How Amazon Whupped Facebook Last Week

It's been two very different stories for Amazon and Facebook this summer.  Amazon's market cap has risen about 20%, while Facebook lost about 50% of its market value
FB v AMZN 9.10.12

Chart source: Yahoo Finance

Why this has happened was somewhat encapsulated in each company's headlines last week.

Amazon announced it was releasing 2 new eReaders under the Paperwhite name requiring no external light source starting at $119.  Additionally, Kindles for $69 will be available this week.  These actions expand the market for eReaders, already dominated by Amazon, providing for additional growth and lowering a kaboom on the Barnes & Noble Nook which is partnered with Microsoft. 

Offering more functionality and lower prices gives Amazon an even larger lead in the ereader market while simultaneously expanding demand for digital reading giving Amazon more strength versus traditional publishers and the printed book market.  Despite a "nosebleed" high historical price/earnings multiple close to 300, investors, like customers, were charged up to see the opportunities for ongoing growth from new products.

On the other hand, Facebook spent last week explaining to investors a set of decisions being made to prop up the stock price.  The CEO promised not to sell any stock for several months, and explained that the company would not sell more stock to cover taxes on stock-based compensation – even though that was the original plan.  He even tried to promote the avoided transaction as some kind of stock buyback, although there was no stock buyback

Facebook was focused on financial machinations – which have nothing to do with growing the company's revenues or profits.  That the company avoided selling more stock at its deflated prices does help earnings per share, but what's more important is the fact that now $2B will be taken out of cash reserves to pay those taxes.  $2B which won't be spent on new product development, or other activities oriented toward growth. 

Although I am very bullish on Facebook, last week was not a good sign.  A young CEO is clearly feeling heat over the stock value, even though he has control of the company regardless of share price.  It gave the indication that he wanted to mollify investors rather than focus on producing better results – which is what Facebook has to do if it really wants to make investors happy.  Rather than doing what he always promised to do, which was make the world's best network offering users the best experience, his attention was diverted to issues that have absolutely no long-term value, and in the short term reduce resources for fulfilling the long-term mission.

Given the choice between

  1.  a company talking about how it plans to grow revenues and profits, and maintain market domination while outflanking the introduction of new Microsoft products, or
  2. a company apologetic about its IPO, fixated on its declining stock price and apparently diverting focus away from markets and solutions toward financial machinations

which would you choose?  Both may have gone up in value last week – but clearly Mr. Bezos showed he was leading his company, while Mr. Zuckerberg came off looking like he was floundering.

As you look at the announcements from your company, over the last year and anticipate going forward, what do you see?  Are there lots of announcements about new technology applications and product advancements that open new markets for growing revenue while warding off (and making outdated) competitors?  Or is more time spent talking about layoffs, cost cutting efforts, price adjustments to maintain market share, stock buybacks intended to prop up the value, stock (or company) splits, asset (or division) sales, expense reductions, reorganizations or adjustments intended to improve earnings per share? 

If its the former, congratulations! You're acting like Amazon.  You're talking about how you are whupping competitors and creating growth for investors, employees and suppliers.  But if it's the latter perhaps you understand why your equity value isn't rising, employees are disgruntled and suppliers are worried.

Why Groupon Needs a New CEO

Forbes magazine labeled Groupon the world's fastest growing corporation.  And that didn't hurt the company's valuation when it went public in November, 2011. 

But after trading up for a couple of months, at the beginning of March Groupon turned down and has since lost 75% of its market capitalization.  Groupon is now valued at about $3.6B – approaching half of what Google offered to pay for the company in 2011 before leadership decided to go public. 

And nobody, absolutely nobody, can be happy about that.

Groupon pioneered the use of digital coupons in a way that created an explosive new market for local business.  Paper coupon use had been declining for years.  But when Groupon made it possible for on-line individuals to achieve deep discounts on products in local stores using emailed coupons masses of people started buying. From nothing in June, 2009, by June, 2010 revenues grew to an astonishing $100M. Then, between June, 2010 and June, 2011 revenues exploded 10-fold, reaching the magical $1B.  Forbes was not wrong – as this was an astonishing growth accomplishment.

