Monday, 29 September 2014

A not so #disruptive lunch? Disintermediation, integration and maintaining a cadre of thinkers in a changing world.

Sometimes a disruption comes in different forms and a lot of times as I've said previously it can take the form of a slight tweak on conventional thinking. Thursday's disruptive lunch at BBY (twitter: @BBYltd) in Sydney was rather dichotomous in that it presented us with a truly radical disruption in the form of a Bitcoin pioneer and an old world firm that was looking to transform itself by acquiring disruption by acquisition.

When Ted Pretty stepped up to the podium at last Thursdays Disruptive Lunch at BBY, he looked like anything but a disruptive force in Australian business. In fact, Mr. Pretty looked like your favourite uncle taking a break from tinkering with machinery in the garden shed just long enough to lecture you on some esoteric subject. Instead of 30mins on the virtues of a good torque wrench and lawn mower maintenance we got an insider look at the reshaping of Hills Ltd. (ASX: HIL).

For my non-Australian readers Hills came to prominence in Australia on the back of the post-war housing boom with its ubiquitous Hills Hoist clothes line. Every house seemed to have one and this enabled Hills to prosper and grow into a conglomerate centred around various products that leveraged   the metal fabrication core that drove the company. Today Hills is a much different beast and Mr. Pretty went through his management team's current thought process:
  • Economic numbers in Australia are of concern and likely to point to a downturn in the next 18months. Given this the challenge for Hills is to decide whether to buy bolt-on businesses now or wait for the economic cycle to reduce the entry cost of such acquisitions
  • Focus on security and health as these sectors are growing at 6 - 8%  per annum. The investment case is compelling with the demographics of an ageing society being the main driver. Security leverages similar metrics with some extra twists (see below)
  • On the "hardware" side margin compression remains the one constant. Race to the bottom requires a shift to value-add via back-end software enhancements and a move into smart overlays to connect the on the ground sensors
  • Security is the ultimate disruption concern for the world. This divides up into the now well-documented areas of terror, global crime, social behaviour and economic terror 
  • The challenge for Hills is to leverage their existing "foot in the door" and increase the revolving revenue stream possibilities
  • The business is already in a better position to track product trajectory by knowing more than what and when they sold a product, but also to know where in the cycle their customers are and therefore offer appropriate upgrades and replacements
The central logic of all this seems hard to argue with within the Australian context. It helps to know that Mr. Pretty spent a significant period at Telstra Australia during the transformative 1997 - 2005, so has the advantage of being involved in a business that had to change from hardware to software if it was going to grow. At the moment I got the sense that Hills is still struggling to lift what I'll call "add-on" revenues, though I haven't dug into the numbers and the full scope of the businesses they've been buying. If I understood correctly (and I'm happy to get feedback on this) "services" revenue is at about 10%. While Mr. Pretty didn't give us a target number on where he wants this portion of revenue to go I got the sense his ultimate goal with Hills is to turn the business into a consultancy of sorts. Looking at my notes, I wrote down: Does Ted Pretty want to be Louis Gerstner? Of course, Gerstner is famously credited with saving IBM by turning it into a consultancy based business during his period as CEO. Given that Pretty was at Telstra when Gerstner took an axe to IBM the chances are he's well-versed with the play book. The trouble is its an easy strategy to understand, but a hard one to pull off as it relies on buying the right businesses at the right time and cutting old product lines to finance the transformation. IBM got rid of the PC business to Lenovo because of margin compression, Hills probably still has a few businesses that could go out the door in a similar fashion. Ted Pretty and the team have some challenges and look determined to execute. I have no view on the stock price, but I like the idea as an investor that Hills is of a size that makes it easier to monitor the various acquisitions, divestments and the effect on the balance sheet. Think about it this way, if Google buys a $5bn business it's a bit like throwing a stone in the ocean, the effect is minimal and hard to see. If Hills buys a $10m business, it's likely to have an effect that is far more observable.

Zhenya Tsvetnenko is the Executive Chairman of Digital CC Ltd (ASX: DCC) which styles itself as a Bitcoin-centric business offering various services to companies and individuals who want to participate in the Bitcoin currency. I think this was one of those rare occasions at events such as this where I gave up taking notes as I struggled to get my head around the Bitcoin world. Essentially I'm still running to catch-up with the likes of Mr. Tsvetnenko, but here's where I am.

