Debt brings down venerable manufacturing firms, right on schedule - Eric Janszen

[Debt-freeTICer]

Re: apropos - a crappy blast from the past I came across again today

I think I follow you there.

My problem is that the value of any asset is derived from its income flow. So, for example, I buy a commercial property and pay off the debt, or I buy it for cash, or I buy three, sell one later and pay off the debt on the other two. Putting aside tax considerations, what you suggest will mean my income goes down dramatically as my tenants hit difficulties, but my money will be in a real asset not a pretend one (such as cash in the bank) and hopefully I live to fight another day. The risks are greater with the more highly leveraged strategy. I still think I'm missing something.

Is there a distinction between business and speculation as is commonly supposed? Doesn't business imply speculation.

I have questions in a similar vein. I own 4 commercial NNN leased properties, debt free. If my tenants remain strong and my cashflow continues, how will my investment depreciate? I purchased these one year ago on the strength of the new 10 year leases at 7.5% Cap rates. Two of the tenants are Family Dollar (up 14.5% today). These are all single tenant, new construction, corporate backed leases.

[rchdenton]

Re: apropos - a crappy blast from the past I came across again today

Yes, as Spartacus points out there are a number of issues.

One is my tool analogy for debt was flawed - I should have said debt is like a sword which may be useful, may cut you or may break in battle: or a circular saw which may be useful, cut you, or unexpectedly electrocute you.

The "realness" of an asset that Spartacus referred to is interesting and I suppose in a general way that is what itulip is principally about. In this world of smoke and mirrors when things are not as they were and may or may not still perform their intended function what the f do you actually do.

Recent commercial real estate deals here, including my last one, were done for 100% equity. Basically if a building appears to represent some sort of value there are a lot of people who would rather have their money in a physical asset than a virtual one, despite government bank guarantees.

Personally I'm still trying to make sense of the issue of realness, so any help would be most welcome.

[Spartacus]

Re: apropos - a crappy blast from the past I came across again today

Too soon to tell. I think you made good moves (I am NOT a great businessman, so my pats on the back are worth the electrons they're printed on ...).

Everyone today would tell you that being debt free and not relying on lines of credit (subject to arbitrary denial) for continuing operations was a good idea.

if there is some kind of general debt forgiveness you made a mistake ... you "should have" loaded up on the leverage. But if you had loaded up on debt and the debt crushed you BEFORE the debt forgiveness comes about, you again made a mistake.

Again, it does look like you made a good move. In the current climate a debt cancellation / amnesty is extremely unlikely. The banksters have spent the last who knows how many generations turning non-payment of crushing debt into an unforgiveable sin, where in ancient times the lenders /usurers were the sinners.

Even if your assets decline in nominal value, It's possible you will be in a position soon, using that as collateral, to get credit at extremely favorable rates, if the FED & government convince the banks to start lending again at the current low, low rates.

I have questions in a similar vein. I own 4 commercial NNN leased properties, debt free. If my tenants remain strong and my cashflow continues, how will my investment depreciate? I purchased these one year ago on the strength of the new 10 year leases at 7.5% Cap rates. Two of the tenants are Family Dollar (up 14.5% today). These are all single tenant, new construction, corporate backed leases.

[Sharky]

Re: Debt brings down venerable manufacturing firms, right on schedule - Eric Janszen

It seems to me that looking at wealth as dollars tends to confuse people very easily. Wealth is not dollars; wealth is the net inward flow of purchasing power. Look at the stereotypical lottery winner -- they have a bunch of money dropped in their lap, and after a few years of living it up, they're right back to where they used to be. That's not wealth.

A key insight here is that the source of wealth is production -- you can't spend your way to wealth, because the dollars are flowing away. You can't use debt by itself to become wealthy, because with interest, again the dollars flow away. Unproductive asset appreciation, by itself, is also not wealth. Since there is no production, there is no dollar flow. Of course you can sell an asset after it's appreciated, but the act of selling is fundamentally different than holding and waiting for appreciation.

Another important aspect of true producers is that they have wide leeway in setting the prices of whatever they sell. In particular, they're able to increase prices as fast or faster than inflation. This excludes most hourly workers, since they don't have that ability.

I like the concept of "moving up the food chain." To me, what that means is owning producers. BTW, Socialists understand this, which is why ownership of central sources of production plays such an important part in their strategy. Whoever owns the sources of production in a country controls its true wealth; by setting prices and policies appropriately, whatever money that might be held by others will flow to them.

