Breakingviews

President Barack Obama is seeking input from Corporate America on the so-called fiscal cliff. But whatever company honchos may be saying about the risk of recession in 2013 if tax hikes and spending cuts kick in on Jan. 1, it looks as if they actually fear higher taxes more than a downturn.

Exhibit A is the recent flurry of special dividends, including a $3 billion whopper announced on Wednesday by warehouse retailer Costco. Data group Markit says 112 firms so far this quarter have already pulled the trigger on special dividends. They include casino operator Las Vegas Sands, which will send more than $1 billion to Mitt Romney’s pal Sheldon Adelson, his wife and the trusts the billionaire controls. Markit expects 20 more firms to do something similar before the year is through.

It’s notable that many of the companies announcing special payments have big family-owned stakes. These early distributions will save shareholders money if tax rates on dividend income do go up next year, from the current 15 percent.

But paying out cash isn’t a rational response if the fiscal cliff is a recipe for a downturn. In that case, companies ought to be hoarding it. The nonpartisan Congressional Budget Office has long said U.S. output would fall. That has given corporate chiefs like Mark Bertolini of Aetna and Dave Cote of Honeywell a bandwagon from which to implore Washington to do something to avert a metaphorical plunge into the abyss. If the real fear is not so much the health of their companies as that of any dividend recipients’ pocketbooks, it’s a less compelling line.

In the aggregate, U.S. companies have plenty of cash to play with. But some are giving away their buffer against future trouble. Costco’s cash balance, for example, barely covers the special dividend - even if it could all be spared. That explains why the company is borrowing billions to give shareholders their potential tax break. Other companies like Dillard’s and Brown-Forman announced payouts that were bigger than their cash balances, at least as reported in their most recent earnings releases.

If Obama and Congress manage to hammer out a deal, there’s no harm done. And if it includes a dividend tax increase, these companies will be heroes to their shareholders. But some of them are making a risky wager given that the stakes for the economy are supposed to be so high.

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It's almost criminal that the snitch will walk in a probe involving SAC Capital. Mathew Martoma, an ex-trader at Steve Cohen's $14 billion hedge fund firm, faces possible jail time for alleged insider trading. But the doctor accused of giving him secret data doesn't - he won't be charged after agreeing to help prosecutors. Flipping suspects to land bigger game is standard. Going easy on serious wrongdoing shouldn't be.

Martoma's alleged crimes stand out even among the scores of recent insider-trading prosecutions. He's accused of illegally helping SAC reap $276 million in profits made and losses avoided, a record amount for such cases. Enforcers say his recommended trades came after consultations with Cohen. Though the hedge fund titan isn't accused of wrongdoing, it's the first time he has been linked to suspicious transactions.

Almost lost in the hoopla, however, is the snitch at the heart of the alleged scheme. Sidney Gilman, a neurology professor, consulted with Elan and Wyeth on an Alzheimer's drug the two developed, chaired the committee overseeing the drug's safety and sold investors his expertise through a research firm. In each case, he explicitly promised not to reveal confidential information. Yet according to prosecutors he repeatedly broke that promise by passing tips to Martoma.

As U.S. Judge Jed Rakoff recently explained in sentencing former McKinsey boss and Goldman Sachs director Rajat Gupta for insider trading, that crime is based on a breach of trust: revealing a company's secrets. Trading on those secrets is a necessary but almost incidental element of the crime, in the sense that the breach must come first.

Yet prosecutors seem to have things backwards. In the Martoma case, they are pursuing the trader while settling on favorable terms with Gilman, who allegedly violated his employers' trust. And in seeking a stiff sentence for Gupta, they stressed the money that traders made from his tips rather than his disloyalty in revealing Goldman's secrets.

Their tactics are understandable, to a point. The federal sentencing guidelines punish lucrative but illegal trades more harshly than breaches of confidence. And insider-trading doctors probably draw fewer headlines than high-profile hedgies. But prosecutors have broad discretion in choosing whom to pursue. The SAC probe suggests that they don't always use it wisely.

