Twitter and Linked-In Drove one of 2011’s Fastest Growing Companies

Everyone hears about the growth at Apple.  But far too few of us hear about great growth stories of start-up companies in non-tech industries that use today's sales tools to change the game and steal sales leadership from traditional competitors. 

Jefferson Financial, which moved its headquarters from New York to Louisville, created dramatic, rapid growth using Twitter and Linked-in to take on industry giants like Schwab and B of A's Merrill Lynch.  Readers should take this story to heart, because it shows the kind of success small and medium-sized businesses can have when they break out of traditional thinking and invest in new sales tools while stalwarts remain stuck doing the same old thing with diminishing results.

The Jefferson Financial Story – from Ron Volper, Ph.D

Companies that reduce their sales and marketing budgets in this tough economy—as most have– are doing exactly the wrong thing. While many are trying to cut their way out of the recession, the companies that are thriving in this economy are growing their way out by investing more in sales and marketing. And by capitalizing on new trends, such as social media and technology, to reach out to their customers.
 
That's what enabled Jefferson National Financial to grow its 2010 $180 million revenues to $280 million in 2011 (a 55% annual increase!) — and capture the dominant market share from much larger companies like Charles Schwab — selling financial products such as variable rate annuities to registered investment advisors and their clients throughout the US.

While most industry competitors cut their sales and customer service teams in the recessionary economy, Jefferson National tripled its sales team from 2010 to 2011.  While competitors slashed advertising and marketing, Jefferson National substantially increased its advertising and marketing budget. Sound risky?  Read on for the results.

Jefferson National combined hi-tech and hi-touch. For example, it used LinkedIn, Twitter, and YouTube to reach financial advisors (the intermediaries that recommend its products) and their clients (the investors). The company capitalized on a slew of tweets and re-tweets highlighting its relocation to Louisville and the creation of 95 new high paying management jobs. Social excitement induced both the mayor and the governor to attend a celebratory event, and encouraged the governor to designate a day as Jefferson National Day – creating a low cost media following of the company, its products and its success.

Successful viral marketing combined hi-tech social involvement with classic event marketing.

Lacking anything exciting to say, many of Jefferson's competitors reduced their fees (prices) for products and services to maintain revenues.  Jefferson National was able to maintain its fees by successfully pitching its story directly to customers on-line, then following up with personal assistance, adding value and promoting a successful investor story.  As a result, after only 5 years the company increased its fund offerings from 75 to 350.

Jefferson National leveraged its technology to help financial advisors grow their practices. By hosting financial advisor webinars on how to use Linked-in and other social media to gain referrals from existing clients it created a loyal, growing set of distributors and happy clients.

Additionally, Jefferson National used technology to give financial advisors “an end to end solution” demonstrating to investors on-line, regardless location, the power of tax deferred investment growth, regardless of whether the investor was conservative or aggressive. 

The result – the company generated $1 billion in sales since inception and became the market share leader.

According to the Ron Volper Group’s recent analysis of 125 companies (including Jefferson National), 80% of companies that were successful in the 2008-2010 down market (as measured by meeting and exceeding their revenue and earnings goals and capturing market share) recognized that customer buying behavior changed, and altered their sales and marketing approach while their less successful peers kept doing "more of the same."

Unfortunately, too many companies exacerbated failure by cutting  advertising and marketing budgets.  Today customers demand 8 touches (or contacts) to make a buying decision; whereas prior to 2008 they required only 5 touches. While competition has toughened, customers have simultaneously become MORE demanding!  The winners, like Jefferson National, recognized that social media, such as Twitter, Facebook and LinkedIn are immediate and inexpensive ways to attract attention and have followers share their success messages with their networks. Simultaneously they continued to advertise and promote their products in traditional ways, appealing to the widest swath of prospects.

Most companies have not accepted the increased customer demand for increased touch, without higher prices.  Most have not modified their marketing and sales approach to take account of changes in customer buying behavior. That’s why this is a perfect time for many small and mid-sized companies to adopt new technologies.  These are the "slings" which can allow modern-day business Davids to attack lethargic Goliaths.

Thanks to my colleague Ron Volper for sending along this story.  He is a believer that anyone can grow, even in this economy.  RON VOLPER, Ph.D., is a leading authority on business development and author of Up Your Sales in a Down Market. As Managing Partner of the Ron Volper Group—Building Better Sales Teams, he has advised 90 Fortune 500 Companies and many mid-sized companies on how to increase sales in tough times and good times; and he has trained over 30,000 salespeople and executives over the past 25 years.

I hope your company can take this story to heart and find ways to incorporate new tools f0r creating growth as market shifts make old strategies less valuable, while creating new opportunities.

 

Buy Facebook, P&G’s CEO told you to

Buy Facebook.  I don't care what the IPO price is.

Since Facebook informed us it was going public, and it's estimated IPO valuation was reported, debate has raged over whether the company could possibly be worth $75-$100B.  Almost nobody writes that Facebook is undervalued, but many question whether it is overvalued. 

If you are a trader, moving in and out of positions monthly and using options to leverage short-term price swings then this article is not for you.  But, if you are an investor, someone who holds most stock purchases for a year or longer, then Facebook's IPO may be undervalued.  The longer you can hold it, the more you'll likely make.  Buy it in your IRA if possible, then let it build you a nice nest egg.

About 85% of Facebook's nearly $4B revenues, which almost doubled in 2011, are from advertising.  So understanding advertising is critical to knowing why you want to buy, and hold, Facebook

Facebook has 28% of the on-line display ad market, but only 5% of all on-line advertising.  On-line advertising itself is generally predicted to grow at 16%/year.  But there is a tremendous case to be made that the market will grow a whole lot faster, and Facebook's share will become a whole lot larger.

At the end of January Proctor & Gamble's stock took a hit as earnings missed expectations, and the CEO projected a tough year going forward.  He announced 1,600 layoffs, many in marketing, as he admitted the ad budget was going to be "moderated" – code for cut.  While advertising had grown at 24%/year sales were only growing at 6%.  He then admitted that the "efficiency" of on-line advertising was demonstrating the ability to be much higher than traditional advertising.  In other words, he is planning to cut traditional marketing and advertising, such as coupon printing and ads in newspapers and television, and spend more on-line.

P&G spends about $10B/year on advertising.  2.5x the Facebook revenue.  Now, imagine if P&G moves 10% – or 25% – of its advertising from television (which is now a $250B market) on-line.  That is $1-$2.5B per year, from just one company!  Such a "marginal" move, by just one company, adds 1-3% to the total on-line market.  Now, magnify that across Unilever, Danon, Kimberly-Clark, Colgate, Avon, Coke, Pepsi …… the 200 or 300 largest advertisers and it becomes a REALLY BIG number.

The trend is clear.  People spend less time watching TV and reading newspapers.  We all interact with information and entertainment more and more on computers and mobile devices.  Ad declines have already killed newspapers, and television is on the precipice of following its print brethren.  The market shift toward advertising on-line will continue, and the trend is bound to accelerate. 

Last year P&G launched an on-line marketing program for Old Spice.  The CEO singled out the 1.8 billion free impressions that received on-line.  When the CEO of one of the world's largest advertisers takes note, and says he's going to move that way, you can bet everyone is going to head that direction.  Especially as they recognize the poor "efficiency" of traditional media spending.

And don't forget the thousands of small businesses that have much smaller budgets.  Most of them rarely, or never, could afford traditional media.  On-line is not only more effective, but far cheaper.  Especially as mobile devices makes local marketing even more targeted and effective.  So as big companies shift to on-line we can expect small to medium sized businesses to shift as well, and new advertisers are being created which will expand the market even further.  This trend could lead to a much faster organic market growth rate beyond 16% – perhaps 25% or even more!

Which brings us back to Facebook, which will be the primary beneficiary of this market shift. 

Facebook is rapidly catching up with Google in the referral business.  850 million users is important, because it shows the ability Facebook has to bring people on-line, keep them on-line and then refer them somewhere.  The kind of thing that made Google famous, big and valuable with search a decade ago.  In fact, people spend much more time on Facebook than they do Google.  When advertisers want to reach their audience they go where the people are (and are being referred) and that is Facebook.  Nobody else is even close. 

