Arthur F. Kirk, Jr., President of St. Leo University and Director of John G. Ullman & Associates, Inc. was recently inducted into the Tampa Bay Business Hall of Fame. Dr.Kirk has been a member of the JGUA Board of Directors since 2007. He lent his expertise on many projects within the firm, including facilitating our most recent Strategic Planning process.
We applaud Dr. Kirk on his most recent achievement.
We believe that the U. S. economy has been showing some positive signs of a very modest recovery. Under a scenario of continuing economic progress, we think that our equity markets are presently attractive.
There are, however, many things that could derail this favorable trend. The fiscal problems in Europe are vast and not easily solved. A default in Greece or elsewhere could easily have a domino effect that could be devastating to the worldwide economy. Even if Germany substantially backs Greece, we expect that other countries (ie Italy, Spain, Portugal, Ireland, and Iceland) would want similar favorable treatment, the sum of which is beyond the European Union’s capacity. These concerns have tempered our moderate market enthusiasm and have us continuing a reasonably cautious approach.
There are of course enormous fiscal problems here, as well. The incredibly huge ongoing federal deficits and massive unfunded entitlements plus major long term balance of trade shortfalls represent very major challenges. Rather than address these economic threats, we are likely to continue to defer actions, as the political pain from higher taxes, lower spending, and at least a somewhat reduced standard of living are more than candidates for office will accept. These severe problems are real and will ultimately be probable risks to the value of the U. S. Dollar, and the onset of much higher interest rates and inflation.
While investment markets always reflect risks from a wide variety of areas and “surprises”, we see the situation and developments in Europe as being particularly important in the near term. If we were more comfortable with the probability of a satisfactory outcome, we would increase current equity allocations.
The IRS encourages charitable giving by allowing a tax deduction for such. However, there are strict acknowledgement/substantiation rules that must be followed. As you begin to gather information for your 2011 personal income tax return, the following will help you determine the requirements for taking a deduction for donations made over the past year and for the future.
Acknowledgements
You are expected to have an acknowledgment from the charity by the time you file your return for the contribution year to claim your deduction. If you don’t have it by April 15th, a filing extension can give you a little extra time to receive the acknowledgment. In the event that you file your return late, you can claim a deduction only if you can prove you had the written acknowledgment in hand by the filing deadline, including any filing extensions.
Here’s what you need from charitable organizations to claim your deductions:
Cash donations of less than $250. All donors of charitable contributions by cash, check, or other monetary gift must retain records that each charitable contribution was actually made, regardless of the amount. To fulfill this burden, a donor has two choices on what paperwork to retain:
Donations of clothing and household goods
All donations of clothing and household goods are subject to all of the regular rules on substantiation, plus the taxpayer must prove that they are items in at least good condition. Only clothing and household goods in good condition or better qualify for a deduction.
There is only one exception to the “good-or-better” quality exception:
Keep in mind that the fair market value of used household goods, such as furniture, appliances, and linens, is usually much lower than the price paid when new. Similarly, used clothing and other personal items are usually worth far less than the price you paid for them. Valuation of items of clothing does not lend itself to fixed formulas or methods.
Vehicles and boats
Donations of vehicles and boats have their own special rules. Any vehicle not used by the charity cannot be claimed as a deduction in an amount greater than the amount for which it is sold by the charity (generally the wholesale price, or lower). To evidence this, the IRS implemented the use of the Form 1098C, Contributions of Motor Vehicles, Boats or Airplanes. The charity to which you donate your vehicle must report its receipt and sale or gift of the vehicle to the IRS using this form. Additionally, to claim a deduction for the gift of the vehicle, you must receive a copy of this form from the charity, and submit it with your tax return. There are significant time constraints under which the charity must provide you with this form, although some lenient transition rules are currently in place. If you donated a vehicle to a charity, or are considering doing so, please call our office so we can help you get that deduction.
Payroll deductions
Special rules apply to contributions made to an organization by payroll deduction. You won’t have to worry about getting any special acknowledgment from the organization, unless you have $250 or more withheld from any single paycheck. And, even in that case, you will be able to substantiate your contribution with pay stubs, your W-2 form, or any other document from your employer showing the amount withheld, and a pledge card or other document stating that the charity didn’t give you goods or services in exchange. It’s even OK for your employer to prepare the pledge card under the direction of the charity.
