IPO discussion: Oct. 31, 2003
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Consumer electronics discussion
GEOFF COLVIN: Is one of these new flat-screen TVs on your Christmas list this year? It's far more likely to be than ever before, as prices plummet -- and that's just one sign of a revolution in consumer electronics, with powerful new players jumping in, and famous big players, including Sony, Panasonic, and Samsung, getting pushed around like never before. What happens next will affect the products you own, where you buy them, and the value of your investments.
Stephen Baker covers consumer electronics for the NPD Group, a market research firm. Adam Lashinsky is a senior writer with FORTUNE and a longtime expert on the technology industry, joining us from Stanford, California.
Adam, I would have thought that Sony and Panasonic and Toshiba and so forth are fortresses in consumer electronics. How come everybody and his brother now wants to go up against them?
ADAM LASHINSKY: They are fortresses in consumer electronics. They built the business. They've dominated the business. But there have been a handful of changes in the industry, Geoff, which to boil them down have meant that the industry is becoming based on standard components rather than proprietary components. That and the fact that anyone can go to Taiwan and China to have a product not just manufactured inexpensively but designed inexpensively and quickly, means that everybody from Dell to Gateway to even Virgin, the airline and retailing company, are now getting into consumer electronics quickly, inexpensively, and with a lot of excitement, by the way.
COLVIN: Well, you've mentioned some of the companies, Gateway, Dell, Virgin, others, Hewlett-Packard, Cisco -- that was the real surprise to me. They make all this back-end Internet stuff. Motorola -- when was the last time there was a Motorola branded television?
LASHINSKY: Actually almost 30 years ago Motorola got out of the television business, and that's a perfect example of what's going on here. Because of the factors that I talked about, because of how easy it is to get into products like flat panel televisions, but other products like MP3 players or portable CD players, for example, Motorola sees an opportunity because it still has a name that is synonymous with very good, cutting-edge technology products to get into televisions.
Cisco has bought a company called Linksys. They're in the home networking equipment business. Cisco is in the networking equipment business. So they see an opportunity. It's a little puzzling why they want to be marketing to the consumer, and the sign that they're not even completely sure about that is that they're keeping Linksys as a separate subsidiary of Cisco for now.
COLVIN: Well, if you look at the top selling brands of televisions, you'll see first of all four of the familiar big names, but number five, Apex.
If you look at the best selling makers of DVDs, you'll see four big names, but the number two is Apex.
Stephen Baker, who the heck is Apex?
STEPHEN BAKER: Apex is a perfect example of all the things Adam has been talking about. They are actually a company that sources all their products from China and has been able to get into the U.S. with very aggressive pricing in a lot of aggressive categories, and looking to find the right distribution channels as well where they can sell these. They're a very big seller at Wal-Mart, Circuit City. They act as the entry level price point in a lot of places and they're able to really drive a lot of volume in those channels.
COLVIN: One company that is betting everything on a switch to consumer electronics is Gateway. It's selling fewer personal computers but far more flat panel TVs these days, including America's best-selling line of plasma screen TVs. It's a high-stakes change in strategy launched only last fall. Ted Waitt is Gateway's founder and CEO. He joins us from San Diego.
Mr. Waitt, last week you announced Gateway's third quarter results, revenues down, an increased loss. You're eliminating 1,800 jobs, and you said the fourth quarter will be worse than you previously expected. How can you tell investors that this new strategy is working?
TED WAITT: Well, I mean when we looked at our third quarter results, one thing to keep in mind, we went through a tremendous amount of transformation to change the supply chain, the logistics, the way we design, the way we develop products, and the way we deliver them to our stores and to customers. We've remodeled our stores. We went through a tremendous amount of restructuring to really build a platform for the future around this whole consumer electronics world. So actually we're pretty excited about the opportunities for our products in the fourth quarter. We've got a tremendously broad product line. By the end of the year, we'll have announced almost 100 new products in almost 20 brand new categories, everything from digital cameras to MP3 players to our best-selling plasma televisions, and we also have the ability to integrate them together with the PC. So actually we're pretty excited about the holiday season.
COLVIN: Unlike Sony and Samsung and some of the traditional big players in these fields, you don't actually manufacture television sets. Where do you get them?
WAITT: Well, we work closely with our suppliers, you know, a little bit different than some of the things that were said. It is not necessarily easy to do. We put a lot of quality control efforts in place. We have a tremendous number of people that work on our supply chain that deal with the logistics. Actually a lot of these products are made to our specifications. It's not as simple as just going shopping in Asia for the products. They're made from a variety of suppliers who have tremendously high quality standards as well as great design capabilities. Sometimes you just have to give them a little input from what customers really want into those products to really tie it all together.
