Ten rules from the world's greatest investor
By Nick Louth, MSN Money special correspondent
Last updated February 3 2005
Learn to be a better investor from the master – Warren Buffett.
The Sage of Omaha – also know as Warren Buffett - is regarded as the world’s greatest investor, having turned $100 invested in 1954 into $41 billion by the end of 2004.
He’s pretty good with words too, as these ten sayings of his show.
1. “All there is to investing is picking good stocks at good times and staying with them as long as they remain good companies.”
He makes it all sound so simple. Buffett is very choosy about which stocks he chooses to buy and when, and when he buys you can be sure he’s read right through the annual reports of not just it but the reports of each of its competitors.
What he’s looking for above all is companies with an enduring competitive advantage. If they’ve got that, he’s more than happy to hold for decades.
2. “If the business does well, the stock eventually follows.”
Too many investors spend their time worrying about a share price because they think its gyrations tell them something is happening at the company, something they don’t know about.
Buffett’s confidence in the few businesses he chooses to invest in is such that he doesn’t really care about market prices, which is a reflection of what others think of them. It certainly helps that he either buys outright or gets offered a place on the board of a number of companies that he invests in.
3. “Draw a circle around the businesses you understand and then eliminate those that fail to qualify on the basis of value, good management and limited exposure to hard times.”
Understanding what you invest in is the core of the Buffett approach. He has never owned a technology stock because he claims not to understand them. He restricts his investments to companies he really understands.
This tends to lead him to fewer holdings than many other professional portfolio managers have, but they are companies he knows intimately.
4. “In a difficult business, no sooner is one problem solved then another surfaces – there is never just one cockroach in the kitchen.”
...so don’t buy an aerosol of insecticide; sell-up and move house! Buffett’s striking analogy is another reinforcement, if anyone needs it, that you sell shares on the first profit warning. Things are usually going to get worse before they get better.
5. “When a management with a reputation for brilliance tackles a business with a reputation for poor fundamentals, it is the reputation of the business that remains intact.”
This isn’t always true, as Buffett would probably concede, but it is true very often. Don’t bet on corporate turnarounds being successful except where the businesses involved are actually pretty sound to begin with.
For every Reed-Elsevier or IBM, where the business was never really bad and the turnaround worked well, there are dozens like Jarvis or Invensys which are never going to return to their former glories.
6. “For some reason people take their cues from price actions rather than from values. Price is what you pay. Value is what you get.”
Warren Buffett must be one of the few investors who would be happy not to see share prices for his investments for weeks at a time.
He cares so little about the market’s valuation that he actually prefers to see prices falling for shares that he intends to continue buying to make them cheaper. Most of the rest of us feel nervous if we don’t get some validating price rises fairly soon after we’ve started buying a particular stock.
7. “I put heavy weight on certainty. It’s not risky to buy securities at a fraction of what they’re worth.”
Most of Buffett’s approach to investing came from Benjamin Graham, often known as “the father of securities analysis”. In the late 1940s Graham pioneered the concept of value investing, where shares are bought only when they are worth less than the sum of their assets.
Specifically, Graham said that shares which traded at 2/3rds of the value of quick assets (those which can be rapidly sold) could be safely bought. On a typical day there aren’t many companies you could buy at that kind of discount, but just occasionally there are times when vast numbers of firms are being given away at these prices. That leads on to the next rule...
See jargonbuster on net asset value
8. “Most people get interested in stocks when everyone else is. The time to get interested is when no-one else is. You can’t buy what is popular and do well.”
Buying shares when no-one is interested in them would have mean’t getting out your chequebook in the depths of the 1930s depression, in 1975 when UK inflation was soaring and there was secondary banking crisis, and in the first three months of 2003 when the war with Iraq was looming.
Not many casual investors even think about shares when the economy is in dire straits or when we are close to war, which is why many of them only get into shares just as everyone else does and the real value is evaporating.
See my article on contrarian investing
9. “In aggregate, people get nothing for their money from professional money managers.”
In the long term money managers fail to beat the markets against which they measure their performance. Very few buck this trend. It isn’t surprising, really, because funds of one form or another dominate the stock market. What is surprising isn’t that fund managers on average perform averagely, because that is true pretty much by definition. What is amazing is the fact that they get away with charging so much for it.
See my article 'Who needs fund managers?'
10. “You go to bed feeling very comfortable about two and a half billion males with hair growing while you sleep. No-one at Gillette has trouble sleeping.”
This isn’t so much a rule as a celebration of the kind of company that Buffett adores. Gillette has one of the most secure market niches of any company, with a brand that is trusted worldwide.
Though the company has had its troubles even during the years when Buffett was a director, it has come good in the end. Procter & Gamble last week offered to buy Gillette for $57 billion, making the combined group the world’s largest consumer goods company. The offered represents an 18% premium to the Gillette share price, and was described as a “dream deal” by Buffett.
Saturday, March 12, 2005
dollar falling
How the dollar's value is threatening your shares
By Nick Louth, MSN Money special correspondent
Last updated March 4 2005
The dollar is falling, and is unlikely to stop for quite a while. Whatever your investments, this is going to affect you. Here are some quick answers to seven key questions on this issue
Travelling across the Pacific Ocean, enormous freighters arrive in US ports, stuffed with Chinese clothing, and electrical goods, South Korean flat-screen TVs and Japanese electronics. Many of these vessels return home empty to pick up another load and bring it back.
The US economy is living beyond its means, with both government and consumers spending like there is no tomorrow, and running up bills with those economies that supply it. In 2004 alone that trade deficit was $672 billion, a 30% rise from 2003. When those exporting nations decide to cash in their dollars, the greenback will inevitably fall.
Why does the dollar have to fall when it represents the world’s strongest economy?
Though the US economy has been growing strongly, at more than 5.5% a year, about twice the rate of the UK, that growth has been led by domestic consumption. That in turn has been partly fuelled by US budget deficits, with the government spending far more than it receives in taxes.
Though President George W. Bush has recently proposed a tighter than usual budget for 2006, it will be too late to stop spending exceeds taxes by a record $427 billion in 2005. Although that may seem modest at 3.9% of annual GDP of $10.9 trillion (ie. $10,900 billion), it is the stack of debt being built year after year up that is frightening.
Who owns all these debts?
US debt owed to foreigners has trebled to $3.5 trillion in the past 20 years. Japan is owed $715 billion, China $191 billion, Britain $152 billion and South Korea $70 billion.
Britain’s high placing on the creditor list owes much to the fact that British banks hold a vast amount of US debt on behalf of investors from other countries. That same reason explains Caribbean banking centres huge $76 billion holding.
When will the dollar plunge?
That is the hardest part to predict. Currency re-alignments are like the tectonic plates of economics. They can strain for years, building up pressure without much happening, driven by the pressure of economic imbalances. The bigger the imbalances, and the weaker the corrective action taken, the greater the chance of a devastating dollar collapse which could throw the world into a slump.
Already this month, South Korea has said that it will spread its future foreign exchange holdings away from the dollar which account for a third of its $200 billion reserves. The announcement was enough to set the dollar on a temporary slide.
How far will it fall?
A falling currency should be a self-correcting mechanism for trade imbalances by encouraging exports and making imports more expensive. However, Asian countries such as China and Hong Kong, where the US trade deficit is particularly large, have pegged their own currencies to the US unit, rather than letting them float as the pound does. The dollar doesn’t fall against them, but drags down their currencies too against floating currencies like the pound, euro and Japanese yen.
So although the dollar fall does nothing to help US deficits with dollar-linked economies, it helps those same economies become more competitive against the rest of the world. The effect is to slow correction in trade flows, and make a sharp dollar fall, or even a crisis more likely.
How long will it last?
That is an even harder question. Once the dollar starts sliding again, it could fall for months or even years before stopping. It may well move beyond the point at which it is ‘correctly’ priced for future balance. This is not unusual. Like a supertanker, the billions of dollars of selling cannot be easily turned around.
Can anything be done to stop it?
The Federal Reserve, the US central bank, has been gradually raising interest rates since June 2004, but they are still extremely low by historic standards. US bonds yield around 4.5%, and the official Fed Funds rate is only 2.5%.
For Alan Greenspan, chairman of the Fed, this is a delicate balancing act. He needs to keep rates rising so that US bonds are attractive to foreign investors, but each rise devalues trillions of dollars worth of existing bonds which pay lower rates. Moreover, increasing rates raises the government’s own bill for debt interest charges, and if pursued with too much vigour may slow down the economy on whose strength all attempts at debt repayment hinge.
