Where Are We Now?

Regional Business Leaders Discuss "The New Business Landscape in Orange County"

February 17, 2010

What are the factors and industries shaping the “New Business Landscape of Orange County”?

Anil Puri, dean of Mihaylo College of Business and Economics recently joined four industry leaders for a discussion of their businesses and the current economy: Paul Folino, executive chairman of Emulex; Cal State Fullerton alumnus Dan Young, president of the Irvine Community Development Co.; Bill Sanderson, chief financial officer of Golden State Foods; and Glenn Gray, president of Sunwest Bank.

Puri kicks off the discussion in this edited transcription of the Jan. 28 meeting:

I think we were hit by three ‘earthquakes’ in the last two weeks. One was, of course, in Haiti … (the other two were) not really ‘earthquakes,’ but different disruptions that took place here in our country.

I think the decision by the Supreme Court to allow unlimited (campaign) funding by labor unions and by businesses is going to have major implications for our political landscape. I'm not an expert in that, but I think that is a major event.

The third earthquake, from the way I see it, took place in Massachusetts with the election of Scott Brown that has put a stop to the momentum that Democratic legislature has at the national level.

So there's a lot going on. Now who said we weren't living in interesting times?

Real Estate

And I'm going to begin with Dan Young. Irvine Company is a major driver of housing and real estate construction in not only Orange County, but beyond Southern California.

Young: You mentioned that we're experiencing this terrible recession. If you have been in the housing industry, you've naturally been experiencing a depression. The housing industry has been fully depressed now for several years and ground to a virtual halt in 2008, early 2009.

The second, I think interesting, observation: I'm 59 years old and I've been through a few of these. What I'm used to in a normal housing recession: California's market is down and Texas' market is up, Washington's is down but New York's is up, and you have these regional circumstances where parts of our country — depending on particular industries that are going through troubled times — may have depressed housing markets. But you can find a market in other parts of the country in order to expand your business and find a niche.

This is the first time when the whole thing went down all at once. And it went down simultaneously — largely, as we now know, because of the financial crisis that we experienced.

So what makes this one different is, number one, the depth of what happened, and number two, the fact that it hit the entire industry across the United States … actually around the world. So it's important, I think, that as we begin to think about what we've been through.

At Irvine Company, we have really good fortune on two fronts. Number one, we're diversified in real estate: we're in the apartment business, we're in offices, we're in hotels, as well as in residential housing. That has helped to get through it.

It was frightening what we saw. We had our set of issues that we had to deal with and we were able to do it largely because of a diversified base. I spent a good year of my life doing workouts with homebuilders and it was more tragedy than it was anything else. It was very difficult to work with … to watch these companies with tremendous talent go through what they went through, laying people off and so on.

So we've gone through a terrible, terrible time. I hope the conversation will turn to the pivot in this economy for housing, which I'm happy to address in terms of where we see things moving forward, because I think it is much brighter. But in terms of answering your question, it's been about as bad as it can get.

Puri: The view about the future, for you, has changed. You are looking positively to the future?

Young: Well, this Saturday, we are going to do something that's not being done anywhere in the country, and that is that we're going to step out into this market. We're opening 21 new model homes in North Irvine.

That's as many as you would open in 2005, when you knew everything was going to fly off the shelf the minute it opened.

We've decided, on the basis of our research, that there is a housing market, that people are hungry for new housing. The resale market in our local area has largely cleared, particularly in Irvine, and we're going to go out and meet that market.

These models open on Saturday, and we have already over 600 pre-qualified buyers who've been down to the banks with their income tax returns and their check stubs and gotten a letter from the bank saying they're qualified to buy a house, which is something to say in this market when the bank does that.

So we think we've found that market, and we've been employing literally thousands of people, for the last four or five months, who've been out of work for three years. I can tell you, I've been at construction sites my whole life. This is the first time I've actually been on a construction site and consistently approached by workers coming up and thanking me to be able to be back to work. It's really been almost an emotional experience to go through.

So we're delighted to be out in the market. I'll be even more delighted as escrows close here over the next few months.

