Search This Blog


Monday, December 28, 2009

How Galleon's Boss Spun a Web of Contacts Into an Empire

The Man Who Wired Silicon Valley
Fund Boss Built Empire on Charm, Smarts and Information

[The case against fund king Raj Rajaratnam hinges on whether he knowingly traded on inside information.] Bloomberg News

The case against fund king Raj Rajaratnam hinges on whether he knowingly traded on inside information.

Raj Rajaratnam liked to tell people that his first name meant "king" in Hindi, and, coupled with his last name, that made him "king of kings."

He told the story with the broad, toothy smile that had ingratiated him to a generation of Silicon Valley executives. The grin softened the edge of a boss who'd call you an "idiot" or prod you into some humiliating stunt: Would you take $5,000 to be shocked with a stun gun?

In a mansion on a manmade island in Biscayne Bay in February 2007, Mr. Rajaratnam seemed determined to live up to his regal description of his name. It was Super Bowl weekend, and America's rich and powerful had descended on South Florida to watch the Indianapolis Colts play the Chicago Bears. Mostly they were there to do business. Mr. Rajaratnam's business was running a hedge fund, Galleon Group, that had made him a billionaire. And that business was based on contacts.
[The Rise of Raj]

Wealthy investors and executives swirled around the rented home -- $250,000 for the week -- on exclusive Star Island. Miami Beach twinkled in the darkness as they drank, smoked cigars and hobnobbed with beautiful women -- rent-a-dates, one Galleon employee called them -- around a swimming pool that seemed to disappear into the horizon.

But a fall was already brewing. Federal agents were circling Mr. Rajaratnam, starting to build the biggest insider-trading case in a generation. Prosecutors and securities regulators worked for the next 32 months before springing a sprawling indictment in October that charged Mr. Rajaratnam and 20 others with profiting off market-moving, inside information.

Mr. Rajaratnam has pleaded not guilty, and is free on bail.

"Throughout his career Mr. Rajaratnam has worked tirelessly as permitted by the securities laws to build a mosaic of public information about the companies he follows," his attorney, John Dowd, said. "His detailed, meticulous research into company fundamentals distinguished him as an exceptional analyst and portfolio manager. Mr. Rajaratnam is innocent of the charges against him and looks forward to his day in court when a jury of his fellow citizens will examine and evaluate all of the evidence."

How federal prosecutors assembled the biggest insider-trading case in a generation.

A Wall Street Journal examination of Mr. Rajaratnam's career -- including interviews with more than 75 ex-business associates and a review of copies of Mr. Rajaratnam's own handwritten notes -- gives the clearest picture yet of how, for two decades, he persuaded executives at some of America's most prominent companies to risk their careers by passing corporate secrets.

The Galleon investigation has already touched McKinsey & Co., International Business Machines Corp., Intel Corp. and Advanced Micro Devices Inc. in connection with the leaking of confidential information that Mr. Rajaratnam allegedly traded on.

Mr. Rajaratnam got his start as an analyst just as the moribund semiconductor industry started to boom. Charming and puckish, he made contacts in Silicon Valley's Indian expatriate community, using them to meet other executives. By the early 1990s, tech industry executives and Mr. Rajaratnam's co-workers say he made himself the hub of dozens of sources funneling him supposedly confidential corporate information. In exchange, Mr. Rajaratnam would often pass them tips he'd heard.

The question of his guilt or innocence will turn on whether in this relentless cultivation of contacts, Mr. Rajaratnam grew rich by knowingly trading on inside information gleaned from the influential and savvy players who made up the network.
'One-Legged Men'

As a Needham & Co. staffer walked into the firm's reception area one day in 1985, a young man in a suit popped out of his seat, flashed a big smile and said he was there for a job interview. There was nothing to indicate that he'd one day be the impresario of a $7 billion hedge fund.

Raj Rajaratnam, who had been at Chase Manhattan Bank for two years after getting his M.B.A., was one of a stream of applicants hoping to catch on at the fledgling investment bank. The word was Needham would take a chance on the callow and the cast off, as long as they were willing to work grueling hours for low pay.

"I hire one-legged men, and I beat the crap out of them," the firm's founder, George Needham, was heard to say. He declined to comment through a spokesman for this article.

It was a time when corporate information flowed more freely than today. Until the late 1990s, executives tended to speak more openly with analysts, unfettered by tighter regulations put into place during the past decade. Mr. Needham, who hasn't been accused of any wrongdoing, expected his analysts to prospect for information on the industries they covered anywhere, any time: On a plane, quiz your seatmate; in a bar, chat up the drinker next to you.

He also expected them to be frugal. He checked expense reports himself, telling employees to take red-eye flights and chiding them when he found redeemable soda cans in the trash.

The digs at 400 Park Ave. matched the ethos: Mr. Needham furnished the place with second-hand furniture, such as a $100 credenza from the office of Ivan Boesky, the disgraced financier busted for insider trading.

Mr. Rajaratnam thrived in a job that could have been a dead end: analyzing the computer chip industry. Beset by a flood of Japanese chips, U.S. makers were on the ropes, many large investors had fled the sector, and few analysts covered it in depth.

View Full Image
Raj Rajaratnam appeared on top of theworld at a 2007 benefit in NewYork; with actress Blythe Danner, AIDS activist Brenda Freiberg and his wife, Asha.
Sipa Press

Raj Rajaratnam appeared on top of the world at a 2007 benefit in New York; with actress Blythe Danner, AIDS activist Brenda Freiberg and his wife, Asha.
Raj Rajaratnam appeared on top of theworld at a 2007 benefit in NewYork; with actress Blythe Danner, AIDS activist Brenda Freiberg and his wife, Asha.
Raj Rajaratnam appeared on top of theworld at a 2007 benefit in NewYork; with actress Blythe Danner, AIDS activist Brenda Freiberg and his wife, Asha.

Mr. Rajaratnam would fly overnight from New York to California, bunk at a Palo Alto motel that fit Needham's $90-a-night limit, and spend his days with chip executives.

Mr. Rajaratnam cut a more appealing figure than rival analysts. Gerald Taylor, a former finance chief at Applied Materials Inc., a manufacturer of chip-making machines, found most of them to be ill-informed "prima donnas, hot-shots." Mr. Rajaratnam, on the other hand, told stories of "a kind of Horatio Alger" upbringing in Sri Lanka. He told others of how, as Tamils in Sri Lanka, his family had to dodge bullets during the country's civil war.

The exotic tales sometimes glossed over the fact that Mr. Rajaratnam grew up in relative wealth. The son of a manager for sewing machine maker Singer Co., he attended college in England before going on to the University of Pennsylvania's prestigious Wharton School.
'Get the Number'

The stories added a dash of color to the sharp analysis and willingness to push hard that impressed chip executives.

When Applied Materials' Mr. Taylor was explaining a new technology called "chemical vapor deposition" in early 1987, one analyst at a big Wall Street bank fell asleep during his presentation. Mr. Rajaratnam, though, flew to Silicon Valley, met Mr. Taylor and company engineers, and touted the technology in reports to investors.

Mr. Rajaratnam also visited Applied's customers and myriad suppliers elsewhere, something few analysts did.

"He earned your respect because he did his homework," says Mr. Taylor, even though he only gave Mr. Rajaratnam the same information he offered to other analysts.

Sometimes, Mr. Rajaratnam's persistence raised alarms. "He was always trying to weasel more information out of you," says David Orgill, who was Applied's head of investor relations in the late 1980s and early 1990s.

All along, Mr. Rajaratnam worked to persuade executives at Applied and other companies to use Needham to help underwrite their stock offerings. Applied and chip makers including Atmel Corp., Oak Technology Inc. and Opti Inc. used Needham for that; so did Xilinx Corp., which picked Needham "because Raj promised to write extensive research reports," says the company's then-senior vice president of finance, Gordon Steel.

As Mr. Rajaratnam brought more business to the firm, he pushed for more power by touting job offers from bigger Wall Street banks. Mr. Needham made Mr. Rajaratnam the firm's director of research and then, in 1991, president.
[GeorgeNeedham, with wife, emphasized building contacts to Mr. Rajaratnam.] Patrick McMullan

George Needham, with wife, emphasized building contacts to Mr. Rajaratnam.

That year, an analyst named Gerald Fleming found out that while Mr. Rajaratnam had moved up the organizational chart, he was still plugged in. At a regular morning meeting with Mr. Rajaratnam and a roomful of colleagues on May 13, Mr. Fleming estimated Applied's earnings per share at 41 cents. A short time later, Mr. Rajaratnam told Mr. Fleming the projection was wrong. "A good source" told him the earnings would be 42 cents a share. When Applied announced its earnings later in the day, that was the number.

In the morning meeting the next day, Mr. Rajaratnam told Mr. Fleming, "I hired you to develop sources and get the number."

Mr. Rajaratnam's close ties to Applied led Mr. Needham to jokingly ask in meetings about what the "pillow talk" was telling him about the company's earnings, say three former Needham employees.

"Mr. Rajaratnam's interactions with representatives of Applied Materials were completely professional at all times, and any suggestion to the contrary is false," Mr. Dowd, his attorney, said.

Mr. Rajaratnam expanded his power at Needham by starting a hedge fund to invest in tech stocks in 1992, tapping many of his chip-industry contacts for investments. By the beginning of 1994, Mr. Rajaratnam owned 17% of the firm -- second only to Mr. Needham's 26% -- and was paid $1 million that year. He also made sure that new executives knew his stature at the firm: "I'm the boss here," he told one in his first week there. "George may be the guy who has his name on the door, but I'm the guy who makes things happen."
Taking Note

Mr. Rajaratnam became a charismatic leader, cementing a culture at the firm that was defined by testing personal limits.

After Mr. Rajaratnam boasted one day that there was no spicy sauce that he couldn't stomach, a colleague brought a bottle of habanero sauce called Armageddon to the trading desk. A crowd gathered to watch as Mr. Rajaratnam doused two chicken wings with it and chowed down. Within moments, Mr. Rajaratnam was crying and coughing uncontrollably. He ran to the bathroom and left work early. Mr. Rajaratnam laughed about it later.

By the early 1990s, Microsoft Corp.'s Windows software and fast, cheap microprocessors from Intel spawned a personal-computer boom that reinvigorated the chip industry that Mr. Rajaratnam had worked so assiduously to cultivate.

Intel in early 1994 was facing new threats from AMD over the brains used in PCs. AMD had just won a big court case against its larger rival, and investors were itching to find out whether AMD's 486 chips were eroding Intel's dominance.

