Good luck trying to figure out this economy.

Just a few weeks ago, more than a few analysts were talking recession and with good reason, given Wall Street’s woes and economic turmoil in Asia, Russia and Brazil.

So what happens? Russia settles down, Japan gets to work on an overhaul of its banking system and, most important, the Federal Reserve drops interest rates. Suddenly, Wall Street shoots up like a rocket and the recession talk dies down.

What to make of it? How will international crises affect businesses in Los Angeles? What sectors are likely to grow?

To address such questions, and in conjunction with this week’s special report on L.A.’s fastest growing private companies, the Business Journal brought together a star-studded group of investors who make it their jobs to determine the viability and growth potential of businesses large and small. Our group was made up of William M. Wardlaw, a partner at Freeman Spogli & Co.; Patrick C. Haden, partner at Riordan Lewis & Haden; Stanley Gold, chief executive of Shamrock Holdings of California Inc.; and John Anderson, owner of Topa Equities Ltd.

Jill Rosenfeld

Question: Let’s start off with a general question. With what’s going on in the economy, what are your thoughts about the coming year? Are we headed toward a recession?

Anderson: You don’t mind if I kick off. I own a number of beverage distribution companies Budweiser, Coors, and so on. I also own 17 automobile franchises in the Thousand Oaks Auto Mall. So I think they’re a pretty good indication. We see no softening. We see a little softening at the high level, but we have a lot of interest in the new merchandise. And we have Mercedes, Jaguars, Lexus, Rolls-Royce, Bentleys, and so on. We just completed a very strong October. Beverage sales continue strong, in Budweiser and Coors. And I think also that most of us here are optimists. We wouldn’t be here today if we didn’t get up in the morning on a positive note.

Wardlaw: We are also in the automobile dealership area. We own restaurants fast-food chains and auto parts businesses. Most of those are outside Los Angeles, but again, we have not seen a softening effect. Sales in fast-food chains and auto parts did quite well in September and October.

Gold: I actually have a funny window on the scene. We own a string of Spanish-language radio stations, most all of them in California, some in Southern California. The first thing a retailer does when sales get soft is cut off advertising. Actually, the first thing he does is cut off Spanish-language advertising for some reason, he thinks that Spanish-speaking people are less likely to spend money than Anglo-speaking people. But in any event, we see no reduction in advertising revenues. That tells me that these guys still think there are sales to be gotten, and I think that’s a very good sign.

Haden: We purposely try to invest in businesses that are not affected so much by consumer attitudes, for this very reason. We look for ways to minimize that risk. We also try to invest in opportunities that are not necessarily just dependent on the Southern California economy. However, having said that, we do have a few companies here, and we certainly haven’t seen it affecting the local economy yet.

Question: What about on the banking side? Is capital harder to come by?

Anderson: I am involved in an alternative investment group, or a leveraged buyout group, and we find the bankers slowing down. We bought 60 companies in the last two years, and there’s a definite slowdown in that area. They say there’s a question of availability of capital. They say your interest rates will be higher, and we’re going to want a larger piece of the pie. Quite a bit more caution.

Wardlaw: The year changed in August. In the year prior to August, it was as if someone had turned on the spigot full bore. Opportunities to employ capital were just plentiful. There was a lot of mezzanine money, a lot of bank money, and obviously a lot of equity money to be utilized. And then in August somebody just turned the spigot off. For a while there was nobody knocking on our door on the banking side, and obviously the mezzanine market was just nonexistent, even though nothing bad happened in that market. It’s just that the risk profile of providers of capital changed overnight.

Now we’re beginning to see the spigot coming open a little bit. The bankers are beginning to call again, but I am optimistic that means that next year it will be better in general for companies. I think capital, which has been nonexistent since August, will be more plentiful.

Gold: I think that the dislocation in the capital markets which is real was caused by two things:

First, the banks themselves mismanaged their capital. They got into the non-banking business. They’re trading for their own account. They’re trading in sovereign debt, of Brazil or Russia. I mean, give me a break. They mismanaged their own funds. They all show quarterly losses. Two big CEOs walked the plank.

