Technology & Telecommunications
June 19, 2011
“Great men are not always wise” Job 32:9
“If one man says to thee, ”Thou art a donkey’,’ pay no heed. If two speak thus, purchase a saddle.” “Doubt cannot override certainty” The Talmud
“The seed ye sow, another reaps; The wealth ye find, another keeps; The robes ye weave, another wears; The arms ye forge, another bears.” Percy Bysshe Shelley
If you are watching events unfold in the US like me, you’re probably hearing a lot about the tech stock frenzy going on over there. Stunning IPO successes this financial year are once again drawing a crowd. But are we looking at a Tech Bubble MkII? Are the big banks, without a suite of CDSs and CDOs to sell, now performing the same cup-and-ball trick on a different table? Or is this time genuinely different?
Read on – you be the judge (my mate Jim Roger’s is short “US Tech”, and I never ever allow myself to believe this time is different to the last).
Based in Beijing and now listed on the Nasdaq, YouKu is China’s answer to YouTube. The stock closed at $33.44 on its first day of trading in December 2010 (its now $28.04) – that’s 160 percent above its offer price of $12.80! The company offered 15.8 million shares of American Depository Receipts (ADRs), representing 16 percent of the total shares, giving it market cap of $3.3 billion or 71 times revenue. Youku generated revenue of $35 million in the first nine months to 31 December 2010 and lost $25 million during the same period.
Founded in November 2005 and launched in December 2006, YouKu never really relied on user-generated content. More than 60 per cent of its videos are from traditional media companies in China. The company has 40 per cent penetration amongst China’s 420 million internet users. YouKu claims 200 million unique visitors a month in China, however independent comScore estimates a smaller 78 million.
LinkedIn was priced at $45 per share but traded between $80 and $120 for more than a week after listing, giving the company a market ‘valuation’ as high as $11 billion. Unlike many of the tech stocks that tempted investors in 1999 and early 2000, LinkedIn is profitable.
The company reported its first quarter revenue in 2011 was up 110 percent to $93.9 million compared to pcp (previous corresponding period) and ‘Net income’ increased to $2.08 million for the same period, compared to $1.81 million for pcp.
But there is profitable and there is ridiculous. An $11 billion valuation, or more than 22 times revenue for a business that earns 2 per cent on its revenue, seems, at best, unconnected to the underlying financials. Even someone like me that pays no attention to price or revenue multiples can see that.
On 26 May 2011, Yandex NV (YNDX), owner of Russia’s version of Google and the country’s most popular Internet search engine, listed on the NASDAQ. Yandex sold 52.2 million shares (or 16.2 percent) at $25 per share, raising $1.3 billion and valuing the company at $8 billion. On their first day of trading the shares rose $13.84, to $38.84, giving the company a market capitalisation of $12.4 billion or a multiple of 43 times next year’s forecast earnings. For those seeking a reference point (not a valuation), Google trades at about 13 times estimated 2012 earnings.
Total online advertising in Russia climbed 51 percent from 2008 through 2010, but still amounts to just $940 million! Private equity accounted for seventy per cent of the shares sold in the Yandex float.
The demand for shares in Renren – the Facebook of China with 117 million users* – was clear days before it floated on 2 May 2011 (the company raised the expected price range of its IPO of 53.1 million shares by 30 percent to $12 to $14 per share from a previous range of $9 to $11). The float raised about $743 million and gave the company a valuation of more than $4 billion, or 52 times sales. Renren’s net revenues were $76.5 million in 2010, up 64 per cent from $46.7 million in 2009 and up from $13.8 million in 2008. Renren had a net loss in 2010 of $64.1 million, down from $70.1 million in 2009.
The head of Renren’s audit committee, who is also a board member, quit after allegations of fraud against Longtop Finanicial Technologies. The company also revised down its unique user numbers to a rise of 19 per cent (it originally advised 29 per cent).
Renren said in its prospectus that it operates under a prohibition against posting content that, “impairs the national dignity of China” or is “superstitious”, or content that is “socially destabilising.”
If Renren fails to comply, the company says its websites could be shut down. Clearly that could put it out of business.
The company also has a “material weakness” and a “significant deficiency” in its internal financial controls: it doesn’t have enough people with knowledge of U.S. GAAP (Generally Accepted Accounting Principles). Eighty seven per cent of Renren’s leased office floor area did not have the proper title documents.
*Renren doesn’t really seem sure how many users it has. According to its April 27 revised IPO filing, monthly unique log-in user base grew by only 5 million, or 19 per cent, in the first quarter of 2011 – not the 7 million, or 29 per cent, it reported in its first filing only 12 days earlier.