Bitcoin is a digital currency invented (if that's the right word) to dis-intermediate various financial institutions from transactions involving two parties. Consider this; you contract to buy a product from a producer, but in order to complete the contract you pay a fee to at least one other third party to facilitate the movement of the agreed consideration between the two of you. That fee may be in the form of the banking charges on your accounts, a credit card fee or some other charge added by a wire transfer service. The value-add by these groups is minimal to the contract itself and therefore in the world of Bitcoin is a cost that could be reduced at a minimum, or better still eliminated. To accomplish this the inventor(s) created a cryptographic protocol that essentially awards Bitcoins to those working to administer the system. This is called mining. The protocol throws off about 25 Bitcoins per hour and is bounded by an upper limit of 21m Bitcoins. Now this is where it gets fuzzy for me because I think as Bitcoins are produced is gets harder to solve the encryption and it costs more and more to be a successful miner because the amount of computing power you need to participate expands continuously. It's kind of like an arms race. In the meantime part of the mining process is the administration of the public ledger. Every Bitcoin transaction is available on the ledger. That means you can trace the exact owner of each bit coin (or fraction thereof). Having said that, the transactions themselves are anonymous, so prima facie you can see where central banks and governments might have a problem with this. The upside, of course, is complete control of the money supply making it inflation proof (given the upper boundary), because unlike fiat currencies issued by Fed, ECB, BoE, etc. Bitcoins can't be produced ad infinitum. For mine, it's like being back on the gold standard when it was at its strictest.

Readers of this blog will know my concerns regarding the current fashion for QE amongst central bankers, and this is in essence what Bitcoin is trying to solve. Bitcoin in a way is the ultimate answer  to an ageing world where the biggest risk the individual has is that he or she wakes up one morning to find the cash they have in their bank accounts is worth progressively less. It's not as though we haven't seen this phenomenon before. It's only a few years back that Zimbabwe's central bank decided to keep the printing presses rolling until the currency was worthless. For me, Bitcoin is the synthesis of all my own and many other investors most neurotic concerns about the global monetary system. That doesn't make it a bad thing, rather it shows once again that man is extremely adaptable to his environment when challenged by even the most disruptive events. The key is hopping on at the right time.

When Zhenya Tsvetnenko finished his presentation, I looked over at Ted Pretty to see his reaction. I think like me he was still trying to take it in. I know at least one of his team was there and is very pro Bitcoin, so I'll guess he had the basics already, but answers, well that might be a bit more difficult. It's hard when you've got a business and business plan that you see as transformative to consider that there's even bigger forces at play that might even scupper your best ideas before the ink is dry on the contract to complete a transaction. It's happened to me, and I'm betting it's happened to most of my readers. Buying a copy of "Bitcoins for Dummies" probably isn't going to be enough given the various vectors that could influence the course your investments might take. You can't get a bigger brain overnight, but as always you can choose to confront the change rather than ignore it.

Generally CEO's have a pretty high opinion of themselves. Why shouldn't they, especially where the profits and growth match the hype? I saw this on my twitter feed over the weekend, and I responded as follows:

It seems somewhat nonsensical to worry about future growth when your most successful tactic has been to cut deepest fastest since the crisis. I've always been a fanboy of Caterpillar, a company who responded swiftly and effectively to the downturn, but even they reached the limit of what's possible under this plan. Consider this, if your company is being driven by a top-down strategy of "shrink to grow" should you be surprised when those executing the shrink part have lost the ability to respond when and if the J-curve comes?

The surprising thing to me is how often I've heard that whole departments at banks no longer exist, mainly because they're deemed as unprofitable because of the volume or regulatory capital required to operate them. It reminds me of armies post-WW1. The defence establishments caught most on the back foot by 1939 were those that essentially eliminated their cadre of further leaders. I'm already seeing the first signs that the investment banking world is fighting back against its own establishment. Take last week I had several meetings and teleconferences with individuals displaced from financial institutions looking at a way of reconstructing business lines at a lower cost. I wasn't surprised to hear that in my favourite financial sector of Peer-to-Peer lending that investment bank Jefferies had successfully securitised part of a company's loan book. It seems funny, but also logical to me that even though P2P was supposed to dis-intermediate banks that what it may have, in fact, created was an opening for the potential losers to become winners again. I don't know the securitisation team at Jefferies, who did this deal, but I'm sure that they understand the lifeline that they've been thrown. Recently I looked at a similar type of use for the loan book cash flows of a P2P lender and came to the conclusion, that someone would have to step-in to scale the returns to facilitate the growth of the business.

