Employees restock shelves of school supplies at a Walmart Stores Inc. location in Burbank, CA. Bloomberg
Last week there was a lot of stock market excitement regarding WalMart. After a “favorable” earnings report analysts turned bullish and the stock jumped 4% in one day, WMT’s biggest rally in over a year, making it a big short-term winner. But the leadership signals indicate WalMart is probably not the best place to put your money.
WalMart has limited growth plans
WalMart is growing about 3%/year. But leadership acknowledged it was not growing its traditional business in the USA, and only has plans to open 25 stores in the next year. It hopes to add about 225 internationally, predominantly in Mexico and China, but unfortunately those markets have been tough places for WalMart to grow share and make profits. And the company has been plagued with bribery scandals, particularly in Mexico.
And, while WalMart touts its 40%+ growth rate on-line, margins online (including the free delivery offer) are even lower than in the traditional Wal-Mart stores, causing the company’s gross margin percentage to decline. The $11.5 billion on-line revenue projection for next year is up, but it is 2.5% of Walmart’s total, and a mere 7-8% of Amazon’s retail sales. Amazon remains the clear leader, with 62% of U.S. households having visited the company in the second quarter. And it is not a good sign that WalMart’s greatest on-line growth is in groceries, which amount to 26% of on-line salesalready. WalMart is investing in 1,000 additional at-store curb-side grocery pick-uplocations, but this effort to defend traditional store sales is in the products where margins are clearly the lowest, and possibly nonexistent.
It is not clear that WalMart has a strategy for competing in a shrinking traditional brick-and-mortar market where Costco, Target, Dollar General, et.al. are fighting for every dollar. And it is not clear WalMart can make much difference in Amazon’s giant on-line market lead. Meanwhile, Amazon continues to grow in valuation with very low profits, even as it grows its presence in groceries with the Whole Foods acquisition. In the 17 months from May 10, 2016 through October 10, 2017 WalMart’s market cap grew by $24 billion (10%,) while Amazon’s grew by $174 billion (57%.)
Even after recent gains for WalMart, its market capitalization remains only 53% of its much smaller on-line competitor. This creates a very difficult pricing problem for WalMart if it has to make traditional margins in order to keep analysts, and investors, happy.
Leadership is not investing to compete, but rather cashing out the business
To understand just how bad this growth problem is, investors should take a look at where WalMart has been spending its cash. It has not been investing in growing stores, growing sales per store, nor really even growing the on-line business. From 2007-2016 WalMart spent a whopping $67.3 billion in share buybacks. That is over 20 times what it spent on Jet.com. And it was 45% of total profits during that timeframe. Additionally WalMart paid out $51.2 billion in dividends, which amounted to 34% of profits. Altogether that is $118.5 billion returned to shareholders in the last decade. And a staggering 79% of profits. It shows that WalMart is really not investing in its future, but rather cashing out the company by returning money to shareholders.
So very large investors, who control huge voting blocks, recognize that things are not going well at WalMart. But, because of the enormity of the share buybacks, the Walton family now controls over half of WalMart stock. That makes it tough for an activist to threaten shaking up the company, and lets the Waltons determine the company’s future.
Buybacks signal Strategy
There will be marginal enhancements. But the vast majority of the money is being returned to them, via $20 billion in share repurchases and $1.5 billion in cash dividends annually.
Amazon spends nothing on share repurchases. Nor does it distribute cash to shareholders via dividends. Amazon’s largest shareholder, Jeff Bezos, invests all the company money in new growth opportunities. These nearly cover the retail landscape, and increasingly are in other growth markets like cloud services, software-as-a-service and entertainment. Comparing the owners of these companies, quite clearly Bezos has faith in Amazon’s ability to invest money for profitable future growth. But the Waltons are far less certain about the future success of WalMart, so they are pulling their money off the table, allowing investors to put their money in ventures outside WalMart.
Investing your money, do you think it is better to invest where the owner believes in the future of his company?
Or where the owners are cashing out?
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Months ago Trian’s Nelson Peltz began buying Procter & Gamble (P&G) shares. He invested about $3.5 billion, making Trian’s ownership 1.5%. Since then he has been lobbying, unsuccessfully, for a seat on P&G’s board of directors. He has said that although P&G already has 10 outside directors on its 11 member board, adding him would make a tremendous difference increasing P&G’s market valuation. P&G is now the largest company ever to engage in a proxy battle between the existing board and an outside investor.
P&G is dead set against adding Peltz, saying he would disrupt the board, and the company, in negative ways. CNBC.com reported Peltz’ claims the company is spending $100 million on the proxy fight to keep him off the board. P&G’s proxy statement puts that sum at $35 million. Either number indicates P&G is spending a lot of money to stop the appointment of Peltz.
Nelson Peltz, Founder Trian Partners, LLC
The company defended itself, saying leadership has been growing EPS (earnings per share,) making productivity improvements, growing sales organically at 2%/year and returning huge value to shareholders. They accuse Peltz of simply planning a split of the company into 3 parts so each can go public on its own – adding little value to shareholders while damaging the company’s ability to operate.
Unfortunately, P&G’s leadership has pretty much set itself up for this battle. And shareholders may have good reason to add Peltz to the board in hopes of additional change.
P&G’s financial performance has been poor
Firstly, in the last 10 years the value of P&G has risen about 44%. But the S&P 500 has grown by 154.5%. Shareholders would have done better owning the average than owning P&G. Claims about how well P&G have done since the CEO arrived 2 years ago overlook the fact that just prior to his arrival, in November, 2014 P&G shares traded at $90-$93.85/share, which is just about where they are now. So all that’s happened is a recovery to where things were previously, not a great success. Shareholders have a right to be frustrated.
EPS has risen, but that has everything to do with share buybacks rather than earnings growth. EPS has risen about 11%. But since 2nd quarter of 2007 P&G has spent ~$61billion on share repurchases, reducing the number of shares from 3.32 billion to 2.74 billion, or 17.5%. Rather than growing earnings, leadership has been making the capital structure smaller – and thus EPS has risen while earnings have not. This is actually a program that goes all the way back to 1995, which indicates a long-term approach of focusing on EPS, which are manipulated, rather than earnings.
P&G has favored divestitures and share repurchases over innovation and acquisitions for growth
Meanwhile, P&G’s buyback program has been financed by a dramatic divestiture program, selling off very large businesses to raise cash. Over the last decade major sales included:
2009 – selling the P&G pharma business
2012 – selling the water filtration business including Pur
2012 – selling Pringles (along with several other iconic brands)
2014 – selling the dog food business
2016 – selling the Duracell battery business
2016 – selling the beauty brand business
Management tried in its response to say that innovation was just fine at P&G. But what it cited were line extensions like Tide PODs, GAIN Flings, Pampers Pants, and Oral B power toothbrush. None of these are great new innovations launching significant sales. None are new product platforms for high growth. Rather they are typical sustaining innovations applied to brands that are long in the tooth.
This is typical of the long-term lack of valuable innovation at P&G. Do you recall in 2009 when the company lauded its development of the “P&G Public Toilet Database App?” Not exactly on the top 20 iTunes list. Or do you remember in 2014 when P&G launched its “Basic” line of products, where it literally sold a less-good quality product hoping to attract a brand-conscious but quality uncaring targeted niche? Peltz is making a good point, that leadership at P&G really has forgotten what good, long-term profit producing innovation is, while succumbing to the strategy of selling major business units (reducing revenue) then using the money to buy back shares rather than investing in future growth.