High Tech

Puri: Great. Let me next turn to Paul Folino. Paul represents the high-tech industry, a major driver of the economy in Orange County. As all of you know, Paul has been at the helm of Emulex and responsible for making this company what it is today, turning it around over the years.

Paul, what has recession done to the high-tech industry in general, but especially in Orange County? It appears — at least looking at the data — that your sector may have fared better than, say, housing. But give us a perspective on what your thoughts are on what has happened and what's likely in the next year or two.

Folino: Well, first off, I think Emulex is very representative. The tech industry is a very large industry, but I think we're very representative, over the last couple of years, of what's happening in what I'll call the systems and the networking ends of the business.

By that I mean we provide high speed interface technology that is embedded in a mainframe, a server workstation, that kind of thing, and allows those systems to connect to large storage systems and databases at very high speeds.

We have eight customers that represent about 80 percent of our revenue, because those eight customers own about 90 percent of the worldwide markets for servers, mainframes, workstations and storage systems: IBM, Hewlett Packard, Dell, etc. So, our business is once again very reflective of that overall industry.

The last couple of years have been very tough. We've seen our revenues fall off between 20 and 25 percent — not as bad as the housing industry. In 2007, our earnings were approaching $100 million. This past year, I think we're probably closer to $10 million.

And we had planned activities in place to stay in the black, stay profitable, while we still invested 20 percent of our revenues in R&D. So the goal was to retrench, like most people in our industry did, but at the same time prepare to catch the wave on the way out.

Sales down 25 percent, earnings barely above break even, but profitable. We peaked out in 2007, employment wise, at about 900 employees, and we're off about 10 percent from where we were at our peak two years ago — all a part of retrenching, to build a business model to prepare us to hunker down until we saw the next wave. And I think that's representative of what you'll see with, once again, the IBMs of the world and a lot of the high-end, tech companies.

So, it's been a tough period. If you look at where we are now, we just reported our December quarter, and it was the first sequential growth quarter in two years. And the December quarter was in line with the prior year, which essentially is saying that we think it's bottomed out.

We don't give guidance beyond the next quarter. The street does. And the street guidance for us in 2010 is year-over-year growth in the 20 to 25 percent range, and I think that's comparable with other technology companies as well.

So it would suggest — if we don't have a double dip recession because of what might be going on in Washington — then we have an opportunity this year. You'll begin to see a climb back up the other way. And this is in line with the rest of the key players in technology, I think.

Puri: What do you see happening in the next year to 18 months? Because high tech is a sector which is very important, not only for Orange County but beyond. Investment in high tech, investment by business in general, after consumer spending, is the most important determinant of the growth. How do you see things happening?

Folino: Well, I think we're representative of other technology companies in Orange County, because there's a lot of systems level companies in Orange County. We're not the Silicon Valley, but we are one of the top six or seven.

I get a chance to talk a lot with my peers, and it's amazing. We're seeing the same thing: bottoming out and beginning to ramp back up. We’re optimistic that in 2010, technology — both nationally and in Orange County — will help lead the way out of the recession. And it looks promising, unless we find ourselves in a double-dip recession.

The other caveat, I would say, is international markets. Emulex and many of the top 15-20 technology players in Orange County are all international companies. Fifty percent of our revenues come from outside the United States, so we're impacted significantly by what happens in China, Japan, Europe.

So, we still have to be concerned about what happens internationally, because some of those markets are more fragile than I believe even the United States is at this point in time.

Banking

Puri: As you know, Glenn Gray is the president of Sunwest Bank. And Sunwest Bank has seen phenomenal growth in the last two or three years. I understand this is the third largest California based bank now. Tell us, Glenn, how the recession has impacted your industry, especially the banking sector in Orange County, and how do you see things evolving over the next year or two?

Gray: Well, the banking industry really hasn't gone through much except that complete meltdown. But after we got through that, as Emulex is reflective of other businesses in the county, Sunwest is not.

Obviously, our industry is well publicized. The complete meltdown, the bailouts, etc. But I'll try to bring it back to Orange County to make it a little bit more relevant for you all.

