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Geoff Gannon May 31, 2006

Recent Highlights from Fat Pitch News

Fat Pitch News continues to provide worthwhile value investing links. George recently created a Feed Flare that lets webmasters include a link to bid up their stories on Fat Pitch News. You can read about the flare here.

I’ve added it to all of my blog posts at the bottom of the permalink page. So, if you click on the word “permalink” at the bottom of any of my posts, you’ll be able to bid up the story on Fat Pitch News by clicking a link at the bottom of the post.

Here are some of my personal favorites over at Fat Pitch News (to read the complete story, click the blue URL just below the green banner):

The 38 Stocks in the Buffett Portfolio: A comprehensive list that includes some very old positions that have not been sold. You may have forgotten about a few of the smaller names. Analysis on Money Central: You’ve read my take on (OSTK), now read someone else’s.

<strongHome Depot Holders Tear into CEO Pay: This story has been widely reported elsewhere, but the behavior of the board and management is appalling enough to warrant reading about it again.</strong

Tribune Good News: Media conglomerate Tribune (TRB) announced a $2 billion stock buyback as well as plans to sell at least $500 million in non-core assets. Ratings agencies drastically cut the company’s credit rating, because of the added risk from the leveraged buyback. However, Tribune’s debt currently remains investment grade.

Claire’s Stores at Value Discipline: Rick looks at Claire’s Stores (CLE). It’s an interesting business. The stores sell cheap accessories to young girls. That’s not the kind of business where competitive pricing is a big concern.

International Speedway at A post discussing an often overlooked wide-moat company, track operator International Speedway (ISCA).

Sleeping With an Elephant – Emerging Markets – How Diversified Are You?: Rick of Value Discipline discusses the possibility that simply picking a superficially diverse group of international securities may not insulate you against problems in the U.S.

Brunswick – Bargain Basement Boating?: Value Discipline profiles Brunswick (BC), a big player in boating and marine related recreation. The company also manufactures other (non-marine) recreational products and operates bowling alleys.

Funeral Pallor: What’s wrong with the funeral business? Burials are exactly the kind of highly fragmented, slow growth industry that should be highly profitable for the consolidators. Lately, that hasn’t been the case.

Coke Trying to Stay Fresh: You may have seen this story elsewhere. Coca-Cola (KO) is developing new specialty drink recipes by using restaurants as a test lab. The plan seems to be to increase the use of Coke in restaurants. I doubt it’ll lead to big results relative to Coke’s total sales, but it makes more sense than many of the marketing pushes for mature beverage brands.

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Geoff Gannon May 30, 2006

Series of Bank Posts

I recently concluded the week long series of posts on specific banks earning above average returns. The idea was to look at each bank’s business and ask why it is capable of earning above average returns. For a discussion of why banks, on average, earn returns above those of many other public companies, see my earlier post: “On Banks”.

Here are the five posts:

Wells Fargo & Company

Fifth Third Bancorp

Cascade Bancorp

TCF Financial Corporation

Valley National Bancorp

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Geoff Gannon May 29, 2006

On Wells Fargo & Company

Wells Fargo & Company (WFC) is a huge Western and Midwestern bank that provides a diverse array of financial services to its more than 23 million customers. The company employs more than 150,000 people at its over 6,000 locations nationwide. Wells Fargo has about $500 billion in assets.

While the company continues to derive more than half its revenues from interest income (about $26 billion), its activities are not limited to collecting deposits and lending money. Wells Fargo engages in other businesses such as brokerage services, asset management, and investment banking. The company also makes venture capital investments.

Over the last ten years, Wells Fargo has averaged a 1.57% return on assets and an 18.19% return on equity.


Wells Fargo is closely associated with California in the minds of most investors. The company now operates in 23 different states. However, the concentration in California remains.

Mortgage lending in California accounts for approximately 14% of Wells Fargo’s total loan portfolio. Commercial real estate loans in California account for another 5% of the company’s total loans. No other single state accounts for a similarly sized portion of total loans. In fact, neither mortgage lending nor commercial real estate lending in any other state accounts for more than 2% of Wells Fargo’s total loans.


Wells Fargo’s focus on cross-selling is well known. The company has a stated goal of doubling the number of products the average consumer and business customer has with Wells Fargo to eight products per customer (from the current four products per customer).