The good thing about having a big user base, and one that shares information, is the ability to gather data.  Just like Google kept all those billions of searches to analyze and share data, increasingly Facebook is able to do the same.  Facebook will be able to tell advertisers how people interact, how they move between pages, what keeps them on a page and what leads to buying behavior.  Facebook uses this data to help users be more effective, just like Google does to help us do great searches.  But in the future Facebook can package and sell this data to advertisers, helping  them be more effective, and they can use it for selling, and placing, ads.

Facebook usage is dominant in social media, but becoming more dominant in all internet use.  Like how Windows became the dominant platform for PC users, Facebook is well on its way to being the platform for how we use the web.  Email will be less necessary as we communicate across Facebook with those we really want to know.  Information on topics of interest will stream to us through Facebook because we select them, or our friends refer them.  Solving problems will use referrals more, and searching less.  The platform will help us be much more efficient at using the internet, and that reinforces more usage and more users.  All the while attracting more advertisers.

The big losers will be traditional media.  We may watch sports live, but increasingly we'll be unwilling to watch streaming TV as the networks trained boomers.  Companies like NBC will suffer just as newspaper giants such as Tribune Corp., New York Times and Dow Jones.  Ad agencies will have a very tough time, as ad budgets drop their placement fees will decline concomittantly.  Lavish spending on big budget ads will also decline. 

Anyone in on-line advertising is likely to be a winner initially.  Linked-in, Twitter, Pinterest and Google will all benefit from the market shift.  But the biggest winner of all will be Facebook.

What if the on-line ad market grows 25%/year (think not possible? look at how fast the smartphone and tablet markets have grown while PC sales have stagnated last 2 years as that market shifted.  And don't forget that incremental amount could easily happen just by the top 50 CPG companies moving 10% of their budget!)?   That adds $20-$25B incrementally.  If Facebook's share shifts from 5% to 10% that would add $2-2.5B to Facebook first year; more than 50%! 

Blow those numbers up just a bit more.  Say double on-line advertising and give Facebook 20% share as people drop email and traditional search for Facebook – plus mobile device use continues escalating.  Facebook revenues could double up, or more, for several years as trends obsolete newspapers, magazines, televisions, radios, PCs and traditional thoughts about advertising.

If you missed out on AT&T in the 1950s, IBM in the 1960s, Microsoft in 1980, or Apple in 2000, don't miss this one.  Forget about all those spreadsheets and short-term analyst forecasts and buy the trend.  Buy Facebook.

Who’s CEO of the Year? Bezo’s (Amazon) or Page (Google)?

Turning over a new year inevitably leads to selections for "CEO of the Year."  Investor Business Daily selected Larry Page of Google 3 weeks ago, and last week Marketwatch.com selected Jeff Bezos of Amazon.  Comparing the two is worthwhile, because there is almost nothing similar about what the two have done – and one is almost sure to dramatically outperform the other.

Focusing on the Future

What both share is a willingness to focus their companies on the future.  Both have introduced major new products, targeted at developing new markets and entirely new revenue streams for their companies.  Both have significantly sacrificed short-term profits seeking long-term strategic positioning for sustainable, higher future returns.  Both have, and continue to, spend vast sums of money in search of competitive advantage for their organizations.

And both have seen their stock value clobbered.  In 2011 Amazon rose from $150/share low to almost $250 before collapsing at year's end to about $175 – actually lower than it started the calendar year.  Google's stock dropped from $625/share to below $475 before recovering all the way to $670 – only to crater all the way to $585 last week.  Clearly the analysts awarding these CEOs were looking way beyond short-term investor returns when making their selections.  So it is more important than ever we understand what both have done, and are planning to do in the future, if we are to support either, or both, as award winners.  Or buy their stock.

Google participates in great growth markets

The good news for Google is its participation in high growth markets.  Search ads continue growing, supplying the bulk of revenues and profits for the company.  Its Android product gives Google great position in mobile devices, and supporting Chrome applications help clients move from traditional architectures and applications to cloud-based solutions at lower cost and frequently higher user satisfaction.  Additionally, Google is growing internet display ad sales, a fast growing market, by increasing participation in social networks. 

Because Google is in high growth markets, its revenues keep growing healthily.  But CEO Page's "focus" leadership has led to the killing of several products, retrenching from several markets, and remarkably huge bets in 2 markets where Google's revenues and profits lag dramatically – mobile devices and search.

Because Android produces no revenue Google bought near-bankrupt Motorola to enter the hardware and applications business becoming similar to Apple – a big bet using some old technology against what is the #1 technology company on the planet.  Whether this will be a market share winner for Google, and whether it will make or lose money, is far from certain. 

Simultaneously, the Google+ launch is an attempt to take on the King Kong of social – Facebook – which has 800million users and remarkable success.  The Google+ effort has been (and will continue to be) very expensive and far from convincing.  Its product efforts have even angered some people as Google tried steering social networkers rather heavy-handidly toward Google products – as it did with "Search plus Your World" recently.

Mr. Page has positioned Google as a gladiator in some serious "battles to the death" that are investment intensive.  Google must keep fighting the wounded, hurting and desperate Microsoft in search against Bing+Yahoo.  While Google is the clear winner, desperate but well funded competitors are known to behave suicidally, and Google will find the competition intensive.  Meanwhile, its offerings in mobile and social are not unique.  Google is going toe-to-toe with Apple and Facebook with products which show no great superiority.  And the market leaders are wildly profitable while continuously introducing new innovations.  It will be tough fighting in these markets, consuming lots of resources. 

Entering 3 gladiator battles simultaneously is ambitious, to say the least.  Whether Google can afford the cost, and can win, is debatable.  As a result it only takes a small miss, comparing actual results to analyst expectations, for investors to run – as they did last week.

 Amazon redefines competition in its markets

CEO Bezos' leadership at Amazon is very different.  Rather than gladiator wars, Amazon brings out products that are very different and avoids head-to-head competitionAmazon expands new markets by meeting under- or unserved needs with products that change the way customers behave – and keeps competitors from attacking Amazon head-on:

  • Amazon moved from simply selling books to selling a vast array of products on the web.  It changed retail buying not by competing directly with traditional retailers, but by offering better (and different) on-line solutions which traditional retailers ignored or adopted far too slowly.  Amazon was very early to offer web solutions for independent retailers to use the Amazon site, and was very early to offer a mobile interface making shopping from smartphones fast and easy.  Because it wasn't trying to defend and extend a traditional brick-and-mortar retail model, like Wal-Mart, Amazon has redefined retail and dramatically expanded shopping on-line.
  • Amazon changed the book market with Kindle.  It utilized new technology to do what publishers, locked into traditional mindsets (and business models) would not do.  As the print market struggled, Amazon moved fast to take the lead in digital publishing and media sales, something nobody else was doing, producing fast revenue growth with higher margins.
  • When retailers were loath to adopt tablets as a primary interface for shoppers, Amazon brought out Kindle Fire.  Cleverly the Kindle Fire is not directly positioned against the king of all tablets – iPad – but rather as a product that does less, but does things like published media and retail very well — and at a significantly lower price.  It brings the new user on-line fast, if they've been an Amazon customer, and makes life simple and easy for them.  Perhaps even easier than the famously easy Apple products.

In all markets Amazon moves early and deftly to fulfill unmet needs at a very good price.  And then it captures more and more customers as the solution becomes more powerful.  Amazon finds ways to compete with giants, but not head-on, and thus rapidly grow revenues and market position while positioning itself as the long term winner.  Amazon has destroyed all the big booksellers – with the exception of Barnes & Noble which doesn't look too great – and one can only wonder what its impact in 5 years will be on traditional retailers like Kohl's, Penney's and even Wal-Mart.  Amazon doesn't have to "win" a battle with Apple's iPad to have a wildly successful, and profitable, Kindle offering.

