Kodak, Disruptive Innovation
and the Stock Market

The graph above suggests that Kodak’s
stock hasn’t done very well since the
rise of digital imaging.

From 1999 to 2009,
it went down from
88 USD to around
3 USD.

Film was a
high margin
business
that Kodak
used to
dominate.

Digital imaging removed the need for film and
thus, Kodak’s profits faded away.

Therefore
Kodak had
to both use
existing
capabilities
and
develop
new ones in
order to
survive.

It’s been a tough journey for Kodak and as
stated before, the stock has reached new
bottoms every year.

Standard & Poor’s Equity Research Analyst
Erik Kolb commented on the results:

“They were late to the game in
their shift to digital and they have
been playing catch-up since.”

Kolb also said in 2009 about Kodak that “They were
late in their transition to digital business, namely
digital cameras and accessories.”

In fact, Kodak wasn’t late, Kodak
entered at an early point.

Wouldn’t it be interesting to see the
comments that analysts like Kolb have made
before the technological shift, before
everyone suddenly ’knew’ that this would
happen and started to say that all companies
which suffered did so because they were late?

Mary Benner at Wharton has done some great
research regarding how securities analysts
had looked at Kodak and its business from
the early 1990s and on.

The results are very interesting and will be
summarized briefly on the coming slides.

Benner basically shows that analysts did not
care about and scarcely commented Kodak’s
investments in digital imaging that were made
during the early 1990s.

On the other hand, the analysts praised film-
based and hybrid products, which would later
on collapse in revenues.

The
ignorance
cannot be
explained by
industry
secrecy or
that no one
knew about
digital
imaging…

… Photo
Magazines and
industry
publications
wrote
extensively
about digital
imaging in the
early 1990s.

But the analysts
did not give any
attention to
digital imaging
in its infancy.

Benner also showed that analysts were significantly
more positive regarding film-based initiatives than
those which were based upon digital technology.

Kodak introduced 13 digital cameras in 1990-96 and
two ’hybrid products’ – the Photo CD and Advantix.

The Photo CD was mentioned 38 times in the
analysts’ reports and Advantix 144 times.

Kodak’s first filmless camera, the DCS 100
wasn’t mentioned at all!

In total, there are only ten mentions of
Kodak’s digital cameras in the 196 securities
analysts’ reports.

Given that those reports total 2653 pages it’s
obvious that they ignored the initiatives that were
essential for the long-term survival of the company.

The photo community seemed to be
more interested in Kodak’s efforts:

“[Kodak]…appears to have found a way
to reconcile the respective places of
conventional and digital imaging in its
strategy… If Kodak is going to lose film
customers to digital imaging, it would
rather lose them to Kodak…Kodak’s
digital camera product line is now as
extensive as it is impressive…”
// Future Image, Volume 2, Issue 6,
October, 1994

Initiatives that sustained the film business
were widely regarded as positive.

“There are excellent
opportunities for Kodak
and other film
manufacturers to develop
hybrid systems that
combine the best
characteristics of chemical
and electronic imaging. The
Photo CD is a good
example of a hybrid system
that we believe will extend
the life of 35mm film
substantially.”
// Smith Barney, August 14,
1991

“The Advanced
Photo System…will
be the most
important
development in the
photography
industry in 20
years.”
// Smith Barney,
January 1996

Here’s my favorite:

“….Shareholders will revolt once the meager (and
distant) potential returns from electronic imaging
become clear…we are eager to see shareholders’
reactions when they realize how much of their
money is squandered on ‘digital nonsense’”.
// Prudential, April 1994

History tells us
that if you
should survive
a technological
shift you have
to start at an
early point…

… You have to
explore it, develop
prototypes, recruit
people with different
knowledge and
remain committed to
something that will
not boost the bottom
line in many years…

… Kodak did the
right thing and at
best, analysts
ignored these
activities, at worst –
they were ridiculed
and critized.

(By the way,
both the
Photo CD
and Advantix
were
discontinued
shortly after
their
introduction.)

