It’s hard to avoid a grudging respect for Jeff Fairburn, as the CEO of Persimmon defends his £100m bonus payment (it boils down to a Shylock-like: “I will have my bond”) rather than hiding until the press pack has picked another target. He’s worked jolly hard building houses, and the shareholders have their own windfall, after all.

Yet it’s not just the grotesque size of the payout that is off the scale. Persimmon, like all other housebuilders, has made profits beyond the dreams of avarice from George Osborne’s economically illiterate “Help to Buy” policy in 2013. Savaged here at the time as a demand side measure for a supply side problem, it has turned into “Help to Buy Yachts” for housebuilding executives. Not only was the construction risk greatly diminished but buyers using HtB are paying a premium. Essentially, these sales have doubled profit margins for housebuilders. Half of Persimmon’s houses are sold this way.

Now imagine that a similarly unforeseen policy change had had the opposite effect, causing margins, profits and capital gains from the shares to disappear. The remuneration consultants would be called in. The incentives would be “reset” to reflect the harsh new conditions and ensure that the executives once again found it worth while getting out of bed.

This is the essential hypocrisy of the bonus system. In this egregious case, it’s worth noting that of the largest Persimmon shareholders, only one (Axa) actually voted against the 2012 long-term incentive plan which is now worth hundreds of millions of pounds to the executives and managers. The likes of Allianz and Blackrock acquiesced, despite protests from the UK Shareholders Association.

Perhaps they were too busy to struggle through the detail (the 2016 annual report devotes 16 pages to remuneration). Alternatively, only too well aware of the complexity and generosity of their own rewards package, they feared to do anything which might put them in the spotlight. After all, they want their yachts alongside Mr Fairburn’s.

Actuary, we’re heading for the rocks

There is something slightly chilling in the drab prose from the government actuary. Rather than suggesting that we’re all doomed, Martin Lunnon reckons that a 5 per cent rise in the rate of National Insurance contributions would tackle the “lack of long-term sustainability” of the fund.

Five per cent! Not even the most militant Momentumist is proposing to stick 5p on income tax, and no politician would dare advocate it. Of course NI is not strictly a second income tax, since the elderly don’t pay it, but it is much more like a tax than its insurance policy label.

In fact, it never was insurance as generally understood. It might better be described as a national Ponzi scheme, since payments for today’s “insurance” go straight out in benefits to yesterday’s contributors. This worked fine when people dropped dead conveniently quickly after retiring, but increasing life expectancy threatens to overwhelm it.

Today, more than 90 per cent of the £90bn a year expenditure goes on paying the state pension, with its “triple lock” guaranteeing that pensioners get richer than those actually doing the work. You don’t need to be the government actuary to see that this is both unsustainable and unfair, but pensioners have votes and use them.

Mr Lunnon is only making long-term projections for one of the few areas of the economy where they have any value. Perhaps next time he might borrow Private Frazer’s phrase to get his message across.

U don’t need UNIDO

Peter Sutherland couldn’t find space in his last, lengthy Who’s Who entry to record his role as “goodwill ambassador” for the United Nations Industrial Development Organisation. He may have forgotten the hundreds of employees industrially developing away at their agreeable HQ in Vienna, but they remembered him, with a touching tribute on the website.

Once upon a time in The Spectator Christopher Fildes offered an Austrian schilling to anyone who could identify an industry which this taxpayer-funded boondoggle had developed. The money remains unclaimed. The US, Canada and Australia all decided years ago that they didn’t need UNIDO, and stopped paying the subs. Perhaps Mr Sutherland secretly agreed with them.

This is the original version of my FT column from last Saturday. Can you spot the difference?

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January is the cruellest month in retailing. With tills full from Christmas sales and stocks low, it is the classic moment for disgruntled lenders to strike. The internet earthquake is shaking the whole structure of shopping, and nowhere is the damage more obvious than at Debenhams.

This grand old dame has been financially abused once too often, usually by private equity, and her decline looks inexorable. With the shares at 38p before Christmas, this column noted that the business increasingly looked like another victim of the shrivelling high street. So it has proved, with a profit warning sending the shares down to 30p.

