Investment Strategy And The New Economy


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  • Investment Strategy And The New Economy

    1. 1. INVESTMENT STRATEGY AND THE “NEW” ECONOMY Dr. James R. Forcier Managing Director Bay Analytics 15 June 2000 Copyright © 2000 by Bay Analytics. All rights reserved.
    2. 2. Investment Clubs <ul><li>Women-only investor clubs earn an average return of 21% </li></ul>
    3. 3. Investment Clubs <ul><li>Men-only clubs earn 15% </li></ul>
    4. 4. Economics Defined <ul><li>Macroeconomics: </li></ul><ul><ul><li>Economy-wide & inter-economy concerns </li></ul></ul><ul><ul><ul><li>Inflation </li></ul></ul></ul><ul><ul><ul><li>Unemployment </li></ul></ul></ul><ul><ul><ul><li>Trade policy </li></ul></ul></ul>
    5. 5. Economics Defined <ul><li>Microeconomics: </li></ul><ul><ul><li>Firm and market concerns </li></ul></ul><ul><ul><ul><li>Regulation/deregulation </li></ul></ul></ul><ul><ul><ul><li>Pricing </li></ul></ul></ul><ul><ul><ul><li>Competition </li></ul></ul></ul>
    6. 6. Management Consulting <ul><li>Business school tools: </li></ul><ul><ul><ul><li>Quantitative, qualitative methods </li></ul></ul></ul><ul><ul><ul><li>Marketing </li></ul></ul></ul><ul><ul><ul><li>Human resources </li></ul></ul></ul><ul><ul><ul><li>Business law </li></ul></ul></ul><ul><ul><li>Andersen, Deloitte & Touche, McKinsey </li></ul></ul>
    7. 7. Economic Consulting <ul><li>Economic tools </li></ul><ul><ul><ul><li>Regression analysis, modeling </li></ul></ul></ul><ul><ul><ul><li>Antitrust, regulation </li></ul></ul></ul><ul><ul><ul><li>Litigation-support orientation </li></ul></ul></ul><ul><ul><li>NERA, Charles River Associates, Law and Economics Group </li></ul></ul>
    8. 8. Economic Strategy Consulting <ul><li>Microeconomic tools applied to business decision-making </li></ul><ul><ul><ul><li>Market analysis (Round 1) </li></ul></ul></ul><ul><ul><ul><li>Competitive strategy (Digital Island) </li></ul></ul></ul><ul><ul><ul><li>Firm & product positioning ( </li></ul></ul></ul><ul><ul><ul><li>New offering development (Visa USA) </li></ul></ul></ul><ul><ul><li>Bay Analytics </li></ul></ul>
    9. 9. The “New Economy” <ul><li>What is the “New Economy?” </li></ul><ul><ul><li>Something other than the “old” economy </li></ul></ul><ul><ul><ul><li>Internet commerce? </li></ul></ul></ul><ul><ul><ul><li>Venture-funded start-ups? </li></ul></ul></ul><ul><ul><ul><li>IPO frenzy? </li></ul></ul></ul><ul><ul><ul><li>Heroic stock valuations? </li></ul></ul></ul>
    10. 10. Capitalist (“mixed”) Economy <ul><li>Markets used for most transactions </li></ul><ul><li>Unconstrained producers and consumers </li></ul><ul><li>Unfettered industry entry and exit, capital & labor flows </li></ul><ul><li>Limited government involvement </li></ul>
    11. 11. The “New Economy” Defined <ul><li>The “old” economy </li></ul><ul><li>+ </li></ul><ul><li>The application of computing technology </li></ul><ul><li>= </li></ul><ul><li>Significant changes in long-standing ways of doing business </li></ul>
    12. 12. The “New Economy” Defined <ul><li>Microeconomic characteristics (1) </li></ul><ul><ul><li>Technology entrepreneurs and enablers (software engineers, dot.coms, click and mortars, incubators) </li></ul></ul><ul><ul><li>Wireless telecommunications and data (telephony, PDAs, SMS, 3G) </li></ul></ul><ul><ul><li>Business data management systems (SAP, Oracle) </li></ul></ul>
    13. 13. The “New Economy” Defined <ul><li>Microeconomic characteristics (2) </li></ul><ul><ul><li>Internet services: electronic mail, WWW, portals (Yahoo, Lycos) </li></ul></ul><ul><ul><li>Internet infrastructure: intelligent networking companies (Digital Island), infrastructure providers (Cisco Systems) </li></ul></ul><ul><ul><li>Internet content providers: NYT, Disney </li></ul></ul>
    14. 14. The “New Economy” Defined <ul><li>Macroeconomic characteristics (1) </li></ul><ul><ul><li>Increased world trade </li></ul></ul><ul><ul><li>Internationalized capital and production flows </li></ul></ul><ul><ul><li>Domestic labor flexibility & mobility </li></ul></ul>