(The author is a Reuters Breakingviews columnist. The opinions expressed are his own.)

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(Parts of the following obituary were first erroneously published on March 21, 1980).

No face is more symbolic of Reagan-era Corporate America than J.R. Ewing’s. The former Ewing Oil boss, who passed away on Friday in Dallas at 77, embodied the anti-regulatory fervor and cutthroat financial ambitions of the 1980s. After an attempt on his life - and two dark decades following the Texas oil bust - Ewing’s legacy was revived by, and lives on in, the country’s current shale boom.

Ewing dropped out of sight in 1991. But the twisted governance, ruthless business tactics and even many of the technological insights that Ewing and his family pioneered now characterize the resurgence in U.S. production of both oil and natural gas. This relatively cheap fuel has in turn has helped drive an industrial renaissance in America, turning Ewing and contemporary wildcatters into iconic heroes of capitalism.

Ewing’s successors in the energy patch have even emulated his penchant for mixing personal and business affairs, as well as his distaste of government intervention. These tendencies collided when, in an effort to circumvent increased regulation by the Texas Commissioner of the Office of Land Management - who turned out to be longtime family rival, Cliff Barnes - Ewing invested heavily in Asian offshore oil leases. He even mortgaged the family’s opulent Southfork Ranch to raise the needed capital.

The moved briefly made the Ewings billionaires. But turmoil in the region led to the leases being nationalized. With Ewing teetering on bankruptcy, patriarch Jock Ewing, who founded the firm in 1930, fired J.R. He replaced him with younger son Bobby, a move that created tension inside the family. J.R. returned as president in 1980 after Bobby resigned amid a row with Ewing Senior over his plans to use company funds to build a fishing resort on the Louisiana border.

Public company successors like Chesapeake Energy’s freewheeling chief Aubrey McClendon have shown a similar willingness to mix personal and business, selling his antique map collection to his company for $12 million. Others, like SandRidge Energy’s Tom Ward, have drawn fire for inflated salaries and extensive use of corporate jets.

Still, the past decade has been good for Ewing and his ilk. The discovery of vast oil and gas reserves, now accessible through new technological means, has presented the United States with a realistic prospect of energy self-sufficiency. The production boom has rejuvenated Ewing Oil’s prospects. Ewing is survived by John Ross Ewing III, a founding executive at an alternative energy group based in Dallas.

Hewlett-Packard claims it was duped into hugely overpaying for Autonomy, prompting an $8.8 billion writedown. It blames at least $5 billion directly on dodgy book-keeping. Autonomy founder Mike Lynch says his company played by the rules. But complicated procedures for categorising sales and recognising revenue are critical to the strength of HP’s three central allegations. 

Sales mix

Autonomy’s core product is search software called IDOL. HP claims Autonomy covertly lumped in loss-making hardware sales with deals for IDOL. The implication is that this inflated Autonomy’s valuation.

HP says there was no “appropriate” disclosure of the hardware sales. It’s not clear what that means. Autonomy did reveal in its annual reports that hardware was sometimes bundled in with software. This disclosure would probably have been lost on a casual reader: customers needing an IDOL solution in a hurry generated “appliance” revenue as part of a turnkey solution. But HP and its advisers arguably should have known this was an issue that needed clarifying. Moreover, the classification wouldn’t alter overall sales, profit or operating margins. 

Sales to resellers vs sales to real customers

Autonomy sold software to customers through so-called resellers. HP says Autonomy improperly booked revenue before resellers had found end-buyers. But under IFRS accounting standards, Autonomy was permitted to recognise revenue in such circumstances, if certain conditions were met. It is aggressive, but legal.

HP may not have realised its accounting policy here was legitimate, because U.S. GAAP accounting imposes stricter conditions. Without full access to the detail of the software contracts involved, it is hard to assess the force of the allegation. 

Long-term data-hosting revenue vs licence revenue

HP says Autonomy brought forward sales by converting long-term data-hosting deals into licence payments. But this would have been a very foolish move for Autonomy. Auditors allow companies to book upfront payments in full if they establish a predictable pricing framework, known as “Vendor Specific Objective Evidence” (VSOE).