During the period 1997-2001 it became
increasingly clear that digital imaging had a
future after all and wasn’t only ‘nonsense’.

Kodak’s
early work
on digital
imaging
now
started to
pay off.

In these years, Kodak launched 32 digital
camera products and 3 hybrid cameras.

Many of them were very competitive, they
received several awards and Kodak obtained
significant market shares.

3 products get 70
times more attention
than 32 products!

Bear in mind that the
ignored products all
had in common that
they had a future while
the other ones were
going to die soon.

Frightening.

Over time, the
analysts became
increasingly positive
to digital imaging.

The next mistake was to underestimate the
dynamics associated with a technological shift.

“In our opinion, Kodak has the potential to dominate
digital photography in the same way it has
dominated traditional photography.”
// CSFB, December 8, 1999

A Smith Barney analyst said in March, 1997:
“…we believe the penetration by digital
cameras of the installed base will be moderate
for the next 10 years.”

Wrong.
30
25
20
15
10
5
0
1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005
Number of film and digital cameras sold in the
United States (guess which one is digital!)

Somewhere around 1999-2000, many analyst’s
started to become aware of the revolution.
30
25
20
15
10
5
0
1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005

“Despite our more positive stance, we still hold that
longer-term fundamentals are shaky. Digital imaging
is and will continue to cannibalize Kodak’s highly
profitable film business…we do not believe that
profitability will match Kodak’s film business”
// Morgan Stanley, April 1999

"For Eastman Kodak to become a stronger
investment, it has to make a seamless
transition from its analog photography to
digital photography business…"
"I haven't seen it make a smooth transition yet,
but we have to take individual projects like
these today and group them into their whole
strategy before changing the forecast for the
company.”
Gary Schneider, analyst at Bear Stearns.

Schneider is right, but I guess the problem is that
technological shifts do not tend to be very smooth.

The analysts’ role becomes even more
questionable when they later on explain
Kodak’s decline by stating that the firm
overslept the technological shift.

“They were late to the game in
their shift to digital and they have
been playing catch-up since.”

They ignored all efforts related to digital
imaging up until the avalanche came into
motion, and when it happened some analyst’s
started to make comments like the one above.

… Who had actually overslept the shift?!

If Kodak had followed the analysts’ way of
reasoning, the company would have been
bankrupt around 2001 like Polaroid.

Hence, if you would
have given attention
to the opposite of
what they looked at
you would have been
much closer to a good
analysis (there are of
course exceptions).

Why?

We can’t exclude that
analysts are biased
and have their own
agenda (the good old
pump-and-dump
strategy).

Another possible explanation is the ’sheep
behaviour’ among people doing the same job.

But those
explanations
are not
sufficient.

I think this spectacular ignorance is related to the
way many financial analyst’s look at companies.

They discount cash flows, look at market shares,
profitability on different products and use
sophisticated data analysis…

… without reflecting about the fundamental
business that they are actually trying to understand.

If you juggle with numbers without thinking about
what the numbers represent you end up like the
analysts did in the Kodak case.

For stable and predictable businesses such a
static analysis usually works reasonably well.

But under turbulent conditions
you’d end up like this:

Film
=
Huge
profits and
market
dominance

Digital
Imaging
=
Uncertain,
low profits,
low volumes
at the given
time

=> Keep investing in
the film business and
wait with digital
imaging, would have
been the obvious
conclusion from this.

And financially speaking, all digital imaging
initiatives up until the 2000s only generated
insignificant revenues compared to film.

In the short term, it’s just a cost.
In the long term, it’s absolutely essential.

It wouldn’t be an overstatement to say that financial
analysts need to study and understand economic
history and the dynamics of capitalism.

Image attributions

Sources:
Benner, M.J. (2007). Securities analysts
and incumbent response to radical
technological change: The case of digital
technology in photography.
CNET News

Christian Sandström is a
PhD student at Chalmers
University of Technology in
Gothenburg, Sweden. He
writes and speaks about
disruptive innovation and
technological change.
www.christiansandstrom.org
christian.sandstrom@chalmers.se