The past few weeks have been busier than usual for me because I just moved into a new apartment in San Francisco and had some furnishing to do. The most important item I needed -- in time for the NCAA basketball tournament, aka "March Madness" -- was a nice-sized high-definition flat-screen TV.
It's funny -- almost nine years ago to the day, I acted totally out of character and was an early adapter of new technology. I purchased a couple of plasma TVs for my new home for about $5,000-$6,000 a piece. I don't know what was I thinking, as I usually like to wait until the majority of consumers have adopted a product -- and prices are much lower.
Today, as a comparison, my new 40-inch LCD plasma cost around $800 and now plasma technology is clearly inferior to LCD and LED technology. Of course, even today, I paid more than I wanted to and chose one of the higher-rated models, but at least I didn't go for the very top-of-the-line LED technology, which would have cost 20-40% more.
This buying experience sparked a couple of interesting observations -- of course related to investing and making money.
Both Retailing and Consumer (Technology) Products Segments Can Be Tough Businesses
So I as started to shop around I realized that
Best Buy (BBY:NYSE) stores dominate San Francisco and I didn't have many options. Since Circuit City went bankrupt, it seems like Best Buy has a monopoly on electronics in certain regions.
Yes, there are some mom and pop stores still around to keep them honest, but it looks like stores like Wal-Mart are going to have to keep electronics and technology gadget prices competitive and keep Best Buy in check.
And, of course, with Best Buy's dominance (at least here in San Francisco), I wasn't surprised by its strong earnings report and outlook that recently came out. Actually, I was expecting a little higher forecast for 2010 same store sales; more than the 1-3% they gave. But I guess that's in line with GDP this year and it will compare to a strong rebound year in 2009. ("Same store sales" look at sales of existing stores and exclude sales contributions from newly opened stores or acquisitions. It gives a truer measure of a company's organic sales performance.)
It's just amazing how technology prices have come down. Whether it is TVs, computers or cameras, the price today is significantly less than just a few years ago. Even with a great industry position and highly valued products, Best Buy is in a tough business.
Pricing for almost all of their products declines quickly. So while consumers are starting to spend again, the average selling prices are declining. Case in point is that the crazy prices I paid for my flat-screen TVs have come down substantially today, while the technology has gotten significantly better. That will always be the case.
For technology-oriented retailers, it will always be a battle between selling new technology products that allow high prices, and the fast unit growth of these products versus their rapidly declining prices.
Keep that in mind when you think about investing in consumer technology and the companies that sell them. Finding the next "killer application" is one thing, but be careful investing in companies that have to constantly create new products, features or technologies to combat the decreasing prices of their products. Look for products where the growth rate or penetration (adoption) rate is growing rapidly enough to offset price declines.
"Non-Negotiable" vs. Non-Discretionary Products
Another important observation that came out of Best Buy earnings was a comment made by Best Buy CEO Brian Dunn, regarding discretionary items. He said:
"Staying connected has become a non-negotiable for millions of people... some of the things we offer no longer fall under the category of discretionary purchases."
I was intrigued by that comment. Was he exaggerating? Yes and no. Technically all of the items in a Best Buy store are discretionary items, which, according to Investopedia.com, are "non-essential" goods and services. We know you won't die if you don't have a TV or MP3 player or computer.
But beyond the technical definition, it gets blurry. What Dunn was trying to say is that some items in society have become essentials for the majority of the population.
Imagine (or recall if you're old enough) when the radio, television and telephone were first adopted. They were luxury items. For big events like sports or elections, people would go to their neighbor's house to either listen on the radio or watch the big news activity of the day.
Today, according to
Corning (GLW:NYSE), LCD TV penetration in North America will approach 90% this year. Folks like me (and probably you) can't live without a nice TV. So in my humble opinion, I'd call a lot of these items "near-essential" items. We won't die without them, but our lives would be significantly affected (for me, especially during March Madness and football season).
The same applies for cell phones. With children (and the elderly to a lesser extent), the safety "value" of cell phones for parents makes them even more "essential" and perhaps non-discretionary. And of course for business whether you're an entrepreneur or traveling salesperson, the cell phone is pretty much mandatory, or non-discretionary, if you want your business to "live."
Even in places like India, where the average annual income is under $1,700, flat-panel display TVs have been growing at 80-100% and only 50% of the population owns TVs.
Specifically regarding cell phones, the global facts concur that "staying connected" is essential and maybe non-negotiable. Cell phone penetration exceeds 100% in some European countries -- including Italy, the United Kingdom, Norway and Sweden. (Greater than 100% penetration means the number of cell phone accounts are greater than the number of people -- not that every person will have a cell phone. Some people will have more than one cell phone.)
In the United States, cell phone penetration is over 90%, with 100% penetration expected by 2013. And penetration will continue to rise above the general population count.
But smartphones, which allow Web access, text messaging and camera functions, are only at 17% penetration in the U.S. compared to the global leader Italy at 28%. So there is a lot of growth for these phones.
In emerging markets, landline telephony and the more expensive infrastructure required to install them are being skipped. Cell phones are the prime and sole means of communications for most consumers in developing countries like Africa, India and China. The growth is impressive. In Africa, the number of mobile telephone lines grew at 54% compound annual growth rate from 15.6 million in 2000 to 135 million in 2005, compared with a 24% growth rate globally!
How to Play the "Non-Negotiables"
For the most part, I would look abroad for ways to invest in this global technological adoption process regarding cell phones and flat panel TVs. Mobile phone operators in emerging markets have generally been great stocks, but with a little patience, I'm sure there will be an opportunity to buy the key phone and equipment providers in fast-growing regions like Asia, Africa and Latin America.
Regarding U.S. companies, there is Corning. Corning has a 75% global market share in LCD glass displays for TVs, monitors and computers. They are expanding in emerging markets to take advantage of the rapid growth I have been talking about. Actually, my comrade Michael Robinson, who is the editor of Taipan's
American Wealth Underground, has Corning in the portfolio and is bullish on its global position and leading technological advantage.
Of course, you could look at U.S. retailers too, as at certain times these familiar stocks can be great investments. While the issue with declining prices is always a concern, we can look around us and see that consumers are viewing laptops, flat screens and MP3 players as "non-negotiables." Then Best Buy does become an interesting idea. It's not expensive (roughly 14 times 2010 earnings) if you believe its guidance of 10% to 14% earnings per share growth for 2010 and its growth in international markets like China will continue to pay long-term dividends.
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Serving as the editor of Taipan’s Safe Haven Investor, and contributing editor to the free e-letter, Taipan Daily, Kent Lucas has over 20 years of financial and business experience centered around seven years as a research analyst and portfolio manager for a leading investment management firm. In that capacity, he actively managed $1 billion worth of equity assets, with particular attention to multi-industrial companies along with auto, construction and farm equipment-related companies.
In addition to his professional asset management experience, Kent also has worked in leading financial institutions’ divisions including Tax-exempt Derivatives, Corporate Trust and Equities Sales and Trading. With a BA in Economics from Harvard University and MBA from Stanford University, Kent brings a fundamentally driven, value-oriented approach going against the crowd to find solid companies at attractive prices.
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