What does it mean for you and I to own a source of production? It means identifying those industries that are at the foundation of the global economy. Farms, mines that produce key materials (like iron or copper, not gold), and energy sources are examples of bottom-tier production. I think the trick is to identify businesses with a solid-enough position, including a lack of significant government controls, that their long-term cash flow can be treated almost like a bond, independent of fluctuations in currencies, interest rates, inflation, etc.

A simple-minded thought experiment might be useful. Imagine an economy with one completely self-sufficient farm and lots of buildings, businesses, land and other assets. Given enough time, no competition, no intervention, and the will to do so, the farmer will end up owning everything in the town. Everyone has to eat; he is the only source of food. He can increase prices as much as he wants; all money will flow to him, regardless of how much people borrow, inflate or otherwise tweak the money supply. The same can't said for lawyers, doctors, accountants, commercial property owners, etc. If they raise their prices beyond a certain level, their customers can find another way or do without.

Regarding the discussion on commercial real estate, the question I would ask is: do the current tenants have other options (your competition)? Can they trim-down or do without entirely? Can you raise your rents to keep pace with or exceed the rate of inflation? How isolated are you from changes in the economy or interest rates? Are you producing anything?

One of the aspects of deflation that I don't hear discussed much is that it facilitates massive transfers of wealth. Where inflation transfers wealth from net savers to net debtors, deflation does the reverse. But whereas loans used to purchase appreciating assets are the mechanism of choice during inflation, buying income-producing assets at the artificially-low prices that come about after the collapse of a debt bubble is the mechanism on the other side. And of course from the above discussion, buying sources of real production at those low prices would be one way to truly "move up the food chain."

[GRG55]

Re: Debt brings down venerable manufacturing firms, right on schedule - Eric Janszen

Whilst this is largely true we are more diversified than that. Construction is an industry that can get turned off for a while, which is why the govt are keen on road building and such like to keep the productive capacity and to provide employment. 5% of exports in recent months has been oil of all things and 15% of our electricity is exported as aluminium. I live in Nelson so seafood is a big regional export earner, as are forestry and apples from time to time.

As Wayne Lochore observed, there are worse places to be than a country of 4 million with food for 55, and it is still sunny.

Since I discovered New Zealand apples a few years back at a Waitrose store in London, UK, I go out of my way to try to find them. Not only the now ubiquitous Braeburn, but especially the Cox Orange Pippin which one could find in season in the UK, but requires a lot of effort to source here in western Canada.

[rchdenton]

Re: Debt brings down venerable manufacturing firms, right on schedule - Eric Janszen

Since I discovered New Zealand apples a few years back at a Waitrose store in London, UK, I go out of my way to try to find them. Not only the now ubiquitous Braeburn, but especially the Cox Orange Pippin which one could find in season in the UK, but requires a lot of effort to source here in western Canada.

Couldn't agree more. Cox's orange pippin is the apple that started it all here and for me its flavour has never been surpassed. Sadly the apple industry is dependent on constantly finding new varieties that look good in supermarkets and keep well. To my mind they are hardly worth eating and I have to be very careful what I say when chatting to apple growers here. They have a particularly hard time financially and only the those who are very competent and have very deep pockets survive. Every 10 years or so they make a fortune and then are back in survival mode.

[rchdenton]

Re: Debt brings down venerable manufacturing firms, right on schedule - Eric Janszen

It seems to me that looking at wealth as dollars tends to confuse people very easily. Wealth is not dollars; wealth is the net inward flow of purchasing power.

A key insight here is that the source of wealth is production -- you can't spend your way to wealth, because the dollars are flowing away.


I like the concept of "moving up the food chain." To me, what that means is owning producers. BTW, Socialists understand this, which is why ownership of central sources of production plays such an important part in their strategy. Whoever owns the sources of production in a country controls its true wealth; by setting prices and policies appropriately, whatever money that might be held by others will flow to them.

What does it mean for you and I to own a source of production? It means identifying those industries that are at the foundation of the global economy. Farms, mines that produce key materials (like iron or copper, not gold), and energy sources are examples of bottom-tier production. I think the trick is to identify businesses with a solid-enough position, including a lack of significant government controls, that their long-term cash flow can be treated almost like a bond, independent of fluctuations in currencies, interest rates, inflation, etc.


