Is Niche apparel a Niche stock ?

Clothing is a very ugly industry despite its glitz and glamour. For small businesses to survive and thrive – they need to create products that are emotionalized, authentic and, above all, differentiated. These businesses must be able to distinguish themselves from their direct competitors, establish themselves in consumers’ minds and therefore create a niche. Over the past few years we have seen an explosion of new brands in the niche apparel market. I’m going to examine two companies going in two very different directions in this hyper fickle realm of retail. Both companies have products that qualify as niche markets. HEELYS specializes in wheeled footwear that is currently all the rage among children, tweens and even teenagers. Under Armour has specialty sportswear that is engineered to keep athletes cooler during physical activity. These companies represent niche apparel as well as niche stocks. Stocks that are considered to have a short life once the fad (demand for the underlying product or service) begins to decline are known as niche stocks. Niche stocks have been making waves in the stock market for some time but it is difficult to determine which companies will qualify for more permanent status on the market and in your portfolio.

Heelys, Inc. (HLYS) is a designer, marketer and distributor of action sports-inspired products targeted to the youth market. The Company’s primary product, HEELYS-wheeled footwear, is a line of dual-purpose sneakers that incorporate a removable wheel in the heel. HEELYS-wheeled footwear allows the user to seamlessly transition from walking or running to skating by shifting weight to the heel of the sneaker. During the year ended December 31, 2006, approximately 98% of HEELYS’ net sales were derived from the sale of its HEELYS-wheeled footwear. The Company, however, also offers a selection of HEELYS branded accessories, including protective gear such as helmets and wrist, elbow and knee guards, heel plugs, wheel bags and replacement wheels, and a limited variety of apparel items.

HEELYS current share price of $9.25 is in stark contrast to its public debut late last year when its shares received an enthusiastic welcome at $21. Heelys Inc.'s shares dropped to a then all-time low of $11.84 on August 8^th, 2007 as a reduction in orders cast a cloud over sales for the remainder of the 2007 fiscal year. The shoe-maker forecast a dismal second half of the year due to over-inventoried U.S. accounts. It cited aggressive expectations and retail softness in footwear and apparel as explanation for the downward trend. The company's shares were trading down about 57.72 percent at $9.25 in morning trade on the NASDAQ, August 28, 2007. Robert W. Baird analyst, Mitch Kummetz, downgraded the stock to "neutral" from "outperform," adding that even if the company's sell-throughs were to improve before orders for spring 2008 came in, revenues for the first half of 2008 will likely be hurt due to cautious ordering. Bear Stearns analyst, Jennifer Childe, reports that retailers are hesitant to place additional orders in the face of already bloated inventories. Childe lowered her rating on the stock to "peer perform" from "outperform," but said management's guidance appears to reflect a "worse case scenario," with room for potential gains if back-to-school sales momentum continued. Bear Stearns was one of the underwriters for the company's initial public offering. At least three other brokers also downgraded their ratings.

Under Armour (UA), founded in 1996 by former University of Maryland football player Kevin Plank, is the originator of performance apparel - gear engineered to keep athletes cool, dry and light throughout the course of a game, practice or workout. The technology behind Under Armour's diverse product assortment for men, women and youth is complex, but the benefits are simple: for optimal performance wear HeatGear® when it's hot, ColdGear® when it's cold, and AllSeasonGear® between the extremes. Under Armour's mission is to "provide the world with technically advanced products engineered with their [our] superior fabric construction, exclusive moisture management, and proven innovation. Every Under Armour product is doing something for you; it's making you better...”

The sports apparel company is popular among more than just gym rats and teenage athletes. Short sellers, who try to make money by betting that the price of a company stock will fall, have made Under Armour one of the hottest stocks for short sales on Wall Street in recent months. In a Bloomberg News July 2007 ranking of companies with more than 10 percent of shares available for short trading, Under Armour ranked 25th among companies with the largest amount of short sales on the New York Stock Exchange. According to several analysts, it is not surprising that Under Armour’s stock is hot among short sellers. Since the company became publicly traded in November 2005, its stock price has prompted frequent Wall Street criticism. The company’s price to earnings ratio – the common Wall Street gauge in determining how expensive a stock is relative to its market value and earnings during the past year – is 78.16, according to Bloomberg statistics. In comparison, Nike, which dwarfs Under Armour, has a P/E ratio of 19.57. Under Armour has revenue of $467.32 million, while Nike $16.3 billion.

Many analysts have also wondered if the company can maintain a large enough growth in sales to justify its stock price. So far, the gamble that short sellers are taking has been stonewalled - by a large block of institutional investors who believe Under Armour stock will move even higher. Rather than falling, Under Armour stock has increased approximately 24.78 percent in 2007, and has achieved record highs during the past several months as investors push up demand for shares. Institutional investors, who are satisfied with the business fundamentals of the company are aware of its popularity among athletes and non-athletes alike, have been buying the stock and pushing up its price. The stock reached a record high of $67.10 after the company released second-quarter earnings July 31, 2007, and raised its financial outlook for the year. These diverging views have created a Wall Street money battle on which direction the stock will turn. Under Armour continues to receive praise and criticism as its stock price has fluctuated wildly during its two-years being publicly traded.

