Lunchtime Links 1-19

January 19, 2010

MUST READSouring mortgages, weak market put FHA on tightrope (Timiraos, WSJ) Good article, though Timiraos doesn’t address the absurd circularity perpetuated by FHA Chief David Stevens when Stevens says, on the one hand, that more gov’t lending protects the housing market from further declines, while simultaneously arguing that such lending isn’t sustainable. That said, Timiraos has worked lots of interesting stuff into this piece, especially towards the end. For instance, in late ’07 investors were refinancing at-risk borrowers into FHA loans in order to shift risk to taxpayers. Barney Frank defends permanently raising FHA maximum loans for certain geographies to $729k. Also lots of data about how badly FHA loans are performing.

Citi’s Q4 earnings: Not terrible but not great (Wilchins, Reuters) Trading revenues in the investment bank were much weaker compared to last quarter. Citi also benefited from a tax break, without which they wouldn’t have met consensus estimates for the quarter. Here’s a helpful chart.

(Click here to enlarge in new window)


How the French outplayed AIG and the Fed (Berman, WSJ…subscription req’d) Great column. Goldman gets all the bad press, but it was far from the only bank that got 100ยข on the dollar for derivative contracts with AIG…

Too big to fail is here to stay (Salmon, Reuters) Felix does a great takedown of Andrew Ross Sorkin’s latest column.

Record cash means S&P 500 at half 2007 valuation (Xydias/Nazareth, Bloomberg) A very interesting idea, though lots of bones to pick with the way this piece was written. In nearly 1,300 words the writers never manage to provide a solid definition of how they’re computing valuation. What is price to cash flow? Do they mean price to free cash flow? Do they mean price to EBITDA? There’s a line about cash flow being earnings plus depreciation and asset writedowns. That may be a very relevant metric. But it’s not one that investors know or understand and the authors fail to explain it.

The bidding war for failed banks (Mathews/Fisher, SNL) Interesting data on competitive bids for failed banks. (Until FDIC stopped releasing it)

In defense of a 4-day workweek (Hari, Independent)

Google at war in China, now postpones handset launches (BBC)

Another Swiss bank whistleblower (Browning, NYT)

AT&T/Verizon cut prices (Furchgott, Gadgetwise) The price cuts are just for some voice plans, not data plans. You can call the carriers and get the new lower prices without having to extend your contract…


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The Bloomberg piece alleging that stocks are cheap based on multiples of cash flow is a ridiculous argument. Many companies are reporting higher free cash flow despite huge declines in sales and earnings because (a) working capital is a source of cash flow as the business shrinks and (b) capital expenditures are slashed due to a lack of attractive investment opportunities. Neither of these is a good thing. By those criteria, the best way to boost cash flow is to liquidate the business.

Alcoa is one of the companies cited in the article for improvement in cash flow. In Q4 2009 it generated $761 million in free cash flow for the quarter. We’re supposed to be impressed by that. But Alcoa generated $1.302 billion in cash from reduced working capital (A/R + inventories – A/P), $395 million by cutting the cash contribution to its pension fund versus prior year, and $1.796 billion by cutting capex in half versus prior year. Those items add up to $3.493 billion in cash improvement versus the $761 million of free cash flow.

So in terms of cash from operations excluding changes in working capital, Alcoa actually had negative cash flow of $2.732 billion in Q4 09 versus Q4 08.

The improvements in working capital were solely a function of declining sales. Alcoa’s sales dropped 31.8% but its A/R was down only 18.8% inventories were down 28.1%. So despite generating cash from working capital, days of sales outstanding in inventory and A/R went up during the quarter.

The story will be similar for Caterpillar, another company cited in the Bloomberg piece, and for many other companies. To suggest investors should put the same kind of multiple on cash generated by liquidating part of the business as they should on actual cash profits is absurd.

Posted by DP | Report as abusive

Rolfe, did Citi bring their off balance sheet liabilities onto their books with this latest statement?

Posted by Ron | Report as abusive

No, Ron, they didn’t. It happens for balance sheet periods beginning on 1/1/10. So the Q1 release will be the first to include it.

Posted by Rolfe Winkler | Report as abusive