Second, the bank mergers have all occurred right now, and that causes a dislocation. People fight over customers. They can’t make decisions. As a result, people who were looking for capital found they couldn’t get it. I think that’s temporary. I don’t think it’s systemic.

Now they’re starting to call on you again. They’re getting their act together, so I don’t think it’s a long-term problem. I wouldn’t rule it out, but if I had to bet my life on it, I think the banks will begin to open up capital spigots.

Question: With all the bank mergers, what do you think banking will look like in the future?

Gold: You will see smaller banks coming in, and actually offering some service to people. I don’t believe consolidation in the banks is a good thing, even for the banks. Forget the customers or rates or anything else. I’m not sure it’s the most efficient way to mange the sector.

Anderson: Up to a certain level, consolidation is very effective, but over and above that, you don’t get much benefit.

Gold: The cost of borrowing funds is about the same, so you make your money by getting your costs down. To go back to economics 1A, people ultimately become dissatisfied with the service, and some bright entrepreneur will bring in smaller banks to begin to take people’s business away. Maybe General Motors needs to have a worldwide bank. Shamrock doesn’t need a worldwide bank. There’s a woman who heads the region for one of the banks. I think she spent the last two weeks on the phone, telling customers, “Look, I know your guy’s no longer here, we’re in charge, they’re not changing things in North Carolina.” I think she just makes excuses. That’s her job now.

Question: To change the subject a bit, what sort of impact do you think the Asian crisis will have on Los Angeles businesses, if any?

Gold: I think it’s a real question for Southern California. Because we shouldn’t kid ourselves: There is a crisis over there. This is a part of the world that tried to take one of our two great attributes here, capitalism, and use it without marrying it to democracy. Indonesia was corrupt. And Malaysia wasn’t too far behind. Hong Kong is maybe good in the short term, but long term a problem.

I know the Asian crisis has cost Disney, in tourism and foreign dollars, and caused them consumer-product problems, in the sale of goods into the area. I can also tell you that at both the parks, they are down in foreign Asian tourists. And if Japan has a long-term problem, that hurts Asia, because Japan not the U.S. is the financier of Asia.

I don’t think Asia will ever get really healthy in the long term unless they marry capitalism to democracy. Because capitalism without democracy will be abused. It’s no better or worse than communism.

Wardlaw: The L.A. economy has been great the last several years. It’s been phenomenal. This year will be a good year not a great year. And next year still could be a good year. We have great diversity now, many legs to stand on. Of course, a lot of those legs do get influenced by Asia. If you look at entertainment, it does have an aspect that is influenced. The fashion industry, which has done phenomenally, does have a segment that will be influenced if Asia continues to stumble long term. Same in the manufacturing area. So there are segments that will be affected. But we do have so many different industries that are quite healthy, and that will insulate us more than other places in the country.

Question: If you look at the numbers, we’re one of the largest employers when it comes to technology-related companies, and yet we just don’t seem to show up that way in the national media. What do you think about the perception of L.A.?

Wardlaw: There’s a built-in bias in the news media. Going back to multimedia, we had more jobs here than Silicon Valley and New York City put together. And the fashion industry was greater than New York. And we recently passed Chicago in manufacturing.

Gold: It’s a media problem, not a business problem.

Question: But does it translate into a problem for businesses?

Gold: Not at all. Capital is here, workers are here, people will sell, they still trade in dollars. Not a bit.

Question: How can qualified workers gravitate here, if they don’t know that L.A. is where it’s at?

Gold: We have four big universities in the state, pumping ’em out. It’s not a problem. Immigration is terrific here, it continues to grow, and there’s plenty of capital. It’s a problem for newspapers, and for the media, but not for business.

Anderson: Certainly in the money-management area, L.A. is the number one center, even compared with Silicon Valley, the area everyone’s focusing on. The money managers look at Southern California.

Question: Is that a relatively recent phenomenon?