The successful CEO's role is different than many expect

A recent RHR International poll of 83 mid-tier company CEOs (reported at Business Insider) discovered that while most felt prepared for the job, most simultaneously discovered the requirements were not what they expected.  In the past we used to think of a CEO as a steward, someone to be very careful with investor money.  And someone expected to know the business' core strengths, then be very selective to constantly reinforce those strengths without venturing into unknown businesses.

But today markets shift quickly.  Technology and global competition means all businesses are subject to market changes, with big moves in pricing, costs and customer expectations, very fast.  Caretaker CEOs are being crushed – look at Kodak, Hostess and Sears.  Successful CEOs have to guide their businesses away from investing in money-losing businesses, even if they are part of the company's history, and toward rapidly growing opportunities created by being part of the shift.  Disruptors are now leading the success curve, while followers are often sucking up a lot of profit-killing dust.

Amazon bears similarities to the Apple of a decade ago.  Introducing new products that are very different, and changing markets.  It is competing against traditional giants, but with very untraditional solutions.  It finds unmet needs, and fills them in unique ways to capture new customers – and creates market shifts.

Google, on the other hand, looks a lot like the lumbering Microsoft.  It has a near monopoly in a growing market, but its investments in new markets come late, and don't offer a lot of innovation.  Google's products end up competing directly, somewhat like xBox did with other game consoles, in very, very expensive – usually money-losing – competition that can go on for years. Google looks like a company trying to use money rather than innovation to topple an existing market leader, and killing a lot of good product ideas to keep pouring money into markets where it is late and not terribly creative.

Which CEO do you think will be the winner in 2015?  Into which company are you prepared to invest?  Both are in high growth markets, but they are being led very, very differently.  And their strategies could not be more different.  Which one you choose to own – as a product customer or investor – will have significant consequences for you (and them) in 3 years. 

It's worth taking the time to decide which you think is the right leadership today.  And be sure you know what leadership principles you are adopting, and following in your organization.

Drop 2011 Dogs for 2012’s Stars – Avoid Kodak, Sears, Nokia, RIMM, HP, Sony – Buy Apple, Amazon, Google, Netflix

The S&P 500 ended 2011 almost exactly where it started.  If ever there was a year when being invested in the right companies, and selling the dogs, mattered for higher portfolio returns it was 2011.  The good news is that many of the 2011 dogs were easy to spot, and easy to sell before ruining your portfolio. 

There were many bad performers.  However, there was a common theme.  Most simply did not adjust to market shifts.  Environmental changes, from technology to regulations, made them less competitive thus producing declining returns as newer competitors benefitted.  Additionally, these companies chose – often over the course of several years – to eschew innovation and new product launches.  They chose to keep investing in efforts to defend and extend historical, but troubled, businesses rather than innovate toward a more successful future.

Looking at the trends that put these companies into trouble we can recognize the need to continue avoiding these companies, even though many analysts are starting to say they may be "value stocks." Instead we can invest in the trends by buying companies likely to grow and increase portfolio returns in 2012.

Avoid Kodak – Buy Apple or Google

Few companies are as iconic as Eastman Kodak, inventor of amateur photography and creator of the star product in the hit 1973 Paul Simon song "Kodachrome." However, it was clear in the late 1980s that digital cameras were going to change photography.  Kodak itself was one of the primary inventors of the core technology, but licensed it to others in order to generate cash it invested trying to defend and extend photographic film and paper sales.  In my 2008 book "Create Marketplace Disruption" I highlighted Kodak as a company so locked-in to film sales that it was unwilling to even consider moving into new markets.

In 2011 EK lost almost all its value, falling from $3.85 share to about 60 cents.  The whole company is now worth only $175M as it rapidly moves toward NYSE delisting and bankruptcy, and complete failure.  The trend that doomed EK has been 2 decades in the making, yet like an ocean freighter collision management simply let momentum kill the company.  The long slide has gone on for years, and will not reverse.  If you want to invest in photography your best plays are smart phone suppliers Apple, and Google for not only the Android software but the Chrome apps that are being used to photoshop images right inside browser windows.

Avoid Sears – Buy Amazon

When hedge fund manager Ed Lampert took over KMart by buying their bonds in bankruptcy, then used that platform to buy Sears back in 2006 the Wall Street folks hailed him as a genius. "Mad Money" Jim Cramer said "Fast Eddie" Lampert was his former college roommate, and that was all he needed to recommend buying the stock.  On the strength of such spurrious recommendations, Sears Holdings initially did quite well.

However, I was quoted in The Chicago Tribune the day of the Sears acquisition announcement saying the merged company was doomed – because the trends were clear.  Wal-Mart was in pitched battle with Target to "own" the discount market which had crushed KMart.  Sears was pinched by them on the low end, and by better operators of vertically focused companies such as Kohl's for clothing, Best Buy for appliances and Home Depot for repair and landscape tools.  Sears was swimming against the trends, and Ed Lampert had no plans to re-invent the company.  What lay ahead was cost-cutting and store closings which would kill both brands in a market already overly saturated with traditional brick-and-mortar retailers as long-term more sales moved on-line.

Now Sears Holdings has gone full circle.  In the last 12 months the stock has dropped from $95 to $31.50 – a decline of more than two thirds (a loss of over $7B in investor value.)  Sears and KMart have no future, nor do the Craftsman or Kenmore brands.  After Christmas management announced a new round of store closings as same stores sales continues its never-ending slide, and finally most industry analysts are saying Sears has nowhere to go but down. 

The retail future belongs to Amazon.com – which is where you should invest if you want to grow portfolio value in 2012.  Look to Kindle Fire and other tablets to accelerate the retail movement on-line, while out-of-date Sears becomes even less relevant and of lower value.

Stay out of Nokia and Research in Motion – Buy Apple

On February 15 I wrote that Nokia had made a horrible CEO selection, and was a stock to avoid.  Nokia invesors lost about $18B of value in 2001 as the stock lost  50% of its market cap in 2011 (62% peak to trough.) May 20 I pounded the table to sell RIMM, which lost nearly 80% of its investor value in 2011 – nearly $60B! 

Both companies simply missed the market shift in smart phones.  Nokia did its best Motorola imitation, which missed the shift from analog to digital cell phones – and then completely missed the shift to smart phones – driving the company to near bankruptcy and acquisition by Google for its patent library.  With no game at all, the Nokia Board hired a former Microsoft executive to arrange a shotgun wedding for launching a new platform – 3 years too late.  Now Apple and Android have over 400,000 apps each, growing weekly, while Microsoft is struggling with 50k apps, no compelling reason to switch and struggles to build a developer network.  Nokia's road to oblivion appears clear.

RIM was first to the smartphone market, and had it locked up for years.  Unfortunately, top management and many investors felt that the huge installed base of corporate accounts, using Blackberry secure servers, would protect the company from competition.  Now the New York Times has reported RIM leadership as one of the worst in 2011, because an installed base is no longer the competitive entry barrier Michael Porter waxed about in the early 1980s.  Corporations are following their users to better productivty by moving fast as possible to the iOS and Android worlds. 

RIM's doomed effort to launch an ill-devised, weakly performing tablet against the Apple iPod juggernaut only served to embarrass the company, at great expense.  At this point, there's little reason to think RIM will do any better than Palm did when the technology shifted, and anyone holding RIMM will likely end up with nothing (as did holders of PALM.)  If you want to be in mobile your best pick is market leading and profitably growing Apple, with a second position in Google as it builds up ancillary products like Chrome to leverage its growing Android base.

 Avoid HP and Sony – Buy Apple

Speaking of Palm, to paraphrase Senator Dirkson "that billion here, a billion there" that added up to some real money lost for HP.  Mark Hurd consolidated HP into a company focused on building volume largely in other people's technology – otherwise known as PCs.  As printing declines, and people shift to tablets and cloud apps, HP has less and less ability to build its profit base. The trends were all going in the wrong direction as market shifts make HP less and less relevant to consumer and corporate customers. 

