Monday, January 19, 2009

Is Marvel the next Disney?

Batman vs. Wolverine, Spiderman vs. Superman? Many comic book lovers have an opinion about who would win a battle between these heroes.  For decades, DC Comics and Marvel Comics have also battled – to create the most enthralling “Superheroes” to rescue people from their hard earned dollars through many avenues: comic books, cartoons, action figures and branded toys, Halloween costumes, etc. And for most of the world, despite the recent ascendancy of characters like Spiderman, the Fantastic Four and Iron Man, DC’s Superman continues to reign supreme as the most recognized superhero. Who, or what, props up the Kryptonian’s enduring media success? The simplicity of his powers, the iconic outfit, the way he embodies every characteristic a child wishes to possess?  Yes, but also his decades of media exposure to a superhero-hungry public.  Superman has been appearing on screen, and before the public, since the 1950’s.  He appeared in the television serial, “Atom Man vs. Superman”, in 1950 and the movie, “Superman and the Mole Men”, in 1951. The legacies of over half a century of media exposure are certainly an integral part of Superman, Batman, and DC Comics success.

After watching the film Ironman three times in four days, a dim light began growing in my own superhero-conscious consciousness. Maybe there’s a different kind of war brewing beyond the obvious. An unexpected war.  Not between Batman and Ironman for 2008 summer blockbuster supremacy. Not even between Marvel and DC for the title of “supreme comic book creator”.  Instead it is a war between Marvel and Disney!

With Ironman following the great success of the Spiderman films, the continued success of the X-Men films, the existence of two Hulk films, two Punisher films, two Fantastic Four films, one Daredevil film, one Elektra film, one Ghost Rider film and the upcoming Wolverine movie, Marvel has produced 17 movie superhero movies since 2000 (give or take one or two that I may have missed).  This outbreak could signify an escalation of competitive franchise expansion. Could Marvel be poised to become the next Disney?

Disney’s CEO Bob Iger defines a franchise as "something that creates value across multiple businesses and across multiple territories over a long period of time." I began reviewing my own comic book history, thinking about Marvel and its bevy of characters and its similarities to the “Mouse House”-era of Disney in the 1980’s. Yes, comic books still serve as Marvel’s bread and butter. But they are now licensing their superheroes for products ranging from toothpaste to underwear. This kind of thing has been going on for years with Marvel, and while DC has also done its share of character exploitation, no company has really approached Disney in terms of sheer volume.  Disney’s characters have graced everything from lunch boxes to clothing, from repeated appearances in McDonald’s Happy Meals to serving as the subject of an entire television channel.

Disney’s characters have crossed into the immortal and have been lauded as such for decades. For years Disney’s feature length animated movies were the only game in town, bringing euphoria into the hearts of young children who then just had to have the storybooks, toys, and lunch pails to continue the Disney experience. The thrill never really went away, with a real resurgence of popularity when VHS videos came into existence and allowed parents to bring that joy and magic into their hearts and homes as often as their children wanted.

Of course there was competition, looking at the less chronicled, but highly visible, franchise war in the 1990’s between the Disney and WB stores. Back then, it was Warner Brothers’ Looney Tunes – Bugs Bunny, Tweety Bird and the Tasmanian Devil that sent a volley of cannon shots at Disney’s marketing efforts. By 1996, Warner Brothers had 127 stores, while Disney had 353.  That year, their mutual flagship stores duked it out on two blocks of New York City’s 5th Avenue, 56th and 57th Street. Although this was just a few years before changing economic scenarios, such as e-shopping, caused the bulk of their retail operations to come crumbling down, the strength of their brands and the power of having easily recognized and licensed characters, i.e. franchised characters, allowed both companies to rise mightily, albeit only for a few moments of retail history.

Marvel’s characters are only now beginning to explore the full range of marketing options available to them.  In addition to movies and cartoons, they have begun appearing in various rides at the Universal Studios theme parks.  They’ve become action figure mainstays and, to a lesser degree, acceptable icons for mainstream youth. These characters are becoming franchises in themselves.  