The good news is I think that, for the most part, the pain in the banking industry in Orange County is substantially over. We've gone through our version of the failures of the large banks that have probably the biggest rippling effect through the economy. There's also been a failure of some of the smaller banks, which Sunwest has been the beneficiary of in terms of acquiring.

We do our homework in terms of looking at banks that we think might be vulnerable. And as much as I'd love to be out shopping for some more, the good news is for all of us, there isn't very many out there. There might be a few in L.A., a couple in San Diego, but Orange County actually looks pretty healthy right now.

For us it was a very unusual past year. We were 40 years old last year and it was our best year in 40 years. We doubled our size and we doubled our set in terms of assets and people, from four to 10 branches.

How'd we do that? If I may use a phrase, and please don't be offended by this, but one of our directors said, "Please, let's not waste a good recession." And there's some real truth to that.

There are opportunities in a recession. Bill Gates started Microsoft in a recession. You look back to J.P. Morgan, he took advantage of a recession. So if you sort of keep your powder dry, and don't do a lot of stupid things when everybody else is doing stupid things, i.e., sub-prime lending, you can be in a position to take advantage of the opportunities, and that's what really happened to us.

And it's going to happen to a lot of other banks. We were kind of first to the game in terms of acquiring some failed banks but a lot of other banks have figured that out, and that's a good thing because it keeps employment up, it keeps banks open, it keeps business lending healthy. So I actually do see a bit of a rebound this year.

Food Service Supplier

Puri: Let me now turn to Golden State Foods. It's a $4 billion company located in Orange County. And they serve the quick food restaurant industry. Bill Sanderson is CFO and senior vice president for finance and administration.

Sanderson: Golden State Foods is a 65-year-old company, founded in Vernon, Calif. We moved our headquarters here to Irvine about 18 years ago. We are actually just about a block away (from the Hilton Irvine, where the discussion was held) and most people don't know us and didn't even know we were there.

We grew up with McDonald's — that was our core customer — we started grinding beef patties for Ray Kroc. Our founder became good friends with him and became a dedicated supplier for McDonald's in the go go years.

From there, when Ray would have a problem with some of his suppliers in other areas — distributors, ketchup manufacturers — he would come to Golden State Foods and another group of partners, and ask us if we wanted to go into the ketchup business, or the distribution business. We tended to always say yes.

So when you look at our company, we are in five different core businesses. We make liquid products … sauces and dressings. We invented the Big Mac sauce. We make hamburger patties … about 200 million pounds a year, which is about 25 percent of what McDonald's uses in the U.S.

We are in the produce business in Australia, New Zealand. And we are the largest single partner of Taylor Fresh Foods in the U.S. We are in the distribution business. We serve McDonald's in the U.S. in about 11 markets, about 30 percent of their system.

We have a company called Quality Custom Distribution that's serving Starbucks, Chick Fil A and Chipotle. And then we have a supply chain services group, which leverages our capabilities that we've developed over the last 55 years serving McDonald's, and markets those to other channels in the food service industry.

So we are very diversified, very decentralized. This is our worldwide headquarters for a company of 4,000 employees and there's 40 of us here in Irvine.

Puri: But if I am an indication of people in general, I don't eat out as much as I used to. And I think that a lot of people — because of the recession — probably have cut back. How has the recession impacted your business?

Sanderson: Our customer focus is the quick service restaurant industry. We grew up with McDonald's and in certain sectors of our business we've expanded.

Sauces and dressings for instance: we not only make all the sauces and dressings for McDonald's, but we make the hot sauce for Taco Bell and Dell Taco, the barbecue sauce for Famous Dave's and Arby's, and the horsey sauce for Arby's. I could go on and on and on.

The fine dining, white tablecloth restaurants are down as much as 35 percent year over year. The full service casual restaurants are down significant double digits. Fast casual are down high single digits to low double digits. And the quick service restaurant sector, there are some that are down a little, what we say "that's really the flat." But most of our customers are actually well.

Puri: So if the economy continues to slow, your business should do well. Is that what you are saying? What do you see happening in the economy and your business?