P&G has not shown it understands how trends are quickly changing its business
Meanwhile, the consumer goods industry is changing dramatically, and it is not clear that P&G’s leadership is really preparing for future changes. P&G still relies heavily on television advertising to sell its products. But that approach had stopped generating profitable growth as far back as 2010. Back then Colgate was holding its market share, and growing revenues, on all its brands that compete with P&G while spending 25% less, and often much less, on advertising.
P&G is still stuck using marketing strategies that have been outdated for almost a decade. Comcast lost 90,000 subscribers in Q2, and the stock lost 7% today when Comcast management alerted investors it expects to lose 150,000 more in Q3. And while viewership is declining, ad pricing is going up, making TV advertising a less effective and more expensive marketing tactic for consumer goods. As P&G brands have fallen further behind competitors in Instagram followers, and lack good social media programs like Wendy’s, Peltz has proposed a substantial increase in digitally savvy marketers.
Simultaneously, distribution is changing dramatically. Once P&G could rely on its product dominance to dictate space usage in grocery stores and discounters. But the rise of e-commerce has dramatically affected these historical distribution channels. Today the fastest growing grocer is Aldi, which eschews brands like P&G’s in favor of its own private label. And after stunting the growth of discounters like WalMart, the leading e-commerce company, Amazon.com, has now purchased Whole Foods. This is leading everyone to expect greater growth in on-line grocery shopping and additional at-home delivery, which undercuts the former strength P&G had in traditional brick-and-mortar stores with warehouse delivery models.
Management bragged of its $3 billion in e-commerce sales, but that is a drop in the bucket. Is P&G ready to compete for sales in future markets where social media is more important than advertising? Where mobile ads have more power than print, TV, radio and traditional internet banners? Where social media groups drive more consumption behavior than company-sponsored social media pages with coupons and use recommendations? Will P&G dominate product volume when it has to rely on Amazon.com and other sites to sell and deliver its products? If people move to daily home deliveries, and less stock-up purchasing what will happen to P&G’s former brand advantage via high numbers of SKUs (stock keeping units) and large packaging options?
This will be an interesting proxy battle. There is no doubt Peltz wants to shake up the board’s behavior, compensation plans, hiring programs, targets and many of the ways management runs the company. Simultaneously, the P&G board believes it is moving in the right direction. Large shareholders are conservative, and don’t like to create problems (P&G’s largest shareholders are Vanguard, Blackrock, State Street, BofA, Capital World, Trian, Northern Trust – which combined control 24% of P&G stock.)
But this isn’t about a complete change in the board. It’s just a vote to add one additional member who is not happy with things the way they are. Will these large shareholders see a need for someone to shake things up, or will they accept current leadership’s claims that things are on the right track?
It will be interesting to watch, because Peltz isn’t without some objective concerns about P&G’s future, given its performance the last decade and the amount of change facing the industry.
GE Chairman and CEO Jeff Immelt walks off stage after being interviewed during the Washington Ideas Forum at the Harmon Center for the Arts September 28, 2016 in Washington, DC. A proud Republican, Immelt said it would hurt the United States and cripple President Barack Obama — and the next president of the U.S. — not to agree to trade deals like theTrans Pacific Partnership (Photo by Chip Somodevilla/Getty Images)
Readers of this column know I’m not a fan of General Electric’s CEO, Jeffrey Immelt. In May, 2012 I listed CEO Immelt as the 4th worst CEO of a large publicly traded American company. Unfortunately, his continued tenure since then did nothing to help make GE a stronger, or more valuable company. GE’s lead director says this is the culmination of a transition plan first developed in 2011. One can only wonder why it took the board so incredibly long to replace the feckless CEO, and why they allowed GE’s leadership to continue destroying shareholder value.
The longer back you look, the worse Immelt’s performance appears.
Few company analysts can say they’ve followed a company for 3 years. Fewer yet can say 5 years. Nearly none can say a decade. Yet, CEO Immelt was in his job for 16 years – much longer than almost all business analysts or writers have followed GE. Therefore, their lack of long-term memory often leaves them unable to give a proper overview of the company’s fortunes under the long-lived CEO.
I have followed GE closely for almost 35 years. Ever since I graduated from HBS class of 1982 along with Mr. Immelt. Several fellow alumni worked at GE, and a large number of my BCG (Boston Consulting Group) colleagues joined GE in senior positions during the mid-1980s as GE grew exponentially. I have followed several of these alumni as the years passed allowing me to take the “long view” on GE’s performance, during Welch’s leadership and more recently since Mr. Immelt took the top job.
I was very pleased to include a positive case study of GE’s business practices in my book “Create Marketplace Distruption – How to Stay Ahead of the Competition” (Financial Times Press, 2007.) CEO Welch used a number of internal processes to help GE leaders identify disruptive opportunities to change industries – whether markets where GE already competed or new markets. He relentlessly encouraged entering new businesses where GE could bring something new to the game, and he put GE’s money to good use growing revenues, and market cap, enormously. No other CEO in American history made as much value for shareholders as Jack Welch. His leadership pushed GE to the top position in most industries, and his relentless focus on growth helped even rank-and-file employees build million dollar IRAs to go with well funded pension and retiree benefit plans.
GE’s performance could not have changed more dramatically than it has under Mr. Immelt. But there are now a number of apologists who would say GE’s smaller size, and lower valuation, are due to market conditions which were out of Mr. Immelt’s control. They contend CEO Immelt was a good steward of the company during difficult market conditions, and the results of his tenure – notably lower revenues, lower valuation, fewer markets, fewer employees and lower community involvement – are not his fault. They argue he did a good job, all things considered.
Balderdash. Immelt was a terrible CEO
There is an overall reluctance to say bad things about any huge American icon, and its CEO. After all, columnists and analysts who are non-congratulatory don’t usually get called by the company to be consultants, or advisors. Or to be on the board. And publishers of columnists who say negative things about big companies and their execs risk having ad dollars moved to more favorable journals, and often unfriendly relationships with their ad departments and agencies. So it is far easier, and more acceptable, to sugar coat bad strategy, bad leadership and bad results.
But we should move beyond that bias. Mr. Immelt was the CEO of the ONLY company on the Dow Jones Industrial Average (DJIA) to have been on that list since it was created. He inherited the most successful company at creating shareholder value during the 1980s and 1990s. He surely should be held to the highest of comparative bars.
Those who say CEO Immelt was “set up to fail” are somehow making the case that Immelt would have been more successful if he had inherited a company with a bad brand image, weak history, and inadequate performance. They are rewriting history to say Jack Welch was not a good CEO, and his outsized gains destined GE to do poorly under his successor. That simply defies the facts – and logic.
Looking at the last 16 years of “difficult times,” when GE has struggled under Immelt’s leadership, one should ask “why did so many other companies do so well?” After all, the DJIA has more than doubled. The S&P 500 has almost doubled. The Russell 2000 has almost tripled. Overall, far more companies have gone up in value than down. Why were Immelt’s circumstances so difficult that all of those CEOs did so much better? They dealt with the same financial meltdown, same Great Recession, same increase in regulations, same federal reserve, same government administration – yet they were able to adapt their companies, grow and increase value.