Cross-selling increases customer stickiness. It also helps increase profitability by decreasing expenses relative to revenues. The need for a large physical footprint is reduced – as is the need for a large number of bankers. Instead, the existing infrastructure is able to provide additional revenue from the same customers.

Wells Fargo’s Chairman & CEO, Richard Kovacevich, explains the importance of the company’s cross-selling in the “Vision & Values” section of the corporate website:

Cross-selling — or what we call “needs-based” selling — is our most important strategy. Why? Because it is an “increasing returns” business model. It’s like the “network effect” of e-commerce. It multiplies opportunities geometrically. The more you sell customers the more you know about them. The more you know about them the easier it is to sell them more products. The more products customers have with you the better value they receive and the more loyal they are. The longer they stay with you the more opportunities you have to meet even more of their financial needs. The more you sell them the higher the profit because the added cost of selling another product to an existing customer is often only about ten percent of the cost of selling that same product to a new customer. This gives us—as an aggregator — a significant cost advantage over one product or one channel companies. Cross-selling re-invents how financial services are aggregated and sold to customers — just like other aggregators

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Geoff Gannon May 28, 2006

On Fifth Third Bancorp

Fifth Third Bancorp (FITB) is a large, decentralized Midwestern bank with a strong history of focusing on cost controls. The company operates over 1,100 branches spread across ten different states: Ohio, Kentucky, Indiana, Michigan, Illinois, Florida, Tennessee, West Virginia, Pennsylvania, and Missouri. Fifth Third has over $100 billion in assets.

In addition to its banking operations, Fifth Third also operates one of the Midwest’s largest money managers and one of the nation’s largest EFT processors.

Over the last ten years, the company has averaged a 1.68% return on assets and an 18.34% return on equity.


The vast majority of Fifth Third’s total assets are provided by affiliates in five states: Ohio, Michigan, Illinois, Indiana, and Kentucky.

Fifth Third focuses on smaller markets with below average population growth. The company seeks to operate more efficiently than its local competitors and thereby obtain a dominant share of each market.

The unattractive demographics of the largely Midwestern markets in which Fifth Third operates partially insulates the company from the ravages of competition. Many banks seek out pockets of above average population growth and high concentrations of wealth instead of expanding into one of Fifth Third’s markets.


Fifth Third consists of nineteen affiliates operating in ten different states. The company’s three largest affiliates account for approximately a third of the company’s total assets. These three largest affiliates are located in Cincinnati, Chicago, and Western Michigan. None of the other sixteen affiliates accounts for more than 7% of Fifth Third’s total assets.

The company is well-known for its highly decentralized affiliate banking model. Fifth Third’s President and CEO, George Schaefer explained this model in a May 22nd, 2000 interview with The Wall Street Transcript:

All of our lines of business, for example, in Indianapolis, Indiana, report into our CEO in that market. He’s in charge of the commercial business, he’s in charge of the retail business, he’s in charge of the trust business, the investment business and the processing business in his area.


This decentralized approach has helped Fifth Third compete in each local market, despite the very real differences between the various communities in which the company operates.

Fifth Third now has branches in larger markets as well as the small, slow-growing markets the company is normally associated with. Those smaller markets remain an important part of Fifth Third’s business; but, if the company hopes to continue its strong growth, it will need to increase its rather small share of some of these larger markets.

The autonomy granted to the CEOs of the various affiliates should better position Fifth Third for growth in both types of markets. Such autonomy frees local branches from any sort of institutional uniformity imposed upon them by some distant corporate office. This allows for the development of different solutions to similar problems based on the specific circumstances of each particular profit center.


Despite its decentralized operations, Fifth Third is more efficient than its peers. The company has …

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Geoff Gannon May 24, 2006

On Cascade Bancorp

Cascade Bancorp (CACB) operates branches under the Bank of the Cascades name in Oregon and the Farmers and Merchants name in Idaho. The company has 21 branches in Oregon and 11 branches in Idaho. Cascade Bancorp has total assets of $1.35 billion and deposits of $1.16 billion.

Over the last ten years, the company has averaged a 2.08% return on assets and a 22.89% return on equity.


Over a third of Cascade Bancorp’s total deposits are in the company’s six Bend, Oregon branches. Cascade has a 31% market share in Bend. Several larger banks have much smaller positions within the town. No other bank has a share of the market equal to more than half of Cascade’s share.