Sanderson: We serve our customers in 60 different countries. In the US, over the last few years, we haven't laid anybody off — we've actually been adding jobs. Our liquids business in City of Industry 18 months ago, we had 350 employees there. Today, we have 450.

In our custom distribution business, we are growing and opening new centers and hiring new employees.

So we see the recession as an opportunity. We've seen opportunities to buy business. We are very active in the market for strategic acquisitions. And we are excited about the times ahead.

Getting Back on Track

Puri: What do you think is needed for a business to get on a growth trajectory now? What should they be planning for? How can they take advantage of improving conditions?

Young: The number one thing, all aside, comes from a conversation Paul and I were having, where Paul was talking about his commitment with his company to research during the recession. It's now helping Emulex grow.

The same story within the Irvine Company. What we did was we spent more in the depths of the recession on research then the company ever has in its history.

And we spent lots of time in focus groups. We talked to people everywhere we could. We used every methodology that you can, ethnography research and so on, to find out what would get people excited to buy a new home. We wanted to go to some kind of creativity, an innovation, do something different.

The homes we opened on Saturday are very different from anything you have seen. So creativity, innovation, research is going to be the foundation of how you find a way to grow out of this recession.

Secondly, you have to be organized to get the capital, which it's delightful to hear from our banker because it's been absent in our industry. The third component is that the buyer is in the mood to buy, but they want quality. So you have to have innovation, you have to get organized on the capital side, and I think we are going to see a flight to quality.

So if you can touch those key components, you can go meet the market.

Loans, Credit

Puri: Glenn, why aren't the banks lending? Help us understand what the current situation is and what, from your point view, a bank like yours, what needs to happen for you to lend more?

Gray: There are some bankers in the room and I think they would agree with me that within their institutions, as in ours, we are anxious, willing and capable of lending. What you hear in the news so much is that there is a contraction of credit, and it's true.

Year over year there's about a 13 percent contraction in credit. It's two fold. The number one thing is the lack of demand.

It's not that it's a lack of demand. It's a lack of demand from borrowers who can qualify.

Where we're headed is to credit standards that, if you were borrowing 10 years ago, it's going to be a little more reminiscent of that, where on the consumer side, you do have to have a job, and you do have to have a reasonable FICO, and you do have to have income, and appraisals have to real. And if you are on the business side, it's kind of the same thing.

So how does that translate into us working in Orange County? The good news is, by and large, the banking industry here is healthy and they do want to lend, but you’re just going to have to get accustomed to the fact that it's not going to be loose underwriting as it was in ’04, ’05, even into ’06.

But there is capital out there. It's going to take some convincing perhaps on your part. If you've had a rough period over the last couple of years to convince your lender that you are moving through this, that's possible. You don't have to have absolutely sterling financial statements for the last years to get a loan.

Future of Manufacturing

Puri: Paul, the high-tech industry and manufacturing in general — manufacturing, in particular, is in trouble in the United States. Jobs are moving overseas. There is a danger that the international trade barriers may prevent us from taking a full advantage of the high-tech industry.

Internally, the high-tech industry, at least at a certain point in time in the last upswing, ran into employment constraints, hiring engineers. What do you see are the issues in growing a high-tech sector and it's role more broadly, but also in Orange County?

Folino: Well I think if you look at high tech in Orange County — and once again I think Emulex is representative of the industry — that's a huge challenge in this country right now.

Fifty percent of our revenues come from overseas, so it behooves us to remain competitive to manufacture overseas because there's tax advantages for manufacturing. We no longer manufacture anything in Orange County and many of my peers are offshore as well. So that's a huge challenge in this country for competitive reasons, for tax reasons, etc.

On the other side of the equation though, Emulex — almost 70 percent of our employees are engineers. And although we all have design centers offshore, the majority of our engineering talent is kept in Orange County and in the United States.

Why? Because we have to protect our intellectual property and we don't want to see our intellectual property go offshore because you run huge, huge risks when you do that.

So as we ramp up over the next few years, we may not see growth in the manufacturing sector in technology, but we will see growth on the engineering side because once again, over 60–70 percent of our engineers are here in Orange County. So it's a two pronged approach.