Gold: It was the natural evolution of the communications network. At one point you had to be next to the exchange to have your guy run back and forth physically. Then you could do it by telephone. Now you can do it by Internet. The manager can be anywhere in the world, because he can communicate with the market. So he chooses the best place to live, and/or where his money was coming from. California is the biggest state, that’s where the money was coming from, and the quality of life is good here. So you dial 212 to get your modem going. No big deal.

It’s also the thing New York is terrified about. They have to build a new exchange next door. They’re worried that someone will actually go and make the stock exchange an offer to move somewhere else. There’s no magic about why the stock exchange has to be in New York. If it moves, all those traders will move with it.

Wardlaw: In our own backyard, you see what’s happened in the last two decades. Downtown is now out on the Westside. When we all started, everyone had to be downtown.

Gold: Money managers in Woodland Hills, in Malibu.

Hayden: Anywhere. They could be anywhere.

Gold: We’ve never lost an employee or gained an employee because of our physical location. We happen to be in Burbank. Nobody will leave you because you’re downtown or in the Valley.

Question: So there’s no Silicon Valley phenomenon, where you have a cluster of a certain kind of company in a certain place?

Gold: No, and I think that’s healthy. Look, we were tied to aerospace/defense and it took a big bump in the ’80s and early ’90s to get past it. The fact that we have small businesses that are diverse geographically, by sector, by population, by ethnicity, is healthy for the area.

Wardlaw: And again, I think we talked earlier about the diversity of our business base, not only by sector but geographically. All the geographic areas of L.A. have benefited from that kind of diversity.

Question: There’s been quite a bit said about how L.A. isn’t business friendly enough. Is that changing?

Gold: Let me tell you a victory story. We just completed a gigantic 11-stage real estate project, which was the first phase, in Manhattan Beach. When it’s done, there will be 14 sound stages, a commissary, a theater, and all that kind of stuff. Homeowners got together, and came and talked to us. They said, “We like this idea as opposed to a strip mall, but it is going to be sort of a blight. Can you put up a big set of eucalyptus trees or something here?” We had no problem with the City Council, no problem with the homeowners, they encouraged it. When we finished it we had a party for the neighborhood on one of the stages. It has worked out perfectly. If you treat ’em like dirt, they will obviously fight. But if they have real requests, so it costs us $150,000 to put a row of trees in. It’s not like it used to be. There’s nobody with their hand out. If you go back to some of those Eastern cities, every inspector has his hand out. I’ve not seen it here.

Question: Let’s get back to financing. Has there been any slowing in the number of private companies seeking funding?

Haden: We look at maybe 100 companies a month, young companies, growing companies, doing 10, 20, 30 million dollars in annual sales. We don’t see any slowdown in this kind of company looking for financing private, public, whatever. There are a lot of them, new ones, sometimes second- and third-time entrepreneurs. We see a lot of those opportunities here in Southern California, certainly as many as we’ve seen in the last 10 years.

Question: What’s your take on how the stock market has affected IPOs?

Haden: Unless you were head of a dot-com company, nothing came out (in the IPO market). We actually had one IPO postponed, a Northern California insurance company. We hope it’s temporary. We’re hoping that next quarter things are going to turn around for that company, as well as for hundreds of others that were postponed. You can finance these companies and their growth in several different ways. You can get debt financing, you can get equity financing, you can get private equity financing, as well. It just shifted where these entrepreneurs are looking for capital today.

Question: Let’s talk about the Internet. As people who look at companies as investments, what do their financials tell you?

Anderson: If you look at their financial statements and their earnings, they don’t justify the recognition and the prices that are being paid for them. The same thing happened a number of years ago with health care, when health care was the answer. Or I go back to electronics, when electronics first started. I think we’re seeing some unrealistic values because it’s a very fashionable area to be in.

Haden: And it’s not just the Internet companies, it’s how companies are going to use the Internet going forward. How can an insurance company use the Internet? You don’t have to spend tens of millions of dollars on information technology. So it’s not just those companies with dot-coms behind them that are trying to figure these things out.