It is not surprising that these companies are being scrutinized. With the fall season almost upon them, sales from these two niche apparel makers will help determine who will survive to become a household staple and a stock market portfolio stalwart. Based on the analysis from Haye Capital Group, it is believed that unless HEELYS starts to diversify its product offerings they will go out of style like the zipper and metal studded leather jackets of the mid eighties. Under Armour has a more utilitarian purpose so for the time being it is the clear choice for both a lasting brand and stock portfolio pick. With its current product lines having a longer and better product life that is not just trendy but practical as well, Under Armour has a clear advantage. The key for both of these companies is to get the “niche” out of the perception of both their apparel and their stock if they are to be truly mainstream and lasting brands.

The "Magic Eye" in Business

Chaos—that unwieldy absence of order that haunts inventors, the creative-minded, and the entrepreneur in all of us—may be the very foundation of success. I am speaking of chaos, as in the spaghetti on the wall, where all the noodles converge to create a path, a miraculous mess, but substance nonetheless. In that mess, ideas intersect to make new business models or innovative solutions, at times birthing mistakes and at other times, lending new form to long standing businesses. Inside chaos the essence of innovation lives and breathes.

Every so often the creative chaos of the mind coalesces, preparing the way for sustained profitability around a new business model. In the nineties, Internet portals like Yahoo! and AltaVista positioned themselves to compete in the search market, but also offered directories, ads, news articles, and more. A young startup company, named Google, took what both Yahoo! and AltaVista had created, then turned it on its head. Google offered instead of more content—a minimalistic page, and instead of advertisements —whitespace. Only after Google had successfully tailored their search engine technology over years, did it branch into offering news, calendars, webmaster tools, and more. By first offering less (and doing that right), Google became the most lucrative Internet business in history.

Google’s business model has proven to be successful, as their search engine currently accounts for 63% of all internet searches, according to HitWise. Like Google, the utility of both PayPal and eBay was initially questioned, but ultimately embraced. How many thought similarly about PayPal or eBay? Like many successful entrepreneurs, we need to peer into the crossroads of ideas, seeing where they intersect, then take control of where they lead our businesses.

Think of chaos as a “Magic Eye” poster, or an autostereogram which is a 3D image buried in a 2D pattern, painted by consumers, businesses, technology, and emerging trends. The jumbled pixels in the poster obfuscate even the most ardent observers. But, if you relax just enough, allow your eyes to un-focus, a picture begins to take shape. The resulting picture may outline a new and innovative business idea.

Many businesses believe consumers want price cuts as a solution, like cheaper software, when, in reality, an innovative solution may infuse more profits into their bottom line. Imagine if eBay had only offered an e-commerce site with lower prices, rather than being innovative and creating an auction site for users to sell wares. What if Google had cluttered their pages, displayed obtrusive ads, and ultimately mimicked every other site at the time? They may not have stamped their brand into the minds of millions. It takes innovation to capture the imagination of consumers.

In the same way eBay cleared many garages of junk, and Google saved us hours of surfing the web to find a resource, the next big idea may solve a relatively small problem. The solution to a common problem can become a massive success overnight. The young coders from PayPal, who started YouTube, can attest to the frenzy created when a business offers an immediate solution. In a time when video was first becoming commonplace on the web, YouTube offered free hosting for user generated content. A HitWise study from May of 2006 showed that YouTube traffic was up 160% in a three month time period (March 2006 to May 2006), moving the site to the top 50 sites on the Internet. This happened only a year from their inception. This type of leaps-and-bounds success can be attributed to the risks they took. In order to host a site that had user uploaded and viewable content, they also had to have servers to handle the load and bandwidth to broadcast these large files to an audience numbered in the millions. YouTube’s bandwidth expense per month elevated from $900,000 to $1.5 million, by most estimates. Of course, we know about the buyout by Google, but many do not know the amount of money invested to keep YouTube online long enough to be purchased.

With innovation, there will always be risk involved. A business idea may take the breath away from complete strangers at the coffee shop but, when dealing with the global marketplace timing means just as much as potential. For instance, Pets.com failed in 2000 before ever fetching a profit. An internet business failure can be caused by a combination of market climate and consumer apathy or something as simple as poor site construction.

An idea can only be as good as its execution. A cumbersome website, faulty product/service, or other missteps can hinder a good idea. The crux of a successful introduction into the marketplace relies on timing, sound marketing of the product or service, and a solution that opens customer’s minds to a new way of doing something old or creating something new. Chaos in business can be briefly muted, absorbed, and altered by a solution that comes from the ether. As an entrepreneur, chaos may be the cluttered avenue of information for a particular service industry or the immediate need for a new product. By allowing imagination to lead where intellect cannot travel, an entrepreneur must believe in the possibilities generated by that imagination, nurture those possibilities, and make those possibilities a reality.

