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» Kessler interview » Presidential branding » Death care business

Kessler interview

KAREN GIBBS: The times, as Bob Dylan sang, they are a' changing. We've gone from the agricultural to the industrial age and now some say we're in the imagination age, with ideas generated in the U.S. running the world's economy. Successful investors need to "follow the money," finding the new germinators that will become tomorrow's high margin companies.

Andy Kessler made his mark on Wall Street by discovering hidden value in seemingly negative trends, first as a successful hedge fund manager and now as an astute observer of investment trends in technology and communications. He joins us now to debunk some of the "gloom and doom" theories that have many wringing their hands.

Andy, good to see you. Thanks for joining us.

ANDY KESSLER: Thank you.

GIBBS: The United States used to be known for manufacturing things that we export. Now we're known for the ideas we generate. What happened to the industrial revolution?

KESSLER: The industrial revolution is dead. Long live the industrial revolution. It started back in 1775. It's about time that it's over, at least in the United States. We no longer make stuff. We design stuff, which is fantastic, and based on that, the world economy works on U.S. intellectual property, on our chips, on our architectures, on our software, on our databases, on our drugs, on our movies and the like. And to figure out how it works, you've got to figure out how money flows around the world. And what I've figured out, that for the U.S. to increase our standard of living, we need to buy BMWs, tote Toshiba laptops and watch big aspect Sony TVs.

GIBBS: Is that a good thing then to be owning BMWs?

KESSLER: Well, not only are we owning BMWs, you've got to buy them to start the money flowing, but more importantly, we need to own high margin stocks. So let's look at that Toshiba laptop, right? Microsoft ships out $100 operating system of which they keep $99.99. Intel ships out a $200 microprocessor of which they keep about $180. NVIDIA ships out a graphics chip. It goes over to Japan and China and elsewhere. Toshiba puts some plastic around it, they ship it back to us for $1,000. So we export $300, we import $1,000.

There's a $700 deficit for every single PC. So what happens to the money? What happens to the money when you go buy a BMW? Well, Toshiba doesn't make much money. Neither do auto manufacturers. Those are very low margin businesses. And so all that money that goes out, that difference of $700, comes back in the U.S. and invests in our stock market. And guess which companies it invests in? In those high margin companies.

Dollars chase returns, and those are the companies with the returns. So for the ownership society, I'd like, not only myself, but everyone in this country to own those shares that the dollars are coming back and investing in. And that's where investors should be focusing on their returns.

GIBBS: Where do you see the opportunities now in high margin companies?

» Kessler advice: 09/17/04 outtakes

KESSLER: You've got to find areas of growth. I ran a hedge fund for a lot of years with a partner, and that's all that we did as we tried to figure out what the next areas of growth were, and not because they were already growing, but we looked for barriers, something where it wasn't growing because there were barriers. So we found the whole bandwidth explosion. It wasn't an explosion then. It was just sort of sitting there stagnant, but we said, gee, if bandwidth gets cheap enough, all sorts of new applications are going to open up, and you'll get these big markets.

The same thing happened with chips. When chips got cheap enough, we got PCs, we got cell phones, we got digital cameras and the like. And I think investors can do the same thing, and it doesn't just have to be in high tech. It could be in retail areas where there is some barrier to growth. When that barrier's broken, you'll see a waterfall. What's another great example is the telephone companies. You know, they are stuck charging us $20, $30 a month for plain old telephone service. It turns out that it costs no more than a penny a month to provide that service. How do I know that? Because you can do that with these new Voice Over IP phones and chips and services, and those guys can offer that stuff for practically nothing.

If you do a PC to PC connection between here and India, for example, it doesn't cost anything more than your Internet connection. But there's this barrier, and I think what's going to happen over the next five years is technology hits that barrier, goes around it, squeezes the phone companies, and then they collapse like all dinosaurs do over time.

