Monday, October 22, 2007

...Google's problems in Brazil with inapproriate content...
The Wall Street Journal recently published a front page article highlighting Google’s problems in Brazil with inappropriate content on its social networking. Orkut, Google’s version of social networking sites similar to and NewsCorp’s, in an inexplicable scenario best explained by Malcolm Gladwell’s book The Tipping Point; has become wildly popular with Brazilians. Social networking sites allow users to establish online communities (topics) and upload content to both the community areas on the servers and to personal web sites (which may also have community affinities).

Anyway, leaving the intricacies of the platform aside, the communities created range from those dedicated to praising moms to the darker side of human nature: racism, pedophilia, animal cruelty and so forth. The WSJ does its usual excellent job of explaining how Google got in hot water, so I won’t rehash that. What I want to point out is the root problem and a proposed solution.
The root problem is...
The root problem is that these social networking sites (like any internet site) allow users with access to upload anything. In the case of Google’s Orkut, all content uploaded ends up on Google’s servers in the USA, where free speech is an inalienable right. Not so in Brazil. So the real questions are:

Do content hosts have a legal right or obligation to edit content?
What laws apply?

Let’s deal with the legal right to edit content first. Google, and other content hosts, have what is called Terms of Service (TOS). In these, they specify the types of content that is not approved for uploading to their servers. If a user violates these terms, then Google has the right to delete the content and remove the user account under the TOS because the user agreed to the TOS in order to receive an Orkut account.

Next, does Google have an obligation to remove content that violates its Orkut TOS? Well, according to the TOS, they do. However, they also state they are not liable for content that violates the TOS. That’s a topic for another day, so let’s assume for the moment they have an obligation but the timeliness of their obligatory response is fuzzy.

If a Brazilian citizen in Brazil uploads pro-Nazi comments or racial slurs...
Now we get to the meat of today’s topic. What laws apply? If a Brazilian citizen in Brazil uploads pro-Nazi comments or racial slurs and the uploaded content is stored on, and served from, computers in the US, whose laws apply if the content is subsequently served to another Brazilian citizen in Brazil? What if the same content is uploaded by a US citizen standing on US soil? By a Brazilian on US soil? By a US citizen in Brazil? .

Logically, if the content is illegal in Brazil and was uploaded by a Brazilian who was actually in Brazil at the time, the Brazilian citizen seems to be the culprit and the Brazilian government within its rights to prosecute that citizen. Yet the content is stored and served from computers in the US, where such content may be perfectly legal. Because the content can be served to citizens in their homes and offices in most countries of the world, which have varying laws and standards, the permutations become seemingly infinite.

Unfortunately, when you offer a free service...
The solution is crafting adequate Terms of Service and enforcing them. If Google (and others) craft TOS agreements that reflect the laws of the country of origins where they allow users to sign up, then Google and the others should enforce those agreements by screening content before it is available to the public. Unfortunately, when you offer a free service and users upload millions of items daily, enforcement comes at a high cost. Human review of the millions of images alone uploaded daily would be very expensive. When you throw in text posts, the number of editors needed would start to look like the cadre of TSA screeners.

You also have to consider there may be legal content in one country that that country’s TOS allows that is illegal elsewhere and users signing up in that country have different content standards. So Google may want to display that content to users in one country but lock it to users in another.

Some would say police nothing and allow everything...
So what is the solution? Some would say police nothing and allow everything, however, I think we can safely assume that society is not going to accept that alternative. So the solution has to lie with technology, of course. Specifically, the solution is applying image recognition software to screen out photos not meeting the TOS standards and using context sensitive text screening software to catch the words of extremists and pedophiles who violate local law or the TOS. Since the sophistication of existing software is not up to the task, this is not an easy solution. However, it is probably easier than getting all the countries of the world to agree to uniform laws or to a global internet authority. Google are you up to the technical challenge? BTW, the Homeland Security folks would love the software, too, so there may be a big paycheck in it for Google!

Sunday, October 14, 2007

Sell or Hold --- Managing Foreclosure Inventory

With these market conditions, how does a lender decide whether to sell or hold a property

Prestigious sources like the Wall Street Journal and Realtor Magazine have devoted a considerable number of column inches to the growth in residential real estate inventories. Some of that inventory growth has been due to foreclosures, especially in the last 24 months., an on ine foreclosure marketing company, and the Mortgage Bankers Association are both citing year-to-year growth in foreclosures of 40-50% for 2006 over 2005 and forecast similar results in 2007 over 2006. What this really means is a lot of homes are lender owned today. Because the market is still weak, these homes are not selling.

With these market conditions, how does a lender decide whether to sell or hold a property? By collecting some basic financial data on each property and knowing the cost of capital, a lender can pragmatically decide whether to accept an offer on a foreclosure property or not.

Since most foreclosures will be disposed of within a year or two...