The IP in VOIP: A Vonage Story

On March 23^rd 2007, Vonage Holdings Corp., the voip (voice over internet protocol) giant, lost a key hearing in its patent infringement dispute with Verizon. Since that ruling and the following injunction issued April 6^th 2007 there has been rampant speculation as to possible solutions for Vonage Holdings. One possible work-around is an acquisition. Analyst Jon Arnold of J. Arnold & Associates believes Vonage Holdings may simply purchase a company like VoIP Inc., which operates its own telecommunications network and holds a variety of patents, some of which might help Vonage Holdings sidestep Verizon's patents. Another possible solution is intellectual property rights securitization through bonds also known as Bowie or Pullman Bonds.

Vonage Holdings Corp. would create a "separate, wholly owned, bankruptcy-remote subsidiary"—essentially a company within a company. Called Vone IP (for Vonage intellectual property), the entity would issue $250 million worth of bonds backed by the intellectual property of the Vonage brand. Vonage Holdings could pay a royalty fee of 5.5% to Vone IP to license the Vonage brand. This would be the same 5.5% of revenue the court has ordered Vonage Holdings to set aside to pay Verizon while it awaits its appeal. Vonage Holdings will have to wait two years for its US circuit court appeal, and according to 2007 and 2008 revenue estimates Vonage Holdings will set aside approximately 103.67 million for Verizon during those two years in addition to the 58 million it currently owes Verizon in back royalty fees.

Intellectual property bonds got their start with an unlikely financier: David Bowie. The rock star floated $55 million worth in 1997, backed by 287 song titles, with the interest covered by royalty payments from the songs. The ‘Bowie Bonds’ are asset backed securities of current and future revenues from the first 25 albums (287 songs) of David Bowie's collection recorded before 1990. Issued by David Bowie in 1997, they were bought for $55 million by the Prudential Insurance Company. The 287 included songs also acted as collateral to insure the bond. The Bonds were a ten-year issue, after which the royalties of the songs would return to David Bowie.

The principle of valuing intellectual property (IP) is to determine the future income associated with its ownership. Intellectual property is generated mainly through research, development, and advertising (IP generating expenses or IGE), making it hard to assess the effectiveness of IGE as the value of IP is generally independent of its cost. Determination of future income requires estimating the income due to the intellectual property in each of all future years over its life; i.e., the amount sold and the net income per unit after routine sales costs are deducted. If the intellectual property is used internally, then the savings due to owning it can be similarly estimated. The risk that intellectual property becomes obsolete is high, and reduces the current value. Without risk, future income is discounted by using a risk-free interest rate. Risks include unexpected competition, unauthorized copying, patent breaches or invalidation, and loss of trade secrets. With such risks, discount rates increase, based on the expected Beta coefficient. With high discount rates, sales that occur far in the future have little effect, simplifying the determination of the net current value of the included intellectual property.

Based on analyst from Haye Capital Group, the best possible bond structure would be a $250 million bond with a 3yr issue and a 5.5% yield. Note that Vone IP could end up paying a possible premium of two basis points on the current 5.5% court ruling giving their bond a yield as high as 7.5%. The bond could have a rating of Ba, with the calculated yield and rating due to the risk affiliated with owning this company’s debt while awaiting the outcome of their court appeal.

The company would create the payments in order to issue the bonds. Vonage Holdings Corp. would, in essence, create licensing income. First it transfers ownership of its brand’s name to Vone IP. Now, Vone IP charges Vonage Holdings Corp. royalty fees to license the Vonage brand and uses the royalties to pay the interest on the $250 million bonds issued by this intellectual property rights securitization. Vone IP sells the bonds to a wholly owned Vonage Holdings Corp. insurance subsidiary, where, like any other security on an insurer's books, it serves as protection against future loss. The insurer, meanwhile, protects Vonage Holdings Corp. from financial trouble by issuing either business interruption insurance or financial loss insurance—and because it's a captive insurance company, it does so at a lower premium than Vonage Holdings Corp. could get from an outside insurance company. The payments net out to zero because Vonage Holdings Corp. would own every piece.

An alternative for Vone IP is to sell the new bond issue to an outside insurance company for the $250 million which Vone IP could use to finance the court ruling of 5.5% of annual revenue, litigation costs, the possible acquisition of another player in Voip field, or use it as an emergency line of credit. They could also sell the bonds to an outside insurance company for a financial loss or business interruption policy for Vonage Holdings Corp. in anticipation of their court appeal. Concurrently Vone IP could work out licensing agreements with other Voip carriers to use its trademark to sell their voip service, creating another revenue stream from licensing fees to help offset potential Verizon fees and court costs.

Whenever stripping away valuable - albeit, intangible - assets from a company will only serve to make issuing old-fashioned debt more expensive for the company in the future. But, if the gain from the IP securities is greater than the fall in the old debt, then it is worth the risk. Vonage, which on April 24^th 2007, won a stay of an earlier decision barring the company from recruiting new customers, must now focus solidly on the future of the company while it awaits its patent infringement appeal. They are going to need to aggressively identify and execute alternative solutions to maintain their viability. Maybe the IP in VOIP should stand for intellectual property as Vonage fights to keep dial tone.