Anytime Marvel comes out with a movie about one or more of their superheroes, the sound of cash registers selling spin-off merchandise reaches to a new, ear-splitting volume.  With the public’s desire to buy the latest trend for birthdays, Christmas presents, and Halloween costumes, each release is a new windfall for merchandisers. This is one of the benefits of movies, the ability to finally turn comic book characters into something all of mainstream America can enjoy together.  Gone are the days when children put away their comic book heroes so they could pick up newer, cooler hobbies and trends.  Today’s superheroes are the cool trends.  Taking a date to see a comic book movie is no longer socially unacceptable; wearing a Spider-Man t-shirt to school is edgy, not dorky; and talking about your favorite X-Men character is barbershop fodder, not the whispered ramblings of a social outcast.  Hopefully, Marvel has the media savvy to continue effectively licensing and merchandising their characters across multiple businesses and across multiple territories.

Media conglomerates like Disney, Warner Brothers, and Marvel are highly influenced by what psychologists call the halo effect, referencing a cognitive bias where a perception of a specific trait is influenced by the perception of former traits in a sequence of psychological interpretations. Every movie featuring Marvel characters and every new license Marvel grants has the power to increase the halo effect for these characters.

I tried to get a handle on just how much revenue Marvel makes on merchandise.  They made $218.3 million in their joint venture with Sony on Spiderman, meaning between 2004 and 2007, Spiderman made $436.6 million which breaks down to roughly $109 million a year for Spiderman merchandising alone.  While the Ironman franchise may not yield as much because is neither as innocent nor as popular a character for young children, he is sexier with an edge that will cater more to the tastes of adults and teens.

Marvel is projected to do $500 million annually in revenue 2009, so even it Iron Man doesn’t hit the equivalent to $100 million annually, and does only between 45 to 60 million annually from merchandising and licensing, Marvel will still be happy with those residuals until Iron Man 2 or the Avengers’ movies come out . 

With two summer blockbusters (the Hulk and Iron Man) and one dud, Punisher War Zone, Marvel has plenty of opportunity to flex its merchandising and licensing muscle. But can they really take on Disney in such a big way? Are they exhausting their pantheon of characters- or, in fact, are they just beginning? Numbers support the strength of Marvel’s future, and show it to be a worthy investment vehicle.

Although Marvel is a significantly smaller company than Disney with $37B vs. $500M in total revenue, Marvel is the more profitable company. For the 3 years for which I could find Marvel’s income statements (2005-2007), Marvel has averaged approximately 23% of total revenue resulting in net income.  The result for Disney (2006-2008) has been approximately 11%. For the two years that Marvel and Disney have in common, 2006-2007, those numbers are 22.5% and 11.5% respectively. This significant difference has been reflected in the stock price of the two companies.  Over the last year, Marvel stock has soared 30.53% versus Disney losing -23.05%. Marvel is copying Disney’s playbook with marvelous (pun intended) success. By turning their more popular characters into successful franchises, the company’s overall growth should come from an emphasis on creativity, technology, and international markets. In the near future it may be Disney-who? instead of Disneyland. 


Tuesday, April 15, 2008

Who says Oil and Water don't Mix?

As the summer of 2008 approaches, we can expect the typical Hollywood big-budget blockbuster movies and we can also expect blockbuster oil prices. With the price of oil on a steady rise, $4.00 a gallon may become a familiar sight this upcoming driving season. Based on analysis by Haye Capital Group (HCG), the probability of oil reaching $125.00 per barrel in 2008 is 78.9%. With the specter of recession in the background and the rise in commodity prices (corn, wheat, etc.) in the foreground, we need to find ways to hedge these seemingly never ending fiscal difficulties. Seventy percent of the price you pay at the pump is attributed to the oil per barrel price, $113.79 as of this past Tuesday, April 15th. The question is how do we make money in this challenging environment?

In this blog we are going to focus on how to take advantage these oil price increases. One possibility is to focus on an oil exchange traded fund or ETF such as (USO) while another possibility is dealing with oil stocks of those companies directly or indirectly servicing the oil industry. For example, the companies that transport crude oil and petroleum products are an essential link in the global energy supply chain. Most oil is transported either by ship or by pipeline. Two out of every three barrels of this transported oil is shipped in oil tankers. The remaining third is moved via pipeline. It is clear that the shipping industry plays a crucial role in the oil business.

The best way to play oil prices is to invest in the global shipping business. This is one of the least followed aspects of the oil service industry. In addition to never going out of business, they offer an extremely high dividend. Certain shipping companies responsible for the transportation of crude and petroleum could make an interesting oil play if they've made a sufficient investment in their fleets. Due to various environmental incidents , the International Maritime Organization has ordered that by 2010, all single hull ships transporting oil be phased out, and only double hull ships be used for oil transport. This new, stricter regulation has reduced the number of tankers available to ship oil. Therefore, assuming oil consumption remains the same, there will now be reduced supply to meet the original demand. A supply-side crunch will increase tanker spot rates. This implication adds increased pressures on the price of oil, and makes the shipping companies with the most double hull ships much more attractive to shippers than their single hull brethren.