Cutting the budget deficit directly is the main way of addressing the problem, as the Fed chairman himself said earlier this month. Though he acknowledged that it wouldn’t be easy, he added: "But that does not mean that we shouldn't begin focusing on the goal of getting the deficit down, especially, as quickly as we can, before we begin to run into the really serious problems in maybe 2012, 2014. We don't have a lot of time to do it."
I only own my house and a few BT shares. Why should I care about the dollar?
The falling dollar tends to drag the pound down a little against other currencies, particularly the euro. While that will make exports more competitive (except to the US), it pushes up the price of imports. An open economy such as Britain’s is hard to insulate against rising interest rates across the Atlantic because of the competition for international interest-bearing deposits.
In short, if US rates go higher, our rates will tend to rise too. That could affect your mortgage interest rate, and to some degree could lessen the attractiveness of high dividend shares like BT.
What can I do about it?
* Don’t buy US assets such as real estate.
* Steer clear of US shares unless they are in export-based industries and can be expected to become more competitive.
* Consider borrowing in dollars. As the currency falls, these debts will become smaller. The interest charges are already lower than you would pay in the UK
* Holiday and shop in the US and take advantage of falling prices in sterling terms. Be sure to pay for your items by credit card. By the time the bill comes through you may have saved a few cents in every dollar.
* Don’t buy shares in big dollar earning UK stocks, such as pharmaceuticals.
* Expect UK interest rates to rise, so keep your overall indebtedness low.
* Expect the price of dollar-denominated commodities such as oil to keep rising.
By Nick Louth, MSN Money special correspondent
Last updated March 4 2005
The dollar is falling, and is unlikely to stop for quite a while. Whatever your investments, this is going to affect you. Here are some quick answers to seven key questions on this issue
Travelling across the Pacific Ocean, enormous freighters arrive in US ports, stuffed with Chinese clothing, and electrical goods, South Korean flat-screen TVs and Japanese electronics. Many of these vessels return home empty to pick up another load and bring it back.
The US economy is living beyond its means, with both government and consumers spending like there is no tomorrow, and running up bills with those economies that supply it. In 2004 alone that trade deficit was $672 billion, a 30% rise from 2003. When those exporting nations decide to cash in their dollars, the greenback will inevitably fall.
Why does the dollar have to fall when it represents the world’s strongest economy?
Though the US economy has been growing strongly, at more than 5.5% a year, about twice the rate of the UK, that growth has been led by domestic consumption. That in turn has been partly fuelled by US budget deficits, with the government spending far more than it receives in taxes.
Though President George W. Bush has recently proposed a tighter than usual budget for 2006, it will be too late to stop spending exceeds taxes by a record $427 billion in 2005. Although that may seem modest at 3.9% of annual GDP of $10.9 trillion (ie. $10,900 billion), it is the stack of debt being built year after year up that is frightening.
Who owns all these debts?
US debt owed to foreigners has trebled to $3.5 trillion in the past 20 years. Japan is owed $715 billion, China $191 billion, Britain $152 billion and South Korea $70 billion.
Britain’s high placing on the creditor list owes much to the fact that British banks hold a vast amount of US debt on behalf of investors from other countries. That same reason explains Caribbean banking centres huge $76 billion holding.
When will the dollar plunge?
That is the hardest part to predict. Currency re-alignments are like the tectonic plates of economics. They can strain for years, building up pressure without much happening, driven by the pressure of economic imbalances. The bigger the imbalances, and the weaker the corrective action taken, the greater the chance of a devastating dollar collapse which could throw the world into a slump.
Already this month, South Korea has said that it will spread its future foreign exchange holdings away from the dollar which account for a third of its $200 billion reserves. The announcement was enough to set the dollar on a temporary slide.
How far will it fall?
A falling currency should be a self-correcting mechanism for trade imbalances by encouraging exports and making imports more expensive. However, Asian countries such as China and Hong Kong, where the US trade deficit is particularly large, have pegged their own currencies to the US unit, rather than letting them float as the pound does. The dollar doesn’t fall against them, but drags down their currencies too against floating currencies like the pound, euro and Japanese yen.
So although the dollar fall does nothing to help US deficits with dollar-linked economies, it helps those same economies become more competitive against the rest of the world. The effect is to slow correction in trade flows, and make a sharp dollar fall, or even a crisis more likely.
How long will it last?
That is an even harder question. Once the dollar starts sliding again, it could fall for months or even years before stopping. It may well move beyond the point at which it is ‘correctly’ priced for future balance. This is not unusual. Like a supertanker, the billions of dollars of selling cannot be easily turned around.
Can anything be done to stop it?
The Federal Reserve, the US central bank, has been gradually raising interest rates since June 2004, but they are still extremely low by historic standards. US bonds yield around 4.5%, and the official Fed Funds rate is only 2.5%.
For Alan Greenspan, chairman of the Fed, this is a delicate balancing act. He needs to keep rates rising so that US bonds are attractive to foreign investors, but each rise devalues trillions of dollars worth of existing bonds which pay lower rates. Moreover, increasing rates raises the government’s own bill for debt interest charges, and if pursued with too much vigour may slow down the economy on whose strength all attempts at debt repayment hinge.
Cutting the budget deficit directly is the main way of addressing the problem, as the Fed chairman himself said earlier this month. Though he acknowledged that it wouldn’t be easy, he added: "But that does not mean that we shouldn't begin focusing on the goal of getting the deficit down, especially, as quickly as we can, before we begin to run into the really serious problems in maybe 2012, 2014. We don't have a lot of time to do it."
I only own my house and a few BT shares. Why should I care about the dollar?
The falling dollar tends to drag the pound down a little against other currencies, particularly the euro. While that will make exports more competitive (except to the US), it pushes up the price of imports. An open economy such as Britain’s is hard to insulate against rising interest rates across the Atlantic because of the competition for international interest-bearing deposits.
In short, if US rates go higher, our rates will tend to rise too. That could affect your mortgage interest rate, and to some degree could lessen the attractiveness of high dividend shares like BT.
What can I do about it?
* Don’t buy US assets such as real estate.
* Steer clear of US shares unless they are in export-based industries and can be expected to become more competitive.
* Consider borrowing in dollars. As the currency falls, these debts will become smaller. The interest charges are already lower than you would pay in the UK
* Holiday and shop in the US and take advantage of falling prices in sterling terms. Be sure to pay for your items by credit card. By the time the bill comes through you may have saved a few cents in every dollar.
* Don’t buy shares in big dollar earning UK stocks, such as pharmaceuticals.
* Expect UK interest rates to rise, so keep your overall indebtedness low.
* Expect the price of dollar-denominated commodities such as oil to keep rising.
Saturday, February 26, 2005
Will high-tech CFOs adapt to slower growth?
Financial officers in the high-tech sector should learn to balance six roles to help guide companies into a more mature market.
Bertil E. Chappuis, Kevin A. Frick, and Paul J. Roche
The McKinsey Quarterly, Web exclusive, October 2004
The technology industry has changed dramatically in the past five years, and so have the demands on its CFOs. While some thrived as strategists during the boom times, others steered clear of mergers and limited themselves to the role of controller. Now, in a time of slower growth, high-tech CFOs must broaden their responsibilities by paying more attention to the factors that drive value in mature companies, such as measuring and improving productivity. This approach to growth isn't as sexy as mergers and acquisitions, but it is required at this point in the sector's evolution. In other words, technology CFOs must become more like their peers in other industries.
The missions of CFOs
Over the past year we studied the role of CFOs in high-tech companies to see what makes executives effective in that position. Through our research and discussions with 38 CFOs, we identified a financial officer's six missions. These roles may be familiar to CFOs in other kinds of companies but not necessarily to those in thetechnology business. No CFO we spoke with excelled at all six. Chief financial officers who did excel at this whole range of duties would become the most important advocates of productivity and value within their companies (see sidebar, "Balancing roles").
Act as the keeper of the business model
The chief financial officer must understand the company's blueprint for making money better than anyone else. Armed with that knowledge and with a thorough grasp of industry trends and economics, the CFO is in a unique position to know what will affect the company's stock price. As technology markets mature, an informed CFO should initiate discussions with other top executives about how the business model ought to evolve. The CFO at one software company, for example, helped its senior-management team to see that its core source of Fortune 500 accounts would soon be exhausted. This realization led the team to target smaller companies. The CFO then began a dialogue about whether to augment the company's direct-sales efforts by using its channel partnersto exploit the indirect channel—an approach better suited to the economics of a fragmented customer base.
Furthermore, new initiatives can sometimes hurt individual business units even while benefiting the company as a whole. CFOs, who are not tied to any one unit, can objectively judge the overall interests of the company and therefore help arbitrate in such cases. At one computer manufacturer, for instance, the CFO showed senior managers how they could reach their revenue targets by expanding a services business, even though it delivered lower gross margins that had to be compensated for in other areas of the company. The CFO played a critical role in determining the pace at which it should expand the business and the level of investment that would be needed to do so.