Elliot Wave Theory

This current market volatility is a great time to learn about the Elliot wave theory and how to look for it during this current bear stretch we are currently witnessing courtesy of the Shanghai index collapse on February 27, 2007.

The Elliott Wave Theory is named after Ralph Nelson Elliott. In the 1930s, Ralph Nelson Elliott found that the markets exhibited certain repeated patterns contrary to the chaotic perception at the time both past and present. His primary research was with stock market data for the Dow Jones Industrial Average. This research identified patterns that recur in the markets. These patterns trade in repetitive cycles, which he pointed out were the emotions of investors and traders caused by macroeconomic events or the predominant psychology of the masses at the time.

Elliott explained that the upward and downward swings of the mass psychology always showed up in the same repetitive patterns, which were then divided into patterns or as he called them, "waves". Very simply, in the direction of the trend both upwards (bull) and downwards (bear), expect five waves. Any corrections against the trend are in three waves. Three wave corrections are lettered as "A, B, C." These patterns can be seen in long-term as well as in short-term charts. Ideally, smaller patterns can be identified within bigger patterns. In this sense, Elliott Waves are like a piece of broccoli, where the smaller piece, if broken off from the bigger piece, does, in fact, look like the big piece. The recognition of smaller patterns fitting into bigger patterns, coupled with the Fibonacci relationships (another blog) between the waves, offers the trader a level of anticipation and/or prediction when searching for and identifying trading opportunities with solid risk/reward ratios.

The 5 – 3 Wave Patterns

Mr. Elliott showed that a trending market moves in what he calls a 5-3 wave pattern. The first 5-wave pattern is called impulse waves and the last 3-wave pattern is called corrective waves.

Here is a short description of what happens during each wave. I am going to use stocks for this blog since stocks is what Mr. Elliott used but it really doesn’t matter what it is. It can easily be currencies, bonds, gold, oil, or futures. The important thing is the Elliott Wave Theory can also be applied to the foreign exchange market.

Wave 1
The stock makes its initial move upwards. This is usually caused by a relatively small number of people that all of the sudden (for a variety of reasons real or imagined) feel that the price of the stock is cheap so it’s a perfect time to buy. This causes the price to rise.

Wave 2
At this point enough people who were in the original wave consider the stock overvalued and take profits. This causes the stock to go down. However, the stock will not make it to its previous lows before the stock is considered a bargain again.

Wave 3
This is usually the longest and strongest wave. The stock has caught the attention of the mass public. More people find about the stock and want to buy it. This causes the stock’s price to go higher and higher. This wave usually exceeds the high created at the end of wave 1.

Wave 4
People take profits because the stock is considered expensive again. This wave tends to be weak because there are usually more people that are still bullish on the stock and are waiting to “buy on the dips”.

Wave 5
This is the point that most people get on the stock, and is most driven by hysteria and a “me too” following. This is when the stock becomes the most overpriced. On the end of Wave 4, more buying sets in and the prices start to rally again. The Wave 5 rally lacks the huge enthusiasm and strength found in the Wave 3 rally. The Wave 5 advance is caused by a small group of traders. Although the prices make a new high above the top of Wave 3, the rate of power, or strength, inside the Wave 5 advance is very small when compared to the Wave 3 advance. Finally, when this lackluster buying interest dies out, the market tops out and enters a new phase, the ABC corrective pattern, typically caused by contrarians shorting the stock starting the corrective pattern.

A-B-C

The A-B-C wave correction pattern follows the 5 wave impulse pattern

There is only one pattern in a simple A-B-C correction. This pattern looks like a Zig-Zag . A Zig-Zag correction is a three-wave pattern where the Wave B does not retrace more than 75 percent of Wave A. Wave C will make new lows below the end of Wave A. The Wave A of a Zig-Zag correction always has a five-wave pattern. In the other two types of corrections (Flat and Irregular), Wave A has a three-wave pattern. Thus, if you can identify a five-wave pattern inside Wave A of any correction, you can then expect the correction to turn out as a Zig-Zag formation.

Wave B is usually 50% of Wave A and should not exceed 75% of Wave A

Wave C is either 1 x Wave A or 1.62 x Wave A or 2.62 x Wave A, in this wave the multipliers for Wave A are based off Fibonacci ratios

Elliott based part his work on the Dow Theory, which also defines price movement in terms of waves, but Elliott discovered the fractal nature of market action. Thus Elliott was able to analyze markets in greater depth, identifying the specific characteristics of wave patterns and making detailed market predictions based on the patterns he had identified. There have been many theories about the origin and the meaning of the patterns that Elliott discovered, including human behavior and harmony in nature. In fact, Elliott believed that all of man's activities, not just the stock market, were influenced by these identifiable series of waves. These rules, though, as applied to technical analysis of the markets (stocks, commodities, futures, etc.), can be very useful regardless of their meaning and origin.

