Economically, is Obama America's Greatest Modern President?

With the stock market hitting new highs, some people have already forgotten about the Great Recession.  If you recall 2009, things looked pretty bleak economically.  But the outlook has changed dramatically in just 4 years.  And it has been a boon for investors, as even the safest indices have yielded a 250% return (>25% annualized compound return:)

Source: Bulls, Bears and the Ballot Box at Facebook.com

Meanwhile, trends have reversed direction with unemployment falling, and consumer confidence rising:

Source: Bulls, Bears and the Ballot Box at Facebook.com

Since this coincides with President Obama’s first term, I asked the authors of “Bulls, Bears and the Ballot Box,” (available on Amazon.com) which I reviewed in my October 11, 2012 column, to capture their opinions on how much Americans should attribute the equity upturn, and improved economic prospects, to the President as we enter his second term.

Interview with Bob Deitrick, co-Author "Bulls, Bears and the Ballot Box" (BBBB):

Q- Bob, how much credit should Americans give President Obama for today’s improved equity values?

BBBB – Our research reviewed American economic performance since President Roosevelt installed the first Federal Reserve Board Chairman - Republican Marriner Eccles.  We observed that even though there are multiple impacts on the economy, it was clear that policy decisions within each administration, from FDR forward, made a clear difference on performance. And relatively quickly. 

Presidents universally take credit when the economy does well (such as Reagan,) and choose to blame other factors when the economy does poorly (such as Carter.)  But there was a clear pattern, and link, between policy and financial market performance. 

Although we hear almost no one in the Obama administration taking credit for record index highs, they should.   Because the President deserves significant credit for how well this economy has done during his leadership. 

The auto rescue plan has worked.  American car manufacturers are still dominant and employing millions directly and in supplier companies.  Wall Street reform has been painful but it has re-instated faith amongst investors.  The markets are far more predictable than they were four years ago, as VIX numbers demonstrate greater faith and less risk. 

Even for small investors, such as thoughs limited to their 401(k) or IRA investments, the average annual compound return on stocks under President Obama has been more than 24% since the lows of March, 2009.  This is a better result than either Clinton, Reagan or FDR who were the prior winners in our book. 

Q- Bob, what policies do you think were most important toward achieving today’s new highs?

BBBB – Firstly, let’s review just how bad things were in 2009.  In 2000 America was completing the longest bull market in history. But by the end of President Bush's tenure the country had witnessed 2 stock market crashes, and the DJIA had fallen 58%.  This was the second worst market decline in history (exceeded only by the Great Depression,) and hence the term “Great Recession” was born.

In 2000, at the end of Clinton’s administration, the Consumer Confidence Index was at a record high 140.  By January, 2009 this index had fallen to an historic low of 25.3.  Comparatively, when Reagan took office at the end of the economically weak Carter years the Confidence Index was still at 74.4!  Today this measure of how people feel about the country is still nowhere near 2000 levels, but it is almost 3 times better than 4 years ago.

Significantly, in 2000 America had a budget surplus.  By 2009 surpluses were long gone and the country was racking up historic deficits as taxes were cut while simultaneously outlays for defense skyrocketed to cover costs of wars in Iraq and Afghanistan.  Additionally, banks were on the edge of failing due to unregulated real estate speculation and massive derivative losses.

Today the Congressional Budget Office is reporting a $200B decrease in the deficit almost entirely due to increased revenue from a growing economy and higher taxes on the wealthiest Americans.  The deficit is now only 4% of the GDP, down from over 10% at the end of Bush's administration - and projections are for it to be only 2% by 2015 (before Obama leaves office.)  America's "debt problem" seems largely solved, and almost all due to growth rather than austerity.

We can largely thank a fairer tax code, improved regulation and consistent SEC enforcement.  Also, major strides in health care reform - something no other President has accomplished - has given American's more faith in their future, and an increased willingness to invest.  

Q- To which President would you compare Obama’s economic performance?

BBBB- By all measures, President Obama has outperformed every modern President. 

The easiest comparison would be to President Reagan, who’s economic performance was superb.  Even though Obama's performance is better.

Reagan had the enormous benefit of two major factors:

1. a significantly better economy than Obama inherited, even if afflicted by inflation
2. and his two terms coincided with the highest performing demographic years of the Baby Boomer generation.

Today's demographics have shifted dramatically.  The country is much older, with fewer young people supporting a much larger near-retirement age group.  This inherent demographic fact makes creating economic growth monumentally harder than it was 30 years ago.

Few people think of Reagan as a stimulus addict.  Yet, his administration’s military build-up added $1trillion of stimulus to the national debt ($2.3trillion adjusted for inflation) - the opposite of what is happening during the Obama years.  Many like to think that it was tax cutting which grew the economy, but undoubtedly we now know that this dramatic defense and infrastructure (highways, etc.) stimulus had more to do with igniting economic growth.  Reagan's spending looked far more like FDR than Herbert Hoover!

Ronald  Reagan tripled the national debt during his tenure, creating what today's Congressional austerity advocates might have called "a legacy of unpayable debt for our grandchildren.” But, as we saw, later growth (during Clinton) resolved that debt and created a budget surplus by 2000.

Q- Bob, President’s Obama detractors liken the Affordable Care Act (i.e. Obamacare) to an Armageddon on business, sure to kill economic growth and plunge the country back into recession.  Do you agree?

BBBB- To the contrary, ACA levels the playing field and will be good for economic growth.  Where previously only large corporations could afford employee health care plans, in the future far more employees will have far more equitable coverage.  Further, today employees frequently are unable to leave a company to start a new business because they would lose health care, which in the future will not be true.

One leading indicator of the benefits of ACA might be the performance of healthcare and biotech stocks, which are up 20-30% and leaders in the current market rally.

Q- What policies would you recommend the Obama administration follow in order to promote economic growth, more jobs and greater returns for investors during the second term?

BBBB-  Obama needs to make the cornerstone of his second term creating new job growth.  That was the primary platform of his candidacy, and it is a platform long successful for the Democratic party.  If President Obama can do this and  govern effectively, this could be his real legacy.