But I think in technology, I don't see manufacturing helping Orange County come out of the recession from a pure manufacturing standpoint.

Globalization

Puri: Globalization for business is a reality, and I know that though your (Sanderson's)company has operations throughout the world, the recovery in the U.S. cannot proceed at its normal course unless the rest of the world also grows.

What is your perspective from what is happening in your industry? What's happening nationally? How is it going to impact us here in Orange County, not only your sector but perhaps generally? And Paul, feel free to chime in because you have a lot of international operations as well.

Sanderson: I think our business is unique. We actually have not felt a slowdown at all in the U.S. We did in our international markets a couple years ago, but over the last 12 months have seen things come back fairly strongly. We're actually having record volumes in those countries. And in Southeast Asia, with all the markets we serve there, we're seeing double-digit growth there.

We see all the markets that we serve stabilizing or growing slightly and again, it's a unique situation because we're benefiting from the value proposition and the affordability of the segment we serve.

I'd like to just say one thing too on a comment Paul made about manufacturing. We used to have a liquid products manufacturing facility three years ago in Malaysia that served all of our Southeast Asian countries. It was a small facility, didn't have the scale that we have here in Los Angeles.

And we struggled with that business. The reason why is that our labor content for our Additionally, what we do is very sophisticated. The formulation, taste profiles, working with our customers, all that professional, higher-valued, higher-talented employee is really here in the U.S.; they're not in Malaysia. And our customers' worldwide headquarters are here in the U.S., they're not in other places around the world. So we have our intellectual property here too that we want to protect.

We’ll import cups and film that makes sachets, make the product here and then ship it overseas because we're such a low labor component even though we're paying such a high labor cost here.

We can ship a frozen or chilled container of product from L.A. Harbor to Southeast Asia for the same price we can ship on refrigerated truck from Los Angeles to Portland, Oregon. There are so many containers and if you drive up to L.A. Harbor you'll see them off the sides of freeways and in empty lots and everything.

So that was a strategic decision we made. We can protect our intellectual capital, leverage our buying power by still sourcing overseas, and our international customers love buying food products made in the U.S., food safety formulations, truth in labeling, all those kinds of things.

So that move for us was a good one and it's driven growth in manufacturing jobs in the L.A. Basin for us. But again, I think we're in a unique situation.

Increasing Exports

Puri: President Obama in his State of the Union message outlined a goal of doubling U.S. exports in five years. That’s a pretty ambitious goal. It's good that he wants to encourage exports. That means he's pro export and not in favor of protectionism.

But I don't know what kind of strategies the U.S. will need to adopt to increase exports by that much. What do you think? Is that a realistic goal? What do you think needs to happen to accomplish that?

Folino: About 60 percent of our revenues came from the U.S. and about 40 percent international. Segue a couple years later, now it's about 50/50. The question is, what's driving that?

Well, I mentioned earlier we have hubs all over the world, and more and more of those have gone offshore. What does that indicate? That means that IBM, HP, Dell, their manufacturing has more and more gone offshore because I'm fulfilling requirements from them.

In the tech industry that (increasing exports) will be a huge challenge for Obama and anybody else trying to steer that back to the United States — once again, because of cost structures as well as tax advantages when you're an international company. The only way I can see him doing that is to create some sense of influence that pulls that back through tax incentives or whatever, gets some of that to slow down and stay in the United States.

Puri: We have covered a whole range of issues. Let me just open the floor up for questions from the audience.

Commercial Real Estate

Q: What is the commercial real estate area doing? What impact does the problems that that area has for the economy, and there's been some mention of a double-dip recession.

Gray: Sure, I'll take a shot at that one because I think it is the next shoe to drop.

If you take a look at the commercial real estate loans done in 2005-06, when underwriting standards were looser than they are today, those loans are going to be coming due for the large part this year and next because a lot of those loans are due in five years. They might be amortized over a longer period of time but they have a five-year maturity. So as I look at the class of '05 and '06, they're coming due.

On a national basis, that's about $1.2 trillion of commercial real estate loans, about a third of the volume out there. And the challenge will be that they cannot be underwritten at the same level that they were underwritten before.