Finally, I've spent a lot of time in the last week considering the CalPers decision to axe hedge funds from its portfolio. On the face of it, I bet whoever it was at CalPers who finally pulled the plug would say it was the easiest decision they ever made. That to me seems very short term thinking and is designed to hide their own underperformance. Consider the current environment. We have ultra-low volatility in nearly any market you care to contemplate. Add to that a huge limitless put option sold by central banks via QE. How then does a hedge fund manager differentiate him or herself and produce alpha?

It's interesting to consider the correlation between HF performance and volatility. On one hand volatility is often seen as a "dilutor" of performance while on the other hand it opens up the ability for funds to express themselves through situational developments. If an index such as the S&P 500 experienced mild volatility (+/- 1% per day) for an extended period I would bet on Alpha returning. Therefore if like me you're watching as the Fed and the BoE turn from doves to hawks you'll no doubt be considering the return of volatility, and the likelihood for renewed differentiation amongst investment alternatives.

As to the question of HF fees, it seems that funds will need to adapt to the new environment by openly auctioning their capacity to investors. They should drive fees  and salaries down, but produce more efficient and sustainable winners.

CalPers may have surrendered to the "shrink to grow" strategy at the very moment the cycle was turning and in doing so may have released the cadre of professionals they'll most likely need in the coming years. Those let go will be free to create their businesses that will ultimately disrupt the behemoths that once were their employers. I think Mao may have put it best in considering his own problems running a nation as vast and complex as China:

Letting a hundred flowers blossom and a hundred schools of thought contend is the policy for promoting the progress of the arts and the sciences and a flourishing socialist culture in our land. Different forms and styles in art should develop freely and different schools in science should contend freely. We think that it is harmful to the growth of art and science if administrative measures are used to impose one particular style of art or school of thought and to ban another. Questions of right and wrong in the arts and sciences should be settled through free discussion in artistic and scientific circles and through practical work in these fields. They should not be settled in summary fashion. 
(On the Correct Handling of Contradictions Among the People, February 27, 1957)


Monday, 15 September 2014

Another disruptive lunch: @BBYltd @lawpath @gocatch @safesitetech and Soliton Music

Last weeks latest edition of the BBY Disruptive Lunch series had me pondering the following question:

Exactly how radical does a business plan have to be in order to be seen as disruptive?

For some reason investors I've spoken to somehow regard disruptive businesses as being inherently revolutionary, but that's not always the case. Sure, a business can come along with a completely new technology that challenges the way a service or product is delivered, produced, maintained, enhanced or challenged, but more often than not it's a incremental shift in thinking that can be successfully disruptive. In fact it's probably the biggest, most traditional industries that find it hardest to defend themselves in the face of the smallest shifts. The reason for this is often the mindset that says . . .  "its worked like this for many years and is providing a stable and even growing return for our investors. This is something we've seen coming and we feel we can adequately deal with it." The companies that I was lucky enough to see presenting at BBY last Thursday are in my way of thinking representative of small shifts with larger consequences, rather than radical challenges in themselves. For investors that can mean a safer, more easily understood investment case, but also one likely to, if rightly combated by the entrenched leaders more easily repelled if directly challenged while still in their infancy.

Safe Site ( CEO Peter Grant presented his work site safety app that was easy to understand and immediately accessible to anyone who's ever picked up a smart phone type device. In fact if like me you've used the "Snap, Send, Solve" app to report anything from dumped garbage to fallen trees to your local council you'll immediately understand the simplicity and flexibility of the Safe Site offering.

For those new to this type of workflow manager it works by identifying a problem and automating the reporting process. Take for instance an exposed cable on a building site. On a huge construction site it's obviously not enough to start wrapping electrical tape around it etc., the fault is a) likely to be far more dangerous in an industrial setting, b) perhaps emblematic of a larger fault in systems of construction, supply or manufacture, or c) applicable across multiple worksites in terms of solution. All of this requires a complicated and somewhat time consuming production of documents and reports. Safe Site simply streamlines this process and automatically produces these reports at first contact and ensures their delivery to appropriate managers, services and regulators in a timely, logical and traceable manner. Furthermore it allows for the systemised collation of safety data useable by everyone from practitioners, insurers and I predict investors in a project so as to best provide a safe and minimally disruptive worksite.