Larger gifts
There are additional recordkeeping rules for larger gifts of property. If you plan any unusually large gifts, there are a number of other complicated limitations that apply, and there are many sophisticated ways to structure your contributions so that both you and the organization get the maximum benefit. For example, for property valued at more than $500, you must include with your return a written description of the donated property and such other required information as the IRS may require. For property valued at more than $5,000, you also must obtain a qualified appraisal. If your contributions of property are valued at $500,000 or more, you must attach the appraisal to your return.
As you can see, claiming charitable deductions can be very complicated. Please call us if you aren’t clear about what you will need in order to claim deductions for your contributions.
With the end of the 2011 tax year fast approaching taxpayers should be thinking about year-end tax planning. Below are a few tax tips to assist you in making the right moves between now and the close of the year.
Individual Tax Planning
Donations to qualified charities, whether made via cash, check or other monetary gift need to be substantiated with the proper documentation. A charitable gift of $250 or less needs to be accompanied by a bank record or a receipt received from the organization. For a gift of $250 – $5,000 you will need to obtain a written communication from the charity stating the name and address of the organization, date of the contribution, amount of the contribution and description of the property for each donation. If the donated item is worth more than $5,000 you will need to obtain a qualified appraisal of the item in order to take it as a charitable deduction.
Non-business energy property credits – For 2011 improvements, the maximum credit allowed is $500, reduced by the total of all non-business energy credits taken for 2006 through 2010. In addition, the credit allowed for qualified windows is limited to $200, reduced by credits for windows taken from 2006 through 2010.
A number of tax extenders are scheduled to expire after December 31, 2011. They include:
Seniors age 70 1/2 and older should consider making a charitable contribution directly from their IRAs up to $100,000 and paying no tax on the distribution. This tax break, especially advantageous to those who do not itemize deductions, is scheduled to end for distributions made in tax years beginning after December 31, 2011.
The traditional year-end strategy of income shifting applies to year-end 2011 but with an extra twist. Under traditional strategy, you time your income and deductions so that your taxable income is about even for 2011 and 2012 so your tax bracket does not spike in either 2011 or 2012. If you anticipate a higher tax bracket for 2012, you may want to accelerate income into 2011 and defer deductions into 2012. If you anticipate a leaner 2012, income might be delayed through deferred compensation arrangements, postponing year-end bonuses, maximizing deductible retirement contributions, and delaying year-end billings. The twist for year-end 2011 is the uncertain future for tax rates after 2012. Many political observers forecast that higher-income taxpayers will be asked to pay more, either through higher tax rates or more limited deductions. That may suggest a strategy in which income is not deferred but is recognized now at lower tax rates still available in 2011 and 2012.
Investment Tax Planning
Investors having excess capital losses from recent stock market declines may now carryover those losses to offset capital gains that would otherwise be taxable.
Of concern to many taxpayers is whether the maximum tax rate for capital gains will rise from 15 percent to 20 percent or higher after year-end 2012 because of the scheduled expiration of the Bush-era tax cuts. Since long-term capital gains are only available on stocks and other capital assets held for more than one year, a capital asset must be bought on or before December 30, 2011 in order to be sold in 2012 and guarantee qualifying under the lower capital gains rates. We can help you coordinate your year-end trades with these tax variables in mind.
Estate Tax Planning
The current estate tax through 2012 is set at a maximum 35 percent rate and a $5 million exemption amount. Many experts predict after 2012 that Congress will lower the exclusion to $3.5 million and raise the top rate to 45 percent. In light of this possibility, lifetime gift-giving, ideally on an annual basis, should continue to form part of a master estate plan. The annual gift tax exclusion per donee on which no gift tax is due is $13,000 for 2011 (and, again, for 2012), with $26,000 allowed to each donee by married couples. Making a gift at year-end 2011 to take advantage of this annual, per-donee exclusion should be considered by anyone with even modest wealth.