Yes, GE was huge in financial services when Immelt took the reigns, and financial services saw a major crash. But look at the performance of JPMorganChase under CEO Jamie Dimon (also a classmate of Mr. Immelt.) JPM is stronger today than ever, growing and gaining market share and increasing its value to shareholders. Prior to the crash, in spring 2007, GE was trading at $41/share, and now it is $29 – a decline of ~30%. Back then JPM was trading at $53, and now it is $93 – a gain of ~75%. There obviously was a strategy to adapt to market conditions and do well. Just not at GE.
Immelt reacted to market events, poorly, rather than having a prepared, proactive strategy
Let’s not rewrite history. Prior to the banking crash CEO Immelt was more than happy for GE to be in the “easy money” world of finance. Welch had created GE Capital, and Immelt had furthered its growth when lending was easy and profitable. And he supported the enormous growth in GE’s real estate division. When this industry faced the crash, GE faced a near-bankruptcy not because of Welch, but because of Immelt’s leadership during the over 6 years he had been CEO. If there were risks in the system CEO Immelt had ample time to re-arrange the portfolio, reduce lending, offload financial assets and reduce exposure to real estate and mortgages. But Immelt did not do those things. He did not prepare for a reversal in the markets, and he did not prepare the balance sheet for a significant change of events. It was his leadership that left GE exposed.
As GE shares fell to $7 Immelt made a famous deal with Berkshire Hathaway’s CEO Warren Buffet to increase GE’s capital base in order to stave off demise. And this deal saved GE. But this was an extremely sweet deal for Buffett, giving Berkshire very good interest (10%) on the preferred shares and warrants allowing Buffett to buy future shares of GE at a fixed price. Berkshire made a profit, over and above the interest, of $260M on the deal, and overall at least $1.2B. By being prepared Buffett saved GE and made a lot of money. GE’s investors paid the price for a CEO that was unprepared.
But the changes brought about by the crash, and Dodd-Frank, were more than CEO Immelt could manage. Thus GE exited the business selling many assets at fire sale prices. This “turn tale and run” strategy was sold to the public as a way for GE to “focus” on its “core manufacturing business.” Rather, it was a failure of leadership to understand how to manage this business to future success in changed markets. Where Welch’s GE had grasped for disruption as opportunity, Immelt’s GE gasped at disruption and fled, destroying billions in GE value.
Immelt could not grow GE’s businesses, so he divested GE of many.
GE was to be the “industrial internet giant.” GE was to be a leader in the internet-of-things (IoT) where sensors, the cloud and remote devices created greater productivity. And, to be sure, companies like Apple, Google and Samsung have made huge gains in this market. Even small companies, like Nest, were able to jump on this technology shift with new products for the residential market. But name one market where GE is the dominant IoT player. During 16 years the internet and remote services markets have exploded, yet GE is not the market leader. Rather it is barely recognized.
Rather than growing GE with disruptive innovations and visionary products in emerging technology markets, Immelt’s GE was primarily shrinking via divestitures. In dismantling GE Capital he eliminated the lending and real estate operations. After decades as a leader in appliances, that division was sold. Welch built the extremely successful entertainment division around NBC/Universal, which Immelt sold.
The water business that was to be a world leader under Immelt’s vision, likewise sold – and largely to make sure GE could close the deal on selling its oil & gas unit. Even the famed electrical distribution business, going back to the start of GE, is now close to being sold.
And what happened to all this money? Well, about $50B went into share buybacks – which ostensibly would help shareholders. Only it didn’t, because GE is still worth less than when buybacks started. So the money just disappeared. At least Immelt could have paid it to shareholders as a dividend – but then that would not have boosted his bonuses.
GE’s website says Mr. Immelt wanted to create a “simpler, more valuable industrial company.” Mr. Immelt is definitely leaving behind a simpler, much smaller and weaker company. The brand is gone from consumer products, and severely tarnished in commercial products. GE lacks a great product pipeline, and even a strong development pipeline due to the rampant divestitures. When Mr. Flannery takes over as CEO he will not inherit a powerhouse company. He will inherit a company that is shrinking and rudderless, and disconnected from most growth markets with almost no product, technology or brand advantages. And he will report to the Chairman that created this mess, Mr. Immelt.
The most likely outcome is that Mr. Peltz and his firm, Trian Partners, will buy more GE shares and seek directorships on the board. Then, in a move not unlike the deaths of DuPont and Dow, there will be a massive cost cutting effort to bring expenses in-line with the shrunken GE business. R&D will be discontinued, as will product development. Support groups will be shredded. Customer service will be downsized. Then the remaining pieces will be sold off to buyers, or taken public, leaving GE a dismantled piece of history.
While that may work for the capital markets, and some short-term investors will share in the higher valuation, what about the people? People who dedicated their careers to GE, and are pensioners or current employees? What about cities and counties where GE has been a major employer, and civic contributor? What about customers that bought GE industrial products, only to see those products dropped due to low profitability, or little growth opportunity? What about suppliers that invested in developing new technologies or products for GE to take to market? What will happen to the people who once relied on GE as America’s largest diversified industrial company?
These people all have an ax to grind with the very wealthy, and now departing, CEO Immelt. He inherited what may well have been the most successful company on earth. He leaves behind a far weaker company that may not survive.
Harvard Business Review Press just published an insightful new book by two senior partners at Bain & Company, one of the world’s three leading strategy consulting firms, entitled Time Talent Energy. The book’s great insight is that companies utilize a plethora of tools to manage money and financials to the nth degree, but that approach is less successful than putting a greater focus on managing employee time, talent and energy.
Harvard Business Review Press
Time Talent Energy jacket cover
While managing financials is required in the modern organization, it is insufficient for success. Mankins and Garton discovered that organizations which focus more heavily on managing how employees spend their time and how they thoughtfully place people in their roles, create companies where employees are inspired and 40% more productive than their competition. And this pays off, with profit margins which are 30-50% higher than their industry average. The improvement is so great from focusing on employees that in today’s low cost and easily accessible capital world it is better to waste some cash in the process of better managing time and talent.
In most companies 25% of all productive time is wasted and can reach as high as 40% in complex organizations. Think of all the emails, texts, voice mails and meetings that absorb vast amounts of time. Yet, as the authors are fond of pointing out, nobody can create a 25 hour day. So if you can recapture that time, productivity will soar. The results are far greater than squeezing another 1% (or even 10%) out of your cost structure. If instead of spending so much time managing costs we spent more time eliminating complexity and unneeded tasks, competitiveness will soar.
Some people think that the best companies hire better people. Surprisingly, this is not true. About 15-16% of employees in every company are “A” players. But most companies squander this talent by spreading it around the organization. To achieve higher productivity and greater success, leading companies cluster their “A” players into teams focused on the most critical, important parts of the business. Thus, the best talent is working side-by-side on the most important challenges which can lead to the greatest gains. This talent clustering energizes the best workers, increasing productivity by 44%. But more than that, as the culture is inspired from building on its own gains productivity soars as much as 125%.
But in most organizations the focus still remains on finance. The CFO is frequently the second most powerful individual, behind only the CEO. The head of Human Resources (Chief Human Resources Officer — CHRO) rarely has the clout of a CFO. And the CFO job is seen as the route to CEO — far more CFOs than CHROs become CEOs. Simultaneously, organizations spend exorbitantly on financial control tools, such as ERP (Enterprise Resource Planning) from companies like Oracle and SAP — while very few have any kind of tool set for effectively managing employee time or talent deployment. The authors conclude it is apparent business leaders have significantly overshot on managing financial resources, while allowing their organization to be woefully incapable of managing its human resources.