Cascade’s CFO, Gregory Newton, explained the attraction of Bend in an October 10th, 2005 interview with The Wall Street Transcript:

The economy in Central Oregon has been quite strong, mainly because of in-migration of baby boomers and active retirees. Central Oregon has better weather than most of the Northwest and has an abundance of recreational opportunities that draw quality of life seekers from large metros along the West Coast and increasingly from other parts of the country.


Cascade has a strong position both in the city of Bend itself (population: 50,000) and Deschutes County as a whole. Over half of Cascade’s deposits come from the company’s ten branches in Deschutes County. Cascade has a 33% market share within the county. The two nearest competitors each have a market share that is well under half of Cascade’s.

Despite Cascade’s strong penetration in Deschutes County, the company has a less than 2.5% share of the statewide market. The company earns above-average returns on both assets and equity by dominating a very small (and very lucrative) geographic niche.


Cascade’s limited geographic reach (and strong penetration within its territory) allows the company to focus on attracting the best employees. The company recently completed a large acquisition relative to its small size. However, Cascade has usually focused on de novo expansion within its chosen geographic niche (central Oregon).

In the same interview with The Wall Street Transcript, Mr. Newton explained the importance of Cascade’s staff:

People are our biggest asset and differentiating factor. Quality bankers are hard to come by these days and their prices are being bid up. So we are investing in developing skill levels of existing staff. In addition, we believe we are an attractive alternative to bankers who are with big banks where they have less ownership interest.


Executives at some local banks, including Cascade, have expressed concern that there are not enough good loan officers in Central Oregon. Part of the problem seems to be demographics. An increase in retirees does nothing to improve the quality of the labor pool these banks draw from. At the same time, the growing retiree population greatly increases the demand for loan officers.

As a result, some local banks have had to extensively train …

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Geoff Gannon May 23, 2006

On TCF Financial Corporation

TCF Financial Corporation (TCB) operates branches in Illinois, Minnesota, Michigan, Wisconsin, Colorado, and Indiana. The majority of the bank’s branches are located in Illinois, Minnesota, and Michigan. The bank, founded as a mutual thrift in 1923 with $500, now has almost $14 billion in assets and more than 1.6 million checking accounts.

Over the last ten years, TCF has averaged a 1.77% return on assets and a 21.93% return on equity.


TCF collects low cost deposits by banking to the common man. Fee income accounts for an unusually large portion of the bank’s earnings. These fees greatly reduce TCF’s cost of funds, because they offset much of the interest paid on the deposits. To the extent that loans are made from deposits, this greatly increases profitability.

Unfortunately, TCF has a very high loan/deposit ratio (more than 110%), so not all of the bank’s loans are made from low cost deposits. However, TCF continues to grow, so the loan/deposit ratio should come down in the natural course of future expansion.

TCF’s growth strategy is simple and unorthodox. William Cooper, TCF’s Chairman and then CEO, outlined the bank’s strategy in a March 15th, 2004 interview with The Wall Street Transcript:

We are different because we tend to bank to the everyday person. We don’t have an emphasis on banking the rich. We have a product structure and a service convenience level. We’re open seven days a week, 364 days a year.



TCF has one of the country’s largest supermarket branch systems. These tend to be the bank’s most profitable branches. One of the differences between TCF and other banks is the nature of their supermarket branches.

TCF actively seeks small deposits and structures their supermarket branches so that they can act as full service branches. In effect, TCF brings the bank to its customers. It’s a different approach entirely, as Mr. Cooper explained in the same interview:

In the supermarket you have to get out there and sell things to people who weren’t there particularly to buy a banking service. So you need people, for instance, who have worked at The Limited or sold shoes or whatever who can get out and really sell in a much more aggressive manner.



While many other banks have been closing their branches in favor of doing more online banking, TCF has been growing its bricks and mortar presence. Much of that growth has come in urban areas like Detroit, where some of TCF’s competitors have been less interested in doing business.

Many of the company’s competitors look to the suburbs – where the greatest concentration of wealth is. TCF looks for population density first. The company aims to make a small amount of money on each customer and multiply that over a huge number of customers.

TCF’s approach to expansion is essentially the same as many retailers. The company goes where potential customers already are (including supermarkets), fosters a recognizable image, and …

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Geoff Gannon May 22, 2006

On Valley National Bancorp

Valley National Bancorp (VLY) is a conservative bank with a strong position in northern New Jersey and a presence in Manhattan. The bank, founded in 1927, has about $12 billion in assets.