View Full Image
Danielle Chiesi, a trader known for her tech-industry connections, surprised some Galleon employees by attending a party at Mr. Rajaratnam's house.
Getty Images

Danielle Chiesi, a trader known for her tech-industry connections, surprised some Galleon employees by attending a party at Mr. Rajaratnam's house.
Danielle Chiesi, a trader known for her tech-industry connections, surprised some Galleon employees by attending a party at Mr. Rajaratnam's house.
Danielle Chiesi, a trader known for her tech-industry connections, surprised some Galleon employees by attending a party at Mr. Rajaratnam's house.

On March 21 of that year, Mr. Rajaratnam was working the phones in his corner office overlooking Park Avenue and across a hallway from Needham's trading floor. It was two weeks before AMD would report earnings for its first fiscal quarter.

With a felt-tip pen, he wrote the date and two names in a spiral notebook. One was the first name of a manager at various tech companies in the 1990s, including AMD; the other was that of an engineer who worked at chip companies.

"Could do over $500 million," Mr. Rajaratnam noted farther down the first page. On an adjacent page, he wrote that the "goal," as of March 1, was "$484," then "New $515." Below that he wrote "486's" and "1 million units." In bold strokes across the two pages, he jotted other numbers, including prices for two versions of the 486 chip.

On April 4, AMD surprised Wall Street by announcing a record $513 million in revenue for its fiscal first quarter. The company said 486 chips sold more rapidly than expected early in the quarter, with sales surpassing 900,000 units.

A devoted note-taker, Mr. Rajaratnam kept a series of notebooks that recorded frequent conversations with people at tech companies, including Actel, Atmel and Alliance Semiconductor Inc. The pages were studded with the kind of information that analysts normally didn't get, the fruit of all those attentive visits to Silicon Valley.

It was the kind of work that enabled Mr. Rajaratnam to emerge from his office and be heard telling his top trader, Gary Rosenbach, that he had "the number" for earnings from Intel and AMD before they were announced.
Firms Try to Plug Leaks

Mr. Rajaratnam's aggressive tactics led several companies over the years to try to caulk leaks. Executives at chip makers Cirrus Logic and Silicon Valley Group, which both used Needham in stock offerings, grew frustrated with Mr. Rajaratnam badgering employees for tips.

In the mid-1990s, he offered to trade Cirrus executives proprietary information on other companies in exchange for Cirrus details. Similarly, Mr. Rajaratnam tried extracting information from Silicon Valley Group's then-chief executive, Papken Der Torossian, by saying he had information about orders from someone at an IBM plant in Vermont. Mr. Der Torossian says he turned him down.

Cirrus implemented a policy allowing just three top executives to talk with Mr. Rajaratnam and other analysts. Employment contracts were re-written to say that employees who violated that policy would be fired.
The Galleon Case

* Galleon Defendants Criticize Timing of Cases
* Rajaratnam, Chiesi Charged in Insider Case
* WSJ Topics: Raj Rajaratnam

At SVG, Mr. Der Torossian chastised employees for talking with Mr. Rajaratnam. Still, he says, while other analysts would "try to dig deep," Mr. Rajaratnam "was particularly clever, particularly good, and would get more information."

Around the same time, Intel held internal meetings to try to figure out how Mr. Rajaratnam's published reports were so uncannily accurate ahead of the company's earnings.

Concerns about Mr. Rajaratnam's activities helped cool Paine Webber's interest in buying Needham in 1995, according to a person with direct knowledge of negotiations. Soon, similar worries spurred complaints from some inside Needham.

Between 1993 and 1996, at least five Needham executives told Mr. Needham that they were worried about Mr. Rajaratnam's conduct, according to several people with knowledge of the situation. Needham brokerage clients complained to executives that Mr. Rajaratnam had potentially conflicting roles in the firm as president, fund manager, and sometime stock analyst. Normally, investment banks keep those areas separate to prevent clients' interests from clashing with the interests of bank-run funds.

Toward the end of 1996, the concerns fueled tensions between the executives and Mr. Rajaratnam. Meanwhile, Mr. Rajaratnam, who wanted to expand his hedge fund faster than Mr. Needham would allow, had been raising money for his own operation.

In November 1996, Mr. Needham told his employees that "I greatly regret to announce that Raj Rajaratnam, my friend and partner," would be leaving to form his own firm, ending a breakneck 11-year run at Needham.

Mr. Rajaratnam set up Galleon in a small office at Lexington Avenue and 57th Street, about a block from his old firm. He hired several former colleagues, including Mr. Rosenbach, the firm's head trader, and tapped Silicon Valley contacts for investment. Riding the wave of investors anxious to get in on the tech boom, Galleon was managing $800 million by the end of 1997, up from up from $250 million 12 months before.

Mr. Rajaratnam established a looser culture at his new firm. On Thursdays, employees could sign up to get massages at the office. Still, the game plan was the same as Needham: watch expenses closely and ferret out corporate information.

Not long after Galleon launched, Intel renewed its efforts to find out if someone at the company was leaking financial data to Mr. Rajaratnam. Intel installed cameras by a fax machine in its Santa Clara, Calif., headquarters. In March 1998, it recorded an employee named Roomy Khan sending handwritten notes and documents marked "Intel Confidential" to Mr. Rajaratnam.

Included were data on Intel chip orders from several dozen computer makers and selling prices of those chips. Combined, the information could be used to determine Intel's revenue for the quarter.

Ms. Khan left Intel soon after, and the company reported her to federal authorities. Soon, she had a new job. Mr. Rajaratnam hired her at Galleon.

She left Galleon after a year. In 2001, Ms. Khan agreed to plead guilty to wire-fraud charges -- and to cooperate in a probe of Mr. Rajaratnam. Ms. Khan served six months under house arrest, but prosecutors dropped the investigation, unable to prove that Mr. Rajaratnam traded on the information.
Galleon Sets Sail

Each day at Galleon started with a morning meeting. Traders and analysts streamed nearly all at once into a conference room trying to get there before start time -- 8:35 in recent years. A stickler for punctuality, Mr. Rajaratnam would sometimes fine latecomers $25.

Surrounded by his staff, Mr. Rajaratnam began the meeting by asking for an overview of the significant events of the day or week -- earnings announcements, a product launch, anything that might move stocks. Mr. Rajaratnam grilled them, sometimes sending analysts leafing through binders to find a figure, such as gross margins or the pricing of a product line.

He often got angry if an analyst couldn't confidently say whether a stock would go up or down. Mr. Rajaratnam always wanted "the variant view," his mantra for an opinion on a stock that was different from the rest of Wall Street. "If the market comes into your variant view, we make money," he would say.

At Galleon, Mr. Rajaratnam took his fondness for pranks and dares to a new level. When executives from stun-gun maker Taser International Inc. came to make an investment pitch around 2005, Mr. Rajaratnam offered $5,000 to anyone who'd agree to be shocked. Employees gathered around as two people propped up trader Keryn Limmer at the elbows and another person fired the weapon. Ms. Limmer's legs buckled beneath her from the shock. Ms. Limmer declined to comment.

That same year, employees arrived at Galleon's morning meeting to a surprise: In the conference room was a dwarf whom Mr. Rajaratnam introduced as an analyst hired to cover "small-cap" stocks. He was, in fact, an actor hired for an April Fool's Day gag.

By 2004, Mr. Rajaratnam was building a profile outside the hedge-fund world. He joined the board of the Harlem Children's Zone, an education nonprofit, and later raised about $7.5 million for victims of the South Asian tsunami. In January 2007, a list of celebrity donors honored Mr. Rajaratnam's philanthropy with a symphony performance at Lincoln Center.

By the time of the Super Bowl party a month later, Galleon and Mr. Rajaratnam appeared to be on top of the world. Approaching $7 billion under management, the firm moved into larger Manhattan offices at Madison Avenue and 57th Street, expanded into Asia and started a new fund based in California. Employees were convinced the firm would soon go public.

Yet all was not well. Mr. Rajaratnam was cooperating with a Securities and Exchange Commission investigation of his younger brother Rengan's now-defunct hedge fund, Sedna. No charges have been filed in that investigation, and Rengan Rajaratnam's lawyer declined to comment.

Raj Rajaratnam answered questions and provided reams of Sedna-related documents that raised investigators' suspicions about Galleon itself.

As the summer ended that year, the real shape of the threat was only beginning to emerge. On a hot September afternoon, Mr. Rajaratnam threw a party at his Greenwich, Conn., home for Galleon employees and their families -- a clambake with a cowboy theme, owing to the day's star attraction, country singer Kenny Rogers. Guests wore cowboy hats and sheriff's badges as they ate lobster while sitting on white folding chairs or red blankets with the Galleon logo.

Mr. Rajaratnam seemed relaxed, mingling with family and friends. One guest stuck out, a blonde woman in a black spaghetti-strap top, low-slung tangerine skirt and aviator sunglasses. A few guests knew her as Danielle Chiesi, a trader at a Bear Stearns hedge fund who had strong chip-industry connections. Some there wondered what Ms. Chiesi, accompanied by her mother, was doing at a Galleon party.

Mr. Rogers' hit song "The Gambler" was a favorite of Mr. Rajaratnam's: "You got to know when to hold 'em, know when to fold 'em, know when to walk away and know when to run...."

As Mr. Rogers sang, Ms. Chiesi sat in a folding chair; Mr. Rajaratnam stood a few paces behind.

Within a year federal agents would be recording their phone calls, pulling at loose threads in a web that had taken two decades to weave.

Sunday, December 27, 2009

Avoid flying with American Airlines

American Airlines Orange Juice Incident

Saturday, December 5, 2009

NBC-Comcast: A TV Deal for the Post-TV Era

Giant cable-TV provider Comcast has reached a deal with GE this morning to take over giant entertainment company NBC Universal. This means big changes ahead for 30 Rock's Jack Donaghy, who will have to adapt his core competencies from selling microwave ovens to pushing upgrades on DVR cable boxes. But what does it mean for you as a TV viewer?

In the short term, not much; probably not even that much in the medium term. (For starters, the deal faces an approval process which could take a year.) In the longer term, it says a few things about what the TV business is becoming, and what "TV" will mean in the future:

* For starters, it reminds us how small a part of the package what we recently knew as "TV"—free, over-the-air broadcast entertainment—now is. Comcast, a cable company whose interest is in finding new ways to sell viewers media, be it cable packages or movies on demand, is especially interested in NBCU's cable and theatrical properties. The Peacock, Jay Leno, The Office, et al., are more or less being thrown in the deal like complimentary floor mats in a new car. Keep in mind that one big reason GE bought NBC way back when was because broadcast TV was valued as a reliable cash cow. Not so much anymore.