More seasonal casualties are inevitable, as it becomes painfully clear that there are simply too many shops for the age of Amazon and Asos. High street housing, anyone?

A barrage of criticism

Of the long list of vanity projects just asking for the government to pull the plug, none is quite such a money sink as the Swansea Bay barrage. Described as “eye-wateringly expensive” by one anonymous cabinet minister, its advocates are now reduced to claiming that if the scheme is scrapped, hundreds of jobs will go at the plants which would otherwise be making the turbines. This could be called the Blazing Saddles defence.

Greg Clark, the business secretary (still there, last week) has not exactly set commerce alight, but he has stood firm against this £1.3bn financial boondoggle. As with Hinkley Point, whose French builders are now suggesting that they build a second plant to exploit the ruinous lessons from the first, the barrage backers are reduced to ever more ingenious arguments to justify the cost. They claim they would learn so much at Swansea that the Welsh coastline could one day be ringed with cheap barrages.

It would be hard to make up an energy policy as far removed from logic as the UK’s, from subsidies that encourage waste and the rules which prevent the construction of cheap, flexible gas-fired stations at a time of world glut, to the ridiculous advertising campaign buying mostly blank pages in newspapers for so-called smart meters.

Both Hinkley Point and Swansea barrage would take the UK further away from the achievable long-term goal of cheap, reliable energy. Both are products of the mindset that the grid must supply whatever users demand, whenever they want it. With advancing battery technology and demand management which can immediately react to current pricing, the concept of the “base load” is already outdated. Both projects are eye-wateringly expensive ways to solve yesterday’s problem.

What would we do without them?

British non-execs are the finest in the world. This, roughly, is the view of Peter Breen, UK boss of Heidrick & Struggles, the business whose prosperity depends on putting them on boards. This is a great comfort to the worriers about corporate governance, but it was unfortunate that Mr Breen’s letter to the FT co-incided with “fat-cat Thursday“.

Research from the snappily-named Pensions and Lifetime Savings Association showed that it takes only three days (until Thursday this week) for the average FTSE 100 CEO to earn as much as a typical full-time employee does in a whole year. This might be less of a national concern were many of the CEOs not so, well, average. The non-execs seem to be as incapable of picking good leaders as they are at restraining the rewards of the rest.

In some instances, it’s hard to see what the non-execs actually do. At Carillion, for example, the embarrassing (in hindsight) 2016 annual report boasts a politically-correct “right balance” of gender and executives, but it was clearly a long way from the annual meeting in May to July,  between “largely unchanged” trading conditions and warning of looming catastrophe. Showing rather more agility than usual, the Financial Conduct Authority wants to know what happened inside Carillion in that short space between “everything’s fine” and “we’re close to bust”.

The answers should make interesting reading, but by the time we get them, the non-execs are likely to have gone, to help other executives with governance and remuneration. Perhaps they should retain Heidrick & Struggles.

This is my FT column from Saturday

 

I failed to publish this before Christmas. It appeared in the FT on Saturday 23 December.

A very happy Christmas and a thoroughly miserable New Year, from the European Commission. Its first present for 2018 is the Markets In Financial Instruments Directive II, and when unwrapped on January 3, it promises extra costs with an added helping of confusion all round. If proof were needed that the road to hell is paved with good intentions, Mifid II surely provides it.

The good intention here is in the sacred name of consumer protection. More of the myriad of hidden charges that financial services generate must be disclosed; providers must know what’s appropriate for their customers; and there must be a proper audit trail should things go wrong.

These fine principles have generated a monster running to thousands of pages, which has effectively destroyed any basis of trust an investor might have in an adviser. Rathbones, for example, is requesting its clients to fill in a six-page psychometric risk profile to be able to trade after next week, while the costs of compliance pushed stockbroker WH Ireland into a profits warning.