Selecting Mr. Apotheker was a disastrous choice, and I called for investors to dump the stock when he was hired in January.  An ERP executive, he was firmly planted in the technology of the 1990s.  With a diminished R&D, and an atrophied new product development organization HP is nothing like the organization of its founders, and the newest CEO has offered no clear path for finding the trends and re-igniting growth at HP.  If you want to grow in what we used to call the PC business you need to be in tablets now – and that gets you back, once again, to Apple first, and Google second.

Which opens the door for discussing what in the 1960s through 1980s was the most innovative of all consumer electronics companies, Sony.  But when Mr. Morita was replaced by an MBA CEO that began focusing the company on the bottom line, instead of new gadgets, the pipeline rapidly dried.  Acquisitions, such as a music label, replaced R&D and new product development.  Allegiance to protecting the CD and DVD business, and the players Sony made – along with traditional TVs and PCs – meant Sony missed the wave to MP3, to mobile digital entertainment devices, to DVRs and the emerging market for interactive TV.  What was once a leader is now a follower. 

As a result Sony has lost $4.5B in investor value the last 3 year, and in 2011 lost half its value falling from $37 to $18/share.  As Apple emerges as the top consumer electronics technology leader and profit creator, closely chased by Google, it is unlikely Sony will ever recover that lost value. 

Buying Apple, Amazon, Google and Netflix

This column has already made the case for Apple.  It is almost incomprehensible how far a lead Apple has over its competition, causing investors to fear for its revenue growth prospects.  As a result, the companies P/E multiple is a remarkably low single-digit number, even though its growth is well into the double digits!  But its existing position in growth markets, technology leadership and well oiled new product development capability nearly assures continued profitbale growth for at least 5 years.  Even though the stock, which I recommended as my number 1 buy in January, 2011, has risen some 30% maintaining a big position is remains an investors best portfolio enhancer.

Amazon was a wild ride in 2011, and today is worth almost the same as it was one year ago.  Given that the company is now larger, has a more dominant position in publishing and is the world leader on the trend to on-line retail it is a very good stock to own.  The choice to think long-term and build its user links through sales of Kindle Fire at cost has limited short-term profits, but every action Amazon has taken to grow has paid off handsomely because they accelerate the natural trends and position Amazon as the leader.  Remaining with the trends, and the growth, offers the potential for big payoff this year and for years to come.

Google remains #2 in most markets, but remains aligned with the trends.  It was disappointing that the company cancelled so many great products in 2011 – such as Gear and Wave. And it faces stiff competition in its historical ad markets from the shift toward social media and Facebook's emergence.  However, Google is the best positioned company to displace Microsoft on all those tablets out there with its Chrome apps, and it still is a competitor with the potential for long-term value creation.  It's just hard to be as excited about Google as Apple and Amazon. 

Netflix started 2011 great, but then stumbled.  Starting the year at $190, Netflix rose to $305 before falling to $75.  Investors have seen an 80% decline from the peak, and a 60% decline from beginning of the year.  But this was notably not because company revenues or profits fell, because they didn't.  Rather concerns about price changes and long-term competition caused the stock to drop.  And that's why I remain bullish for owning Netflix in 2012.

Growth can hide a multitude of sins, as I pointed out when making the case to buy in October.  And Netflix has done a spectacular job of preparing itself to transition from physical DVDs to video downloads.  The "game" is not over, and there is a lot of content warring left.  But Netflix was first, and has the largest user base.  Techcrunch recently reported on a Citi survey that found Netflix still has nearly twice the viewership of #2 Hulu (27% vs. 15%.) 

Those who worry about Amazon, Google or Apple taking the Netflix position forget that those companies are making huge bets to compete in other markets and have shown less interest in making the big investments to compete on the content that is critical in the download market.  AOL and Yahoo are also bound up trying to define new strategies, and look unlikely to ever be the content companies they once were.

For those who are banking on competitive war with Comcast and other cable companies to kill off Netflix look no further than how they define themselves (cable operators,) and their horrific customer relationship scores to realize that they are more interested in trying to preserve their old business than rapidly enter a new one.  Perhaps one will try to buy Netflix, but they don't have the management teams or organization to compete effectively.

The fact is that Netflix still has the best strategy for its market, which is still growing exponentially, has the best pricing and is rapidly growing its content to remain in the top position.  That makes it a likely pick for "turnaround of the year" by end of 2012 (at least in the tech/media industry) – even as investments rise over the next 12 months.

Leadership Matters – Ballmer vs. Bezos


Not far from each other, in the area around Seattle, are two striking contrasts in leadership.  They provide significant insight to what creates success today.

Steve Ballmer leads Microsoft, America's largest software company.  Unfortunately, the value of Microsoft has gone nowhere for 10 years.  Steve Ballmer has steadfastly defended the Windows and Office products, telling anyone who will listen that he is confident Windows will be part of computing's future landscape.  Looking backward, he reminds people that Windows has had a 20 year run, and because of that past he is certain it will continue to dominate.

Unfortunately, far too many investors see things differently.  They recognize that nearly all areas of Microsoft are struggling to maintain sales.  It is quite clear that the shift to mobile devices and cloud architectures are reducing the need, and desire, for PCs in homes, offices and data centers.  Microsoft appears years late recognizing the market shift, and too often CEO Ballmer seems in denial it is happening – or at least that it is happening so quickly.  His fixation on past success appears to blind him to how people will use technology in 2014, and investors are seriously concerned that Microsoft could topple as quickly DEC., Sun, Palm and RIM. 

Comparatively, across town, Mr. Bezos leads the largest on-line retailer Amazon.  That company's value has skyrocketed to a near 90 times earnings!  Over the last decade, investors have captured an astounding 10x capital gain!  Contrary to Mr. Ballmer, Mr. Bezos talks rarely about the past, and almost almost exclusively about the future.  He regularly discusses how markets are shifting, and how Amazon is going to change the way people do things. 

Mr. Bezos' fixation on the future has created incredible growth for Amazon.  In its "core" book business, when publishers did not move quickly toward trends for digitization Amazon created and launched Kindle, forever altering publishing.  When large retailers did not address the trend toward on-line shopping Amazon expanded its retail presence far beyond books, including more products  and a small armyt of supplier/partners.  When large PC manufacturers did not capitalize on the trend toward mobility with tablets for daily use Amazon launched Kindle Fire, which is projected to sell as many as 12 million units next year (AllThingsD.com)

Where Mr. Ballmer remains fixated on the past, constantly reinvesting  in defending and extending what worked 20 years ago for Microsoft, Mr. Bezos is investing heavily in the future.  Where Mr. Ballmer increasingly looks like a CEO in denial about market shift, Mr. Bezos has embraced the shifts and is pushing them forward. 

Clearly, the latter is much better at producing revenue growth and higher valuation than the former.

As we look around, a number of companies need to heed the insight of this Seattle comparison:

  • At AOL it is unclear that Mr. Armstrong has a clear view of how AOL will change markets to become a content powerhouse.  AOL's various investments are incoherent, and managers struggle to see a strong future for AOL.  On the other hand, Ms. Huffington does have a clear sense of the future, and the insight for an entirely different business model at AOL.  The Board would be well advised to consider handing the reigns to Ms. Huffington, and pushing AOL much more rapidly toward a different, and more competitive future.
  • Dell's chronic inability to identify new products and markets has left it, at best, uninteresting.  It's supply chain focused strategy has been copied, leaving the company with practically no cost/price advantage.  Mr. Dell remains fixated on what worked for his initial launch 30 years ago, and offers no exciting description of how Dell will remain viable as PC sales diminish.  Unless new leadership takes the helm at Dell, the company's future  5 years hence looks bleak.
  • HP's new CEO Meg Whitman is less than reassuring as she projects a terrible 2012 for HP, and a commitment to remaining in PCs – but with some amorphous pledge toward more internal innovation.  Lacking a clear sense of what Ms. Whitman thinks the world will look like in 2017, and how HP will be impactful, it's hard for investors, managers or customers to become excited about the company.  HP needs rapid acceleration toward shifting customer needs, not a relaxed, lethargic year of internal analysis while competitors continue moving demand further away from HP offerings.
  • Groupon has had an explosive start.  But the company is attacked on all fronts by the media.  There is consistent questioning of how leadership will maintain growth as reports emerge about founders cashing out their shares, highly uneconomic deals offered by customers, lack of operating scale leverage, and increasing competition from more established management teams like Google and Amazon.  After having its IPO challenged by the press, the stock has performed poorly and now sells for less than the offering price.  Groupon desperately needs leadership that can explain what the markets of 2015 will look like, and how Groupon will remain successful.