 

 

The Ugly Leadership Horsefly in the Record DJIA Economic Ointment

The Dow Jones Industrial Average (DJIA) jumped to record levels - over 15,000 - today after a favorable U.S. jobs report showed 165K new jobs and a drop in unemployment to 7.5%.  Politicians, economists, business leaders and investors were buoyed by economic improvements and the hope for further growth.  A higher stock market is considered a great ointment for what has hurt America the last several years.

But there's a big, ugly fly in this ointment.  While the indices are rising, revenues at many very large, key component companies are actually declining.  And possibly worse, the revenue growth rate for large companies has been declining for at least 3 years.

Source: Marketwatch "The Tell" 5/3/13 Matt Andrejczak

As the chart shows, Caterpillar has led the revenue decline, dropping a whopping 17.5% year-over-year.  But noteworthy declines included JPMorganChase dropping 15.5%, Pfizer down 12.4% and Merck down 9%.  It's hard to imagine a great long-term bull market when revenues are distinctly going in a bearish direction for several stalwart companies.

It is also important to note that the rate of DJIA growth has declined markedly.  In 2011 first quarter growth was 11.4% over 2010.  But 2012 was only 9.4% over 2011 and 2013 came in only a paltry 3.8% over 2012.  Ouch!  Clearly, jobs growth will not be sustained if these organizations cannot put more money on the top line.

So why aren't these companies growing? 

For companies to grow they must invest in new products, new markets and the resources to sell and deliver these new products and new markets.  And that creates jobs.  Think about easy to identify revenue successes like Apple (iPads,) Samsung (smartphones,) Amazon.com, Netflix, Tesla, Facebook.  Proper investment leads to revenue growth opportunities.

But, unfortunately, America's leaders have reduced their investment in growth projects the last 15 years.  Instead, they've been giving more money to investors -- and increasingly dumping money into stock buybacks that manipulate price and help improve management bonuses!

Source: Business Insider 4/8/13; Sam Ro; Reproduced from Goldman Sachs Research

As the chart demonstrates, in 1998 42% of corporate cash was reinvested into the means of production - which creates growth.  Today this has declined to only about 1/3 of available cash; a whopping 25% decline!  Additionally, R&D investments which should lead to new products and higher sales, dropped from 16% of cash used a decade ago to a more meager 12%! 

Where has the money gone?  13% of cash was going directly to investors, who could then invest in other companies with higher rate of return growth projects.  That number has risen to 18%, which is inherently a good thing as we can hope a lot of that has been re-invested in other companies. 

But 13-17% used to be spent on stock buybacks, which create no revenue or economic growth.  All share buybacks do is exchange cash for shares, reducing the number of shares and changing metrics like earnings per share and thus the price/earnings (P/E) multiple.  It does not create any new investment.  That number has risen to a staggering 22-34% of revenues! 

Net/net, in the not too distant past America's leaders were putting 70-74% of their cash to work by investing in growth projects.  And 12% was going to investors for projects elsewhere.  By in the mid-1990s this reinvestment rate declined to 52-55%, ushering in the Great Recession.  After improving this rate has started declining again, and remains stuck no better than 60% of cash.  Coupled with the 5% increase in cash being robbed from growth projects to buy back stock,  the net reinvestment remains mired at 55%!

American's want jobs and a growing economy.  As do people everywhere!  We are excited when we see improvement.  But today, the ugly horsefly in the ointment is the lack of revenue growth - and the lack of investment in growth projects.  Until business leaders begin putting their corporate cash hoards into growth projects again the long-term outlook remains problematic, even if the market is hitting record DJIA highs.

 

2 Wrongs Don't Fix JC Penney

JCPenney's board fired the company CEO 18 months ago.  Frustrated with weak performance, they replaced him with the most famous person in retail at the time. Ron Johnson was running Apple's stores, which had the highest profit per square foot of any retail chain in America.  Sure he would bring the Midas touch to JC Penney they gave him a $50M sign-on bonus and complete latitude to do as he wished.

Things didn't work out so well.  Sales fell some 25%.  The stock dropped 50%.  So about 2 weeks ago the Board fired Ron Johnson.

The first mistake:  Ron Johnson didn't try solving the real problem at JC Penney.  He spent lavishly trying to remake the brand.  He modernized the logo, upped the TV ad spend, spruced up stores and implemented a more consistent pricing strategy.  But that all was designed to help JC Penney compete in traditional brick-and-mortar retail. Against traditional companies like Wal-Mart, Kohl's, Sears, etc.  But that wasn't (and isn't) JC Penney's problem.

The problem in all of traditional retail is the growth of on-line.  In a small margin business with high fixed costs, like traditional retail, even a small revenue loss has a big impact on net profit.  For every 5% revenue decline 50-90% of that lost cash comes directly off the bottom line - because costs don't fall with revenues.  And these days every quarter - every month - more and more customers are buying more and more stuff from Amazon.com and its on-line brethren rather than brick and mortar stores.  It is these lost revenues that are destroying revenues and profits at Sears and JC Penney, and stagnating nearly everyone else including Wal-Mart. 

Coming from the tech world, you would have expected CEO Johnson to recognize this problem and radically change the strategy, rather than messing with tactics.  He should have looked to close stores to lower fixed costs, developed a powerful on-line presence and marketed hard to grab more customers showrooming or shopping from home.  He should have targeted to grow JCP on-line, stealing revenues from other traditional retailers, while making the company more of a hybrid retailer that profitably met customer needs in stores, or on-line, as suits them.  He should have used on-line retail to take customers from locked-in competitors unable to deal with "cannibalization."

No wonder the results tanked, and CEO Johnson was fired.  Doing more of the tired, old strategies in a shifting market never works.  In Apple parlance, he needed to be focused on an iPad strategy, when instead he kept trying to sell more Macs.