It is hard for companies to abuse this by re-jigging the split of recurring and immediate payments in their favour: if pricing is inconsistent, VSOE no longer holds. Accountants can then push the company to recognise all revenue, including upfront payments, pro-rata over contract lifetimes. Again, without knowing the detailed terms of the contracts, it is hard to make an assessment.

HP says these allegations are only “examples”, so more may come out. As things stand, HP’s accusations are hard to judge. Both distortions in profitability and revenue growth would have affected valuation, but this would need to be extensive to create a $5 billion hole.

Many analysts had already accused Autonomy of aggressive accounting. HP still has to prove its claim that it was duped by fraud which could not be detected before acquisition. A complete refutation would mean yet more heads rolling at the gaffe-prone HP. But so too would an inconclusive result that showed Autonomy to be cavalier but no worse. 

Read more at Reuters Breakingviews.

Rupert Murdoch makes an unlikely fairy godfather. The News Corp boss is more often portrayed as a cartoonish evil villain, especially inside rivals like Disney. But by paying a punchy price for a big piece of the Yankees Entertainment and Sports Network, Murdoch is implying an even richer valuation for ESPN than is already attached to the coveted Disney sports brand. That in turn makes the whole Magic Kingdom look worth more. 

ESPN’s model is what has Murdoch twiddling his metaphorical mustache, or maybe the real one of Chase Carey, his right-hand man. Buying 49 percent of YES, with an option to increase the stake to 80 percent in three years, advances what’s probably a larger plan to build a national, if not international, sports network to compete with Disney’s market leader. Adding 30 years of broadcast rights for the New York Yankees, arguably the number one brand in U.S. sports, intensifies Murdoch’s battle with Disney Chief Executive Bob Iger. 

It will not be easy for Murdoch. NBC, under Comcast, and CBS are also trying to build ESPN-killers. And he is paying for the privilege. News Corp’s investment values YES at $3.8 billion, if the company takes control in 2015. Murdoch’s multiple is about 15 times the $250 million EBITDA that analysts at SNL Kagan estimate the network will earn this year. 

That makes ESPN look underappreciated. Research firm Sanford Bernstein, which performed a similar comparison, reckons the network that commands the highest fees from cable operators generated as much as $3.5 billion of EBITDA in the fiscal year ended Sept. 29. At the same multiple as YES, ESPN’s suite of channels would be worth some $53 billion. Disney’s enterprise value is about $104 billion. That would mean the rest of the company fetches a multiple of only about seven times EBITDA. 

That might be reasonable for Disney’s film and TV studio, ABC broadcast network and consumer products divisions. It wouldn’t, however, give full credit to the other cable networks or theme parks. So while Iger and Disney owners need to be wary of a fiendish Murdoch plot in sports broadcasting, they can also enjoy the magic dust he may just have sprinkled over their company’s valuation. 

Read more at Reuters Breakingviews.

U.S. prosecutors haven’t given up on landing the biggest fish at SAC Capital. The Justice Department and Securities and Exchange Commission on Tuesday hit Mathew Martoma, an ex-trader at Steve Cohen’s $14 billion hedge fund firm, with criminal and civil insider trading complaints. The enforcers say the underling helped SAC make $276 million. But if they want Martoma to lend a hand reeling in Cohen, they’ll need to deal. 

The case could be the biggest yet in a U.S. anti-insider trading campaign that has already netted almost 70 convictions or guilty pleas. Galleon Group founder Raj Rajaratnam made more than $50 million on illegal trades. But that’s less than a fifth of SAC’s alleged haul from investing on Martoma’s confidential information involving a drug trial whose results ultimately sank the stock prices of drug companies Elan and Wyeth. 

The dollars, however, may be secondary in this case. Many observers suspect the feds’ dream target is Cohen himself. And while several former SAC employees have been charged in recent years, the current allegations are the first to suggest a direct link to Cohen’s trading, though he hasn’t been charged and wasn’t even named, except as “Hedge Fund Owner” in one complaint and “Portfolio Manager A” in the other. 

