Wednesday, January 14, 2009

Werewolves of Wall Street: Why Capitalism Collapsed

I saw a werewolf drinking a pina colada at Trader Vic’s
His hair was perfect.


—Warren Zevon, Werewolves of London

I saw a werewolf at an investor conference recently. His hair was perfect.

He’s the CEO of what is now a fairly large company thanks to a dozen or two acquisitions he and his CFO engineered over the years when their company was a Wall Street Darling and the Dynamic Due could do no wrong.

Having recently done wrong—at least, in the eyes of Wall Street—he seemed like a different guy than during the glory days.

Oh, he had the bling of all High-Flying CEOs: the perfect hair, the pin-striped suit, great tie and French cuffs. But what he didn’t have was the body language. He sat at the head of the table, rigid, dour, with his arms crossed, like a linebacker ready to block somebody’s head off.

All around him sat his team, including the loyal CFO with whom he had rolled up an industry and created what had once been a perpetual motion machine of deal, higher stock price, deal, and higher stock price, etc....

But those days are over, and our CEO had the look of an unhappy man, a man under great stress.

The reason was not hard to find: he had announced his final Big One, the type of deal CEOs call “transformative” when they mean “really super expensive,” just a couple of months before the credit markets collapsed.

And it is obvious, in hindsight, that he paid way too much. And we’re not talking millions too much. We’re talking many many millions too much.

So here was, seated sat at a conference table ready to take questions in a room crowded with anxious shareholders who had bought the dream only to see it turn into a nightmare.

The first question from the disillusioned crowd was, as it always seems to be, about earnings guidance and whether the company had changed its mind about “the number.” A reasonable question, in light of, you know, like, the economic collapse going on outside the window at the end of the room—but not really the issue here.

The real issue is this: Mr. Werewolf here made a deal for the wrong price at the wrong time, and he knows it and we know it and the waiter clearing glasses at the end of the room probably knows it too, but nobody wants to come right out and say it, least of all Mr. Werewolf.

So Mr. Werewolf says there’s no change to the earnings—the number is staying the same. It could be higher, it could be lower, he adds stiffly, before glowering at the audience. “Not that the stock price reflects the earnings number anyway.”


The man who piled, literally, billions of dollars of debt onto his shareholders’ backs at precisely the wrong time is castigating the audience for penalizing his company’s stock price!

A hand goes up: “So why not buy your stock back?”

Mr. Werewolf responds—he’s ready for this: “You mean personally? I’ve been buying it back when the window opens.”

The hand stays up: “No, I mean the company. If you really believe the share price is too low relative to the earnings, shouldn’t the company buy it back?”

The background to the question, as everybody in the room knows, is that Mr. Werewolf and his CFO used to buy stock back with abandon during the glory days, at far higher prices than the current Too-Low-Price, in order to satisfy all the Return-Value-To-Shareholder types now waiting for the answer.

Mr. Werewolf responds by rote, straight out of the current Credit-Crisis Manual of Capital Preservation: “We’re using our excess cash flow to pay down debt. That’s the right thing to do.”

The hand stays up: “But isn’t that irrational? If your share price is too low, shouldn’t you be buying back the stock and keeping the debt outstanding? Isn’t paying down debt exactly the opposite of what you should do?”

Mr. Werewolf looks at Mr. Rational like he wants to say something about how Mr. Rational should you-know-what-and-die. The CFO crains his neck to see who, exactly, is asking such a question.

Mr. Werewolf finally answers, slowly, “It’s the right thing to do.”

The implication behind the words and the CFO's neck-craining is clear: Mr. Rational should shut up with the question about buying stock. Mr. Rational shuts up.

Now, to quote that great philosopher, Robert Plant, it made me wonder.

And what it made me wonder was this: why is it that CEOs take offense at good questions?

Why is it that a shareholder or an analyst or even that lowliest of low-lifes, the short-seller, is made to feel like a pariah for merely asking a good, rational question in public?

And I wondered if this wasn’t why capitalism crashed: CEOs who make boneheaded decisions taking offense at being asked about the consequences of those boneheaded decisions in front of other human beings.

And not merely taking offense for their own insecure reasons, but being encouraged to take offense by all the hangers-on—the investment bankers and the brokers and the mutual fund managers—who benefitted in the short-run from those boneheaded decisions, even though in the long run they were nothing but boneheaded decisions.