GIBBS: Andy, outsourcing is a really big issue to a lot of people here, investors and workers alike. And a lot of people are thinking it is just the manufacturing jobs that are being lost, but 400,000 IT jobs, information technology jobs, have been lost in the past three years. Isn't that a sign of some of our ideas going away?

KESSLER: I'm not so sure that 400,000 jobs were outsourced. I think, you know, there were a lot of jobs lost when the Internet bubble burst. Whoever worked at pets.com, they lost their job. But clearly it's not just manufacturing that's being outsourced, but some low level intellectual jobs are as well. But that's okay. If someone is going to do a job cheap designing, writing some low end code or designing some small parts of a chip, that's okay. It's even okay if they design all of the chip if it fits into a bigger system.

So as long as the intellectual property is owned by the U.S. company and the shareholders here are benefiting, then outsourcing is a trend that's going to go on for a long period of time. And quite frankly I think that's great, because I don't mind helping a middle class grow in poor countries because they're the ones that are going to buy our Starbucks lattes and our software going forward, and we've got to put money in their hands. I think outsourcing is a great trend, not one that we should be scared from.

GIBBS: So it's one that investors should be looking at, peeling apart that negative trend and seeing how they can benefit from it.

KESSLER: Exactly.

GIBBS: You've spent a lot of time looking at sectors and companies that may be poised to explode. Can you share some of those sectors and themes with us?

KESSLER: Sure. So we mentioned the Voice Over IP. That's very interesting. I think the whole wireless data business, the ability to get wireless information to our phones and our PDAs and the like, and it's not just going to be e-mails. It's increasingly going to be, you know, not just the voice calls but video.

I think there is a whole area where technology and the medical industry intersect. There's a whole bio-pharma revolution that's taking place where we can create personalized medicine by crunching numbers on our PCs or all our neighbors' PCs. And so there are these interesting areas where again there's barriers to all those things, because wireless spectrum is not freely available. It's owned by cellular companies. And we know the barriers in the medical industry because of all the regulations and the insurance industry because of the regulations.

But those are the kind of areas that you've got to sniff around today, and if you can find some investments and have a decent of enough view, a long-term view -- it doesn't have to be 20 years, I wouldn't go more than five or so years -- you can be buying companies today and get them ahead of that curve up. And when I ran a hedge fund, that's exactly what we did. You sit there 24-7 just dreaming out what is the world going to look like? You've got to write the headlines before they appear in the newspaper.

GIBBS: You make it sound easy, but if it were, all of us would be able to do that. What is the tool that a serious investor could use to ascertain the trends that are coming up 20 years from now?

KESSLER: Yeah, it's not easy at all, and the only tool you have is your imagination. You've got to use your head. You've got to sit there and just outthink everyone else, because if not, you might as well just buy an index fund and be mediocre like everyone else. I hate index funds. You know, I think they're the worst thing for investors, because if you just spend a little time every day -- I'm not saying you've got to spend half your day looking for investments -- but just a little time reading, not just, you know, the daily newspapers, but interesting magazines and Web sites that are looking out into the future and finding new trends, and then think out what is this going to look like? What happens when 100 gigabyte hard drives cost 10 bucks? Well, you know, years ago we never thought that hard drives would get cheap, and now we carry them around in our little iPods, and you can buy an iPod for $300, and everybody has them.

GIBBS: Andy Kessler, thanks for joining us.

KESSLER: Thank you.

Presidential branding

GEOFF COLVIN: If John Kerry were a car, what kind would he be? It does sound like a joke, but in this case it isn't. We've long known that a presidential campaign is consumer marketing at its most intense, and now marketing experts have announced research into what kind of brands George Bush and John Kerry seem to be. When it comes to cars, for example, undecided voters, the ones both campaigns covet most, associate Bush with Ford and Kerry with BMW, which is a bit inconvenient, since that company isn't American. On the other hand, among retailers they associate Bush with Kmart, which was in bankruptcy for a year, and Kerry with Target, which has been trouncing Kmart.