But now the Board has made its second mistake.  Bringing back the old CEO, Myron Ullman, has deepened JP Penney's lock-in to that old, traditional and uncompetitve brick-and-mortar strategy. He intends to return to JCP's legacy, buy more newspaper coupons, and keep doing more of the same.  While hoping for a better outcome.

What was that old description of insanity?  Something about repeating yourself.....

Expectedly, Penney's stock dropped another 10% after announcing the old CEO would return.  Investors are smart enough to recognize the retail market has shifted.  That newsapaper coupons, circulars and traditional advertising is not enough to compete with on-line merchants which have lower fixed costs, faster inventory turns and wider product selection. 

It certainly appears Mr. Johnson was not the right person to grow JC Penney.  All the more reason JCP needs to accelerate its strategy toward the on-line retail trend.  Going backward will only worsen an already terrible situation.

United - this is NOT "any way to run an airline"

The good folks at Wichita State (a final four contender as U.S. basketball fans know) and Purdue released their 2013 Airline Quality Rating.  United Airlines came in dead last.  To which United responded that they simply did not care.  Oh my.

Interestingly, this study is based wholly on statistical performance, rather than customer input.  The academics utilize on-time flight performance, denied passenger boardings, mishandled bags and complaints filed with the Department of Transportation.  It does not even begin to explore surveying customers about their satisfaction.  Anyone who flies regularly can well imagine those results.  Oh my.

So how would you expect an innovative, adaptive growth-oriented company (think like Amazon, Apple, Samsung, Virgin, Neimann-Marcus, Lulu Lemon) to react to declining customer performance metrics?  They might actually change the product, to make it more desirable by customers.  They might hire more customer service representatives to identify customer issues and fix problems quicker.  They might adjust their processes to achieve higher customer satisfaction.  They might train their employees to be more customer-oriented. 

But, United decidedly is not an innovative, adaptive organization.  So it responded by denying the situation.  Claiming things are getting better.  And talking about how it is spending more money on its long-term strategy.

United doesn't care about customers - and really never has.  United is focused on "operational excellence" (using the word excellence very loosely) as Messrs. Treacy and Wiersema called this strategy in their mega-popular book "The Discipline of Market Leaders" from 1995. United's strategy, like many, many businesses, is to constantly strive for better execution of an old strategy (in their case, hub-and-spoke flight operations) by hammering away at cutting costs. 

Locked in to this strategy, United invests in more airplanes and gates (including making acquisitions like Continental) believing that being bigger will lead to more cost cutting opportunities (code named "synergies".)  They beat up on employees, fight with unions, remove anything unessential (like food) invent ways to create charges (like checked bags or change fees), fiddle with fuel costs, ignore customers and constantly try to engineer minute enhancements to operations in efforts to save pennies.

Like many companies, United is fixated on this strategy, even if it can't make any money.  Even if this strategy once drove it to bankruptcy.  Even if its employees are miserable. Even if quality metrics decline. Even if every year customers are less and less happy with the product.  All of that be darned!  United just keeps doing what it has always done, for over 3 decades, hoping that somehow - magically - results will improve.

Today people have choices.  More choices than ever.  That's true for transportation as well.  As customers have become less happy, they simply won't pay as much to fly.  The impact of all this operational focus, but let the customer be danged, management is price degradation to the point that United, like all the airlines, barely (or doesn't - like American) cover costs.  And because of all the competition each airline constantly chases the other to the bottom of customer satisfaction - each  lowering its price as it mimics the others with cost cuts.

In 1963 National Airlines ran ads asking "is this any way to run an airline?" Well, no. 

Success today - everywhere, not just airlines - requires more than operational focus.  Constantly cutting costs ruins the brand, customer satisfaction, eliminates investment in new products and inevitably kills profitability.  The litany of failed airlines demonstrates just how ineffective this strategy has become.  Because operational improvements are so easily matched by competitors, and ignores alternatives (like trains, buses and automobiles for airlines) it leads to price wars, lower profits and bankruptcy.

Nobody looks to airlines as a model of management.  But many companies still believe operational excellence will lead to success.  They need to look at the long-term implications of this strategy, and recognize that without innovation, new products and highly satisfied new customers no business will thrive - or even survive.

Why Small Business Leaders are Missing the Digital/Mobile Revolution

It is an unfortunate fact that small businesses fail at a higher rate than large businesses.  While we've come to accept this, it somewhat flies in the face of logic.  After all, small businesses are run by owners who can achieve entrepreneurial returns rather than managerial bonuses, so incentive is high.  Conventional wisdom is that small businesses have fewer, and closer relationships to customers (think Ace Hardware franchisees vs. Home Depot.)  And lacking layers of overhead and embedded management they should be more nimble.

Yet, they fail.  From as high as 9 out of 10 for restaurants to 4 out of 10 in more asset intensive business-to-business ventures.  That is far higher than large companies.

Why?  Despite conventional wisdom most small businesses are run by leaders committed to a single, narrow success formula.  Most are wedded to their core ideology, based on personal history, and unwilling to adapt until the business completely fails.  Most reject new technologies and other emerging innovations as long as possible, trying to conserve  cash and wait for "more proof" change will pay off.  Additionally, most spend little time investing time, or money, in innovation at all as they pour everything into defending and extending their historical business approach. 

Take for example the major trend to digital marketing.  Everyone knows that digital is the only growing ad market, while print is fast dying:
Chart republished with permission of Jay Yarow, Business Insider 3/19/2013

Yet AdWeek reported a new Boston Consulting Group study reveals that a mere 3% of small business ad dollars are in digital!

Digital marketing is one of the few places where ads can be purchased for as little as $100.  Digital ads are targeted at users based upon their searches and pages viewed, thus delivered directly to likely buyers.  And digital ads consistently demonstrate the highest rate of return.  That's why it's growing at over 20%/year!

Yet, small businesses continue to put most of their money into local newspapers and direct mail circulars.  The least targeted of all advertising, and increasingly the least read!  While print ad spending has declined over 80% the last few years, to 1950 levels (adjusted for inflation,) smarter businesses have abandoned the media.  At large companies in 2012 38% of advertising is on digital, second only to TV's 42% - and rapidly moving into first place!