First of all, vacancy rates are higher. Even if the property is performing, they're going to be sensitized differently. So vacancy rates are higher, operating expenses are probably a little higher because you have to give enticements to get people back in, and then cap rates which ultimately drive the value have risen.

I did an example the other day for someone, just a simple commercial real estate property. Two thousand and five to today, the difference was about 25 percent in terms of loan proceeds.

So that borrower has two choices: to come out of pocket for that, or to get some sort of a modification from the lender, which is possible. Just because that value may be off doesn't mean that the property isn't cash flowing, so it's not a complete meltdown. But there is a big problem in refinancing.

And what you're seeing, i.e., Maguire handing the keys back, is when math doesn't work they go, "Well, bank, it's yours." So I think that is going to be a major problem over the next couple years.

Young: I agree it's a major problem. There is a dynamic taking place in the commercial market that's very different from the residential market, and that is, you have a lot of cash in this country in institutional sources, whether it's pension funds, life companies or other entities, that's sitting on the sidelines waiting for opportunity.

We would be an example of somebody who looks weekly at acquisitions in the commercial side, for example.

So as these loans that you described come though and I completely agree with your commentary on it but as they come through, I think what we're going to start to find is the discounting process will take place, ownership can change because there is capital that will come in after the discounter as part of the discount, and take those assets.

And I think it will be a little more efficient than what we've seen in the residential market, in part, because the federal government is less likely to interfere in clearing the market than they did for political reasons in the residential market.

So I do think we're going to see a lot of major assets trade hands after a discount. I will tell you though, what's quite unique is that if you are looking for Class A assets in great downtowns in California, they're not available if you decide today to go buy them. They're just not available.

Most of the people are in a position to hold them. These are big life companies and so on, and they're not going to give up these terrific assets.

I think what we're looking at initially are maybe some B and C class assets that are going to move through the system in large numbers first. Then you'll start to see potentially some of the A assets move through.

So I think it's going to clear much differently than the residential market. It is a huge number, there are going to be losses for people who own this debt. But remember, a lot of this debt has been trading on discount now for some time. So we'll it clear. It's going to take two, three years to do so.

Investment in the State

Q: If and when the California national economy is recovered, that's going to be tied to jobs, and jobs are going to be tied directly to private investment dollars, getting a return on our investment.

Reuters just popped the news a few a days ago of another earthquake about to hit, and it's going to hit in California, that Richmond, California, Chevron is thinking about closing the refinery up there. They had a major job, a billion-dollar job, it got halted, they ran into it for several years and they're probably going to take a $200 billion hit, not a very happy camper.

And if they do close it, most likely their corporate office, their huge campus in San Ramon will also close, and the combined loss of the people working at that refinery and San Ramon and the community that they support is probably a loss 40,000 jobs to California.

And just like Paul said, the refinery will most likely be dismantled and reconstructed over in China. That's who they're talking to now. Again, another manufacturing facility going offshore.

My question is, what do we do to try and retain a Chevron-type company in California, and if we can't, how do we replace the 40,000 jobs?

Young: I'll take a shot. You've just ventured into politics, which I love to thank you.

I would ask this audience to focus on what I think is one of the highest priority crises going on today in California, and that is the political crisis. You take this example, it should be right up on the top screen, the top priority, top of the list of every legislator and our governor because it's a way to preserve jobs even before you get to the business of expanding the economy.

And we've almost melted to the core here politically in California. In my lifetime of involvement, going back to my early 20s, I've never seen it this bad. I've never seen less communication, more partisanship, less meaningful discussion at a time when we need it the most.

We're very worried about higher education in California. It's been our secret sauce. I'd love to know how you make that McDonald's secret sauce.

But we have a disclosed secret sauce formula we can all read and that is, California, one of the great things about it was the UC system and the Cal State system and the incredible access that young people like myself had had to it.

We could lose it. We literally could lose it. So the crisis is upon us on top of everything else we have to think about. Fortunately, elections do get politicians' attention. Don't be frustrated. There's a guy in a truck that woke everybody up about a week ago.