Google, Yahoo, Amazon and other suitors quickly recognized that this was not a fad – but a true growth market:

  • People like deals, and coupons could be successful when updated to modern technology
  • Local programs were extremely hard for internet-wide companies like Google, and Groupon had "cracked the code" for acquiring local-market customers
  • Some Groupon programs had simply astounding results – far exceeding the offerer's expectations.  The downside was the businessess complained about how much the discounts cost them as success exceeded expectations.  The upside was it demonstrated the business had remarkable reach and success.
  • As mobile use grows Groupon can interact with location apps like Foursquare to allow local merchants to target local customers for rapid sales.  Combine that with Twitter distribution and you could have extremely effective local store targeted marketing programs – previously unavailable on the web.
  • Groupon reached a scale allowing it to potentially work with national consumer goods companies like PepsiCo or P&G and their local retailers on new product launches or market specific sales programs, something not previously done via digital networks.

Ah, but problems have emerged at Groupon.  Although none of them really change the above items:

Groupon Gross billings drop Aug 2012
Source:  Business Insider August 13, 2012 Permission to reproduce: Jay Yarrow, Silicon Alley Insider Editor

This last point is extremely deadly.  Groupon's growth rate has fallen from 1,000% to about 35%!  Further, Groupon is dangerously close to a growth stall, which is 2 consecutive quarters of declining revenue.  Only 7% of companies that incur a growth stall maintain a consistent growth rate of even 2%!! Groupon's value is completely based upon maintaining high growth.  So regardless of anything else – including profitability – unless Groupon can find its growth mojo then investors are screwed!

Has the market for daily deals declined?  Not according to Yelp and Amazon, which continue growing their markets.  Consumers are still smarting from a bad economy, and love digital coupons.  The problems at Groupon do not appear to be that the market is disappearing – but rather that management simply does not know what to do next.

Groupon was a rocket ship of growth, and founding CEO Andrew Mason deserves a lot of credit for building the sales machine that outperformed everyone else – including Google and Amazon.  But the other side of his performance was complete inexperience in how to manage finances, operations or any other part of a large publicly traded corporation.  Unprofessional analyst presentations, executive turnover, disrespectful comments to investors and chronic unprofitability all were acceptable if – and only if – he kept up that torrid growth pace.  If he can't drive sales, what's the benefit of keeping him in the top job?

Groupon is a remarkable company, in a remarkable market.  But it has incredibly tough competition.  Seasoned tech investors know that as fast as Groupon sales went up, they can go down.  With smart, well managed competitors in their markets there is no room for error – and no time.  Groupon has to keep the growth going, or it will quickly be overwhelmed by bigger, smarter companies – remember Palm? RIM?

It's not too late for Groupon. It is #1 in its market.  Groupon has the most users, the most customers and by far the most salespeople.  Groupon has other products in the pipeline which solve new needs and can extend sales into other emerging market opportunities.  But Groupon will not survive if it does not recapture growth – and it's time for a CEO with the experience to do just that.  Mr. Mason does not appear to be the next Jeff Bezos or Steve Jobs, so Groupon's Board better go find one!

Why Apple is worth more than Wal-Mart – it’s about the future, not the past


Apple’s market value has struggled in 2011.  When I ask people why, the overwhelming top 3 responses are:

  • How can a company nearly bankrupt 10 years ago become the second most valuable company on the equity market?
  • Apple has had a long run, isn’t it about to end?
  • How can Apple be worth so much, when it has no “real” assets?

I’m struck by how these questions are based on looking backward, rather than looking into the future.

Firstly, it doesn’t matter where you start, but rather how well you run the race.  What happened in the past is just that, the past.  Changing technologies, products, solutions, customers, business practices, economic conditions and competitors cause markets to shift.  When they shift, competitor positions change.  The strong can remain strong, but it’s also possible for company’s fortunes to change drastically. Apple has taken advantage of market shifts – even created them – in order to change its fortunes.  What investors should care about is the future.

Which leads to the second question; and the answer that there’s no reason to think Apple’s growth run will end any time soon.  Perhaps Apple won’t maintain 100% annual growth forever, but it doesn’t have to grow at that rate to be a very valuable investment.  And worth a lot more than the current value.  That Apple can grow at 20% (or a lot more) for another several years is a very high probability bet:

  1. Apple’s growth markets are young, and the markets themselves are growing fast.  Apple is not in a gladiator war to maintain old customers, but instead is creating new customers for digital/mobile entertainment, smartphones and mobile tablets.  Because it is in high growth markets it’s odds of maintaining company growth are very good.  Just look at the recent performance of iPad tablet sales, a market most analysts predicted would struggle against cheaper netbooks.  Quarterly sales are blowing past early 2010 estimates of annual sales, and are 250% over last year (chart source Silicon Alley Insider): IPad Sales 2Q 2011
  2. Apple’s products continue to improve.  Apple is not resting upon its past success, but rather keeps adding new capability to its old offerings in order to migrate customers to its new platforms.  At the recent developer’s conference,for example, Apple described how it was adding Twitter integration for enhanced social media to its platforms and introducing its own messenger service, bypassing 3rd party services (like SMS) and replacing competitive products like RIM’s BBM. 
  3. Further, Apple is introducing new solutions like iCloud (TechStuffs.netApple iCloud Key Features and Price)  offering free wireless synching between Apple platforms, free and seamless back-ups, and the ability to operate without a PC (even Mac flavor) if you want to be mobile-only (“The 10 Huge Things Apple Just RevealedBusinessInsider.com).  These solutions keep expanding the market for Apple sales into new markets –  such as small businesses (Entrepreneur.comWhat Lion Means for Small Business“) as it solves unmet needs ignored by historically powerful solutions providers, or offered at far too high a price.

Thirdly, investors wonder how a company can be worth so much without much in the way of “real” assets.  The answer lies in understanding how the business world has shifted.  In an industrial economy real assets – like land, building, machinery – was greatly valued.  They were the means of production, and wealth generation.  But we have transitioned to the information economy.  Now the information around a business, and providing digital solutions, are worth considerably more than “real” assets. 

How many closed manufacturing plants, retail stores or restaurants have you seen?  How many real estate developers have shuttered?  Contrarily, what’s the value of customer lists and customer access at companies like Amazon.com, GroupOn, Linked-In, Twitter and Facebook in today’s information economy?  What’s the demand for printed books, and what’s the demand for ebooks (such as Kindle?)  “Real” asset values are tumbling because they are easy to obtain, and owning them produces precious little value, or profit, in today’s globally competitive economy. 

This same week that Apple announced a barrage of revenue-generating upgrades and new products asset rich Wal-Mart made an announcement as well.  After a decade in which Apple’s value skyrocketed to over $330B (More than Microsoft and Intel Combined by the way), Wal-Mart’s value has gone nowhere, mired around $185B. Wal-Mart’s answer is to buy back it’s shares.  The Board has authorized continuing and expanding a massive share buyback program of literally 1 million shares/day – 10% of all shares traded daily!  The amount allocated is 1/6th the entire market cap! At this rate 24x7WallStreet.com headlined “Wal-Mart’s Buyback Plan Grows & Grows.. Could Take Itself Private by 2025.” 

Share buybacks produce NO VALUE.  They don’t produce any revenue, or profit.  All they do is take company cash, and spend it to buy company shares.  The asset (cash) is spent (removed) in the process of buying shares, which are then removed from the company’s equity.  The company actually gets smaller, because it has less assets and less equity. (Compared to LInked-In, for example, that grew larger by selling shares and increasing its cash assets.)  Over time the cash disappears, and the equity disappears.  Eventually, you have no company left!  Stock buybacks are an end of lifecycle investment, and should trigger great fear in investors as they demonstrate management has lost the ability to identify high-yield growth opportunities.

Wal-Mart is steeped in assets. It has land, buildings, stores, shelves, warehouses, trucks, huge computer systems.  But these assets simply don’t produce a lot of profit, as competitors are squeezing margins every year.  And there’s not much growth, because doing more of what it always did isn’t really wanted by a lot more people.  So it has gobs of assets.  So what?  The assets simply aren’t worth a lot when the market doesn’t need any more retail stores; especially boring ones with limited product selection, limited imagination and nothing but “low price.” 

Assets aren’t the “store of value” analysts gave them in an industrial economy, and it’s time we realize investing in “assets” is fraught with risk.  Assets, like homes and autos have shown us, can go down in value even easier and faster than they can go up.  Global competitors can match the assets, and drive down prices using cheap labor and operating by less onerous standards. In today’s market, assets are as likely to be an anchor on value as an asset.

I started 2011 saying Apple was a screaming buy.  Today that’s even more true than it was then.  Apple’s revenues, profits and cash flow are up.  Sales in existing lines are still profitably growing at double (or triple) digit rates, and enhancements keep Apple in front of competitors.   Meanwhile Apple is entering new markets every quarter, with solutions meeting existing, unmet needs.  Because value has been stagnant, the value (price) to revenue, earnings and cash flow have all declined, making Apple cheaper than ever.  It’s time to invest based on looking to the future, and not the past.  Doing so means you buy Apple today, and start dumping asset intensive stocks like Wal-mart.

Update 12 June, 2011 – Chart from SeekingAlpha.com.  Apple’s cash hoard grows faster than its valuation.  When a company can grow cash flow and profits faster than revenues – and it’s doubling revenues – that’s a screaming buy!

Apple Cash as Percent of Share Price