We've reviewed several shipping companies and their related stock, taking into account the beta and dividend yield of each in order to determine the shipping stocks which best act as a hedge to higher gas prices in the real world. All of the stocks chosen move in a narrow and predictable range which keeps their yields relatively steady. This is advantageous as an oil hedge since the key to using these stocks as a hedge includes taking advantage of the cash dividends paid out by each company. HCG is most concerned with the dividend yield and the low beta value of those stocks with lower volatility, since it allows us to build a dividend yield that acts as a bond yield, and provides a hedge to the prices at the pump.

Based on analysis by HCG, the five most promising investments in descending order (first to last) are:

Frontline (HCG favorite) : (FRO) is one of the oldest and largest tanker companies in the world with a true global presence extending from the Persian Gulf to the Gulf of Mexico. With a current beta of 1.22 and a dividend yield of 17.1% that translates into an $8.00 dividend. This stock historically trades in the $31.00-$42.00 range.

Ship Finance International: (SFL) is a shipping company that is engaged in the ownership and operation of vessels and offshore related assets.

Knightsbridge Tankers: (VLCCF) is an international tanker company whose primary business activity is the international seaborne transportation of crude oil.

Double Hull Tankers: (DHT) operates a fleet of double hull tankers.

General Maritime (speculative): (GMR) is the most speculative play of our five. They had a decrease in both revenue and net income in 2007. Their positives include an aggressive share buyback program and the maintenance of their dividend. They didn't cut their already high dividend in spite of a decrease in revenue and net profit for 2007. The company is positioning itself for a rebound in the second half of 2008.

The oil shipping industry is dependent on a strong global economy with a healthy appetite for crude oil and crude products. If the global economy is thrown into a recession, and the global demand for oil declines, you can expect tanker stocks to take a hit as well. Also take note that tanker spot rates and fixed rates, which are the prices shippers set for their services based on the number of ships chartered, are tracked by and provide the bulk of a shipping company╩╝s revenue stream. These rates also tend to be highly cyclical. However, as long as there is demand for crude oil to be transported from producers to consumers, oil shippers will remain afloat and an investment in oil shippers should be profitable.

With any stock please do your own due diligence to see if it is a good fit for your portfolio. We do not own a position in any of the stocks mentioned in this blog.

Sunday, March 2, 2008

Your Future Housing Options, Part 3

Currently, an insurance solution for the homeowner is to buy a put option which is generally considered safer than a futures contract as they cannot lose more than they invest. With a futures contract, the purchaser could lose more than the initial investment, although the upside is also greater than with an option. The buyer fixes a strike price and an expiration date, then pays a premium. If the index ends up being higher than the strike price on the expiration date, they do not owe any money. It is like buying car insurance and never filing a claim. If they fix a strike price and the index ends up lower than the strike price, they will receive the difference.

A comparison of buying a put option to buying insurance would be the following. Suppose you own a San Francisco home worth $1 million and want to protect yourself against a steep decline one year from now. To protect a $1 million house a year from now, you would have to buy 20 put options at a total cost of $70,000 today. To recoup the $70,000 investment, the San Francisco home-price index would have to be 12 percent lower in December 2007 than in December 2006. "It would have to go down more than 12 percent to make any money off the trade," states Fritz Siebel. “Why 12 percent? Because the market is already expecting a drop of roughly 6 percent, the other 6 percent represents the premium you are paying to buy the insurance. It's high today because there is more demand for this type of insurance than there are people willing to sell it. The premium will come down as more players enter the market.”

The Chicago Exchange is hoping that the housing contracts will catch on first with companies that need to hedge against the risk of falling real estate prices, such as homebuilders and mortgage lenders. Some of the issues preventing this are the lack of liquidity for these companies that have suffered immense losses and the cost of trades. Some insurers are also not sure of the reliability of the indexes to measure the fluctuation of home prices. Another problematic issue is the time frame of the contracts with many developers interested in long-term contracts of two to six years. The longest contract currently offered expires in one year. In addition to attracting companies from industries that have the most to lose, in order for the market to work, it will have to attract a large number of speculators, people who have no underlying risk to hedge, but who want to gamble on housing prices.

