Research Firm Off The Record Is On The Mark
Caterpillar Inc. shocked Wall Street when it announced on Nov. 19 that fourth-quarter profits will be less than expected. The stock promptly plunged 6 1/2, or nearly 12% that day. That was no surprise, however, to the 50 or so institutional clients of OTA Off the Record Research. The San Francisco-based investment research firm wrote in September that Cat and the rest of the heavy-equipment industry were facing a slowdown in sales this year, even in the face of a massive federal highway spending bill that was widely thought to be bullish for the industry (table).
How did Off the Record know that? An inside leak from a high-ranking executive? Not likely, since OTR, as the company is known, doesn't talk to the executives at the companies on which they are reporting. Instead, the firm came to that conclusion from its survey of some 70 machinery dealers and buyers around the world.
Score another hit for Off the Record, the brainchild of Craig C. Gordon, 45, a former marketing professor. With their carefully tailored questionnaires, Gordon's 45 full-time researchers, supplemented by 150 freelancers, work on about 40 projects a month. The firm doesn't issue buy or sell recommendations, but publishes and analyzes survey results and leaves it to clients to figure out their next moves. The on-the-ground intelligence needs to be weighed alongside more traditional analyses that come from dissecting financial reports that the clients do themselves. "Market research helps your chances of making the right decision," says Gordon. "It won't necessarily give you the right decision."
"GREATER CONVICTION." Big investors who subscribe to the service say it allows them to pull in information far beyond what they could manage with their own resources. "If someone can make 25 calls and confirm what you already suspect, you will have greater conviction in your analysis," says hedge-fund manager Joseph A. DiMenna. "Having OTR is a really terrific supplement to our existing research function." In fact, OTR will often incorporate questions posed by clients in its surveys.
Veteran fund manager Ronald C. Ognar of Strong Funds says Off the Record's "kick the tires" research allows him to "get a little ahead of the rest of Wall Street." Earlier this year, OTR reports on Nokia Corp.'s wireless handsets were so upbeat that he doubled his holdings. The stock has nearly doubled since. "Twenty-five years ago, more Wall Street analysts did this kind of work," says Ognar. "Today, the analysts tell you what the companies tell them." The other advantage is that Off the Record Research does no investment banking, so the research is free of the potential conflicts-of-interest baggage that comes with Wall Street investment reports (BW--Nov. 29).
Off the Record Research is a second-generation version of the Grass Roots program that Gordon launched at RCM Capital Management in San Francisco in 1984. Claude N. Rosenberg, the firm's founder, had asked Gordon, who was then teaching at the University of California at Berkeley, if he could develop a market research methodology that would give the investment firm an information edge. Gordon designed surveys that tapped customers, suppliers, and competitors for intelligence. He ran the program until 1995 when he left to start his own company.
In 1996, Gordon merged his new firm with OTA, a Purchase (N.Y.) trading firm. This arrangement allows him to sell the research in exchange for brokerage commissions. "We expect to get at least six-figures' worth of commission dollars (per year) from each client," says Gordon. "And some clients pay over $2 million." For those very best customers, like the Zweig-DiMenna hedge funds, OTR even runs weekly made-to-order research.
Off the Record organizes the various industry sources into panels and keeps returning to the same panel members in subsequent surveys. "That way you can build a quantitative and a qualitative time series," says Gordon. "When you talk to the same people over and over, you can detect subtle differences."
The interpretation of survey results is not just a matter of tallying numbers. Judgments have to be made, too. Gordon says OTR forecast a turnaround at Compaq Computer Corp. earlier this year that never happened. "It turned out we relied too heavily on a couple of distributors," he says. "We weighted some of the numbers incorrectly."
OTR researchers are encouraged to build relationships with their sources, whom they meet through friends, by attending industry conventions, and sometimes by straight cold calls. It's not any different from the relationships journalists build with their sources. In fact, Gordon, who once worked as a newspaper reporter, often hires journalists as researchers.
Still, what motivation is there for an industry insider to share his or her insights with an institutional investment firm? Gordon says the quid pro quo is that survey participants, who are promised anonymity, get a copy of the report that's generated from the survey. "People like to know what others in their industry are saying," he says.
OTR's reports on information technology get high marks from clients. In recent months, the firm reported that Y2K concerns would stunt fourth-quarter sales for enterprise software companies--those that sell the computer applications that pull together a company's operations. But OTR surveys also showed that enterprise software sales will rocket in 2000, fueled by companies implementing new software for e-commerce and supply-chain management. Among the beneficiaries of that trend are Oracle, J.D. Edwards, and SAP. "That's conventional wisdom now, but it wasn't when Off the Record first talked about it," says Strong Funds' Ognar.
CRUISE BLUES? Much of OTR's research is simple. For instance, the company quizzes travel agents about their cruise bookings, critical for investors in companies like Royal Caribbean Cruises Ltd. Last year, those stocks were sold off during the global financial crisis, as investors figured that consumers would forgo some travel spending in 1999. But OTR's travel agent sources said bookings were strong, and the stocks ultimately rebounded. This year, OTR reported in September that winter bookings, at least, were soft. In addition, OTR said that increased capacity would be hitting the industry at a time of slack demand. So far, Wall Street has not bought into Off the Record's analysis, and Royal Caribbean is up 13% since September.
While individual investors can't access OTR's research, they can still take a page from Gordon's playbook. Phone calls and shoe leather may tell you something about a company's products or sales that conventional Wall Street research is going to miss.