The Cents in Downloaded Music

In the final week of 2006, Beyonce’s song “Irreplaceable” set a new record for a single digital track, selling 269,000 copies in one week. What exactly does that mean? Looking beyond the numbers, we see a clear shift in how downloadable music is perceived. It is now a viable metric in gauging the popularity of a single without the bias of the artist. Music is being judged and purchased strictly on its individual appeal and quality, which is refreshing after decades of being forced to buy whole albums containing three to four good songs and twice as many bad to mediocre tracks. Anonymous artists can compete with the big record labels and their stable of marketed artists through companies such as rumblefish.com and inGrooves.com, which provide distribution and licensing for these independent artists. Fortune 500 companies and Madison Avenue can shop at these web sites to find and license the music of these independent artists to feature in marketing campaigns just like mainstream artists’ music. It would make sense for an artist like Jim Jones who has the #1 downloaded rap single according to Billboard music, “We fly high”, but only sold approximately 267,000 units of his album, Hustler P.O.M.E., not even gold status according to industry standards. There are many artist like him that could generate a better return by promoting, selling, and licensing one single as opposed to putting that same effort and significantly more money into producing and subsequently promoting an entire album.

U.S. album sales continued to decline, about 588.2 million albums were sold in 2006 — a 4.9 percent decline from 2005. However, overall music sales increased by more than 19 percent in 2006, a number that includes all albums, singles, music videos and digital downloads. A closer look at the numbers shows where the growth in music really took place, the digital music landscape. Digital song sales grew 65% during 2006, reaching 582 million, according to Nielsen SoundScan. Digital album sales more than doubled from 2005, with 32.6 million albums sold, making up more than 5% of the 588.2 million total album sales. Digital song sales only trailed album sales by slightly more than 1%. If digital album sales are subtracted from total albums sales, then digital song sales are outselling albums. A discrepancy that can only be expected to grow as both cell phone/iPod users upgrade to the Apple iPhone, Microsoft's Zune gains traction, and cell phones capable of playing downloaded music become standard and more affordable.

Billboard magazine senior correspondent Brian Garrity said consumers are buying more single songs and fewer albums, and that makes it harder for the record industry to maintain profits. “At the end of the day, pop music is a singles driven business, so why would I want to buy a whole album?” Garrity said. Music has become a much more democratic process with the proliferation of iTunes, satellite radio, and ring tones. I wouldn’t be surprised if artists focused more on developing and selling singles as opposed to creating the traditional 12 to 14 track CD’s. The average consumer only listens to approximately 40% of the songs on their CD’s with the average music CD retailing for $14.99 (for the sake of this blog we will use an average of 13 tracks per CD) this breaks down to $1.15 per song. The average listener should spend $5.98 for the music they actually listen to, saving them $9.01 which is spent on unwanted or simply mediocre music. By contrast, individual songs are sold at $0.99 cents at the iTunes store and Napster.com, $0.88 cents at Walmart.com, while Yahoo offers a subscription service for $12 a month to their music library of 12 million songs. Those are numbers that the record labels can’t compete with. In the current digital age, you’re better off buying six songs from iTunes or Walmart.com that you’d be 100% satisfied with rather than wasting $9.00 every time you want a new song. And that’s without considering the amount of physical space you’re saving.

This information isn’t new however what is, is the proliferation of small companies like rumblefish and inGrooves that allow artists to distribute their most popular singles and make a comfortable living as one hit wonders as opposed to the traditional album distribution model. These are both digital media publishers and technology companies, which execute distribution, marketing and licensing services (music to television, films, video games, and ringtones). Making a compelling shift in how music is both sold and distributed in today’s web 2.0 environment, leveling the playing field for lower profile artist to compete with their more popular peers.

The Tax Beauty of an LLC

Every dollar earned in this country, the IRS wants a piece. It doesn’t care who pays it, as long as it gets paid. Problems only arise when the IRS doesn’t get its taxes. A good business attorney makes sure his client is paying the IRS all of the taxes required while finding ways to reduce that tax liability without breaking the law. For the sake of this blog we are dealing with a limited liability corporation (LLC), formed and based in Maryland for tax purposes. The LLC, we’ll call it the entity, is granted the limited liability benefits of a corporation without the double taxation detriment.

Double taxation is basically where a corporation is considered a taxable entity and thus has to file and pay a separate tax return from the owners, or shareholders. First, the corporation does all its accounting and gets its final operating profit before taxes. This is its taxable income and the number which the corporation has to pay taxes on. After calculating its net profits, the corporation can then pay the owners/shareholders a dividend, their percentage of the corporate profits, based on their respective shares of the corporation’s stock. If the corporation chooses not to pay a dividend, then the owners only pay taxes on their individually earned incomes, including any salary paid by the corporation. Thankfully, the owners’ salaries are subtracted before profits are calculated but this doesn’t save them from single taxation just double. However, if a dividend is paid it is added to the owner’s income for the year. In this manner, the owners pay taxes on that dividend, even though money comprising the dividend has already been included, and had paid taxes on it, in the corporation’s tax filings. An LLC does not have this problem.