Wardlaw: Coming back to the local economy, what this technology has done is create a whole new industry, the multimedia industry. Now we have over 100,000 new jobs locally. That new industry is going to continue to grow, and this will be the center of the world for that industry. This is very exciting to us, locally.

Question: What do you make of the stock market’s recent ups and downs?

Anderson: I think we’ve had a lack of realism in the stock market, and what we’ve had is an adjustment a very healthy adjustment. There’s a return to reality that has taken place. An exceptional company produces maybe 15 to 20 percent return on capital. And if that’s the case, what would you pay for that? You wouldn’t pay 30 or 40 times those earnings. I think we’re getting back to reality.

Look at the history of the stock market. Would any one of us make an investment if we could possibly expect a 4 or 4.5 percent return? That’s what the stock market says. Come into my parlor and I’ll give you a 4.5 percent return. But I won’t give you 1 percent, or 1.5 percent cash on cash. In other words, the dividends being paid on the market today are below 2 percent. So I think there’s an adjustment back to reality that’s taking place here. We’ve been through a rather ridiculous overvaluation of situations in the last four or five years.

Wardlaw: What amazes me is that I open the newspaper and I read that the bear market is over. It’s just fascinating, given what we’ve gone through since August. We all locked our windows for fear of what our partners would do. It’s astounding that you can open up the paper in November and read that the bear market is now over. I think what happened with the Dow masks a lot of the carnage that took place over the last several months, in a very positive way. Because the multiples that were being paid were extraordinarily handsome and unprecedented, and I think for most of the market, there has been an adjustment that made everything a little more healthy.

Gold: I agree. I think expectations got too high. We got really full of ourselves and we bid good companies too high. But I also think you have to look at America’s companies compared to the rest of the world. We went through an extraordinary 25 years. You can attribute it to whatever you like hostile takeovers making management more receptive, or to activist funds making boards more active, or to the Democrats or to the Republicans, or to more taxes or less taxes, greater spending or less spending. But when you step back and take a look at all that, you have to say, America is probably a step and a half ahead compared to everyone else. That actually ought to give us some confidence. We have done a pretty good job in this herky-jerky 25-year period, pushing and shoving, to produce some really pretty good companies and a pretty good economy. Now, given that, I still think things are too expensive in the stock market, but I think there is a health in the American economy and American companies that is probably superior to most places in the world today.

Haden: We’re seeing investments in health care companies in Southern California. We’re looking at a number of those, the ones that can grow several different ways. Take Alzheimer’s care for example. That marketplace, unfortunately, is growing dramatically. We’re involved in a primarily Alzheimer’s care company that’s headquartered in Orange County but has considerable facilities in Los Angeles. These are places where someone who suffers from dementia is actually treated. Assisted living, kind of. Health care is going to get funded because you can understand both the intuitive growth characteristics, and the opportunities for expansion.

Question: Can you give an example of how management has changed in a very quantifiable way?

Gold: In the last 25 years, management has become much more responsive to the needs of shareholders. Virtually every company, large or medium sized, has turned its managers on to some sort of stock option performance, so that their wealth building gives them common interests with the owners of the business. I think those are good things. I think those are motivating factors. I think that managers who squander money, who don’t deliver results, get tossed out quicker.

Question: What about the role of boards? Has their relationship to management changed?

Gold: I’m not on a hundred boards. I’m on two or three boards, and I think that managers that report to those boards are concerned about what the board thinks about their performance.

Haden: I’m on boards of both public and private companies, and the better the management, the less the board does. Ideally the board would show up four times a year, as far as we’re concerned.

Anderson: Any board that only meets four times a year ought to hang its head. I would not be on a board if we were to meet four times a year. I think it’s a dereliction of duty.

Gold: See, we’ve got guys like John in this country, watching the management. That’s good. That’s good for the management.