One of the aspects of deflation that I don't hear discussed much is that it facilitates massive transfers of wealth. Where inflation transfers wealth from net savers to net debtors, deflation does the reverse. But whereas loans used to purchase appreciating assets are the mechanism of choice during inflation, buying income-producing assets at the artificially-low prices that come about after the collapse of a debt bubble is the mechanism on the other side. And of course from the above discussion, buying sources of real production at those low prices would be one way to truly "move up the food chain."

Thank you for that very well reasoned post. Yes, ownership of the means of production sounds good and your point about buying assets that bring an inflow of purchasing power is spot on. In practise I find it a little harder to apply. The trick is presumably to buy counter cyclically.

Commodity businesses seem to have a massive boom and bust cycle, very profitable for a year, then in survival mode for the next 5 to 10 years.

Most manufacturing and distribution businesses are profitable post recession as they are in a supply shortage due to the destruction of productive capacity in the recession. That's also why NZ and the US did so well post WW2.

When supply starts to exceed demand, as we are currently seeing in the car industry, manufacturing is a very dangerous place to be. Haemorrhage of cash occurs. Each item of useless inventory has to be paid for and it is essential to get the place shut down immediately. Obviously this is awful for your employees. You have fixed cost to cover (if debt is present you are dead) and your products and assets are unsaleable. The fixed costs are in proportion to your highest level of production achieved and have to be reduced dramatically. Desperate times. There is no profit margin on what you make as your competitor's inventory is being liquidated.

If you survive, and the odds are against you, then profitability can eventually be rebuilt and the production facility slowly expanded as the cycle repeats.

Obviously I'm missing something here as I'm not seeing the opportunities.

Am I looking for the right thing or the wrong thing; in the right place or the wrong place; at the right time or the wrong time? Only one out of the six possibilities works - right thing, right place, right time. Are there other variables?

[Sharky]

Re: Debt brings down venerable manufacturing firms, right on schedule - Eric Janszen

Obviously I'm missing something here as I'm not seeing the opportunities.

It seems to me that "conventional" investment wisdom is broken in many ways, which fuels confusion in this area. Rather than seeking continuous asset appreciation or income, for example, I think the opportunities during recession / disinflation / deflation are more along the lines of strategic acquisition and positioning. Acquire high-quality productive assets that are well-positioned to prosper during the upcoming recovery / boom. My thinking is similar to Kondratieff in the high-level sense of buy/sell timing, but with a focus on productive assets rather than generic "stocks," etc. Part of the logic here has to do with relative safety in uncertain times; in the new investment environment of today, risk mitigation is more important than total return.

BTW, I didn't mean to imply that all productive assets are good investments. All the usual guidelines in that area still apply.

Maybe an example would help. I've been following Pike River Coal (NZX:PRC). They have a government-granted monopoly to mine high-quality metallurgical (coking) coal from an area on the west coast of NZ. They went public a while back at NZ$1/sh, then peaked around $2.50/sh last July, and they're now back at $1 again -- but now the new 2.3 km mine has reached the coal seam, and they've started to pull coal out of the mine, so risk is much less than it was when the company first went public, and yet the price is the same. They have stated their intention to pay an annual dividend based on their profits. Even though the price of coal might drop due to declining demand for steel, the supply of coal is dropping at the same time, so the company is well-positioned for the economy's recovery phase. Coal prices, which are set annually, tripled when they were negotiated last year, due to supply issues.

So here's a company with good management, with a solid productive asset, a commitment to pay dividends based on profits, the ability to raise prices to match or exceed inflation, that is supplying something for which there aren't any decent alternatives, into a global market, with the local protection of a government-granted monopoly. The main uncertainty is the price they can get for their product, and my claim for bottom-of-the-pyramid producers like this, is that they will do well regardless of the broad economic picture, because their product has a limited supply and plays an important role in many up-stream manufacturing processes. The end result of a properly-timed investment should be both significant capital appreciation and income along the way -- fed by real earnings and real production, rather than bubbles and speculation.

[Chris Coles]

Re: Debt brings down venerable manufacturing firms, right on schedule - Eric Janszen

It seems to me that "conventional" investment wisdom is broken in many ways, which fuels confusion in this area. Rather than seeking continuous asset appreciation or income, for example, I think the opportunities during recession / disinflation / deflation are more along the lines of strategic acquisition and positioning. Acquire high-quality productive assets that are well-positioned to prosper during the upcoming recovery / boom. My thinking is similar to Kondratieff in the high-level sense of buy/sell timing, but with a focus on productive assets rather than generic "stocks," etc. Part of the logic here has to do with relative safety in uncertain times; in the new investment environment of today, risk mitigation is more important than total return.