I had the opportunity to interview Michael Mankins to obtain some additional insight about managing time, talent and energy:
Adam Hartung: Do businesses need to lessen the CFO role, and heighten the CHRO role?
Michael Mankins: The reality is that most human resource decisions, those that determine how people spend their time, and how talent is deployed, are made by line managers. Made within the bowels of the organization, with little more than senior leadership guidelines. There needs to be significantly more involvement by senior leadership in collecting and reviewing data on critical skills for the organization, “A” player performance and leadership development. If as much time was spent by senior leadership teams discussing human resources as spent on budgets there would be a tremendous improvement in productivity.
The CFO and CHRO should definitely be peers. To do that requires a cultural change from being an organization focused on preserving the status quo, reducing mistakes and keeping leadership out of jail to one that is far more future oriented. This can be done and in the book we highlight companies such as ABInBev, Ford, Nordstrom, Starbucks, IKEA, Netflix and others who have accomplished this.
Hartung: Companies spent enormous sums installing ERP systems and they spend a lot to maintain them. Yet, from reading your book it seems like this may have been misguided.
Mankins: All companies need to be able to change their business model as markets shift. ERP frequently creates a wiring that makes it hard to change with the competitive landscape, or as changes in capability are required. ERP locks in the business model at a point in time — but great performers develop ways to adapt.
All companies need a great general ledger. ERP goes far beyond the general ledger and in doing so can make a company too inflexible for today’s rate of change. There needs to be a flexible ERP system —which just doesn’t seem to exist right now. The ERP market seems ripe for a marketplace disrupter!
Simultaneously there aren’t any great tools out there for collecting data that can help a company reduce complexity and eliminate time wasters. Nor are there great tools for managing the performance of “A” players. The top performing companies do create a discipline around these tasks, collecting and analyzing data. Many companies would be helped by a tool that would do for time and talent management what we’ve done for financial management.
Hartung: You demonstrate that clustering “A” players creates dramatic improvement in productivity and company performance. Do great companies focus these clusters on improving the company as it is, or looking for the next “big thing?”
Mankins: We discovered that by and large the greatest gains come from focusing on the latter. Almost all MBA programs are maniacal about training managers to improve the existing business. For many years corporate planning systems have focused almost entirely on improving the operating model. The result is that in many, many industries leadership has almost no hope of improving operating margins by even 1%. There simply is nothing left to improve which can achieve significant results.
Simultaneously, 1% growth has a far, far greater return on investment than 1% operating margin improvement. So if companies focus their best talent on breakthroughs, in whole new ways of running the business, or creating new markets, the results are significantly greater.
Hartung: Many companies have clustered their top performers into “all star teams.” But this has been met by demotivation of employees not on these teams – feeling like “also rans” or “bench warmers.” And often there is a compensation difference between the all-star team members and others that is demotivating. How do leaders manage this conundrum?
Mankins: If this demotivation is driven by internal competitiveness — by ambition to move up the organization — there is a culture problem. Everyone is not on the same page about company needs and the talent to address those needs. Internal competitiveness should be addressed so everyone wants the company to succeed, so everyone individually can succeed. Rewards, compensation and non-compensation, need to be geared for groups to be motivated, not just individuals.
In the organization, leadership should work hard to make sure everyone knows they are important. There should be an effort to reward the “supporting cast” and not just the main characters. It is true that in today’s world many people have an exaggerated view of their own performance. We address this in the book with recommendations for how to give people feedback so they know the reality of their role and their performance in order to grow and do better. Today most companies have a very poorly performing review and training process, because they tie it to the compensation cycle thus limiting feedback to once per year and, unfortunately, doing feedback at the same time (often the same meeting) as compensation and bonus decisions. Addressing the performance feedback process can go a long way to avoid the demotivation problem.
Hartung: How do companies find “A” players?
Mankins: Search firms are the antithesis of finding “A” players. Their approach, their process, is not designed to deliver “A” candidates. To build a good group of “A” players requires the CEO, CHRO and senior leadership team understand what constitutes an “A” player in their organization. Then they can use the entire organization to seek out people with this behavioral signature in order to recruit them.
It is unfortunate that most company HR processes would not recognize an “A” player if one submitted a resume and would not hire one if they arrived for an interview. Most current processes focus too much on relationships (who candidates know,) narrow skills and prior specific experiences and not enough on what is needed for future success. And hiring decisions are often made by the wrong people; people too low in the organization and people who don’t know the desired behavioral signature. Google is one role model for knowing how to find and develop “A” players.
Unfortunately there is enormous ageism in hiring today. Especially in technology. Employers lack awareness of the value of generalizable experience they can bring into their company. The search for very specific experiences often leads to a very limited list of candidates with narrow experience and too often they do not perform at the “A” level when placed in the context of the new company and new competitive market requirements. Looking more broadly at candidates with great experience, even if not seemingly directly applicable (including candidates in their 50s and 60s) could lead to far greater success.
Sears recently announced it is closing another big batch of stores. Yawn. Who cares? Sears losses since 2010 are nearly $10 billion, with a $.75 billion loss in just the third quarter. As revenue fell another 13% overall and comparable store sales declined 7.4% investors have fled the stock for years.
Five years ago Sears had 3,510 stores. Now it has 1,687. It has 750 with leases expiring in the next five years and CFO Jason Hollar has said 550 of those are short-term enough they will let those close.
What’s striking about this statement is that Sears is a perfect candidate to file bankruptcy, renegotiate those leases, and start with a new plan for the future. Unless it has no plan. Lacking a plan to make its business successful and return those stores to profitability, the CFO is admitting the company has no choice but to keep shrinking assets as Sears simply disappears. Investors should view Sears as a microcosm of trends in traditional brick-and-mortar retailing across the industry. The business is shrinking. Fast
A closed retail store is viewed in Manhattan. (Photo by Spencer Platt/Getty Images)
Just look at retail employment. Amidst another strong jobs report for November, retail employment actually shrank. This previously only happened in recessions – and 2016 is definitely not a recession year. And all the losses were in traditional store retailing. Kohl’s said it is hiring almost 13% fewer seasonal workers, and Macy’s says it is hiring 2.4% fewer.
Of course, Amazon seasonal hiring is up 20%.
In January, 2015 I wrote how the trend to e-commerce had taken hold, and traditional retailing would never again be the same. For the 2014 holiday season online retail grew 17%, but brick-and-mortar sales actually declined. This was a pivotal event. It clearly indicated a sea change in the marketplace, and it was clear valuations would be shifting accordingly. Surprising many, but not those who really understood the trends and market shifts, six months later (July, 2015) Amazon’s market cap exceeded that of much larger Wal-Mart.
ALL trends (including mobile use) reinforce on-line growth, brick and mortar decline.
The 2016 holiday season is further reinforcing this trend. The National Retail Federation reported that on black Friday 99 million people went to stores. 108.5million shopped online. Black Friday online sales jumped 21.6%.