When it's morning in America, they think of Bush as Dunkin Donuts coffee and Kerry as Starbucks.

And when it's evening, they think of Bush as Bud Light and Samuel Adams beer, even though Bush doesn't drink and Samuel Adams is from Kerry's hometown of Boston, while Kerry is Heineken, like BMW an upscale brand that happens to be foreign.

Mike Berland is a partner at Penn Schoen and Berland, which conducted the research along with Landor Associates, a brand consulting firm.

Mike, first off, what does it tell you that undecided voters associate Bush with Ford, Dunkin Donuts, Bud Light, Kerry with BMW, Starbucks and Heineken?

MIKE BERLAND: Well, it tells you that they associate Bush with mainstay brands, with brands that have been around, brands that people have relied on for year after year, and they associate Kerry with premium brands, challenger brands, brands that have come in to sort of challenge the mainstay American brands and have made some progress, have attracted some voters, but really aren't established yet.

COLVIN: Well, and so who is that good for more?

BERLAND: Well, I think at this point, and given the times we're at, it's probably good for Bush. I mean right now the prevailing sentiment is uncertainty, and Americans are looking for comfort, they're looking for stability. So we go back to the mainstay brands and we sort of tend to stay away from the challenger brands.

COLVIN: You've worked for a lot of big companies selling products. You've also worked in some political campaigns on both sides, for both parties. Is this consumer marketing? Is this like selling soap?

BERLAND: Unfortunately, or fortunately, it is. I mean it really has become marketing at its most sophisticated with segmentation, with targeting to understand that the images and the messages that really will persuade voters to actually vote for the candidate and to find comfort in the candidates.

COLVIN: So this gives us a new way to look at all those campaign ads that we see on TV. Let's take a look first at a Bush ad and then you tell us please what brand attributes they're trying to sell us.

(video clip begins)

PRESIDENT BUSH: One of the most important parts of a reform agenda is to encourage people to own something, own their own home, own their own business, own their own health care plan, or own a piece of their retirement.

(video clip ends)

COLVIN: Okay, what's going on in that ad?

BERLAND: That is George Bush at his best. That is George Bush I am one of you, I understand you, and I'm going to make your life better. That is George Bush, compassionate conservatism, really what his message has been for the past four years.

COLVIN: Let's take a look now at a recent Kerry ad.

(video clip begins)

JOHN KERRY: It's time for a President who understands that a stronger America begins at home. It's time to stop rewarding companies for shipping jobs overseas, get health care costs under control, and to end America's dependence on Mid-East oil. The fundamental choice in this election is between a President who will fight for the middle class and a President who sides with the special interests in this country.

(video clip ends)

COLVIN: Okay, how does that ad do in conveying the crucial brand attributes for Kerry?

BERLAND: Well, I think it addresses one of Kerry's weaknesses, which is he might be out of touch. If his negative is that he's a liberal Massachusetts senator, affluent and he's out of touch with middle class America, this really gives voters a reason to believe that he does understand them, that he will fight for them. The issue is there's no proof that he's done that, and for voters in a time when they're looking for a reason to choose a candidate, he needs more substantiation, and that's really I think one of the issues that he's facing, is yes, he's a reason to change, but change to what and what is the proof that he's going to fight? So he's getting his message out there, but I'm not sure that it's credible.

» Presidential branding: Full report (PDF reader needed)

COLVIN: John Kerry's been in public life for over 30 years now, George Bush for close to 20. How much can a few commercials shape people's perceptions of these guys?

BERLAND: Quite a bit actually. Finding the right message that resonates, I mean we all can look at classic ads that resonate with voters and they remember for years and years. Even Mondale in a failed campaign, we all remember where's the beef.

COLVIN: Where's the beef, that's right.

BERLAND: You know, we remember Ronald Reagan in the debates, there you go again. What is that equivalent going to be for John Kerry to really give something to voters to hold on to?

COLVIN: Now there was some famous research into brands by the Young & Rubicam ad agency that found the most important factors in brand power were differentiation and relevance. By those criteria, how do these two brands rate?