Anderson: I worked many years on a New York Stock Exchange company, and we used to meet four times a year at the Bistro Garden. They would distribute the financial statements and everyone would take a look. That only happened a couple of times as far as I was concerned. But I think boards are getting more responsive.

Gold: I think shareholder activism has a lot to do with that. When these anonymous pension funds that had such large positions stayed anonymous, that was one thing. But CalPERS (California Public Employees Retirement System) is a classic example. That has created a whole regeneration of activism among some of the largest holders of equity in the country. That has changed the dynamics somewhat, and it’s healthy. Boards have become more responsive to shareholder interests, as opposed to management’s interest.

Question: They’re more responsive to institutional investors, but what about the small shareholder? Issues can crop up environmental issues, labor issues.

Gold: But what’s the difference between an institutional shareholder and a guy with 100 shares? I don’t get it. They both want the company to make money. It seems to me those are aligned interests. They’re aligned because they decided to go into partnership, to become owners of the business.

Wardlaw: They’ve both invested for the same reasons. So CalPERS is doing the 100-share holder a big favor.

Question: I want to ask an unusual question. Imagine that you are early in your careers. You are 30 years old, and you’ve got $100,000, and you’re looking for an industry here in Los Angeles to invest in. What sectors would you seriously consider, and which areas might you avoid?

Haden: What you’d really want to do is try to find a good management team that will work for your $100,000. I wouldn’t be concerned about the particular industry.

Gold: I think California is historically famous for beginning trends. And you marry that with leisure-time activity. Amusement parks, movies, the Internet, style, bikers’ style, surfer style, all of the things that people have with expanded leisure time, as we become more efficient in the way we do our work. I would tell that young person to figure out what the trends are in leisure-time activities, and then try to roll it out across the world. Whether it’s roller skates, or in-line. I’m always looking to catch the next star.

Haden: I personally wouldn’t look at those kinds of industries myself. I would avoid fashion. I don’t know what fashions are going to be in clothing or entertainment.

Anderson: It’s a very interesting question. If I were talking to a young man, I would not encourage him to take his money and make an investment. I would encourage him to get some experience and some exposure. I think we all have personal aspects to that type of question. I’d suggest he go very, very slowly, and get into a situation without spending his money. Get in and learn. He may get into public accounting, which could take him to commercial banking, or to a venture capital group. But I would certainly encourage a long period of incubation where he has an opportunity to learn. I think the worst thing that could happen would be for a young man to take $100,000 he had inherited from his father and go into a business without experience.

Gold: He could end up like Bill Gates.

Anderson: Not necessarily. That would be one in a million. Odds are that he would lose it. He’s really got to determine what his interests are not what Stanley Gold would tell him to do. I’ve had a great theory about businesses and pigs and cows. I’ve put together a number of businesses. I own more than 30 businesses today. A lot of them are cash cows, and some of them are pigs. You’ve got to have enough cash cows to feed your pigs. If a young man came to my door, I’d tell him to go very slow, and to get into a business that doesn’t take any capital.

Question: Let’s advance the question a little bit. Say you had several young entrepreneurs in the room

Anderson: What is a young entrepreneur? Someone with a desire? Or someone who has proven himself?

Question: Both. Someone who is in business, and is looking for investment help. And that person is trying to figure out how to impress you folks. What in particular impresses you?

Gold: I’m not sure this is great economic analysis, but it is actually how I make decisions, so I might as well disclose it. The individual would have to have a passion for the business. He’d have to be committed, he’d have to love the product, whether I understood it or not. You have to find somebody who is a believer. If you don’t have that kind of enthusiasm to begin with, it’s a tough road. Because there’s no business that doesn’t have terrible nights, and terrible periods. If he’s a good-time Charlie who is only there for the peaks and not for the valleys, you got real problems. He has to love it.

Haden: You’re more likely to get those warm and fuzzies if he or she is willing to put up half a million dollars or a million dollars. It’s a very quick way of telling.

Question: And even more so if they have a little bit of a track record in earnings.