And this . E-commerce apps are making the on-line experience constantly better. On Thanksgiving day 70% of all on-line retail traffic was mobile, and for the first time ever 53% of on-line orders were from mobile devices – exceeding the orders placed on PCs. With this kind of access, and easy shopping, the need to travel to physical stores accelerates their decline.
Sears is beyond rescue. Unfortunately, there are a number of retailers already so challenged by the on-line competition that they are “the walking dead.” They will falter, and fail, just like the former Dow Jones Industrial retailing giant. They will not make the shift to on-line effectively. They are unwilling to dramatically change their business model, unwilling to cannibalize store sales to create an aggressively competitive on-line business. Expect bad things at JCPenney, Kohl’s, Pier 1 – and weakness at giants Wal-Mart and even Target.
Christmas used to be the time when investors in traditional retail cheered. Results for the quarter could create great gains in stock values. But that time is long gone – passed during the 2014 inflection when traditional started declining while e-commerce continued double digit growth. One can understand the Scrooge-like mentality of those investors, who dread seeing the shift in customers, and valuation, away from their companies and toward the Amazon’s who embrace trends and market shifts.
As I write this in 2016, Hurricane Matthew is crashing into Daytona Beach. It is a monster storm, and far from over. But there already is a great lesson we can learn.
Shockingly, after passing nearly half of Florida, including densely populated areas like Miami, Fort Lauderdale and Palm Beach, only one person has died. Even as northeastern Florida awaits Matthew’s fury, damage assessments are underway in south Florida. Even though 600,000 homes are without power, utility companies are already restoring power to over 50,000 homes, and that number is growing. The Florida highway system is open, with all roads passable and people are able to reach safety, while realistically expecting they may soon be able to return to their homes. By all accounts, damage is considerable. Yet, few lives were lost and repair is already underway – long before the storm is ending.
Photo by Drew Angerer/Getty Images
The lesson here is that scenario planning is incredibly valuable. Florida’s leaders have been preparing for this storm for years. The many agencies, federal, state, county and municipal, built their scenarios, and prepared action plans. They talked about “what if” various things happened, and thought through the impacts – and actions they would take.
The result is a remarkable demonstration of capability and leadership. Even as the storm progresses, continuing to put more people in harm’s way, the leaders are simultaneously helping those folks prepare and beginning the recovery for those dealing with Matthew’s aftermath.
Then, there’s Brexit. The British currency has fallen to 30-plus year lows. This morning a “flash crash” happened with the currency falling 10% in minutes. Even though the pound recovered much of that loss, the crash left traders and those who do international business shaken. This was just the latest reaction to the British vote to exit the EU.
JUSTIN TALLIS/AFP/Getty Images
This week people in all parts of the international business community were trying to figure out how to react to Prime Minister May’s speech saying Britain would seek a “hard exit.” This seems to imply a faster, more drastic break from Europe. But as David Buik, market commentator at Panmure Gordon & Co. said, “The media decided very quickly what interpretation to put on the term ‘hard Brexit,’ when most of us are none the wiser as to what Brexit means yet.”
The key word here is “reacting.” It is clear that almost nobody had any plans for undertaking Britain’s departure from the EU, even as the effort to create a vote, and implement a vote, occurred. While there was a lot of talk, nobody in government or business had a plan for what to do if the vote to leave actually passed. Now everyone is reacting, and the consequences are significant fear, uncertainty and doubt (FUD), and wild swings in everything from currency values to equity values and even real estate.
Proper scenario planning separates leaders from wanna-bes, and winners from losers. Those who consider what might happen, and prepare for events, inevitably do far, far better than those who react. Lacking a preparedness plan, based on careful consideration of “what-ifs,” it is impossible to implement good decision-making, because you have no idea what markers, or metrics, to watch – and no idea of what actions to take as those metrics vary.
I observed a scenario-planning meeting where the head of planning was asking questions – “what-if…regulations go in this direction…technology accomplishes this level of performance…customer adoption of a substitute increase.” After a series of these propositions were discussed, the CEO said “This seems to be a waste of time. We don’t know what will happen. What if pigs could fly?” Given a lack of facts about the future, he proposed building a future plan based upon the market as it existed at the time, and reacting to changes only after they occurred.
The planning lead responded, “Whether or not pigs will fly has very little to do with the future performance of our company. And that is why we aren’t discussing flying pigs. These variables in the scenarios could have a major impact on future performance, and if we prepare for them we most likely will improve competitiveness, sales and profits.”
Scenario planning is not a wild exercise of imaginary happenings. Scenario planning uses known trends to identify key variables which can be measured. By looking forward on the trend, it is possible to predict possible outcomes – and prepare.
For example, famously, the leadership of Apple in 2000 looked at the trend toward high-speed internet implementation, including WiFi. They started tracking high-speed implementation, and realized that as bandwidth expanded and improved the desire to work on-line would grow as well. They began preparing products for much greater on-line use (iMac) and products based on widely available, low cost internet access. The result was a shift from near bankruptcy to the most valuable traded equity in America in just one decade.
Planning systems are biased toward using historical data, and do not consider big changes. Leadership must constantly fight the urge to assume the future will look like the past, and invest time building scenario plans. Building the skill to predict the future, using trends to build scenarios and plans, is a hallmark of the most successful companies.
Florida’s leaders could have assumed another big hurricane would not hit their state, and simply waited to react when it happened. By thinking through possible outcomes, they have shown an amazing level of preparedness. In contrast, Britain’s leaders did not think through the impact of a British exit, pushed for a vote prematurely, and now are lurching from point to point, reacting to events, unprepared for any outcome – and trying to create and implement a plan “on the fly.”
How prepared is your company? How often do you discuss future scenarios, and actually plan for them? Or do you plan based on history, hoping the future will look like the past? Are you going to use scenarios to be effective in future markets?
Or are you going to wait for events to unfold, react and hope you don’t drown?
Poke’Mon Go is a new sensation. Just launched on July 6, the app is already the #1 app in the world – and it isn’t even available in most countries. In less than 2 weeks, from a standing start, Nintendo’s new app is more popular than both Facebook and Snapchat. Based on this success, Nintendo’s equity valuation has jumped 90% in this same short time period.
Some think this is just a fad, after all it is just 2 weeks old. Candy Crush came along and it seemed really popular. But after initial growth its user base stalled and the valuation fell by about 50% as growth in users, time on app and income all fell short of expectations. And, isn’t the world of gaming dominated by the likes of Sony and Microsoft?
A bit of history
Nintendo launched the Wii in 2006 and it was a sensation. Gamers could do things not previously possible. Unit sales exceeded 20m units/year for 2006 through 2009. But Sony (PS4) and Microsoft (Xbox) both powered up their game consoles and started taking share from Nintendo. By 2011 Nintendo sale were down to 11.6m units, and in 2012 sales were off another 50%. The Wii console was losing relevance as competitors thrived.
Sony and Microsoft both invested heavily in their competition. Even though both were unprofitable at the business, neither was ready to concede the market. In fall, 2014 Microsoft raised the competitive ante, spending $2.5B to buy the maker of popular game Minecraft. Nintendo was becoming a market afterthought.
Meanwhile, back in 2009 Nintendo had 70% of the handheld gaming market with its 3DS product. But people started carrying the more versatile smartphones that could talk, text, email, execute endless apps and even had a lot of games – like Tetrus. The market for handheld games pretty much disappeared, dealing Nintendo another blow.