What investors, customers, suppliers and employees want from leadership is clarity around what leaders see as the future markets and competition.  They want to know how the company is going to be successful in 2 or 5 years.  In today's rapidly shifting, global markets it is not enough to talk about historical results, and to exhibit confidence that what brought the company to this point will propel it forward successfully. And everyone recognizes that managing quarter to quarter will not create long term success.

Leaders must  demonstrate a keen eye for market shifts, and invest in opportunities to participate in game changers.  Leaders must recognize trends, be clear about how those trends are shaping future markets and competitors, and align investments with those trends.  Leadership is not about what the company did before, but is entirely about what their organization is going to do next. 

Update 30 Nov, 2011

In the latest defend & extend action at Microsoft Ballmer has decided to port Office onto the iPad (TheDaily.com).  Short term likely to increase revenue.  But clearly at the expense of long-term competitiveness in tablet platforms.  And, it misses the fact that people are already switching to cloud-based apps which obviate the need for Office.  This will extend the dying period for Office, but does not come close to being an innovative solution which will propel revenues over the next decade.

Why Occupy Wall Street deserves more attention than the Tea Party


Both the Tea Party and Occupy Wall Street want to change America.  That is where the similarity ends. 

The Tea Party is a well organized political machine.  It has clear leaders, an agenda, and it has raised substantial money it uses to promote political candidates that support its agenda.  It is a marvelous example of how a grass-roots organization can become large, powerful and thrive in today's America. It has created significance – which is no small task!

Occupy Wall Street is so disorganized it doesn't even appear to have specific leadership, or hierarchy.  It's even hard to label.  OWS participants demonstrate a lot of anger at the status quo, but shows no clear agenda about what they would like done differently.  OWS appears to have some ability to raise money for its encampments, demonstrations and legal work, but it does not appear to support any particular candidates, or even any particular regulatory platforms or Congressional issues.  Easily enough, one could say it is not significant and deserves little attention.

Just looking at the Republican Presidential campaign, it is pretty clear that the Tea Party is making a difference in what candidates say, and what they do.  The Tea Party clearly has impacted the political process.  On the other hand, for all the media attention Occupy Wall Street receives, it is completely unclear how OWS affects government at all.  Overall, or even in the Democratic party where you would expect progressives to be its best allies.

Yet, I find Occupy Wall Street more interesting than the Tea Party, and there are specific reasons I think everyone should pay attention.

For all its organizing skills, the Tea Party doesn't seem to be growing.  Its communication clarity, and its ability to rally supporters, belies the fact that the group isn't becoming any larger.  It has a hard core group of supporters, who are quite homogeneous, but it isn't attracting waves of new followers.  As a trend, it seems to have plateaued.  Whether it will have any impact outside its own relatively small group and enclaves is unclear.  We have a way of seeing the same people light up at Sarah Palin speaking gigs, but we don't see much groundswell of endorsements otherwise.

On the other hand, the Occupy Wall Street participants seem to be growing (at least if we track rally participants and arrests!).  There are more events, in more cities with each one seeming to bring in larger audiences.  Despite incredibly weak traditional "management" OWS is growing participants, which are remarkably diverse. And apparently willing to accept criminal prosecution for their involvement!

People from all ethnicities and age groups – and even income levels – are becoming involved in OWS.  It is no longer a "bunch of out of work college kids" as we see more pictures of retirees, blue collar workers, blacks, whites, asians and latinos.  Each new police initiative gives us more pictures of people being pepper-sprayed, billyclubbed and dragged away that leads readers to say "that looks a lot like my (cousin, aunt, grandma, uncle, father, etc.) " 

And the number of participating cities keeps growing, even becoming international.  Occupy Wall Street looks like a trend, even if we don't know exactly what that trend represents!  Despite lacking the focus of anti-war protests circa 1964 ("Hey, hey LBJ, how many kids did you kill today?") the events keep growing in number and attendance. – and seem remarkably drug and crime free given that we assume most participants are  – well – homeless, unemployed and impoverished.

The Tea Party talks a lot about history.  From generalizations about "the way things used to be," to frequent references to the 200+ year old Constitution.  It appears to represent replacing the status quo with previous behaviors,  including reaching back to the era before Federal income taxes and most regulatory departments – as if American had no recessions or economic problems prior to the Great Depression. 

Unfortunately, even as a someone north of 50, I find it hard sometimes to connect what the Constitutional framers meant with the reality of 2011 America.  Trying to relate Tea Party generalizations about "limited government" in a world where I'm happy someone assures nuclear power plant security and food safety are hard dots to find a connecting line.  Often the headline sounds good ("lower taxes") but the details leave me asking how do we invest in infrastructure to compete with China in 2012?  

For those who are under 35, such connections to historical perspectives are a remarkable struggle for relevancy, and appropriateness.   These people want are new solutions to today's problems – and those seem to be in short supply from the Tea Party.  While OWS folks all know how Ronald Reagan is, he's much less a god than he is  just a former President (like Kennedy, Roosevelt, or even Lincoln.)

When reading the Tea Party agenda, there isn't a lot about innovation.  For all its Libertarian viewpoints, which followers of Ayn Rand surely enjoy, how America in 2012 is going to increase investments, create jobs and become more competitive in a highly dynamic, global economy against skillful businesses from China, India, Brazil, Russia, etc is remarkably unclear. 

Even though supply side economics have been institutionalized since the Reagan era, there are no strong arguments that today's problems would be helped by doing more of the same.  Whereas there seems ample arguments that perhaps 30 years of doctrinaire implementation of such practices might have contributed to our current problems.

Regardless of your views on demand versus supply economics, there is a complete dearth of innovation in the Tea Party agenda, which is at the least troubling, if not problematic.  How is America to regain its growth agenda by voting into office Tea Party supported candidates?

On the other hand Occupy Wall Street seems to have at its core the notion that insufficient growth is precisely the issue.  The "99%" are people who, in a 2011 rendition of Howard Beale from the 1976 movie Network, have people throwing open their windows, sticking out their heads and shouting "I'm Mad As Hell and I'm Not Going to Take this Anymore." Protesters are screaming for innovation.  They clearly want more investment, particularly from banks, and more hands-on management of growth to create jobs.  Even if they lack any policy recommendations for how to make this happen.

It may sound a little like "mommy, I'm hungry, can you get me something to eat?" which would be naive for a 20-something to say.  But with millions of them living on futons in their parent's basements, using mobile phones paid for by parents, desperately in debt with college loans and with no prospects for work — it's a cry worth hearing, don't you think?  What is the answer that will allow them to apply their skills, enhance their growth – and buy a house!

The OWS people are genuinely angry.  They cannot comprehend why America cannot seem to create more jobs, or provide affordable health care for its citizenry, or even deal effectively with wave after wave of property value declines and foreclosures while those at the top of the economic pyramid seem to keep doing better every year.

Even if the OWS tactics are off-putting to the vast majority, their message does attract a tremendous amount of sympathy.  A lot of "regular people" (what Richard Nixon might have called the "silent majority") are asking, "why didn't the bank bailout seem to create jobs?  Did we really gain by saving GM?  How could we use so much government money, and seemingly still be in the same swamp? Why can't I refinance my house? Why do bankers and CEOs receive $10M bonuses after we bail out their industry?"

America has a growth problem.  Has had one for a decade now.  An inability to create jobs turned the first decade of this millennium into "the lost decade."  For the first time ever, America ended a 10 year span with fewer people working, the stock market lower, wages lower, fewer people insured, interest income non-existent due to low yields and tax receipts down – leading all the largest population states to the edge of bankruptcy and pension-system meltdown.  Like post 1995 Japan, America seems to be in a permanent "Great Recession."