Safe Site as a business is at it's core a subscription based service charging on a per user basis, though single tradesmen can use it for free. It currently is already being trialled in Australia and impressively in my view the US where it is already in use in California. My only question given my own use of Snap, Send Solve was just how do they propose to protect their idea from like minded disruptors or current stakeholders (surely a smart Union could do this)? Well Peter is very logical in his defence and clearly emphasises his own engineering background and the experience of members of his advisory board. For mine there's still somewhat of a "land-grab"element inherent in the business plan. The company is taking a softly-softly approach with the construction unions and trying to work both the top-down and bottom-up line. There's no guarantee of success, but I know that with the current Royal Commission into Unions and various investigations into the construction industry in Australia there is at least some fertile ground and first mover advantage for the team. The fine balancing act that Safe Site will have to execute is not simple, but is at least understandable and investors and practitioners alike gravitate to industry wide standards in this field and therefore should keep a close eye on the adoption rate of the app.

I use "App Annie" ( to track app download charts and stats. The site has various tools for estimating metrics associated with an app. It's not free to get the higher end stats, but  it does provide a basis for understanding the iOS and Android marketplace. Note this down.

There was at least one existing investor in GoCatch ( in the boardroom on Thursday. I had been told about this Taxi booking app a few times over the last 6 months, but hadn't got around to taking a close look at it due to the fact that I rarely catch taxis anymore thanks to my trusty bikes and my proximately to reliable public transport.

GoCatch caught me (pardon the pun) in a about 3 minutes of CEO Ned Moorfield taking the microphone. For international readers of the blog who are early adopters of Uber you'll need to understand that regulators and users of regulated car services in some countries have been less than enthused about the laissez faire nature of Uber. In Paris and Berlin the existing industry has fought back fiercely against the private market place by playing heavily on safety concerns and reliability issues. GoCatch is that safe halfway house for users and drivers in that it challenges not the notion of regulated taxis per see, but rather the entrenched infrastructure associated with them.

The disruptive nature of the company, here in Australia at least is a challenge to the cost structure and service delivered by dominant credit service Cabcharge. Right now drivers pay a commission to cab charge and users of taxis also pay a premium to use the service. Right now the charge is about 11%. Go Catch brings that down to 5% and nets out about 1.5% of the journey charge. They get a commission from drivers as well because they in effect skirt around the existing Co-ops and their booking service which charges drives a regular fee no matter how reliant they are on the service itself. In fact drivers by regulation have had to be associated with such a Co-op, but this is changing and the State of Victoria is introducing legislation that allows drivers to be 100% independent, yet regulated and therefore they can adopt the user pays model that GoCatch essentially is.  So far they've got 4,000 drivers using the service and in August managed 45,000 trips in the months and are on track for 800,000 in their 2014 year. Current average fare per journey is $29. They predict this to ramp up to 2 million in 2015 and 4 million in 2016. This will still only represent 1 to 2% of all journeys in Australia, so they would say they're being very conservative.

Whats in it for passengers? Well first up the system instantly gives you a map with all GoCatch taxis in your vicinity, it even gives you idea on how busy they are. You book by entering your location and I believe a responding driver can see you on their app and accept the business as they see fit. You link your account to a credit card or Paypal and you can add a tip and even rate a driver at the end of your journey. For business users the app allows you to collate your expenses without the usual paper receipts that really are the bane of business travellers . . . I really don't know how many times I've lost a little piece of paper for a $50 cab fare to the airport and have been told by a company accountant "too bad". I asked two taxis drivers on the day of the presentation that I had caught the old fashioned way whether they'd heard of or currently use GoCatch? The first driver said he's heard of it and the owner of his taxi was going to get it. The other driver just said "why would I want that?" I went through the cost structure and got his interest, but I think he thought I was going to try and pay him with Bitcoin or some other exotic method. I told both drivers about the Victorian legislation change and how NSW was likely to adopt the same policy and the fact they weren't going to be locked into a network with its cost. GoCatch was for them a viable alternative and it got them both listening to different degrees. I'm positive that the deregulation of the Co-ops and some further direct marketing to the drivers will pay dividends for GoCatch. The fact that GoCatch is offering benefits to both the drivers and the passengers seem to me a big advantage and investors only then have to assess whether the existing players are determined enough to fight back on both cost and ease of use. Current evidence is that GoCatch may succeed in establish a bridgehead that can at least be fortified and defended in the short term.