Competitor strategic errors
Fortunately, the bitter “fight to the death” war between Sony and Microsoft kept both focused on their historical game console business. Both kept investing in making the consoles more powerful, with more features, supporting more intense, lifelike games. Microsoft went so far as to implement in Windows 10 the capability for games to be played on Xbox and PCs, even though the PC gaming market had not grown in years. These massive investments were intended to defend their installed base of users, and extend the platform to attract new growth to the traditional, nearly 4 decade old market of game consoles that extends all the way back to Atari.
Both companies did little to address the growing market for mobile gaming. The limited power of mobile devices, and the small screens and poor sound systems made mobile seem like a poor platform for “serious gaming.” While game apps did come out, these were seen as extremely limited and poor quality, not at all competitive to the Sony or Microsoft products. Yes, theoretically Windows 10 would make gaming possible on a Microsoft phone. But the company was not putting investment there. Mobile gaming was simply not serious, and not of interest to the two Goliaths slugging it out for market share.
Building on trends makes all the difference
Back in 2014 I recognized that the console gladiator war was not good for either big company, and recommended Microsoft exit the market. Possibly seeing if Nintendo would take the business in order to remove the cash drain and distraction from Microsoft. Fortunately for Nintendo, that did not happen.
Nintendo observed the ongoing growth in mobile gaming. While Candy Crush may have been a game ignored by serious gamers, it nonetheless developed a big market of users who loved the product. Clearly this demonstrated there was an under-served market for mobile gaming. The mobile trend was real, and it’s gaming needs were unmet.
Simultaneously Nintendo recognized the trend to social. People wanted to play games with other people. And, if possible, the game could bring people together. Even people who don’t know each other. Rather than playing with unseen people located anywhere on the globe, in a pre-organized competition, as console games provided, why not combine the social media elements of connecting with those around you to play a game? Make it both mobile, and social. And the basics of Poke’Mon Go were born.
Then, build out the financial model. Don’t charge to play the game. But once people are in the game charge for in-game elements to help them be more successful. Just as Facebook did in its wildly successful social media game Farmville. The more people enjoyed meeting other people through the game, and the more they played, the more they would buy in-app, or in-game, elements. The social media aspect would keep them wanting to stay connected, and the game is the tool for remaining connected. So you use mobile to connect with vastly more people and draw them together, then social to keep them playing – and spending money.
The underserved market is vastly larger than the over-served market
Nintendo recognized that the under-served mobile gaming market is vastly larger than the overserved console market. Those console gamers have ever more powerful machines, but they are in some ways over-served by all that power. Games do so much that many people simply don’t want to take the time to learn the games, or invest in playing them sitting in a home or office. For many people who never became serious gaming hobbyists, the learning and intensity of serious gaming simply left them with little interest.
But almost everyone has a mobile phone. And almost everyone does some form of social media. And almost everyone enjoys a good game. Give them the right game, built on trends, to catch their attention and the number of potential customers is – literally – in the billions. And all they have to do is download the app. No expensive up-front cost, not much learning, and lots of fun. And thus in two weeks you have millions of new users. Some are traditional gamers. But many are people who would never be a serious gamer – they don’t want a new console or new complicated game. People of all ages and backgrounds could become immediate customers.
David can beat Goliath if you use trends
In the Biblical story, smallish David beat the giant Goliath by using a sling. His new technology allowed him to compete from far enough away that Goliath couldn’t reach David. And David’s tool allowed for delivering a fatal blow without ever touching the giant. The trend toward using tools for hunting and fighting allowed the younger, smaller competitor to beat the incumbent giant.
In business trends are just as important. Any competitor can study trends, see what people want, and then expand their thinking to discover a new way to compete. Nintendo lost the console war, and there was little value in spending vast sums to compete with Sony and Microsoft toe-to-toe. Nintendo saw the mobile game market disintegrate as smartphones emerged. It could have become a footnote in history.
But, instead Nintendo’s leaders built on trends to deliver a product that filled an unmet need – a game that was mobile and social. By meeting that need Nintendo has avoided direct competition, and found a way to dramatically grow its revenues. This is a story about how any competitor can succeed, if they learn how to leverage trends to bring out new products for under-served customers, and avoid costly gladiator competition trying to defend and extend past products.
Microsoft is buying Linked-In, and we should expect this to be a disaster.
It is clear why Linked-in agreed to be purchased. As revenues have grown, gross margins have dropped precipitously, and the company is losing money. And LInked-in still receives 2/3 of its revenue from recruiting ads (the balance is almost wholly subscription fees,) unable to find a wider advertiser base to support growth. Although membership is rising, monthly active users (MAUs, the most important gauge of social media growth) is only 9% – like Twitter, far below the 40% plus rate of Facebook and upcoming networks. With only 106M MAUs, Linked in is 1/3 the size of Twitter, and 1/15th the size of Facebook. And its $1.5B Lynda acquisition is far, far, far from recovering its investment – or even demonstrating viability as a business.
Even though the price is below the all-time highs for LNKD investors, Microsoft’s offer is far above recent trading prices and a big windfall for them.
But for Microsoft investors, this is a repeat of the pattern that continues to whittle away at their equity value.
Once upon a time, in a land far away, and barely remembered by young people, Microsoft OWNED the tech marketplace. Individuals and companies purchased PCs preloaded with Microsoft Windows 95, Microsoft Office, Microsoft Internet Explorer and a handful of other tools and trinkets. And as companies built networks they used PC servers loaded with Microsoft products. Computing was a Microsoft solution, beginning to end, for the vast majority of users.
But the world changed. Today PC sales continue their multi-year, accelerating decline, while some markets (such as education) are shifting to Chromebooks for low cost desktop/laptop computing, growing their sales and share. Meanwhile, mobile devices have been the growth market for years. Networks are largely public (rather than private) and storage is primarily in the cloud – and supplied by Amazon. Solutions are spread all around, from Google Drive to apps of every flavor and variety. People spend less computing cycles creating documents, spreadsheets and presentations, and a lot more cycles either searching the web or on Facebook, Instagram, WhatsApp, YouTube and Snapchat.
But Microsoft’s leadership still would like to capture that old world. They still hope to put the genie back in the bottle, and have everyone live and work entirely on Microsoft. And somehow they have deluded themselves into thinking that buying Linked-in will allow them to return to the “good old days.”
Microsoft has not done a good job of integrating its own solutions like Office 365, Skype, Sharepoint and Dynamics into a coherent, easy to use, and to some extent mobile, solution. Yet, somehow, investors are expected to believe that after buying Linked-in the two companies will integrate these solutions into the LInked-in social platform, enabling vastly greater adoption/use of Office 365 and Dynamics as they are tied to Linked-in Sales Navigator. Users will be thrilled to have their personal information analyzed by Microsoft big data tools, then sold to advertisers and recruiters. Meanwhile, corporations will come back to Microsoft in droves as they convert Linked-in into a comprehensive project management tool that uses Lynda to educate employees, and 365 to push materials to employees – and allow document collaboration – all across their mobile devices.
Do you really believe this? It might run on the Powerpoint operating system, but this vision will take an enormous amount of code integration. And with Linked-in operated as separate company within Microsoft, who is going to do this integration? This will involve a lot of technical capability, and based on previous performance it appears both companies lack the skills necessary to pull it off. How this mysterious, magical integration will happen is far, far from obvious, or explained in the announcement documents. Sounds a lot more like vaporware than a straightforward software project.
