Quick Thoughts: The Wintels of the Cloud Era

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–          In retrospect, the right TMT investments between 1980 and 2005 were in PCs, networks, cell phones, and cable TV, with Microsoft and Intel alone generating $425B in shareholder value.

–          Meanwhile, most leaders in earlier paradigms continued to rally until roughly a decade into the PC era, when most suffered and many failed to survive.

–          The top TMT performers since 2006 are a mix of new paradigm leaders, like Apple, Google, Qualcomm, and Salesforce.com, and PC era stalwarts, like IBM, Oracle, Comcast and EMC.

–          If history repeats, and it often does, companies rooted in the old paradigms may begin showing serious cracks in the next couple of years, while the cloud era stocks accelerate.

 

Every 25 years or so, the TMT sector seems to undergo a phoenix-like regeneration.  The early ‘50’s saw the first practical commercial computers, the rise of broadcast television, and the wide spread implementation of automatic telephone switching.  The subsequent era of corporate mainframes, rooftop TV aerials, and touchtone phones remained the dominant technology paradigm through the ‘60’s and ‘70’s.  Then, in 1982, the first IBM PC hit the market, followed in close order by the first brick-sized cell phones, the final DoJ consent decree breaking up AT&T and the passage of the Cable Act of 1984, which unleashed the fledgling cable operators from restrictions that had previously limited them to just 3 out-of-market channels.  This time, the subsequent era culminated in a networked PC on every desktop, a cell phone in every pocket and 3 muti-channel TVs in every household.  For want of a more inclusive term, I’ll call this the PC era.  However, this too shall pass.

The iPhone was introduced to the world on January 9, 2007 and available for sale on June 29th, ushering in a new world of easy internet connectivity in your pocket and “apps” as functions specific shortcuts for getting there.  The first Android devices, built by HTC, hit the market 16 months later.  Verizon launched its network upgrade to EV-DO Rev A, which raised typical user download speeds beyond the megabit per second threshold on June 30th, with AT&T following with its HSPA+ upgrade two years later.  Verizon’s 4G LTE service, offering better than 10Mbps, launched in 2010.  Streaming video leader YouTube officially launched in November 2005, and was acquired by Google less than a year later.  Netflix followed with its “Watch Instantly” streaming service in 2007, with Hulu launching its service in 2008.  Salesforce.com had come public in 2004, the first software-as-a-service player to gain a real foothold.  Google Docs was released as a Beta in 2006 and released officially in 2009, followed by Microsoft’s cloud-based Office 365 in 2011.  Finally, the first iPad hit the market in June 2010, with the first tablet optimized version of Android showing up about a year later.  This flurry of product innovations, coupled with an unseen revolution in data center design led by Google (SEE LINK), puts us in the midst of the next self-immolation of the TMT industry phoenix, as the cloud era takes shape.

For investors, the remaking of the sector has dramatic consequences.  Between 1980 and 2005, the right investment strategy bought into the leaders in the defining themes of the era, like Microsoft, Intel, Cisco, IBM, Qualcomm, Dell and Comcast (Exhibit 1). Over the 25 year period, the top 20 TMT value creators added a collective $1.6 trillion to their market capitalization, rewarding shareholders that had thematic bets on the paradigm shift.  Meanwhile, a roster of leaders from the previous era – Wang Labs, Data General, Amdahl, Cray, Sperry, Burroughs, Polaroid, Kodak, Xerox, et al. – appeared to thrive for as long as a decade before falling victim to the changing times.  Digital Equipment, the poster child for the demise of the minicomputer, rose to a market cap of nearly $27B in 1987 as the 10th largest US company, before dropping off of the table, eventually agreeing to a $9.6B purchase by Compaq a decade later, a paltry sum in the midst of the late ‘90’s tech bubble (Exhibit 2).  The two obvious exceptions were IBM and Hewlett Packard, which were able to navigate a transition from mainframes and minis to leadership in the PC market, and $170 billion in market cap growth through 2005.

So who are the Microsofts, IBMs and DECs of 2012?  Arbitrarily starting the clock at the beginning of 2006, a year before the iPhone was announced, but after the launch of YouTube, the top 20 TMT market cap gainers have added over a $1 trillion in shareholder value, led by Apple’s astounding $477B appreciation (Exhibit 3).  Given that Apple teetered on the edge of bankruptcy in the late ‘90’s, and that its contribution to the tectonic plate shift that is underway is second to none, I am inclined to place it at the top of the companies that are disrupting the status quo.  Beyond Apple, Google, Amazon, Salesforce.com and ARM stand out as innovators positioned to continue their strong record of value creation.

Of the companies that led the charge during the last paradigm, Microsoft has taken the boldest steps to reorient itself to the realities of the new era.  I’m optimistic that the drastic surgery on Windows to refit it to the portable platform age will be successful, and view it as a likely candidate to make the winners list when the recap of the cloud. Qualcomm may be better positioned for the cloud era than it had been for the PC era, as its chips are finding their way into a much broader array of devices than the simple cell phones that were its bread and butter pre-2005.  IBM may, in fact be positioned to be the next IBM as its prescient decision to dump its PC business on Lenovo at a relative peak in 2004 while emphasizing consulting and building cloud services gives it one foot in the new paradigm even if the other is still mired in the old one.

Meanwhile, stocks like Intel, HP, Time Warner, Oracle, Dell, Cisco, Comcast, EMC, and SAP look increasingly like anachronisms, defending the old ways against the scourge of the new, announcing half-way alternatives like modern day Digital Equipment Corporations.  Taken in with a short lens, product strategies like Intel’s mobile processors, HP, Dell, Cisco and EMC’s enterprise data center focus, Time Warner and Comcast’s TV Everywhere initiative, or Dell and SAPs shared tenant cloud services, seem reasonable approaches to protecting long-established market positions.  Against a longer view of comprehensive paradigm change, they take the cast of defensive tactics that may delay the inevitable, but at the considerable cost of wasting precious time.  Time will show whether these erstwhile leaders can adapt, or whether they will suffer the ignominious legacy of bankruptcies and take-unders that swamped their predecessors.  If history is a guide, it may not take long.

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