This is the one thing all can agree upon. The costs are going to be burdensome, and will outweigh any savings to the customers of Mifid’s other big change, the separation of dealing costs from research. In practice, it is proving so difficult to determine where research ends and dealing begins that almost all the big banks and investment houses are absorbing the research costs internally.

This is not altruism, and the consequence will surely be to end the long-run fall in share dealing costs. Still, do not be so sad and glum, there’s bound to be far worse to come. Next month yet more regulation kicks in alongside Mifid, with the Packaged Retail & Insurance-based Investment Products regulation, and its offspring, the Key Information Document.

Neither of these measures will make a material difference to investors’ understanding, and are as likely to confuse as to enlighten. They are the products of a Brussels machine which has no interest in understanding how markets work, and a mindset which is instinctively hostile to London as Europe’s supreme financial centre. The unholy trinity of Mifid, PRIIP and KID is a seasonal reminder of why so many of us voted to leave the European Union.

Oh goody, another income tax

The UK government has cleverly spun the changes to auto-enrolment which were announced this week. How marvellous that teenagers can now “get into the savings habit”! See how even the smallest pay packets can participate with a deduction from the employee! And look how the magic of compound interest will turn small sums into capital for a comfortable old age!

Auto-enrolment is the mechanism whereby every employee in the land goes into a pension scheme unless she specifically opts out at the start of her employment. Only pensioners and the self-employed escape. To avoid others jumping out, like the frog in the cooking pot, the heat is applied slowly. You may not miss 1 per cent of your take-home pay, but by April 2019 it will reach 5 per cent. Given the sluggish rate of wage growth, this implies a cut in take-home pay for millions.

By 2020, with the additional 3 per cent from the employer, these deductions will send £20bn a year boost into the investment industry. Much will find its way into “risk-free” government bonds, where at current rates, the “magic of compound interest” over 35 years turns today’s pound into just £1.80.

We now have three income taxes: the first, where the money is definitely gone; National Insurance, where something may come back eventually; and now auto-enrolment, where there will definitely be something back, however disappointing.

Lessons from the Governor

Mark Carney is having a rather good festive season. His unexpected intervention in the pantomine at the London Stock Exchange sealed the fate of its CEO (Is he coming back? Oh no he isn’t) and this week he signalled a post-Brexit welcome to European banks. He did rather spoil the effect by saying that if it was not reciprocated “there will be consequences.” Since the EU needs the City more than the other way round, he hardly needed to say it.

One of the great money-spinners of the banker’s trade is the initial public offering. This is where the art of constructing a plausible-looking prospectus, judicious teasers for the press and careful coaching of the top executives to appear before fund managers all come together, allowing the skilled and experienced operative to pitch the price of the IPO at just the right level for the shares to start life at a small premi9um.

The fact that history shows this is often so much hokey, as the stock either soars or bombs, is not the point. The point, of course, is the fees. Yet what’s this? Spotify, expected to be one of next year’s most exciting new issues, worth oh, zillions of dollars at least, is considering a direct listing. This innocuous-sounding phrase describes a process where a company decides that from a set date in the near future, its shares will trade on a recognised exchange.

No underwriting of the issue, no green shoe (don’t ask) and, possibly, no trade at all, if those wanting to buy can’t agree a price on the day with those wanting to sell. Worse still, no fees to all those experts who have taken the trouble to find out what Spotify actually does, and then laid on road shows, procured cornerstone shareholders, done due diligence and softened up the market.

Since there are already lots of holders of Spotify shares, it’s likely that a balance between buyers and sellers would quickly be found. Rather than all holders being dragooned into offering a slice into the IPO, each could decide what to do. Some of the larger holders might even agree not to sell for a period, or at least not below a certain price, but it’s obviously much more flexible than a conventional issue.

One problem for those poor old tracker funds, as Matt Levine points out, could be getting enough stock in a thin market, leading to wild swings in the price. Well, maybe. A pop stock like Spotify is likely to be volatile anyway, and the tracker tail has been increasingly wagging the market dog as these funds have grown. Do no harm if the dog bites back – except to those bankers’ bonuses.