Prioritize initiatives
Management teams often suffer from an overload of initiatives, and the chief financial officer can use information from the capital markets as a pragmatic and independent way of prioritizing among them. By analyzing the reactions of the markets to any given change and identifying the levels of growth, profitability, asset turnover, and capital costs that will excite investors, a good financial officer can help managers identify their most promising initiatives.
The CFO at one software company, for example, compared the relative impact of growth and higher margins on the company's share price. He found that the latter had a bigger effect, so he introduced a company-wide initiative to increase productivity. To win the support of the chief executive and the head of the largest business unit, he linked operating-profit targets to investor expectations and the performance of comparable companies—both critical priorities for the CEO. Once the manager of the top business unit became interested, others followed, and they launched a review of the company's processes. Operating margins had been in the low to mid single digits but rose to the upper teens within nine months. The company's share price more than doubled over the same period.
Ensure accountability and fact-based decision making
Although companies in all industries struggle to obtain consistent and reliable data to help them meet their strategic and operational goals, the problem may be more severe in the technology sector. Most high-tech companies have grown rapidly, and the internal information systems they set up as recently as five to seven years ago may no longer provide relevant data. They have also been through more mergers and acquisitions than most companies, and though you might expect tech-savvy management teams to have experience successfully integrating IT systems, few of them have actually undertaken such a project. As a result, M&A often leaves in place a number of accounting and other measurement systems.
When such information is inadequate, a CFO's first priority should be to set up systems that deliver it, on time, to the people who need it. This might seem to be a basic step, but many technology enterprises resemble the software company that had more than 80 separate databases to track customer information. As systems improve, the finance team can analyze the data and help business managers to do so as well, thereby delivering what one CFO called "insight, not information."
Many companies rely on key performance indicators to shed light on their financial and operational performance and to provide insight into the long-term health of the business. Although these metrics have been around for years, they seemed unimportant when technology companies were still growing quickly and focusing on the "next big thing." In those days, improving a business unit's performance by an extra 5 percent may not have seemed worth the effort. Today, however, share prices are more likely to be influenced by growth in margins than by market share (exhibit). Big ideas still matter, but execution is paramount.
Our research suggests that high-tech CFOs must do a better job of implementing forward-looking metrics for market share trends, customer satisfaction, and employee turnover (which affects labor productivity). They should also tie these metrics to performance reviews. Many technology companies don't complete the loop by enforcing accountability for success or failure; some don't even recognize the need to do so.
Convert operating income to cash flow efficiently
One of the CFO's primary responsibilities is to use the operating income of the company in the most effective way possible by reducing its tax burden, minimizing its cost of capital, and keeping asset turnover high. High-tech CFOs often pride themselves on how well they manage these classic financial responsibilities, but we find that they generally underperform compared with theirpeers in other industries—often because they haven't adjusted to the new realities. Many academics and leaders from other industries would argue, for instance, that given the increasing maturity and predictability of some parts of the sector, a high-tech company's capital structure should have higher debt levels to reduce the cost of capital. Yet a lot of the CFOs we spoke with refused to entertain that notion, citing the outdated rationales of volatility and convention.
Understand investors and tailor communications to them
Much as product developers and marketers segment a customer base, the CFO should work with the investor relations team to segment the universe of potential investors. The company can then identify those groups whose interests closely match its value proposition and develop plans to attract others as well. This kind of communications effort is especially important for tech companies, many of which are shifting their business models and offering investors a new, longer-term perspective. One chief financial officer revamped the investor relations program of his company to appeal to 20 prospects; 18 of them eventually made its list of the top 20 shareholders.
To reach these investors, a CFO must analyze their needs. One imaging company had historically focused 90 percent of its investor relations announcements on a business unit with high growth potential. When the company examined its investor base, however, it found that most of the shareholders were more interested in the largest business unit, which generated a substantial cash flow but little buzz. The CFO retooled communications around the cash-generating part of the company, a move applauded by investors and analysts alike for increasing its transparency.
One way a corporation can refine its focus is to choose which metrics to report. A certain CFO wanted investors to think of his company not as an Internet business, as they had before, but as a media enterprise. Therefore, he began publicizing metrics, such as revenue per subscriber, more typical of media-related stocks. His move was in line with the decision many companies have made to report only key business metrics instead of offering guidance on future earnings. As one CFO put it, "My role is not to predict future earnings per share but to tell the market what they need to know in order to fairly value us."
Represent the shareholders
New corporate-governance regulations in the United States and Europe require CFOs to attest personally to the accuracy of any financial statement. Most are therefore keenly aware of their role as "chief integrity officer": the manager who ensures that shareholders are served properly. CFOs generally believe that recent governance problems resulted not from too few rules but rather from poor enforcement. They should thus go beyond basic compliance and serve as role models for good practices throughout the organization. One CFO, for instance, told us how she spends time reviewing accounts with her receivables team—a job that, while tedious, emphasizes "the need to pay attention to details."
Becoming a better CFO
High-tech CFOs must shift the financial focus of their companies from short-term growth to long-term value. They can take several steps to make this transition as smooth as possible.
First, they can concentrate on building a strong finance team. One CFO told us that he wants to spend his time talking strategy with business-unit managers but can't, because he doesn't have people he can rely on to manage the new regulatory obligations. If CFOs are to expand their role, many will have to bring in qualified talent, either from the business units or from outside the company. In investor relations, for example, some CFOs are bringing in marketing stars who can apply segmenting, targeting, and positioning know-how to the investor base. A software CFO is conducting an external search to recruit qualified controllers who can manage the finances of newly reorganized business units.
Second, it is important for the CFO to have the support of the CEO and other top managers, especially at critical moments. For the aforementioned CFO who launched a productivity-improvement effort at a software company, the moment of truth came during the budget process. All of the operating managers were lobbying the CEO for target relief but he didn't budge, and his support gave the CFO a new level of credibility.
Thanks to the push for corporate-governance reform, CFOs have also developed more direct relationships with their boards of directors, particularly the audit committee. One goal is to reassure investors that the board is receiving information that has not been filtered through the chief executive, although the chief financial officer reports to the CEO. This connection between the directors and the CFO fosters dialogue that helps the CFO learn where investor support can be found.
Third, CFOs can use process initiatives to gain traction with executives and to establish themselves as value managers, thereby embracing their traditional control function and establishing a stronger influence on operations. Moving beyond the narrow specialty of CFOs in this way can help them build credibility within the organization. Although they could concentrate on managing value in the finance function, they can expand their influence most effectively by selecting an area with company-wide implications. CFOs who began as controllers should choose a more strategic activity, such as guiding senior managers through the decomposition of the stock price. Those who have previous experience in strategy may want to select something more operational, such as setting up a fact-based performance system.
Productivity is a popular platform for extending the role of the CFO, who usually analyzes movements in the company's share price to determine what raises value. This understanding, in turn, informs the focus of the productivity-improvement program: operating expenses, performance, profit-and-loss targets, or a range of other metrics. Once targets are set, the CFO has a platform for talking with business-unit managers. By pinpointing where costs are incurred, these conversations can shape the way the business operates.
Pricing—another area where CFOs are extending their reach—is traditionally the domain of sales and marketing. Now CFOs are beginning to use their financial expertise to calculate the impact of pricing decisions. At one tech company, this new understanding led the CFO to revamp the pricing methodology.
Moreover, though renewed scrutiny of accounting controls may weigh down a company's reporting systems, it can also give CFOs a way to reevaluate financial processes. At one software company, the CFO combined the control function with new initiatives supporting business goals. Recognizing that the company's numerous order-entry systems threatened the credibility and timing of its financial reporting, he led an effort to consolidate them into a single system and then launched a project to redesign the quote-to-cash process.
The technology sector is maturing, but many CFOs haven't adapted to the new environment. They need to focus on rebalancing debt ratios, on courting investors who seek long-term value, and on improving productivity. A strong platform and the support of the CEO and the board can help a CFO become an effective advocate for performance and shareholder value.
Balancing roles
In our interviews with high-tech financial officers, we found that 40 percent of them tend to focus on the traditional controller aspects of the job and 25 percent on the expanded strategic duties that were so important during the late 1990s. Only about a third do a good job of balancing both.