And who thinks that today’s users, from individuals to corporations, have a need for this vision? While it may sound good to Microsoft, have you heard Linked-in users saying they want to use 365 on Linked in? Or that they’ll continue to use Linked-in if forced to buy 365? Or that they want their personal information data mined for advertisers? Or that they desire integration with Dynamics to perform Linked-in based CRM? Or that they see a need for a social-network based project management tool that feeds up training documents or collaborative documents? Are people asking for an integrated, holistic solution from one vendor to replace their current mobile devices and mobile solutions that are upgraded by multiple vendors almost weekly?
And, who really thinks Microsoft is good at acquisition integration? Remember aQuantive? In 2007 Microsoft spent $6B (an 85% premium to market price) to purchase this digital ad agency in order to build its business in the fast growing digital ad space. Don’t feel bad if you don’t remember, because in 2012 Microsoft wrote it off. Of course, there was the buy-it-and-write-it-off pattern repeated with Nokia. Microsoft’s success at taking “bold moves” to expand beyond its core business has been nothing less than horrible. Even the $1.2B acquisition of Yammer in 2012 to make Sharepoint more collaborative and usable has been unsuccessful, even though rolled out for free to 365 users. Yammer is adding nothing to Microsoft’s sales or value as competitor Slack has reaped the growth in corporate messaging.
The only good news story about Microsoft acquisitions is that they missed spending $44B to buy Yahoo – which is now on the market for $5B. Whew, thank goodness that one got away!
Microsoft’s leadership primed the pump for this week’s announcement by having the Chairman talk about investing outside of the company’s core a couple of weeks ago. But the vast majority of analysts are now questioning this giant bet, at a price so high it will lower Microsoft’s earnings for 2 years. Analysts are projecting about a $2B revenue drop for $90B Microsoft next year, and this $26B acquisition will deliver only a $3B bump. Very, very expensive revenue replacement.
Despite all the lingo, Microsoft simply cannot seem to escape its past. Its acquisitions have all been designed to defend and extend its once great history – but now outdated. Customers don’t want the past, they are looking to the future. And no matter how hard they try, Microsoft’s leaders simply appear unable to define a future that is not tightly linked to the company’s past. So investors should expect Linked-In’s future to look a lot like aQuantive. Only this one is going to be the most painful yet in the long list of value transfer from Microsoft investors to the investors of acquired companies.
My last column focused on growth, and the risks inherent in a Growth stall. As I mentioned then, Apple will enter a Growth Stall if its revenue declines year-over-year in the current quarter. This forecasts Apple has only a 7% probability of consistently growing just 2%/year in the future.
This usually happens when a company falls into Defend & Extend (D&E) management. D&E management is when the bulk of management attention, and resources, flow into protecting the “core” business by seeking ways to use sustaining innovations (rather than disruptive innovations) to defend current customers and extend into new markets. Unfortunately, this rarely leads to high growth rates, and more often leads to compressed margins as growth stalls. Instead of working on breakout performance products, efforts are focused on ways to make new versions of old products that are marginally better, faster or cheaper.
Using the D&E lens, we can identify what looks like a sea change in Apple’s strategy.
For example, Apple’s CEO has trumpeted the company’s installed base of 1B iPhones, and stated they will be a future money maker. He bragged about the 20% growth in “services,” which are iPhone users taking advantage of Apple Music, iCloud storage, Apps and iTunes. This shows management’s desire to extend sales to its “installed base” with sustaining software innovations. Unfortunately, this 20% growth was a whopping $1.2B last quarter, which was 2.4% of revenues. Not nearly enough to make up for the decline in “core” iPhone, iPad or Mac sales of approximately $9.5B.
Apple has also been talking a lot about selling in China and India. Unfortunately, plans for selling in India were at least delayed, if not thwarted, by a decision on the part of India’s regulators to not allow Apple to sell low cost refurbished iPhones in the country. Fearing this was a cheap way to dispose of e-waste they are pushing Apple to develop a low-cost new iPhone for their market. Either tactic, selling the refurbished products or creating a cheaper version, are efforts at extending the “core” product sales at lower margins, in an effort to defend the historical iPhone business. Neither creates a superior product with new features, functions or benefits – but rather sustains traditional product sales.
Of even greater note was last week’s announcement that Apple inked a partnership with SAP to develop uses for iPhones and iPads built on the SAP ERP (Enterprise Resource Planning) platform. This announcement revealed that SAP would ask developers on its platform to program in Swift in order to support iOS devices, rather than having a PC-first mentality.
This announcement builds on last year’s similar announcement with IBM. Now 2 very large enterprise players are building applications on iOS devices. This extends the iPhone, a product long thought of as great for consumers, deeply into enterprise sales. A market long dominated by Microsoft. With these partnerships Apple is growing its developer community, while circumventing Microsoft’s long-held domain, promoting sales to companies as well as individuals.
And Apple has shown a willingness to help grow this market by introducing the iPhone 6se which is smaller and cheaper in order to obtain more traction with corporate buyers and corporate employees who have been iPhone resistant. This is a classic market extension intended to sustain sales with more applications while making no significant improvements in the “core” product itself.
And Apple’s CEO has said he intends to make more acquisitions – which will surely be done to shore up weaknesses in existing products and extend into new markets. Although Apple has over $200M of cash it can use for acquisitions, unfortunately this tactic can be a very difficult way to actually find new growth. Each would be targeted at some sort of market extension, but like Beats the impact can be hard to find.
Remember, after all revenue gains and losses were summed, Apple’s revenue fell $7.6B last quarter. Let’s look at some favorite analyst acquisition targets to explain:
- Box could be a great acquisition to help bring more enterprise developers to Apple. Box is widely used by enterprises today, and would help grow where iCloud is weak. IBM has already partnered with Box, and is working on applications in areas like financial services. Box is valued at $1.45B, so easily affordable. But it also has only $300M of annual revenue. Clearly Apple would have to unleash an enormous development program to have Box make any meaningful impact in a company with over $500B of revenue. Something akin of Instagram’s growth for Facebook would be required. But where Instagram made Facebook a pic (versus words) site, it is unclear what major change Box would bring to Apple’s product lines.
- Fitbit is considered a good buy in order to put some glamour and growth onto iWatch. Of course, iWatch already had first year sales that exceeded iPhone sales in its first year. But Apple is now so big that all numbers have to be much bigger in order to make any difference. With a valuation of $3.7B Apple could easily afford FitBit. But FitBit has only $1.9B revenue. Given that they are different technologies, it is unclear how FitBit drives iWatch growth in any meaningful way – even if Apple converted 100% of Fitbit users to the iWatch. There would need to be a “killer app” in development at FitBit that would drive $10B-$20B additional annual revenue very quickly for it to have any meaningful impact on Apple.
- GoPro is seen as a way to kick up Apple’s photography capabilities in order to make the iPhone more valuable – or perhaps developing product extensions to drive greater revenue. At a $1.45B valuation, again easily affordable. But with only $1.6B revenue there’s just not much oomph to the Apple top line. Even maximum Apple Store distribution would probably not make an enormous impact. It would take finding some new markets in industry (enterprise) to build on things like IoT to make this a growth engine – but nobody has said GoPro or Apple have any innovations in that direction. And when Amazon tried to build on fancy photography capability with its FirePhone the product was a flop.