On the carpet, again

It’s jolly unfair, but there is something faintly absurd about the travails of Carpetright, which floored us with its traditional profit warning this week. In the summer, Wilf Walsh, the CEO with the comic book hero name, complained that the son of founder Philip Harris was opening rival shops near Carpetright’s, while carefully avoiding the loss-making stores.

This was clearly very poor form, and made Mr Walsh’s job harder. This week we found out how much harder, with underlaying (sorry) profits more than halved in the first six months. It’s not just the carpets. Apparently Carpetright has had to “reposition” its beds, though we’re not told whether they were too hard or lumpy, or just too near the door. The carpet roll-out into Europe has not gone well, either.

Things have improved somewhat in recent weeks, after Carpetright went to the bank to finance tarting up the stores ahead of the key Boxing Day sales season. Much now depends on whether we will dash out after Christmas with sufficient urgency to replace our floorcoverings. If we do, Mr Walsh and his team can but hope we don’t all go next door.

 

Please don’t mention the RPI

It’s the inflation measure that dare not speak its name. Spurned by statisticians everywhere, not mentioned in the FT’s coverage of November’s ceiling-busting price stats, it’s the dinosoar that is the Retail Prices Index. We know that its poor methodology tends to amplify inflation, but it has the benefit of familiarity for something that is quite hard to measure accurately.

Besides, the RPI is still in widespread use for index-linked government securities, National Savings certificates and many pension schemes. Scroll down the inflation page of the Office for National Statistics far enough and you eventually find the RPI, along with the grumpy disclaimer “Not a national statistic”.  Measured this way, inflation last month was 3.9 per cent. Ouch.

This is my FT column from Saturday 

Babcock & Wilcox once made boilers, and not much money. Several reorganisations later, Babcock International manages complex engineering systems for the British Ministry of Defence, and the complexity seems to extend to its financial engineering, too.  Babcock has baffled the boffins at Morgan Stanley, who say “We lack conviction on the outlook for margin and returns given the rising capital intensity of the model” and “reported margins conceal a more volatile progression for the component parts, which also raises concerns over how profit recognition is decided.”

The comment follows RBC last month, which complained that “the group’s ability to guide the market has once again been shown to be questionable.” They are ever so polite, these analysts, yet despite Babcock reporting higher profits and a rise in the interim dividend last month, the price chart tells a brutal story. The shares have halved since the start of 2014, and the decline is accelerating. Babcock is now in the FTSE100 drop zone.

The problem for all these outsourcing companies is to work out how much money they are actually making from a contract – “revenue recognition” in the jargon. The margins on MoD work may look fat at the start, tempting the companies to book profits early, with the elevating impact on the share price and executive bonuses. The really expensive costs often do not emerge until years later. Bitter experience in this industry has taught investors that today’s declared profits are too frequently followed by tomorrow’s write-offs and re-statements.

For Babcock, the clue is in the description “complex engineering systems”. What could possibly go wrong? Morgan Stanley reckon the shares are very cheap, but can’t recommend a purchase until they see that there’s nothing nasty in the submarine pens. That “I am in difficulty” signal from the share price is too strong to ignore.

Still addicted after all these years

Can you name the FTSE100 company which has seen the biggest absolute increase in its market capitalisation since the turn of the century? You might have a better chance with naming the one which has destroyed the most wealth, by remembering that we were then at peak dot-com madness, so if you quessed BT, be grateful you don’t own them. Its market cap has shrunk by £70bn in 17 years.

The winner is BAT, by a country mile. Its value has risen by over £100bn since 2000, well ahead of HSBC (£75bn) SAB Miller (£70bn until it was taken over) and Diageo (£50bn). The worldwide oligopoly enjoyed by the big tobacco groups, coupled with confidence that no new players will enter the market, has overcome pressure from lobby groups to sell out of the stocks.

Something similar is as work in oil shares. Helped by its takeover of BG Group, Royal Dutch Shell shows the fifth-biggest increase in market value, again overcoming the selling pressure from those who argue that oil and tobacco are some sort of axis of evil. It seems we are still addicted to both.