Those who emphasize the controller side are often accountants by training—they rank taxes, auditing, and control functions as their most important duties. CFOs who could be described as strategists have backgrounds in corporate development (managing strategy and M&A), line management, investment banking, or consulting. They are more likely to oversee M&A, information technology, and, sometimes, human resources and legal affairs (exhibit).
from http://www.mckinseyquarterly.com/article_page.aspx?ar=1508&L2=5
Bertil E. Chappuis, Kevin A. Frick, and Paul J. Roche
The McKinsey Quarterly, Web exclusive, October 2004
The technology industry has changed dramatically in the past five years, and so have the demands on its CFOs. While some thrived as strategists during the boom times, others steered clear of mergers and limited themselves to the role of controller. Now, in a time of slower growth, high-tech CFOs must broaden their responsibilities by paying more attention to the factors that drive value in mature companies, such as measuring and improving productivity. This approach to growth isn't as sexy as mergers and acquisitions, but it is required at this point in the sector's evolution. In other words, technology CFOs must become more like their peers in other industries.
The missions of CFOs
Over the past year we studied the role of CFOs in high-tech companies to see what makes executives effective in that position. Through our research and discussions with 38 CFOs, we identified a financial officer's six missions. These roles may be familiar to CFOs in other kinds of companies but not necessarily to those in thetechnology business. No CFO we spoke with excelled at all six. Chief financial officers who did excel at this whole range of duties would become the most important advocates of productivity and value within their companies (see sidebar, "Balancing roles").
Act as the keeper of the business model
The chief financial officer must understand the company's blueprint for making money better than anyone else. Armed with that knowledge and with a thorough grasp of industry trends and economics, the CFO is in a unique position to know what will affect the company's stock price. As technology markets mature, an informed CFO should initiate discussions with other top executives about how the business model ought to evolve. The CFO at one software company, for example, helped its senior-management team to see that its core source of Fortune 500 accounts would soon be exhausted. This realization led the team to target smaller companies. The CFO then began a dialogue about whether to augment the company's direct-sales efforts by using its channel partnersto exploit the indirect channel—an approach better suited to the economics of a fragmented customer base.
Furthermore, new initiatives can sometimes hurt individual business units even while benefiting the company as a whole. CFOs, who are not tied to any one unit, can objectively judge the overall interests of the company and therefore help arbitrate in such cases. At one computer manufacturer, for instance, the CFO showed senior managers how they could reach their revenue targets by expanding a services business, even though it delivered lower gross margins that had to be compensated for in other areas of the company. The CFO played a critical role in determining the pace at which it should expand the business and the level of investment that would be needed to do so.
Prioritize initiatives
Management teams often suffer from an overload of initiatives, and the chief financial officer can use information from the capital markets as a pragmatic and independent way of prioritizing among them. By analyzing the reactions of the markets to any given change and identifying the levels of growth, profitability, asset turnover, and capital costs that will excite investors, a good financial officer can help managers identify their most promising initiatives.
The CFO at one software company, for example, compared the relative impact of growth and higher margins on the company's share price. He found that the latter had a bigger effect, so he introduced a company-wide initiative to increase productivity. To win the support of the chief executive and the head of the largest business unit, he linked operating-profit targets to investor expectations and the performance of comparable companies—both critical priorities for the CEO. Once the manager of the top business unit became interested, others followed, and they launched a review of the company's processes. Operating margins had been in the low to mid single digits but rose to the upper teens within nine months. The company's share price more than doubled over the same period.
Ensure accountability and fact-based decision making
Although companies in all industries struggle to obtain consistent and reliable data to help them meet their strategic and operational goals, the problem may be more severe in the technology sector. Most high-tech companies have grown rapidly, and the internal information systems they set up as recently as five to seven years ago may no longer provide relevant data. They have also been through more mergers and acquisitions than most companies, and though you might expect tech-savvy management teams to have experience successfully integrating IT systems, few of them have actually undertaken such a project. As a result, M&A often leaves in place a number of accounting and other measurement systems.
When such information is inadequate, a CFO's first priority should be to set up systems that deliver it, on time, to the people who need it. This might seem to be a basic step, but many technology enterprises resemble the software company that had more than 80 separate databases to track customer information. As systems improve, the finance team can analyze the data and help business managers to do so as well, thereby delivering what one CFO called "insight, not information."
Many companies rely on key performance indicators to shed light on their financial and operational performance and to provide insight into the long-term health of the business. Although these metrics have been around for years, they seemed unimportant when technology companies were still growing quickly and focusing on the "next big thing." In those days, improving a business unit's performance by an extra 5 percent may not have seemed worth the effort. Today, however, share prices are more likely to be influenced by growth in margins than by market share (exhibit). Big ideas still matter, but execution is paramount.
Our research suggests that high-tech CFOs must do a better job of implementing forward-looking metrics for market share trends, customer satisfaction, and employee turnover (which affects labor productivity). They should also tie these metrics to performance reviews. Many technology companies don't complete the loop by enforcing accountability for success or failure; some don't even recognize the need to do so.
Convert operating income to cash flow efficiently
One of the CFO's primary responsibilities is to use the operating income of the company in the most effective way possible by reducing its tax burden, minimizing its cost of capital, and keeping asset turnover high. High-tech CFOs often pride themselves on how well they manage these classic financial responsibilities, but we find that they generally underperform compared with theirpeers in other industries—often because they haven't adjusted to the new realities. Many academics and leaders from other industries would argue, for instance, that given the increasing maturity and predictability of some parts of the sector, a high-tech company's capital structure should have higher debt levels to reduce the cost of capital. Yet a lot of the CFOs we spoke with refused to entertain that notion, citing the outdated rationales of volatility and convention.
Understand investors and tailor communications to them
Much as product developers and marketers segment a customer base, the CFO should work with the investor relations team to segment the universe of potential investors. The company can then identify those groups whose interests closely match its value proposition and develop plans to attract others as well. This kind of communications effort is especially important for tech companies, many of which are shifting their business models and offering investors a new, longer-term perspective. One chief financial officer revamped the investor relations program of his company to appeal to 20 prospects; 18 of them eventually made its list of the top 20 shareholders.
To reach these investors, a CFO must analyze their needs. One imaging company had historically focused 90 percent of its investor relations announcements on a business unit with high growth potential. When the company examined its investor base, however, it found that most of the shareholders were more interested in the largest business unit, which generated a substantial cash flow but little buzz. The CFO retooled communications around the cash-generating part of the company, a move applauded by investors and analysts alike for increasing its transparency.
One way a corporation can refine its focus is to choose which metrics to report. A certain CFO wanted investors to think of his company not as an Internet business, as they had before, but as a media enterprise. Therefore, he began publicizing metrics, such as revenue per subscriber, more typical of media-related stocks. His move was in line with the decision many companies have made to report only key business metrics instead of offering guidance on future earnings. As one CFO put it, "My role is not to predict future earnings per share but to tell the market what they need to know in order to fairly value us."
Represent the shareholders
New corporate-governance regulations in the United States and Europe require CFOs to attest personally to the accuracy of any financial statement. Most are therefore keenly aware of their role as "chief integrity officer": the manager who ensures that shareholders are served properly. CFOs generally believe that recent governance problems resulted not from too few rules but rather from poor enforcement. They should thus go beyond basic compliance and serve as role models for good practices throughout the organization. One CFO, for instance, told us how she spends time reviewing accounts with her receivables team—a job that, while tedious, emphasizes "the need to pay attention to details."
Becoming a better CFO
High-tech CFOs must shift the financial focus of their companies from short-term growth to long-term value. They can take several steps to make this transition as smooth as possible.
First, they can concentrate on building a strong finance team. One CFO told us that he wants to spend his time talking strategy with business-unit managers but can't, because he doesn't have people he can rely on to manage the new regulatory obligations. If CFOs are to expand their role, many will have to bring in qualified talent, either from the business units or from outside the company. In investor relations, for example, some CFOs are bringing in marketing stars who can apply segmenting, targeting, and positioning know-how to the investor base. A software CFO is conducting an external search to recruit qualified controllers who can manage the finances of newly reorganized business units.
Second, it is important for the CFO to have the support of the CEO and other top managers, especially at critical moments. For the aforementioned CFO who launched a productivity-improvement effort at a software company, the moment of truth came during the budget process. All of the operating managers were lobbying the CEO for target relief but he didn't budge, and his support gave the CFO a new level of credibility.
Thanks to the push for corporate-governance reform, CFOs have also developed more direct relationships with their boards of directors, particularly the audit committee. One goal is to reassure investors that the board is receiving information that has not been filtered through the chief executive, although the chief financial officer reports to the CEO. This connection between the directors and the CFO fosters dialogue that helps the CFO learn where investor support can be found.