Law Path ( to me was a bit of a cut and paste of US success story Legal Zoom. I'm sorry if that's somewhat dismissive of the effort going into the company, especially given the advisory board has on it a member from the Legal Zoom team. Basically Law Path offers quick and cheap access to standard legal documents that you might require in setting-up and maintaining SME's of various varieties.

Obviously that encompasses the usual partnership agreements and company formations. The key to Law Path is building a supporting network of lawyers who are willing and able to act as the second level support for documentation that needs to be customised to the client.  This also means that they can also act as referral system for what they say is an over-supplied market place. CEO Damien Andreasen is not a lawyer himself and is more like you typical serial entrepreneur. That's not a bad thing if you're trying to disrupt an industry that has a pretty big wall around built around it both in terms of jargon and licensing. He says they have 510 lawyers have already signed up, but because of time I never got a chance to ask him whether that meant 510 individuals or firms?

Law Path is both subscriber (the lawyers) and obviously user (the client pays). I didn't catch the charges for practitioners. The scalability is also something I'm wondering about, as is the size of the Australian market and its entrepreneurial impetus. As an investor I like the story, but wonder if I wouldn't be better placed if I invested in Law Path UK or Law Path Germany. The positives are that the team Law Path has assembled seems to have enough debt and they have some first mover advantages and there's margin and excess capacity. Is that enough? We will see.

Just as an aside wouldn't it be great as an investor if you could see the usage stats for Law Path or in the US, for Legal Zoom. The correlation to economic activity in the economy must be very strong. I know you could just track the financials, but that in itself might tell the whole story.

Finally I got my second chance  to here from the team at Soliton Music ( I was luck enough to have a one on one with them back in June and wrote up a business summary for an investor I thought might be interested. I said at the time I wasn't really "Mr. Entertainment Industry" so needed to take a crash course in their space.

Soliton Music is an Asia Centric business currently centered on music streaming in Hong Kong, they have the rights to 1.7m+ songs currently. These are delivered via partnerships with various HK telcos. They have approximately 20,000 subscribers. The company intends to reposition itself towards live streaming of concert and associated events for which it will charge a variable fee. Delivery is via web / app. The current app will be replaced around the time of the company going public. At this time they will seek to port across their Telco based subscribers to form the core of the new customer base.
The company aims to list on the Australian Stock Exchange in November.

Soliton’s plan is highly dependent on acquiring the rights to concerts and live events. The intention is to do this via the acquisition of individual promoters. They say that typically these promoters have a 12 – 18 month stream of events in their books and can be acquired for USD 1- 2m per promoter. None of the management team to my knowledge have ever executed the buy out of such an agency and as such are by their own acknowledgement dependent on their biggest non-executive shareholder to be mentor in the targeting process of said promoters. After the acquisition of a promoter Soliton will acquire the rights to the concert books and associated live broadcast rights. Promoters usually take 10 – 15% of the gross. Soliton says they can offset between 30 – 60% of an event’s cost by co-producing with record labels. Soliton’s main value-add will be the on-sale of the events via live streaming for up to USD 10 per event. This amount will vary widely depending on the artist involved. It may also vary depending on whether the subscriber decides to accept advertisements during the show, though this feature will not be active during the building of critical mass. It is envisaged that associated events will be added to various concerts such as “meet the artist” broadcasts where the performer will share pre-concert talks and fan “greets” via streaming. These will attract a fee. Other opportunities will include direct merchandising involved with the event.

Any investor will ultimately have to be convinced that the management team is capable of building a larger database of subscribers in a limited time period. It would be comforting to see an example of a recent transaction where a promoter had sold out to a larger entertainment entity in Hong Kong. Perhaps I'm too old and vanilla for this one, but for the hipper, more Asia aware it's probably worth investigating the segment further.


Thursday, 11 September 2014

Scotland, Branding and the unbearable pressure of details

I'm all-in for Scottish independence. I've always thought that Scotland was up for something a little more "socialist" than the UK elections have ever tossed up. Essentially the country wants to go down the road of a massive increase in public sector employment. The problem with this is that unless income increases to support this rebalancing of their economy they'll leave themselves exposed to greater volatility. And thats where I come in. We're already seeing a big increase in the volatility of Sterling which recently fell 5% as the poll numbers became more obvious and looks to be in my view more an opportunity than a trap.