* So what replaces "TV"? Well, more TV, but in different forms. The way mass entertainment worked for a long time was that there were genres that were defined by the machines and venues you used to experience them: a "movie" was what you saw on a big screen in a special building, "TV" was what you saw on a screen in your living room, "radio" came out of a box, etc. Now all the screens and means we have for distributing the same stuff render those distinctions increasingly moot. What Comcast and others envision is a world in which you buy the things you want to see and experience (TV shows, sporting events, movies), when you want to see them, on whichever device you prefer to use—and, of course, you pay and pay and pay for them.

* Speaking of pay and pay and pay: this deal is about online media, too, and the hope of getting you to pay for watching entertainment that way. Hulu is partly owned by NBC, and there's already been talk of making that a pay service.

* And the movies? This is more speculative, but there is increasing talk about monkeying with the "window"—that is, the amount of time you have to wait after a movie is in theaters before you can see it on demand, download it, rent it, buy it, etc. Take away the window, and the next Twilight movie becomes a high-profile Friday-night TV show. Now, there are plenty of people arguing for preserving the window, but it's already started to erode for some movies. And what studio might be especially aggressive about experimenting with it? Why, a troubled movie studio... like Universal.

* This is also speculative, but the NBC affiliates—already chafing at how they were thrown under the bus by the decision to give them a weaker news lead-in with Jay Leno—probably have even more reason to be nervous about their place, their importance and their leverage in the Comcast universe. Comcast is a cable company, and is probably not inclined to be too sentimental about the legacy or value of local TV stations.

* Jeff Zucker remains bulletproof. For now, anyway, Though the NBCU chief has been kicked around by TV critics and industry observers for the way he's run the flagship TV network into fourth place over the past decade, he'll stay in charge of the enterprise for the time being. And whatever you say about his programming acumen, the deal itself fits with his business vision, namely, that the TV business is now mainly the cable business.

Having said all this, is the merger a good deal? How the hell do I know? I work for Time Warner: you've seen how much we know about smart synergistic media mergers! Seriously, the thing I will say is that whether or not the Comcast deal specifically will be a success, it does at least grow out of the right sense of where entertainment media is heading. Of course, so, in a general sense, did the AOL and Time Warner merger, in that it recognized the importance of the Internet: the problem was deciding that AOL was the right company to take advantage of it, and grossly overvaluing AOL in the deal.

NBC and Comcast, in other words, probably have the right idea about where media is going. That doesn't mean this is the best means to get there. Now they'll just have to unravel the tangled cable of this deal, and see where it leads.

Saturday, November 14, 2009

Toilet Paper History

Linda Rodriguez
Toilet Paper History: How America Convinced the World to Wipe
by Linda Rodriguez

Since the dawn of time, people have found nifty ways to clean up after the bathroom act. The most common solution was simply to grab what was at hand: coconuts, shells, snow, moss, hay, leaves, grass, corncobs, sheep’s wool—and, later, thanks to the printing press—newspapers, magazines, and pages of books. The ancient Greeks used clay and stone. The Romans, sponges and salt water. But the idea of a commercial product designed solely to wipe one’s bum? That started about 150 years ago, right here in the U.S.A. In less than a century, Uncle Sam’s marketing genius turned something disposable into something indispensable.
How Toilet Paper Got on a Roll

toilet-paper-1The first products designed specifically to wipe one’s nethers were aloe-infused sheets of manila hemp dispensed from Kleenex-like boxes. They were invented in 1857 by a New York entrepreneur named Joseph Gayetty, who claimed his sheets prevented hemorrhoids. Gayetty was so proud of his therapeutic bathroom paper that he had his name printed on each sheet. But his success was limited. Americans soon grew accustomed to wiping with the Sears Roebuck catalog, and they saw no need to spend money on something that came in the mail for free.

Toilet paper took its next leap forward in 1890, when two brothers named Clarence and E. Irvin Scott popularized the concept of toilet paper on a roll. The Scotts’ brand became more successful than Gayetty’s medicated wipes, in part because they built a steady trade selling toilet paper to hotels and drugstores. But it was still an uphill battle to get the public to openly buy the product, largely because Americans remained embarrassed by bodily functions. In fact, the Scott brothers were so ashamed of the nature of their work that they didn’t take proper credit for their innovation until 1902.

“No one wanted to ask for it by name,” says Dave Praeger, author of Poop Culture: How America Is Shaped by Its Grossest National Product. “It was so taboo that you couldn’t even talk about the product.” By 1930, the German paper company Hakle began using the tag line, “Ask for a roll of Hakle and you won’t have to say toilet paper!”

As time passed, toilet tissues slowly became an American staple. But widespread acceptance of the product didn’t officially occur until a new technology demanded it. At the end of the 19th century, more and more homes were being built with sit-down flush toilets tied to indoor plumbing systems. And because people required a product that could be flushed away with minimal damage to the pipes, corncobs and moss no longer cut it. In no time, toilet paper ads boasted that the product was recommended by both doctors and plumbers.
The Strength of Going Soft

In the early 1900s, toilet paper was still being marketed as a medicinal item. But in 1928, the Hoberg Paper Company tried a different tack. On the advice of its ad men, the company introduced a brand called Charmin and fitted the product with a feminine logo that depicted a beautiful woman. The genius of the campaign was that by evincing softness and femininity, the company could avoid talking about toilet paper’s actual purpose. Charmin was enormously successful, and the tactic helped the brand survive the Great Depression. (It also helped that, in 1932, Charmin began marketing economy-size packs of four rolls.) Decades later, the dainty ladies were replaced with babies and bear cubs—advertising vehicles that still stock the aisles today.

By the 1970s, America could no longer conceive of life without toilet paper. Case in point: In December 1973, Tonight Show host Johnny Carson joked about a toilet paper shortage during his opening monologue. But America didn’t laugh. Instead, TV watchers across the country ran out to their local grocery stores and bought up as much of the stuff as they could. In 1978, a TV Guide poll named Mr. Whipple—the affable grocer who implored customers, “Please don’t squeeze the Charmin”—the third best-known man in America, behind former President Richard Nixon and the Rev. Billy Graham.
Currently, the United States spends more than $6 billion a year on toilet tissue—more than any other nation in the world. Americans, on average, use 57 squares a day and 50 lbs. a year.

Even still, the toilet paper market in the United States has largely plateaued. The real growth in the industry is happening in developing countries. There, it’s booming. Toilet paper revenues in Brazil alone have more than doubled since 2004. The radical upswing in sales is believed to be driven by a combination of changing demographics, social expectations, and disposable income.

“The spread of globalization can kind of be measured by the spread of Western bathroom practices,” says Praeger. When average citizens in a country start buying toilet paper, wealth and consumerism have arrived. It signifies that people not only have extra cash to spend, but they’ve also come under the influence of Western marketing.
America Without Toilet Paper

Even as the markets boom in developing nations, toilet paper manufacturers find themselves needing to charge more per roll to make a profit. That’s because production costs are rising. During the past few years, pulp has become more expensive, energy costs are rising, and even water is becoming scarce. Toilet paper companies may need to keep hiking up their prices. The question is, if toilet paper becomes a luxury item, can Americans live without it?

The truth is that we did live without it, for a very long time. And even now, a lot of people do. In Japan, the Washlet—a toilet that comes equipped with a bidet and an air-blower—is growing increasingly popular. And all over the world, water remains one of the most common methods of self-cleaning. Many places in India, the Middle East, and Asia, for instance, still depend on a bucket and a spigot. But as our economy continues to circle the drain, will Americans part with their beloved toilet paper in order to adopt more money-saving measures? Or will we keep flushing our cash away? Praeger, for one, believes a toilet-paper apocalypse is hardly likely. After all, the American marketing machine is a powerful thing.

Monday, November 2, 2009

Human face of Dirt Cheap moves on — as competitor

By Phil O'Connor
Monday, Nov. 02 2009
His family's legacy in the St. Louis business community traces back to 1812,
when his great-great-grandfather founded a pretzel shop near what is now the
south leg of the Gateway Arch.

But it was his television appearances, often alongside an oversized furry
yellow chicken that chirped "Cheap, cheap, fun, fun," for which Fred Teutenberg
may be best known. Those corny TV spots, regularly laced with low-brow humor,
made Dirt Cheap discount liquor and cigarette stores a hit, both as a business
and as a recognizable brand across the metro area.

Now the man, who not long ago was reminding viewers that "the more she drinks,
the better you look," has moved on. After spending the last 16 years helping
establish Dirt Cheap and nurturing its growth to 14 stores, Teutenberg is
starting a new line of liquor stores under a new name.

While he's excited about his new venture, Teutenberg declined to discuss how he
feels about competing against the company he helped build. Nor does he care to
discuss his departure from Dirt Cheap, including reports that he was forced

"No use going into the nitty-gritty, but we had a parting of the ways," said
Teutenberg, who was the company's president.

Dirt Cheap is controlled by members of the Paul Taylor family. Taylor founded
U-Gas, which operates 15 gas and convenience stores in the St. Louis area.
Through an attorney, company officials declined comment about Teutenberg and
his plans. In fact, both sides signed a legal agreement that prohibits them
from discussing the split.

Already, it's clear Teutenberg won't stray too far from the strategy that made
Dirt Cheap such a success. The name — Fred's Cheapo Depot — is the first
giveaway. The stores also will carry many of the same product lines as Dirt

But there will be some changes. The Cheapo Depot stores will have a retro
atmosphere that harken back to a time when, as Teutenberg describes it, "people
were more comfortable drinking and smoking in public and not so politically

Competitors, friends and family describe Teutenberg as a kind-hearted
workaholic with a passion for his customers. At 70 years old, he has no
intention of retiring.

Instead, he is busy working on two new stores he hopes to open by the end of
the year. One store will be in downtown St. Louis, the other in South County.

"It's starting from scratch," said Stacey Page, a former Dirt Cheap employee
who is vice president and chief financial officer of the new stores. "But
there's a lot of people who care about Fred and want him to be successful."

Teutenberg says he's ready for the challenge. And besides, it's not the first
time he has had to start over.