Third, CFOs can use process initiatives to gain traction with executives and to establish themselves as value managers, thereby embracing their traditional control function and establishing a stronger influence on operations. Moving beyond the narrow specialty of CFOs in this way can help them build credibility within the organization. Although they could concentrate on managing value in the finance function, they can expand their influence most effectively by selecting an area with company-wide implications. CFOs who began as controllers should choose a more strategic activity, such as guiding senior managers through the decomposition of the stock price. Those who have previous experience in strategy may want to select something more operational, such as setting up a fact-based performance system.
Productivity is a popular platform for extending the role of the CFO, who usually analyzes movements in the company's share price to determine what raises value. This understanding, in turn, informs the focus of the productivity-improvement program: operating expenses, performance, profit-and-loss targets, or a range of other metrics. Once targets are set, the CFO has a platform for talking with business-unit managers. By pinpointing where costs are incurred, these conversations can shape the way the business operates.
Pricing—another area where CFOs are extending their reach—is traditionally the domain of sales and marketing. Now CFOs are beginning to use their financial expertise to calculate the impact of pricing decisions. At one tech company, this new understanding led the CFO to revamp the pricing methodology.
Moreover, though renewed scrutiny of accounting controls may weigh down a company's reporting systems, it can also give CFOs a way to reevaluate financial processes. At one software company, the CFO combined the control function with new initiatives supporting business goals. Recognizing that the company's numerous order-entry systems threatened the credibility and timing of its financial reporting, he led an effort to consolidate them into a single system and then launched a project to redesign the quote-to-cash process.
The technology sector is maturing, but many CFOs haven't adapted to the new environment. They need to focus on rebalancing debt ratios, on courting investors who seek long-term value, and on improving productivity. A strong platform and the support of the CEO and the board can help a CFO become an effective advocate for performance and shareholder value.
Balancing roles
In our interviews with high-tech financial officers, we found that 40 percent of them tend to focus on the traditional controller aspects of the job and 25 percent on the expanded strategic duties that were so important during the late 1990s. Only about a third do a good job of balancing both.
Those who emphasize the controller side are often accountants by training—they rank taxes, auditing, and control functions as their most important duties. CFOs who could be described as strategists have backgrounds in corporate development (managing strategy and M&A), line management, investment banking, or consulting. They are more likely to oversee M&A, information technology, and, sometimes, human resources and legal affairs (exhibit).
from http://www.mckinseyquarterly.com/article_page.aspx?ar=1508&L2=5
Yahoo! seen as more attractive than Google!
Merrill Lynch said the first calendar quarter "will likely be a strong quarter for both Yahoo! and Google ." Merrill said, "While it appears that online advertising growth is moderating, we believe such a slowdown was inevitable given the high growth rate, but continue to believe that the growth is still substantial. We still expect online advertising spend to account for 7.4% of total advertising dollars by 2009 reaching $25 billion and growing 21% compounded annually." The research firm said that Time Warner unit AOL entering the local search field wasn't surprising and "should help Google in the near term." "Concerns over whether AOL's relationship with Google will be threatened with this launch is an overreaction as we believe recent developments have only indicated that Google and AOL are maintaining or expanding their relationship, rather than diminishing it," Merrill said. The firm said Yahoo! is more attractive than Google, citing Yahoo!'s strong branded advertising growth in the fourth quarter of 2004 "and the fact that its seasoned management team is executing on its fiscal 2005 strategy effectively is giving us some comfort." Yahoo! shares are trading at 17 times Merrill's 2006 estimate for adjusted earnings before interest, taxes, depreciation and amortization (EBITDA), while Google shares are currently trading at 19 times the 2006 estimated adjusted EBITDA, "which seems rational given our expectation that EBITDA will grow 21% from 2005 to 2009." The firm reiterated a "buy" rating on Yahoo! but said that in "neutral"-rated Google's case "there still is not enough upside potential for us to warrant a 'buy' rating currently."
Sunday, January 30, 2005
Global Brand following
GLOBAL AND REGIONAL TOP FIVE LISTS (1,984 respondents to the question "which brands had the most impact on your life in 2004?")
GLOBAL ASIA-PACIFIC EUROPE & AFRICA
1. Apple 1. Sony 1. Ikea
2. Google 2. Samsung 2. Virgin
3. Ikea 3. LG 3. H&M
4. Starbucks 4. Toyota 4. Nokia
5. Al Jazeera 5. Lonely Planet
CENTRAL & LATIN AMERICA NORTH AMERICA
1. Cemex 1. Apple
2. Corona 2. Google
3. Bacardi 3. Target
4. Bimbo 4. Starbucks
5. Vina Concha y Toro 5. Pixar
GLOBAL ASIA-PACIFIC EUROPE & AFRICA
1. Apple 1. Sony 1. Ikea
2. Google 2. Samsung 2. Virgin
3. Ikea 3. LG 3. H&M
4. Starbucks 4. Toyota 4. Nokia
5. Al Jazeera 5. Lonely Planet
CENTRAL & LATIN AMERICA NORTH AMERICA
1. Cemex 1. Apple
2. Corona 2. Google
3. Bacardi 3. Target
4. Bimbo 4. Starbucks
5. Vina Concha y Toro 5. Pixar
Friday, January 07, 2005
Companies With Successful Growth Strategies
Is a company worth the expected growth premium wired into its stock price? Beyond the Core, a new book by Chris Zook, who leads the global strategy practice at Bain & Co., tells investors how to choose stocks with the right growth strategies.
In his search for factors that underlie successful growth strategies, Zook compared 12 pairs of companies. Each pair consisted of two companies in the same industry which started off the decade (1990 to 2001) with similar revenue and earnings, but ended up with very different financial trajectories due to their contrasting growth strategies.
One set of companies saw their stock prices increase almost tenfold, while another one by only threefold. What were the main differences in the new business initiatives between the slow and fast value creators?
One key factor, according to Zook: When a company moves into a new line of business, it should closely relate to the firm's core operations.
In seven out of the 12 pairs of companies Zook studied, the companies that lagged in creating value for shareholders did so because they moved too far away from their area of expertise. Consider the example of two British grocers: Tesco (otc: TSCDY ) and Sainsbury (otc: JSNSY).
The two grocery chains followed divergent growth strategies: Sainsbury's foray into new lines of business included acquisitions of retail chains in Egypt and Texas. Tesco, on the other hand, decided not to stray far away from its core business; instead, it added new products and services--such as eyeglasses and coffee shops--in its existing stores.
"We knew we were a supermarket and only invested in things that we could prove our customers really wanted," said Lord Ian McLaurin, who is now chairman of Tesco.
Over the last decade, Tesco's stock price grew 291%, while Sainsbury's stock only grew by 38%.
Zook writes that another factor to consider in analyzing growth initiatives is whether new lines of business are concentrated in profit pools--areas in the industry that generate the highest profits. Sometimes new profit pools can be created by going up-market, as when Starbucks (nasdaq: SBUX ) introduced premium-priced coffees. Most of the time, however, profit pools are created by sharply lowering costs.
Five out of 12 company pairs analyzed by Zook were influenced by the correlation of their new business lines to profit pools. This was apparent in Zook's study of two drug different drug wholesalers: Cardinal Health (nyse: CAH - news - people ) and McKesson (nyse: MCK ).
Cardinal grew by buying businesses that were in services which helped Cardinal's clients or vendors manage pharmacies or help package drugs. In this way, Cardinal created profit pools for itself, by helping its suppliers cut costs. Its main rival, McKesson, acquired a health care software business, HBO & Co., which was disastrous.
Cardinal's stock price grew at an annual rate of 30% over the decade ending in 2001, and McKesson by only 7%.
Zook also claims that in order to be a winner, a company must be willing and able to match the investments made by the leaders in its industries. This, writes Zook, is why Walgreen (nyse: WAG) and Eckerd Drugs had very different outcomes at the end of a decade.
Eckerd grew faster than Walgreen but spread itself too thin nationally and lost it leadership position in regional markets. Walgreen grew more organically and achieved high market shares regionally. Walgreen's high local-market shares resulted in higher returns on investment than its competitors. Eckerd was purchased by J.C. Penney (nyse: JCP) in 1997; Walgreen continues to be a strong performer.
The table below lists five of the 12 pairs of companies analyzed by Zook, in which he feels that the fast value creator (first set of companies) is still on the correct growth track for investors.
In his search for factors that underlie successful growth strategies, Zook compared 12 pairs of companies. Each pair consisted of two companies in the same industry which started off the decade (1990 to 2001) with similar revenue and earnings, but ended up with very different financial trajectories due to their contrasting growth strategies.
One set of companies saw their stock prices increase almost tenfold, while another one by only threefold. What were the main differences in the new business initiatives between the slow and fast value creators?