Pandora (not the charms)
Online radio operator Pandora runs an online personal music service – with applications for the iPhone and Google’s Android mobile operating system – that lets users pick songs, styles/genres and bands from which to build a personal radio station. As at the end of April, Pandora has about 94 million registered users, of which 34 million are considered active. This is up from 18 million at the same time last year.
Pandora offered 14.7 million shares, or just 10 per cent of the total float at $16, raising around $235 million and putting a valuation of $2.6b on the whole shebang. Pandora was priced at about 19 times revenue for last year. Revenue Value.able Graduates, not NPAT.
Pandora has not reported any profits in 2010 or 2011. Indeed in the last three years, Pandora has lost $46.7 million and the company said in its IPO filing that it doesn’t expect to be profitable this year or next. Worryingly, it doesn’t say when it expects to be profitable.
In the weeks prior to listing, the lead manager, Morgan Stanley, raised the expected price range from $7-$9 to $10-$12. Then, after the marketing period ended, priced the shares at the final listing price of $16.
And it gets more fascinating. On its first day of trading, Pandora shares rose as much as 63 per cent to a high of $26, giving it a market capitalisation of $4.2b. A competitor listed on the Nasdaq, Sirius XM, trades at 2.6 times revenue.
According to documents filed with the SEC just six months ago, Pandora’s own board reckoned its stock’s value was/is $3.14 a share, or a market capitalisation of about $500 million.
Pandora generated revenue of $51 million in the first quarter ending April 30 – more than double the $21.6 million for the pcp. The company however lost $6.8 million in the first quarter this year, up from around $3 million in the same quarter last year.
Until recently advertising has represented more than 90 percent of revenue, however revenue from subscriptions (which lets subscribers skip the advertisements the company’s other customers pay for to appear between songs) has been growing. At the end of April, subscription revenue was about 15 per cent and is growing at more than 100 per cent per annum.
But more than 50 per cent of total revenue is paid for song rights and the more people that listen to music through Pandora, the higher this royalty grows. Pandora has an agreement with SoundExchange for its streaming rights that expires in 2015. Between now and 2015, the rates Pandora pays are expected to go up by 37 per cent for songs streamed by free listeners, and by 47 per cent for songs streamed by paid subscribers. In addition to these fees, Pandora has deals with BMI and SESAC to pay 1.75 per cent and 0.38 per cent of gross revenue respectively. In order to become profitable, Pandora will need revenue per user to go up. And it will need a new deal with the music labels.
The share price is now below $16.
Bubbles? This Time is Different!
Ok. Enough of the fundamentals, no one is paying attention to those anyway. From what I have been reading there are many experts who are saying… what exactly? That this time is different!
Those who believe this time is different to the tech boom of the late 90’s point out that 90’s technology companies never generated profits or even revenue. Pandora however has a revenue model, and it’s rare to see today’s tech IPO without one. Effectively the ‘experts’ are suggesting the tech stocks listing today are more mature. Some investors and analysts even brushed off red flags like Renren revising down its user and user growth numbers just before its float, saying China is still the biggest internet market in the world and its rapid growth will continue. They suggest that figures reported by Chinese companies should be used for directional guidance, rather than as quantitative truths.
And that’s pretty much their argument.
My team and I have the ability to analyse every single listed company, globally (and the indices on which they are based), with fundamental data that is updated daily (very soon you will have the opportunity to use our extraordinary A1 service for every Australian company too, so don’t be tempted by all those end of financial year special offers).
Our intrinsic value analysis for the companies described above, and many of their more mature peers in the US and elsewhere, reveals gullible investors are once again being taken for a whimsical ride accompanied by a flagrant disregard for value.
Bubbles can go a long time before popping, and given that bubbles are best identified by credit excesses, not solely valuation excesses, we may be only in the very early stages of the bubble in technology stocks (but very close to the bubble bursting in US TBonds).
Posted by Roger Montgomery and his A1 team, fund managers and creators of the next-generation A1 service for stock market investors, 19 June 2011.
by Roger Montgomery Posted in Global markets, Technology & Telecommunications
April 29, 2011
If you are new to our Value.able community, Ben Graham’s concepts may be foreign to you. Ben is the author of Security Analysis. He is regarded as the father of security analysis and the intellectual Dean of Wall Street.
I support Ben’s revered status and what he has to say on the subject of investing, but perhaps controversially, I also believe that, had he access to a computer that allowed him to properly test his ideas, he may not have reached all of the same conclusions.