    15. 15. The “New Economy” Defined <ul><li>Macroeconomic characteristics (2) </li></ul><ul><ul><li>Low inflation and unemployment from... </li></ul></ul><ul><ul><ul><li>Increased market competitiveness </li></ul></ul></ul><ul><ul><ul><li>Worker productivity growth due to information and communication technology </li></ul></ul></ul>
    16. 16. The “New Economy” Defined <ul><ul><li>Worker productivity growth due to information and communication technology </li></ul></ul><ul><ul><ul><li>Business investment in computer technology has grown from 7.7 % of total durable equipment investment in 1990 to 45.7 % in 1998 </li></ul></ul></ul>
    17. 17. The “New Economy” Defined <ul><ul><li>Worker productivity growth due to information and communication technology </li></ul></ul><ul><ul><ul><li>Increase in output growth as a result of computers may explain productivity growth from 0.33 percent 1993 to 1995 to 2.2 percent 1996 to 1998 </li></ul></ul></ul><ul><ul><ul><li>Increasingly accepted by economic policymakers </li></ul></ul></ul>
    18. 18. The “New Economy” Defined <ul><ul><li>General characteristics: </li></ul></ul><ul><ul><ul><li>Computer-based </li></ul></ul></ul><ul><ul><ul><li>Time-compressed </li></ul></ul></ul><ul><ul><ul><li>Disintermediated </li></ul></ul></ul><ul><ul><ul><li>Rapid evolution/changes </li></ul></ul></ul>
    19. 19. “ New” Vs. “Old” Economies <ul><li>How is the “New Economy” new? </li></ul><ul><ul><li>Moves at a faster speed </li></ul></ul><ul><ul><li>Fewer intermediaries in transactions </li></ul></ul><ul><ul><li>Production factor (capital, labor, technology) shift? </li></ul></ul>
    20. 20. “ New” Vs. “Old” Economies <ul><li>Is the “New Economy”… </li></ul><ul><ul><li>No longer capitalistic? </li></ul></ul><ul><ul><li>Constraining producers and consumers? </li></ul></ul><ul><ul><li>Relying on non-market transactions? </li></ul></ul><ul><ul><li>Restricting industry entry and exit? </li></ul></ul><ul><ul><li>Imposing greater government interference? </li></ul></ul>
    21. 21. “ New” Vs. “Old” Economies <ul><ul><li>Rather than displacing microeconomic theory, the New Economy magnifies and exemplifies it </li></ul></ul><ul><ul><ul><li>More new businesses, products, services, features </li></ul></ul></ul><ul><ul><ul><li>Greater disintermediation = fewer “middlemen” </li></ul></ul></ul><ul><ul><ul><li>More markets with more participants, greater transparency, greater liquidity </li></ul></ul></ul><ul><ul><ul><li>Greater labor productivity </li></ul></ul></ul><ul><ul><ul><li>Increased wealth across all societal levels </li></ul></ul></ul>
    22. 22. “ New” Business Valuations <ul><ul><li>Excessive for many firms without clear prospects </li></ul></ul><ul><ul><ul><li>Do not reflect discounted future cash flows or earnings </li></ul></ul></ul><ul><ul><ul><li>Do not reflect reasonable economic assumptions about growth or prospects </li></ul></ul></ul>
    23. 23. Valuation Examples <ul><ul><ul><li>Amazon - no earnings yet despite premier Internet positioning </li></ul></ul></ul><ul><ul><ul><li>Webvan - grocery home delivery with huge capital investment in facilities </li></ul></ul></ul><ul><ul><ul><li>Intel - earnings from key position in computing </li></ul></ul></ul><ul><ul><ul><li>Cisco Systems - earnings from ‘Net infrastructure </li></ul></ul></ul><ul><ul><ul><li>Vodafone AirTouch - largest wireless operator </li></ul></ul></ul><ul><ul><ul><li>Palm - enormous potential? </li></ul></ul></ul>
    24. 24. Internet Business Opportunities <ul><li>Retail value of e-commerce estimated to be $20 billion by 2004 </li></ul><ul><li>Internet industry, 1999: </li></ul><ul><ul><li>Revenues grew 62 percent to $524 billion </li></ul></ul><ul><ul><li>Created 650,000 jobs </li></ul></ul><ul><ul><li>Now employs 2.5 million people </li></ul></ul><ul><ul><li>Revenues could hit $850 billion this year </li></ul></ul>
    25. 25. Internet Potential - Consumer <ul><ul><li>CyberShopper ‘99 Survey of 1,000 American Internet users: </li></ul></ul><ul><ul><ul><li>53 percent of users surveyed purchased an item online (2x 26 percent in 1997) </li></ul></ul></ul><ul><ul><ul><li>Spending an average of $206 per online purchase, up 38 percent in past 12 months </li></ul></ul></ul><ul><ul><ul><li>36 percent of Internet shoppers still apprehensive about Internet security </li></ul></ul></ul>