One key factor, according to Zook: When a company moves into a new line of business, it should closely relate to the firm's core operations.
In seven out of the 12 pairs of companies Zook studied, the companies that lagged in creating value for shareholders did so because they moved too far away from their area of expertise. Consider the example of two British grocers: Tesco (otc: TSCDY ) and Sainsbury (otc: JSNSY).
The two grocery chains followed divergent growth strategies: Sainsbury's foray into new lines of business included acquisitions of retail chains in Egypt and Texas. Tesco, on the other hand, decided not to stray far away from its core business; instead, it added new products and services--such as eyeglasses and coffee shops--in its existing stores.
"We knew we were a supermarket and only invested in things that we could prove our customers really wanted," said Lord Ian McLaurin, who is now chairman of Tesco.
Over the last decade, Tesco's stock price grew 291%, while Sainsbury's stock only grew by 38%.
Zook writes that another factor to consider in analyzing growth initiatives is whether new lines of business are concentrated in profit pools--areas in the industry that generate the highest profits. Sometimes new profit pools can be created by going up-market, as when Starbucks (nasdaq: SBUX ) introduced premium-priced coffees. Most of the time, however, profit pools are created by sharply lowering costs.
Five out of 12 company pairs analyzed by Zook were influenced by the correlation of their new business lines to profit pools. This was apparent in Zook's study of two drug different drug wholesalers: Cardinal Health (nyse: CAH - news - people ) and McKesson (nyse: MCK ).
Cardinal grew by buying businesses that were in services which helped Cardinal's clients or vendors manage pharmacies or help package drugs. In this way, Cardinal created profit pools for itself, by helping its suppliers cut costs. Its main rival, McKesson, acquired a health care software business, HBO & Co., which was disastrous.
Cardinal's stock price grew at an annual rate of 30% over the decade ending in 2001, and McKesson by only 7%.
Zook also claims that in order to be a winner, a company must be willing and able to match the investments made by the leaders in its industries. This, writes Zook, is why Walgreen (nyse: WAG) and Eckerd Drugs had very different outcomes at the end of a decade.
Eckerd grew faster than Walgreen but spread itself too thin nationally and lost it leadership position in regional markets. Walgreen grew more organically and achieved high market shares regionally. Walgreen's high local-market shares resulted in higher returns on investment than its competitors. Eckerd was purchased by J.C. Penney (nyse: JCP) in 1997; Walgreen continues to be a strong performer.
The table below lists five of the 12 pairs of companies analyzed by Zook, in which he feels that the fast value creator (first set of companies) is still on the correct growth track for investors.
| Different Growth Strategies Can Drastically Affect Stock Performance | |||||
| Company | Industry | Price | Estimated EPS Growth* | Historic Earnings Growth** | Historic Stock Growth*** |
| Fast Growers |
|
|
|
|
|
| Nike (nyse: NKE ) | Athletic footwear and apparel | $70.73 | 14% | 8% | 21% |
| Cardinal Health (nyse: CAH ) | Medical distributors | 64.12 | 16 | 43 | 30 |
| Walgreen (nyse: WAG ) | Drugstore chain | 33.75 | 15 | 16 | 27 |
| Tesco (otc: TSCDY ) | Grocery store chain | 13.65 | 13 | 10 | 13 |
| Jacobs Engineering Group (nyse: JEC ) | Engineering and construction | 44.05 | 15 | 18 | 19 |
| Slow Growers |
|
|
|
|
|
| Reebok International (nyse: RBK) | Athletic footwear and apparel | 38.49 | 15 | -5 | 3 |
| McKesson (nyse: MCK) | Medical distributors | 28.99 | 16 | 14 | 7 |
| Eckerd**** | Drugstore chain | NA | NA | NA | NA |
| Sainsbury (otc: JSNSY) | Grocery store chain | 21.55 | 6 | -1 | 3 |
| Fluor (nyse: FLR) | Engineering and construction | 40.73 | 13 | NA | NA |
Monday, January 03, 2005
Apple well poised in Living Room 2005 battlefield
Bertrand Russell once said—and I'm paraphrasing here—that genius is to present a problem in a way which allows a solution. And that's exactly what is needed in Apple's current situation, which is both highly encouraging and somewhat preoccupying in terms of midterm perspective.
Phenomenal as it may be, the success of the iPod will not suffice on its own to pull Apple out of the "über-stylish, niche innovator" role the industry has typecast the company in. It is also quite clear that the Macintosh platform on its own will not be able to grow significantly if it continues its course at the current rhythm of market penetration.
Sure, iPods may drive iMac sales, and growing concerns about security also may erode confidence in the Windows platform, but the chances for the Macintosh to go from current levels of market penetration to double-digit numbers remain fairly slim.
In terms of technology development, on the other hand, genius is about seeing beyond the obvious, and about anticipating constructive disruptions in the making. In short, it is about coming up with an idea or a product that nobody has thought of, but which has the potential to "click" with a majority of people.
These days, the key area of interest for Apple is boringly commonplace, yet it is supremely challenging. I am of course alluding to the most coveted spot of consumer technology today, what one might call "The Great Living-Room Conundrum": the convergence of digital media with lifestyle and entertainment. The company that ends up dominating this space will be very enviable indeed.
Yet Apple may have a better chance than others at cracking the way in which entertainment, the Internet and computing come together. There's one simple reason: Unlike most other players in this field, Apple is not fueled by technology, but it is clearly vision-driven.
The company owes its biggest successes to the capacity of spotting an emerging need and then delivering a superior product to cover it. (And conversely, Apple's failures often can be traced back to its incapacity to act like the "normal" technology provider.)
In particular, Apple manages to succeed in one area where most technology-centric companies (and Microsoft in particular) almost systematically fail: in making products desirable.
Logical reasoning may govern mainstream PC purchases, but truly remarkable successes in the market are founded on objects so desirable that they defy reasoning. Sure, the Ipod is pricey, but millions of consumers want one anyway.
The keys to cracking the "living-room conundrum"
The mistake many technology companies make when it comes to product strategies is that they attack the problem from the technology side. This does not work in the consumer market, because Joe and Jane Average don't buy technology. They are generally not interested in technology for its own sake, nor do they want to find out more about it.
Truly successful products do not start from the technology, but from the problem they want to solve. Take the iPod: Apple did not set out to sell an MP3 player. Apple convinced the market that the iPod was a cool, convenient way of listening to music.
So, here are Apple's core issues in conquering the living room:
1) Find the magic formula. The problem with the living-room conundrum is that all of the ingredients are pretty well-known; it's the magic formula that will make them work together in a harmonious, easy way that is the problem.
We know that television, personal computing and digital media are converging, and it's also quite clear that wireless networking and broadband Internet access will play a crucial role. What we haven't figured out is which combination of these features will have the capacity to support the emergence of widespread new usage patterns in the mainstream consumer space.
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2) Take it one step at a time. It is likely that it will take many iterations and mistakes to edge toward true integration of all of these elements. One of the biggest mistakes companies can make in this space is trying to go too fast: The main problem with current attempts such as Media Center PCs is that they try to do far too much at the same time.
3) Overcome the iPod. The first thing Apple has to do right now is to surpass the iPod. Build on its strengths—yes, by all means—and expand it as far as it can go, but go well beyond it. While it lasts, a mega-craze like the iPod is a wonderful thing. Once it has peaked, it becomes a significant burden to overcome. Coco Chanel used to say: Fashion is what becomes unfashionable. It will happen to the iPod eventually.
4) Continue to surprise. In order to survive the iPod craze, Apple needs to do more than expand: It needs to surprise. And it needs to do this more than ever before. From a market perspective, all Apple needs now is another successful consumer product. On the grander scale of things, Apple not only needs to find one more consumer success—but also one it can tie into its overall vision of the digital home. And that's where it becomes tough.
What are Apple's assets in this battle? So far, the company has a rock-solid position in the music market; it has a credible offering in wireless networking, and it has the iMac, which begs to be considered as the ideal home computer.
But Apple knows very well that it's too early to sell the iMac as the digital hub for the home to a mass-market audience, and being too early is as bad as being too late.
Even worse, Apple has no footing in the gaming market. As for video, consumer usage patterns for viewing video are far too fragmented to allow for a single device to become an iPod-like success in the near future.
Yet Apple clearly has understood one important (though often overlooked) lesson: True revolutions start at the fringe, not at the center. Before becoming a vast consumer hit, the iPod was the perfect stylish, niche product.
Since Apple has no chance at the Microsoft-style "we've got the money, let's just do it" juggernaut technique of product marketing, it has to go for the smart, viral marketing approach.