It is exactly one year since I first penned some of my thoughts about Ben Graham on this blog here: http://rogermontgomery.com/should-a-value-investor-imitate-ben-graham/
There are many things that Ben said that not only make sense, but has also made significant contributions to investment thinking. Indeed they have become seminal investment principles. These are the things to which Value.able investors should hold firm.
Ben Graham authored the Mr Market allegory and also coined the three most important words in value investing: Margin of Safety. In fact Ben said this: “Confronted with the challenge to distill the secret of sound investment into three words, I venture the motto: Margin of Safety”
These are two concepts that value investors hold dear and which have, in many different ways, become a formal part of our Value.able investing framework.
Mr. Market is of course a fictitious character, created by Ben to demonstrate the bipolar nature of the stock market.
Here is an excerpt from a speech made by Warren Buffett about Ben Graham on the subject:
“You should imagine market quotations as coming from a remarkably accommodating fellow named Mr Market who is your partner in a private business. Without fail, Mr Market appears daily and names a price at which he will either buy your interest or sell you his.
“Even though the business that the two of you own may have economic characteristics that are stable, Mr Market’s quotations will be anything but. For, sad to say, the poor fellow has incurable emotional problems. At times he feels euphoric and can see only the favorable factors affecting the business. When in that mood, he names a very high buy-sell price because he fears that you will snap up his interest and rob him of imminent gains…
“Mr Market has another endearing characteristic: He doesn’t mind being ignored. If his quotation is uninteresting to you today, he will be back with a new one tomorrow.
Transactions are strictly at your option…But, like Cinderella at the ball, you must heed one warning or everything will turn into pumpkins and mice: Mr Market is there to serve you, not to guide you.
“It is his pocketbook, not his wisdom that you will find useful. If he shows up some day in a particularly foolish mood, you are free to either ignore him or to take advantage of him, but it will be disastrous if you fall under his influence.”
If you have read Value.able you will understand Margin of Safety, know exactly what a suitable Margin of Safety is and also how to apply it to Australian stocks.
Despite the high profile of these two enduring lessons, I believe there is a third observation of Graham’s, which is equally important. Fascinatingly, with the benefit of computers, I can also demonstrate that Graham was spot on.
Graham was paraphrased by Buffett in 1993 thus:
“In the short run the market is a voting machine – reflecting a voter-registration test that requires only money, not intelligence or emotional stability – but in the long run, the market is a weighing machine”
What Graham described is something that, as both a private and professional investor, I have observed myself; in the short term the market is a popularity contest – prices often diverge significantly from that which is justified by the economic performance of the business. But in the long-term,prices eventually converge with intrinsic values, which themselves follow business performance.
Have a look at the amazing chart below.
(c) Copyright 2011 Roger Montgomery
Its Qantas (ASX:QAN, MQR: B3, MOS-44%): – its my ten-year history of price and intrinsic value (and three year forecast of intrinsic value which updates daily). Now right click on the chart and open it in a new tab. Zoom in. Now stand back from your computer screen. What do you see?
First you will notice two intrinsic values – a range is produced. Next you might notice that there have been short term bouts of both optimism and despondency and this is reflected in the short term share price changes. The final observation you might make and which the charts make most powerfully, is that since 2001, the intrinsic value of Qantas, which is based on its economic performance has, at best, not changed. Look closer and you will notice that the intrinsic value of Qantas today (2011) is lower than it was a decade ago. Even by 2013, intrinsic value is not forecast to be materially different from that of 2002.
Just as Ben Graham predicted, the long-term weighing machine has correctly appraised Qantas’ worth. Unsurprisingly, the share price today of Australia’s most recognised airline, is also lower than it was a decade ago. And unbelievably, the total market capitalisation of Qantas today is less than the money that has been ‘left in’ and ‘put in’ by shareholders over the last ten years!
These charts aren’t just easy or nice to look at, they are incredibly powerful. If you can calculate intrinsic values for every listed company, you can turn the stock market off and simply pay attention to those values. Then, during those times that the market is doing something irrational, you can take advantage of it or ignore it, just as Ben Graham advised.
Unless you can see a reason for a permanent change in the prospects of Qantas, the long-term trend in intrinsic value gives you all the information you need to steer well clear of this B3 business.
Now have a look at the second chart. What does it tell you?