If you look at the State of the Union Address last night, and I watched it very carefully, we have a young, marvelously well-spoken president who, obviously, rewrote his State of the Union speech within the last week. He was looking to walk into that chamber and declare success on health care, move a different agenda than the one he presented last night.

So, you can make a difference in a tiny little state of Massachusetts, and one guy running around in a truck turned the agenda and the State of the Union address around for the president of the United States. We need that equivalent here in California.

International Interest Rates

Q: I'm real good at stirring the pot, so, I'm going to throw a few pots out to you, not so much a question. But, there's another earthquake going on that a lot of you probably haven't even thought about and that's the Chinese have increased their interest rates. And, Glenn, you may want to comment on this. But, what that's doing is it's creating an awful lot of uncertainty in the marketplace, and I'm talking about financial markets.

If the Chinese and the Indians, which are two of the drivers in the world economy, tighten their economies, it will affect all of us. And I know this is about Orange County but it will affect Orange County, as well. The other thing is, it seems to me that there is a huge, huge vacuum of leadership in this country.

That's another earthquake that's creating a lot of this partisanship and this gridlock. Gridlock, I think, is actually good from a political standpoint.… Lack of leadership, tightening of interest rates in Asia and I just had a mental block. What was the third one I mentioned?

Folino: Regulation.

Q: Regulation, yeah. How do you see that affecting not only Orange County, but the rest of the country in the world in general?

Folino: Well, I'll take the first leg of that in reference to the Chinese market. And I made my comments earlier. Right now, we're anticipating a very solid 2010 and we get forecast from our customers anywhere from six months to a minimum to a year.

So I have the value of seeing what IBM's looking at, what all the big players are looking at, and they're all looking at a very, very significant upswing in 2010. Caveat, we're all national companies, we are international companies, I should say.

And as I said earlier, the biggest fear is we could have a double dip, a lot tying back to China and what's going on with interest rates. If they do tighten down those economies, you know, you've got this inflation and the inflation wherever in Japan and you've got China hunkering down a little bit, those could have tremendous impacts on technology in our industry, certainly, and could stymie, you know, coming out of that hole.

Q: I have one more thought too. You know, you were talking about exports. The value of the dollar is becoming garbage. That's both good and bad. It helps drive exports but it also creates inflation in a country that has a devaluing currency. That's one more thing for all of you to think about.

Effect of Regulations

Q: Just listening to all of the comments, it seems to boil down to a couple of things that are holding the country back. One of them is the rules and regulations that keep increasing. The other is the taxation that keeps increasing.

Puri: You may find unanimous agreement of what you said. There's no question that regulation is going to stifle the growth of the companies. I don't know if you want, guys, to respond to it but I think we all agree with that.

Folino: This would be a long, long conversation but we agree.

Information Technology

Q: I see the trend where all of IT is being outsourced, while California, like you're saying, has the highest unemployment rate in the nation. What do you see or how do you see the future of IT?

Folino: Well, I'll take the first stab at it but I think I'd have to disagree with you to some extent. I know IT is the cornerstone to a great extent of our revenue growth because a huge portion of our revenues from product are going into data centers all over the world and in the United States.

And as we're coming out of this recovery, I see IT recovering along with it, because, once again, these data centers and the IT people that run those data centers and link to the data centers are going to be a part of this process of bringing us out, if, once again, we don't have a double dip recession.

Sanderson: You know, I have a perspective on that as well. I know in our industry, which is kind of old line actually across all of our industries, for many, many years it was slow to adopt technology initiatives, if you will, to add value.

Over the last 10 years, it's been remarkable how the industries have changed and are becoming more and more sophisticated, like many of your businesses have been for years. With the affordability of technology and the power and information that that brings to you, and the change in our customers' perspective about what they require, what they want: online ordering systems, you know, vendor managed inventory, those kinds of things that have been done in many spaces for years but are very new to the food service industry.

And those are requiring us to put forth and drive initiatives in our organization that are all linked to IT.