I have been involved in the tax profession for close to twenty years and the question that I hear time and again is “How long do I need to keep this stuff?!”
It has always been a tricky question to fully answer until I discovered IRS Publication 552, Recordkeeping for Individuals. This publication discusses why you should keep records, what kind of records you should keep, and how long you should keep them. It is quite user friendly (from my perspective) and I would not hesitate suggesting you use this as a resource when you are trying to clean up old records or to just get a handle on what records you should be keeping.
Please do not hesitate to contact me with any questions or concerns. Happy Sorting!
Valuation relative to comparable companies
Corning Inc. is a materials company with world class expertise in the research and production of specialty glass, ceramics and related polymers and maintains a substantial patent portfolio. Glass is an interesting material with many different applications in our society and Corning sells multiple products, including LCD TV/monitor glass, Gorilla glass for touch screens (smart phones/tablets), ceramic filters for exhaust from cars and trucks, fiber optic cable and multiple life science products that provide more than $6 billion in revenue. The management team recently announced a plan to grow revenue to $10 billion by the end of 2014, as a result of current and expected strong growth in all segments. With a sizeable amount of cash, corporate acquisitions are also possible. There is no equivalent U.S. Corporation to successfully compare financial ratios with Corning. Prior to the development of Fiber Optic cable, Corning was known as a consumer company. In the late 1990’s they were known as a telecom equipment provider and compared with companies like JDS Uniphase, Nortel, and Lucent. Now that the LCD business provides the majority of profits, the stock has become highly correlated with AU Optronics and LG Display, two foreign based LCD panel manufacturers. However, the panel manufactures have razor thin gross margins that are sometimes negative and Corning’s LCD business has gross margins that are the envy of almost any corporation (still near 60%). Gross margins at the LCD glass joint venture, Samsung Corning Precision are 75%. Although the growth profile of the panel makers and LCD glass producers should be similar (based on customer demand of TVs and monitors), the profitability of the two parts of the supply chain are night and day different. Up to this point, Corning has done an excellent job with reducing manufacturing costs in line with LCD glass price declines. Corning has maintained a pricing strategy the last few years of modest declines, risking a loss of market share and increasing the threat of a substitute technology. The low price of Corning’s stock may be predicting a major loss of profitability in the LCD glass business based on lower than expected end consumer demand but so far we have not seen any significant change in glass pricing. The Display Technologies business division accounted for 95% of the net profits for the year 2010, in the first quarter of 2011, the percentage was down to 89% and for the second quarter of 2011, it was down to 87%. It is worth keeping an eye on the strong growing Gorilla Glass product in the Specialty Materials business segment, which had no net profit in 2010 but went from 1% of profits in the first quarter of 2011 to 3% of profits in the second quarter (Q2 revenue in the segment grew 11% sequentially and 125% over the same quarter in 2010). We have also seen improved growth at the Telecom (Fiber Optic Cable) division, which finished 2010 with 3% of the profits, but delivered 6% in Q1 and Q2 of this year (Q2 revenue up 16% over Q1 and up over 24% from Q2 of 2010).
Profit Margins and JV impact to P/S Ratio
In addition to their operating segments, Corning has two significant 50-50 joint ventures, Dow Corning (50% owned by Dow Chemical) and Samsung Corning Precision (43% owned by Samsung and 7% by other investors). The joint ventures accounted for more than half of pre-tax earnings in 2010, which is a very large percentage compared to other U.S. corporations (the vast majority have no joint venture income). The difficulty with large joint ventures is the meaningful impact to key financial ratios. Equity method accounting rules require all 50-50 joint venture owners to exclude revenue and operating expenses from the income statement and all assets and liabilities from the balance sheet. Foremost, as one looks at the income statement, which is fairly important for determining a good investment, there is the strange backward occurrence of having an operating margin that is much lower than net profit margin. For 2010,Corning’s operating margin of 27% was half of the net profit margin of 54%. How is this possible? It is due to the fact that the joint venture equity earnings (net profit) hit the income statement as pre-tax earnings with no corresponding tax due. While net income is the correct value, the effect on the income statement is a much lower revenue value (no JV revenue) and a significantly lower tax rate (JV earnings are not taxes). Corning has a price to sales ratio of 2.7x, which would be considered a bit high if you did not know that the ratio does not include 50% of Dow Corning’s 2010 revenue of $6 billion and 50% of Samsung Corning Precision’s 2010 revenue of $4.86 billion. If you add the extra $5.43 billion (Corning’s 50% share) in joint venture revenue the P/S ratio dips to 1.5x, a much more attractive multiple. As of the end of June, 2011, Corning’s trailing twelve month revenue is $7.3 billion for a total revenue number of $12.7 billion, including the joint ventures. Corning also has significant tax loss carry forwards resulting from the telecom collapse of 2001 that were recognized through 2010, keeping the tax rate around 4% or lower during the last few years. The tax rate has jumped to between 13-14% so far this year. Corning currently has a corporate gross margin of 45%, which is likely to come down as they achieve their goal of $10 billion in revenue by the end 2014. It is important to understand all business segments and joint ventures to determine a net profit margin in the future since the strong growing businesses may not have the profitability level of the LCD business.