BERLAND: Well, I think that for Bush the differentiation is clear. He's the incumbent President. Again, we're in times of uncertainty, and he's provided comfort. So I think it works quite well. And relevancy, again, compassion and conservatism, that's really what he's been about. For Kerry, the differentiation is not as clear, and because he's trying to go on issues which may or may not be important to the individual voters, it's a little harder to get the differentiation, and therefore you lose the relevancy.

COLVIN: We are looking here at the largest marketing campaign of the year. Is it bigger than Coke or Pepsi or McDonald's or anything?

BERLAND: We're looking at 400 million plus, and spent in six months. So not only is it a large campaign, but it's a concentrated campaign. And you're only seeing the surface. You're only seeing the paid TV advertisements. How about the get out the vote efforts? How about what's going on in the field operations, the fund raising? This is a massive marketing campaign.

COLVIN: So if you look at this as the expert consumer marketer that you are, who do you think has the larger market share on November 2?

BERLAND: Well, market share and winning the Presidential election, as Al Gore found out, are very different.

COLVIN: True.

BERLAND: Unlike a corporation where market share is the ultimate success metric, in Presidential politics, you can win the popular and lose the electoral. At this point, I think we're seeing George Bush, who's winning the market share race. State by state, it's still up for grabs. If I were George Bush, I would start to target state by state, and we're seeing Pennsylvania, Ohio, Michigan, Florida, Missouri, all of those states are in play, and right now they're starting to lean towards Bush, but there's still time on the clock.

COLVIN: Mike Berland, thanks for your insight.

BERLAND: Thank you very much.

Death care business

COLVIN: It's easy to see why there have been movies and best-selling books about the selling of presidential candidates -- a bit harder to understand the public's recent fascination with a very different business -- funerals. Six Feet Under is a hit series on HBO, and A&E now has Family Plots, a reality series about a funeral home. But what's the reality of the funeral home business? Many of these companies are now large and publicly traded, so Wall $treet Week with Fortune contributor Michael Farr looked into one of them from an investor's perspective. He visited Melvin Payne, CEO of Carriage Services, a company in what they now call "the death care industry."

MICHAEL FARR: Tell us about your business and your industry. Is this a good business?

MELVIN PAYNE: It's a fabulous business. It's a personal service business, and you not only can do a lot of good, you can make a difference in people's lives.

FARR: I remember reading reports 10 years ago when your industry was in the peak of its consolidation phase, and analysts were studying things, kind of distasteful things like flu seasons and the affects of hurricanes and natural disaster. Do you all still look at those numbers? Are they important to you, and how?

PAYNE: Absolutely. This industry has been very seasonal, which might surprise a lot of people. The December through February months traditionally have been the most deaths because of the flu season. In the last four or five years, that has changed with vaccinations and so on. It's become less of a seasonality, especially in the flu season because we don't have the acute flu seasons that we used to. Keep your fingers crossed that it will stay that way. The summer months and the early fall months have always been the low part of the seasonality, and that's how we try to forecast our business.

FARR: The industry really has been struggling a lot in the past few years. What do you attribute that sort of struggle to?

» Death care: Payne outtakes

PAYNE: Wall Street fell in love with this sector, and death care became a growth industry because of the consolidation. The story was, you know, 80 percent of the industry is un-consolidated, so there's a lot of growth. A lot of money came into the industry, a lot of acquisitions were made, all the companies got over-leveraged, bought places they shouldn't have bought, and then the capital markets shut off when everybody was too leveraged.

FARR: Its one thing if I have a McDonald's and I want to try and attract more people into my McDonald's. Maybe I can cut the cost of milkshakes or something. How do you attract more people into using your funeral parlor?