For five generations, the Teutenbergs operated several well-known bakeries and
restaurants in the area, making it at one time the oldest continually operating
business in the Midwest.

But with creditors closing in, it was Fred Teutenberg who made the decision to
close the last of the restaurants in 1991.

"It was no longer economically viable," he said. "We couldn't go on."

The family sold their home in Ladue and moved to a smaller house in Clayton.
"It's fair to say we struggled," he said.

Teutenberg's wife of 42 years recalled the months after the restaurants closed
as an introspective period for her husband. "It was time when he figured out he
wanted to go in a new direction," Janet Teutenberg said.

About that time, cigarette outlet shops were opening across the country that
took advantage of tax variances among neighboring jurisdictions to sell their
products at a lower price.

Teutenberg went into business with Taylor, a friend he had been classmates with
in high school and college. The first Dirt Cheap store opened in January 1993
in a strip shopping center that Taylor's mother owned at Highway 30 and Valley
Dell Drive in Fenton. They hoped Jefferson County's lower cigarette taxes would
lure customers from St. Louis County seeking cheaper alternatives.

The second and third stores opened later that year at Telegraph and Forder
roads, and at Dunn and Bellefontaine roads, locations aimed at drawing Illinois
buyers. Buying in bulk, selling at a discount and operating on thinner margins,
the business took off. Then came the television spots.

Teutenberg offered customers "the last refuge for the persecuted smoker." His
reminder to "be careful out there" became a staple. The chicken arrived when
the store needed a logo for its own line of beer.

"We struck some kind of chord," Teutenberg said.

Haim Mano, an associate professor of marketing at the University of
Missouri-St. Louis, said he often discusses the Dirt Cheap ads in classes.
Despite their low-value production, the ads effectively use humor to draw in
viewers and boost brand awareness.

"The fact that they've been going on for so many years, and we talk about them
and love to watch them even though we hate them, means they're doing something
right," Mano said.

A television commercial for Teutenberg's new stores — minus some of the
trademark lines of the previous ads but featuring a cartoon version of
Teutenberg — began running earlier this month. On the new store's website,
Teutenberg wrote, "We have ditched the pesky chicken and the big company
bureaucracy and left them behind."


Friends and business associates say Teutenberg's common-man approach isn't just
a marketing ploy.

Teutenberg grew up in Webster Groves and attended public schools before
graduating from Washington University. Despite their success, his parents were
frugal, influenced by the Depression and World War II, a trait they passed on
to their son, according to his wife.

From his father, Teutenberg said he learned to work hard, not waste money, be
diligent and treat everyone fairly. But he said one lesson didn't stick.

"He always said, 'You have your business so you can live, you don't live so you
can have your business,'" Teutenberg said. "He might accuse me of living too
much for my business. But I think he would be proud of me."

Along the way, Teutenberg said he has learned that karma and luck have as much
to do with success as anything. "I know people in business who worked hard and
were successful and other people who worked just as hard and weren't. Working
hard, per se, doesn't guarantee it."

The couple, who have four grown children, now live in a modest-size brick house
with an American flag out front on a quiet street in Brentwood. Teutenberg
drives a 4-year-old Jeep Cherokee. He has no real hobbies, belongs to no
country clubs. He sleeps only a few hours a night, smokes a pack and half of
Kent Lights a day, and relaxes with Beefeaters gin and a good book.

He wears rumpled, off-the-rack suits and rarely dons a tie.

"It's who he is," said Jon Rand, president of Discount Smoke Shops. "Fred could
afford as nice a suit as anybody, but that's not his image. He'll wear a suit
every day, but it's a common man's suit, isn't it?"


If Teutenberg ever had any guilt about not passing the family restaurant
business on to his children, it has been alleviated.

Three years ago, his youngest daughter put the family name on a restaurant she
opened with the help of relatives at Seventh and Olive streets. Joanne
Teutenberg, 26, believes her father always had regrets about leaving the
restaurant business even though it opened up other opportunities for him.

"I think it was nice for him to be able to reconnect with that when we reopened
down here," she said.

Taking a break at a table in the restaurant's smoking section last week,
Teutenberg was asked to reflect on his family's legacy and his place in it. He
doesn't worry that he might one day be best remembered for his corny

"I don't think about that kind of stuff at all," he said in his smoke-cured
voice. "That stuff's for presidents."

His competitor, Rand, suggested what he considered a most appropriate epitaph —
Fred Teutenberg: "He loved his customers."

Tuesday, October 27, 2009

Why Redbox Terrifies Hollywood

Why Redbox Terrifies Hollywood
Dorothy Pomerantz, 10.26.09, 4:15 PM ET


It's rare that a new business comes along and freaks Hollywood out quite as much as Redbox has. The video kiosk was born out of McDonald's' new business development project, which launched such unsuccessful ventures as Ticktok Easy Shop, a convenience store in a vending machine.

But in 2004, Redbox took off. The kiosks are incredibly easy to use and movies cost just $1 per night, less than a rental at Blockbuster or a video on demand. Redbox is now owned by Washington-based Coinstar.

At first, Hollywood seemed happy to indulge the little start-up, but as Redbox has exploded (there are 21,000 kiosks at 7-11s and supermarkets across the country), studios have taken evasive actions. Universal, Fox and Warner Bros. now refuse to distribute DVDs to Redbox when they are first released. Redbox employees have been reduced to raiding local Target and Wal-Mart stores to stock kiosks. (See "Red Menace.")

President Mitch Lowe insists Redbox can keep buying at retail for as long as it takes the studios to understand that with DVD sales continuing to plummet (down 14% for the third quarter of 2009), Redbox might actually be able to help studios. Lowe sat down with Forbes to talk about Hollywood's fears, lawsuits and Redbox's plans for growth.

Forbes: What's your relationship with Hollywood like right now?

Lowe: It's misunderstood. Half of the studios love us and get the opportunity. We do a lot for our partner studios. We promote theatrical releases at no extra charge to the studios. There's a group who get that we're not cannibalistic. Our users are also film buyers. Studios that don't get it aren't basing their feelings on facts. We're trying to be patient. At some point they'll turn around.

But it's understandable that the studios would prefer someone buy a DVD rather than rent it for $1.

The studios say Redbox is hurting sales, but we're just a convenient scapegoat. People's shelves are full of movies. They're being more selective about what they're purchasing. And with our huge presence we can help promote films. For example: Management [staring Jennifer Aniston]. It didn't do well in theaters, but we promoted it heavily, and it made more in the first week in rental than it did during its entire theatrical run.

Do you offer the studios revenue sharing if they work with you?

Yes and copy depth, which means there is a minimum number of DVDs we will buy. Also, we only sell used copies of movies from studios that don't work with us. We destroy old copies from our partner studios.

And you're buying movies at retail from three studios right now?

We have a huge workforce out there acquiring product. We've perfected our methods with Universal titles so that by Friday we have machines that are fully stocked.

Isn't that kind of inefficient?

It is. We'd rather be paying the studios. We just want the same deal Blockbuster gets. We're prepared to continue doing this as long as it takes. We have the ability to open one kiosk per hour. The only way the studios can stop us is if they don't stock stores like Target and Wal-Mart.

Why not just charge a little more and give the studios more money per rental?

We pay the same money for the movies as Blockbuster--sometimes even more. So why shouldn't we charge less to rent? Maybe the question should be: Why doesn't Blockbuster charge less? The most amazing way to deliver movies to people is where they shop. We cut out real estate costs, and we've come up with a much more effective model.

So you think the studios are being emotional and irrational?

Historically, they have been. I dare them to show that we're cannibalizing their sales. Not one studio has gone public with any proof of that. They just assume that renting at a low cost hurts their sales.

What will you do when movie distribution moves to the Internet?

We survey our customers all the time to find out what they want. They're telling us they want more stuff like Blu-ray, catalog films and digital downloads. We are testing Blu-ray discs at different price points. In two markets we're testing games.

But isn't there a limit to how many discs a machine can hold? How much stuff can you add?

Each machine holds about 700 discs. We're trying to maximize space. In many locations we have two or three machines. It's a great way to improve service. One of the biggest challenges we have is lines. And when we have more machines, we can have more inventory. Initially we were thrilled to have lines, but now it's become something we have to figure out.