And that problem has spilled over into other developed countries, with the Eurozone now struggling to deal with economic stagnation in countries such as Greece, Italy and Spain.  Harsh government program belt-tightening in Greece is designed to lower the spending costs closer to revenues, but how that will put the huge number of unworking Greeks, especially younger ones, to work is completely unclear. 

Throngs of unworking people in Italy and Spain are hearing that their future, as well, will involve less government assistance.  But where any jobs will be created from belt-tightening is simply not addressed. 

Occupy Wall Street is easy for a traditionalist to ignore.  One could blame their attention on "left wing liberal media." But there's a trend here. Something worth understanding.  Unless we invest in innovation to put people to work, this "movement" could become a much more serious social issue.   

 

How “Best Practices” kill productivity, innovation and growth – Start using Facebook, Twitter, Linked-in!


How much access do your employees have to Facebook, Twitter, Linked-in, GroupOn, FourSquare, and texting in their daily work, on their daily technology devices?  Do you encourage use, or do you in fact block access, in the search for greater security, and on the belief that you achieve higher productivity by killing access to these “work cycle stealers?”  Do you implement policies keeping employees from using their own technology tools (smartphone or tablet) on the job?

In 1984 the PC revolution was still quite young.  Pizza Hut was then a division of PepsiCo (now part of Yum Brands,) and the company was fully committed to a set of mainframe applications from IBM.  Mainframe applications, accessed via a “green screen” terminal were used for all document creation, financial analysis, and even all printing.  The CIO was very proud of his IBM mainframe data center, and his tight control over the application base and users. 

In what seemed like an almost overnight series of events, headquarters employees started bringing small PC’s to work in order to build spreadsheets, create documents and print miscellaneous memos.  They found the new technology so much easier to use, and purchase cost so cheap, that their productivity soared and they were able to please their bosses while leaving work on time.  A good trade-off.

The CIO went ballistic.  “These PCs are popping up like popcorn around here – and we have to kill this trend before it gains any additional momentum!” he decried in an executive meeting.  PCs were “toys” that lacked the “robustness” of his mainframe applications.  If users wanted higher productivity, then they simply needed to spend more time in training. 

Additionally, if he didn’t control access to computing cycles, and activities like printing, employees would go berserk using unnecessary resources on projects they probably should never undertake.  He was servicing the corporation by keeping people on a narrow tool set – and it gave the company control over what employees could do as well as how they could do it making sure nothing frivolous was happening.  For all these reasons, plus the fact that he could assure security on his mainframe, he felt it important that the CEO and executive team commit with him that PCs would not be allowed in Pizza Hut.

Retrospectively, he looks foolish (and his efforts were unsuccessful.)  PCs unleashed a wave of personal productivity that benefitted all early adopters.  They not only let employees do their work faster, but it allowed employees to develop innovative solutions to problems – often dramatically lowering overhead costs for many management tasks.  PCs, of course, swept through the workplace and in only a decade most mainframes, and their high cost, air conditioned data centers, were gone. 

Yet, to this day companies continue to use “best practices” as a tool to stop technology, and productivity improvement, adoption.  Managers will say:

  1. We need to control employee access to information
  2. We need to keep employees focused on their job, without distractions
  3. We must control how employees do their jobs so we minimize errors and improve quality
  4. We need to control employee access externally for security reasons
  5. We need consistency in our tool set and how it is used
  6. We made a big investment in how we do things, and we need to leverage that [sunk cost] by forcing greater use
  7. We need to remember that management are the experts, and it is our job to tell people how to do their jobs.  We don’t want the patients running the hospital!

It all sounds quite logical, and good management practice.  Yet, it is exactly the road to productivity reduction, innovation assassination and limited growth!  Only by allowing employees to apply their skills and best thinking can any company hope to continuously improve its productivity and competitiveness.

But, moving from history and theoretical to today’s behavior, what is happening in your company?  Do you have a clunky, hard to use, expensive ERP, CRM, accounting, HR, production, billing, vendor management, procurement or other system (or factory, distribution center or headquarters site) that you still expect people to use?  Do you demand people use it – largely for some selection of the 7 items above? Do you require they carry a company PC or Blackberry to access company systems, even as the employee carries their own Android smartphone or iPad with them 24×7?

Recently, technology provider IFS Corporation did a survey on ERP users (Does ERP Mean Excel Runs Production?) Their surprising results showed that new employees (especially under age 40) were very unlikely to take a job with a company if they had to use a complex (usually vendor supplied) interface to a legacy application.  In fact, 75% of today’s users are actively seeking – and using – cloud based apps or home grown spreadsheets to manage the business rather than the expensive applications the corporation supplied!  Additionally, between 1/3 and 2/3 of employees (depending upon age) were actively seeking to quit and take another job simply because they found the technology of their company hard to use! (CIO Magazine: Employees Refusing to Use Clunky Enterprise Software.)

Unlike managers invested in historical decisions, and legacy assets, employees understand that without productivity their long-term employment is at risk.  They recognize that constantly shifting markets, with global competitors, requires the flexibility to apply novel thinking and test new solutions constantly.  To succeed, the workforce – all the workforce – needs to be informed, interacting with potential new solutions, thinking and applying their best thoughts to creating new solutions that advance the company’s competitiveness.

That’s why Fast Company recently published something all younger managers know, yet shocks older ones: “Half of Young Professionals Value Facebook Access, Smartphone Options Over Salary.” It surprised a lot of people to learn that employees would actually select access over more pay!

While most older leaders and managers think this is likely because employees want to screw off on the job, and ignore company policies, the article cites a Cisco Connected World Technology Report which describs how these employees value productivity, and realize that in today’s world you can’t really be productive, innovative and generate growth if you don’t have access – and the ability to use – modern tools. 

Today’s young workers aren’t any less diligent about work than the previous generation, they are simply better informed and more technology savvy!  They think even more long-term about the company’s survivability, as well as their ability to make a difference in the company’s success.

In other words, in 2011 tools like Linked-in, Facebook, Twitter et. al. accessed via a tablet or smartphone are the equivalent of the PC 30 years ago.  They give rapid access to what customers, competitors and others in the world are doing.  They allow employees to quickly answer questions about current problems, and find new solutions.  As well as find people who have tried various options, and learn from those experiences.  And they allow the employee to connect with a company problem fast – whether at work or away – and start to solve it!  They can access those within their company, vendors, customers – anyone – rapidly in order to solve problems as quickly as possible.

At a recent conference I asked IT leaders for several major airlines if they allowed employees to access these tools.  Uniformly, the answer was no.  That may be the reason we all struggle with the behavior of airlines, I bemoaned.  It might explain why the vast majority of customers were highly sympathetic with the flight attendant that jettisoned a plane through the emergency exit with a beer in hand!   At the very least, it is a symptom of the internal focus that has kept the major airlines from pleasing 85% of their customers, while struggling to be profitable.  If nobody has external access, how can anybody make anything better?

The best practices of 1975 don’t cut it in 2012.  The world has changed.  It is more important now than ever that employees have the access to modern tools, and the freedom to use them.  Good management today is not about telling people how to do their job, but rather letting them figure out how to do the job best.  Implement that practice and productivity and innovation will show themselves, and you’re highly likely to find more growth!

Better, faster, cheaper is not innovation – Kodak and Microsoft


There is a big cry for innovation these days.  Unfortunately, despite spending a lot of money on it, most innovation simply isn't. And that's why companies don't grow.

The giant consulting firm Booz & Co. just completed its most recent survey on innovation.  Like most analysts, they tried using R&D spending as yardstick for measuring innovation.  Unfortunately, as a lot of us already knew, there is no correlation:

"There is no statistically significant relationship between financial performance and innovation spending, in terms of either total R&D dollars or R&D as a percentage of revenues. Many companies — notably, Apple — consistently underspend their peers on R&D investments while outperforming them on a broad range of measures of corporate success, such as revenue growth, profit growth, margins, and total shareholder return. Meanwhile, entire industries, such as pharmaceuticals, continue to devote relatively large shares of their resources to innovation, yet end up with much less to show for it than they — and their shareholders — might hope for."