COLVIN: Well, you're really touching on an important point, because as Adam and Stephen were describing, it sounded as if virtually any retailer who wanted to get into this could get into it, which leads someone to ask you, what's your competitive advantage?
WAITT: Well, it's not as easy as it might look on the surface. I mean we have spent years refining our supply chain model in the PC world. And one of the things to keep in mind is growing up in the PC environment, where you deal with very short product cycles, our inventory turns are extremely high. The efficiency that you have to build into that system and the high velocity that you build into that system is something that consumer electronics companies just aren't used to dealing with. So that really gives us an advantage in terms of our direct business model, going direct from the factory. We have our own stores. At the same time, we're being a real innovator in a lot of new categories.
COLVIN: You mentioned a couple of times the stores you've got. You've got something like 190 of them which you are remodeling. Or course that is a higher cost and slower sales channel than your traditional direct model online and over the phone. What's the rationale?
WAITT: Well, we still consider our stores being an extension of our direct model. Most of our customers, they go check out the products on the web. They might call us on the phone if they have a few questions. And then a lot of times they want to see them in the stores. Over 80 percent of these products are bought at retail or they want to be, you know, if somebody is going to buy a product like our T50 digital camera, they want to see it, they want to hold it, they want to see what it's like. If they're going to buy a $3,000 plasma television, they want to see the picture quality, and that's where the store is really an advantage and an extension of our direct business model.
COLVIN: Adam Lashinsky, what do you think? Can Gateway pull this off?
LASHINSKY: Well, in a sense, Gateway already has pulled it off, and Ted Waitt is being modest in that he and Gateway were ahead of the curve on these kinds of products. For better or worse, what Ted Waitt demonstrated by coming out with flat panel televisions more than a year ago was that Dell, which followed Gateway into the direct PC business and succeeded at it, could follow them into this business as well. And so now Dell is really dipping its two in the water with just a few flat panel televisions and an MP3 players, which they're selling almost exclusively directly over the net and the telephone. If Dell is successful in this narrow range of products, expect to see them offering a lot of the same things that Gateway has.
COLVIN: Well, and that's a very important point, too, Stephen Baker. We've seen Dell with consistently higher returns on capital than Gateway and essentially pushing them out of the PC business. What's to stop them from doing exactly the same thing in TVs?
BAKER: Well, nothing's to stop Dell from doing that to anybody, except Dell's ability to get in front of the consumers, get people to recognize that Dell has a brand and can sell these products to them. Dell's only been in the consumer PC business for a few years. They tend to take their time, look at their opportunities and gradually get into those. Plus I think Ted had made a great point when he talked about the different product cycles, different margins and different ways of going to market that the IT business has always had versus the traditional electronics business. And as we see companies like Gateway and Dell coming in, one of the ways that they're putting pressure on the entire electronics business is by trying to change the business model and changing it more towards what they're used to, which is fast product cycles, low margins, and quick turns.
COLVIN: We've talked a lot about efficiencies and channels and market turns and stuff like that, but there's another angle of this we have to think about. The computer companies, Dell, Gateway, Hewlett-Packard, Cisco, are used to selling productivity improvers, okay, computers, printers, things like that, not to selling relaxed, enjoyment products like televisions. When it comes to the marketing, connecting with the consumer, do they have the faintest idea how to do it?
BAKER: Oh, I think, for example, HP is the biggest consumer technology company around. They sell $20 billion to the consumer right now. They're the number one printer company. They have a huge opportunity there to drive that business by showing people how they can use the computer with their printer and their camera and a lot of other products and take advantage of that brand name and take advantage of how they're in front of the consumer all the time. The other companies, I think, again, Dell and Gateway, Linksys through Cisco, those are all companies that are in the piece of the PC market. We really need to think of the PC market as being different now. The reason people buy PCs isn't necessarily as much to get a PC, but it's to be able to access all the other things that we're doing with PCs, whether it's digital photography, whether it's burning a DVD, whether it's getting broadband access. All those things are driving people to buy computers.
COLVIN: And that seems to be a large part of Ted Waitt's strategy. Ted Waitt, let me ask you, who do you think of as your competitors? Sony and Samsung and so forth, or is it Best Buy, Circuit City and Wal-Mart?