Folino: Good story. I like that. You know, just to reinforce one last thought. What we're looking at, hopefully in 2010 and beyond, is driven to a great extent by these kids who are so much more computer literate. I mean they've grown up the last 10 15 years, grown up around these social networks. And although they are social networks, social networks are now driving marketing and corporate America.

If you look at traditional ways to market your products: television, radio, you know — all the basic fundamental things — now you're seeing a whole other level of social networks that corporate America is starting to leverage. Through Twitter and Facebook and things like that — the audience you can get to on those communication vehicles are amazing. And all of corporate America is moving in that direction.

So I think another phenomenon that's helping technology and helping all of us for productivity is how these kids started 10 or 15 years ago learning about technology, now they're becoming the entry level. They're in the 20s and early 30s now and they're becoming a big part of the cornerstone of the foundation of our companies as we grow.

And you look at these people becoming middle managers 10 years from now, senior managers 15, 20 years from now. It's a whole new phenomenon, I think that's going to really drive US markets, I believe.

Welcoming Innovation

Young: Let me give you a quick example of just exactly that. There's nothing more old world than how you present a new set of homes. I don't think we've changed it since World War II. Build three models, invite people down through an ad in the newspaper, people show up, look at the wonderful decorating, fall over the house and go. That's the old standard look to it.

We did something very different. We had a debate about how we go about doing this. And particularly since we had a story to tell about new or innovative design. What do we do? We ultimately turned to somebody in our company who is, I think, 28 years old, so please don't tell the chairman this story.

Folino: He already knows.

Young: And she's running the whole marketing effort…. So she's out on Facebook, she's out on Twitter. She's out on not only social networks, but the true innovation was she made a great case for let's get out to people before the models open. That's not the psychology of the homebuyer.

Well, I think it is. I think they're computer literate. So we turned our web site into a very robust web site where you could see the plans and do measurements. She found a tool where you could actually furnish the house. All of these things we ended up with instead of the standard interest list going into opening day. We actually converted the interest list into people who would go down to the bank, qualify for the loan, and you'll hear an announcement here on Monday, as to how many sales we've achieved before we ever opened the model homes.

Secondly, we are building these homes off of the computer capability that we put in place during the recession. So the plans are moving back and forth between architect, contractor and us, all on computer. The entire financial system has been re-looked at and re-integrated to do that.

What that has led to is a significant reduction in the cost of the home itself. Indirect cost can be almost 20 percent of the house cost. If you can drop that to 10 percent, you can pass that along to the customer and still make the same profit. So this innovation is reaching into every industry, even some old-line ones like housing itself.

So I'm very encouraged by what will happen here in the next round. Mostly out of necessity, but I think we're going to see a lot of innovation come into the marketplace at every level and every industry. And that will lead to job growth. Who were the first people we hired? Marketing people. What background? Technology, the new technology.

Moving Forward

Folino: I have one quick comment, and bear with me. It goes back to one of the questions I'm not sure we really answered; we tied to it. But I think one of the questions you asked earlier is what can middle and small companies do to prepare themselves during what we see as a recessionary time?

We talked about it a little bit, but I don't think we really answered it. And listening to the dialog today, I think there's a common thread between all four industries and that is, during even really difficult times, we all have to step back, retrench, tweak our business models to survive during a very difficult recession.

But at the same time I think all four industries, or at least four companies here, all look at it similarly, and that is, shame on us if we don't take advantage of a really bad time.

What I'm trying to say is, if I was running a medium-sized or small business today, I would look at it the same way. You have to retrench. You have to get a new business model. You have to hunker down.

But don't lose sight of the fact that the best defense is always a good offense. You should all be looking at, in my view, ways that we're coming out of this, what do we need to do as small business people, medium-sized business people to prepare to win, prepare for success.

And that is, start thinking about — if you haven't already started thinking about it — what do you do to prepare when this thing starts going the other way. Because if you don't, my view is you end up being in the bleachers. And kind of looking out over the game and not being able to play because it will take you some time once it turns, to get back in the game and prepare yourself to take advantage of it.

Puri: This is a great summary, Paul, that you have made. Innovation is the key to growth in the coming post recession world.

Shaping the New Business Landscape