William Dunk's 2002 Annual Report On Annual Reports

Long on Words; Short on Ideas:
Krispy Has Right Recipe

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In the 1970s, pop psychologists unveiled for us a New American Woman who wanted her man “to be strong but vulnerable.” Thirty years later, she has been granted her wish in spades. A reading of the 2001 Annual Reports discovers America’s chief executives busily cataloguing the endless strengths of their companies, but feeling very, very vulnerable. 

Almost all of America’s giant companies give ritual testimony about their strong sinews and let us know that they’ll be awash in profits when the economy comes back. GE brags about its “diverse set of #1 franchises in global markets,” “its business initiatives such as digitization,” and a “strong balance sheet to capitalize on change and opportunity.” Bill Esrey of Sprint tells how good it all is in a Q&A entitled “Executing from a Position of Strength.” AFLAC says, “We are proud of our accomplishments,” which “points to the underlying strength of our business.” In all 3 instances, of course, revenues were off from 2000. 

With revenues flat or declining across the industrial spectrum, with the World Trade Center attack, and with the meltdown and scandal at Enron, business leaders had and have plenty to feel shaky about. In one way or another, the media barons were most straightforward about communicating their anxiety. Dow Jones, we think, had the most effective annual report cover of the year – a picture of the Wall Street Journal on a doorstep with the words “September 11” knocked out of the center. The same picture with “September 12” comes on the next page. This journalistic event put Dow to the test, especially since its offices are next to the World Trade Center. Chairman Peter Kann, a bit restrained, owns up that Dow labored on “in the face of extraordinary challenges.” 

We liked even better Tony Ridder’s comment on Knight Ridder’s 2001. “From an advertising revenue standpoint, the year began ominously and then, in a nationwide/industrywide phenomenon, quickly deteriorated.” Which is to say 2001 started poorly – and went downhill from there. 

In both cases, one senses a little less bravado than one finds in the other reports, a greater willingness to admit how tough times have tested their organizations. 

At one level or another, nonetheless, uneven financial results and the Enron debacle have evinced a broad response from American business. The president’s letters and the financial footnotes have gotten much longer, with the crown for persiflage, we understand, going to the Williams Companies which apparently turned out 1,234 pages, according to the New York Times. Companies are jamming enough into their letters to excuse mediocre performance – a common practice in tough times. The smart analysts say, “When the writing gets long, watch out.”

But they’re also cramming much more into their footnotes – to keep the SEC off their backs and to keep faith with investors. GE has laid out more operating detail, particularly about financial services where it makes the biggest chunk of its profits, though it is still scanty on acquisitions which have also had a lot to do with its performance, and on its accounting methods which would determine its quality of  earnings. Likewise, IBM is providing a bit more this year, its disclosure practices previously questioned by the SEC.

It is a much smaller company, however, that has set the pace in showing how to respond to the kind of questions that are raised in the wake of Enron. Krispy Kreme of Winston-Salem, North Carolina attracted unfavorable comments last year because it contemplated using “synthetic leases” in financing a new facility. Quickly enough, though, it jettisoned this financing option.

As Chairman Scott Livengood said in Krispy Kreme’s Annual Report: “In the current economic climate, investors are understandably paying closer attention to the financial strength of companies and the way they conduct business. We have taken the position that there is no reason for us to do anything that could be misinterpreted, regardless of how legal and acceptable it may be.” 

In the report, Livengood goes on to detail how he has changed other practices and improved governance – once again not to remedy wrongs, but to remove any appearance of impropriety. 

And he goes yet a step further. His letter is the only epistle we have found this year that is totally dedicated to the subject of values. “Having a set of both brand values and internal cultural values, which is clearly expressed and widely communicated, has been and remains a key priority.” Then he goes on to talk about brand values, company values, etc. A letter that deals with values – and shows those values in action – is probably the most creative response a company can bring to a country taxed by the events of September 11 and the demise of Enron.  

When we talked with Chairman Livengood, he made a direct connection between his focus on values and Krispy Kreme’s global thrust. “We are becoming more and more of a global company. As part of that effort we must make sure we are transparent about our governance, our values, and our aspirations to all our constituencies.” 

If Scott Livengood got it right in 2002, we suspect Peter Munk got it wrong. In telling us why he thinks Barrick Gold has done well, Munk, the chairman, opines “we’re a business first” and “a mining company second.” Livengood thinks he heads a donut company with values. Good companies are communities and values first, businesses second.  

Probably the Sage of Omaha, Warren Buffett, should own some Krispy Kreme, because he prides himself on hiring managers with a sense of values and berates those who build their own net worths at the expense of shareowners and employees. Trouble is he doesn’t buy small companies unless he can gobble up the whole company. In this year’s Berkshire Hathaway report, he tells of a gorgeous blond who offers to do anything for a CEO, and he says, “Reprice my options.” Buffett has no time for the options boys, nor for any self-dealing executives.  