(Uh-hum, did you hear about this Abbott? Pfizer? Readers that missed it might want to glance at last week's blog about Abbott, and why it is a sell after announcing plans to split the company.)

Far too often, companies spend most of their R&D dollars on making their products cheaper, operate better, faster or do more.  Clayton Christensen pointed this out some 15 years ago in his groundbreaking book "The Innovator's Dilemma" (HBS Press, 1997).  Most R&D, in most industries, and for most companies, is spent trying to sustain an existing technology – not identify or develop a disruptive technology that would have far higher rates of return. 

While this is easy to conceptualize, it is much harder to understand.  Until we look at a storied company like Kodak – which has received a lot of news this last month.

Kodak price chart 10.5.11
Kodak invented amateur photography, and was rewarded with decades of profitable revenue growth as its string of cheap cameras, film products and photographic papers changed the way people thought about photographs.  Kodak was the world leader in photographic film and paper sales, at great margins, and its value grew exponentially!

Of course, we all know what happened.  Amateur photography went digital.  No more film, and no more film developing.  Even camera sales have disappeared as most folks simply use mobile phones.

But what most people don't know is that Kodak invented digital photography!  Really!  They were the first to create the technology, and the first to apply it.  But they didn't really market it, largely because of fears they would cannibalize their film sales.  In an effort to defend & extend their old business, Kodak licensed digital photography patents to camera manufacturers, abandoned R&D in the product line and maintained its focus on its core business.  Kodak kept making amateur film better, faster and cheaper – until nobody cared any more.

Of course, Kodak wasn't the first to fall into this trap.  Xerox invented desktop publishing but let that market go to Apple, Wintel suppliers and HP printers as it worked diligently trying to defend & extend its copier business.  With no click meter on the desktop publishing equipment, Xerox wasn't sure how to make money with it.  So they licensed it away.

DEC pretty much created and owned the CAD/CAM business before losing it to AutoCad.  Sears created at home shopping, a market now dominated by Amazon.  What's your favorite story?

It's a pattern we see a lot.  And nowhere worse than at Microsoft. 

Do you remember that Microsoft had the Zune player at least as early as the iPod, but didn't bother to develop the technology, or market, letting Apple take the lead in digital music and video devices? Did you remember that the Windows CE smartphone (built by HTC) beat the iPhone to market by years?  But Microsoft didn't really develop an app base, didn't really invest in the smartphone technology or market – and let first RIM and later Apple run away with that market as well. 

Now, several years too late Microsoft hopes its Nokia partnership will help it capture a piece of that market – despite its still rather apparent lack of an app base or breakthrough advantage.

Microsoft is a textbook example of over-investing in existing technology, in an effort to defend & extend an existing product line, to the point of  "over-serving" customer needs.  What new extensions do you want from your PC or office software? 

Do you remember Clippy?  That was the little paper clip that came up in Windows applications to help you do your job better.  It annoyed everyone, and was disabled by everyone.  A product development that nobody wanted, yet was created and marketed anyway.  It didn't sell any additional software products – but it did cost money. That's defend & extend spending.

RD cost MSFT and others 2009

How much a company spends on innovation doesn't matter, because what's important is what the company spends on real breakthroughs rather than sustaining ideas.  Microsoft spends a lot on Windows and Office – it doesn't spend enough on breakthrough innovation for mobile products or games. 

And it doesn't spend nearly enough on marketing non-PC innovations.  We are already well into the back end of the PC lifecycle.  Today more bandwidth is consumed from mobile devices than PC laptops and desktops.  Purchase rates of mobile devices are growing at double digits, while companies (and individuals) are curtailing PC purchases.  But Microsoft missed the boat because it chose to defend & extend PCs years ago, rather than really try to develop the technology and markets for CE and Zune. 

Just look at where Microsoft spends money today.  It's hottest innovation is Kinect.  But that investment is dwarfed by spending on Skype – intended to extend PC life – and ads promoting the use of PC technologies for families this holiday season.

Unfortunately, there are almost no examples of companies that miss the transition to a new technology thriving.  And that's why it is really important to revisit the Kodak chart, and then look at a Microsoft chart. 

MSFT chart 10.27.11.

(Chart 10/27/11)

Do you think Microsoft, after this long period of no value increase, is more likely to go up in value, or more likely to follow Kodak?  Unfortunately, there are few companies that make the transition.  But there have been thousands that have not.  Companies that had very high market share, once made a lot of money, but fell into failure because they invested in better, faster, cheaper rather than innovation.

If you are still holding Kodak, why?  If you're still holding Microsoft, Abbott, Kraft, Sara Lee, Sears or Wal-Mart — why? 

Gladiators get killed. Dump Wal-Mart; Buy Amazon


Wal-Mart has had 9 consecutive quarters of declining same-store sales (Reuters.)  Now that’s a serious growth stall, which should worry all investors.  Unfortunately, the odds are almost non-existent that the company will reverse its situation, and like Montgomery Wards, KMart and Sears is already well on the way to retail oblivion.  Faster than most people think.

After 4 decades of defending and extending its success formula, Wal-Mart is in a gladiator war against a slew of competitors.  Not just Target, that is almost as low price and has better merchandise.  Wal-Mart’s monolithic strategy has been an easy to identify bulls-eye, taking a lot of shots.  Dollar General and Family Dollar have gone after the really low-priced shopper for general merchandise.  Aldi beats Wal-Mart hands-down in groceries.  Category killers like PetSmart and Best Buy offer wider merchandise selection and comparable (or lower) prices.  And companies like Kohl’s and J.C. Penney offer more fashionable goods at just slightly higher prices.  On all fronts, traditional retailers are chiseling away at Wal-Mart’s #1 position – and at its margins!

Yet, the company has eschewed all opportunities to shift with the market.  It’s primary growth projects are designed to do more of the same, such as opening smaller stores with the same strategy in the northeast (Boston.com).  Or trying to lure customers into existing stores by showing low-price deals in nearby stores on Facebook (Chicago Tribune) – sort of a Facebook as local newspaper approach to advertising. None of these extensions of the old strategy makes Wal-Mart more competitive – as shown by the last 9 quarters.

On top of this, the retail market is shifting pretty dramatically.  The big trend isn’t the growth of discount retailing, which Wal-Mart rode to its great success.  Now the trend is toward on-line shopping.  MediaPost.com reports results from a Kanter Retail survey of shoppers the accelerating trend:

  • In 2010, preparing for the holiday shopping season, 60% of shoppers planned going to Wal-Mart, 45% to Target, 40% on-line
  • Today, 52% plan to go to Wal-Mart, 40% to Target and 45% on-line.

This trend has been emerging for over a decade.  The “retail revolution” was reported on at the Harvard Business School website, where the case was made that traditional brick-and-mortar retail is considerably overbuilt.  And that problem is worsening as the trend on-line keeps shrinking the traditional market.  Several retailers are expected to fail.  Entire categories of stores.  As an executive from retailer REI told me recently, that chain increasingly struggles with customers using its outlets to look at merchandise, fit themselves with ideal sizes and equipment, then buying on-line where pricing is lower, options more plentiful and returns easier!

While Wal-Mart is huge, and won’t die overnight, as sure as the dinosaurs failed when the earth’s weather shifted, Wal-Mart cannot grow or increase investor returns in an intensely competitive and shifting retail environment.