(c) Copyright 2011 Roger Montgomery
There have been short-term episodes of price buoyancy, but over the long run the weighing machine has done its work. The intrinsic value has not changed in ten years so, over time, the share price has once again reflected the company’s worth and gradually but perpetually fallen until it reaches intrinsic value. This is my ten-year historical price and intrinsic value chart (and three year forecast) for Telstra (ASX:TLS, MQR: B3, MOS:-32%).
What about an extraordinary A1 business?
Sally Macdonald joined Oroton (ASX:OTN, MQR: A1, MOS:-17%) as CEO in 2005/06. Observe the strong correlation between price and value since Sally’s appointment.
(c) Copyright 2011 Roger Montgomery
I acknowledge that there are critics of the approach to intrinsic value we Value.able Graduates follow. But like me, you should be delighted there are. Indeed, we should be encouraging departure from this approach!
The critics are necessary. Not only do they help refine your ideas, but without them, how else would we be able to buy Matrix at $3.50, Forge at $2.60, Vocus at $1.60 or Zicom at $0.32! And how else would we be able to navigate around and away from Nufarm or iSoft, and not fall into the trap of buying Telstra at $3.60 because the ‘experts’ said it had an attractive dividend yield? If it was universal agreement I was after, I would just keep writing about airlines.
The Value.able approach works. If you have been visiting the blog for a while, you will know this only too well.
The above charts (automatically updated daily – and I have one for every, single, listed company) confirms what Ben Graham had discovered without the power of modern computing; In the short run the market is indeed a voting machine, and will always reflect what is popular, but in the long run the market is a weighing machine, and price will reflect intrinsic value.
If you concentrate on long-term intrinsic values and avoid the seduction of short-term prices, I cannot see how, over a long period of time, you cannot help but improve your investing.
…And in case you are wondering about the link between Ben Graham and the photograph of Comanche Indian ‘White Wolf’… the photo of White Wolf was taken in 1894 – the year Ben Graham was born.
HOMEWORK RESULTS: I will publish the holiday results homework on Monday. Thank you to all who participated. It is vital what you continue to practice your technique. With repetition you’ll get to the point where you can simply ‘eye-ball’ Value.able intrinsic value.
July 13, 2010
Did you buy an iPhone between October 2007 and December 2009? Over 41 million people did. Maybe you and 1.7 million others queued outside an Apple store because you had to have the new iPhone 4 in its first week of release, or you are one of the 45,000 people per day buying an iPad? The numbers are astounding.
If you are like Forrest Gump of River Road, Greenbow Alabama, who owns Apple shares, and even if you are not, you may be interested in my estimate of the company’s intrinsic value.
For those faithful to the PC, your loyalty may soon be tested. Apple’s strategy of dominating the home entertainment market is converting the world to its products, and is eating into the business world too.
While the number of sales are amazing are they enough for Apple to replace Microsoft? In the fast changing world of technology, why not? But in the slow-moving world of value investing, who knows? And thats the difficulty – working out if Apple will dominate in ten years time and betting that there aren’t two young guys in a garage somewhere cooking up the next apple, dell, windows or microsoft office.
Apple’s resurrection started with the return of its founder and prodigal son, Steve Jobs. Whilst off in the ‘wilderness’, Jobs kept himself busy acquiring a little animation studio called Pixar for $10 million, building it up and selling it to Disney for more than $7 billion. He also developed and subsequently sold to Apple his NeXt operating system – for $427 million.
Apple has a market capitalisation of $228 billion. It’s the second largest company in the US – currently bigger than its nemisis Microsoft and about $60 billion behind Exxon Mobil.
Yet as we know from Australia, market cap means little. It is Return on Equity, margins and revenue that reveal the quality and performance of a business. And in these areas Apple and Microsoft are similar.
It is however Apple’s revenue-per-employee number that truly causes the jaw to drop. Microsoft’s revenue divided by its employees equals US$630,000. Apple’s is an astounding US$1.5 million.
Despite the company’s success, things haven’t always been rosy at Apple. In the 1980’s Apple lost the personal computer war to the PC and Windows became the standard. This was in part due to the fact that the Windows platform had attracted the ‘killer app’ – Office. But dud Windows revisions and costly software upgrades left unhappy consumers to explore alternatives.
Re-enter Steve Jobs, as interim CEO of the company he co-founded twenty years earlier. Apple’s staff called him the ‘iCEO’… seriously. It was July 1997 and Apple had lost $1.8 billion in the previous 18 months.
Jobs set about replacing Apple’s board, dropped a case against Microsoft in return for Microsoft developing Office for the Mac, edified the grandeur around the brand, killed off the white labeled versions of its products that were cannibalising the company and most importantly simplified the product pipeline, killing every product except four top-end machines. This last move got the [remaining] staff more focused and inventory fell from $400 million to $100 million in one year.