Since December 7th 2007, only 1,041 futures contracts and approximately 1,000 options contracts are outstanding. Together, those contracts insure about $100 million worth of U.S. housing. However, investors contributed only a small fraction of this amount, less than $10 million, due to the fact that investors generally buy futures and options on margin, similar to the way home buyers put down a fraction of the home's value and borrow the rest.

Although the individual homeowner could stand to benefit by investing in these futures, they do not necessarily offer a direct hedge against the price of an individual's home. Because contracts are offered in only 10 geographic regions and home prices within those 10 regions will most likely change in varying degrees, an individual could potentially see the value of his investment fall with the value of his house. Siebel feels that individuals can benefit from the investments; however, "futures markets are professional markets" and an individual should "fully understand what they're getting themselves into."

Waiting for the real estate market to rebound will be a long wait, an estimated 4 to 5 years. However, an investor still can make money in this market. With housing costs dropping at record rates, a wise investor can find properties to purchase far below market value to keep as rentals until the market stabilizes. Research of foreclosure filings, particularly tax sales, can also reveal properties with enough equity to make them good investments for a quick flip or to hold for more long term gains. With an influx of repossessed housing and properties that are heavily over mortgaged, lenders are often willing to negotiate short sales, or reduced mortgage payoffs, to avoid costly legal proceedings and repossession of properties that they do not want.

However, for a select few with discretionary income and an understanding of the derivatives markets, the Chicago Mercantile Exchange introduced housing futures and option contracts hold immense potential. These derivative instruments take advantage of declining house prices by allowing investors to purchase futures contracts, essentially betting that the values will go down, in a market almost certain to continue its historic decline. Utilizing the price-to-rent metric discussed, the current P/R ratio is at 24, 60% above the historical average of 15. Most economists agree that it will take approximately 5yrs for the P/R ratio to return to this historical average and that the foreclosure numbers have only begun to surface. Futures contracts or options as a form of home equity insurance to hedge against and/or profit from the prospective decline in housing prices are a creative and potentially lucrative option for an investor in this roller coaster economy.

Tuesday, February 5, 2008

Your Future Housing Options, Part 2

Continued from Your Future Housing Options, Part 1

Homeowners and investors looking to hedge against the decline in housing prices may find respite in an old corner of the financial market that allows them to bet on changes in future prices. Futures and options, known in the financial world as derivatives, help investors offset the risk exposure of their portfolios. A futures contract is a legal agreement to buy or sell a product for a given price at a given time in the future (hence its name), typically commodities such as pork bellies or oil. An option gives the buyer the right, but not the obligation, to buy or sell a security at a given price at or within a given time. Speculators buy futures and options to try to profit from market volatility; hedgers use them to offset the risks of adverse market movements on their investments. Most futures contracts are for physical commodities such as cattle, pork bellies or coffee beans, while the housing contracts are pegged to a more complex index of housing prices. The contracts for housing are tied to the S & P/Case-Shiller Home Price Index, a survey of housing prices in 10 metro areas (Boston, Washington DC, San Francisco, Denver, Chicago, Miami, L.A., Las Vegas, New York, San Diego) developed by Shiller in conjunction with Professor Karl Case and Standard & Poor's.

In late May, the Chicago Mercantile Exchange introduced Housing Market Futures and Options, an investment vehicle similar to futures contracts that allows investors to hedge against changing commodity prices. The exchange hopes that investors will seek protection through these instruments at a time when many anticipate a prolonged real estate decline. Futures contracts traded on the Chicago Mercantile Exchange show that traders expect double-digit declines in 9 out of the 10 biggest housing markets in the U. S. with the only exception Chicago, where prices are still expected to fall by 5.6% over the next year. In the latest batch of data released by Standard & Poor's for its S&P/Case-Shiller home price indexes, the national index of home prices showed a drop of 4.5% (yr/yr) from the third quarter of 2006, and a sequential decline of 1.7%. This sequential 1.7% slide is the largest since the index was first created. Robert Shiller, chief economist at MacroMarkets, responds to this report, "There is no real positive news in today's data."

To further understand how this proven method of investment in a volatile economy can be applied to the current housing market, consider the following. Futures and options are contracts that trade on exchanges to allow investors to bet on prices going up or down. They are known as derivatives because their price movements are derived from the price movements of an underlying security, asset or index. Investors' predictions about these real estate markets are certainly not guaranteed to be accurate. They do provide, however, insights into what people with skin in the game think lies ahead. These types of "predictive markets," have proven to be surprisingly accurate in forecasting everything from the outcome of political elections to housing movements.