Rather than obtain a full-on grand jury indictment, prosecutors chose to file a complaint against Martoma. That allowed them to set out what they know and perhaps persuade anyone involved to cooperate. The complaint in theory also affords the feds flexibility to withdraw or reduce charges if Martoma decides to give up the goods on Cohen. 

For now, though, it seems they don’t have enough. The documents say Martoma met with “Hedge Fund Owner” to arrange trades, but don’t mention any evidence that he disclosed the source of his information or indicated it was confidential - essential elements for an insider trading charge. Without secret recordings or damning emails, evidence would have to come from Martoma or other cooperative witnesses. 

Already, though, the complaints make interesting reading. They shed light, for instance, on Cohen’s aggressive investment style, involving huge volumes of stock - more than 20 percent of the total market volume in Elan’s securities over one seven-day period. The next chapter in this legal saga could be a real page turner. 

Read more at Reuters Breakingviews.

Soft power is proving to be priceless - and scarce. The United States may not have lost much power to coerce but its power to co-opt has weakened. Despite the claims of a new study, no country has taken its place. The soft power vacuum makes the world a little more risky.

The ancient Romans, the early Muslims, Napoleon’s France and the Britain of industry and empire were all long gone by 1990 when political scientist Joseph Nye introduced the term soft power to describe America’s ability to influence foreign countries without military or commercial pressure. All these powers had a certain something - a persuasive worldview, a sense of accomplishment, a feeling of destiny - that made the available brute force more palatable and powerful.

Nye thought the appeal of the U.S. way of life would help set the global and regional political-economic agendas. For a while, he was at least partly right. The Washington consensus guided economic policy in many developing countries, U.S.-style secular democracy was considered the global standard and many admired the American vision of big finance and small government.

The United States is still emulated, but is also now increasingly distrusted. Whether the reason is some nebulous domestic loss of spirit, foolish foreign policy, the financial crisis or something else, the country is probably held in lower esteem internationally than at any time since the isolationist and Depression-struck 1930s.

The Olympics and pop-music exports make the UK the world leader in soft power, or so claims Monocle magazine. That’s pretty silly. While Britain may have shed its image as a charming has-been suffering from class conflict and empire loss, it is hardly a global model. Japan is a more plausible candidate; it seemed to be doing something profoundly right in the 1980s. But few now would use that stolid economy, isolationist culture and shrinking population as a model.

The soft power leadership spot is open. China, with its strong economy and great hopes, is the natural candidate to fill it. For now, though, Beijing is no shining example. Pollution, corruption, cultural confusion and unresponsive government mean China suffers from what is better described as soft weakness. 

Hostess Brands is dead, long live the Twinkie. The fluorescent yellow cream-filled cakes are a cultural touchstone for generations of Americans. As Hostess oozes through the bankruptcy process for the second time in three years, it is now opting for the nuclear option of liquidation. But the Twinkie brand’s half-life should be longer than its maker’s. 

The process of determining a brand’s worth is as gooey as the center of a Hostess Cupcake. But according to the marketing research firm Millward Brown, the value of the top 100 has surged by two-thirds since 2006, to $2.4 trillion. Apple’s name and icon, for example, are estimated at about $183 billion and Coca-Cola’s $74 billion. 

A Twinkie may have just as much sugar but it’s no Coke. Still, the spongy cake holds a place in the heart of ageing hipsters who won’t soon forget debates over whether it might survive an atom bomb. That novelty will count for something when Hostess puts Twinkie up for sale and rival snack makers like Kellogg or the Mexican Grupo Bimbo, owner of Sara Lee and Entenmann’s, have a think. 

Nostalgia has its limits on financial statements, though, as 82-year-old Hostess discovered all too well. Management renegotiated benefits with workers the last trip through bankruptcy, but they remained too generous to afford. Liquidation could make it easier for potential suitors to stock their shelves with Twinkies. The brand could easily replicate the product’s power to last.