Currency volatility almost inevitably leads to equity market volatility . . .you just can't have the basic pricing unit of your economy "winging around" and not see it flow through into all asset classes. The This is the value trap for investors, because it infects the basic valuation of your investments by virtue of the relationship defined by the sharpe ratio:

The steadiness of the stock market has "bored" investors into believing that they have a better Sharpe ratio than history might otherwise indicate. As such a change in the denominator will come as a shock that should open opportunities.

The UK economy has generally been growing and readers of this blog know that I was a published bull on the economy there as far back as 2012. In fact I had suggested to several Australian investors that they should have taken advantage of the AUD's over-valuation against Sterling in early 2013 to switch into hard assets in the SE of England. In the last six months I've suggested investors should have been switching into Southern European exposures as it was likely that monetary policy in the EU would favour these countries for extended period. Now with Scotland causing consternation amongst UK investors this blog sees further weakness as a buying opportunity. If anything I'd expect London's financial industry to have a field day in the face of asset trading in the any post "Yes" vote and at least a bounce in the face pot a "No" vote.  Whatever the case I'd expect an increase in volatility for all UK assets and trading opportunities beyond what we've seen in the past year. Look for the BoE to delay a rate rise in the face of volatility even though we know from recent minutes of the MPC that some see inflation starting to build.

Scotland has a few brands going for it that if fostered correctly should remain the core of their economy for years to come. I know whiskey and smoke salmon seem somewhat at odds with the high-tech 21st century, but as we've seen luxury can be leveraged. Australia on the other hand doesn't really have a lot of iconic brands. France, Italy are the leaders in luxury, but even the US has their own versions. Whatever the reason the brands that do have significant profile here as being Australian classics (think Qantas or R.M.Williams) have all at times been through the proverbial wringer of neglect and mismanagement. When local conglomerate Pacific Brands announced it's intention to sell local "workwear" staples King Gee and  Hard Yakka it got me thinking about the nature of branding and the value or lack there of that this notion brings to the value of a company.

The trend in recent years has been to revive, streaming and build brands. The chief proponents in rebranding have been as diverse as LVHM, Richemont, IBM and Apple. Even a mining giant like BHP is doing it after it announced that it was refocusing away from minerals and into energy. It would seem to this blogger that the most successful companies in executing this type of restructuring usually have the following characteristics:

Strong visionary leadership:

Bernard Arnault and Steve Jobs superficially at least would seem to have little in common when it comes to running businesses, but look a little deeper and you'll see similarities. In my mind the most common of these is having an eye for design and an understanding of how this one concept produces value for the consumer and the producer of a product.

When Arnault bought the bankrupt owner of fashion house Christian Dior in the mid-80's he started a chain of events that would lead to formation of uber-luxury group LVMH. The pattern was simple; strip out the low end value eroding product lines and limit expenses on the "highest-end", but media attention grabbing area of haut couture. Then focus on cash generating products that leveraged the core values and name of the company without denigrating the ultimately aspirational and margin enhancing aspect that is the concept of "luxury". He launched the perfume Poison, which although it smelt like bug repellent to me somehow was modern and different enough in itself to relaunch the Dior brand as something for the modern consumer and not just the maker of dresses for an older set of clientele. Arnault, like Gucci bought the brand back under control and stopped licensing out its name for cheap and nasty low end products. When he gained control of Louis Vuitton he adopted a similar strategy only this time recognising that the strength of the signature monogram canvas was being eroded by counterfeiting. Since that time LVHM has been a leading litigant in the war against knock-offs and brand protection.


An understanding of the core strengths of it's brands

IBM seems to be a strange company to associate with luxury, but it was indeed the epitome of tech luxury from the first golf ball type typewriter right through to room filling main frames. If you had the IBM badge on your business machine, you had the best. What happened though was that IBM, like a fashion house licensed out it's name for clone PC's during the 80's and diluted its brand value. Unlike Gucci, IBM never bought back the real estate it sold and ended up exiting consumer products (with help from Lenovo). Management chose to focus on what IBM had been best at for years and that was business systems. IBM became a consulting powerhouse by keeping only the highest end businesses and with that bought back the margin and management focus that ad almost slipped out of it's grasp.

Steve Jobs understood branding in the same way as IBM. For Jobs, the omnipresent control-freak the Apple brand had lost its cache under John Scully who had begun to investigate licensing out the core operating system to clone manufacturers. When Jobs got back in charge of Apple he killed off the clones and introduced a design "ethic" that has survived his death. That first iMac with the ""bondi blue" translucent case may not have been the fastest computer on the market, but it was the best looking and it was something you didn't have to hide in a nook.