He has a lot more than unethical executives on his mind. His letter tells us he has not really cut it for the last few years:

Though our corporate performance was satisfactory, my performance was anything but. I manage most of Berkshire’s equity portfolio, and my results were poor, just as they have been for several years. Of even more importance, I allowed General Re to take on business without a safeguard I knew was important, and on September 11th, this error caught up with us.

 He obsesses about General Re, rather than his investment results, on which we will comment later. 

At General Re, in a word, he took too much risk. If you want to read the self-flagellating detail, then go to pages 7-9 of his report where the Sage fesses up to all his mistakes. 

As we predicted in our report last year, “risk management” is becoming the primary theme of reports and of business thinking for years to come. The Sage demonstrates this emphatically as well he might, because Berkshire Hathaway is essentially an insurance company with a large portfolio of investments, where risk evaluation lies at the heart of the business. The trouble, however, with focusing on risk is that you never seem to anticipate the big risk that really counts. Moreover, with this risk-paranoid frame of mind, you concentrate on not taking risks and fixing mistakes, rather than seizing big opportunities. The risk-averse have a hard time growing, particularly in bad times, preferring instead to shrink behind their barricades. 

Maybe, just maybe, Mr. Buffett’s investment problems are greater than the General Re snafu on which he shines the spotlight. Maybe he avoids his biggest problem. As he says, “We made few changes in our portfolio during 2001. As a group, our larger holdings have performed poorly in the last few years, some because of disappointing operating results.... We do not believe Berkshire’s equity holdings as a group are undervalued.” 

In fact, his equity investments may decline further in price. A few years back the Sage became enamored of big brand names – such as Gillette and Coca-Cola – which looked at the time like annuities. But the brands were probably over the hill, with both Gillette and Coca-Cola taking lots of knocks since he bought into them. 

Gillette is an interesting case in point, as well as being broadly symbolic of what transpired in American business last year. Its turnaround CEO – James M. Kilts – “stabilized the business” last year. In the simplest language, he generated cash by eliminating products and squeezing suppliers. He used the cash (a) to hold market share through marketing expenditures and (b) to improve the bottom line by taking out about $80 million worth of interest expense which accounts for most of the increase in profits from continuing operations. Mr. Kilts is a fast study and is much to be congratulated for these vital repairs. But they are only a patch. 

This cash-at-any-cost strategy was, incidentally, the story of American business last year. It did not do that much about the top or bottom lines, but did something about getting its cash flow in order. Chief executives lowered our expectations about performance while raising all the cash they could. Through some close shaving, Mr. Kilts has half put Gillette to rights. But it’s still a complex company – of toothbrushes, razors, and batteries – and we’re not sure if it’s halfway up or halfway down the mountain. Mr. Kilts says he’s dumped “unrealistic objectives,” but we are only to hope his new realism and lower targets still includes some very big goals. He still has to show us some 10-15% growth. 

A host of other over-extended companies began to get their piggy banks filled as well. Lucent “improved cash flow by nearly $2 billion, from a negative $2.2 billion to a negative $280 million.” Hasbro “reduced debt net of cash by $300 million” as part of its goal of “becoming a smaller but more profitable company.” All around, companies are getting liquid by doing some liquidating. 

This paring down is evident in the pinched annual reports companies are producing. We’re getting many, many more 10-k wraps in the mail (10-ks plus a cover and a president’s letter) from the likes of Sprint, Lucent, John Deere, etc. Oracle proudly says its shareholder annual report is online and that it’s out of the paper business. We used to say that the poverty look is a dangerous business for companies and that a 10-k report does not say you are thrifty, but simply says you have pneumonia. 

In at least one case that’s true. Conseco put a brown band around its modest report saying: “A traditional annual report will not be produced this year. That may be unusual, but so was the year 2000 for Conseco.” Things are still pretty shaky for the struggling Conseco headed by ex-GE Capital boss Gary Wendt. Many other 10-k reports came from companies in straitened circumstances. 

Net, net. Lots of companies, as we’ve said, have long letters (for excuses) and long footnotes (for the SEC) but are short of inspiration (10-k wraps).  

Not everybody has thrown in the towel in their reports, whatever their trauma. Dr. Robert J. Shillman of Cognex Corporation dresses up as a rapper, adding a little life to his “10-k rap,” a 10-k combined with an abbreviated version of his usual fun report. So, he says, “we’re the undisputed champ of machine vision, the badest of the bad, knockin’ out the competition.”  It’s hard to see how any old capital equipment depression is ever ever going to knock out Dr. Bob. While our annual report readers’ panel thought that his report’s geek humor was a little far-fetched, it, nonetheless, welcomed his effort to do something different in an age of defensive, bland, and think-alike annual reports.  