A second major trend is the move to mobile and app usage.  In the last 2 years mobile users have grown and shown a distinct preference for apps over mobile web sites.  App use is growing while mobile web sites have stalled:
Chart republished with permission of Alex Cocotas, Business Insider 3/20/13

Even though there are over 1million apps available for iPhone and Android users, the vast majority of small businesses have no apps aligned with their business and customers.  Most small businesses, late to the game in digital marketing, are content to try and add mobile capability to their already existing web site - hoping that it will be sufficient for future growth. Meanwhile, customers are going directly for apps in accelerating numbers every month!
Chart republished with permission of Alex Cocotas, Business Insider 1/8/13

Rather than act like market leaders, using customer intimacy and nimbleness to jump ahead of lumbering giants, small business leaders complain they are unsure of app value - and keep spending money on historical artifacts (like their web site) rather than invest in higher return innovation opportunities.  Many small businesses are spending $20k+/year on printed brochures, coupons and newspaper or magazine PR when a like amount spent on an app could connect them much more tightly with customers, add higher value and expand their base more quickly and more profitably!

The trend to digital marketing - including the explosive growth in mobile app use - is proven.  And due to very low relative up-front cost, as well as low variable cost, both trends are a wonderful boon for small businesses ready to adopt, adapt and grow.  But, unfortunately, the vast majoritiy of small business leaders are behaving oppositely!  They remain wedded to outdated marketing and customer relationship processes that are too expensive, with lower yield! 

The opportunity is greater now than during most times for smaller competitors to be disruptive.  They can seize new innovations faster, and leverage them before larger competitors.  But as long as they cling to old practices and processes, and beliefs about historical markets, they will continue to fail, smashed under the heal of slower moving, bureaucratic large companies who have larger resources when they do finally take action.

 

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Why Yahoo Investors Should Worry about Marissa Mayer

Marissa Mayer created a firestorm this week by issuing an email requiring all employees who work from home to begin daily commuting to Yahoo offices.  Some folks are saying this is going to be a blow to long-term employees, hamper productivity and will harm the company. Others are saying this will improve communications and cooperation, thin out unproductive employees and help Yahoo.

While there are arguments to be made on both sides, the issue is far simpler than many people make it out to be - and the implications for shareholders are downright scary.

Yahoo has been a strugging company for several years.  And the reason has nothing to do with its work from home policy.  Yahoo has lacked an effective strategy for a decade - and changing its work from home policy does nothing to fix that problem.

In the late 1990s almost every computer browser had Yahoo as its home page.  But Yahoo long ago lost its leadership position in content aggregation, search and ad placement.    Now, Yahoo is irrelevant.  It has no technology advantage, no product advantage and no market advantage.  It is so weak in all markets that its only value has been as a second competitor that keeps the market leader from being attacked as a monopolist! 

A series of CEOs have been unable to develop a new strategy for Yahoo to make it more like Amazon or Apple and less like - well, Yahoo.  With much fanfare Ms. Mayer was brought into the flailing company from Google, which is a market leader, to turn around Yahoo.  Only she's been on the job 7 months, and there still is no apparent strategy to return Yahoo to greatness. 

Instead, Ms. Mayer has delivered to investors a series of tactical decisions, such as changing the home page layout and now the work from home policy.  If tactical decisions alone could fix Yahoo Carol Bartz would have been a hero - instead of being pushed out by the Board in disgrace. 

Many leading pundits are enthused with CEO Mayer's decision to force all employees into offices.  They are saying she is "making the tough decisions" to "cut the corporate cost structure" and "push people to be more productive." Underlying this lies thinking that the employees are lazy and to blame for Yahoo's failure. 

Balderdash.  It's not employees' fault Yahoo, and Ms. Mayer, lack an effective strategy to earn a high return on their efforts. 

It isn't hard for a new CEO to change policies that make it harder for people to do their jobs - by cutting hours out of their day via commuting.  Or lowering productivity as they are forced into endless meetings that "enhance communication and cooperation." Or forcing them out of the company entirely with arcane work rules in a misguided effort to lower operating costs or overhead.  Any strategy-free CEO can do those sorts of things. 

Just look at how effective this approach was for

• "Chainsaw" Al Dunlap at Scott Paper
• "Fast Eddie" Lampert at Sears
• Carol Bartz at Yahoo
• Meg Whitman at HP
• Brian Dunn at Best Buy
• Gregory Rayburn at Hostess
• Antonio Perez at Kodak

The the fact that some Yahoo employees work from home has nothing to do with the lack of strategy, innovation and growth at Yahoo.  That failure is due to leadership.  Bringing these employees into offices will only hurt morale, increase real estate costs and push out several valuable workers who have been diligently keeping afloat a severely damaged Yahoo ship. These employees, whether in an office or working at home, will not create a new strategy for Yahoo.  And bringing them into offices will not improve the strategy development or innovation processes. 

Regardless of anyone's personal opinions about working from home, it has been the trend for over a decade.  Work has changed dramatically the last 30 years, and increasingly productivity relies on having time, alone, to think and produce charts, graphs, documents, lines of code, letters, etc.  Technologies, from PCs to mobile devices and the software used on them (including communications applications like WebEx, Skype and other conferencing tools) make it possible for people to be as productive remotely as in person. Usually more productive removed from interruptions.

Taking advantage of this trend helps any company to hire better, and be more productive.  Going against this trend is simply foolish - regardless the intellectual arguments made to support such a decision. Apple fought the trend to PCs and almost failed.  When it wholesale adopted the trend to mobile, seriously reducing its commitment to PC markets, Apple flourished.  It is ALWAYS easier to succeed when you work with, and augment trends.  Fighting trends ALWAYS fails.