Friday, October 9, 2009

'Friends' of Facebook: Studio Marketers

"Couples Retreat” doesn’t hit theaters until Friday, and it hasn’t had any festival exposure to speak of. But the Vince Vaughn comedy already has more than 13,000 “fans” on Facebook grabbing production stills and video clips provided by Universal.
Better still, it’s got the fans taking all that stuff back to their own pages to share with their friends.
With the youthful, moviegoing audience watching less TV than ever, studio marketers have begun to aggressively mine what has quickly become their preferred media platform – the web.
These days pretty much every major release now has promotional ties to Facebook, MySpace, Twitter or the other online watering holes where movie-watchers congregate. (The marketers' preferred social network? Find out here.)
“This is a huge part of our marketing now … creating an account and building a fan base -- and a lot of what we’re able to do is free,” said Nicole Butte, VP of new media for Focus Features, who recently oversaw a social networking campaign for the Tim Burton-produced animated film “9.”
Huge is right.
Paramount's "Transformers: Revenge of the Fallen" Facebook page has more than 1 million fans, who will receive notifications of the title's Oct. 20 DVD and Blu-ray release.
Last weekend's box-office champ, "Zombieland," has more than 250,000 fans -- 10,000 of which have signed up to play a Java-based game that lets them "kill zombies all over the Internet" with objects including banjos. As with most movie game apps, those who sign up to play not only agree to share profile data, they also post a promotion for the film on their own Facebook wall every time they visit a Sony-sponsored site that supports the online game.
Meanwhile, for its micro-budgeted horror film "Paranormal Activity," Paramount hired San Diego-based boutique marketing firm Eventful to, among other things, create a social media campaign built around driving users to the film's site so that they can "demand" that the movie open wide. As of Thursday, "Paranormal" was one of Twitter's top 10 "trending topics."
As for “9,” an aggressive Facebook campaign allowed the studio to frame the movie’s mysterious subject matter and characters for a core group of film enthusiasts. Even better, the smaller group virally disseminated the information they’d gathered to a broader audience – long before expensive TV ads began to run.
Indeed, the intersection between social media and the movie business became apparent this summer, when Universal’s “Bruno” got off to a hot Friday-night start. Unfortunately, that film also highlighted the downside of the new alliance when it cratered precipitously the following day and never recovered -- the victim of same unfavorable, real-time tweeting.
Studio marketers at the time gave birth to a new phrase, the “Twitter Effect,” to explain how dissatisfied moviegoers armed with smart phones and social networks were torpedoing films even before they left the theater.
According to information released last week by former New Line interactive marketing guru Gordon Paddison, who is now an industry consultant, 73 percent of 4,000 moviegoers in a recent study have established profiles on social media networks. The study was underwrittten Google, AOL, Microsoft, Fandango, Facebook, Yahoo and
“This is just where the audience is now,” said David Singh, executive VP of creative content for Disney of the use of social networks by studio marketers. “Something like 70-80 percent of frequent movie-goers under 25 visit Facebook eight or nine times a day.”
Singh said Disney started experimenting with MySpace for the launch of dance film “Step Up” back in the summer of 2006, a time when the News Corp.-owned property was still the dominant social media platform.
In the spring of 2008, he said the studio became enthralled with Facebook, which, despite the growth in popularity of Twitter, remains the social media network of choice for movie marketers, based mainly on its robust content-sharing features.
At that time, Disney bought out Facebook’s gift store and filled it with plush toys from the Pixar hit “Wall-E” -- only to watch the offering become so popular that the site crashed.
Today, pretty much every Disney release has a robust Facebook marketing component, with the studio’s interactive marketing team spending what Singh estimates to be about 40 percent of its time and resources on social media endeavors.
In June, for example, before romantic comedy “The Proposal” embarked on a theatrical release that would ultimately net $290.4 million worldwide and counting, Singh’s team posted a “how well do you know me” quiz on the Sandra Bullock film’s Facebook page.
The movie’s 4,000-plus “fans” soon dispersed the quiz all over the network. Ultimately, more than 400,000 took the quiz, clicking through and exposing themselves to all sorts of information about “The Proposal” in the process.
“That’s really the power of social media,” Singh said. “You can build on someone’s natural excitement for something and get them to evangelize on behalf of your film.”
Indeed, the number of fans who actually come to a Facebook page are “just the tip of the iceberg,” Focus marketing president David Brooks told TheWrap. “People share what they found with the world. It’s way more interactive than the usual movie fan page.”
Brooks wouldn’t reveal how much money Focus is spending on social media at this point. “It’s not a lot of money,” he said. “But it’s a significant part of our plan.”
Of course, there is a downside to this bargain marketing, as “Bruno” proved.
Much like the early days of harnessing nuclear power, studios admit that they’re still not always in control of the online forums they establish.
In fact, things can turn bad. Fast.
One studio marketing exec, who spoke to TheWrap on the day prior to a recent major release said he was “fantastically thrilled” with the results of the film’s MySpace and Facebook campaigns.
His viewpoint changed dramatically when the film’s September premiere tanked.
“We hyped the s--- out of it on MySpace and Facebook, and as soon as the movie was made available to the public, that turned on us,” he said. “We saw it happening hour by hour -- people were telling each other on our Facebook page how BAD they thought the movie was.’
“As soon as the product is available in the marketplace,” he said, “the same campaign that you created to let everyone talk about it can kill you.”
Disney’s Singh agreed. “Audiences on these social networks tend to be really savvy,” he said. “They don’t want to be marketed to in the traditional sense. As we’ve seen, positive feedback can spread like crazy, but so can negative feedback.”

Friday, June 19, 2009

How Self-Made Titans Launched Their Empires

Scan the Forbes list of the world's wealthiest people and you'll find moguls from startlingly humble origins
Take John Paul DeJoria--owner of Paul Mitchell Systems, a hair products company, and Partron Spritis, a high-end tequila brand--who started out as a door-to-door salesman in Los Angeles at age 9. First he sold Christmas cards but soon moved to newspapers and other subscriptions. After a short stint in the navy, he returned to his salesman roots, selling encyclopedias.
Rate This Story

Your Rating
Overall Rating

Reader Comments

I haven't been recognized yet (but I'm hopeful). Rowling and Carnegie both came from near where my mother was born. Carnegie at least gave up a large amount of his wealth so others could benefit from....

Read All Comments (3)

Comment On This Story

In 1980, with just $700 and an iron will, DeJoria and friend Paul Mitchell, a hairdresser, decided to launch a new line of shampoo and other hair care products, based on a new formula Mitchell had developed. In the early months, when he wasn't pounding on salon doors and told to bug off, DeJorira bought supplies on credit and lived in his car. "Having sold other products door-to-door, I understood that rejection was just part of the process," says DeJoria, 65.

Is yours one of America's Most Promising Companies? Take our survey and find out.

Without ever borrowing a dime, Paul Mitchell Systems became the largest salon-only hair care company in the U.S., with products in 10% of salons across the country. Then came his (and partner Martin Crowley's) agave assault with Patron. DeJoria currently owns a 51% stake in Paul Mitchell Systems and 70% of Patron. At last count, DeJoria's net worth was $2.5 billion.

Gift for gab helped Jeffrey Katzenberg, a high school-educated Manhattanite, climb to the top of the entertainment game. While he didn't launch a business on a shoestring, Katzenberg did spend decades building a network that would eventually help him launch one of the most storied movie studios of all time.

Katzenberg began honing his skills at age 15 as a volunteer in John Lindsay's campaign for mayor of New York in 1965; Lindsay won, and Katzenberg stayed on, foregoing college for the snap and crackle of politics. Through a connection at Lindsay' office, he later met Barry Diller, then president of Paramount, who invited him to Los Angeles to work as his assistant. "No one did more for my career than Barry," says Katzenberg, 58. "He taught me the entertainment business--not just the fun parts, but the not so fun parts that you need to learn in order to be successful."

During his 11 years at Paramount, Katzenberg also befriended Michael Eisner, then chief executive of the movie studio. When Eisner left Paramount for Disney ( DIS - news - people ) in 1984, he took Katzenberg with him, and there they pumped out hits like The Little Mermaid, Beauty and the Beast and Aladdin. After a falling out with Eisner in 1994, Katzenberg left to launch his own studio, DreamWorks SKG, with the likes of Steven Spielberg and David Geffen. With partners like that, little wonder this guy is worth $750 million.

Old-fashioned bartering helped put Kirk Kerkorian, farmer's son and future Wall Street titan, on the map. In the late 1930s, Kerkorian, who is 91, offered to look after famous female aviator Pancho Barnes' cattle in return for flying lessons. During World War II, he took a job with the Royal Air Force transporting planes from their Canadian factory to England for $1,000 per month--an especially treacherous journey, as the planes weren't designed to withstand the long trip or the harsh weather over the North Atlantic.

With savings from his wartime job, Kerkorian purchased Trans International Airlines for $60,000 in 1947. (It is unclear whether he needed additional financing.) He later sold it to Transamerica for $104 million in stock, used to fuel further investments. His private investment firm, Tracinda, now owns 39% of MGM Mirage ( MGM - news - people ), down from 53% in May.

Billionaire financier George Soros, 78, socked away a few pennies to jump-start his entrepreneurial career. Born in Hungary in 1930, Soros and his parents fled the Nazis and landed in England. After putting himself through the London School of Economics while working as a railway porter and waiter, Soros moved to the U.S. in 1956 and found work at several investment firms, including Arnhold and S. Bleichroeder, where he worked his way up to vice president. After running several offshore investment funds, he launched his own investment firm with colleague Jim Rogers. Their Soros Fund began with just $12 million under management (it's unclear how much of that was their own capital); it has since grown into the multibillion-dollar Quantum Fund. Soros' current net worth: about $11 billion

Sometimes sheer talent and persistence is enough. As a single mother on welfare in Scotland, J.K. Rowling, 43, began writing the first Harry Potter novel in Edinburgh caf├ęs whenever she could get her infant daughter to sleep. After being rejected by 12 publishing houses, Bloomsbury, a small publisher in London, offered an advance of 1,500 pounds (about $2,400)--even while one its editors, Barry Cunningham, advised Rowling to get a day job.

Good thing she didn't listen: The following year, U.S. publishing rights to the first Potter book sold for $105,000. Rowling, who is now worth around $1 billion, has since moved nearly 400 million copies worldwide, and is the only author on our list.

Thursday, May 28, 2009

Interview: Mark Cuban

Published on May 27, 2009
by Peter Kafka


Mark Cuban was lucky enough to make billions on Internet video during the Web 1.0 bubble and smart enough to cash out before it burst. He’s spent a bunch of that money on high-profile purchases like a basketball team and a Gulfstream. But much of his investment and energy since then has been directed… away from Web video and toward conventional video, in the form of movies and television.

Cuban’s portfolio companies make movies and television shows and distribute them to movie theaters and television sets. And he’s been loudly skeptical about the possibilities of Web video outlets like YouTube–around the time that Google plunked down $1.6 billion on the site, he declared that “only a moron” would want to invest in it. Time to see if he still feels the same way.

* Everyone says video on the Internet is great, but we spend 99 percent of our time watching TV, and that’s in large part because of HD TV.
* Walt: 99 percent?
* Mark: Well, I don’t know. But it’s a lot.
* Kara: Talk about Internet video. How do you look at it? Mark: It’s a real disappointment to see how far Internet video has come. We were working on hotspots, advertising standards, multicasting 10 years ago. Nothing happened. You can go on and on and on.
* Walt: Why is that? Mark: I have no idea. If you say one thing, it’s that when Google (GOOG) bought YouTube, they didn’t think about making money right away; the focus was on ubiquity, and because no one paid attention, that’s what happened. Now you can’t fight them; it’s like Microsoft (MSFT). You can’t do anything on video these days unless you work with YouTube.
* There are no hits on the Web. So the only way it works is if you can create a platform like YouTube. Hulu could do that, but they have big pockets to appease.
* Kara: No hits? Mark: There are hits. But they’re one-off hits. On TV, there’re hits, but they’re wrong 95 percent of the time, and there are 300-plus competitors. On the Internet, there are unlimited competitors, and YouTube subsidizes bandwidth. So the real cost is marketing. How do you stand out?