More to the panel’s liking was “The Art of the Meal,” Jack-in-the-Box’s 2001 report. Doing knock-offs of famous paintings by famous artists, Jack-in-the-Box sticks a logo, hamburger, shake, on every painting – all to say that this young company has become a revered, valuable brand with an ever-growing franchise and market presence. The report says Jack-in-the-Box may appear anywhere, even in the company of paintings. Like Dr. Bob, Jack-in-the-Box says it is so innovative it cannot be stopped. In some of these smaller, feisty companies, one detects a cocksureness lacking in their bigger brothers – a certainty that the best is still ahead. 

Not small, not really large, The Washington Post also continues to do innovative reports that suggest that it is advancing its strategic agenda more than its cash flow. This midcap is still growing despite the exigencies of the newspaper industry, and it is clear that the company has a next act. As in previous years, the report includes interesting essays (something we recommend to every company, incidentally). This year Warren Buffett praises Katherine Graham’s management career, while Ben Bradlee tells how Washington Post Company journalists tackled September 11 and the ensuing battles against terrorism.  

More interesting to investors are Donald Graham’s remarks about Kaplan Education. “Kaplan fell just short of $500 million in revenue in 2001 and became the company’s second-largest business in revenues after The Washington Post.” “Kaplan has been our fastest-growing business for ten years and should be again in 2002. It is changing the face of our company. Before long, it’s likely to become our largest division....” 

The Washington Post Company can talk confidently about growth. And it meets one of the two strategic imperatives investors should now be looking for when staking out long-term investments. Companies need to protect their existing franchise (“stabilize” to use Mr. Kilt’s words). But that’s not enough. They must go on to establish a new product group – virtually a new company within a company – that will supply the growth missing in old markets. That’s what The Washington Post is doing. 

Wal-Mart, and a few others, are dealing with both our commandments for 2002 strategy. While we weren’t watching, it became the largest grocer in the United States, providing heady competition to traditional supermarkets – at a profit. And, number 2, its International Division grew “sales by 41 percent,” well beyond the 15% or so experienced by the whole company. In 2002, you have to build one whole new business while forging ahead internationally to achieve overwhelming strength in the marketplace.  

At the end of a recent management survey in The Economist (March 9, 2002, p. 20), the author says we may be through with big ideas in business, since top managers are no longer “as obsessed as they have been in recent years with finding ‘the great idea’ that will lead to better results.” The writer appears to be right and wrong. Right because this year’s reports do show most company leaders to be without a “great idea.” Competitive thinking atrophied during the fat-cat nineties. Perhaps this is the biggest reason business leaders feel vulnerable. Wrong, as Wal-Mart, and some others show, because you still need big ideas about your business to go somewhere.  

This lack of ideas, the biggest quandary of business today, only mirrors the larger predicament – the vacuum in political thought, both in the United States and abroad. Most arresting, in this regard, is Elizabeth Rosenthal’s “China’s Communists Try To Decide What They Stand For” (New York Times, May 1, 2002, p. A3). She notes that both the leadership and citizenry of the People’s Republic are looking for a new ideology and a new idealism, the Communist Party there sensing its increasing irrelevance. Even in the only major economy experiencing real substantial economic growth, people ask, “Why are we here? What are we doing?” This, too, is the dilemma of economic enterprise East and West. 

But the very fact that the Chinese leadership is searching for a new ideology is testimony to the refreshing and rather singular realism with which it is confronting all its problems and opportunities. As Robert A. Theleen, chairman of China’s oldest venture capital firm, ChinaVest,  puts it:

The Chinese leadership has produced the most successful, sustained economic revolution in modern history, breaking away from a command-and-control formula to a bottoms-up entrepreneurial style. And now with entry into the WTO and the coming Olympics, it is creating a more dynamic internal market driven by consumer branding and a next-generation distribution system. The top echelon of this society knows where it has to go and that surefootedness is radiating far and wide about the countryside.

In the Chinese case, the philosophic gap results from the torrid economic change about which Mr. Theleen speaks. Ideas have not yet caught up with events. In the U.S., the causes are different. The nineties were a wasted decade when the country did not advance its infra-structure or its thinking. America 2002 is suffering from all the change that did not happen in the 1990's.  

Prophetic in this regard was the sleeper hit movie “Wonder Boys” (2000) in which a Pittsburgh writing professor tiptoes through an antic life that is clearly going nowhere. His long, long unfinished novel lies stillborn, finally and fortunately carried away on a breeze, never to be published. Annual reports 2001 are like that – long, unfinished, going nowhere. At the very end, the professor recovers his balance and meaning, all leading to the end of his creative impasse. Surely, too, American business will get its creativity back, now that the credit bubble, the terrible mis-allocation of capital, and comedic business practices have forcibly come to an end. 

Companies Mentioned in the Report


Web Site

Stock Symbol




Barrick Gold



Berkshire Hathaway



Charles Schwab






Coca Cola



Cognex Corporation






Dow Jones






The Economist









General Re












Jack in the Box



John Deere



Kaplan Education






Krispy Kreme






The New York Times










Wall Street Journal






The Washington Post



The Washington Post Company



Williams Companies




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