Yahoo investors have plenty to be worried about.  Yahoo doesn't need a "tough" CEO.  Yahoo needs a CEO with the insight to create, and implement, a new strategy.  And a series of tactical actions do not sum to a new strategy.  As importantly, the new strategy - and its implementation - needs to augment trends.  Not go against trends while demonstrating the clout of a new CEO. 

If you've been waiting to figure out if Ms. Mayer is the CEO that can make Yahoo a great company again, the answer is becoming clear.  She increasingly appears very unlikely to have what it takes.

Dell - Take the Money and Run! Innovation trumps execution.

Michael Dell has put together a hedge fund, one of his largest suppliers and some debt money to take his company, Dell, Inc. private.  There are large investors threatening to sue, claiming the price isn't high enough.  While they are wrangling, small investors should consider this privatization manna from heaven, take the new, higher price and run to invest elsewhere - thankful you're getting more than the company is worth.

In the 1990s everybody thought Dell was an incredible company.  With literally no innovation a young fellow built an enormously large, profitable company using other people's money, and technology.  Dell jumped into the PC business as it was born.  Suppliers were making the important bits, and looking for "partners" to build boxes.  Dell realized he could let other people invest in microprocessor, memory, disk drive, operating system and application software development.  All he had to do was put the pieces together. 

Dell was the rare example of a company that was built on nothing more than execution.  By marketing hard, selling hard, buying smart and building cheap Dell could produce a product for which demand was skyrocketing.  Every year brought out new advancements from suppliers Dell could package up and sell as the latest, greatest model.  All Dell had to do was stay focused on its "core" PC market, avoid distractions, and win at execution.  Heck, everyone was going to make money building and selling PCs.  How much you made boiled down to how hard you worked.  It wasn't about strategy or innovation - just execution. 

Dell's business worked for one simple reason.  Everybody wanted PCs.  More than one.  And everybody wanted bigger, more powerful PCs as they came available.  Market demand exploded as the PC became part of everything companies, and people, do.  As long as demand was growing, Dell was growing.  And with clever execution - primarily focused on speed (sell, build, deliver, get the cash before the supplier has to be paid) - Dell became a multi-billion dollar company, and its founder a billionaire with no college degree, and no claim to being a technology genius.

But, the market shifted.  As this column has pointed out many times, demand for PCs went flat - never to return to previous growth rates.  Users have moved to mobile devices such as smartphones and tablets, while corporate IT is transitioning from PC servers to cloud services.  iPad sales now nearly match all of Dell's sales.  Dell might well be the world's best PC maker, but when people don't want PCs that doesn't matter any more.

Which is why Dell's sales, and profits, began to fall several years ago.  And even though Michael Dell returned to run the company 6 years ago, the downward direction did not change.  At its "core" Dell has no ability to innovate, or create new products.  It is like HTC - merely a company that sells and assembles, with all of its "focus" on cost/price.  That's why Samsung became the leader in Android smartphones and tablets, and why Dell never launched a Chrome tablet.  Lacking any innovation capability, Dell relied on its suppliers to tell it what to build.  And its suppliers, notably Microsoft and Intel, entirely missed the shift to mobile.  Leaving Dell long on execution skills, but with nowhere to apply them.

Market watchers knew this. That's why  Dell's stock took a long ride from its lofty value on the rapids of growth to the recent distinctly low value as it slipped into the whirlpool of failure.

Now Dell has a trumped up story that it needs to go public in order to convert itself from a PC maker into an IT services company selling cloud and mobile capabilities to small and mid-sized businesses.  But Dell doesn't need to go private to do this, which alone makes the story ring hollow.  It's going private because doing so allows Michael Dell to recapitalize the company with mountains of debt, then use internal cash to buy out his stock before the company completely fails wiping out a big chunk of his remaining fortune.

If you think adding debt to Dell will save it from the market shift, just look at how well that strategy worked for fixing Tribune Corporation. A Sam Zell led LBO took over the company claiming he had plans for a new future, as advertisers shifted away from newspapers.  Bankruptcy came soon enough, employee pensions were wiped out, massive layoffs undertaken and 4 years of legal fighting followed to see if there was any plan that would keep the company afloat.  Debt never fixes a failing company, and Dell knows that.  Dell has no answer to changing market demand away from PCs.

Now the buzzards are circling.  HP has been caught in a rush to destruction ever since CEO Fiorina decided to buy Compaq and gut the HP R&D in an effort to follow Dell's wild revenue ride.  Only massive cost cutting by the following CEO Hurd kept HP alive, wiping out any remnants of innovation.  Now HP has a dismal future.  But it hopes that as the PC market shrinks the elimination of one competitor, Dell, will give newest CEO Whitman more time to somehow find something HP can do besides follow Dell into bankruptcy court.

Watching as its execution-oriented ecosystem manufacturers are struggling, supplier Microsoft is pulling out its wallet to try and extend the timeline.  Plundering its $85B war chest, Microsoft keeps adding features, with acquisitions such as Skype, that consume cash while offering no returns - or even strong reasons for people to stop the transition to tablets. 

Additionally it keeps putting up money for companies that it hopes will build end-user products on its software, such as its $500M investment in Barnes & Noble's Nook and now putting $2B into Dell.  $85B is a lot of money, but how much more will Microsoft have to spend to keep HP alive - or money losing Acer - or Lenovo?  A billion here, a billion there and pretty soon it adds up to a lot of money!  Not counting losses in its own entertainmnet and on-line divisions.  The transition to mobile devices is permanent and Microsoft has arrived at the game incredibly late - and with products that simply cannot obtain better than mixed reviews.

The lesson to learn is that management, and investors, take a big risk when they focus on execution.  Without innovation, organizations become reliant on vendors who may, or may not, stay ahead of market transitions.  When an organization fails to be an innovator, someone who creates its own game changers, and instead tries to succeed by being the best at execution eventually market shifts will kill it.  It is not a question of if, but when.

Being the world's best PC maker is no better than being the world's best maker of white bread (Hostess) or the world's best maker of photographic film (Kodak) or the world's best 5 and dime retailer (Woolworth's) or the world's best manufacturer of bicycles (Schwinn) or cold rolled steel (Bethlehem Steel.)  Being able to execute - even execute really, really well - is not a long-term viable strategy.  Eventually, innovation will create market shifts that will kill you.