WAITT: Well, yes is the answer to that. It's all of them. It is Sony, Samsung, Best Buy, etc. And I think there was an interesting point brought up, is that the PC relates to all of these products. You know, your digital photography ties into the PC, your MP3s are going to be stored on your PC, and pretty soon with products like Microsoft's Media Center, you'll also have all your television programs stored on the PC. So the integration of how all of these things work together, it's not just about the branded products, like Gateway has a full line of branded products, it's how well they work together in helping people get the most out of technology. That's a very important part of it as well.
COLVIN: Adam, I want to ask you, we don't have a lot of time, but I want to ask you what consumer electronics product are you buying for Christmas?
LASHINSKY: You know, I've joked that the article that I worked on in FORTUNE recently is going to be a very expensive story for me to have written. I want a new MP3 player, and I've got my eyes on some flat panel televisions as well. And you know, I'm like a lot of shoppers I interviewed. I'm not sure if I'm quite ready yet.
COLVIN: Stephen, I have to ask you the same thing.
BAKER: Oh, I'm in the market for a new television, not a new television, excuse me, a new PC to use all my digital photography and camcorder with.
COLVIN: Right. Let me ask both you guys another question. Thinking about the big picture here, the revolution that's really going on in consumer electronics, if you had to name a couple of big winners and big losers, who would they be? Adam first you.
LASHINSKY: The big winner will be the consumer because of everyone competing for them. The big loser, you know, without naming a name, I don't know if it's Sony or Sharp or Canon or Samsung, but some of the Japan-Korea access. And if it doesn't move quickly away from proprietary components, they'll be a loser in that group.
COLVIN: Stephen, who do you say?
BAKER: The first two that come to my mind are Best Buy and Wal-Mart.
COLVIN: As?
BAKER: As winners for sure. Those guys are able to deliver a lot of product to a lot of people at very aggressive prices, giving consumers a lot of advantages. If you look at specific companies, I would agree 100 percent with Adam, which is that there's a lot of issues in the Japan and Korea area and some of the losers are going to come from there.
COLVIN: Ted Waitt, what do you want for Christmas?
WAITT: What do I want for Christmas? A flat screen TV, a Gateway plasma, a Gateway digital camera. We've got some great products. We also have some great PC products as well, too.
COLVIN: Hey, I have to ask you, are you and your company safe from the wildfires?
WAITT: It was a pretty dicey week. Last weekend the flames came pretty much right across the street from our building and it was pretty scary. You know, the town was covered with smoke the first few days of this week, but now things are kind of starting to get back to normal. A lot of people lost their homes. It's been a very tough week out here in San Diego.
COLVIN: Thanks especially then for being with us, Ted Waitt. Also Stephen Baker and Adam Lashinsky, thanks so much.
Unusual economic indicators
We mentioned the economy's terrific performance last quarter, and that got us wondering, is it for real? Figuring conventional economic indicators just give you conventional wisdom, we looked elsewhere.
For example, the peanut butter indicator. When peanut butter sales go up, the economy's headed down. Sales this year are up, but only a little.
The cardboard box indicator. Box sales foreshadow the economy, and they're up. Good news.
And the lipstick indicator. For decades, strong sales have meant a weak economy. Bad news here. Sales are up.
KAREN GIBBS: How about this indicator? Mark Zandi of Economy.com knows the economy is in full bloom when he sees lots of flowers in hotel lobbies. He doesn't think everything is coming up roses quite yet. Another sign for Mark -- two morning newspapers delivered to your room door instead of just one. He's still waiting for The Financial Times.
IPO discussion
Another sign is a lot of companies deciding to go public. Back in the 1990s it was all about getting in on the new hot stock. Frenzied investors showering money on wacky dot-coms with no profits and a business strategy few could decipher.
That was then. This is now. Today the hot new IPO is a company everyone can understand: Carter’s.
Carter's has been making baby clothes for almost 140 years. Is that a sign initial public offerings now make sense for investors?
Bill Hambrecht is one of the godfathers of Silicon Valley who's now trying to reinvent the whole game. Ben Holmes joins us from Colorado, where he runs the IPO investment firm Protege funds.
Bill, you were behind some of the biggest IPOs of the era -- Apple and Netscape, just to name a couple. Tell me, have things changed? How is it different now?
BILL HAMBRECHT: There's been a tremendous meltdown in Silicon Valley. There have been very few IPOs over the last three years and the ones that have come out have been very conservative, understandable.
And I think we're starting to see a revival because the economy's turned up, there have been some very good companies that have survived the meltdown and are now coming out of the cycle. And I think you're going to see some very high quality IPOs come to the market now.