- Tesla is seen as the savior for the Apple Car – even though nobody really knows what the latter is supposed to be. Never mind the actual business proposition, some just think Elon Musk is the perfect replacement for the late Steve Jobs. After all the excitement for its products, Tesla is valued at only $28.4B, so again easily affordable by Apple. And the thinking is that Apple would have plenty of cash to invest in much faster growth — although Apple doesn’t invest in manufacturing and has been the king of outsourcing when it comes to actually making its products. But unfortunately, Tesla has only $4B revenue – so even a rapid doubling of Tesla shipments would yield a mere 1.6% increase in Apple’s revenues.
- In a spree, Apple could buy all 4 companies! Current market value is $35B, so even including a market premium $55B-$60B should bring in the lot. There would still be plenty of cash in the bank for growth. But, realize this would add only $8B of annual revenue to the current run rate – barely 25% of what was needed to cover the gap last quarter – and less than 2% incremental growth to the new lower run rate (that magic growth percentage to pull out of a Growth Stall mentioned earlier in this column.)
Such acquisitions would also be problematic because all have P/E (price/earnings) ratios far higher than Apple’s 10.4. FitBit is 24, GoPro is 43, and both Box and Tesla are infinite because they lose money. So all would have a negative impact on earnings per share, which theoretically should lower Apple’s P/E even more.
Acquisitions get the blood pumping for investment bankers and media folks alike – but, truthfully, it is very hard to see an acquisition path that solves Apple’s revenue problem.
All of Apple’s efforts big efforts today are around sustaining innovations to defend & extend current products. No longer do we hear about gee whiz innovations, nor do we hear about growth in market changing products like iBeacons or ApplePay. Today’s discussions are how to rejuvenate sales of products that are several versions old. This may work. Sales may recover via growth in India, or a big pick-up in enterprise as people leave their PCs behind. It could happen, and Apple could avoid its Growth Stall.
But investors have the right to be concerned. Apple can grow by defending and extending the iPhone market only so long. This strategy will certainly affect future margins as prices, on average, decline. In short, investors need to know what will be Apple’s next “big thing,” and when it is likely to emerge. It will take something quite significant for Apple to maintain it’s revenue, and profit, growth.
The good news is that Apple does sell for a lowly P/E of 10 today. That is incredibly low for a company as profitable as Apple, with such a large installed base and so many market extensions – even if its growth has stalled. Even if Apple is caught in the Innovator’s Dilemma (i.e. Clayton Christensen) and shifting its strategy to defending and extending, it is very lowly valued. So the stock could continue to perform well. It just may never reach the P/E of 15 or 20 that is common for its industry peers, and investors envisioned 2 or 3 years ago. Unless there is some new, disruptive innovation in the pipeline not yet revealed to investors.
Leading tech tracking companies IDC and Gartner both announced Q1, 2016 PC sales results, and they were horrible. Sales were down 9.5%-11.5% depending on which tracker you asked. And that’s after a horrible Q4, 2015 when sales were off more than 10%. PC sales have now declined for 6 straight quarters, and sales are roughly where they were in 2007, 9 years ago.
Oh yeah, that was when the iPhone launched – June, 2007. And just a couple of years before the iPad launched. Correlation, or causation?
Amazingly, when Q4 ended the forecasters were still optimistic of a stabilization and turnaround in PC sales. Typical analyst verbage was like this from IDC, “Commercial adoption of Windows 10 is expected to accelerate, and consumer buying should also stabilize by the second half of the year. Most PC users have delayed an upgrade, but can only maintain this for so long before facing security and performance issues.” And just to prove that hope springs eternal from the analyst breast, here is IDC’s forecast for 2016 after the horrible Q1, “In the short term, the PC market must still grapple with limited consumer interest and competition from other infrastructure upgrades in the commercial market. Nevertheless….things should start picking up in terms of Windows 10 pilots turning into actual PC purchases.”
Fascinating. Once again, the upturn is just around the corner. People have always looked forward to upgrading their PCs, there has always been a “PC upgrade cycle” and one will again emerge. Someday. At least, the analysts hope so. Maybe?
Microsoft investors must hope so. The company is selling at a price/earnings multiple of 40 on hopes that Windows 10 sales will soon boom, and re-energize PC growth. Surely. Hopefully. Maybe?
The world has shifted, and far too many people don’t like to recognize the shift. When Windows 8 launched it was clear that interest in PC software was diminishing. What was once a major front page event, a Windows upgrade, was unimportant. By the time Windows 10 came along there was so little interest that its launch barely made any news at all. This market, these products, are really no longer relevant to the growth of personal technology.
Back when I predicted that Windows 8 would be a flop I was inundated with hate mail. It was clear that Ballmer was a terrible CEO, and would soon be replaced by the board. Same when I predicted that Surface tablets would not sell well, and that all Windows devices would not achieve significant share. People called me “an Apple Fanboy” or a “Microsoft hater.” Actually, neither was true. It was just clear that a major market shift was happening in computing. The world was rapidly going mobile, and cloud-based, and the PC just wasn’t going to be relevant. As the PC lost relevancy, so too would Microsoft because it completely missed the market, and its entries were far too tied to old ways of thinking about personal and corporate computing – not to mention the big lead competitors had in devices, apps and cloud services.
I’ve never said that modern PCs are bad products. I have a son half way through a PhD in Neurobiological Engineering. He builds all kinds of brain models and 3 dimensional brain images and cell structure plots — and he does all kinds of very exotic math. His world is built on incredibly powerful, fast PCs. He loves Windows 10, and he loves PCs — and he really “doesn’t get” tablets. And I truly understand why. His work requires local computational power and storage, and he loves Windows 10 over all other platforms.
But he is not a trend. His deep understanding of the benefits of Windows 10, and some of the PC manufacturers as well as those who sell upgrade componentry, is very much a niche. While he depends heavily on Microsoft and Wintel manufacturers to do his work, he is a niche user. (BTW he uses a Nexus phone and absolutely loves it, as well. And he can wax eloquently about the advantages he achieves by using an Android device.)
Today, I doubt I will receive hardly any comments to this column. Because to most people, the PC is nearly irrelevant. People don’t actually care about PC sales results, or forecasts. Not nearly as much as, say, care about whether or not the iPhone 6se advances the mobile phone market in a meaningful way.
Most people do their work, almost if not all their work, on a mobile device. They depend on cloud and SaaS (software-as-a-service) providers and get a lot done on apps. What they can’t do on a phone, they do on a tablet, by and large. They may, or may not, use a PC of some kind (Mac included in that reference) but it is not terribly important to them. PCs are now truly generic, like a refrigerator, and if they need one they don’t much care who made it or anything else – they just want it to do whatever task they have yet to migrate to their mobile world.
The amazing thing is not that PC sales have fallen for 6 quarters. That was easy to predict back in 2013. The amazing thing is that some people still don’t want to accept that this trend will never reverse. And many people, even though they haven’t carried around a laptop for months (years?) and don’t use a Windows mobile device, still think Microsoft is a market leader, and has a great future. PCs, and for the most part Microsoft, are simply no more relevant than Sears, Blackberry, or the Encyclopedia Britannica. Yet it is somewhat startling that some people have failed to think about the impact this has on their company, companies that make PC software and hardware – and the impact this will have on their lives – and likely their portfolios.