If you spend much time these days reading the financial press, it can get pretty discouraging. You run across scandal after scandal, greedy CEOs, accounting shenanigans, conflicts of interest running amok, and more. Yuck.
But every now and then, if you're lucky, you'll run across something rather encouraging. That happened to me recently, when I stumbled upon Callaway Golf's (NYSE: ELY ) 2002 annual report. What struck me was the candor of the CEO, Ronald Drapeau, in his letter to shareholders. A cynic might argue that since Callaway has had its share of struggles in recent years, and since its stock is trading for less than half of where it was back in the late '90s, its CEO would have to address problems. That's not always the case, though. Too often, CEOs hope the reader/investor hasn't noticed various problems. They blame everything but themselves. They change the subject quickly. They oversimplify and make sweeping pronouncements about good days ahead.
Not so Mr. Drapeau. Below are some excerpts from his letter:
Last year, at my first Annual Meeting as CEO, I assured you I would report on the operations of our Company honestly and frankly, maintaining the high standards of integrity which I have always set for myself and which were set for all of us at Callaway Golf by our founder, Ely Callaway. This meant I would report to you on both our successes and our disappointments, not using confusing accounting rules to hide actual results and business realities.
I like that he raises expectations of the reader, by promising frankness. If a CEO doesn't promise it, we might not notice its absence as readily, or might cut the CEO more slack if we don't find it.
[Last year] I said we were "cautiously optimistic as the new year begins." Like many other companies, we thought there was a chance that the U.S. economy and stock market would begin to rebound in 2002 and pull other economies up with them. As you all know, there was no rebound.. While disappointed with some aspects of our business, I am at the same time pleased we were able to maintain our market share leadership position in the United States in woods, irons and putters and able to grow our golf ball business by 20% while continuing to lead our major competitors in operating returns.
I like that he brings up his previous year's expectations, and reports on how they played out. He does blame a bunch of outside factors, but they do seem like credibly negative influences on the business. He then points to some successes (the list below is abridged), while also expressing disappointment in some results:
Despite the conditions in 2002, we fought for what successes we could achieve; and achieved many. They include:
- We maintained our #1 market share position in woods, irons and putters in the United States. In the woods category, we were #1 for the sixth consecutive year.
- We grew our U.S. golf ball market share 20%, with 5.7% of the total market and 11% in the segment for balls priced above $20 per dozen.
- We increased net cash provided by operating activities to $139.2 million.
- Our Odyssey White Hot 2-Ball Putter became what we think was the hottest selling putter ever, combining with the rest of our Odyssey putter line to give us U.S. market share in excess of 50%.
- Our three-piece urethane covered HX and CTU 30 golf balls drove Callaway Golf to the #2 position -- behind only Titleist -- in use, victories and money won across the world's professional tours and gained the #2 position at retail for balls priced over $20 per dozen.
- The Callaway Golf Apparel Line, designed and sold by Ashworth, Inc., pursuant to a license, was successfully launched.
- In Europe, Canada and Australia we enjoyed record years.
CEO candidness aside, this is just plain good stuff to find in an annual report. As a potential investor, I'm encouraged to see this kind of leadership and progress within an industry. I also noted a bit of understatement when Drapeau said, "We increased net cash provided by operating activities to $139.2 million." But he didn't point out just how big the increase was -- a full 39%. The year before, too, saw an increase of 10%. And we're talking about cash from operations here, not the much more easily (though legally) manipulated earnings per share or net income.
Along with these successes, there also were setbacks. Our biggest disappointment came from sales of the C4 Compression Cured Carbon Composite Driver. Although it generated revenues which, standing alone, would exceed the total revenues of some of our competitors, it did not achieve sales levels we have come to expect from our premium products. Its performance characteristics are undeniably exceptional, and many golfers absolutely love it, but the lack of a powerful sound at impact seemed to limit its appeal to many golfers. Our Store-in-Store fixturing program improved our brand and product presentation at retail, but it does not appear to have proportionately driven revenue growth. And even though our golf ball sales improved, the business continued to generate losses that not only are not acceptable, but that also have increased year over year.
We are reviewing both our successes and our failures, and we will learn from both.
This is good, explaining where the firm has come up short. I'd love to see a little more detail about what exactly went wrong, and what changes will be made, but I suppose that at some point, a company is wise to not disclose too much, lest the competition get ideas.
Drapeau then described the results of its board of directors' "full governance review," listing some of its results:
- The Company's Board of Directors, which has been composed of a majority of independent directors for several years, adopted a formal policy requiring that a "substantial majority" of the Directors be independent..
- The Board has also adopted a formal policy that the independent directors shall meet formally in executive session on a regular basis (e.g., at board meetings) without members of management..
- . I think we are recognized as one of the few companies that use "pro forma" reporting sparingly, and only when it clarifies -- rather than obscures -- understanding of our real operations. [He describes two non-cash adjustments, from 2001 and 2002.] Because accounting rules require us to include these two non-cash adjustments in net income and earnings per diluted share, we reported in 2002 an improvement in net income and earnings per diluted share. But we also told you throughout the year, as I did at the beginning of this letter, that a true view of our operations would exclude these one-time, non-cash adjustments. When you exclude these items, we show a decline, not an improvement, in these metrics. We gave you the facts even though they were not required and they put our results in a more negative light, because that is the right thing to do.
Sparing use of pro forma numbers is always a good thing. We at the Fool have long gnashed our teeth about the pro forma games that many companies play.
Despite having some great new products and some opportunities to further improve our business practices, I think we must be guarded in our expectations for 2003. [He goes on to list a bunch of reasons why.]
This is also a good thing to do, setting conservative or realistic expectations, instead of projecting and hoping for the best.
Drapeau then lists many products and programs and initiatives that bode well for the firm's future, concluding with this Foolish note:
However, one thing we will not do in 2003 is chase revenues or market share at any cost. We believe you employ us to earn profits, and we take pride in our results as measured against competitors. We believe that sustainable long-term profitability and positive cash flow based on demonstrably superior and pleasingly different products is the proper orientation for the Company and the Callaway Golf brand.
He ends by pointing out the company's biggest challenge: achieving profitability in its golf ball business. This is good for investors, as it gives us something to measure the company by in the future. He notes: We are committed to eliminating these losses, and are looking at all alternatives to accomplish this objective, including exiting the segment if that is the only viable solution. That's promising, too -- that the company is willing to let it go if need be.
If your interest is now piqued, learn more about Callaway on our Callaway Golf discussion board (we offer a painless free trial of our vibrant Community). If you'd like to recommend some other companies and CEOs for their candidness, please do so on our Commentary discussion board.
Selena Maranjianis not much of a golfer, but she did shoot 80 once -- though it was on a 9-hole course.For more about Selena, view her bio and her profile. You might also be interested in these books she has written or co-written:The Motley Fool Money GuideandThe Motley Fool Investment Guide for Teens. The Motley Fool is Fools writing for Fools.