PAYNE: The way you do that is not complicated, most people think, they don't think of this as a business. When they talk to me they say, you know, your business must be good. People always die. That's a myth. It's like any other business. It's how you treat your customers. If you don't treat them right, they'll go to someone else. The trick is to create an experience at the time of the funeral that lasts beyond the funeral. If you don't, you haven't created something of high value. It becomes more of a commodity. It has to be a meaningful experience. The casket is more of a commodity, and my suppliers are not going to like me saying this, but it is.

FARR: Costco is selling caskets now, $800, $900 you can …

PAYNE: It won't work.

FARR: What do I do? I've always wondered, what am I supposed to do if I go to Costco, and now I have my $900 casket…

PAYNE: Good luck. Put it in your garage and wait.

FARR: And wait.

PAYNE: I don't think that will work. We've had these things happen before. Now the industry, I will tell you, it's the service side of this business Costco can't compete with, and that's the value. It's not the casket. A lot of people see value in the casket, but it's really the service side. It's a personal service business. It is a business, and the personal service side of this can make a huge difference.

FARR: I understand that, and I get it and I understand how the process of the funeral has to be something personalized and expressive and why that would be good for healing. What I don't get is the connection between buying the $9,000 casket or the $1,200 casket.

PAYNE: What kind of car do you drive?

FARR: I drive a BMW.

PAYNE: Right. Well, why didn't you get one that could get you from A to B at a lot less price?

FARR: I like it.

PAYNE: Right. Same with caskets. People like it. They like the look…

FARR: It's going to be a little shorter drive with this casket.

PAYNE: But I'm just telling you, it's a personal preference. And whoever said they don't want one that looks better, has a higher quality, it's a personal preference. If they wanted to buy a cheap one, it's available. They choose not to, just like you choose to buy a BMW.

And of course some people actually choose to get buried in their car, but that's a separate case entirely. Michael, as an investment, you looked a the whole funeral industry -- forgive me, the death care industry.

FARR: Death care industry, yes.

COLVIN: And you did focus on this company, Carriage Services, as the best looking. How come?

FARR: As I looked at all of the other companies, they really had leveraged up significantly over the past five years. Debt is enormously high and debt service is a real problem. Cash flow is tight in the death care industry. Cremations are much more profitable in this business. It's cheaper, there are better margins, but that's not really good if you have cash flow problems. If you have big piles of debt that you have to pay interest on, a smaller top line, smaller revenues don't really help you all that much. So this company, I like Carriage Services because of the management, and I like Carriage Services because they're growing their earnings and de-levering pretty quickly.

COLVIN: Is there a demographic play in this? I mean we saw Bill Clinton have his bypass surgery. He's the leading edge of the baby boomers. America's getting old, right?

FARR: America is getting old, and gosh this is a creepy story. It was creepy to be in that funeral home and the casket room, but it's strange to think that demographics could support death care. That percent of the population over 50 is growing twice as fast right now as the rest of the population. The average baby boomer, which is the largest part of the U.S. population, will start to turn 65 in the year 2011. I remember somebody trying to get me to invest in a company that made candles on the thesis that you light them on fire, they go away, burn them, and then you have to go buy more. Here we go. Everybody's going to need it.

COLVIN: Right. Everybody is going to need it. Now this CEO referred to what happened in the industry in the '90s. Some people might not understand it. It's what they call a roll-up, right? Or a lot of roll-ups. This was a Mom & Pop industry, and suddenly all those thousands of funeral homes got bought up by big corporations.

FARR: A lot of them were bought up, with the idea that if I go into a small sort of metropolitan area and can buy five funeral homes around town, I can get economies of scale when I go order all of my supplies and caskets and cars and so forth. And that made sense, but they became way too centralized for what really are rather local businesses, and they ran into trouble. Still 80 percent of this particular business industry is still pretty much local Mom & Pop individually owned and operated companies.

COLVIN: Well, does that mean it would be fair to say, and forgive me, that the roll-up trend is moribund?

FARR: The roll-up trend for the time being is certainly hearing the knell, hearing the bell toll.

COLVIN: Michael Farr, thanks so much.

FARR: Thank you.