AIG, Letting Houses Burn, Food Stamps and Soda, Tunnels

I have a few different topics for today.

First, revisiting AIG again - reader Mloss616 pointed me toward Jonathan Weil's Bloomberg article on a possible reason the Government didn't want to exceed 95% ownership in AIG, emphasis mine:

"Under AIG’s plan to repay the government, the Treasury would swap its current holdings, now valued at $49.1 billion, for a 92.1 percent stake in AIG’s common stock. Once the exchange is completed, the Treasury then would sell its shares on the open market, a process that could take years to complete. 

Just how much demand materializes for those shares will depend partly on whether investors believe they can trust AIG’s numbers. For many of them, an important question will be this: What are the items on AIG’s balance sheet actually worth? 

The government might not want the public to know the answer. Showing AIG’s assets and liabilities at fair value conceivably could scare some investors away, reducing the Treasury’s chances of recouping its money. As for taxpayers, divulging such information could reveal if the government paid more for its stake than it’s worth. 

Determining AIG’s Worth 

The rules for push-down accounting, which the Securities and Exchange Commission’s staff laid out in a 2001 memo, hinge on rigid numerical tests for determining if a company has become “substantially wholly owned” by another entity. The method is prohibited with less than 80 percent ownership, permitted if ownership is 80 percent or more but less than 95 percent, and required (with some exceptions) at 95 percent or more. 

The process works like this. When a transaction or series of deals results in a company becoming substantially owned by another entity, the new owner allocates its purchase price among the assets and liabilities it acquired, using their newly assigned fair values. Those values then are pushed down to the acquired company, which can cause either positive or negative adjustments to the items on its balance sheet."

NY Times Dealbook has a similar article from Steven Davidoff:

"There was also a secondary accounting issue with A.I.G. itself. If a party acquires an interest exceeding 90 percent of A.I.G., under Generally Accepted Accounting Principles, this could be deemed a “change in control” for the company. If so, the principles would require that all of A.I.G.’s assets and liabilities be revalued. This revaluation is mandatory when a shareholder surpasses the 95 percent level. Such a revaluation would be a spectacular undertaking and could throw the valuation of A.I.G. into significant doubt at a time when the Treasury is desiring to sell. Thus, this restructuring was set up to avoid touching off this accounting rule."

I find this troubling, obviously, as it seems that one goal is to obscure the valuation of the big tangled web of crap that is AIG's balance sheet.

In other news that is sure to draw ire from some readers, I'm positively in favor of the fire department who responded to the scene of a fire an watched the house burn.  There are several facts we need to know here: 1) this is an area where fire department fees are paid for by subscription - it costs $75 a year to have the fire department protect your home.  2) the fire department said that they would have entered the house if lives were in danger. 3) they also said that if the fire spread from a "subscribed" house to one that was not subscribed then they would have put out the fire.  4) they were on hand to protect the neighboring house that had paid the $75 protection fee.

Now, insurance doesn't work if you are allowed to buy it only when you need it.  That's the simplest reason I support the FD's actions here.  However, I do think they could reasonably allow some sort of "out of network" penalty rate, as a commenter elsewhere described it.  If 1% of the homes in a given area burn each year, that equates to roughly $7500 ($75 fee divided by 1%) as a breakeven cost per burning home.  The FD should have been happy to put out the fire for $10k, but the logistics of that transaction while the house is burning are not trivial either!

To the people who say "they were there - they should have put it out," I point out this simple truth:  services cost money.  This town elects to pay for the service as a subscriber fee instead of a tax rate (I heard on the radio today that lots of municipalities down South are like this).  If no one pays the subscription fee, there's no fire department.  If the fire department puts out everyone's fire regardless of their payment, there's no reason to pay the subscription fee.   See how that works?  Seriously - if people want to debate me on this in the comments, you better bring your "A" game - you can't buy insurance after you crash your car, after you get sick, or after your house burns down.  Period.  Otherwise it doesn't work.  (note:  try not to deviate into a discussion calling the subscription based fire protection plans stupid.  They may be stupid, but that's another topic.  The point is, this town has one, and it has to be enforced.) 

I'm also very much in favor of NY's push to ban the purchase of soda with food stamps.  (There's an accompanying op-ed as well)

"Mayor Michael R. Bloomberg sought federal permission on Wednesday to bar New York City’s 1.7 million recipients of food stamps from using them to buy soda or other sugared drinks.

The request, made to the United States Department of Agriculture, which finances and sets the rules for the food-stamp program, is part of an aggressive anti-obesity push by the mayor that has also included advertisements, stricter rules on food sold in schools and an unsuccessful attempt to have the state impose a tax on the sugared drinks. "

Again, if you're going to tell me that Mayor Bloomberg is out of line here, you better bring a damn good argument with you.  When the government provides benefits for people, the government has a right to dictate how those benefits are used.  If misuse of the benefits will  result in consequences that necessitate more benefits in other areas (ie, treating obesity and diabetes!), then it's an even easier decision.  It is absolutely positively reasonable for the government to say that you cannot use your benefits to buy things that lead to major health problems, like sugary sodas.  Someone on the NY Times website asked "why not ban Velveeta cheese and other unhealthy stuff too?"  That would also be legit - but perhaps harder to get done logistically and politically.  You can't buy alcohol and cigarettes with food stamps, and I support Bloomberg's push to prevent other unhealthy purchases which lead to further deterioration of health and then larger health care costs.  As the Op-ed argues:

"And substantial health care costs arise from this trend: obesity-related illnesses cost New York State residents nearly $8 billion a year in medical costs, or $770 per household. All of us pay the price through higher taxes. 

Every year, tens of millions of federal dollars are spent on sweetened beverages in New York City through the food stamp program — far more than is spent on obesity prevention. This amounts to an enormous subsidy to the sweetened beverage industry."

The Times article quotes some senior advisers who are worried about the "stigma" associated with such bans.  That's nonsense - food stamps are a legit method to help ensure that people don't go hungry in our country.  I'd be in favor of much more socialized support if it also came with stricter limitations.  People should be able to buy all the rice, grains, fruits, etc that they need to feed their families - but not all of the chocolate cake, candy bars, soda, Big Macs, etc. 