The category killing machine for Apple in the late 1990’s was the iMac – in fruity colours. Remember those? And Jobs was serious about simplification. These iMacs did not even have a floppy drive. The user downloaded software from the internet and they were the first computer with a USB port. iMacs were thought of as being ahead of their time.
And being ahead of their time meant Apple could charge premium prices and generate better margins. The additional cash funded research that ultimately launched the iPod. Coinciding as it did with the emergence of the “digital life”, the iPod re-launched Apple.
Fast forward to 2010 – what is the intrinsic value of Apple? And is that value rising? Can Apple live up to the iPad’s promise that ‘…this is just the beginning’.
Apple’s Return on Equity from 2001 to 2005 looks like this: 22%, 24.4%, 27.2%. 29.6%. 28.4%. 29.3% and 27.1% forecast for 2011. I have access to a range of forecasts. While some analysts have projected iPad sales will continue for a year at the current rate of growth, others suggest that once the Mac aficionados have purchased, sales will slow significantly. Revenue estimates for 2011 range from $18 billion to more than $45 billion. The 2011 estimated decline in ROE needs to be seen in that context.
As you may know I rate companies on a quality scale from A1 to C5, using metrics designed for bank credit departments. Apple is an A1, and that A1 has been consistent for several years. Microsoft, by comparison, is an A2, but its performance has recently been declining.
Why is Apple an A1? It has no debt and even though equity has grown (from retained earnings not capital raisings) from $3.5 billion to over $10 billion, returns have been maintained. This is exceptional.
Buffett says that he likes big equity and big returns on equity and on that score Apple makes the grade. But Buffett avoids fast-changing sectors like technology because he cannot say with confidence where the company will be in terms of competitive positioning in, for example, a decade’s time. And who knows that there isn’t a couple of university dropouts in a garage somewhere building the next apple, dell, office suite or google!
So with the share price at US$258, does a discount to intrinsic value exist? Moreover, is intrinsic value rising?
On the first score the answer is yes slightly. Apple’s intrinsic value is US$262.56. On the second score intrinsic value is rising to a 2011 estimate of $305.03 – a 16 per cent increase.
For the last five years, intrinsic value has indeed increased substantially. Below is a little table to show you Apple’s share price and intrinsic values since 2005.
*Estimate. Not a recommendation. Seek and take personal professional advice.
Only a very small margin of safety exists today and while you may be optimistic about the fact that Apple’s intrinsic value is rising at a satisfactory rate, you do need to remember that the business is in a fast-changing industry. Future performance and intrinsic value will depend on whether Apple continues to strengthen its competitive advantages. Thank you to the many investors who emailed me and asked for a quick look at Apple.
Posted by Roger Montgomery, 12 July 2010
by Roger Montgomery Posted in Companies, Technology & Telecommunications
October 17, 2009
With a 66% market share, Telstra’s monopolistic powers are in the news and generating quite a stir. The only problem is that the telco’s monopolistic powers are not stirring its profits.
With a 90% share, Telstra dominates what used to be called the ‘local call market’. In the last decade mobile phone services have risen from 8 million to 22 million, internet penetration has risen from 30% to 79% of households, and despite unique anti-syphoning legislation which ensures free-to-air tv gets to show the big sporting events, pay tv has increased to 30% household penetration from virtually nothing in 1995.
Despite this rapid growth in new technology and Telstra’s dominant landline market share, its profits are no higher today than they were ten years ago. And while its intrinsic value has risen slightly in the last two years, it has not registered impressive growth overall.
The ‘rebalancing’ and ‘cannibalisation’ that the industry is experiencing, and the government wants, does not detract from the very high underlying growth factors in the telecommunications industry.
Demand for high-speed services will exceed supply. By 2017 Fibre to the Household (FttH) will make our present broadband look like the dial-up systems of ten years ago and will be used by the telecoms, IT and media industries to deliver digital media services, applications, video content hosting and distribution. Whether Telstra will be able to take advantage of it and win is anyone’s guess.
In fast-changing industries, working out who will dominate is difficult and therefore so is estimating an intrinsic value. In any event, Telstra in its current form has not been able to convert its dominant position and the strong growth in telecommunications demand into improving economic performance. There is little reason to believe that it will in the future.
By Roger Montgomery, 17 October 2009
by rogermontgomeryinsights Posted in Technology & Telecommunications