Be careful what you wish for

Peter Burt claimed his ambition was to make banking dull. Bank of Scotland, where he was CEO, reflected that philosophy of unfussy competence. But confronted with what most of us considered a moment of madness when National Westminster Bank announced a takeover of Legal & General, he saw a once-in-a-lifetime chance for BoS to buy the much bigger bank.

He would have got away with it had his bigger neighbour not intervened. NatWest was effectively priced by what the suitors could pay, rather than what it was worth, and he was outgunned by Royal Bank of Scotland. As he put it at the time: “We offered icing on the cake, but Royal Bank put a cherry on the top.” His death last week aged 73 marks the passing of a fine, old-fashioned banker.

The deal he eventually did, to merge with Halifax, once Britain’s biggest building society, looked like a relationship on the rebound from disappointment. He was quickly sidelined by the non-bankers, and the merger sowed the seeds for the banking disaster that was HBoS. Having set out to make banking dull, he unwittingly made it  far too exciting.

This is my FT column from Saturday

 

Pricing a new issue is an art, not a science. However diligent your research, your eyeballing of the management or your search for listed comparators, others may take a different view (and trade on it) and markets are fickle, even without outside shocks.

What you must not do, as a potential buyer of a forthcoming issue, is talk to your competitors about it. So onto the naughty step this week went Artemis, Hargreave Hale, Newton and River & Mercantile, for conversations about flotations of smaller companies in 2014 and 2015. Those conversations, says the Financial Conduct Authority, might have pushed down the launch price, to the detriment of the sellers.

Indeed they might have. However, no degree of collusion, and no matter how due your diligence, can ever match the knowledge that the sellers have of the business. If they don’t like the price the potential buyers are offering, they can try and persuade them to improve it. In extremis, they can pull the issue and wear the cost in embarrassment.

In practice, the buyers are more often abused than the sellers, when “unexpected” events suddenly arrive a few months after a successful listing, and the share price plunges. Investors who refuse to consider buying any share that has been listed for less than a year will miss a few bargains, but will save themselves many more disappointments.

Besides, floating a company is not like selling your house. A listed share is a currency. Experience shows that an underpriced sale means better liquidity and more enthusiastic shareholders, while a flop can haunt the business and effectively close the market for further issues of new shares.

Should the FCA want a clear and present abuse to investigate, it should concentrate on today’s informal but rigid cartel over rights issue costs. The banks now demand a deep discount to a market price which is already established, plus underwriting for a risk which is vanishingly small. No collusion necessary.

No fairytale ending for these Debs

They are sentimental little sagas, told expensively over 30 seconds on a telly near you. Yes, it’s Christmas commercial time again, made to win awards for the ad agencies, who compete to see which of them can get away with the smallest mention of the store that’s footing the bill.

It’s fatal to show weakness in retail. If the customers sense desperation, they run for the exit, or to someone else’s website; hence the lavish commercials. These are now as traditional as, say, Black Friday, another US import which has done for store margins what the grey squirrel has done to the native British red.

The strongest store brands can probably stand this November nuttiness, but down among the also-rans, life is increasingly grim. Long ago, before the debt crisis, shares in Debenhams cost over £2. This week, after a pasting from brokers Redburn, they are 38p, and the business increasingly looks like another victim of the shrivelling high street.

Debs’ particular problem is its long leases at painful prices. Its stores are neither destination nor convenience, and in common with most of its traditional competitors, it looks flat-footed against the new generation of on-line fashion and beauty businesses. The result is thinner margins and squeezed cash flow, with a dividend that it can’t afford, as the 9 per cent yield indicates.

It’s not alone in its travails. Another stranded department store chain is House of Fraser, privately owned but whose publicly-quoted debt trades at a significant discount. The new world for these old battleships looks too small for both to survive. Debs has tried to cheer up with its Christmas ad, a Cinderella-themed love story. Unfortunately, its 21 per cent shareholder in the bulky shape of Mike Ashley just doesn’t seem cut out to play the role of Prince Charming.