BTW, I didn't mean to imply that all productive assets are good investments. All the usual guidelines in that area still apply.

Maybe an example would help. I've been following Pike River Coal (NZX:PRC). They have a government-granted monopoly to mine high-quality metallurgical (coking) coal from an area on the west coast of NZ. They went public a while back at NZ$1/sh, then peaked around $2.50/sh last July, and they're now back at $1 again -- but now the new 2.3 km mine has reached the coal seam, and they've started to pull coal out of the mine, so risk is much less than it was when the company first went public, and yet the price is the same. They have stated their intention to pay an annual dividend based on their profits. Even though the price of coal might drop due to declining demand for steel, the supply of coal is dropping at the same time, so the company is well-positioned for the economy's recovery phase. Coal prices, which are set annually, tripled when they were negotiated last year, due to supply issues.

So here's a company with good management, with a solid productive asset, a commitment to pay dividends based on profits, the ability to raise prices to match or exceed inflation, that is supplying something for which there aren't any decent alternatives, into a global market, with the local protection of a government-granted monopoly. The main uncertainty is the price they can get for their product, and my claim for bottom-of-the-pyramid producers like this, is that they will do well regardless of the broad economic picture, because their product has a limited supply and plays an important role in many up-stream manufacturing processes. The end result of a properly-timed investment should be both significant capital appreciation and income along the way -- fed by real earnings and real production, rather than bubbles and speculation.

Another long term success story is publishing. Have any of you heard any negative news about any of the major publishing houses?

In truth, I discovered publishing by pure chance. I was challenged to write a book and then discovered the book was unpublishable due to the controversial nature of the subject, gravity. But in the follow up process of self publishing which of itself was completely unsuccessful, I discovered why publishing has fundamentals that make it very attractive for the long term.

The design of the product can be completed on a home computer with zero overhead and the finished design is a simple PDF file you can carry around in your pocket. The strength of the copyright, protected by international law, means you do not have to spend a penny on defence of your IP held in that simple PDF file. It is a CRIMINAL offence to infringe copyright.

Book manufacture is an international and VERY competitive business. You can get a fine paperback copy of your PDF file produced for not very many pennies when purchased in bulk from a wide variety of book printers and you are not restricted to local production, you can transfer the PDF file to anywhere in an instant for reproduction anywhere.

Transport is always a very competitive business.

Yes, there is one wrinkle if you start small. Book distribution is not competitive when you try and distribute books below a certain volume of sales, but turns in the opposite direction when the volume exceeds a certain value. In essence you need to aim at more than 100,000 book sales per annum.

If you look at the very large success stories, they branch out into theme parks where they enjoy the ability to sell their own production direct to the punters with no intervening distribution beyond their internal costs. And if they are really astute, they will also create their own range of "support products" to also sell alongside the books.

Needless to say, I own a very small publishing company.

[GRG55]

Re: apropos - a crappy blast from the past I came across again today

Too soon to tell. I think you made good moves (I am NOT a great businessman, so my pats on the back are worth the electrons they're printed on ...).

Everyone today would tell you that being debt free and not relying on lines of credit (subject to arbitrary denial) for continuing operations was a good idea.

if there is some kind of general debt forgiveness you made a mistake ... you "should have" loaded up on the leverage. But if you had loaded up on debt and the debt crushed you BEFORE the debt forgiveness comes about, you again made a mistake.

Again, it does look like you made a good move. In the current climate a debt cancellation / amnesty is extremely unlikely. The banksters have spent the last who knows how many generations turning non-payment of crushing debt into an unforgiveable sin, where in ancient times the lenders /usurers were the sinners.

Even if your assets decline in nominal value, It's possible you will be in a position soon, using that as collateral, to get credit at extremely favorable rates, if the FED & government convince the banks to start lending again at the current low, low rates.

At this point in time it would appear imprudent to be carrying debt of any significance. The banking system is so desperate to shore up its balance sheet that it is calling the loans of otherwise solvent going-concern companies, and in many cases putting them out of business. We even have the perverse situation that the banks would rather be exposed to lower quality credits that now have a government guarantee than higher quality credits without.