The seven men who will run China’s ruling party for the next five years have a tough job. Two of them, party chief Xi Jinping and premier-in-waiting Li Keqiang, have been groomed for years, but even they are little known. Are they up to it? Breakingviews has scored them on five key criteria, and found some scope for encouragement.

1. International experience. Only Wang Qishan and Zhang Dejiang have spent significant time abroad - and Zhang was in North Korea. On the plus side, Li speaks English. He and Xi have personal reasons to keep U.S. ties friendly: both reportedly have offspring studying there. Score: 6/10.

2. Crisis management. Wang, highly regarded by senior Western bankers and economists, helped clean up financial crises in Hainan and Guangdong. But his new anti-corruption role may spread him too thin. Li ran Henan in the aftermath of an AIDS epidemic, while Zhang was vice premier in charge of industry and transport during last year’s railway corruption crisis, although both took a “crack down first, ask questions later” approach. Score: 7/10.

3. Economic growth. Many of the newcomers, like Tianjin boss Zhang Gaoli, have worked in rapidly growing provinces. But growth alone isn’t what China needs, and the team lacks direct experience of disenfranchised provinces like Tibet or Xinjiang. Still, all can take some credit for the relative stability of the past decade. Score: 7/10.

4. Factional ties. Five of the seven have clear career ties to Jiang Zemin, the influential ex-president. Only two have links to Hu Jintao’s Communist Youth League. Three of the seven are “princelings” – children of former leaders -  and another is married to one. If patronage counts, expect policies that protect the rich. Score: 5/10.

5. Diversity. Seven suited men, all from China’s Han majority, aren’t exactly a mixed bunch. There are slight differences of education: it’s no longer just a collection of science graduates. But the team that purports to serve the people is still far from representative. Score: 5/10.

The party deserves some credit for changing the script a bit. Unlike his predecessor, Hu is also giving up the top army role from day one, which may signal trust in Xi. The line-up has also been changed to reflect the fact that the premier, who officially ranked third in the party hierarchy, is really number two. In such a rigid framework, any sign of change is a bonus. Overall, China’s new leadership gets 6.5 out of 10.

Read more at Reuters Breakingviews.

Tesla’s risky vision for the car of the future is putting Detroit to shame. The Silicon Valley-based electric carmaker run by Elon Musk is racking up some prestigious awards for its new sedan. On Monday, Motor Trend became the third respected industry publication to bestow the Model S with a 2013 Car of the Year gong. That’s better than Motown, European or Japanese manufacturers managed.

Several of Tesla’s giant competitors have made decent forays into electric vehicles, whether hybrid or fully battery-powered. But the Model S is in a different class. The sleek new sedan has space for up to seven. It’s fast, with some versions speeding from zero to 60 miles an hour in about four seconds. It’s full of the latest gadgets, from a 17-inch touch-screen control panel to automatically retracting door handles. And it can travel as far as 300 miles on one charge, and be ready to go again after 30 minutes plugged into a high-power charging station.

These are the kinds of results most in the car industry establishment had long dismissed as impossible to achieve - a point made several times at a New York event on Monday by an ebullient George Blankenship, a former Gap and Apple retail executive who is now Tesla’s head of sales and ownership.

Musk started Tesla with grand ambitions to compete initially at the high end of the market, something the company’s awards suggest he has nailed. The 41-year-old is used to going out on a limb, having quit graduate school to set up PayPal before founding Tesla - and rocket and spacecraft manufacturer SpaceX. Bosses at bigger carmakers may feel encumbered with a more incremental, lower-risk approach.

The $3.6 billion Tesla has also had to deal with crises from cash squeezes to a year-long halt to production to the death of three top employees in a plane crash - not to mention funding hefty research and development outlays with positive free cash flow still only expected toward the end of this year at the earliest.

Musk’s next challenge is to turn a low-volume showstopper into a consistently profitable business. It’s a tough road. At almost $50,000 for the most basic model, the Model S is unlikely to tempt the masses away from increasingly fuel-efficient gasoline chuggers available for half the price. But given Tesla’s success so far, larger rivals should be paying close attention.

Read more at Reuters Breakingviews.