Editor’s note: William Dunk, an international business consultant based in Chapel Hill with William Dunk Partners is widely known for his review of corporate annual reports. This is his analysis of what CEOs are saying in the latest batch. Dunk’s views will be published in two parts. Part II will be published on Monday afternoon.
_______________________________________________________________________________________Paul Volcker, the very honorable, no-nonsense, one-time Chairman of the Federal Reserve, has warned us that the world is skating on thin financial ice:

“Yet, under the placid surface, there are disturbing trends: huge imbalances, disequilibria, risks – call them what you will. Altogether the circumstances seem to me as dangerous and intractable as any I can remember, and I can remember quite a lot. What really concerns me is that there seems to be so little willingness or capacity to do much about it,” he said, as reported by The Washington Post in April.

The world economy races along, out of control, propelled by a series of bubbles that central bankers and politicians in every major country show no inclination to prick. Curiously, our own Alan Greenspan, who should know better, seems hesitant to rein in our excesses and is loathe to speak out about them, only putting out a dimly lit caution light perhaps once a year. Our runaway real-estate markets, even bigger puff pastries than our overheated stock exchanges, are showing some weakening in Florida and a few other parts of the country, easy money no longer propping them up.

Cocksure Bosses

It is against this backdrop that we are writing this year’s report on annual reports, an exercise we have been doing for more than 20 years as an aid to institutional investors and a small coterie of multinational leaders. (For reports dating back to 1994, see our Archive at www.globalprovince.com/annualreports.htm .)

Last year’s report, “The Uncertain Club vs. The Globe Trotters,” found chief executives to be quite unsure of themselves and very muddled about the future. In stark contrast, the 2004 batch of reports displays an army of bosses who are cocksure and overwhelmingly confident that they can deliver numbers for years to come that will dazzle our eyes.

In our 30 years’ reading of annual report tealeaves, we have never detected such a disconnect between the mood of our political and business leaders and the actual state of our economic fundamentals. Sort of like the French royalty before the Revolution. All this in a world that looks like it may come unglued, sooner rather than later.

We learn from our handy encyclopedia that the Greeks called this hubris, a condition where we begin to think we are more powerful than the gods, and the gods in turn strike us some very mortal blows to remind us we are mere men. We also learn there was a goddess called Hubris who personified this disease and who spent a bit too much time in tete-a-tetes with mankind. Beware the chattering classes.

We are fond of saying that when times are bad, leaders share the blame with everybody in their retinue and even find that the gods, weather, business conditions, and other demons are amongst the reasons why their companies are faltering. When their companies are doing great, the bosses manage to take credit for their windfall. Right now they’re riding high.

Oil and Housing

The chiefs of housing-related and oil companies managed to crow about their 2004 results, glossing over the worldwide real estate rampage and the general commodity bubble that have a whole lot to do with their heydays. Lowe’s, a southeastern building supply house, says, “2004 was another great year for Lowe’s,” driven by “excellent customer service and store-level execution” and the addition of 140 new stores in “great markets.”

Chevron Texaco chortles that it “delivered the strongest financial performance” in its 125-year history. “Our performance was driven by executing well against the right strategies at the right time.”
Exxon Mobil, sounding like a newly minted MBA, claimed it had “created sustainable competitive advantage through our proven business model, enabling us to excel while taking on the world’s toughest energy challenges,” producing “record earnings”highest in the history of the Corporation and in each business line.”

The oil majors, incidentally, have been under-investing in exploration and in new energy technologies, although we anticipate that they will begin to act more like geologists and less like bankers in the latter part of this year.

A Blow-Out of a Party

But companies in many other industries were also smoking big cigars and hoisting glasses of champagne.

GE, which has been spinning off $15 billion worth of businesses, while ploughing $60 billion into new areas, is ready to announce it'[s a growth company now, with the goal of growing 8 percent a year, instead of its traditional 5 percent, linked to hefty spikes in earnings and return on capital.

At the end of fiscal 2004 (March 31), Toyota, too, talked about its relentless quest for growth, strongly re-iterating its plan to capture 15 percent of the global auto market by 2010. Now perhaps the world’s best car company, it sold and produced record numbers of vehicles in fiscal 2004, while posting highs in revenues, operating income, and net income. Says President Fujio Cho, “I believe, no matter what the era, a company that has lost its appetite for growth cannot develop. In my view, sustained growth drives corporate value.”

Swollen ambition has touched several other companies. “John Deere had a terrific year in 2004: Our actions to build a great business combined with better market conditions to drive sales and earnings to record highs.”

Donald Graham at the Washington Post, whom we have always regarded as a fairly sober fellow practically shouted: “One statistic sums it up. Operating income of $563 million was $175 million higher than the best year we ever had. It is especially pleasing to report that every division of the company participated, growing operating income over 2003.”

The irrepressible, big man in a small pond, Robert Shillman of Cognex, a machine vision company whose reports always try to be a little comedic, did an annual report in the style of the dummy books where he tells you all the smart things he did in 2004.

But a Deflated Celebration Nonetheless

Despite the multi-colored balloons, the party seems to be a bust. Back in the 20th century, when the modern annual report was invented, good design and editorial invention lent much more esprit de corps to the world of reporting. We can remember the very year when a market-driven IBM made the transition from a small, dry annual report with a short income statement and balance sheet to a 4-color extravaganza. This year, with the possible exception of Southwest Airlines, which has some fizz in its report, annual reports in this country are flat, lacking in joie de vivre.

The cover of Southwest says, “Ding: You are now free to move about the country.” The Southwest report is chockablock full of action leisure photographs that show Americans letting the good times roll.

In contrast, many reports are now put out on cheap, flimsy paper, wrapping a president’s letter around the official 10K annual report filing document that is sent to the SEC: such companies look like they are going out of business. One of our partners once said that a floppy annual report is very much like a limp handshake. Annual reports 2004 are very dour and hopelessly thick, the optimistic words notwithstanding. They’ve gotten as dull as The Wall Street Journal.

Overseas Outlook

Many overseas companies know what Americans have forgotten. The hard-copy printed paper annual report is a calling card used when seeing possible merger candidates, officials in foreign governments, investment bankers, and major customers across the globe. Today, we find that companies in Europe and Asia have taken the lead in annual reporting, not afraid to show a little flair.

We are fond, for instance, of the reports of Germany’s Vorwerk, which in 2004 talks about the theme of courage; of Austria’s Wolford, a lingerie maker with a better eye for women than Playboy; and Finland’s Fiskars, which makes the scissors and other well-wrought household tools affluents in America love to have. Sarbanes Oxley and tired American mid-level managers have made top executives forget that the annual report is primarily the company’s best marketing document, and neither an online Internet annual report nor a depressing paper wrapper will do the job.

Coming Monday: Some Cautionary notes.

For more insight from William Dunk, see his firm’s web site “News from the Global Province” (www.globalprovince.com ). It is a marketplace of business ideas…a site for investors, business executives, journalists, and elitists everywhere. To learn more about William Dunk Partners, see www.globalprovince.com/williamdunkpartners.htm