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Shoppers forgive, but can Wall Street?
If stories of other disgraced CEOs are any indication, Martha Stewart could come out smelling like a rose. Long-term shareholders in her media company can be hopeful, too.
By Michael Brush
For Martha Stewart Living Omnimedia (MSO, news, msgs) shareholders, the messy events surrounding the companys namesake have created some untidy returns. And the sentencing this week of Sam Waksal, the former ImClone Systems (IMCLE, news, msgs) chief, to seven years in jail is a vivid reminder of the morass Stewart finds herself in.
But history suggests her company is likely to sparkle once again.
A review of the outcome of recent scandals and public-relations disasters shows that even if Martha Stewart becomes a convicted felon, she most likely will be absolved by her fans and back in front of the camera offering tips on seasonal floral bouquets. And in the end, thats what really matters for the future of her company.
However, between now and the end of Stewarts legal problems, regardless of how they turn out, shareholders can expect a rocky road. Ugly headlines may further rattle the stock of a company that was shaken even before the domestic diva was indicted last week on charges of obstruction of justice and securities fraud. Despite the potential volatility ahead, heres why long-term shareholders ultimately could do well.
The publics capacity to forgive is deep
Martha Stewart Living is wrapped up, of course, in one personality. So to forecast her fate, it helps to take a look at recent scandals in entertainment and politics for lessons on how far off track a public persona can go and still hold the affection, trust and enthusiasm of fans. What you find is encouraging for Martha Stewart shareholders.
Personalities as diverse as sportscaster Marv Albert, presidential aide Dick Morris and actor Hugh Grant -- all possessing Stewart-like fame -- have descended deeply into disrepute and yet fully recovered their careers.
By no means does the tendency toward forgiveness stop at the boundaries of the business community. On the contrary. In the summer of 1998, for instance, shares of a Jacksonville, Fla., staffing company, known at the time as Accustaff, took a dive after Chief Executive and Chairman Derek Dewan was charged with soliciting an undercover cop posing as a prostitute.
Amid the numerous press accounts, Dewan pleaded no contest to a misdemeanor solicitation charge in May 1999 (which means he did not admit or deny the charge). Dewan, who publicly denied the charges, stayed on as chief executive and became chairman of the company, which is now called MPS Group (MPS, news, msgs). And while the companys shares havent reached their bubble-era highs, they have held steady above $5 a share for years -- and have gained about 50% from their February lows.
The trouble isnt directly related to company operations
So many people are short Martha Stewart Living shares, its virtually impossible to find any more shares to borrow to put on a new short position.
But unless an even deeper scandal comes to the surface, which is unlikely, short sellers wont hit pay dirt. Thats because this story is unlikely to unfold like the wider disasters at the likes of WorldCom (WCOEQ, news, msgs) or Enron (ENRNQ, news, msgs) or the savings and loans of the 1980s.
To get to total meltdown of the shares, youd need widespread fraud and corruption within the company. And it probably isnt there. The Stewart issue centers more on the stock of ImClone than of Martha Stewart Living.
Meantime, the company is on solid financial ground, with about $167 million, or $3.38 per share, in net cash. Plus, the company has no debt.
The closest comparison points to Marthas recovery
The saga of Steven Madden, former head of the shoe company Steven Madden (SHOO, news, msgs), isnt an exact match to the current Stewart saga, but its close. And it bodes well for Martha Stewart Living Omnimedia shareholders.
Steven Madden shares plunged to near $7 from over $20 in the summer of 2000 as details emerged about stock-fraud and money-laundering allegations against Madden himself. (Maddens now serving a 41-month sentence in the case.)
Anyone who bought shares in Maddens company in 2000, when most investors were convinced the scandal would taint the business too much, made a smart move. The stock has tripled since then -- back up to about $20 per share.
I would argue from the shareholders perspective the Steve Madden case is pretty similar because you have a guy whose name is on the company, says John Buckingham, of the Al Frank Fund (VALUX), which bought shares of Steve Madden during its public-relations crisis.
And the lesson is that a company can go on even though someones name thats on the door has to go away. Nobody, arguably, is irreplaceable, continues Buckingham.
To be sure, as with the rest of the market, there are lingering valuation questions. The difference is that Steve Madden stock was cheap, Buckingham says. Martha Stewart Omnimedia stock still is not cheap. Buckingham thinks fair value for the stock is around $6, which means his entry point would be much lower than the $10 shares command today.
Martha may win her case
At her Web site, Stewart and her lawyers adamantly deny wrongdoing on her part. (See link at left under Related Sites.) She claims she was simply responding to a call from her stockbroker when she sold shares of biotech company ImClone right before news on a setback in approval of a cancer drug sent the companys shares reeling. I am confident I will be exonerated of these baseless charges, but a trial unfortunately won't take place for months," Stewart writes.
At least one fund manager who holds shares in the company uses some compelling logic to reach the same conclusion. Everyone knows (that) if she settles the stock goes up, says the fund manager. Since she owns 30 million shares, the amount she would make on the stock going up would be far more than any penalties she would have to pay. But this woman is not settling because she believes she did nothing wrong. I think this is going to blow up in the governments face.
Others disagree, including the government, of course. And some legal experts believe jail time is possible for the homemaking maven. But most believe the worst downside for Stewart in the insider trading case would be fines and penalties.
The wild card: advertisers
The biggest threat to company shareholders is that advertisers wont forgive Stewart, even if her fans do. That would be a serious problem for investors -- given that the company gets about 60% of its revenue from the flagship magazine Martha Stewart Living.
Ominously, the number of ad pages in the magazine was off 28% in the most recent quarter. That compares with double-digit gains at Better Homes and Gardens in the same time frame, says Lazard Freres analyst Mandana Hormozi, who covers Martha Stewart Living Omnimedia. Better Homes and Gardens is published by Meredith (MDP, news, msgs).
The key here isnt readership, its the advertisers, says Tim Ghriskey, of Ghriskey Capital Partners, in Greenwich Conn. Do blue-chip advertisers want to be associated with a felon, assuming she is convicted? Advertisers care about image, and if it reflects badly on them to be in this magazine, there are lots of other magazines to advertise in.
That said, plenty of advertisers are sticking with Stewart, even in these toughest of times. Reportedly untroubled by the personal legal difficulties of Stewart, Campbell's Soup (CPB, news, msgs) has no plans to change its advertising arrangements with Martha Stewart Living magazine. And well into the saga of Stewarts legal problems -- but before the indictments last week -- clothing retailer Chicos FAS (CHS, news, msgs) said Stewarts legal challenges wouldnt affect advertising plans.
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