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Why Twitter Won the SuperBowl While Traditional Ad Execs Don't Get It

Reading reviews of Super Bowl ads I was struck by two observations:

1. The reviewers got the value of most ads backwards
2. They missed the most important ad of all - on Twitter

Super Bowl ads cost $1M+ to make.  Then they cost $2M+ to air.  So it is an expensive proposition.  This isn't fine art, like a Picasso, with a long shelf life to create a rate of return.  These ads need to pay off fast.  They need to build the brand with existing and/or new customers to drive sales and make back that money now.

So let's start with one of the best reviewed ads - Chrysler's "God Made a Farmer". Reviewers liked the home-spun approach of using a dead conservative radio commentator voicing over pictures of farmers in pick-ups.  Unfortunately, from a rate of return perspective my bet is this ad will end up near the very bottom.  

• Firstly, the 50 year trend is to urbanization.  In 1900 9 out of 10 Americans had something to do with agriculture.  Now it is fewer than 1 in 20.  Trucks are used for lots of things, but farming makes up a small percentage.  It has been a full generation since most 2nd generation Americans had anything to do with a farm.  Showing people using a product in ways that almost nobody uses it, and with a message most of your target market doesn't even recognize, leaves most people confused rather than ready to buy.
• Secondly, first generation Americans are changing the demographics of America quickly.  First generation Americans (can I say immigrant?) proved large enough, and powerful enough, to play a spoiler role in Mitt Romney's run for the Presidency.  To them, farming in America has no history, appeal or meaning to their lives. 
• Thirdly, no one under the age of 35 has any idea who Paul Harvey is.  Perhaps Chrysler could have used Bill O'Reilly and achieved its message mission.  But as it was, there were two of us +50 people who spent 5 minutes trying to tell the group watching the game at my home who Paul Harvey even was - and why he was being quoted.

A 24 year old boy watching the game with me in suburban Chicago listened to my explanation about Paul Harvey and farming.  He drives a Ford F-250 4x4 pick-up.  After I finished he looked me square in the eyes and said "Swing, and a miss."  And that's what I'd say to Chrysler.  Whoever made this ad had more money than market research and common sense.

Simultaneously, reviewers hated GoDaddy.com's "Perfect Match, Bar Rafieli's Big Kiss." This portrayed a very stereotypical engineer enjoying a long kiss with a pretty girl - referring to how the company's products well serve client needs.  Reviewers found the ad in bad taste.  My bet is this ad will have immediate payback for GoDaddy.com

Have you ever heard of the monstrously successful situation comedy "The Big Bang Theory?"  At just about any time you can find this in reruns on at least one, if not more than one, cable channel.  The show is so successful that to pull people viewers to its Monday night schedule CBS actually chose to rerun "Big Bang" episodes amidst new episodes of its other programs in January.  The show thrives on the tension of male technical professionals seeking to solve the age old question of how a man can appeal to desirable ladies.  Politically correct or not, the show is successful because it is a timeless message.  Most boys want to be liked by girls.

Today the world of people who have technical, or quasi-technical jobs, is HUGE.   GoDaddy's target audience of people buying, and servicing, web domains just happens to be mostly male under-40 men with technical or quasi-technical backgrounds.  This little, tasteless demonstration may have upset the high ethics of ad execs (or has "Mad Men" unraveled that myth?) but to its target group this ad was pure gold.  And same for GoDaddy.com.

But most importantly, none of these ads will have the payback of 9 words a marketer tweeted when the lights went out at the game.  Because it had blown a huge wad of money on a traditional game ad the Oreo brand folks at Mondelez were watching the game with their media agency 360i.  Thinking quickly the creatives came up with an idea, and the brand guys approved it - so out went the tweet from Oreo Cookies "No problem.  You can still dunk in the dark."

"Booya" as my young friends say.  10,000 retweets and an entire Monday news cycle devoted to the quick thinking folks who posted this tweet.  ROI?  Given that the incremental cost was zero, pretty darn high. If I was investing, I'd take the tweet over the video.  The equivalent of a kick return for a TD.

The world has changed.  We now live in a 24x7, real-time, always-on world.  We no longer wait for the weekly magazine for analysis, or the daily newspaper for information.  Or even the 11:00 television daily recap.  We pick up alerts on our mobile devices constantly.  Receive highlights from friends on Facebook and Twitter.  We want our information NOW.  And those who connect to this new way of living for providing us information are not only accepted, but admired by those thriving on the social networks.

This year's Super Bowl social media postings were triple last year's; over 30million.  This is the world of immediate feedback.  Immediate discussion.  And the place were ads need to be immediate as well.  Those who understand this, and connect to it, will succeed.  Others, who spend too much to make and then distribute ads on traditional media, will not.  Just as newspaper ads have lost of their relevance - TV ads are destined for the same conclusion.

The good news is that Mondelez and its Oreos team was ready, and willing, to take advantage.  Where were most of the other advertisers?  Audi, VW and P&G's Tide also jumped in.  But of all those millions spent on once-run ads, these major corporate advertisers - and their extremely highly paid ad agencies - were absent.  When the easy money was to be made, they simply weren't there.  Off drinking beer and watching the game when they should have been working!

Today we learned Twitter is buying Bluefin to make its information on who is tweeting, about what, in real time even better.  This will be helpful for any smart advertiser.  And not just the multi-billion dollar giants.  The good news is anyone, anywhere in any size company can play in this real-time, on-line social media world.  You don't have to be huge, or rich. 

Where were you when the lights went out?  Were you taking advantage of what we may later call a "once in a lifetime" opportunity? 

Where will you be the next time?  Are you ready to invest in the new world of social media advertising?   Or are you stuck spending too much to come in too late?

And the Winner Is - Netflix!!