After all, if a CEO can live the dream during the good times—wallowing in the Attaboys and the bonuses and the private jets and the closing dinners that came with every deal they made—why can’t CEOs sit down at a table and take the hit during the bad times?

How will boneheaded behavior ever change if it is not questioned, examined, argued and debated in public?

Further good questions from Mr. Rational discouraged, I left the room, humming Warren Zevon to myself:

You better stay away from him, he’ll rip your lungs out, Jim.
Huh, I’d like to meet his tailor.
Aaaahoo, werewolves of London!

—Warren Zevon, Werewolves of London

Jeff Matthews
I Am Not Making This Up

© 2008 NotMakingThisUp, LLC

The content contained in this blog represents the opinions of Mr. Matthews.
Mr. Matthews also acts as an advisor and clients advised by Mr. Matthews may hold either long or short positions in securities of various companies discussed in the blog based upon Mr. Matthews’ recommendations. This commentary in no way constitutes investment advice. It should never be relied on in making an investment decision, ever. Nor are these comments meant to be a solicitation of business in any way: such inquiries will not be responded to. This content is intended solely for the entertainment of the reader, and the author.


Dan E said...

Great post, Jeff. Great song choice, too.
How does this kind of crap continue to happen? Stupidity? Greed?
Is it possible there's no voice of reason at such companies? Or maybe the voice is just drowned out or ignored.

Anonymous said...

Ah Jeff, you know why!

The folks in charge *have* to drink the Kool-Aid- or they will never rise to the level of their incompetence. This is what happens when the folks in charge happen to arrive their from popularity contests.

The bottom line should always be the question, and if the moron in charge wants glory instead of profits, well, let him use his money.

You could be talking about any number of companies these days.

I call it the glory of the huge headquarters. University of Phoenix and Strayer come to mind- huge new headquarters.

Google too.

I don't go to work with the expectation of perks, and guess what, as a government employee I get nothing- I pay for my own dang water delivery in the storeroom! Free lunch, you must be joking, they feed us a stale bagel every quarter and say- good job!

Business always looks at government and complains about efficiency. Wait until the tarped toads get their GSA payscale.

Folks may hate Warren Buffet, but the bottom line tells the tale, and all that luxury was paid out of profits, profits that should have gone to the shareholders.

The funny part is that Wall Street played that game with total exuberance too. I could recreate any Wall Street firm here in Phoenix for ONE TENTH the cost in Manhattan. The future will not be made in New York- it will be simply too expensive.

That will be the future, cheap, well run financial and other firms *delivering* the goods.


Alexander Rosteck said...

Jeff, in your estimation, is it even feasible for a CEO to come out and tell the "truth" in a situation like this? Let's assume in this situation that a) management knows they overpaid for the acquisition; and b) a plurality of analysts and investors knows it too.

Is it reasonable to want the CEO to say something like "It's no secret that the acquisition price for XYZ we agreed to before the financial crisis erupted would have not been arrived at today. Nevertheless we feel XYZ will contribute to our organization's operational strength and (etc.)" I would love to see more candor from company executives, but I wonder how rational and justified their fear of admitting misjudgment might be.

Ken said...

This is why the Romans, when giving a triumph (procession) to honor a citizen, had someone stand behind the man and, while the rest of the crowd cheered, whisper into his ear, "You, too, are mortal."

Bruce said...


If you're going to quote Warren Zevon these days, I think you're almost obligated to include in the boilerplate:

Send lawyers, guns and money.
The s**t has hit the fan.

Heaven knows, I can't escape that little ditty running around in my head.

Anonymous said...

The culture of asking good and common sense questions has given way to sound bites, and, pre-spun messaging. The trouble is, that the masses have succumbed to being led by pre-spun messages and have stopped thinking for themselves in this world of continuous partial attention.

Anonymous said...


Do you still think Fred Hickey is an idiot on his RIMM call?

Where is it now?

Anonymous said...

When I am not being taped or recorded by thousands and a bunch of litigation attorneys arent chasing around. I am very free with my mistakes, however when I am at a board meeting to my shareholders, I guess if my management stewardship is so poor I think I might be sued, then my candor is zero. Of course Warren Buffet says oh yeah we messed up we should of could of etc. Why no legal action? maybe because he tells ithow it is- lol

SiamTwin said...

if the system were working properly and the board of directors were doing their job right, that CEO should be out on his ass.

Jeff Matthews said...