Oh - and speaking of how services cost money - there's some brew-ha-ha over NJ Governor Chris Christie's decision to scrap the new Hudson River Tunnel.   Paul Krugman called Christie an Idiot for thinking about scrapping the project and passing up Federal funds (hey - it's Other People's Money! of course Krugman loves it!), and the NY Times article has hundreds of comments ridiculing Christie as a "typical Republican." The problem is that Krugman lives in an economic lab and Christie lives in the real world.

Could NJ use a nice new tunnel to NYC?  Of course they could.  Do you think Gov Christie knows this?  I'm willing to bet a lot of money that he knows that a tunnel would make life easier for many of his constituents.  But he also thinks that his state can't afford it.  Remember kids, stuff costs money - so you can't complain about Christie's decision to scrap the project unless you're out there lobbying for higher taxes and volunteering to pay for it.  Last time I checked, I didn't see a lot of people who wanted to pay higher taxes.  Everyone wants OTHER people to pay higher taxes, but no one wants to pay higher taxes themselves...  As my friend Yanga put it - "Do you want teachers? or Tunnels?  Everything has to be paid for.  And so it goes.

anyway...

-KD 

Kid Dynamite Slaughters A Cow

Well, that's a slight exaggeration in the title - I helped slaughter a cow - and by "helped" I mean that I held a leg here, a stomach there, pulled some ribs apart here when needed.  There are a lot of pictures and videos in this post, and some of them might be considered gory - but it's nothing more than blood and guts.  If pictures of a dead skinless cow offend you, you probably don't want to read on.

When my neighbor, Mike,  called me and said that he was going to help another neighbor, Paul,  slaughter one of his cows this week, I thought it would be a good opportunity.  My friends think I'm a "farmer" because I have some craptasticly poor producing apple trees, some acreage, a garden and a riding mower.  This guy is a real farmer - he has 35 head of Highland cattle, and it's a full time job looking after that kind of operation.  On the one year anniversary of my move from NYC to the NH woods, I thought this would be the perfect opportunity for some new exposure  I'm an animal lover, but also a meat lover, and I think that if you can't stand to see how the cow gets to your table, you're being a hypocrite.  Thus, I jumped at the opportunity.

Mike picked me up at 7:30 and we drove around the corner to Paul's place.   Paul is a dead ringer for Hal Holbrook's character in the movie Wall Street - Lou Mannheim, by which I mean that Paul looks just like Hal Holbrook did 25 years ago.

We drove up to one of Paul's fields where the target cow was hanging out, and Paul had his .308 rifle.  He put down a bucket of grain, which the cow went to eat, stepped back 4 yards, and fired one shot into the cow's forehead.  I had remarked to Mike that the rifle didn't look large - I'm not a gun expert - but man, it sounded large.  The cow collapsed immediately and without gore or fanfare - no shaking, convulsing, screaming or evidence of pain.  It just dropped.  Paul gave it another shot in the back of the head just to be sure, and the deed was done.  The other cows came around to investigate, but weren't scared or agitated - just curious.

Paul slit the dead cow's throat to allow the blood to drain onto the grass, and we got to work tying a chain around the back leg to lift the cow up with the tractor, to let more blood drain out.  Paul drove the cow down toward the spot where we'd be skinning it, while Mike held the horns to keep it from slamming into the tractor, and I took pictures like a tourist:

The next several hours were spent on the slaughtering - they told me this was called slaughtering even though the cow was dead already, as opposed to butchering, where the meat is cut up into portions.  I guess you could also call this the early stages of butchering:  the point was to remove the hide and the organs, and cut the cow into quarters.

Paul's son joined us, and they started above the hooves, slicing off the skin and removing the hide.  It was cool and rainy, but I managed to snap a lot of pictures.

Starting at the ankle:

then working up the leg:

Eventually, you all meet on a line down the middle:

They weren't going to sell this hide - if they are, they need to be even more careful with the cuts.  I was surprised that the hides only go for $30 or so.  This isn't a garden variety dairy cow - these hairy guys have really nice hides.  It seemed a shame not to take this thing home and cure it to hang on the wall of my barn, but I didn't think my wife would appreciate this as an anniversary gift.  "Hey honey, pick up 35 boxes of kosher salt - I'm bringing home a cow hide to cure!"  So the hide and guts go to the coyotes - although they saved the heart, tongue, tail and liver for human use.

Eventually, you get the hide off:

and you're left with a little bit around the anus which is the tricky part.  Yes - cow poop chute was the scientific part of the day.  Obviously, you don't want to puncture the intestinal tract, so they trim all around it, then tie it off with a rope, which they will then pull through from the other side to pull out the tract intact.  Pretty cool, actually,  plus it gave me an excuse to get a closeup picture of a cow's asshole:

Here's the string tied around the intestinal tract:

That picture looks a little gory, but it's nothing more than fat.  There's no blood, poop, or bile.

Here's a cool video I shot of the partially skinned cow, which had been dead for 90 minutes at least, and was still twitching:

Next, they cut the cow's head off, and we're at this stage:

They lower the cow to the ground and hook it up by its arms, to begin cutting through the sternum, right down the middle.  They try to cut down without spilling out the stomach:



then cut through the sternum (using a hand saw) so that the ribs split, and let the stomach and guts fall out after that.

We had a tough time getting this one to split open - apparently the one they'd done previously was easier.  Once she's opened up, the gut sack is removed.  I guess this would be considered the gross part - but interestingly, all the stuff is pretty much "contained" - as long as you don't puncture the neat little membrane every part comes in!  There is a smell, like "cow" when you open up the cavity, but it dissipates pretty quickly.  Another video:

After the gut sack comes out, you reach in and grab that handy poop chute rope, and pull the end of the intestinal tract cleanly through.  Voila.  You're left with this:

From there it's a matter of a SawZall:



Which gets you to here:

and eventually here:

Then Paul drove the two sides of beef down to his meat locker, which is in a small shelter.  I captured a surreal picture of one of the other cows watching the final step in the process, where each side is cut in half - quartered - by slicing between the 4th and 5th ribs:

The quarters are then rolled into the meat locker to age for a few days before butchering.  Strangely, I didn't have any Rocky impulses at this time, and managed to refrain from punching the quarters of beef in the meat locker.  There was a quartered bull in the locker already, from several days ago - they let him age for a week and a half, but this old cow was destined for hamburger and thus would only age for 3-4 days.  The aging allows the meat to tighten up and make it easier to cut - they said that butchering this one as is right now would be like trying to cut jello.