    26. 26. Internet Potential - Consumer <ul><ul><li>CyberShopper ‘99 Survey of 1,000 American Internet users: </li></ul></ul><ul><ul><ul><li>Purchasing fewer products from retail stores (35 percent) and catalogs (38 percent) </li></ul></ul></ul><ul><ul><ul><li>70 percent believe information they find while &quot;shopping&quot; on the Internet strongly influences their overall purchasing decisions </li></ul></ul></ul><ul><ul><ul><li>Concern about online credit card fraud has dropped by about half (to 21 percent) since 1997 </li></ul></ul></ul>
    27. 27. Internet Potential - Consumer <ul><ul><li>New York Times research on U.S. Internet Users (reported 5/24/99): </li></ul></ul><ul><ul><ul><li>Products leading online sales </li></ul></ul></ul><ul><ul><ul><ul><li>books and publications (52 percent) </li></ul></ul></ul></ul><ul><ul><ul><ul><li>computer software (42 percent) </li></ul></ul></ul></ul><ul><ul><ul><ul><li>travel-related items (37 percent) </li></ul></ul></ul></ul><ul><ul><ul><li>Clothing/apparel shows largest growth in online purchases – 149 percent increase since 1998 </li></ul></ul></ul>
    28. 28. Internet Potential - Consumer <ul><ul><li>New York Times research on U.S. Internet Users reported 5/24/99: </li></ul></ul><ul><ul><ul><li>99 percent of respondents said they are at least “somewhat satisfied” with Internet purchases </li></ul></ul></ul><ul><ul><ul><li>79 percent report being “very satisfied” </li></ul></ul></ul><ul><ul><ul><li>83 percent of users in the market for a new vehicle plan to use the Internet in their purchase process </li></ul></ul></ul>
    29. 29. Internet Potential - Business <ul><li>Online retailing may not be more cost effective than traditional retail stores </li></ul><ul><li>Example: REI </li></ul><ul><ul><li>Internet site requires smaller staff, but higher salaries for technological knowledge </li></ul></ul><ul><ul><li>300-person Seattle store and 60-person Internet site payrolls about equal </li></ul></ul>
    30. 30. Internet Potential - Business <ul><li>Online retailing may not be more cost effective than traditional retail stores </li></ul><ul><li>Example: REI </li></ul><ul><ul><li>Incessant requirement for upgrades has forced spending of $15 million on technology since 1996 </li></ul></ul><ul><ul><li>Many buyers expect products will arrive more quickly than catalogue orders </li></ul></ul>
    31. 31. Internet Potential - Business <ul><li>Online retailing may not be more cost effective than traditional retail stores </li></ul><ul><ul><li>Cost-reduction from disintermediation, time and labor savings </li></ul></ul><ul><ul><ul><li>For many intermediaries eliminated, new ones are created </li></ul></ul></ul><ul><ul><ul><li>Example: </li></ul></ul></ul><ul><ul><ul><ul><li>Ingram Book as an intermediate supplier </li></ul></ul></ul></ul><ul><ul><ul><ul><li>UPS and DHL for delivery </li></ul></ul></ul></ul><ul><ul><ul><ul><li>AOL for customer acquisition </li></ul></ul></ul></ul>
    32. 32. Internet Potential - Business <ul><li>Online retailing may not be more cost effective than traditional retail stores </li></ul><ul><ul><li>Real questions are cost and customer acceptance </li></ul></ul>
    33. 33. Internet Potential - Business <ul><li>Greatest potential for Internet growth probably lies in business cost reduction and customer-specific marketing & sales </li></ul><ul><ul><li>Reduction in production times </li></ul></ul><ul><ul><li>Reduced inventory and labor costs </li></ul></ul><ul><ul><li>Mass customization </li></ul></ul>
    34. 34. Internet Potential - Business <ul><li>Buyer consortia for production purchasing </li></ul><ul><ul><li>Auto manufacturing: Ford, GM, Daimler </li></ul></ul><ul><ul><li>Electronics </li></ul></ul><ul><ul><li>Aerospace </li></ul></ul><ul><ul><li>Replaces Electronic Data Interchange </li></ul></ul>