The first figure to know is the lender’s cost of capital. This is the weighted average of the cost of borrowing and equity, expressed as an interest rate. Since most foreclosures will be disposed of within a year or two, it may be best to use the cost of incremental, or additional, capital. Most companies will find their current incremental cost of capital to be in the range of 10-12% assuming a mix of preferred stock or bonds, debt, and common stock and that the company that is only moderately risky form the investor’s viewpoint.

The next numbers are the holding costs: taxes, insurance, lawn service, utilities, and depreciation. Yes, depreciation must be considered. Any inventory is subject to deterioration, and empty houses are particularly prone to vandalism, storm damage, and general neglect from being unoccupied. This “inventory carrying cost” may be somewhat subjective and vary widely from property to property, but a lender should be able to determine the ratio of such expenses to the loan value outstanding on foreclosed properties by market area.

Finally, the selling costs are needed: real estate commissions, transfer taxes, fixing up expenses, and other cost borne by the seller. Other than fixing up expenses, selling cost are not particularly relevant since they will be incurred at any time the property sells. The only variable there is selling price so once could argue the difference in the selling costs between a full value sale and a discounted sale should be considered. I chose to ignore them because I focus on the monthly costs of ownership.

Assume the lender has a home appraised at $240,000 with a defaulted balance of $200,000

Now let’s look at an example. Assume the lender has a home appraised at $240,000 with a defaulted balance of $200,000. Also assume there is no chance of recovery from the borrower, the houses in the market are taking an average of 14 months to sell (longer for foreclosures), and the house needs some work to sell at the appraised value.

The numbers:
Cost of capital: 12% or $2000 monthly
Taxes $4800 or $200 per month
Insurance $800 or $67 per month
Utilities $120 per month
Lawn service average $100 per month (use summer/winter costs to be precise)
Lender’s inventory loss carrying cost expenses in this market 2% annually or $333 per month

The scenario:
This house has been on the market 3 months
The lender has an offer of $148,000 from a qualified buyer who can close in 30 days
Fixing up expenses will be $1800 to meet FHA lending standards

However, the message is it is better to not to have and hold...

The monthly holding cost for this property is $2820. It could be on the market another 11 or more months. That is $31,020 or more in holding costs. The loan balance, less this potential cost, is $168,980. When you add the fixing up expenses of $1800, the offer of $148,000 is too far from this benchmark discounted value of $168,980. However, an offer of about $170,800 would be a break even offer after discounting for potential holding costs and offers approaching this figure should be seriously considered.

One can argue that the time on the market before a sale is the big unknown. I certainly agree. If the lender feels this house will sell faster or slower than average, that should factor into the decision. However, the message is it is better to not to have and hold if the lender gets an offer that reflects something as good or better than the averages after considering the potential holding costs.

Sunday, October 7, 2007

Why did Rupert Murdoch buy Dow Jones Corp?

...let the speculation begin!
Let me start by saying that I have no direct knowledge of Mr. Murdoch’s reasoning and I am offering my own opinions. That said, let the speculation begin!

Much of Murdoch’s News Corporation holdings are traditional print and broadcast media whose profitability are largely dependent on advertising. Although broadcast advertising is doing OK, advertising revenue growth in the print sector is just not happening --- for Murdoch or anyone else. Revenues for most print media advertising are flat or declining in real terms. However, Internet advertising is growing --- and growing fast! I have seen estimates of 60-85% growth in the next 2 years for US markets.
With 2007 U.S. Internet advertising approaching $21 billion, that is a lot of real dollar growth. Most of that growth will be at the expense of traditional advertising media --- especially print. Since Murdoch operates globally, the US market is just a fraction of the growth he perceives in this new venue and it is a huge challenge to his existing revenue stream.

First is, one of the few successful subscription Internet publications
In short, Murdoch must capture a share of that growth to offset declines in print advertising revenues. Dow Jones has, buried in all the WSJ and other print media, some golden Internet assets. First is, one of the few successful subscription Internet publications. Its success led to a subscription model for Next, consider, a consumer investor portal with over 6 million daily visitors. Dow Jones online revenues are growing at a healthy clip, too.
Depending on how you do the accounting, the growth is a healthy 15% (diluted) or an impressive 26% (year to year). DJ is also well into a significant redesign of the WSJ for the “digital age”. This initiative was started in 2005 and the initial launch was in January 2007. The redesign included new web friendly press width for the print edition, improved content, better organization/navigation, and tighter integration to the online version.

Dow Jones is going to approach $400 million in “online” revenue for 2007...
All in all, Dow Jones is going to approach $400 million in “online” revenue for 2007, about 20% of its total revenue. That’s a remarkable percentage for a major US company. Murdoch likely foresees that achievement and is betting he is getting some infrastructure, talent, and ideas that can help News Corporation achieve growth in the online arena.
In addition, I believe Murdoch is seriously investing in the social experiment we call the Internet. His acquisition of, the 5.6 billion dollar bet on DJ, and his other recent investments point to a serious attempt to change News Corporation into a Web 2.0 (and 3.0) enabled 21st century powerhouse. I think he is doing it, and very competently, too.