An LLC does not pay taxes on its income. This is because an LLC is not considered a taxable entity by the IRS, rather, it is a “disregarded entity” and subject to pass-through taxation. Pass-through taxation means that any income generated by the LLC passes through the entity directly to the owner(s). The LLC serves solely as a conduit for the income generated by the owners while protecting them from liability. An important distinction to remember is that while an LLC is a form or conducting business, the IRS does not care what form you conduct your business in when it assesses your taxes. The IRS only cares if you made money and how much.

An example of this difference: John and Lucy form Tables LLC to sell tables. They own $10,000 worth of tables. If they are sued, the suit can only affect the holdings of the Tables LLC, the $10,000 worth of tables. Now, assume Tables LLC sells the tables for $25,000 – a tidy $15,000 profit. The IRS expects tax revenue from that $15,000. However, the IRS disregards the existence of Tables LLC when deciding who to tax. It only sees the LLC owners, John and Lucy. As far as the IRS is concerned, John and Lucy, not Tables LLC, made $15,000 and have to pay taxes on it – even if Tables LLC never actually writes a check to John and Lucy for that $15 grand. If Tables LLC was Tables, Inc. the IRS would expect Tables, Inc. to pay taxes on the $15,000 and John and Lucy would only pay taxes if they subsequently received a share of the income. Either way, someone, John, Lucy, or Tables, has to pay taxes on the $15,000.

Is your company in a similar situation? Someone has to pay taxes on the income, whether it’s you or your company. If you’re able to choose to have your company treated as a corporation, then your company has to pay taxes on the revenue, even if it doesn’t distribute it. If you’re taxed as an LLC, then your company doesn’t pay anything but you have all of the tax burden, regardless of if you pay yourself a salary or not. In fact, paying yourself a salary doesn’t do you any favors. You’re still exposed to the same tax consequences. This is why you need to start thinking of ways to reduce your tax exposure.

Here are a list of questions you need to think about. Some of them you probably already have answered but they just set the framework:

1) Is your company a LLC?

2) Am I the sole owner of this company?

3) What is the company filing as its income for this tax period?

4) What is a “disregarded entity” for tax purposes?

5) What is pass-through taxation?

6) Is your company subject to pass-through taxation?

7) Is there some legal reason that I am not subject to pass-through taxation for my company’s revenue?

8) How does pass-through taxation affect me and my company?

9) How does your state tax law differ from Federal tax law with regards to LLC’s and pass-through taxation?

10) What deductions and exceptions am I qualified for?

11) Does paying myself a salary expose me to double taxation?

12) Do I use a Schedule C, Form 1120 or a 1092 to file my taxes?

13) For Federal Purposes am I classified as a corporation?

14) Do I have to, or have I, file/d a File Form 8832

For more information please read these articles, particularly the sections regarding taxes:

http://sbinformation.about.com/gi/dynamic/offsite.htm?site=http://www.score.org/guest/archives/gumpert.html
http://sbinformation.about.com/cs/ownership1/a/LLC.htm
http://www.irs.gov/pub/irs-pdf/p3402.pdf
http://www.irs.gov/businesses/small/article/0,,id=137016,00.html

For more on this please check out my book Millionaire in the Basement due out in 2007.

How the NFL Blitzes in Business, Part 3

Continued from How the NFL Blitzes in Business, Part II

I suppose your next intelligent question is: “Sure it’ll be more expensive, but since the cable company is going to past the cost on to the subscriber, why don’t they just give in to the NFL Network?” Actually, the NFL Network is just the latest form of an old problem for cable companies. Cable operators have been wrestling with big TV sports money issues for years: Should they put sports channels on sports tiers–making only the interested portion of their subscribers pay extra fees for it, or should they foot the cost and make all subscribers pay? The problem is that sports are way more expensive–especially the NFL. In addition, under the terms that the NFL is offering the cost would not be borne only by those watching the games, but by the majority of cable subscribers.

One way to phrase the issue is: “Why do those sports subscribers, mostly men, have to pay for channels like E!, HGTV or the Food Network, which for the most part they’ll never see?” The answer isn’t that the cable companies won’t let you buy the channels you want to watch. They would but the content providers don't allow that. Large media companies, like Disney, force cable providers to accept predetermined packages to get the best channels. Allow me to demonstrate. ESPN is one of the more popular channels offered on cable television, it is also owned by the Disney corporation. Disney, recognizing their leverage, doesn’t allow the cable companies to just offer ESPN, instead the cable company must also force Disney’s other channels onto subscribers, channels like ABC Family, the Disney Channel, and for those who didn’t want ESPN in the first place, ESPN2. FOX uses similar channel packages, including the FOX Sports Network, FX, etc., as does TNT and Viacom.