    35. 35. Stock Market Economics <ul><li>“ Buy and hold” </li></ul><ul><ul><li>Power of compounding versus risk of market timing </li></ul></ul><ul><li>Minimize transaction costs </li></ul><ul><ul><li>Investment advisor versus solo </li></ul></ul><ul><ul><li>Load versus no-load funds </li></ul></ul><ul><ul><ul><li>Performance equivalence </li></ul></ul></ul><ul><ul><ul><li>Front-end/back-end loads, management fees, expense ratios, long-term cost amortization </li></ul></ul></ul>
    36. 36. Stock Market Economics <ul><li>Start-ups and IPOs </li></ul><ul><ul><li>Small business failure rate is very high (80-90%) </li></ul></ul><ul><ul><li>Poor investor returns for most IPOs (in 2/3 of cases share price falls first year) </li></ul></ul><ul><ul><li>Aside from initial share allocation, long-run average returns from IPOs lag S&P 500 </li></ul></ul>
    37. 37. Stock Market Economics <ul><li>Start-ups and IPOs </li></ul><ul><ul><li>Over the past 15 years, 68% (average) of the firms going public were profitable </li></ul></ul><ul><ul><li>In 1999, only 25% of firms were profitable </li></ul></ul>
    38. 38. Stock Market Economics <ul><li>Start-ups and IPOs </li></ul><ul><ul><li>IPOs with positive earnings per share in twelve months prior to IPO: </li></ul></ul><ul><ul><ul><li>1990 - 85% (97) 1995 - 72% (363) </li></ul></ul></ul><ul><ul><ul><li>1991 - 75% (267) 1996 - 63% (431) </li></ul></ul></ul><ul><ul><ul><li>1992 - 68% (375) 1997 - 68% (304) </li></ul></ul></ul><ul><ul><ul><li>1993 - 70% (468) 1998 - 59% (222) </li></ul></ul></ul><ul><ul><ul><li>1994 - 78% (316) 1999 - 22% (441) </li></ul></ul></ul>
    39. 39. Stock Market Economics <ul><li>Stock Market “Bubble” </li></ul><ul><ul><li>Price-to-earnings ratios (cost of stock vis-à-vis profits) are about twice their historic average </li></ul></ul><ul><ul><li>Over long run, stocks will regress towards earnings potential of operating companies </li></ul></ul>
    40. 40. Stock Market Economics <ul><li>The stock market is overvalued because… </li></ul><ul><ul><li>Investment capital is readily available </li></ul></ul><ul><ul><li>Investors haven’t done sufficient research </li></ul></ul><ul><ul><li>Investors have unreasonable expectations: </li></ul></ul><ul><ul><ul><li>Earnings will produce profits to sustain share prices and projected price-earnings ratios </li></ul></ul></ul>
    41. 41. Stock Market Economics <ul><li>The good news: </li></ul><ul><ul><li>Investor exuberance reduces the cost of capital and generates investment funds – much of which fuels business development and economic growth </li></ul></ul>
    42. 42. Stock Market Economics <ul><li>Internet risks </li></ul><ul><ul><ul><li>Insufficient net space </li></ul></ul></ul><ul><ul><ul><ul><li> </li></ul></ul></ul></ul><ul><ul><ul><li>“ Land grab”- having customers is not enough </li></ul></ul></ul><ul><ul><ul><ul><li> </li></ul></ul></ul></ul><ul><ul><ul><li>Positioning challenge </li></ul></ul></ul><ul><ul><ul><ul><li>(see newspaper advertising example) </li></ul></ul></ul></ul><ul><ul><ul><li>Illusive efficiency - many claims as yet unsupported </li></ul></ul></ul><ul><ul><ul><ul><li>Webvan (can you say “Peapod”) </li></ul></ul></ul></ul>
    43. 43. Stock Market Economics <ul><li>Internet risks </li></ul><ul><ul><li>Lack of business experience/capability </li></ul></ul><ul><ul><li>Example: </li></ul></ul><ul><ul><ul><li>Palo Alto Internet music site </li></ul></ul></ul><ul><ul><ul><li>Recently purchased Great American Music Hall </li></ul></ul></ul><ul><ul><ul><li>“ We don’t have anybody on our staff who knows about running the Music Hall. That was part of the attraction for us.” </li></ul></ul></ul>
    44. 44. Stock Market Economics <ul><li>Mounting losses/help needed: </li></ul><ul><ul><ul><li>eToys </li></ul></ul></ul><ul><ul><ul><li> </li></ul></ul></ul><ul><ul><ul><li> </li></ul></ul></ul><ul><ul><ul><li> </li></ul></ul></ul><ul><ul><ul><li>CDNow </li></ul></ul></ul><ul><ul><ul><li> Cybershop </li></ul></ul></ul>
    45. 45. Stock Market Economics <ul><li>95% of e-tailers won’t survive to see 2001 </li></ul><ul><ul><li>iVillage (women’s interest site) - lost $1.30 per dollar in revenue 1Q2000 </li></ul></ul><ul><ul><li>InsWeb (online insurance) - shares fell 89% this year; reducing workforce by 40% </li></ul></ul>
    46. 46. Bay Analytics ECONOMIC STRATEGY CONSULTING <ul><li>Thank You! </li></ul>