This is the slightly aged meat:

And that concluded my lesson in slaughtering a cow.  I hope to return this weekend for the butchering of the aged bull quarters.

All in all, this was a great experience - invaluable exposure and knowledge of the process of getting the meat from the pasture to your table.  Obviously, larger scale operations will do this in a totally different, mass produced manner, and I'm fairly certain that if I were in a commercial slaughterhouse I would have walked away with a vastly different (worse!) view of the whole process.

I'll tell you one thing, though - as I sit here and type this post, inserting all these photos, I can smell the cow clearly, even though I'm sitting here in my dining room.

Readers who want to see a picture of the stomach and guts can scroll down below...

-KD


guts below...





last chance to bail out...






ok - here are the guts - note the string tied around the poop tract in the lower left, and the lungs in the upper left:

What is EQIX Telling Us?

When I see a stock like EQIX get MASSACRED today on a relatively minor announcement, I take it as a warning sign.  Currently, EQIX is down more than 33% on this announcement:

"Equinix now expects third quarter revenues to be in the range of $328.0 to $330.0 million, the midpoint of which is 2.2 percent lower than the midpoint of its previous outlook, and total revenues for the full year to be approximately $1,215.0 million, which is 1.2 percent lower than the midpoint of its previous outlook. This updated guidance is due to underestimated churn assumptions in Equinix’s forecast models in North America, greater than expected discounting to secure longer term contract renewals and lower than expected revenues attributable to the Switch and Data business acquired in April 2010. 

For third quarter 2010, Equinix is increasing its adjusted EBITDA outlook to greater than $140.0 million. For the full year of 2010, the adjusted EBITDA outlook is also being increased to approximately $540.0 million. This increase in expectations is due in part to better than expected gross margins and lower than expected cash selling, general and administrative expenses."

What I take from this is that EQIX was priced to perfection.  Looking at the charts of some of the monster rallies we've seen lately (PCLN, OPEN, NFLX), I get the feeling EQIX isn't the only stock out there relying on a perfect storm of optimistic assumptions.

Barry Ritholtz today wrote an article called "Do You Want to Be Right? Or Do You Want to Make Money?" where one basic message was "don't fight the tape."  (What's "fighting the tape?"  Shorting NFLX, for example - that's fighting the tape.  You may think the stock is overpriced, but it's going higher whether you like it or not - for now at least.  It's a friggin freight train)  I agree with Barry's "don't fight the tape" advice and I hate to fight the tape - but the problem, as illustrated in today's EQIX action where the stock was brutally butchered off an announcement that certainly doesn't seem to warrant a 35% decline in the stock price,  is that once the tides turn, investors have little to no chance to take profits or reduce their positions!   

That leaves traders in a tough spot - sit on the sidelines and watch others happily gorge themselves at the profit buffet while hoping they'll be able to escape before the elevator comes to take the stock price down?   Or jump right in yourself, and hope that you'll be smart enough to jump off before everyone else tries to flee a burning building, so to speak?   It's not easy, either way.

There's an old quote:  "Stocks take the stairs up, and the elevator down."

I have no positions in any of the stocks mentioned.  

-KD

Treasury's Response On AIG

I received a surprise follow-up from Treasury today regarding the questions I had posed them last week which went unanswered:

"Why is the treasury converting senior obligations into junior obligations at a discount?  How does Treasury justify the roughly $45 conversion price?  Why are we giving non-government AIG common shareholders another subsidy?"

I had an hour long conversation with a Senior Treasury Official (STO for short) in which he explained his thinking and rationale on the matter.  I'm going to keep him anonymous because the conversation was "off the record," although he gave me permission to detail aspects of the conversation, with the obvious caveat that I was accurate in my representations.  I've chosen to include a few direct quotes I found especially juicy, which I might not be able to include if I attributed them to a specific individual.

The STO delved right into my first question - that of the exchange of senior preferred stock for junior common equity.  First of all, the Fed's loans had senior claims on company assets attached to them, so they had to be paid back first, which is why the Treasury is essentially assuming the Fed's AIA/ALICO SPV preferred interests (Andrew Ross Sorkin got this part wrong - this "debt" is still outstanding, but will be paid back with the proceeds of planned asset sales)  He re-explained the life cycle of the support AIG had received:  Initially Treasury owned 10% coupon cumulative preferred stock that was, basically,  pretty sweet.  Cumulative means that if they miss a dividend, it accrues - it's owed to the holders of the preferred.  After reporting a $60B loss in early 2009, AIG had to massively restructure its capital, as the ratings agencies had determined that it was a perpetual loss making entity:  the profits generated by the business wouldn't cover the coupon payments on outstanding debt.  Thus, they restructured a lot of debt at this time - converting Fed loans into the SPV's holding the AIA/ALICO preferred stock positions, adding $30B in Series F Preferred available from Treasury (to increase liquidity, but only $7.5B of that was used), and converting the juicy Series D 10% Cumulative Preferred into the craptastic Series E non-cumulative preferred. 

Herein lies the rub: non-cumulative preferred is senior to common equity - common equity holders cannot be paid a dividend if the preferred holders haven't been paid - but that only applies to the most recent preferred dividend!  Missed dividend do not accrue.  In other words, if AIG didn't pay a dividend on the non-cumulative preferred for 2 years, they didn't have to make up all the missed dividends before they paid equity holders - they only had to make up ONE dividend to be current under the dividend "block."  In a way, it was reverse alchemy for Treasury - they turned gold into lead.