There are pluses and minuses to this system. One important plus is that cable providers can negotiate lower overall rates for these channel packages, then bundle the programming together so that people are able to get the most popular channels at a reduced cost. The NFL Network doesn’t have any other channels to offer that could be included to help defray some of the costs included with providing their channel to the masses. This means that cable providers have to absorb the full cost of the NFL Network’s programming. Unfortunately, the price for the eight live games is just too great for the cable providers and their concern is that this is only the beginning. If they passed the cost of these eight games on to the subscribers, it would only encourage the NFL and the NFL Network to continue offering games but an additional fee basis. Look at the success of boxing and with their pay-per-view model, which eventually destroyed the popularity of their sport. Now, Brian Roberts, chairman of Comcast Corp., is so perplexed by the situation he wants to organize an industry summit to hash out differences. Roberts is also worried other sports leagues/groups will take a similar tack. For example, the U.S. Olympic Committee is considering its own 24-hour network. Even then, Olympics sports would conceivably be priced more reasonably than the NFL. The ability to generate additional pay for premier events is the kind of leverage all sports leagues would like to have–especially when it comes to getting paid from cable operators.

The NFL Network is currently available in about 40 million of the 111 million homes with TVs, not bad for a three year old network. In comparison, ESPN, which airs Monday night games, is available in 92 million. It would seem that the cable companies should offer the NFL Network as a stand-alone option, not part of an expensive, take-it-or-leave-it package. However the cable operators feel they have largely lost their football audience due to the NFL's decision to give exclusive viewing rights of its NFL Sunday Ticket to DirecTV, which allows the company to air up to 14 out-of-market regular season games every Sunday. As such, they don't feel overly inclined to add the NFL network to their basic programming at a premium price.

With the NFL having grand ambitions with its own network, could NFL Sunday Ticket become a bargaining chip with its service providers? That's clearly conjecture at this point, but opening up Sunday Ticket, once the DirecTV contract expires in 2010, to all providers in exchange for having the NFL Network widely available across all providers on a basic tier could be advantageous to both cable operators and the NFL.

Before the broadcast of the first game, the NFL was trying to urge cable networks to pick up the channel. The big issue, however, is cost and tier placement. The NFL wants the network available to the widest available audience, while charging cable companies a hefty price per household. Cable operators, meanwhile, want to offer the channel on one of their premium tiers. So far no resolution has been reached.

How the NFL Blitzes in Business, Part 2

Continued from How the NFL Blitzes in Business, Part I

Ultimately, the team owners came up with a compromise. The players would receive at least 60% of every team's revenue, which resulted in a bigger pool for the salary cap. But this caused a problem for the lower-revenue teams, like the Buffalo Bills and Jacksonville Jaguars, who might see 70% of their revenue going into player salaries while the New England Patriots and Washington Redskins would be spending only that 60%. So to try and make up the difference, the owners agreed that the 15 highest-revenue teams would pay equally into a pot totaling $30 million to be redistributed to the 17 poorest clubs.

It only adds up to a couple of million for each small-revenue franchise but other concessions were made. At the same time, the owners agreed that the 15 larger teams would also give up their profits from the league's new media ventures and share that money with the smaller-market teams as long as those small-market clubs dedicated at least 65% of their revenue to player salaries.

Unfortunately, some of the small-market teams still feel left out in the new contract, unsure how a trickle of money from the richer clubs is going to help them catch up. The potential solution is to aggressively generate revenue from any new media ventures and to squeeze more revenue out of the existing media properties. Hence, the bolstering of the NFL Network by adding those eight Thursday and Saturday night games.

Those games that are being shown semi-exclusively by the NFL Network can be directed at a wide variety of media as exclusive content that FOX, CBS, NBC, and ESPN can’t duplicate. The NFL Network will help feed content to the Internet, cell phones, iPods and whatever else has yet to be invented. These various new media connections, when filled and under the NFL's control, have the potential of becoming viable revenue streams for all NFL team owners.

"There's going to be peaks and valleys and some acceleration and deceleration [in new media]," said David Katz, the head of sports and studios at Yahoo!, which currently streams NFL games on the Internet overseas. "The NFL has proven to be the best at exploitation and management of their assets. I have no doubt they will continue to be good at what they do." It's a delicate balance. The NFL needs its revenue quickly to try and fill some of the gulf between big- and small-market owners, but moves cautiously in the ever changing new media markets.

No one really knows how much revenue could be generated because no one has a grasp on exactly what forms and opportunities the new media will present and partially because the league is only starting to cut deals in this new media world (adding games to the NFL Network, signing contracts for podcasts, cell phone telecasts, and just last month, the owners voted to operate the league's Web site, NFL.com, themselves – previously CBS SportsLine held the contract).

"We hope that [new media] will be a real contributor and hopefully it will ameliorate some of that" big-market/small-market tension, Jeff Pash, the NFL's executive vice president, said recently after testifying before a congressional antitrust hearing. "And also by bringing it in house we can keep that revenue as a league asset and share it equally among the 32 teams as opposed to having yet another revenue source that exacerbates revenue disparities between teams."