Cash Flows and DCF valuation
Since the joint venture earnings are non-cash (Corning does not receive any cash unless dividends are paid out), they (JV earnings) must be subtracted from net income to determine cash flow from operations, which greatly reduces cash flow. Corning reports the net effect of joint venture income minus dividends received as a subtraction to Cash Flow from Operations. Any valuation model that uses free cash flow as an input will likely undervalue the stock. Many astute investors look at the price to cash flow multiple and since operating and free cash flow are lower due to the joint venture accounting, the ratio is going to look expensive. Both Dow Corning and Samsung Corning Precision have a history of increasing dividend payments. The more dividends paid out, the more cash Corning receives. Specialty glass making is a fairly capital intensive business and Corning spends a bit more than $1 billion each year on capital expenditures. In the past few years, the majority of expenditures are for expanding LCD glass making capacity and more recently ramping up the high growth of Gorilla Glass. In the last decade,Corning spent billions on major fiber optic plants; therefore free cash flow generation has never been exceptional. If there is one investor complaint concerning Corning’s specialty glass business, it is the need for substantial capital spending. Using a three stage discounted cash flow (DCF) model, with the current expected 11% EPS growth rate, declining over 13 years to a mature growth rate of 5% and applying a weighted average cost of capital of 10%, the present value of the equity per share is $25. This value is more than 2x the current stock price.
Historical P/E Ratio
The most common method to determine a target stock price for GLW is to apply an earnings multiple (P/E) to the expected earnings per share. If you take a look at Corning’s historical P/E ratio, excluding the internet bubble when the stock price went from $110 to $1.10, the average ratio is between 14 and 16. The only time in the last two decades that is was lower than the current value is when the stock hit $7 during the depth of the last financial crisis in late 2008. That was a pretty good time to buy since the stock quickly went to the lower 20s as the entire stock market recovered. At a stock price of $12.5 at the end of September, the P/E based on trailing earnings is under 6 and the P/E on expected earnings is 6.2. Either the current stock price is too low or earnings expectations are too high from the average of 20 analysts that publish an estimate for future earnings.
Current P/B Ratio
A more insightful test is to measure the current stock price against last quarter’s book value per share. A P/B ratio below one is a very attractive signal if the book value net worth of the company is considered accurate. Corning has made substantial progress with increasing total shareholder equity, after bottoming out at $3.7 billion at the end of 2004; it reached $19.4 billion at the end of 2010 and is currently at $21.3 billion at the end of the second quarter of 2011. This latest value is above the current market value of equity as of the end of September ($19.6 billion or $12.50 per share using 1.57 billion shares outstanding), resulting in P/B ratio of 0.93. The consensus analyst expectation is for Corning to grow more than 10% annually for the next five years. The market price is either predicting that Corning is going to have negative growth to destroy book value or the book value of their assets and liabilities as currently measured is too high. I personally believe the values on the balance sheet are conservative and it is a very attractive opportunity to purchase shares of GLW below book value. In summary, the stock appears to be undervalued based on many different valuation approaches. It may get even cheaper, but the probability is pretty good that patient investors will be rewarded with above market returns.