So, WHY did Treasury do this?  Who gives a crap about AIG's rating?  Did we want to bail out AIG's bondholders?  Well, no -  Treasury has a dual mandate here - they wanted to avoid bringing down the financial system while maximizing returns on the Taxpayers'  investment.    There were two basic options right away:  1) wind down the businesses over time while minimizing AIG's threat to the global financial system, or 2) shrink the bad businesses (AIGFP) while selling off the good assets to pay back the debts.   Initially, the plan was perhaps weighted more toward the former - Ed Liddy was brought in to try to wind down the mess, but a problem was that they were trying to sell at the bottom - they couldn't get the prices they wanted for the assets they had.  So Treasury regrouped and leaned toward option 2, in an effort to avoid massive losses.

Since they were trying to sell off assets in order to repay the debts owed to Treasury, they needed AIG to maintain its investment grade rating - after all, an insurance company without an IG rating doesn't stand much of a chance of maintaining the capital it needs.

There were two pressing questions as to how to do this.  The first, as it was put to me by the STO: "How do we terminate government support and leave it investment grade?"  Since ratings agencies' models give roughly 75% equity value to preferred stock, if they converted the $49B in preferred to common, that's a quick $12B in equity credit.    The next key question was "I've got $49B of this stuff, how do I monetize the value of it?"  I already explained the logic of the craptastic-ness of the non-cumulative preferred.  It has value, but the bottom line was that Treasury didn't think it was worth par (100c on the dollar).  How much was it worth?  "It's worth what we just turned it into,"  I was told - in essence, he was trying to say that something is only worth what someone will pay for it.  While it's conceivable that there might be buyers for a $10B chunk of cumulative preferred, the insinuation was that the non-cumulative preferred owned by Treasury didn't have a real liquid value.  That doesn't mean it was worthless, or even not worth par over the long term to Treasury, but Treasury didn't want to be in the business of owning AIG's preferred stock for the next 15+ years.

So how much is the common stock worth?  AIG had its bankers run their own fairness opinions, Treasury had its bankers run THEIR fairness opinions, but the bottom line is that they took an estimated $8B net income number for the residual insurance businesses, slapped an 8 multiple on it (low end of their valuation range) and came up with $64B as a starting point.  The next question is what capital structure to use - who should get that equity?   The fact that the government already had rights to 80% of it complicates things, as I discussed in my previous pieces on the subject, because conversions of preferred into common dilute our own stake.

The STO acknowledged that there were a lot of possible ways to recreate the new capital structure, but that in the end they chose conversion into common equity as the way to go.

As one of my friends put it to me, "Common shares should have been offered to debt holders, and for every $1 of debt exchanged into equity, the Government should have converted $1 of preferred into debt," thus owning a senior, liquid, money good, coupon paying instrument.    Again, talking with Treasury, I think that Treasury thought their best chance for a profitable, speedy exit from this "mess" would be to convert to equity.  They could have converted part of the preferred into a more liquid, more attractive cumulative preferred, and part into common equity, but the STO was bullish on the equity conversion as the best option incorporating all the factors (liquidity, leverage, and ability of Treasury to exit profitably)

Now, the big question - why are we giving existing non-government shareholders anything at all?  In my view, this is another unjustified bailout, and the moral hazard aspect of it infuriates me.  We had begun our discussion by talking about how the STO thought that the public didn't really understand TARP.  I admitted that this was certainly true, but that I thought the current rage against moral hazard, even if the ragers couldn't specifically tell you what "moral hazard" is, is very real and understandable:  hard working Americans don't like people getting paid for failure.  To some people that means that they don't like their neighbor getting subsidies to stay in his house if he can't pay his mortgage,  to others that means they hate the Wall Street bailouts.  The STO said he thought that the roots were that the public didn't understand how we could put billions of dollars into these companies and the companies still pay millions of dollars of bonuses - and that he understood the public's angst on that topic, and I countered that it had started that way, but has morphed into much more than that - it's metastasized into a disgust that is essentially summed up by "Hey - why should I work hard if the Government will bail me out if I don't?"

So back to the topic of non-government equity holders getting any stake in the new company:  he explained that this was a public company, with a new board instituted post-blowup that had duties under Delaware Corporate law.  In short, Treasury wanted to avoid lawsuits from the equity holders if they were to get wiped out.   By giving them a token (8%) piece of the company, the Board could satisfy its duties and placate the shareholders.  Maybe this was a flaw back in the original assistance - that the terms were 80%, not 100% of the common stock - that the Government should have wiped out the common equity while they had the chance, and to do so now would be too messy.  I don't know - it bothers me greatly to see shareholders "rewarded" with any value whatsoever, but the STO kinda shrugged it off as not the biggest issue on the table.  Someone left a comment on one of my earlier AIG posts that since the company never went through bankruptcy, we can't prove that the equity would have been worthless.  Even $180Billion dollars in government assistance doesn't prove that the equity would have been a zero, and we never gave the shareholders their due process in that regard through bankruptcy - so we can't wipe them out.

We briefly discussed how long it would take the Government to liquidate its common equity position.  The cabal of big market makers had given guidance of how long it would take, ranging from 6-9 months to 1 1/2 - 2 years.  The brokers cited "dark pools" and "algorithms" as ways for Treasury to bleed their position into the market slowly and with limited effect, and the STO mentioned that there is virtually no institutional ownership of AIG currently.  I explained that "dark pools" and "algos" were my background, and that if you're trying to sell $65Billion of AIG stock, especially to big natural holders, you don't do it through dark pools and algos - you go to them directly and put up large secondary offerings.  He agreed on this note, and I'm guessing that they will try to expand the public float first via a large secondary offering, and then go for the periodic sale route, like Citigroup is doing.

I thought the call was a great experience in trying to get inside Treasury's head, and to get the logic behind Treasury's answers to my questions.  Summing up,  the STO mentioned that someone had told him "If you prevented the next great depression and it cost you $20B on your AIG investment, it was a good trade," while at the same time explaining that he actually expects Treasury to come out ahead.  They received 1.66B shares for their $47.5B in cash out the door, for a breakeven basis around $29.

