Eastman Kodak: Even a Skinny Elephant Can't Dance

Famed Legg Mason fund manager Bill Miller is known for his daring contrarian picks. With impressive reliability, he finds diamonds not just in the rough, but in the rainforest. One of his favorite out-of-favor stocks is Eastman Kodak. Miller told us recently that Kodak's cut-to-the bone restructuring and its new inkjet printer products will double the stock price of the former film giant. The word "former" applies to both "film" and "giant." Film is a buggy-whip technology, and Kodak's payroll will shrink to less than 30,000 by the end of the year. That's half of what it was three years ago, and a fraction of its 145,000 peak in the late 1980s.

Full disclosure: Nobody wishes Kodak well more than I do. I worked for 12 years as a business reporter and editor for the daily newspaper in Rochester, N.Y., Kodak's hometown. While I tried to remain impartial, I couldn't help but root for a company that meant so much to the community where I lived and where many of my friends worked.

But with all due respect, I think Bill Miller has it wrong. In 1986, former Kodak chairman Walter Fallon famously wondered, "Can the Rochester elephant be made to dance?" The answer, more than 20 years later, is "not yet." The company has repeatedly promised that downsizing and new products would result in dramatic turnarounds, but it has yet to pull one off.

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Kodak has always employed the best and the brightest, says William Patalon, a financial journalist who covered Kodak for years. But a "stultifying" culture made it "incapable of being nimble and flexible," Patalon says. He recalls how it couldn't get single-use cameras to market fast enough to beat the competition, and wound up playing catch up. And now, he points out, its strong share of the digital camera market is slipping.

The company promises that things will be different this time, but Kodak has said the same so often in the past that it's hard to take the latest assurances seriously. On March 14, Kodak announced that it was giving the responsibility of cutting costs to the heads of its two biggest divisions. So streamlining will again become a priority, and streamlining has always distracted the company from growth and innovation.

Kodak is still sluggish at getting products to market in a timely manner. It’s been promising it would break into the inkjet printer market for more than three years and just introduced its first three models on March 13. So the company may be skinnier, but it still has a trunk and tusks.

The strategy for these new products is simple. Kodak printers will cost a bit more than high-end printers sold by market leader Hewlett Packard, but its cartridges will cost $10 to $15 -- about half the price of HP's products. Credit Suisse analyst Rob Semple says that the small number of Kodak's products and limited distribution make success of its printers "an uphill battle."

I’ll add that if Kodak seriously starts cutting into rivals' cartridge business, HP and Lexmark will cut their prices or find some other way to fight back.

Investors need to recognize that Kodak's foray into inkjet printers is a bet-the-farm gamble. Kodak said in January that it's selling its health-imaging unit to Onex for up to $2.55 billion – so Kodak will live or die on digital imaging. Analysts don't think the odds are good. Kodak's stock (symbol EK) closed March 17 at $23.04, up 0.88% for the day. At that price, it sells for 22 times the $1.05 per share that analysts, on average, expect the company to earn next year. That's a healthy multiple for a not-so-healthy company.

So unless you like long shots, or are holding on for sentimental reasons, sell your Kodak stock. But the next printer I buy will have a Kodak logo on it. I hope it will be the first of many, not a memento.