economic price to be paid for Putin’s authoritarian ways. Russia has one of the world’s most educated workforces. It does advanced work in software, semiconductors, space, rockets, materials, and nuclear energy. Increasingly, U.S. and European companies are tapping into that talent. But an undemocratic society cannot maximize the creativity of its engineers and scientists. Russia has a good chance of moving from petro-state to global high-tech power, and if Putin improves the country’s democratic institutions, he could help take it there. There could be no better legacy.