Last week's earning's announcements gave us some big news.  Looking around the tech industry, a number of companies reported about as expected, and their stocks didn't move a lot.  Apple had robust sales and earnings, but missed analyst targets and fell out of bed!  But without a doubt, the big winner was Netflix, which beat expectations and had an enormous ~50% jump in valuation!

My what a difference 18 months makes (see chart.)  For anyone who thinks the stock market is efficient the value of Netflix should make one wonder.  In July, 2011 the stock ended a meteoric run-up to $300/share, only to fall 80% to $60/share by year's end.  After whipsawing between $50 and $130, but spending most of 2012 near the lower number, the stock is now up 3-fold to $160!  Nothing scares investors more than volatility - and this kind of volatility would scare away almost anyone but a day trader!

Yet, through all of this I have been - and I remain - bullish on Netflix.  During its run-up in 2010 I wrote "Why You Should Love Netflix," then when the stock crashed in late 2011 I wrote "The Case for Buying Netflix" and last January I predicted Netflix to be "the turnaround story of 2012."  It would be logical to ask why I would remain bullish through all the ups and downs of this cycle - especially since Netflix is still only about half of its value at its high-point.

Simply put, Netflix has 2 things going for it that portend a successful future:

1. Netflix is in a very, very fast growing market.  Streaming entertainment.  People have what appears to be an insatiable desire for entertainment, and the market not only has grown at a breathtaking rate, but it will continue to grow extremely fast for several more quarters.  It is unclear where the growth rate may tap out for content delivery - putting Netflix in a market that offers enormous growth for all participants.
2. Netflix leadership has shown a penchant for having the right strategy to remain a market leader - even when harshly criticized for taking fast action to deal with market shifts.  Specifically, choosing to rapidly cannibalize its own DVD business by aggressively promoting streaming - even at lower margins - meant Netflix chose growth over defensiveness.

In 2011 CEO Reed Hastings was given "CEO of the Year 2010" honors by Fortune magazine.  But in 2011, as he split Netflix into 2 businesses - DVD and streaming - and allowed them to price independently and compete with each other for customer business he was trounced as the "dunce" of tech CEOs. 

His actions led to a price increase of 60% for anyone who decided to buy both Netflix products, and many customers chose to drop one.  Analysts predicted this to be the end of Netflix. 

But in retrospect we can see the brilliance of this decision.  CEO Hastings actually did what textbooks tell us to do - he began milking the installed, but outdated, DVD business.  He did not kill it, but he began pulling profits and cash out of it to pay for building the faster growing, but lower margin, streaming business.  This allowed Netflix to actually grow revenue, and grow profits, while making the market transition from one platform (DVD) to another (streaming.)

Almost no company pulls off this kind of transition.  Most companies try to defend and extend the company's "core" product far too long, missing the market transition.  But now Netflix is adding around 2 million new streaming customers/quarter, while losing 400,000 DVD subscribers.  And with the price changes, this has allowed the company to add content and expand internationally -- and increase profits!!

Marketwatch headlined that "Naysayers Must Feel Foolish."  But truthfully, they were just looking at the wrong numbers.  They were fixated on the shrinking installed base of DVD subscribers.  But by pushing these customers to make a fast decision, Netflix was able to convert most of them to its new streaming business before they went out and bought the service from a competitor. 

Aggressive cannibalization actually was the BEST strategy given how fast tablet and smartphone sales were growing and driving up demand for streaming entertainment.  Capturing the growth market was far, far more valuable than trying to defend the business destined for obsolescence. 

Netflix simply did its planning looking out the windshield, at what the market was going to look like in 3 years, rather than trying to protect what it saw in the rear view mirror.  The market was going to change - really fast.  Faster than most people expected.  Competitors like Hulu and Amazon and even Comcast wanted to grab those customers.  The Netflix goal had to be to go headlong into the cold, but fast moving, water of the new streaming market as aggressively as possible.  Or it would end up like Blockbuster that tried renting DVDs from its stores too long - and wound up in bankruptcy court.

There are people who still doubt that Netflix can compete against other streaming players.  And this has been the knock on Netflix since 2005.  That Amazon, Walmart or Comcast would crush the smaller company.  But what these analysts missed was that Amazon and Walmart are in a war for the future of retail - not entertainment - and their efforts in streaming were more to protect a flank in their retail strategy, not win in streaming entertainment.  Likewise, Comcast and its brethren are out to defend cable TV, not really win at anytime, anywhere streaming entertainment.  Their defensive behavior would never allow them to lead in a fast-growing new marketplace.  Thus the market was left for Netflix to capture - if it had the courage to rapidly cannibalize its base and commit to the new marketplace.

Hulu and Redbox are also competitors.  And they very likely will do very well for several years.  Because the market is growing very fast and can support multiple players.  But Netflix benefits from being first, and being biggest.  It has the most cash flow to invest in additional growth.  It has the largest subscriber base to attract content providers earlier, and offer them the most money.  By maintaining its #1 position - even by cannibalizing itself to do so - Netflix is able to keep the other competitors at bay; reinforcing its leadership position.

There are some good lessons here for everyone:

1. Think long-term, not short-term.  A king can become a goat only to become a king again if he haa the right strategy.  You probably aren't as good as the press says when they like you, nor as bad as they say when hated.  Don't let yourself be goaded into giving up the long-term win for short-term benefits.
2. Growth covers a multitude of sins!  The way Netflix launched its 2-division campaign in 2011 was a disaster.  But when a market is growing at 100%+ you can rapidly recover.  Netflix grew its streaming user base by more than 50% last year - and that fixes a lot of mistakes. Anytime you have a choice, go for the fast growing market!!
3. Follow the trend!  Never fight the trend!  Tablet sales were growing at an amazing clip, while DVD players had no sales gains.  With tablet and smartphone sales eclipsing DVD player sales, the smart move was to go where the trend was headed.  Being first on the trend has high payoff.  Moving slowly is death.  Kodak failed to aggressively convert film camera customers to its own digital cameras, and it filed bankruptcy in 2012.
4. Dont' forget to be profitable!  Even if it means raising prices on dated solutions that will eventually become obsolete - to customer howls.  You must maximize the profits of an outdated product line as fast as possible. Don't try to defend and extend it.  Those tactics use up cash and resources rather than contributing to future success.
5. Cannibalizing your installed base is smart when markets shift.  Regardless the margin concerns.  Newspapers said they could not replace "print ad dollars" with "on-line ad dimes" so many went bankrupt defending the paper as the market shifted.  Move fast. Force the cannibalization early so you can convert existing customers to your solution, and keep them, before they go to an emerging competitor.
6. When you need to move into a new market set up a new division to attack it.  And give them permission to do whatever it takes.  Even if their actions aggravate existing customers and industry participants.  Push them to learn fast, and grow fast - and even to attack old sacred cows (like bundled pricing.)