Whatever comes next from Apple will probably resemble the iPod in terms of approach rather than in terms of product. There is one additional problem, though: Any future foray into the consumer space needs to be sufficiently close to Apple's core business to avoid alienating the extremely loyal Macintosh user base.
So, to get back at our initial question: Yes, Apple could well crack the living-room conundrum. But don't expect Steve Jobs to do it in a predictable way ...
Wednesday, December 29, 2004
A definitive perspective on the IBM Lenovo deal
Much has been speculated about what will work and what will fail expectations in this deal, and much has been trying to find the silver lining on behalf of analysts on either side of the fence, those who lean towards big blue or those who feel it sinking. One perspective interests me and makes the deal in retrospect not at all interesting and very predictable indeed. Looking back at why Creative did not succeed at the digital music player business and why apple owns it today one can learn the lessons Lenovo learnt in it. Creative had the cheaper comparable product with similar quality. What it did not have is the marketing and brand name that apple had. To summarize what it lacked was management skills and not technical skills. Lenovo has a reasonable market share in the Chinese PC market share. It is only natural that it will lose some as the entry of foreign players becomes more and more viable to them economically. The PC market is one which tends to move toward a low entropy situation, where all players are similar and there isn't one big player as there is simply nothing one manufacturer can give that another can't. And since all end up giving the same thing switching and compatibility issues aren't there. The operating system make for instance is so strange that. Apart from Linux, which thrives on compatibility, every other system wants to trap users in it for eternity. if it hadn't been for the selfishness of predecessors of Steve Jobs and Sam Palmisiano things might have been different.
So coming back to Lenovo. No one doubts the Asian management on low cost and fairly reliable manufacturing and assembling. But their record at managing international companies is suspect with the exceptions of Toyota and Sony. Even Nissan, a phoenix of the auto sector, needed French eyes to see the obvious. Lenovo goes on to buy IBM's proven and newly resurgent managerial prowess in this deal and already has wasted no time in shifting its headquarters to new York. To find such foresight in a public sector undertaking of China should scare our Uncle Sam. The Chinese seem to be beating them at their own game. First you had American contractors hire Chinese labor to make the products cheap and sell them below par to get the market in America. So they ended up paying 30% of the cost to china. Now china buys the American manager's brain for a mere percentage of the cost and makes it cheap in china with no government problems of outsourcing to stop it and takes all the money back home. The only things stopping more of this is that not many companies have the kind of money Lenovo has. But isn't this a self catalytic process!
So coming back to Lenovo. No one doubts the Asian management on low cost and fairly reliable manufacturing and assembling. But their record at managing international companies is suspect with the exceptions of Toyota and Sony. Even Nissan, a phoenix of the auto sector, needed French eyes to see the obvious. Lenovo goes on to buy IBM's proven and newly resurgent managerial prowess in this deal and already has wasted no time in shifting its headquarters to new York. To find such foresight in a public sector undertaking of China should scare our Uncle Sam. The Chinese seem to be beating them at their own game. First you had American contractors hire Chinese labor to make the products cheap and sell them below par to get the market in America. So they ended up paying 30% of the cost to china. Now china buys the American manager's brain for a mere percentage of the cost and makes it cheap in china with no government problems of outsourcing to stop it and takes all the money back home. The only things stopping more of this is that not many companies have the kind of money Lenovo has. But isn't this a self catalytic process!
Tuesday, December 28, 2004
Kodak's new image by emphasizing ease of use
Ten years ago, Kodak manufactured the first digital camera aimed for sale to retail consumers, the $749 QuickTake 100, sold by Apple Computer. But by 2000, Sony had muscled in as the leading digital camera maker and Kodak was hovering near 5 percent of the market, a dire position, while the film business which it had dominated for a decade was starting to collapse.
Kodak called in anthropologists and other social scientists, who observed camera users in an effort to learn how taking and printing pictures fit into their daily lives. They also followed prospective camera buyers into stores to understand how they chose certain models from the crowded shelves.
The research was part of Kodak's effort to reorganize its digital camera product line by transforming product design, manufacturing and marketing. The company's big decision was to focus on low- priced, easy-to-use cameras that would appeal to women, who take the majority of snapshots, rather than Sony's forte of shiny toys for gadget-loving men.
That strategy paid off as digital cameras moved into the mass market. This year, Kodak's EasyShare brand has almost 19 percent of digital camera sales in the United States, a very close second to Sony and ahead of Canon, according to International Data Corp., a technology research firm.
"Kodak is up because they are really committed to ease of use and they communicate that very well," said Michelle Slaughter, the director of digital photography trends at InfoTrends/CAP Ventures, a market research firm. "Kodak tends to excel at the touchy-feely side of the market that tends to appeal to first-time buyers and mainstream consumers, especially women," she said.
Kodak certainly needed a success. Since selling its pharmaceutical and chemical divisions a decade ago, the company has shed a third of its jobs and has seen its revenue fall to $13 billion last year from $15 billion in 1995. Now it says it expects to eliminate as many as a quarter of its remaining 64,000 jobs over the next three years.
Sales of film and other traditional products were down 20 percent in the third quarter of 2004, even more than expected. But digital products consumer and professional cameras as well as printing systems sold to drugstores and the like were up 39 percent.
The company recently stopped selling reloadable film cameras in the United States.
Profitability in digital products has been harder to achieve than sales. Kodak has said that 2004 would be the first full year in which its digital camera division would be profitable. And it will say only that the line is profitable when its high-margin accessory sales are included.
To the great relief of camera manufacturers, buyers have not yet pressed for lower prices, as they have in some markets, like DVD players. The average price has remained just under $300, but consumers expect that the makers will continuously provide more features especially megapixels of resolution and zoom capacities at those prices. Any maker with a model that does not match up to its rivals is forced to liquidate at a loss.
"The lifetime of digital cameras is measured in months, while the life of a film camera is years," said Elliot Peck, a vice president for sales at Canon. "Someone always has overstocks, and that disrupts the market."
Peck said that Canon's camera business, which has concentrated on more technically sophisticated buyers by offering digital single- lens reflex cameras and the unusually small and sleek Elph line, is also profitable. Sony, which charges a premium for its unusual designs, also makes money in digital cameras, although the company does not break out figures for the business.
Four years ago, it was not so clear that Kodak would have any credibility in the digital world, despite its place as a photography pioneer and its 1,000 digital photography patents. So Kodak's engineers developed a system meant to streamline the process of moving pictures off the camera, onto a computer and then to either a printer, Kodak's Ofoto online printing service or e-mail. This involved new cameras, new software and an optional dock that cradled the camera, allowing it to recharge its batteries and transfer pictures to the computer at the same time.
The working name for the system was "Dock and Go," but Pierre Schaeffer, who had just taken over as marketing director for digital cameras, did not like the phrase. "We had been trying to play catch- up with Sony while we were trying to see what Canon was going to do," he said. "We needed something crisper that we could own and push forward with confidence."
After several brainstorming sessions, he came up with the EasyShare brand, which captures what Kodak hopes differentiates its line from competitors.
One innovation was a "share" button, which allows users to select pictures as they take them that will later be printed or e-mailed as soon as the camera is returned to the dock. "There is an emotional moment at the time of capture," said Gregory Westbrook, Kodak's vice president and general manager of its digital and film imaging systems unit. One of the company's first insights from its research was that its target market was annoyed and sometimes intimidated by the need to use a personal computer in order to print pictures. Many women, the anthropologists found, wanted the center of their picture taking and viewing to be the kitchen rather than the home office.
So in 2003, Kodak introduced what would become the signature technology of its camera line: a printer dock that housed the camera directly no computer needed to print 4-by-6-inch, or 10-by-15- centimeter, glossy photos using a dye sublimation printing process.
Kodak sold a million printer docks in the first year. Printers have the potential to be far more profitable than cameras because customers are locked into years of buying ink and paper. Even more important, Kodak convinced many retailers to put its printers right in the aisle that sold cameras, not in the printer section.
"The dock just resonated with consumers," said Slaughter of InfoTrends/CAP Ventures.
Of course, innovations do not remain exclusive for very long in the electronics world. Canon, for example, added the equivalent of the share button to its Elph line. And Sony, which is promoting its own 4-by-6-inch printer, has been fighting back with a refreshed product line. Sony's T-1 model is even thinner than the Canon Elph and features a 2.5-inch display, larger than those of its rivals.
Still, Sony is losing market share. In the first nine months of the year, Sony had 20.8 percent of the digital camera market in the United States, according to IDC, down from 21.7 for all of 2003. Kodak is up to 18.8 percent of the market from 17.9 percent. Canon is now the No.3 digital camera player, with 15.2 percent.