The winners will be on-line retailers, who like David versus Goliath use techology to change the competition.  And the clear winner at this, so far, is the one who’s identified trends and invested heavily to bring customers what they want while changing the battlefield.  Increasingly it is obvious that Amazon has the leadership and organizational structure to follow trends creating growth:

  • Amazon moved fairly quickly from a retailer of out-of-inventory books into best-sellers, rapidly dominating book sales bankrupting thousands of independents and retailers like B.Dalton and Borders.
  • Amazon expanded into general merchandise, offering thousands of products to expand its revenues to site visitors.
  • Amazon developed an on-line storefront easily usable by any retailer, allowing Amazon to expand its offerings by millions of line items without increasing inventory (and allowing many small retailers to move onto the on-line trend.)
  • Amazon created an easy-to-use application for authors so they could self-publish books for print-on-demand and sell via Amazon when no other retailer would take their product.
  • Amazon recognized the mobile movement early and developed a mobile interface rather than relying on its web interface for on-line customers, improving usability and expanding sales.
  • Amazon built on the mobility trend when its suppliers, publishers, didn’t respond by creating Kindle – which has revolutionized book sales.
  • Amazon recently launched an inexpensive, easy to use tablet (Kindle Fire) allowing customers to purchase products from Amazon while mobile. MediaPost.com called it the “Wal-Mart Slayer

 Each of these actions were directly related to identifying trends and offering new solutions.  Because it did not try to remain tightly focused on its original success formula, Amazon has grown terrifically, even in the recent slow/no growth economy.  Just look at sales of Kindle books:

Kindle sales SAI 9.28.11
Source: BusinessInsider.com

Unlike Wal-Mart customers, Amazon’s keep growing at double digit rates.  In Q3 unique visitors rose 19% versus 2010, and September had a 26% increase.  Kindle Fire sales were 100,000 first day, and 250,000 first 5 days, compared to  80,000 per day unit sales for iPad2.  Kindle Fire sales are expected to reach 15million over the next 24 months, expanding the Amazon reach and easily accessible customers.

While GroupOn is the big leader in daily coupon deals, and Living Social is #2, Amazon is #3 and growing at triple digit rates as it explores this new marketplace with its embedded user base.  Despite only a few month’s experience, Amazon is bigger than Google Offers, and is growing at least 20% faster. 

After 1980 investors used to say that General Motors might not be run well, but it would never go broke.  It was considered a safe investment.  In hindsight we know management burned through company resources trying to unsuccessfully defend its old business model.  Wal-Mart is an identical story, only it won’t have 3 decades of slow decline.  The gladiators are whacking away at it every month, while the real winner is simply changing competition in a way that is rapidly making Wal-Mart obsolete. 

Given that gladiators, at best, end up bloody – and most often dead – investing in one is not a good approach to wealth creation.  However, investing in those who find ways to compete indirectly, and change the battlefield (like Apple,) make enormous returns for investors.  Amazon today is a really good opportunity.

The Case for Buying Netflix. Really.


Reed Hastings, the CEO of Netflix, has long been considered a pretty good CEO.  In January, 2009 his approval ranking, from Glassdoor, was an astounding 93%.  In January, 2010 he was still on the top 25 list, with a 75% approval rating. And it's not surprising, given that he had happy employees, happy customers, and with Netflix's successful trashing of Blockbuster the company's stock had risen dramaticall,y leading to very happy investors.

But that was before Mr. Hastings made a series of changes in July and September.  First Netflix raised the price on DVD rentals, and on packages that had DVD rentals and streaming download, by about $$6/month.  Not a big increase in dollar terms, but it was a 60% jump, and it caught a lot of media attention (New York Times article).  Many customers were seriously upset, and in September Netflix let investors know it had lost about 4% of its streaming subscribers, and possibly as many as 5% of its DVD subscribers (Daily Mail). 

No investor wants that kind of customer news from a growth company, and the stock price went into a nosedive.  The decline was augmented when the CEO announced Netflix was splitting into 2 companies.  Netflix would focus on streaming video, and Quikster would focus on DVDs. Nobody understood the price changes – or why the company split – and investors quickly concluded Netflix was a company out of control and likely to flame out, ruined by its own tactics in competition with Amazon, et.al.

Neflix Price chart 10-3-2011 Yahoo (Source: Yahoo Finance 3 October, 2011)

This has to be about the worst company communication disaster by a market leader in a very, very long time.  TVWeek.com said Netflix, and Reed Hastings, exhibited the most self-destructive behavior in 2011 – beyond even the Charlie Sheen fiasco! With everything going its way, why, oh why, did the company raise prices and split?  Not even the vaunted New York Times could figure it out.

But let's take a moment to compare Netflix with another company having recent valuation troubles – Kodak. 

Kodak invented home photography, leading it to tremendous wealth as amature film sales soared for seveal decades.  But last week Kodak announced it was about out of cash, and was reaching into its revolving credit line for some $160million to pay bills.  This latest financial machination reinforced to investors that film sales aren't what they used to be, and Kodak is in big trouble – possibly facing bankruptcy.  Kodak's stock is down some 80% this year, from $6 to $1 – and quite a decline from the near $80 price it had in the late 1990s.

Kodak stock price chart 10-3-2011 Yahoo
(Source: Yahoo Finance 10-3-2011)

Why Kodak declined was well described in Forbes.  Despite its cash flow and company strengths, Kodak never succeeded beyond its original camera film business.  Heck, Kodak invented digital photography, but licensed the technology to others as it rabidly pursued defending film sales.  Because Kodak couldn't adapt to the market shift, it now is probably going to fail.

And that is why it is worth revisiting Netflix.  Although things were poorly explained, and certainly customers were not handled well, last quarter's events are the right move for investors in the shifting at-home video entertainment business:

  1. DVD sales are going the direction of CD's and audio cassettes.  Meaning down.  It is important Netflix reap the maximum value out of its strong DVD position in order to fund growth in new markets.  For the market leader to raise prices in low growth markets in order to maximize value is a classic strategic step.  Netflix should be lauded for taking action to maximize value, rather than trying to defend and extend a business that will most likely disappear faster than any of us anticipate – especially as smart TVs come along.
  2. It is in Netflix's best interest to promote customer transition to streaming.  Netflix is the current leader in streaming, and the profits are better there.  Raising DVD prices helps promote customer shifting to the new technology, and is good for Netflix as long as customers don't change to a competitor.
  3. Although Netflix is currently the leader in streaming it has serious competition from Hulu, Amazon, Apple and others.  It needs to build up its customer base rapidly, before people go to competitors, and it needs to fund its streaming business in order to obtain more content.  Not only to negotiate with more movie and TV suppliers, but to keep funding its exclusive content like the new Lillyhammer series (more at GigaOm.com).  Content is critical to maintaining leadership, and that requires both customers and cash.
  4. Netflix cannot afford to muddy up its streaming strategy by trying to defend, and protect, its DVD business.  Splitting the two businesses allows leaders of each to undertake strategies to maximize sales and profits.  Quikster will be able to fight Wal-Mart and Redbox as hard as possible, and Netflix can focus attention on growing streaming.  Again, this is a great strategic move to make sure Netflix transitions from its old DVD business into streaming, and doesn't end up like an accelerated Kodak story.

Historically, companies that don't shift with markets end up in big trouble.  AB Dick and Multigraphics owned small offset printing, but were crushed when Xerox brought out xerography.  Then, afater inventing desktop publishing at Xerox PARC, Xerox was crushed by the market shift from copiers to desktop printers – a shift Xerox created. Pan Am, now receiving attention due to the much hyped TV series launch, failed when it could not make the shift to deregulation.  Digital Equipment could not make the shift to PCs.  Kodak missed the shift from film to digital.  Most failed companies are the result of management's inability to transition with a market shift.  Trying to defend and extend the old marketplace is guaranteed to fail.

Today markets shift incredibly fast.  The actions at Netflix were explained poorly, and perhaps taken so fast and early that leadership's intentions were hard for anyone to understand.  The resulting market cap decline is an unmitigated disaster, and the CEO should be ashamed of his performance.  Yet, the actions taken were necessary – and probably the smartest moves Netflix could take to position itself for long-term success. 

Perhaps Netflix will fall further.  Short-term price predictions are a suckers game.  But for long-term investors, now that the value has cratered, give Netflix strong consideration.  It is still the leader in DVD and streaming.  It has an enormous customer base, and looks like the exodus has stopped.  It is now well organized to compete effectively, and seek maximum future growth and value.  With a better PR firm, good advertising and ongoing content enhancements Netflix has the opportunity to pull out of this communication nightmare and produce stellar returns.