* Mark: Video for the Web has become a testing ground for mediums that actually have revenue.
* Kara: So what would the model have been had you bought YouTube? Mark: Like I said, I wouldn’t have bought it. They hid behind the DMCA, and they have huge copyright problems, and it’s a disaster waiting to happen. We still don’t know what’s going to happen with the Viacom (VIA) suit. And they’re paying for all that bandwidth.
* Mark: And by the way, if anything happens to Google, what happens to the whole video space? Everything gets flipped on its head. If you have to pay for it, maybe your kids stop posting videos of their bands.
* Discussion of bandwidth that I’m not catching entirely. But essentially, Mark is saying that the cable companies will have new bandwidth to play with, but they’re not going to necessarily hand it over to the Internet. So everyone in this room is trying to create all these apps and services to shove through one pipe, and the cable guys aren’t going to give them more room.
* Kara: Where do you see TV going? Mark: Television means different things now. Broadcast is one thing. Cable is another, and that’s healthy, because of that subscription business, and they’re never going to give up those subscription dollars for Internet nickels. We need to remember that the Internet is a staid platform. There has been very little innovation. It’s like the ’80s, when we were fighting between different word processing software. There’s only evolution, not revolution. But TV… you could have real innovation there.
* Kara: We’ve been hearing promises of innovation and interactivity for a long time. Mark: There’s been a problem with standards, and that needs to get fixed.
* Walt still wants to watch “Star Trek” on demand. When will that happen? Mark correctly points out that this is partly a programming issue, partly a technology issue. Tech is “easy.” Programming and windows are another story.
* Kara: OK. What do you think about the Internet? Yahoo?
* Mark: Yahoo (YHOO), Google, MySpace, Facebook, they’re all the same: “One hit and a lot of decent products that are second, third, fourth place, and living off the gravy train.” That’s been the tradition since Microsoft and Windows. They’re all the same.
* Kara: Twitter? Mark: The problem with them isn’t a business model. They have 10,000 ways to make money, and everyone in this room can come up with one. They’re just having fun and teasing you guys. I told Facebook, via Jim Breyer, that all those real names they provide via Facebook Connect and that they should charge for it. I think Twitter has similar possibilities.
* Walt points out that people do pay for some Web video, like baseball. Mark: Yup. I’m not saying you can’t have some number of Web users having a great experience. But there’s a limit to the number of people that can be there because there’s limited space, too congested. It’s like having a nice car on the 405. At a certain point it doesn’t matter how nice the car is, because there’s too much traffic. It’s like what Warren Buffet says: First come the innovators, then the imitators, then the idiots. Also: “There’s always going to be someone trying to rush the fat kid to the buffet.”
* Discussion of tiered pricing. Going to have it on mobile, and we should have the same thing on the Internet. What about content? Yes, we have that already.
* Kara and Walt: Tell us about your fight with the SEC? Mark: No. [Pause] “When someone in the government wants you, it’s not a good place to be. You don’t want to be someone’s skin on the wall.” Kara: “Do you know how it’s going to turn out”? Mark: “Yes.”
* Mark walks through how he inverts/breaks/changes traditional windows when it comes to movies, VOD, etc. Very interesting. Will have to come back to it, unfortunately.
* Walt: Does Internet help you run your basketball team? Mark: Yup: We watch video of prospects on YouTube. I follow free agent prospects on Twitter. I can accumulate information on searches, the real-time net is very helpful for the Mavericks. My Icerocket engine helps me track down info.
* Q&A: What do you think of 3-D? Mark: I think it has a great future. Cost is coming down, it’s a differentiated experience. We can put a huge digital screen in American Airlines Center and do 3-D with glasses. Screens are getting so big and prices are falling so quickly that people are changing the way they consume entertainment, and 3-D is a big part of that.
* Gary Shapiro from CEA has a confusing question. Ah. What should we do with the broadcast TV spectrum since 90 percent of people have cable? Mark: We should sell it.
* Kara wants investment tips. Mark talks about various start-ups he’s in, like some sort of mobile/SMS play. But I tell people who are in college today or 10 years from now that are going to look at the Internet and laugh. I think where it’s at is technology geared toward personal health. Walt: Are you investing? Mark: Looking. The problem is I don’t understand any of this stuff.

Mark Cuban is back at D7.Mark Cuban is back at D7.
Walt and Kara know that Mark Cuban is not a man of few words.Walt and Kara know that Mark Cuban is not a man of few words.

Friday, May 22, 2009

Malls: R.I.P.

This same spasm in American society that's killing tract homes and reduced car consumption is hollowing out another infamous eyesore of the land: the shopping mall.

It has profound consequences both on a cultural level and an economic level

WSJ has the grim story:

On the low-income east side of Charlotte, N.C., the 1.1-million-square-foot Eastland Mall recently lost a slew of key tenants, including a Dillard's and, next month, a Sears. Sales per square foot at the venue fell to $210 in 2008 from $288 in 2001.


But the long recession is helping to empty out the promenades. Some analysts estimate that the number of so-called "dead malls" -- centers debilitated by anemic sales and high vacancy rates -- will swell to more than 100 by the end of this year.

In the 12 months ended March 31, U.S. malls collectively posted a 6.5% decline in tenants' same-store sales, according to Green Street Advisors Inc., a real-estate consulting firm. The recent slump was led by an average 7.3% sales drop at Simon Property Group Inc., the operator with the largest number of mall locations.

At the moment, most malls are healthy. As it says, only 100 malls are really considered to be dead (sales per square foot of $250 is the cutoff). But the trends are against malls, even if the economy stabilizes, due to the internet, higher gas prices, social networking (a substitute for the malls food court, which means goodbye mall movies), and the permanent reduction in household credit.

Thursday, May 21, 2009

Authors@Google: Peter Schiff

The Authors@Google program welcomed Peter Schiff to Google's NY office to discuss his book, "Crash Proof: How to Profit from the Coming Economic Collapse".

"Peter Schiff is an American economic commentator, author and licensed stock broker who currently serves as president of Euro Pacific Capital Inc., a fully accredited brokerage firm based in Darien, Connecticut."

This event took place on April 2, 2009.

Ray Anderson on the business logic of sustainability At his carpet company, Ray Anderson has increased sales and doubled profits while turning the traditional "take / make / waste" industrial system on its head. In a gentle, understated way, he shares a powerful vision for sustainable commerce.

Monday, May 18, 2009

Buffett Restructures Derivatives Bet To Take On More Risk


May 17, 2009

WHEN Berkshire Hathaway shareholders descended on Omaha earlier this month for their annual meeting -- the value investor's equivalent of a pilgrimage to Mecca -- one of the hottest topics of conversation was the $37.1 billion bet that the company had made on options tied to global stock prices two years ago.

Although Warren Buffett is famous for his portrayal of derivatives as "weapons of mass destruction," that didn't stop him from selling one type of derivative -- "put" options on the S&P 500 and other major indices -- an investment that is now heavily underwater after the dramatic downturn in the stock market since mid-2007.

During the conference, Berkshire executives let it be known that the firm had recently restructured its option positions, making new bets that would, in essence, pay off if stocks rebounded about 15 percent over the next decade -- instead of the original contracts, which would have required the S&P to climb over 70 percent in the next 18 years to break even.

In recent weeks the chatter along the derivatives "rat line" has been full of rumors about the new Berkshire trades. According to traders active in the options pit, when Berkshire sought to restructure its bets (essentially buying back the multi-decade options it was short and selling new, shorter-duration options that are closer to current stock price levels) it could do so only by paying a heavy cost, since the original positions were so deep in the red.

According to these sources, this restructuring was accomplished on a "dollar neutral" basis, meaning that Berkshire didn't have to pony up cash to do the trade.

Like a gambler doubling down on credit, Berkshire instead purportedly sold a significantly larger number of short-dated contracts than the original transaction -- meaning that the potential risk of loss to Buffet and his shareholders over the next 10 years has actually increased, but only if the markets were to decline from current levels and remain there.

Sources also say that Berkshire was squeezed more on the pricing this time around since the company's credit is not quite as pristine as it was two years ago.

Berkshire Hathaway didn't respond to two e-mails seeking comment.

If the rumors are true, the trades will be detailed in the company's next SEC filing -- but we will have to wait until 2020 to see if the bets pay off.

Wednesday, April 29, 2009

Beware of the fire drill!!

A fire alarm rang at 4 PM in a large office campus when almost all employees were present ( approx 5,000 people ).
As per past fire-drill practices, the entire office was quickly evacuated within 3 minutes, and all employees gathered outside the complex in designated areas waiting for further announcement.
Before long, the fire drill officer in-charge made the following broadcast over their loud-speakers system :
" My dear colleagues : With sincere regret, I have been asked to announce that for many of you, this will be your last evacuation drill with us. Due to the on-going recession and bad business climate, the company is laying off almost 50% of its staff. So when this announcement finishes, I ask all of you to move back into the building. And if your swipe-card does not work, then it means that you have been laid off, in which case you will not be allowed inside, and all your personal belongings will be couriered to you by tomorrow.
The company is using this innovative, never-before approach as we do not want to choke our email system with lay-off notices and farewell messages going by the thousands, and we also wish to avoid any fighting inside the office and the consequent security issues for all staff.
We hope you have had a rewarding career with us. Now please move back in... and good luck ! "

Warren Buffett Still Unlikely To Lose Money On His Puts

By Richard Teitelbaum
- Berkshire Hathaway Inc. shareholders have a chance this year to do something that’s rare among the Sage of Omaha’s followers: count their losses.

Despite Berkshire’s reputation as a bear market bulwark, its stock has been walloped. The Class A shares are down 31 percent since September, to $90,000 as of yesterday, exceeding the 26 percent drop in the Standard & Poor’s 500 Index.

One reason: Chief Executive Officer Warren Buffett’s increasing use of derivatives -- contracts whose value is based on the performance of stocks or bonds or the outcome of a specific event. That Buffett once called derivatives “time bombs” doesn’t calm investors.

Berkshire held contracts with a combined notional value of $67.3 billion at year-end. While this figure is used mostly for reporting purposes and isn’t indicative of potential losses, it dwarfs the company’s $25.5 billion in cash.

Buffett himself has warned of an increasing possibility he might have a loss from one type of contract on Berkshire’s books. Fitch Ratings and Moody’s Investors Service have lowered their credit ratings on Berkshire, partly because of the derivatives.

“People have become uncomfortable with financial investments that they don’t understand, especially anything related to derivatives,” says Charles Bobrinskoy, a manager at Ariel Investments LLC in Chicago.

Equity Index Puts

Berkshire’s derivatives fall into four categories. Because they carry the greatest notional value, at $37.1 billion, most attention is on put options that Buffett sold on stock indexes in the U.S., U.K., euro zone and Japan that expire from September 2019 to January 2028. Berkshire has to pay at expiration if any of the indexes are lower than they were when the puts were written.