As for debt forgiveness or "low, low rates"...I doubt either is in the cards for businesses in any quantity, anywhere. Credit availability is shrinking [while more and more desperate governments try to jawbone their banks into lending more of the taxpayer dollars they are piling up in their reserves accounts], and the real cost of credit is rising.

[Chris Coles]

Re: apropos - a crappy blast from the past I came across again today

At this point in time it would appear imprudent to be carrying debt of any significance. The banking system is so desperate to shore up its balance sheet that it is calling the loans of otherwise solvent going-concern companies, and in many cases putting them out of business. We even have the perverse situation that the banks would rather be exposed to lower quality credits that now have a government guarantee than higher quality credits without.

As for debt forgiveness or "low, low rates"...I doubt either is in the cards for businesses in any quantity, anywhere. Credit availability is shrinking [while more and more desperate governments try to jawbone their banks into lending more of the taxpayer dollars they are piling up in their reserves accounts], and the real cost of credit is rising.

I very well remember back in ~1992 a major UK High Street bank was reputed to be paying its staff bonus for any funds it could repatriate and I can easily relate to the same thing happening all over again. The money given by government permits the banks to use that as pseudo income so they have even less reason to lend. Oh!, Sure! They will wave their collective hands about and make all sorts of noises; but the whole system has collapsed under a mountain of lending....

But what really concerns me is that no one in the FIRE economy knows anything about the role of capital, having treated borrowings as capital for some decades now and thus there is no sign of anyone recognising the potential for re-introducing capital as the only recognised mechanism for creating long term financial stability in any business.

This is classic. Until there is a complete collapse, no one will admit that it is not working. Once it has collapsed, we can start with new leadership as the old will be completely discredited.

[Spartacus]

Re: apropos - a crappy blast from the past I came across again today

As for debt forgiveness or "low, low rates"...I doubt either is in the cards for businesses in any quantity, anywhere. Credit availability is shrinking [while more and more desperate governments try to jawbone their banks into lending more of the taxpayer dollars they are piling up in their reserves accounts], and the real cost of credit is rising.

like I wrote, the outright cancellation is extremely unlikely. Inflationary cancellation is much more likely ... it's what Bernanke is trying to do right now.

The low rates, though ... somebody is borrowing right now at near zero ... the US Treasury. And the FED is lending near zero too.

If the government really wanted, they could force lending.

If (and it is a really big if) they get their act together, IMHO there will be a lot of low-rate lending.

[Debt-freeTICer]

Re: apropos - a crappy blast from the past I came across again today

I very well remember back in ~1992 a major UK High Street bank was reputed to be paying its staff bonus for any funds it could repatriate and I can easily relate to the same thing happening all over again. The money given by government permits the banks to use that as pseudo income so they have even less reason to lend. Oh!, Sure! They will wave their collective hands about and make all sorts of noises; but the whole system has collapsed under a mountain of lending....

But what really concerns me is that no one in the FIRE economy knows anything about the role of capital, having treated borrowings as capital for some decades now and thus there is no sign of anyone recognising the potential for re-introducing capital as the only recognised mechanism for creating long term financial stability in any business.

This is classic. Until there is a complete collapse, no one will admit that it is not working. Once it has collapsed, we can start with new leadership as the old will be completely discredited.

Bravo Chris! You have made a very important statement which needs to heralded from the housetops, "Borrowings are not capital". It may warrant it's own thread. Savings provide capital. Home equity as ATM is not capital. I feel this is one of the major problems for both personal and business crisis now.

After the collapse, what do you see as the new leadership and the new system?

[D-Mack]

Re: Debt brings down venerable manufacturing firms, right on schedule - Eric Janszen

Waterford's German unit files for insolvency
Fri Jan 9, 2009 12:09pm EST

LONDON, Jan 9 (Reuters) - German porcelain maker Rosenthal, a subsidiary of Irish china maker Waterford Wedgwood (WTF_u.I), said on Friday it had filed for the opening of insolvency proceedings.

Waterford Wedgwood called in receivers on Monday and placed two of Britain's most venerable china makers, Josiah Wedgwood & Sons Ltd and Royal Doulton Ltd, into administration, a form of creditor protection.

Rosenthal was initially exempt from those proceedings.

"Despite intensive efforts of the Board of Directors of Rosenthal AG and the involved parties, a sale of Rosenthal AG as a whole outside an insolvency proceeding could not be completed," Rosenthal said in a statement.