Or as Broncos owner Pat Bowlen said, "If [the media money] is coming from a league-owned asset, then it will be easier to cut it up and give it to the smaller market teams rather than to just take it from the higher-revenue teams." Those previously mentioned eight games will be used to generate that media money. One question down!!!

Concluded in How the NFL Blitzes in Business, Part III

How the NFL Blitzes in Business, Part 1

Here’s a surprise, the NFL is not primarily a sports league – it’s just another business with football as the product. Once you realize this, you’ll be prepared to understand the reasons why many of us can’t see Thursday and Saturday night football games and those reasons will shock you. There is much more to it than the greed of the cable company vs. the greed of the NFL. The most important component is the possible change in content from the traditional buffet model, where the cable company gives you a channel package with channels you like and some you don’t, to an a la carte model, where you tell the cable company what channels you want in your package. The probable long term effect of the NFL Network’s position is a challenge to cable’s status quo and content providers asking why can’t the customers pay for just the channels they want? Verizon’s IPTV will allow customers to pick and pay for the channels that interest them and their households. This seems to be the future of subscriber based television.

As the pre-eminent sports league, bringing in big ratings and bigger advertising revenue, the NFL Network now wants placement in everyone’s homes while providing just 20 hours of new programming for an entire year. Those 20 hours consist of 8 late-season football games. That doesn’t sound like a lot of extra programming–especially for a year-round, 24-hour network…and there’s the rub.

The NFL Network wants cable companies such as Charter Communications and Time Warner to carry its programming as part of their basic cable package. The cable companies say such an arrangement would hike the cable rates of all its subscribers, which they contend would be unfair to customers who have no interest in the NFL Network. The NFL Network wants to force its way onto basic cable so it can reach more viewers and charge higher advertising rates. That’s in addition to the hefty fees the NFL Network already charges cable companies to carry its programming.

Originally, the NFL Network charged cable providers $0.20 per subscriber to carry the channel but this was before they added live games to their broadcast schedule. The addition of live games raised that cost to $0.70. That’s a 250% increase – outrageous! When the additional costs are added together, the cost to each subscriber rises from approximately $0.57 to $2.00 per subscriber per month (Note: the per subscriber cost varies among cable providers with the range being anywhere from $1.00 to $2.00, for this blog we took the high end of the range, $2.00). If the NFL Network remained a premium channel, then only the subscribers interested in that content would pay that higher rate. Once they become a basic cable channel then every subscriber would be forced to absorb that cost and add 24.00 dollars annually to those already high cable bills. Thus, if the cable companies were to accept the NFL's terms, the NFL Network would immediately vault to being the third or fourth most expensive channel on the dial.

The first question you might want to ask yourself is: “Why is the NFL adding such expensive fare to their channel?” The easy answer is that since they are the NFL Network, they should probably be showing NFL games. Like I said – that’s the easy answer. Here is what actually led to the additional eight games. The owners of the smallest-revenue NFL teams felt they had fallen far behind those of the biggest money-makers. See, the NFL tries to ensure team economic parity but even though all the teams equally share the league's enormous television and licensing contracts, in addition to being further restrained by a firm cap on player salaries, the disparity between big-market and small market teams was showing itself in other ways. An obvious example is that franchises in bigger markets could generate money from suite sales that smaller-market teams couldn't touch…I’m sure you can think of others.

Continues in How the NFL Blitzes in Business, Part II (01/02/07)

Euro/ Yen Hedge for a weak Dollar

The monetary pendulum is never-ending. Remember just a few years ago we had to impose steel tariffs to save the U.S. steel companies, who were struggling with record low steel prices. The losers were the auto companies and their suppliers. Now the auto companies and their suppliers are clamoring for a weak dollar and Asian currency appreciation to relieve them from the outrageously record high costs of steel and copper wire. And to top it off, although the broad steel tariffs were repealed, "anti-dumping" duties up to 40% on corrosion-resistant steel remain in force, so steel users are paying up to 40% more on top of already record prices.

Yet with interest rates relatively low in America , relative to Europe, and the American economy slowing (housing and autos – the biggest sectors linked to almost everything else – are both in trouble), global investors are taking their money out of dollars and putting them into euros, British pounds, and Japanese yen. Result? The dollar continues dropping. As a further result, the Chinese (who hold more dollars than almost anyone else) are losing lots of money. Hence, it will make more and more sense for the Chinese to stop buying dollars, start selling them, and allow their currency to rise relative to the dollar.

But if the Chinese start selling their dollars and push the value of the dollar down even more, doesn't that hurt their export industry which they rely on so much? So, you see the conundrum this obviously presents. The dollar traditionally starts the new year with a rally but this current dollar is more unpredictable than those past examples. This is particularly troublesome if you are trading in the U.S. dollar, because you already have an exposure to this current unpredictable dollar. If you are going to hedge with currency, you want to hedge against that unpredictability. The necessity for a currency hedge with little to no exposure to the U.S. dollar makes sense and the strongest currency pair would be a Yen::Euro pair. The Yen::Euro pair trades on a much narrower trough and has minimal exposure to the US dollar.