While analysis of these bets shows big losses are unlikely, Buffett, 78, hasn’t provided sufficient information on the derivatives to keep some investors from hitting the sell button. Bobrinskoy says he hasn’t been scared away: Of the $250 million he co-manages at Ariel, 5.6 percent was invested in Berkshire as of March 31.

To lose the full $37.1 billion on the equity puts, the indexes would have to fall to zero -- an unlikely event. Berkshire received $4.9 billion in premiums, which together with what the company earns on it, may offset any eventual payments.

Market Scenarios

Citigroup Inc. analyst Joshua Shanker in a March 16 report examined several scenarios to gauge the likelihood of Buffett’s losing money on the puts. Using the S&P 500 as a proxy for all the indexes and assuming a 5 percent annualized return on the premium, the market would have to suffer a cumulative decline of at least 32 percent across the 15- to 20-year life of the contracts for the seller to lose money. In the U.S. market back to 1800, the only way to do that would be to start the bet just prior to the 1929 crash.

Some economists compare today with the Great Depression, and some of the puts may have been written near the U.S. market’s all-time high in late 2007, according to information Buffett has disclosed. The S&P 500 in March was down 57 percent from its peak.

With that in mind, Shanker looked at scenarios that begin with a 50 percent drop in the S&P 500. From that nadir, if the index rose 6 percent annualized over 14 years, Buffett still would not owe any money when the puts expire -- even without consideration of the $4.9 billion in premiums.

Potential Losses

Shanker also sketched out grimmer scenarios. Starting with the 50 percent decline, if the S&P 500 rises at the stock market’s post-1800 average annual rate of 2.8 percent, Berkshire could be out $5.4 billion at the end of the bet. That assumes an initial one-third loss on the premiums followed by 2.5 percent annualized returns.

David Winters says losses from these derivatives are unlikely. His Wintergreen Fund had 6.6 percent of its assets in Berkshire, as of year end. “We’re living in a world where there’s so much negativity, investors are extrapolating something that’s just remotely possible into something that’s probable,” he says.

Berkshire hasn’t disclosed sufficient information to fully analyze its other derivatives, Shanker says. One category is simply municipal bond insurance structured as derivatives; the risks here are similar to those for his municipal bond insurer. Another type consists of credit-default swaps through which Berkshire guarantees payment of individual corporate bonds. Those bets were relatively small, totaling $3.9 billion in notional value at the end of last year.

Worrisome Bets

The final category is the most worrisome, Shanker says. Berkshire has sold contracts that require it to pay when credit losses occur at companies that are included in certain unnamed high-yield-bond indexes. The notional value is $7.9 billion.

Berkshire took in $3.4 billion in premiums on these contracts and has paid losses of $542 million. The company has also recognized a noncash, $3 billion mark-to-market loss. With these contracts, payments are made when a credit event occurs. They expire from September of this year to December 2013.

Losses on these contracts are accelerating as bankruptcies grow, Buffett said in his shareholder letter in February. “Now with the recession deepening at a rapid rate, the possibility of an eventual loss has increased,” he wrote.

Buffett didn’t respond to an e-mailed request for comment. He is scheduled to address shareholders at Berkshire’s annual meeting on May 2, and quarterly results are expected from the company on May 1.

‘Handpicked’ Risks

Mark Curnin, co-founder of White River Capital LP, an investment partnership that specializes in financial stocks, says Buffett’s derivatives are simply smart ways to do what he’s always done: underwrite insurance and buy attractive securities.

“Buffett has handpicked a select group of risks that he understands and thinks are attractively priced,” he says.

The derivative risks are similar to the other hazards that might worry any investor in Berkshire. There are volatile profits from its insurance subsidiaries, for example, and units that depend on the housing industry, such as Acme Building Brands and Clayton Homes Inc. Then there’s Buffett’s portfolio of equity investments: While easy to understand, 7 of the 14 largest holdings listed at year-end were carried at a loss.

Monday, April 27, 2009

Notes From Buffett Meeting 2/6/2009

Notes From Buffett Meeting 2/6/2009

By Dang Le

Note: Students from Emory and 5 other business schools were invited to come visit Mr. Buffett for a Q&A session. These notes were reproduced to the best of my ability as I heard and as I could recall them from a collection of mine and other students' notes. There is no guarantee that this was exactly what was said, but the intent was to preserve the spirit of the message. Enjoy.

Did you hear they called off the Wall Street Christmas Pageant this year? They had trouble finding three wise men…and a virgin. There are many opportunities right now. The markets are very inefficient at times, and this is one of those times.

Berkshire has invested in several insurance companies, would you go into the health insurance business?

No. Health insurance is so ingrained into national policy that it is a tough business. It’s pretty adversarial. I’m not really that excited about it from a business perspective. I don’t want to write policies with high loan loss ratios. That being said, I would buy the stock of an undervalued healthcare insurer.

Insurance is an interesting business. You know, we underwrote a two year life insurance policy on Mike Tyson. I wanted an exclusion against women shooting him, but they wouldn’t let me.

South Dakota:
You’ve recently invested in Goldman Sachs and GE. Is the financial sector a good buy right now?

No sector is a good buy unless you understand the business. However, I do believe that there is good value and great opportunity now in the financial sector because it is extremely unpopular. Sector’s themselves don’t make good buys, companies that are undervalued make good buys. You know how to value a business, you project the future cash flows discounted to present and buy with a margin of safety. The earnings prospects need to be greater than the current value. Anything that is unpopular is always great to look at. If I was getting out of school right now, I would take a look.

How much and how does risk factor into your investment decisions? Would you invest in emerging markets?

In general, emerging markets are not great for me because I need to put a lot of money to work. Risk does not equal beta. Risk comes around because you don’t understand things, not because of beta. There are normally 10 filters or so that I go through when I hear an idea. The first is can I understand the business and understand the downside not just today but five to ten years from now. There have been very few times that I’ve lost 1% of my net worth. I might be risk averse but I am not action adverse. Mrs. B saved $500 over the course of 16 years to start and build Nebraska Furniture Mart. Tom Watson Sr of IBM said, “I’m smart in spots and I stay in those spots.” I just stay within my circle of confidence. When I bought Nebraska Furniture Mart in 1983, Mrs. B took cash and not Berkshire stock. Why? She didn’t understand the value of stock. She understood cash and that is what she took. I need only need to be right a few times and can let thousands of ideas go by.

Ted Williams, who wrote the “Science of Hitting,” broke the strike zone into 92 ball shaped sections. He knew, if hit in his sweet spot, he’d hit 430, a little further out, and he’d hit 350. You have to know your sweet spot. The beautiful thing about investing is that it’s a “No called strike game” where unlike baseball the only strikes in investing are when you swing. I don’t have to swing.

When I do invest, I don’t care if the stock price goes from $10 to $2 but I do care about if the value went from $10 to $2. Avoid debt. I decided early on that I never wanted to owe more than 25% of my net worth, and I haven’t… exept for in the very beginning. I like to play from a position of strength. I always try to have the odds in my favor. When I go to Vegas, I don’t go around putting $5 dollars on the blackjack tables. If someone wants to come to my room and put $5 on my bed, well that’s fine. I like those odds better.

How do you think about value?

The formula for value was handed down from 600 BC by a guy named Aesop. A bird in the hand is worth two in the bush. Investing is about laying out a bird now to get two or more out of the bush. The keys are to only look at the bushes you like and identify how long it will take to get them out. When interest rates are 20%, you need to get it out right now. When rates are 1%, you have 10 years. Think about what the asset will produce. Look at the asset, not the beta. I don’t really care about volatility. Stock price is not that important to me, it just gives you the opportunity to buy at a great price. I don’t care if they close the NYSE for 5 years. I care more about the business than I do about events. I care about if there’s price flexibility and whether the company can gain more market share. I care about people drinking more Coke.

I bought a farm from the FDIC 20 years ago for $600 per acre. Now I don’t know anything about farming but my son does. I asked him, how much it cost to buy corn, plow the field, harvest, how much an acre will yield, what price to expect. I haven’t gotten a quote on that farm in 20 years.

If I were running a business school I would only have 2 courses. The first would obviously be an investing class about how to value a business. The second would be how to think about the stock market and how to deal with the volatility. The stock market is funny. You have no compulsion to act and a bunch of silly people setting prices all the time, it is great odds. I want the market to be like a manic depressive drunk. Graham’s Ch. 8, in the book Intelligent Investor, on Mr. Market is the most important thing I have ever read. Now think about the NYSE. You have thousands of companies to choose from. For me, that universe has shrunk because I need to put large dollar amounts to work. Attitude is much more important than IQ. You can really get into trouble with a high IQ, i.e. Long-Term Capital. You need to have the right philosophical temperament.

Penn State:
Why did you invest in Harley-Davidson?

I like the 15%. I measured that 15% against other credits and it looked attractive on both a relative basis and an absolute basis. Also, we have to have a certain amount of the portfolio go to debt. Lately, the government has become the guarantor for some companies but not for others and the “haves” and “have-nots” determined by certainty of government assistance rather than the credit quality. These finance companies have a problem getting funded, not with their customers. Any company where you can get your customers to tattoo your name on their body has quite a strong brand. For this investment I had to think what is the probability that they will not pay me back and would I want to own the company if they did not, basically that the equity isn’t worth zero. Risk premiums in the corporate bond market went from real low to real high. Right now, they’re out of whack. The flip side is that governments are overpriced. We have a bubble in governments. T-bills actually had a negative interest rate. I never thought I’d see that. A mattress is a better investment than the US 10 Year. Buying corporates and shorting the 10-year is a great idea and smart guys went broke doing it because even if you’re right, you need to be able to play out your hand. I always think about what I would do if a nuclear bomb went off or if Bernanke ran off with Paris Hilton to South America.

Do you feel that the might of America has changed?

You can bet against the dollar, but I would never bet against America. The system in the U.S. has allowed the country to unleash more for the world than any other country. Since 1776, the U.S. had a different system than the rest of the world and that system unleashed the human potential. We were not the smartest nor did we have the best resources. This is the same system we have in place today with people of similar intelligence. I have and would bet against the U.S. currency, stocks, etc. but the United States prevails over time. There are all kinds of rocky roads but we have rule of law, equality of opportunity, and a meritocracy. We have a market system and people apply energies and imagination to come up with things someone would want. Everyone in this room is working far below his/her potential.

We know that you are a big bridge player. Do you think that bridge correlates to investing? Are there any traits or characteristics that might carry over from one to the other?