GIBBS: Credit Suisse First Boston, of course the investment banker Frank Quattrone, his trial shed light on how Wall Street firms gave deals to their favorite clients. Has anything changed with that?
HAMBRECHT: No, no, it's still, frankly, an insider's game, in that underwriters still essentially can price issues underneath the expected market level and they have the right to preferentially allocate to their best customers. So what you saw then, maybe not as pronounced, maybe not as big a bounce (now), but still the system is still pretty much the same.
GIBBS: What is it going to take, Bill, to get this thing to change?
HAMBRECHT: Well, we've been trying to change it with an auction. And an auction basically lets the market set the price and is open to anybody. There's no preferential allocation. And I think that's the only way you can change it.
But I think, in the long run, transparency and openness will be demanded in the market. Issuers are catching on. We did an auction today. We did one just a month ago. Things are, I think, moving in this direction.
GIBBS: Well Ben, looking at the heydays of the '90s, you saw an initial public offering and the first day pop was a whopping 64 percent. Now it's a less frothy market. It's only showing about 15 percent first day increase. What is that telling us about the IPO market?
HOLMES: If you need to put it in perspective and you need to put '99, 2000 into the perspective that that was an anomaly. What we're seeing today, the 10, 15 percent pops in very bland deals, what we would consider ordinary deals like Carter’s and so forth, that's normal. That's healthy, that's sustainable. It's the kind of market that's going to keep firms out of litigation, out of the claws of (New York Attorney General Eliot) Spitzer.
But again, it could happen again, it's only a matter of the next big thing.
GIBBS: There have been some successful IPOs this year, very few, but they have been successful. What's the common theme? Or is there a common theme?
HOLMES: The common theme is profitability. People (during the late ‘90s) got away from fundamentals, they got away from looking at balance sheets and they really were just looking for whatever their neighbor had as a new gadget or new toy. That's what they were buying in IPOs.
GIBBS: What's exciting, what's new coming to market?
HOLMES: Well, there's one this week, First Marblehead, it's on everybody's list. Everybody wants to own this thing. It's a deal. They do outsource servicing for the educational lending, equivalent to Sallie Mae, industry. Boring, boring, boring. But it's a smoking little company. People are standing in line fighting over each other to get shares. That's the kind of company that we see people getting excited over.
GIBBS: There's also been a big buzz about search engine Google coming public. We don't know when, we don't know how much, but there's still big talk about that. What are you hearing?
HOLMES: If they (Google) are listening – I hope they are -- file it. Bring the deal. People will buy that deal. Google's become the most ubiquitous property on the Web. It’s bigger than Yahoo, it's bigger than eBay. It's huge and if they bring that thing public, people will claw each others' backs to buy the shares.
GIBBS: Is there any correlation between all this buzz you hear about IPOs and then, of course, the success of the future of the company once it becomes public?
HAMBRECHT: Oh yes. I think the market is remarkably good at identifying really unusual good companies. And in many cases, they’re actually ahead of the underwriter and they're ahead of the analyst.
GIBBS: Should investors, individual investors jump in on the first day of initial public offerings or should they wait until the aftermarket?
HAMBRECHT: Well, I think you have to make a decision individually on each offering that's made. I think what you should really do is say, “Hey what companies do I want to own for one year, five years, 10 years?”
The really great returns come from identifying something very special early in the game, buying it and holding it. I think you should just make that decision independent of when you buy it, whether it's on the IPO or the aftermarket.
GIBBS: Ben, what’s your general outlook for the market?
HOLMES: Right now it all hinges on the economic recovery, and we had a great number this week, a great GDP number, and that I think is going to buoy a lot of people’s enthusiasm for stocks.
You can look around you. Look at your friends who are unemployed, look at people who own businesses and ask them. Talk to people you know and just get a sense of whether the economy truly is picking up. The stocks represent the value of the cost of things, and if you think that the economy is improving, those things are going to become more valuable, those goods and services.
HAMBRECHT: I agree with Ben. I think the economy is recovering, and we have the unique combination of a recovering economy and low interest rates, which generally mean good equity markets. For it to maintain itself, the economy is going to have to maintain its recovery and its improvement.
GIBBS: Alright. Ben Holmes, thank you very much for joining us. Bill Hambrecht, thank you very much for joining us.
Now, if you want to dip your toe into the IPO waters but are reluctant to go it alone, there's actually a mutual fund that invests exclusively in newly public companies.
The IPO Plus Fund is up more than 40 percent over the past year. But buyers beware -- despite the buy-and-hold strategy of this fund, it's still very volatile.
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