-KD

Fiscal and Monetary Insanity

Peter Boockvar writing at The Big Picture notes two stories today which I find truly remarkable.

First, "If You Have it, the BOJ Will But It"

"If you have it, the Bank of Japan will buy it. The BoJ cut interest rates from .1% to a range of zero to .1% and announced a 5T yen fund to buy not just JGB’s but corporate debt, commercial paper, ETF’s and Japanese REIT’s. If you live in Japan and thought about selling stuff in the closet on EBAY, hawk it to the BoJ instead."

Amazing.  ETFs?  But Boockvar's second story is even crazier, and seems to be getting less attention:

"Lend Money To Mexico for 100 years at 6%?"

"Evidence of how extraordinary the demand for yield has become, Mexico today plans on selling $500mm of 100 year debt with a coupon of about 6%. It’s an amazing leap of faith on the part of investors for a country that saw y/o/y CPI inflation in 1988 of 179% and 52% as early as 1996. We also can’t forget the 1994 Mexican Peso currency crisis that led to a multinational bailout for Mexico that consisted of loans and guarantees totaling $50b. Investors also have to hope that at least over the next few years, the drug wars don’t suffocate their economy. Bottom line, artificially cheap rates can finance anything at historically unforeseen levels when the demand for yield is strong. Sound familiar?"

Oh, how quickly we forget.

Remarkable.

-KD

Springsteen - Darkness On the Edge of Town Story

Bruce Springsteen is releasing a box set titled: The Promise: The Darkness on the Edge of Town Story.

From Amazon's product description:

"This extraordinary deluxe package comprises nearly six hours of film and more than two hours of audio across 3 CDs and 3 DVDs. It comes with an 80-page notebook containing facsimiles from Springsteen's original notebooks from the recording sessions, which include alternate lyrics, song ideas, recording details, and personal notes in addition to a new essay by Springsteen on the album and never-before-seen photographs.

The Deluxe Package also features The Promise: The Making of "Darkness" on the Edge of Town, a documentary directed by Grammy- and Emmy-winning filmmaker Thom Zimny. The ninety-minute film combines never-before-seen footage of Springsteen and the E Street Band shot between 1976 and 1978, including home rehearsals and studio sessions with new interviews with Springsteen, E Street Band members, manager Jon Landau, former-manager Mike Appel, and others closely involved in the making of the record.

In addition, the set features more than four hours of live concert film from the Thrill Hill Vault, including the bootleg house cut (the footage that appeared on-screen at the concert) from a 1978 Houston show, and a 2009 performance of Darkness on the Edge of Town in its entirety from Asbury Park. The special performance in Asbury Park was shot in HD without an audience and successfully recreates the stark atmosphere of the original album.

The Deluxe Package also includes Darkness on the Edge of Town, digitally remastered for the first time, as well as the 2 CD set The Promise: The Lost Sessions from Darkness On The Edge Of Town. The two discs contain a total of 21 previously-unreleased songs from the 'Darkness' recording sessions, songs that, as Springsteen writes, "perhaps could have/should have been released after Born To Run and before the collection of songs that Darkness on the Edge of Town became." Highlights include the extraordinary rock version of "Racing in the Street," the never-before-released original recordings of "Because the Night," "Fire," and "Rendezvous," the supreme pop opus "Someday (We'll Be Together)," the hilarious "Ain't Good Enough for You," the superb soul-based vocal performance on "The Broken Hearted," the utterly haunting "Breakaway," and the now finally released, fully orchestrated masterpiece and title song, "The Promise." All 21 songs have been mixed by Springsteen's long-time collaborator, Bob Clearmountain. According to long-time manager/producer Jon Landau, "There isn't a weak card in this deck. The Promise is simply a great listening experience."

HBO will be airing The Promise: Making of Darkness on the Edge of Town documentary this Thursday night, and Amazon is offering a free kindle download of selected essays of Bruce's thoughts on the whole package:

Finally, if you don't want the whole special box set, but rather just the 2CD set of previously unreleased versions of Darkness-era stuff, you can buy The Promise 2CD set:

Rolling Stone also has a writeup about the release that's worth reading.

-KD

see my Amazon Associates disclosure on the side panel

More on the Pledge To America - Jon Stewart

I'm still catching up on The Daily Show from the last few weeks.  I'm not a Jon Stewart mega fan-boy, but hey, when he's on, he's on - and he's been "on" a lot lately.  This clip below is an absolutely brilliant 5 minutes, and I strongly encourage readers to watch it:

The Daily Show With Jon Stewart	Mon - Thurs 11p / 10c
Postcards From the Pledge
www.thedailyshow.com
Daily Show Full Episodes Political Humor Rally to Restore Sanity

-KD

Understatement of the Day

From the wordsmiths at the Associated Press:

"PARIS – Former Societe Generale SA trader Jerome Kerviel was convicted on all counts Tuesday in one of history's biggest trading frauds, sentenced to three years in jail and ordered to pay the bank a mind-numbing euro4.9 billion ($6.7 billion) in damages.

The ruling marked a huge victory for Societe Generale, one of France's most blue-blooded banks, which has worked to clean up its image and put in place tougher risk controls since the scandal broke in 2008.

The 33-year-old former futures index trader stood expressionless as the court convicted him of all charges and pronounced a five-year sentence with two years suspended. Kerviel was found guilty on charges of forgery, breach of trust and unauthorized computer use for covering up bets worth nearly euro50 billion between late 2007 and early 2008."

And then the Understatement of the Day, emphasis mine:

"In a stunning blow, the court also ordered Kerviel to pay the bank back the euro4.9 billion that it lost unwinding his complex positions in January 2008 — a punishment he would almost certainly be unable to pay."

Ya think he might be unable to pay?   I'd say it's a certainty that he won't be able to pay... But wait, maybe I'm wrong - his lawyer is already asking for donations:

""I hope you all will donate a euro to Jerome Kerviel," the lawyer told TV cameras and reporters,"

-KD

Casinos Shift Toward Online Gambling

A NY Times article today covers the prospects of online gambling:

"Many of the country’s largest casinos, long opposed to gambling games like poker on the Internet, are now having second thoughts. 