To apply this strategy, suppose you own an expensive house in San Francisco that you are afraid will suffer a severe decline in value, but you do not want to sell it and move. You could stay in the house and sell futures or buy put options on the San Francisco housing price index. If home prices in San Francisco fall, the value of your house will probably go down as well. However, this loss will be compensated by the money you will earn on your futures contracts. If you bet wrong, you will lose money on your contracts, but you will have essentially insured yourself against this loss and will have retained the value in your property or possibly realized an increase. Unfortunately, futures and options have a steep learning curve, too steep for the average homeowner who wants to place a one-time bet. The housing contracts are also quite costly at this time as they are still relatively new and thinly traded. While the average homeowner can participate in these publicly traded futures, the cost of hedging might prove prohibitive unless they hold prime and pricey real estate that they want to protect. Each Mercantile housing futures contract is valued at $50,000.00 with an initial buy-in (also called a good faith investment or margin) of $2,500 (five percent of the contract's value), not including brokerage fees. Contract values have not been announced for the CBOE housing futures yet, but its offerings will carry a 10 percent to 15 percent initial buy-in.

Smaller-scale investing in housing futures has been offered since May 2005 at
HedgeStreet.com, a San Mateo, Calif.-based online exchange that offers futures contracts at up to $10 each. The new Housing Price Hedgelets are tradable as both Yes/No and Variable contracts with 3-month and 6-month durations and are benchmarked against the National Association of Realtors (NAR) reported Median Sales Price of Existing Single-Family Homes in Chicago, Los Angeles, Miami, New York, San Diego and San Francisco. Hedgelets are unique financial instruments that do not exist on any other market. John Nafeh, CEO of HedgeStreet states, "For most Americans, their home is their single largest investment and, as such, the desire to reduce risks surrounding that asset is important. Housing Price Hedgelets provide a unique way for them to hedge against depreciation in the value of a home, or conversely, speculate on the degree to which housing prices will appreciate."

The concept of insuring yourself against a big drop in the value of your home, the same way you can insure against losses from fire, hurricane, or a guest who gets drunk and falls down your steps, is a comforting thought. Someday, it might be as easy as adding a rider to your homeowner's policy. Shiller predicts that "Once we have a futures market, then people can develop home equity insurance and mortgage products that protect the equity in the home and they in turn can then use the futures market to hedge the risk they assume by creating these products." The housing futures market will hopefully, in turn, provide large insurers a way to hedge the risk of offering home equity insurance to consumers.

Concluded in Your Future Housing Options, Part 3

Wednesday, January 2, 2008

Your Future Housing Options, Part 1

Research from a multitude of economists, financial experts and housing professionals convey varying levels of negative projection for the U.S. housing market. All cite degrees of blame aimed at self serving lending institutions which made ill advised loans to unqualified buyers, packaged these loans which received a questionable “buy” rating and were then sold in the secondary market. The result, an unprecedented credit collapse in the U.S. economy, opaque institutional liabilities, a lot of finger pointing, and even more questions on how to potentially alleviate further housing depreciation. The resulting housing market plummet affects a large portion of Americans with relatively few solutions on hand. Application of the market strategy of hedging may perhaps be a creative solution for some home owners as a method of protecting what is for most Americans their greatest asset.

Housing valuations commonly utilize a metric based on the house price-to-rent ratio (P/R), which is akin to a price-to-earnings multiple for stocks. This metric is intended to reflect the relative cost of owning versus renting. Naturally, when housing prices are high relative to rents, potential home buyers will choose instead to rent, thus reducing the demand for houses and bring prices back in line with rent costs. Economists suggest that when price-to-rent ratios remain high for a prolonged period, prices are being sustained by unrealistic expectations of future price gains rather than the fundamental rental value, thus creating a bubble.

The application of this price-to-rent formula in key housing markets illustrates the dangerous climb in housing costs over the past seven years.

The price to rent ratio (P/R) compares the median single family home sale price to the median monthly rent for a 3 bedroom apartment in one of the top 10 housing markets. The financing terms assume a 20% down payment on a 30-year fixed rate loan and the historical median home sale price is determined by fitting the HPI index to NAR's median home sale price over the last few years. The median rent is again provided by Housing and Urban Development.