Haden: We would only invest with someone who has a track record. Generally someone who has done well in the past has half a million dollars or a million dollars to put in. If they don’t, they’ve been divorced three times or they haven’t been successful. When we’re looking at industries, all of us here, there’s a lot of diversity, and we’re not experts in any of it. At least I’m not. And so the best check is to have someone who’s really been successful in the past, who’s run a company of some size for 10 or 15 years, gone through some ups and downs, and who is willing to invest his or her own money.

Question: How do you know the business is something you are sure you want to get involved in?

Haden: It’s not as intuitive as you may think. There’s a lot of due diligence that goes on. How big is the industry? Is it a $20 million industry or a $2 billion industry? There are a lot of things that go into it, before we make a bet.

Wardlaw: Our job is to invest other people’s money, so we better not be intuitive. A lot of hard work better go into the analysis. We invest in established companies, so I haven’t had the experience of an entrepreneur coming in and making a presentation. Our analysis is based on the history of the company and the prospects of that company in the industry. The number one thing we invest in is management. A committed management that not only has a good track record, but is also willing to put their money with you, so you have a commonality of interests as investors.

Question: There seems to be this continual push, generated by Wall Street, to keep numbers up, and to do whatever it takes to produce good results. Is this something you’ve seen in the course of your work?

Anderson: In the last 10 years, there’s come a new term that’s worth spending a little time on. That term is EBIDTA (Earnings Before Interest, Depreciation, Taxes and Amortization). We all grew up with something called net income. That seems to have gone out the window. Now you can state your returns as anything you like. You can create EBIDTA very easily, just by going into debt and then saying, “I’m not going to count the interest.”

Question: Are we seeing more accounting sleights of hand?

Anderson: There’s this wonderful book called “Unaccountable Accounting.” The opening takes place in California. A young man goes to an investment banking firm. They ask to see his statements. He shows them, and they say, “These have to be certified.” He says, “Where do I get it certified, a notary public?” So they give him a list of the Big Six.

He comes back shortly afterward. They say, “How did you do?” He says, “Well, I went to the first one, asked them what two plus two was, and got four. Went to the second one, asked what two plus two was, and got four. Went to the third one and asked them what two plus two was. They said, “What did you have in mind?”

Gold: When we look at a company, we always redo the balance sheet ourselves. We actually tear it apart and put it back together so that we understand and feel comfortable with it. It doesn’t make a difference what he walks in with.

Question: Do you think the phenomenon is especially prevalent among the start-ups of the world?

Anderson: Also the buyouts, the consolidators, the platform companies. Even some of the public companies are restating their annual reports on an EBIDTA base.

Wardlaw: For the most part, the markets won’t let people get away with it. Sometimes when we’ve made an investment, we’ve been enamored of EBIDTA. That’s been our focus. But when trying to position a company to go public, it’s been our experience that with investment bankers

Anderson: Reality sets in.

(Laughter)

Anderson: I would like to ask everyone here a question. In your acquisitions, do you find yourself buying assets or stocks?

Wardlaw: We buy mostly stock.

Gold: About 50-50.

Hayden: Same here. Do you have a preference for assets?

Anderson: I only want to buy a company if I can buy assets. If you’re really trying to preserve cash rather than create numbers, you want to get Uncle Sam to be your partner in your purchase. You’re not going to get any help from Uncle Sam if you buy stocks. We used to be in the real estate game: location, location, location. As far as I’m concerned, in the acquisition game, the name of the game today is allocation, allocation, allocation. How you allocate your purchase price. How you allocate it is very critical.

The worst place to allocate would be the land. Why? It’s nondeductible. And whatever you allocate to it, you are forever and ever going to pay real estate taxes on that. Working up the line, the next would be your buildings, which is a 39-year recovery of your assets. Then would be goodwill, which is a 15-year amortization. Then you’d go into furniture and fixtures and equipment, which is a five- to 10-year. Then you’d go up above that to a consulting contract, which is two or three years. We have a lot of short-term players around this table. But when you’re taking a long-term view, you want to get your money back.