Although online gambling is popular with millions of Americans, it is illegal in the United States, and the casino industry has considered it a threat. 

But a trade group that represents major casinos like Harrah’s Entertainment, MGM Resorts and Wynn Resorts is working on a proposal that would ask Congress to legalize at least some form of online gambling, the group’s chief executive said. 

The group, the American Gaming Association, issued a statement in the spring suggesting that online gambling could be properly regulated — the first public indication that its hard-line stance was softening."

I'm somewhat surprised by this.  I would have thought that the casinos would vehemently oppose anything that could potentially cannibalize their business.  Of course, the flip side of that is that if they themselves dominate a legalized online casino industry, they could come out on top.

They do specifically mention poker:

"Gambling specialists said it was likely that any casino-supported legalization would be limited to Internet poker because it was considered the least threatening to brick-and-mortar casinos. Internet poker already had the backing of some in the casino industry, and was seen as a new and lucrative source of revenue for the casino companies."

Harrah's and Wynn are taking slightly different routes:

"Some companies like Harrah’s, which has actively supported legalization, have aggressively invested in software companies or businesses involved in Internet gambling overseas. Harrah’s, which operates the popular World Series of Poker, has also been building a prospective customer base. Last month, the company ran a full-page advertisement in USA Today, inviting readers to take part in a nongambling Internet version of the event. 

But other operators like Wynn Resorts have argued that online gambling would, among other things, cannibalize profits by reducing casino attendance. In recent years, casino operators have sought to generate added revenue from visitors by investing heavily to turn smoke-filled gambling rooms into “resorts” that feature fine dining and other amenities."

Gaming industry analyst Sebastian Sinclair addresses the concept I mentioned above - that of wanting to prevent forms of competition like online gambling:

“When any industry is confronted with something of this nature, a game changer that is a paradigm shift, the first reaction is to circle the wagons to protect your business,” Mr. Sinclair said. “But then, that changes over time.”

We'll wait and see what comes of this.

-KD

Garden is Still Going!

You thought my garden was done?  Not by a long shot. Broccoli is maturing for the second time (replanted) as are sugar peas.   Tomatoes still have one last hurrah, and Brussels Sprouts and green peppers are also not dead yet.  My hot pepper patch is a thing of beauty.

Brussels Sprouts:

Cooked (with bacon!)

Harvest from yesterday:  eggplant, green peppers, hot peppers:

Hot pepper closeup:

Random picture of Oscar lounging in a chair.  He just hopped right up and reclined like an old man.  All he needs is a cigar and a glass of wine:

I made a batch of pickled peppers this weekend - I'm going to crack them open next weekend and see how they came out.

-KD

Slaughter

I moved to the country one year ago.  Since moving up to the woods of New Hampshire from the concrete jungle of New York City, I've learned a few things about the natural world.   We did some do-it-yourself home improvements like changing light fixtures and putting in electronic thermostats (neither of those is brag-worthy).  We made maple syrup, we cultivated a booming garden, and of course, I rode my lawn tractor.  I even learned how to do some simple repairs on the John Deere STX38 mower, including changing the mower drive belts.  

I mention all this because I just got off the phone with a neighbor who said "Hey, I know you're into trying new things - want to shoot a cow this week?"  He wasn't talking about troublemaking or sport - rather, a farm around the corner is slaughtering a cow (West Highland cattle) and my neighbor wanted to know if I wanted to see it.   Wow.  Now, I'm a meat eating man - I feel like I should see this.  This isn't exactly like going to a 10,000 head feed lot in California - this is a free range ranch with maybe 100 cows, so I think it's probably about as good as it gets for a cow. 

(I stole this image off a Google search, from pinkmoose.blogspot.com)

Still, I'm an animal lover, and I asked him, "Will the thing scream and convulse and make me sad?"  He replied, "Well, you know where hamburger comes from..."

Yes - and since I'm a hamburger lover, and not a hypocrite, I decided that I'm going to do this on Wednesday morning!  We'll shoot the cow, cut its throat to drain the blood, skin it, hang it, and then quarter it.  I think they might let it hang for a week before quartering it.

I'm not expecting to come back from this experience as a vegetarian, but I do expect that something blogworthy will come from it, and I'm virtually guaranteed to learn something.

Stay tuned.

-KD

Union Irony and Obama's Kryptonite

So I'm catching up from two weeks of The Daily Show, and I wanted to share two top tier clips.

First, a surreal piece on unions using non-union labor to protest wages.  The highlight is the fake sign at the end that says "Better wages for people demanding better wages"

The Daily Show With Jon Stewart	Mon - Thurs 11p / 10c
Working Stiffed
www.thedailyshow.com
Daily Show Full Episodes Political Humor Rally to Restore Sanity

Then there's this very well done piece by Jon Stewart on Obama's town hall:

The Daily Show With Jon Stewart	Mon - Thurs 11p / 10c
Meet the Depressed
www.thedailyshow.com
Daily Show Full Episodes Political Humor Rally to Restore Sanity

-KD

A Simple Lesson On How the S&P 500 Works - the AP Has No Clue

I came across this disaster of a story from the Associated Press just now:

"Apple May Surpass Exxon As Most Valuable Company."

Interesting - Apple is a monster - but I didn't expect the AP (that's Associated Press, not to be confused with AAPL) to attempt to mis-educate their vast audience with this blatantly false nonsense that shows a thorough lack of understanding of how the SPX works:

"While Apple CEO Steve Jobs will no doubt be happy about his new perch atop the business world, there's more at stake here than mere bragging rights. As soon as the total value of the company's shares edges above Exxon's, Apple will take over the top spot in the Standard and Poor's 500, the market index used by most professional money managers.

That means that billions of dollars invested in funds that track the index will have to shift their holdings to reflect Apple's new weighting. Exxon, meanwhile, may see its share price fall from the same effect. That slide could be accelerated by hedge funds and technical traders who make bets based on the rebalancing of major indexes and would be primed to short the shares of Exxon."