Bridge is the best game there is. You’re drawing inferences from every bid and play of a card, and every card that is or isn’t played. It teaches you about partnership and other human skills. In bridge, you draw inferences from everything and that carries over well into investing. In bridge, similar to in life, you’ll never get the same hand twice but the past does have a meaning. The past does not make the future definitive but you can draw from those experiences. I think the partnership aspect of bridge is a great lesson for life. If I’m going into battle, I want to partner with the best. I was playing with a world champion and we were playing against my sister and her husband. We lost, so I took the scorepad and I ate it.

South Dakota:
What are your views on derivatives and how do you think they have affected the global market?

In my 2002 letter to shareholders I referred to them as “weapons of mass destruction.” Derivatives are really just a way to create a product with a very long fuse, for example, 100 years, as opposed to stocks which settle in 3 days. That kind of system allows claims to be built up. AIG called me in September and told me they were about to get downgraded which would have required higher posting requirements. Now this is an enterprise that has been built up over decades and was effectively destroyed in 48 hours by these products. With derivatives, you’re exposed to counterparties and thus reliant on others. These claims built up over time to the tune of billions of dollars and when one falls, the whole system falls. Derivatives are not evil by themselves but rather everyone needs to be able to handle them. System wide, they’re rat poison. Berkshire holds many derivatives but we always hold the money at Berkshire.

What do you think about the stimulus package? Would you rather see tax cuts or government spending?

We obviously have a problem, but we’ll come out of this just fine. The idea of a stimulus is to do things that will have an impact quickly and the current proposal won’t do that. When dealing with situations like this, you can’t do just one thing but always need to ask yourself what is the next question. We have utilized monetary policy and guaranteed everything in sight. It’s a standard Keynesian prescription. Tax cuts benefit people differently in the short term. We are basically saying, we’re not going to pay for what we’re doing in terms of government spending and that we’ll just mail you some money but it’s better than doing nothing. In the end, you should buy stock in a business that any idiot could run because someday, one will. You know, our country is similar.

How do you think differently today than you did twenty years ago? Where do you expect to see the greatest differences in 2030?

The fundamental things about investing that I learned when I was younger haven’t changed. I am lucky to have picked up a book at 19, The Intelligent Investor, that gave structure to investing and investment decisions. Over time, I learned different ways to apply it. I have learned what it is outside my circle of confidence. I bought See’s in 1972 and I think understanding the value of brand helped drive the decision to buy Coca-Cola in 1988. Through experience, I have gotten smarter on predicting and evaluating human behavior. My wife put me together in terms of human behavior. I really enjoy doing what I do and I get to do what I want. I enjoy talking to groups like these. Irv and Ron Blumkin are some of my best friends and I continue to add friends by buying businesses. I don’t want a boat or 12 houses. I’m almost fully depreciated, down to my residual value. Age doesn’t affect my ability to my job though, as opposed to Arnold Palmer, he can’t play his game.

Penn State:
What advice would you give the average person in the U.S.?

It’s hard to give advice to someone who might lose their job. My Dad went to work on August 13, 1931 to find out the bank where he worked and held all our money had closed. He had no job and no money and two kids. You want to be as prepared as you can and you just don’t want to have debt. Medical problems cause a lot of the grief and lots of credit card debt. Credit cards are poison. If you make a dollar, only spend 95 cents, not $1.05. You should be ahead of the game all the time rather than behind as it is harder to work your way out of a hole. You want to play the game from strength, and you have to think ahead. People don’t always want to hear advice when things are going well. People risked everything they had and needed for something they didn’t have or need. Charlie once said, “The problem isn’t getting rich, it’s staying sane.

What are the biggest challenges that this country faces?

The biggest problem is probably weapons of mass destruction. We have always had people who were ill-fitted to society and wished harm on others. In 1945 we unlocked the atom, and that changed everything. The human animal hasn’t changed, you still have the same percentage that are maladjusted. The problem is knowledge, materials, and deliverability. What you could do with the wrong kind of infectious disease is incredible. You can transmit things much faster today. Governments, individuals and organizations can’t control security. It’s what I would spend all of my money on if I could fix it. Everyone here in this room won what I call the ovarian lottery. You were born at the right time and we were all very, very lucky. We are in the luckiest 1% of humanity.

What are some of the mistakes that Secretary Paulson made during the sub-prime crisis?

Hank is a great guy and great friend. He’s extremely smart about markets but not so smart about politics. I sympathize with Hank. Hank Paulson was not the supreme commander. He had to work through at least 535 people with different incentives. The whole situation has developed faster and at an extreme pace, more than anyone thought. The first TARP program got voted down, which changed the dynamic. All variables affect other variables. Congress did not appreciate how severe the problem was. I call it an “Economic Pearl Harbor” in September. FDR essentially had a blank check and that what people think is important and believing it makes it so. He restored confidence in the banking system. Paulson’s job may have been almost impossible given the circumstances. He was used to operating in a sphere that did not require consensus (Goldman Sachs). People that take that on [public service jobs] are laying themselves open to be unfairly attacked, criticized and scrutinized. In hindsight, letting Lehman fail was probably not the right thing but it was difficult to tell at the time. It created trust problems as money market funds fell apart soon thereafter. When people start to worry about the money in money markets, it’s a problem. People want to be led at this point, but fall back into old habits very easily. When you think that Citi or Lehman is just a house of cards… I mean who would have even believed you. It’s like Noah before the flood, building his ark. Can you imagine the reaction he got?

South Dakota:
What do you think about the U.S. trade deficit?

I talked to Barack back in August, and said: “I have good news and bad news. The good news is that the economy will be terrible, so you’ll definitely get elected. The bad news is that the economy will be even worse at inauguration.” He asked, “Do you think it’s too late to throw the election?” The trade situation is there and it causes problem and could exacerbate the situation. However, all issues go on the back burner until we solve the big problem.

We create sovereign wealth funds, buying more goods and services than everyone else in the world. The decline in the oil price has helped the trade deficit but nothing will get better until everyone feels better. Every day, we buy $2 billion of goods and service more than we produce and export. We give the exporting nations USD. The trade deficit creates claims on the United States. Sometimes we’re a little hypocritical. For example, three years ago, the Chinese wanted to buy Unocal (a small oil company in California) and Congress wanted to condemn China for wanting to buy the oil company with the money we gave them (through U.S. imports). That’s a little disingenuous. The trade deficit creates a situation because we give people claim checks, then we get upset when they want to use them. The Japanese bought Rockefeller Center in the 80’s. Did we think they were going to move it? It’s not useful to fan those flames in a nuclear world, and that’s what’s wrong with “Buy America.” The trade deficit will come up big time when we get past the current problems.

Why do you live the way that you do?

Do you mean, why am I frugal? You can’t buy health and you can’t buy love. I’m a member of every golf club that I want to be a member of. I’m the highest handicap member of Augusta National. I’d rather play golf here with people I like than at the fanciest golf course in the world. I can do anything that I want, and I do. I buy everything I want to have. I’m not interested in cars and my goal is not to make people envious. Don’t confuse the cost of living with the standard of living. Bella Eidenberg was a Polish Jew who was at Auschwitz and some of her family didn’t make it. Twenty years ago she said she was slow to make friends, and that the real question in her mind was always, “Would they hide me?” If you have a lot of people that would hide you, you’ve had a very successful life. That can’t be bought. I know people that have billions of dollars and their children would say, “he’s in the attic.”

I estimate that I live on $100,000 per year, except for my plane which costs me about $1 to $1.5 million. I like the plane, it improves my life. My computer and my airplane changed my life in a big way and I’m not sure, if I had to choose, which one I’d give up. Anything beyond $50 Million doesn’t improve my life. If I took out $3 billion of Berkshire stock, I could have paid 30,000 people $100,000 per year to paint my portrait every day. I could have paid 50,000 people $60,000 per year to dress in loin cloths and haul rocks to create the Buffett tomb. That’s not me. I believe in giving my kids enough so they can do anything, but not so much that they can do nothing.

Penn State:
What do you think of the good bank, bad bank idea?

It is tough to do but if it were done well, it could do a lot. Call the bad bank an “Aggregator Bank.” There is a lot to be said in cleaning out past problems. There are 7,000 banks in the U.S. with such varying degrees of conditions so it is tough to provide a sweeping overhaul. The biggest thing they’re wrestling with is pricing what goes into the aggregator bank. These are smart, well-intentioned people working enormously hard on this.

You take great pride in keeping your schedule wide open. Do you believe that corporate America is overscheduled and overstretched?

[Showed his blank schedule book]. Bill Gates is overscheduled. I am extremely lucky and I can say no to anything because there isn’t an entity that can use economic pressure to make me do something. A lot of CEOs get into a lot of the rituals that are part of the job. I would rather deliver papers than be the CEO of GE. They have too much stuff to do that is a big pain. Don’t get me wrong, CEOs have it pretty good. I’d imagine that every CEO in the Fortune 500 would be willing to take the job for half of the money. The 76 or so CEOs that run companies at Berkshire don’t have to deal with bankers or lawyers. At Berkshire, we’ve never had a meeting for all of them anywhere. There are no presentations and no committees. They can be more productive, and it makes it attractive when they can do what they like to do best.

What are three traits of successful managers?

Passion is the number one thing that I look for in a manager. IQ is not really that important. They need to be able to work well with others and the ability to get people to do what you want them to do. I’d say intelligence, energy, integrity. If you don’t have the last one, the first two will kill you. All you have is a crook who works hard. If a person doesn’t have integrity, you want them dumb and lazy.

If you could put 10% of your future earnings on one of your classmates, you would pick the one that’s most effective at working with people. These are qualities that are elective. If you could pick one to sell short, it would be the person that no one wants to work with. You can elect to be the kind of person you want to be. Look at those qualities of the two people you’ve selected (one long and one short). They’re all qualities that you possess. It’s like marriage. If you want a marriage that’s going to last, look for someone with low expectations. Don’t keep score. Keeping score doesn’t build organizations, homes, etc. I have never had one fight with Charlie. When I took over Solomon I had to pick the best person to run it. I interviewed 12 people for 15 minutes each and I asked myself, “Who would I go into a foxhole with?” I never look at grades or where you went to school. When I picked Deryck Maughan, he never asked me about pay or options or indemnity. He went to work.

Chains of habit are too light to be felt until they’re too heavy to be broken. In terms of picking people how do you lead your life in a way that I’d pick you?