There were a lot of people who thought my call that Netflix would be the turnaround tech story of 2012 was simply bizarre.  But they didn't realize the implications of the massive trend to tablets and smartphones.  The impact is far-reaching - affecting not only computer companies but television, content delivery and content creation.  Netflix positioned itself to be a winner, and implemented the tactics to make that strategy work despite widespread skepticism. 

Hats off to Netflix leadership.  A rare breed.  That's why long-term investors should own the stock.

Sell Microsoft NOW - Game over, Ballmer loses

Microsoft needed a great Christmas season.  After years of product stagnation, and a big market shift toward mobile devices from PCs, Microsoft's future relied on the company seeing customers demonstrate they were ready to jump in heavily for Windows8 products - including the new Surface tablet.

But that did not happen. 

With the data now coming it, it is clear the market movement away from Microsoft products, toward Apple and Android products, has not changed.  On Christmas eve, as people turned on their new devices and launched their first tweet, Surface came in dead last - a mere 2% compared to the number of people tweeting from iPads (Kindle was second, Android third.)  Looking at more traditional units shipped information, UBS analysts reported Surface sales were 5% of iPads shipped.  And the usability reviews continue to run highly negative for Surface and Win8.

This inability to make a big splash, and mount a serious attack on Apple/Android domination, is horrific for Microsoft primarily because we now know that traditional PC sales are well into decline.  Despite the big Win8 launch and promotion, holiday PC sales declined over 3% compared to 2011 as journalists reported customers found "no compelling reason to upgrade."  Ouch!

Looking deeper, for the 4th quarter PC sales declined by almost 5% according to Gartner research, and by almost 6.5% according to IDC.  Both groups no longer expect a rebound in PC shipments, as they believe homes will no longer have more than 1 PC due to the mobile device penetration  - the market where Surface and Win8 phones have failed to make any significant impact or move beyond a tiny market share.  Users increasingly see the complexity of shifting to Win8 as not worth the effort; and if a switch is to be made consumer and businesses now favor iOS and Android.

Microsoft's monopoly over personal computing has evaporated.  From 95% market domination in 2005 share has fallen to just 20% in 2012 (IDC, Goldman Sachs.)  Comparing devices, in 2005 there were 55 Windows devices sold for every Apple device; today explosive Apple sales has lowered that multiple to a mere 2! (Asymco).  Universally the desire to upgrade Microsoft products has simply disappeared, as XP still has 40% of the Windows market - and even Vista at 5.7% has more users than Win8 which has only achieved a 1.75% Windows market share despite the long wait and launch hoopla. And with all future market growth coming in tablets, which are expected to more than double unit volume sales by 2016, Microsoft is simply not in the game.

These trends mean nothing short of the ruin of Microsoft.  Microsoft makes more than 75% of its profits from Windows and Office.  Less than 25% comes from its vaunted servers and tools.  And Microsoft makes nothing from its xBox/Kinect entertainment division, while losing vast sums on-line (negative $350M-$750M/quarter).  No matter how much anyone likes the non-Windows Microsoft products, without the historical Windows/Office sales and profits Microsoft is not sustainable.

So what can we expect at Microsoft:

1. Ballmer has committed to fight to the death in his effort to defend & extend Windows.  So expect death as resources are poured into the unwinnable battle to convert users from iOS and Android.
2. As resources are poured out of the company in the Quixotic effort to prolong Windows/Office, any hope of future dividends falls to zero.
3. Expect enormous layoffs over the next 3 years.  Something like 50-60%, or more, of employees will go away.
4. Expect closure of the long-suffering on-line division in order to conserve resources.
5. The entertainment division will be spun off, sold to someone like Sony or even Barnes & Noble, or dramatically reduced in size.  Unable to make a profit it will increasingly be seen as a distraction to the battle for saving Windows - and Microsoft leadership has long shown they have no idea how to profitably grow this business unit.
6. As more and more of the market shifts to competitive cloud businesses Apple, Amazon and others will grow significantly.  Microsoft, losing its user base, will demonstrate its inability to build a new business in the cloud, mimicking its historical experiences with Zune (mobile music) and Microsoft mobile phones.  Microsoft server and tool sales will suffer, creating a much more difficult profit environment for the sole remaining profitable division.

Missing the market shift to mobile has already forever tarnished the Microsoft brand.  No longer is Microsoft seen as a leader, and instead it is rapidly losing market relevancy as people look to Apple, Google, Amazon, Samsung, Facebook and others for leadership.   The declining sales, and lack of customer interest will lead to a tailspin at Microsoft not unlike what happened to RIM.  Cash will be burned in what Microsoft will consider an "epic" struggle to save the "core of the company." 

But failure is already inevitable.  At this stage, not even a new CEO can save Microsoft.  Steve Ballmer played "Bet the Company" on the long-delayed release of Win8, losing the chance to refocus Microsoft on other growing divisions with greater chance of success.  Unfortunately, the other players already had enough chips to simply bid Microsoft out of the mobile game - and Microsoft's ante is now long gone - without holding a hand even remotely able to turn around the product situation.

Game over. Ballmer loses. And if you keep your money invested in Microsoft it will disappear along with the company.   

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