Fiscal targeting 

All the design in the world can't help you unless you have some kind of fiscal target. In luxury that usually means margin. Margin is what protects a business and gives it flexibility in bad times. It requires a careful balancing of manufacturing, logistics and supply. Ferrari famously limits production in the knowledge that you might pay more for a "thing" if you know you're not going to see 100 others pass you by on your commute to work. Apple has Tim Cook, logistics genius, because it knows that in consumer electronics the race to the bottom can kill you. As far manufacturing goes, the audacious raid by LVMH on Hermes at the height of the global economic meltdown was as much about acquiring the skilled craftsmen of houses leather works as it was about brand ownership in itself.

Coca-Cola my have been the most egalitarian brand the world had ever seen, but that didn't stop them trying to reinvent themselves with the disaster that became "New Coke".  Younger readers may not remember the decision from the Atlanta based behemoth to almost overnight throw out a product that was a brand leader without any real long term fiscal goals. One could understand the move if the company had credible future plans beyond what become little more than the equivalent of a crazy use car salesmen blowing up cars in his lot in an effort to create new "buzz" about his business.

Significant "edge" or "leadership" in at least one area of design or skill

Coke tells us once you have leadership you need to wall it off and protect it, much like LVMH protect Louis Vuitton and it's other brands by prosecuting counterfeiters everywhere. If you can't protect your product you need to make it very expensive for others to jump on into your market. This is where I return to Australia and in particular the current CEO and board of Qantas.

The one thing the world knows about Qantas is that its aircraft didn't used to have malfunctions. That seen in the Tom Cruise, Dustin Hoffman film "Rainman" where Hoffman's charter refuses to fly on anything other than a Qantas plane said it all. The problem of course was that expansion means you can't control the product in the same way. Take Starbucks . . . the quality suffered as the product expanded. New machines replaced the old espresso machines because they were quicker, rather than better. That was expensive and those "auto" cappuccino generators eventually got tossed away when the company started to look shaky. Qantas had a virtual "Coke-like" monopoly of the Australian domestic market after its main rival collapsed. Internationally the airline was being challenged by Asian flag carriers who offered newer fleets and a better service ethos . . . but Qantas had safety and in reality was small enough even in the 90's to nimbly move to upgrade and expand it's fleet to at least match the Asian carriers; so what changed? Well the Qantas domestic margins were too much of a draw to other carriers and logistics businesses. The choice was easy, protect the income line (market share) or the bottom line (Margin). The CEO and the board decided it was better to maintain market share domestically as they belied that this would protect their under siege international operations. The line in the sand of 60-odd% domestically became a race to the bottom. Insanely (to some) to cover up the race Qantas started Jet Star in an effort to have its cake and eat it too. The theory was that Qantas would be the premium business airline and Jet Star would, like a souther hemisphere Ryanair hoover up the tourist dollars. The problem was that the competition was equal to the task and margins became so thin that the profit line became almost like punting jet fuel futures. It didn't help that the cost cutting that the company put in place saw the fleet age and encounter several embarrassing mishaps that undercut the long cultivated record for reliability.

Qantas is the anti-LVHM or Apple currently. I'm not sure the competition is worth the risk for investors unless you see a Bernard Arnault or Steve Jobs waiting in the wings. Returning to the Sharpe Ratio, in the case of Qantas the volatility is too high to justify the returns without a significant restructuring of the current failing business plan.


Last week I heard about the death of another design genius Giovanni 'Nanni" Pinarello. Readers of this blog will know my fond memories of rediscovering bike riding after being presented with my Pinarello Dogma 60.1 at the Pinarello family HQ in Treviso Italy.

Nanni was 88 at the time, but his daughter told me he still came to the retail outlet inside the walls of the city everyday. He liked to supervise his staff and especially liked to assist in fitting the bikes. I'm not sure what the dimunitive Nanni thought of my 95kg's perched on top of the carbon fibre racing frame, but he smiled and seemed happy and engaged even if the mechanic doing most of the work begged him to leave it to him. The attention to detail that day in Treviso still impresses me and makes me understand the dedication needed to run a brand successfully. Nanni was 92 when he passed away and I'll bet a Qantas flight to Melbourne he still would have been shuffling into the shop and lecturing the staff on the presentation of the products right up until the day he died.