From an investment perspective, many corporations are continuing to do surprisingly well. Valuations in the market are historically low to moderate, providing attractive investment opportunities. Housing and consumer spending are likely to be long term problems, placing ongoing pressure on their respective industries. Areas of growth are likely to center around innovation, particularly in certain technologies.
Additional segments that appear attractive to us include Infrastructure, where there is great need and jobs will be most easily generated, and Health Care where unit volumes will grow very significantly, with structural changes in businesses needed to offset pressures to greatly reduce prices. We are also positive on growing economies in the Americas and Asia Pacific in the Foreign Sector.
There will be other opportunities based on underlying Value, potentially in natural resources and companies where the market has discounted futures.
With the artificially low interest rates, accepting the current situation with patience is our recommended approach, maintaining short to short intermediate maturities of generally high credit quality instruments.
While we are facing uniquely challenging times and political dysfunctionality, there are opportunities attractive to us for investors who have a disciplined and highly analytical approach. Market volatility is likely to remain high and an overall cautious strategy with targeted investments summarizes our current approach.
We are in very challenging times where individual and narrower interests are significantly in conflict with what might be seen as goals for our country. It is unfortunately clear that our nation’s fiscal house is and will be facing serious problems: a vast and ongoing Federal Budget Deficit; continuing significantly negative trade imbalance; extraordinarily high unemployment levels (9.1% reported but most likely in excess of 15% including discouraged, underemployed, and other categories); severely depressed housing and real estate markets; and historically record low interest rate levels.
We have laws that provide better benefits to companies doing business from overseas than those based in the U. S.; immigration rules that force highly talented and educated people from foreign countries to involuntarily leave this country (and then compete with us from outside of the U. S,); and most significantly, “entitlements” that are incredibly under funded. If the rating agencies use an analytical process to evaluate the credit worthiness of the U. S., given the current deficit levels, debt burden, and pending vast entitlements, it would seem that the current ratings would not be possible to be supported by math models.
To resolve these demanding problems, we need leadership that will truly look toward the National Interests, in reality, and over and beyond narrow special interests. Unfortunately, with instant technology and communication, both of our political parties are more interested in seeing the other fail than have our country succeed.
It may not be popular to state what appears to be obvious. Solutions will make nearly everyone at least somewhat unhappy. To move toward a fiscally prudent path, many changes, virtually all highly unpopular, will be needed.
Spending levels will need to be dramatically reduced, taxes will need to be raised, and Social Security and Medicare will need to be reduced in overall costs (means testing, age to access, and with major changes in our health delivery systems). Most politicians are taking very strong public stands, looking to score points with their constituents as being more important than solving problems.
What does all of this have to do with our current investment environment? A great deal, probably more than many realize. In my next blog I will give you a brief look into the investment environment; the opportunities and challenges we see currently exist – particularly during these turbulent times!
We all know the importance of money in our day to day lives. Working for a firm that prides itself on its ability to deliver comprehensive financial management, makes me acutely aware of the necessities of proper financial stewardship. However, as necessary and important as our financial assets are, it’s the people in our lives that are more important. I’m reminded of that now, as we reflect on the 10th anniversary of 9/11/2001.
As a kid growing up in the New York City area, my family would make periodic trips to visit the construction site of the seven buildings that would one day make up the World Trade Center. My imagination was captivated as I was lifted up to a knot hole in the blue painted plywood that surrounded the site. I remember peering down into this massive pit (which would eventually be a train station and shopping plaza built below the towers) stunned by how small the trucks at the bottom looked. I remember thinking that this hole in the ground would one day be a building taller than the Empire State Building! We stopped visiting the site once the two towers breached the NYC skyline and was clearly visible from the Long Island Expressway and the upper deck of Shea Stadium.
They say there are no more than seven degrees of separation between all of us on this planet. But like most New Yorkers, only one or two degrees separate us from knowing someone who died or people that walked out of Manhattan wearing a layer of pulverized cement.. I am no exception. Both of my brothers were evacuated. My older brother Jim was working for the MTA at the time, and had an appointment with Port Authority officials on the 78th floor of the North Tower which was to be later that morning. My younger brother Dan worked a few short blocks away, and was part of the exodus of the stunned and bewildered, fleeing the unthinkable destruction that lay behind them.