Valley has consistently earned extraordinary returns on assets and equity. Over the last twenty years, Valley has averaged a 1.74% return on assets and a 21.12% return on equity.

Valley’s worst two-year performance occurred in 1990 and 1991. During that period, Valley’s return on equity dropped as low as 14.54% and its ROA dropped as low as 1.29%. Even in Valley’s worst year (1991), the company still managed to roughly match the average long-term performance of most of its peers. In other words, Valley’s worst year was a close to typical year for many other banks.

It was at this low-point in 1991 that the board of directors decided not to increase the cash dividend. That was the only year in the last 37 that Valley did not increase its dividend.

The company has 79 consecutive years of profitable operations. That’s over 300 quarters (Valley has yet to post a quarterly loss). More importantly, Valley has a record of earning great returns on both assets and equity over long periods of time. So, what’s the company’s secret?


Northern New Jersey is about the best place in the world to situate a bank. This isn’t hyperbole; if there’s a better location, I’ve yet to hear of it. As you know, American banks are unusually profitable. The market is large and highly fragmented. So, naturally the best place to situate a bank would be in the United States. But, why north Jersey in particular?

In a September 20th, 2001 interview with The Wall Street Transcript, Valley’s chairman, Gerald Lipkin, explained why northern New Jersey is such an attractive market:

Northern New Jersey is the single most densely populated area on earth. There are more people per square mile in northern New Jersey than there are in India, China, Japan or anyplace else. We have the highest median family income in the United States in that area. So, we serve a very densely populated and affluent area, which is not dominated by any single industry.



Valley maintains a narrow focus both in terms of geography and services. The company’s offices are kept within one hour of the bank’s headquarters in Wayne, NJ. In the same interview, Mr. Lipkin explained why this geographic concentration is important: “We like to make it very convenient for our client base to meet with senior management as well as the other members of our staff.” (Interview)

Valley focuses on relationship banking. The company has residency requirements for its directors. The majority of directors are to live within 100 miles of the corporate headquarters. Furthermore, each board member is required to use Valley for both business and personal accounts. Theoretically, these two requirements ensure board members are familiar with the bank’s services and are best able to …

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Geoff Gannon May 20, 2006

Cedar Fair to Buy Paramount Parks

Publicly traded limited partnership Cedar Fair (FUN) will acquire the Paramount Parks business of CBS Corp (CBS) for approximately $1.25 billion. The five parks involved in the deal are located near Cincinnati (OH), Richmond (VA), Charlotte (NC), Santa Clara (CA), and Toronto.

Cedar Fair already operates seven amusement parks and five water parks, including the company’s flagship Cedar Point property on Lake Erie. The company intends to keep all five properties. The deal will be financed by a $2 billion loan from Bear Stearns (BSC). The interest rate charged will be determined once Cedar Fair’s debt has been rated.

The acquisition is quite large relative to the size of Cedar Fair’s existing business. Cedar Fair generated $569 million in revenues during 2005. During the same time period, the Paramount Parks properties generated $423 million in revenues.

In addition to the five parks, Cedar Fair will receive Star Trek: The Experience (at the Las Vegas Hilton) and the Nickelodeon license at the five Paramount Parks.

The Paramount Parks properties encompass about 1,250 owned acres and 180 leased acres. Based on past attendance, the five acquired properties will likely be some of the most visited parks in the new Cedar Fair portfolio. However, none of the new properties is likely to eclipse Cedar Fair’s two most visited properties: Cedar Point and Knott’s Berry Farm.

By far the two largest parks being acquired are Canada’s Wonderland (located near Toronto) and Kings Island (located near Cincinnati).

Cedar Fair’s chairman Dick Kinzel said:

This acquisition will provide exciting new growth opportunities and the potential for meaningful incremental free cash flow as we realize $20-$30 million in annual cash flow synergies over the next 3-5 years. It will also add significant geographic diversity to our portfolio of parks and improve our position as one of the largest regional amusement park operators in the world.

The acquisition will require significant debt financing. However, the amusement park business generally has a very high free cash flow margin. Cedar Fair’s existing properties are excellent generators of free cash flow. The company makes large cash distributions to unitholders; the current yield is somewhere around 6.85% (reminder: Cedar Fair is a Limited Partnership). Returns on both assets and equity have generally been quite high.