Kodak called in anthropologists and other social scientists, who observed camera users in an effort to learn how taking and printing pictures fit into their daily lives. They also followed prospective camera buyers into stores to understand how they chose certain models from the crowded shelves.
The research was part of Kodak's effort to reorganize its digital camera product line by transforming product design, manufacturing and marketing. The company's big decision was to focus on low- priced, easy-to-use cameras that would appeal to women, who take the majority of snapshots, rather than Sony's forte of shiny toys for gadget-loving men.
That strategy paid off as digital cameras moved into the mass market. This year, Kodak's EasyShare brand has almost 19 percent of digital camera sales in the United States, a very close second to Sony and ahead of Canon, according to International Data Corp., a technology research firm.
"Kodak is up because they are really committed to ease of use and they communicate that very well," said Michelle Slaughter, the director of digital photography trends at InfoTrends/CAP Ventures, a market research firm. "Kodak tends to excel at the touchy-feely side of the market that tends to appeal to first-time buyers and mainstream consumers, especially women," she said.
Kodak certainly needed a success. Since selling its pharmaceutical and chemical divisions a decade ago, the company has shed a third of its jobs and has seen its revenue fall to $13 billion last year from $15 billion in 1995. Now it says it expects to eliminate as many as a quarter of its remaining 64,000 jobs over the next three years.
Sales of film and other traditional products were down 20 percent in the third quarter of 2004, even more than expected. But digital products consumer and professional cameras as well as printing systems sold to drugstores and the like were up 39 percent.
The company recently stopped selling reloadable film cameras in the United States.
Profitability in digital products has been harder to achieve than sales. Kodak has said that 2004 would be the first full year in which its digital camera division would be profitable. And it will say only that the line is profitable when its high-margin accessory sales are included.
To the great relief of camera manufacturers, buyers have not yet pressed for lower prices, as they have in some markets, like DVD players. The average price has remained just under $300, but consumers expect that the makers will continuously provide more features especially megapixels of resolution and zoom capacities at those prices. Any maker with a model that does not match up to its rivals is forced to liquidate at a loss.
"The lifetime of digital cameras is measured in months, while the life of a film camera is years," said Elliot Peck, a vice president for sales at Canon. "Someone always has overstocks, and that disrupts the market."
Peck said that Canon's camera business, which has concentrated on more technically sophisticated buyers by offering digital single- lens reflex cameras and the unusually small and sleek Elph line, is also profitable. Sony, which charges a premium for its unusual designs, also makes money in digital cameras, although the company does not break out figures for the business.
Four years ago, it was not so clear that Kodak would have any credibility in the digital world, despite its place as a photography pioneer and its 1,000 digital photography patents. So Kodak's engineers developed a system meant to streamline the process of moving pictures off the camera, onto a computer and then to either a printer, Kodak's Ofoto online printing service or e-mail. This involved new cameras, new software and an optional dock that cradled the camera, allowing it to recharge its batteries and transfer pictures to the computer at the same time.
The working name for the system was "Dock and Go," but Pierre Schaeffer, who had just taken over as marketing director for digital cameras, did not like the phrase. "We had been trying to play catch- up with Sony while we were trying to see what Canon was going to do," he said. "We needed something crisper that we could own and push forward with confidence."
After several brainstorming sessions, he came up with the EasyShare brand, which captures what Kodak hopes differentiates its line from competitors.
One innovation was a "share" button, which allows users to select pictures as they take them that will later be printed or e-mailed as soon as the camera is returned to the dock. "There is an emotional moment at the time of capture," said Gregory Westbrook, Kodak's vice president and general manager of its digital and film imaging systems unit. One of the company's first insights from its research was that its target market was annoyed and sometimes intimidated by the need to use a personal computer in order to print pictures. Many women, the anthropologists found, wanted the center of their picture taking and viewing to be the kitchen rather than the home office.
So in 2003, Kodak introduced what would become the signature technology of its camera line: a printer dock that housed the camera directly no computer needed to print 4-by-6-inch, or 10-by-15- centimeter, glossy photos using a dye sublimation printing process.
Kodak sold a million printer docks in the first year. Printers have the potential to be far more profitable than cameras because customers are locked into years of buying ink and paper. Even more important, Kodak convinced many retailers to put its printers right in the aisle that sold cameras, not in the printer section.
"The dock just resonated with consumers," said Slaughter of InfoTrends/CAP Ventures.
Of course, innovations do not remain exclusive for very long in the electronics world. Canon, for example, added the equivalent of the share button to its Elph line. And Sony, which is promoting its own 4-by-6-inch printer, has been fighting back with a refreshed product line. Sony's T-1 model is even thinner than the Canon Elph and features a 2.5-inch display, larger than those of its rivals.
Still, Sony is losing market share. In the first nine months of the year, Sony had 20.8 percent of the digital camera market in the United States, according to IDC, down from 21.7 for all of 2003. Kodak is up to 18.8 percent of the market from 17.9 percent. Canon is now the No.3 digital camera player, with 15.2 percent.
Saturday, December 25, 2004
A look ahead to the 2005 economy
By Marshall Loeb, CBS.MarketWatch.com
Last Update: 5:00 AM ET Dec. 25, 2004
NEW YORK (CBS.MW) -- If you're looking for a formula for your asset allocation as the new year begins, you probably could do worse than follow the advice of Standard & Poor's Investment Policy Committee.
Last Update: 5:00 AM ET Dec. 25, 2004
NEW YORK (CBS.MW) -- If you're looking for a formula for your asset allocation as the new year begins, you probably could do worse than follow the advice of Standard & Poor's Investment Policy Committee.
For a typical balanced investor, it recommends an asset allocation of 45 percent in U.S. equities, 15 percent in foreign stocks, 25 percent short-term bonds and 15 percent cash. Previously, S&P had a somewhat more defensive allocation.
Naturally, if you're younger, more confident about the future and willing to take some chances, you would put relatively more of your assets into stocks. If you're older and more conservative, you would invest relatively more in bonds and cash.
This allocation reflects S&P's forecast for the economy and for the markets in general. It tends to be close to the standard forecast of investment professionals.
The S&P forecast is that real GDP will advance in 2005 by a healthy 3.6 percent, on top of the quite strong 4.4 percent rise in 2004. That would make 2005 a good year, though not a great one.
This forecast also calls for the Consumer Price Index to rise by a noninflationary 2.3 percent. Meanwhile, the yield on the 10-year Treasury note would go up from 4.2 percent to 5 percent, the dollar would continue sliding and oil prices would slip from $45 a barrel now to $39 at next year's end.
Global economic growth rates are projected by S&P to rise 1.8 percent in Japan and 1.9 percent in Europe, 6.2 percent in non-Japan Asia, including a 7 percent advance in China.
A number of astute financial professionals generally agree with this prognosis, or at least major parts of it.
Joe Williams, senior vice president and director of equities of Commerce Trust Co. in Kansas City, is one of those who has a slightly more bullish attitude toward stocks, though he expects the economy's growth to slow to 2.5 to 3 percent.
He notes that the consensus is that 10-year interest rates will go up. "But we've been surprised before," he says. Williams believes that those 10-year rates may remain stable.
"And it may be," says Williams, "that profits will be better than the 6 to 10 percent now forecast. They may come in closer to 10 to 16 percent." Falling oil prices and the reduction of labor costs due to outsourcing may help lift profits.
In any event, he believes that there may be a change in the leadership of the stock market. For the last three or four years, small-cap stocks have performed best, midcap stocks have been somewhere in the middle and large-cap stocks have underperformed. But now, he reckons, large-cap stocks may do remarkably well. That's because their price/earnings ratios, at 18 or 19 times earnings, are roughly equivalent to the p/e ratios of small- and midcap stocks. It is one of those rare times, say Williams, that large-cap stocks are relative bargains.
Meanwhile, Robert Hormats, vice chairman of Goldman Sachs (International), sees a fairly healthy growth rate in most parts of the world. It will be strong enough to enable the Federal Reserve Board to continue to raise interest rates. It will also contribute to modestly higher inflation.
"That means," says Hormats, "that equities are likely to do reasonably well, and bonds are likely to be under pressure in the earlier and middle part of next year."
Hormats admits that there are many risks to this forecast.
One wild card is the dollar. If the dollar declines precipitously, it would push up U.S. inflation and have a very negative effect on the bond market.
Another wild card is oil prices. The odds are that they will stabilize, but there's always the risk that they won't. An actual disruption in oil supplies could be very harmful to the economy.
Hormats believes that "there's a long-term structural bull market in oil, given that there has been an underinvestment in the infrastructure of the industry relative to the [strong] demand we're seeing now."
If he is right, then oil prices are destined to go up, if not next year then sometime in the future.
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