Of the 2,733 people that died at the towers, six were from my home town of Dix Hills, NY. Of those six, two were my high school friends and classmates.
Chris and Carolyn were high school sweethearts. I met Chris while in High School, but have known Carolyn since the 1st Grade. When I ran into them at our 10th high school reunion in 1993, they were married and had just returned from a job assignment in Tokyo. They came back to New York to start a family. Chris had just accepted a new position as a Bond Trader for Cantor Fitzgerald. His new office was on the 105th floor of the North Tower. He was on top of the world.
Tom was another classmate I reconnected with at our 10 year reunion. .After High School, he attended Ithaca College and was a star lacrosse player. He had moved to Manhattan and took a job with Sandler O’Neil & Partners at the World Trade Center. Later that year, he would be part of the evacuation from the towers when they were attacked in the 1993 truck bombing. At the end of our evening, our graduating class took a group photo, and Tom and I were together in the center of the photo. His office was located on the 104th floor of the South Tower. He too was at the top of the world.
At my 20 year high school reunion, Tom and Chris were not there. A make shift memorial on one side of the room changed the dynamic of this celebration. Even though two years had past since 9/11/01, the mood was somber, and the wounds felt fresh. That night Carolyn joined me in the parking lot to get some air. We chatted a while and talked about the two children Chris had given her, and the brief call she had with Chris moments before the North Tower collapsed.
I am in New York often and still make periodic trips to the World Trade Center. I peer into the pit and watch the construction as I did 40 years ago, only this time not with the boyish enthusiasm of a child, but with a calm sense of pride as rememberance as we try to set our world right again. On my last visit a few months ago, 1 World Trade Center prepares to breach the skyline as it approaches 80 stories. In two years time, I will be attending my 30th HS reunion. I look forward to my drive to NYC and seeing a restored skyline and my old friend Carolyn. reflecting the entire trip on what’s truly important in my life.
Hurricane Irene killed at least 18 people, caused more than an estimated $3 billion in damages and left more than 4 million homes and businesses without power. For those affected, there are a few things to keep in mind as you begin to put everything back together:
Insurance: If you have not already done so, be sure to contact your insurance carrier right away. Take lots of pictures of damaged structures and personal property. Insurance carriers are mobilizing and bringing in adjusters from all over the country to help out with this disaster. Familiarize yourself with your insurance policy so that you know what might be covered. Some policies specifically exclude damage from flooding. However, that same policy may cover losses from water that gets into a house due to damage done by wind. Also be sure to review any appeal rights that you have should you not be satisfied with an adjuster’s assessment of your damages.
Home Repair Scams: Complaints regarding contractor fraud went through the roof following Hurricane Katrina in the affected areas. The most common complaint involved contractors who insisted on large upfront payments but then never showed up for work. Authorities recommend you take the time to check a contractor’s credentials and references. Also, ask to see the contractor’s driver’s license. Copy down the contractor’s driver’s license and license plate information. Look for complaints with the better business bureau and attorney general’s office and search online sites such as Angies List for complaints against the contractor you are contemplating hiring. In addition, watch out for the following:
- Any contractor who claims to be backed by the federal government. FEMA does not endorse contractors or companies.
- Any contractor who does not have proof of license, liability insurance or workers compensation insurance or appropriate bonding. Always ask to see and be provided with these documents. Hiring contractors that cannot provide this documentation can open you up to liability should something happen on the job site.
- Any contractor who demands to be paid a large percentage of the entire job up front. Contractors may require some modest deposit to start the job. However, you should not pay a large percentage of the contract price until a large percentage of the job has been completed.
Taxes: Don’t forget that there may be some tax benefits from losses sustained on personal or business property. Keep all receipts, pictures and estimates of damages. Keep a record of all insurance payments and keep track of the damaged things those payments were supposed to cover. There are limitations on amounts you can deduct as losses on your tax return, but some of those limitations may be waived if the area has been declared a federal disaster area. Most of the affected areas from Hurricane Irene have been declared federal disaster areas.