Reminder:  The S&P 500 is a market cap weighted index.  That means that larger companies have a higher weight in the index.  An S&P 500 index fund will own a certain percentage of the outstanding shares of each company.  It doesn't take a market expert to understand that when Apple's share price rises, and its market cap rises, its value in your S&P 500 portfolio also rises!  As an S&P indexer, you don't have to do a thing.  Changes in market cap based on share price movement are automatically self adjusting - after all, market cap  = share price x shares outstanding.

On a quarterly basis, the S&P 500 rebalances its index based on new share issuance and buybacks (in other words, changes in shares outstanding).  For example, when XOM buys back shares, S&P 500 indexers will need to sell shares of XOM.  If XOM does a secondary offering, indexers will need to buy shares of XOM. 

Price movements do not create the need for S&P 500 indexers to rebalance their portfolios.

Score another one for mass market media miseducating their minions.

-KD

AIG Math Follow Up - The Good News And the Bad News

The good news is that there's an answer to my rhetorical question, "So talk to me, people - why shouldn't we be outraged that AIG managed to swindle the Government once again, getting us to convert our senior (preferred) holdings into junior (common) holdings worth roughly $6B less?"  The answer is that the Government isn't $6B worse off in this deal (converting at $45 compared to $39).  I'll explain in a minute. 

{instant tangent:  we can't tell if the gov't is worse off doing the Series E/F/G Pref conversion at all, because we don't know what the stock price would have been if the conversion hadn't been done.  I calculate $27.50 as the breakeven non-conversion scenario price for the government on a mark to market basis for converting to common equity, ignoring seniority of capital structure (or lack thereof, with common equity!) and also ignoring Preferred dividends.  This assumes that the government merely exercised its 80% warrants from the Series C preferred receiving 563MM shares of AIG common.  If the price with no Series E/F/G conversion were above $27.50, the Government is losing money by doing the conversion.  I hesitate to say that the pre-announcement price of around $35 reflects the non-conversion scenario, because I think that expectations of the conversion have seeped into the market over the past several months, driving the stock price higher}

The bad news is that my three questions to Treasury: "Why is the treasury converting senior obligations into junior obligations at a discount?  How does Treasury justify the roughly $45 conversion price?  Why are we giving non-government AIG common shareholders another subsidy?"  still stand, and remain as unanswered (And potentially unanswerable) as ever.  Still, this probably comes down to more of a matter of principles, rather than big bucks - the fact that it's a "discount" - done at a $45 conversion price vs a $39 conversion price means relatively little in the end.  Of course, the alternative didn't have to be a conversion at $39 - it could have been a conversion at a discount to market value, but still, you'll find that the amount left on the table is in the neighborhood of $1B - not trivial, but much smaller than the $6B I cited earlier.

We're going to have to do some math here, but don't be intimidated, it's simple spreadsheet stuff.  Now, the details of the announced conversion imply a market cap of roughly $70B for AIG.  Here's how we get to that:

Current shares outstanding (non gov't):  135MM

Gov't shares issued:  1655MM

Total post conversion shares:  1790MM

Market price:  $39

Implied post conversion market cap:  1790MM x $39  = $69.8B

Implied value of Gov't stake:  1655MM x $39  = $64.5B

In order to compare different dilution (conversion price) scenarios, we need to lock a key assumption - that the value of AIG doesn't change.  Thus, regardless of the conversion price, we assume that the post-conversion market cap of AIG will be $69.8B

From this, we can see that if the conversion price on the Series E/G Preferreds was $39 instead of $45, the numbers change as follows:

Gov't Shares Issued will be 563MM (from the Series C 80% warrants - that doesn't change) +1067MM from the Series E Prefs (41.6B / $39) + 192MM from the Series G Prefs (7.5B / $39)

535MM + 1067MM + 192MM  = 1822MM Gov't shares

add that to the 135MM non Gov't shares outstanding, and we get: 

Total post conversion shares: 1957MM 

Now back into the post conversion market price by using our fixed $69.8B market cap:

$69,800/1957 = $35.66 implied post conversion price. Obviously, there are more shares outstanding, so the price is lower.

Implied Value of Gov't Stake with $39 conversion price:  1822 x $35.66 = $64.972B

So we can see that the value of the Gov't stake would be slightly higher, of course, with a lower conversion price - but nowhere near the $6B number I got in the prior post.

You can make your own spreadsheet for different scenarios - if the conversion price were $20 per share, the Government would be $2.278B better off when compared to the $45 conversion price (for example).

What's the bottom line?  Well, I WAS missing something in the math - in terms of the impact of the conversion price - but the core questions still remain: "Why is the treasury converting senior obligations into junior obligations at a discount?  How does Treasury justify the roughly $45 conversion price?  Why are we giving non-government AIG common shareholders another subsidy?" 

I wrote in the beginning that this is a matter of principles.  I've been against bailouts and bastardizing of the capital structure since day 1 of this financial meltdown - my views haven't changed, and I don't want AIG or its shareholders bailed out to any extent.  If Treasury's conversion had been done at $39 instead of $45, however, it wouldn't have made a monstrous difference, but it would have looked a lot better optically to people who didn't do the second step math (like me, earlier!). 

As I wrote above, it's impossible to say if the Series E/G conversion itself was a terrible idea - it depends on what the non-conversion-scenario  (the one where we just exercised our 80% warrants, but didn't convert the Series E/G Prefs)  AIG price was - which we don't know, because we don't have a vacuum and a time machine.

-KD

thanks to JCK of Alea Blog for putting me on the right track with his comment on Felix Salmon's blog post.: 

"KID:
I understand your point, what you seem to miss is that it makes no sense to maximize the conversion ratio on the preferreds (E and F) when you own de facto 80% of the equity, unless you want to shoot yourself in the foot, since the higher the conversion ratio the less valuable the equity."

AIG Preferred Conversion Math - Something Is Rotten in the State of America

EDIT:  after you read this post, please be sure to read my follow up post for some clarifications and corrections.  Bottom line: Treasury didn't screw itself out of $6B by using a $45 conversion price instead of a $39 conversion price.