#1 Please keep the message-board lingo out of these comments.

#2 The point about shareholder lawsuits is valid, theoretically, except that the reason Buffett doesn't get sued for mistakes is that he freely admits them, in public, and lets any shareholder who wants to ask about those mistakes stand up at the annual meeting and do so. Lawsuits generally get filed when those who believe they've been wronged get fed up with no response to their complaints.

#3 As far as Fred Hickey goes, RIMM right now is about $30 points above the $17 price it traded at when he first made his RIMM short call several years ago. His favorite tech long at that time, the perennial underachiever 3Com, has not done nearly so well. But, hey, that's what makes markets.


Anonymous said...

jeff, ten years ago or so i sold my successful little company to one of these masters of the universe who was rolling up our industry along with his cfo for about $8 million of recently gone public stock....well it didn't take me toolong to realize these guys were basically crooks....luckily i had some really good lawyers and wa sable to fight and get my stock unrestricted so i could sell it before these guys went on a buying spree that eventually caused the house of cards they were building to collapse.....ever since i have realized that the whole wall street machine is basically run to sell the papaer securities generated by hucksters like these guys to unsuspecting little losers like you and me...and so i have basically been managing cash since and have not lost any money in this current downturn....i am guessing the market will collapse to basically a private market value of about 2 times real free cash flow which is alot lower....god help us all if this is what our economy is based regards, jim

Anonymous said...

brilliant minds do not cover all bases and that is what occurs as they cover their mistakes.Superegos are brilliant but cannot be questioned.Steve Jobs is brilliant but has always run it all answering to no person and now it is hard to say we are all mortals.He has brilliant backups but they are not the super smooth salesperson.Jerry Yang was brilliant but could not cope with time for a change.Sumner Redstone is a shadow of His old self but cannot admit it ,not the way he ever has done things asking others-never.Many other names can be dropped as losing their touch or time warp at the stock holders expense.

Anonymous said...

Why do you not name the company ?

Sivaram Velauthapillai said...

A big chunk of the fault lies with shareholders. It's amazing that very few are pointing this out. Who were the ones that, not only were egging on the executives to follow these strategies, but also reward the executives? Who was profitting from all these dubious deals? In many cases shareholders have to vote for the deals so shareholders approved many of the deals.

The current crisis in capitalism--yes it is a crisis of capitalism--is partly caused by the shareholders/owners who were profitting from all this. As long as people keep blaming the executives, government, regulators, and others, while ignoring the greed in the owners of these businesses, nothing good is going to come out of this.

The Epicurean Dealmaker said...

Jeff -- Most CEOs are doers, not thinkers. They have the strength of their own convictions, and the energy and ambition to try to realize them. When the stars are aligned behind them, and they have the reins, they tend to be very successful and make their many backers and investors very happy.

However, when the worm turns, most of these quite-limited individuals cannot handle the new environment, and they flail and fail and get enraged at both their critics and the universe in general, because what they do know how to do doesn't work anymore. Expecting self-reflection, or even a change of strategy, from such people is like asking a fish to fly: they are simply incapable of it.

That is why our system needs people like you and Warren Buffett to make the capital allocation decisions. You decide which companies to back, and when. And, if a company or management team is not up to the challenge, you can simply walk away. It is not the most efficient way to allocate capital in an economy, and it can get pretty messy--as your story indicates--but it is pretty robust overall.

harrier6 said...

Capitalism didn't collapse. A group of people decided that they could repackage and sell debt without oversight or ethics. Some other people were willing to buy the lies. A debt market is not capitalism. Thanks for the post. Keep them coming.

Tom said...

Honesty? Are you insane?

First of all, a company that admits its mistakes will be *crucified* by the stock market, and the shareholders would have every right to crucify the boss for needlessly destroying the stock (even further) for the sake of his own peace of mind. They're not paying for the CEO's honesty, they're paying for the CEO to say what's necessary (short of outright fraud) to keep the stock upright.

Look, all of capitalism is a confidence game - one that has made us incredibly wealthy.


The president goes on air and points out that these little green pieces of paper are only worth something because people think they're worth something and guess what? They aren't worth anything more, and one person has destroyed the greatest economy on the planet.

What's next? The general who helpfully points out to the troops that there's a significant chance of their side losing and they'll die?

No, if we weren't (almost) all kool-aid drinkers in the end, we'd still be living in caves.