The Investor

Boies Will Be Boies

And, in the stock market, suckers will still be suckers.

By 5.1.03

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I am right so infrequently that you'll have to excuse me for rubbing it in.

Last September, star-crossed conglomerate Tyco International was rallying in the stock market on the hope that sending off its prior management in chains and replacing it with a blue-ribbon group would make shareholders rich. I told you then such optimism was wildly premature ("The Greatest Fool," September 19, 2002). If no one could figure out the company's prior results (and the company had gigantic debts imminently due and the very few transactions that we could understand cost the company enormous sums), what basis could there be for concluding the company was undervalued?

Tyco retained David Boies to conduct an investigation of past management and results. Boies had no ties to the old management, nor did anyone who hired him. The New York Times estimated that Boies's investigation cost $40 million, and involved more than 15,000 lawyer hours and more than 50,000 accountant hours. It found no widespread fraud, but did find $382 million in prior earnings generated by accounting tricks.

But that was back in December 2002. In March, the new management announced that it found an additional $265 million in bad old business. Obviously, they weren't paying Boies enough, or it is not as easy as it seems to find a nine-figure fraud. The stock fell from $14 to $12, but at least the other shoe dropped and the new, honest management of Tyco could get to the business of turning the company into the juggernaut the old management fraudulently told us it was. The stock started rising again in the March/April bull market.

I think it's time for Boies to find another client, or for Tyco International to grow a beard and go on a book tour. Tyco is admitting that it found another $1.2 billion in profits that it will have to reverse. The stock actually rose slightly on the news. Was this finally "the other shoe" for Tyco? What if Tyco is a spider? Or a centipede?

ImClone's latest problems suggest the same punch-drunk attitude by investors. The CEO and Chairman both resigned this week while the government investigates whether the company failed to pay taxes on stock options awarded executives over the years. The previous CEO is on his way to the slammer. The company can't file its 2002 fourth-quarter report. It has yet to schedule its 2003 annual meeting. The NASD has initiated delisting procedures. And they have no CEO or Chairman.

The stock lost all of thirty cents in the market after these announcements. The editor of an investor newsletter on med-tech issues said, "As far as Erbitux [ImClone's sole product, an unapproved cancer drug] goes, this announcement doesn't matter. The entire value of the company is tied up in Erbitux." (If the company can succeed without a Chairman or CEO, it makes you wonder what the Waksals did to merit all those stock options.)

Don Carty's last act at AMR didn't exactly demonstrate that corporate leaders had become any more responsible. Carty masterfully negotiated an unprecedented series of union concessions designed to keep AMR out of bankruptcy court. He had to resign, however, when the inclusion of management retention bonuses and certain management pension provisions were discovered by the unions. The board of directors didn't run for cover because of Carty's pocket-lining; the board sacked him because of the bad publicity and foul atmosphere. The grab would have been okay if he had disclosed it better (or kept it from being discovered at all).

Didn't anybody learn anything in the last three years? How can a company convince shareholders and employees that its management is responsible when it asks workers to give up bargained-for benefits while giving itself more benefits? How could a company conceivably be undervalued if the most highly motivated, most highly paid experts on the planet can't figure out its books? How can a company with no CEO or Chairman and no means of financial reporting bring its sole product to market?

THESE ARE NOT ISOLATED episodes. The whole market has been partying like it's 1999. Market watchers are cheering on the bull market because most companies are beating earnings expectations. No one questions whether those companies were merely skillful at lowering expectations, or what relevance "the earnings number" has to real corporate performance. Besides, saying that things are better now than they were last year is hardly a cause for celebration.

The end of the combat in Iraq, along with the beginning of the baseball season and a slew of new reality-TV shows, has put the investment community in a jolly mood. Before we race out to chase that upgraded stock market, let's make sure we aren't racing to the barber or, worse, the slaughterhouse. I have my doubts.

I agree that better economic times are on the way. The end of the war will definitely put people and businesses in a spending mood. The drop in oil prices will also give the economy a shot in the arm. Finally, a bounce of some kind is inevitable after several bad years; three years of belt-tightening and cost-cutting require that inventories and capital assets be replenished, at least somewhat.

George W. Bush is not going to take this economy and these financial markets any further. A successful military campaign can do only so much, and this one won't get any better from the viewpoint of the financial markets. Bush's economic stimulus plan, never very good to start with, is going to end up resulting in a lot more grandstanding and chest-thumping than actual economic change. And Bush's heart just isn't in this economy thing.

We need some clear signs of corporate improvement, things that can't be manufactured by cost-cutting or year-over-year comparisons or one-time gains and losses or managing expectations. We haven't gotten that yet. The Dow Industrials are at 8480, the Nasdaq is at 1464, the S&P 500 is at 916. Without some real bellwether companies stepping forward and saying, "Wow, business is going gangbusters," those levels will be lower at the beginning of June and at the beginning of July.

Of course, maybe I'm just letting this one instance of being correct go to my head. It's not often I outsmart anyone, especially David Boies.

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About the Author

Michael Craig is a writer in Scottsdale, Arizona.