This AIG story has been bugging me for the past few days.  The government has already restruck the terms of its AIG loans multiple times to make them more favorable for AIG, so I'm wary of us (the government) getting screwed one way or another in this whole conversion process.  It's quite possible that I'm missing something in this math, and if I am, I'd love for a reader to correct me.  I hope I'm wrong.

Here's what we need to know:  First, AIG has a page on their website detailing the status of their obligations to the Fed and Treasury. There are different series of preferred stock outstanding.  Series E is worth $41.6B.  Series F is worth $7.5B.   Next, we look at the 8k filed yesterday for the conversion details:

"At the Closing, (i) the shares of AIG’s Series C Perpetual, Convertible, Participating Preferred Stock (the “Series C Preferred Stock”) held by the Trust will be exchanged for approximately 562.9 million shares of AIG common stock, which will ultimately be held by the Treasury Department; (ii) the shares of AIG’s Series E Fixed Rate Non-Cumulative Preferred Stock (the “Series E Preferred Stock”) held by the Treasury Department will be exchanged for approximately 924.5 million shares of AIG common stock; and (iii) the shares of the Series F Preferred Stock held by the Treasury Department will be exchanged for (a) the Transferred SPV Preferred Interests (as described above), (b) newly issued shares of Series G Preferred Stock (reflecting an initial liquidation preference if and to the extent that AIG has drawn down available funds under the SPA between the date hereof and the Closing) and (c) approximately 167.6 million shares of AIG common stock. The Treasury Department will then hold approximately 1.655 billion shares of AIG common stock, representing pro forma ownership of approximately 92.1 percent of the AIG common stock that will be outstanding as of the Closing."

That sounds complicated, but what it's saying is that the warrants to buy 80% of AIG's common stock (the Series C preferred) will convert into 562.9MM shares of stock.  The Series E preferred (which we just said was worth 41.6B) will convert to 924.5MM shares of stock, and the series F preferred (worth 7.5B) will convert to 167.6MM shares of stock.  Those numbers sum to the 1.655B shares of stock that the Treasury will own in total.

Now, is Treasury getting screwed?  Let's look at some math.

For $41.6B of Series E Preferred, we got 924.5MM shares of stock.  That implies a conversion price of $45 per share (41.6B / 924.5MM) !  Huh?  Current AIG price is $39.  Why are we exchanging senior, dividend paying preferred stock worth $41.6B for junior common stock worth $36B at current prices??!?! (by the way, I believe that AIG neglected to pay the dividend  on the preferred stock!)

The $7.5B of Series F Preferred was exchanged for 167.6MM shares of common stock, implying a conversion price of $44.75 per share.  Why did we exchange Series F Preferred stock worth $7.5B for common stock worth $6.5B?  Anyone? Anyone?  Beuller?  Maybe we'll make up for it in volume? (sarcasm!)

The Series C Preferred, which are the 80% warrants, are being converted into 562.9MM shares of stock, worth $21.9B at current prices.  Since there are roughly 135MM shares of AIG currently held by the government, converting the Series C Preferred into 562.9MM common shares is a fair deal for Treasury.   On the other hand, these Preferreds had a balance sheet value of $23B, and the converted shares are currently worth less than that, so it could be looked at as a loss.  In my opinion, that's the least of the problems.

Then there's the matter of the 75mm $45 strike warrants being given to current AIG holders.  This serves to dilute the government's value further.  Why do we continue to subsidize shareholders of failed institutions?  Any money/equity that the government is giving up here is a direct subsidy to existing shareholders of AIG.

So talk to me, people - why shouldn't we be outraged that AIG managed to swindle the Government once again, getting us to convert our senior (preferred) holdings into junior (common) holdings worth roughly $6B less?

A side issue is that the post-conversion shares outstanding of AIG (1.655B owned by the government, and roughly 135MM owned by the public) imply a post-conversion market cap of nearly $70B at current share prices!

I posed the following questions to a contact at Treasury - I will update readers if I get a response from them on the record:  "Why is the treasury converting senior obligations into junior obligations at a discount?  How does Treasury justify the roughly $45 conversion price?  Why are we giving non-government AIG common shareholders another subsidy?"

-KD

disclosure - no positions in AIG

How Do You Receive Your Content?

I used Redbox for the first time this week - that's the DVD rental machine they have in lots of grocery stores - a buck a night for DVD rentals, due back 9pm the following night to avoid an additional night's charge.  You swipe your credit card, and the machine spits out the movie after you choose from a touch screen.  We watched Iron Man 2 and Shutter Island. 

This is unusual for me, as I'd normally either use cable On-Demand movies, or just take advantage of the movie channels that I pay for (I know - I'm so antiquated).  I was at someone else's house, and I'm unlikely to rent from my local Redbox, since I don't go to the grocery store every day.

I thought it would be an interesting post for me to poll my audience on how you get your content?  Now, I'm talking mostly about stuff you watch at home - I know some people download shows onto their Iphones and now Ipads, but I'm thinking more of stuff that somehow ends up on your TV (or your computer, I guess.

There are lots of options, and I'm interested in all feedback:

1) Pay up front - subscribe to HBO, Showtime, etc

2) Pay per view cable:  On-demand movie libraries

3) Streaming - which is an entire subset all it's own

   a) how do you stream?  Roku? Wii? Xbox? PS3?  BluRay Player, Windows Media PC?

   b) where do you stream from?  Amazon? Vudu, Hulu? Itunes? Netflix?

4) Physical Rentals:  Redbox?  Netflix?  Other?  

5) Side question: Do you even have the capability to play a VHS tape in your house? I do not.

My wife and I have pondered trying to cut back some of our movie channels and just paying for content we demand - but there are a few issues:  1) We watch a number of series on Showtime (Dexter, Californication, Weeds) and HBO (Entourage, Big Love) which I don't think are available in a timely manner elsewhere.  2) I pondered dumping the movie channels and streaming via Amazon/Netflix thru a BluRay player, but my cable company (Comcast) caps me at 250GB a month - does anyone know how much bandwidth a streaming movie consumes (you can give me regular def and HD if you know it) ?

Any other random thoughts on this subject?

-KD

disclosure: I have no positions in any of the companies mentioned here