The deal is expected to close in the third quarter of 2006. Most analysts believe CBS will use the roughly $1 billion in after-tax proceeds to buy back shares.

Over the last ten years, Cedar Fair has compounded its book value per share at an annual rate of 8.11% and earnings per share at an annual rate of 6.30%.

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Geoff Gannon May 19, 2006

On Microsoft

As a result of recent price declines, shares of Microsoft (MSFT) look more attractive now than they have in years. I hope to write more about the company and the stock in the weeks ahead. For now, however, I am simply going to reprint my response to an email asking for my take on Microsoft.

At the time I wrote the response I did not intend to post it. Therefore, a few clarifications are in order. Throughout the response I am focusing on long-term trends. Viewed as a discussion about the next few years, my response could be badly misinterpreted. I took a longer view of Microsoft’s prospects than just the next few years.

It’s also worth noting that I omitted a few relevant points, because I was writing to a single individual, not a large audience. For instance, my remark that Microsoft did not use its cash pile to buy up an established player in the games business seems out of place. The company has, in fact, acquired a few developers (most recently, Peter Molyneux’s Lionhead Studios). These were small deals. I was thinking about something much larger.

My comments regarding the PlayStation 3 may also be confusing, because they seem to indicate I believe PS3 sales will be weak. Actually, I only meant to suggest that Sony’s competitive position would be considerably weaker at the end of this round than it had been at the time of the PS2’s dominance.

This email has been edited. Irrelevant passages have been omitted, and the text has been reformatted to match the appearance of other posts to this blog:

Microsoft is a difficult situation for me to evaluate. I think the company still has a lot of growth ahead in some areas. But, that depends on where management wants to take it.

There are three core businesses that are already well developed: Windows, Office, and Servers.

The moat in the first two are wide. The Windows moat is huge.

The business model in operating systems is great. You keep upgrading every few years; the hardware needn’t progress for you to find things to tweak and get people to buy the next step up. It’s insanely profitable.

I think the new launch (Vista) will be bigger than people expect (eventually) in how it allows for cross selling other Microsoft products (but we’ll see about that). I expect the press to be very negative at least until well after the launch, because there will always be some bugs and delays.


Eventually, video games will be a big business for Microsoft. I hate the economics of the console business, but love the economics of the publishing (and development) side of things.

I’m sorry to see that Microsoft didn’t use its cash pile to buy up an established business here (publishers were cheap in the market a few years ago; an all cash deal would have worked well. Now, everyone thinks video games will be the next big thing).

The console wars …

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Geoff Gannon May 18, 2006

On Yesterday’s Selling

Yesterday, the Dow suffered its biggest point loss in some time. You’d think that amid all that pessimism, some bargains might appear. Unfortunately, there was a method to yesterday’s madness. Many of the stocks that had run up gains earlier in the year suffered the most. As I looked over the list of stocks I’d like to buy at slightly lower levels, very few were down in a big way and a fair number were up slightly.

There were some exceptions. Earlier this week, The New Wall Street mentioned three tech giants worth considering at these prices: Microsoft (MSFT)Intel (INTC), and Dell (DELL).

Bill of Absolutely No DooDahs felt these stocks have farther to fall. As you may remember from an earlier discussion, I recognize the logical validity of technical analysis, but don’t believe it has serious practical applications, because an investor can perform very well by simply focusing on the fundamentals (if he has the stomach for large paper losses).

I’m probably somewhat tech averse, because it’s difficult to get a clear view of the future competitive landscape in these businesses. I wouldn’t be buying Microsoft, Intel, or Dell myself.

However, you may remember I set up a few simulated funds at Marketocracy to test out various limiting factors in portfolio construction. One of the funds I created (the Goliath Fund) is limited to investing only in companies with a market cap of more than $10 billion. It’s worth noting that a full one-third of the Goliath Fund’s assets are now in the three aforementioned tech giants. Since I know next to nothing about tech, you might want to take the implied endorsements with a grain of salt.

Yesterday, Rick of Value Discipline mentioned two international stocks that got hit hard during the selling. One of the stocks he mentioned seems like a good choice to me. Aegon (AEG) is a cheap life insurance stock. You may want to check it out.

Visit The New Wall Street

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Visit Value Discipline

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