Bitcoin? We don’t give a nickel

From Wikipedia: In September 1969, the mining company Poseidon discovered nickel at Windarra in Western Australia. As the news spread, the shares rose from $0.80 to $12.30 on October 1. After this, on very little further information [my italics] the price continued to climb. The shares peaked at $280 in February 1970, multiplying 350 times in five months, before collapsing. Bitcoin’s barely started…

This is my FT column from Saturday

Christopher Hohn is cross. Well, not so much cross as spitting tacks at Donald Brydon, the chairman of the London Stock Exchange. His latest letter, warning that Mr Brydon could be exposed personally to a claim for damages, and demanding that the governor of the Bank of England (no less) intervenes, reads like that first, furious draft which you’re grateful the next morning you didn’t send.

The LSE’s failure to respond to Sir Christopher’s attack has allowed a riot of speculation of just what Xavier Rolet could possibly have done. With the LSE observing radio silence, we try and work out why the man who last year was happy to step down from CEO if the planned merger with Deutsche Bourse completed, is now (apparently) being pushed out against his will.

Like so many previous failed bids for the LSE, that deal was described here as a bad ‘un even before the Brexit vote provided the perfect excuse to ditch it. The Deutsche CEO and putative boss of the combined group subsequently lost his job, while the LSE share price carried on upwards.

One remarkable feature of this boardroom bust-up is the lack of any significant impact on the share price, which remains within spitting distance of its September peak. Whatever else Sir Christopher has to complain about, the performance of his investment cannot be faulted – which is, of course, why he is so keen to see Mr Rolet remain, to carry on the good work.

His latest letter surely makes that impossible. The threat of personal legal action has brought a rash of former boardroom colleagues out in support of Mr Brydon, while the BoE governor might even prefer to resume his much-mocked forward guidance than intervene in this spat.

Sir Christopher will get his explanatory circular and special meeting of LSE shareholders, but there may be more heat than light in both. Other shareholders are likely to oppose any no confidence motion he proposes; finding enough allies to make a majority looks a very tall order.

This dispute has gone too far to blow over. After a face-saving period, both Mr Brydon and Mr Rolet will have to go, accompanied by the longer-serving LSE non-execs who failed to see this coming. Sir Christopher, meanwhile, should count the profits on his fund’s holding and hone his letter-writing skills, lest he need them again.

An ‘Arrowing tale

Debt collection is big business. Credit has never been easier to get, but the banks providing it are under pressure to clean up their balance sheets rather than pursue the defaulters. The result is an industry which delicately describes itself as purchasing and collecting non-performing loans, aka putting the bite on usually poor consumers.

Earlier this month Britain’s largest firm, Cabot Credit Management, almost went public at a suggested £1bn valuation, before the issue was pulled. Its US owners produced the routine excuse of “market conditions,” which looked more convincing than usual because investors are getting cold feet about the firms’ collection methods and the way profits are reported.

The business model depends on raising debt, buying the defaulters cheaply, and getting good rates of recovery. The cost of buying the defaulters has risen, while recovery rates fall quickly after the initial burst. An analysis of Arrow Global by Grant’s Observer concludes that its tangible equity is just £63m, compared with a market value of £700m at today’s 401p a share. An alternative methodology produces an even bleaker result.

Last month’s results from Arrow oozed optimism, and CEO Lee Rochford followed up by buying more shares, perhaps as a riposte to the short sellers. Like cleaning the drains, debt collection is an important service, but profitability depends on acquiring more and more non-performing loans which can be made to perform. It looks more like a treadmill than a sustainable business.

4000 holes in Blackburn, Lancashire

There are 900,000 English potholes, and fill-’em-in-Phil is throwing an extra £45m into them to reduce the damage to the nation’s suspension. Such attention to detail! His £50-a-go Pothole Fund does not extend to Wales or Scotland. Motorists crossing the soon-to-be-free Severn bridge should brace themselves for a bumpy ride.

 

This is my FT column from Saturday