The basic formula suggests buying under the following conditions:

Rental rate + Appreciation - Interest cost > 0

Historically, the real after-tax, after-depreciation interest rate for houses is four percent. From 2000 to 2007 the nationwide P/R jumped from 15 to 24, an increase of 60%. Cities with the largest P/R increases are Tampa, 12 to 21; Washington, D.C., 11 to 26; and California’s east Bay, an area that includes Oakland, 28 to 51. Others argue that the historical P/R value should be 16.7 with the real after-tax, after-depreciation interest rate being 4 percent with additional maintenance costs (roofing, paint, HVAC repairs, broken water pipes, etc) taken into account. These are calculated at 1 percent per year and real estate taxes another 1 percent. To get a real return of 4% given these additional items, annual rent needs to be at least 6% of the house price instead of 4%, which then raises the P/R ratio from 15 to 16.7. For the sake of this blog, we will use the P/R ratio of 15. If the rental rate is 6% of the house price rather than 4%, it lowers annual appreciation rate from 4% to 2% which is not a realistic number. Lower price to rent ratios generally indicate that homes are more affordable.

Correspondingly, the U.S. housing phenomenon is powered indirectly by Asian funding. The Yen Carry Trade by Asian hedge funds exploits a 3.0% differential between U.S. and Japanese long-term interest rates. The yawning U.S. trade gap translates into a gargantuan trade surplus which Asian investors recycle into U.S. Treasury Bonds. Direct Asian central bank intervention, often transferred overnight, offers regular U.S. Dollar support by means of U.S. Treasury Bonds. Thus, Asian bond support is absolutely critical to the housing movement in supplying funds utilized in mortgage financing. Erosion in confidence in the U.S. economy and subsequent reduced investment in U.S. Treasury Bonds, along with the liquidity problem created by the foreclosure crisis, has led to a serious decline in consumer lending and subsequent adverse effects on the housing market.

Many analysts say the worst is yet to come. Banc of America Securities predicted in a report last month that the median U.S. home price would fall 15 percent over the next four years and not rebound until 2012. This is decline is partially fueled by foreclosed housing that causes comparable sales in a given area to under represent their true value. Bank of America, who recently bailed out mega lender CountryWide by injecting them with much needed funds, further estimate that with $361 billion in subprime loans made to borrowers with weak credit scheduled to reset at higher interest rates next year foreclosures will peak in the third quarter of 2008 and will not return to more normal levels until 2011.

The options for homeowners in the face of such negative reports are limited. Few people are willing to sell their homes now to avoid possible declines in the future. But Yale economists Robert Shiller raised one provocative possibility after the latest data was released, suggesting that homeowners may want to consider hedging their homes as a way to protect themselves against declines in their home values.

Continued in Your Future Housing Options, Part II

Monday, December 3, 2007

Goog-411, Part 4

The Final Piece of the Puzzle

Let’s consider the idea of Google becoming a wireless telephone provider. In recent news, the FCC rules for the upcoming sale and use of 62 megahertz of spectrum in the 700MHz band has the mobile community titillating with interest. It is a highly desirable slice of the airwaves because it can easily transport mobile-video services and applications to end-users located dozens of miles away in hard-to-reach places like basements and elevators. The 62 megahertz of spectrum is coming available due to the fact that television broadcasters are moving to a digital signal from an analog signal in early 2009, which requires much less spectrum. The sale of the spectrum will be done through an auction scheduled to happen in January 2008, so most parties will have to wait until then to find out how far Google will go towards acquiring the highly coveted 700 MHz band.

To appreciate the situation, one must first understand that purchasing the spectrum would be an incredible feat for Google, especially considering the opposition they would have to overcome from existing telephone giants, AT&T, Verizon, and Vodafone. Additionally, the auction is highly anticipated since the sale of 62 megahertz of spectrum is widely seen as the last opportunity for a new entrant to establish a presence in the wireless broadband market. On 22 megahertz of the lucrative 62 MHz airwaves being sold off by the Federal Communications Commission, two open-access conditions were attached that are aimed at introducing greater consumer choice and competition into the wireless industry.

Specifically, Google encouraged the FCC to require the adoption of four types of "open" platforms as part of the license conditions:

1. Open applications – no restrictions should be imposed on downloading and using any software applications, content, or services.

2. Open devices – consumers should be able to freely switch their handheld communications device between any wireless network available.

3. Open services – third parties (resellers) should be able to acquire wireless services from a 700 MHz licensee on a wholesale basis, based on reasonably nondiscriminatory commercial terms.

4. Open networks – third parties (resellers) should be able to acquire wireless services from a 700 MHz licensee on a wholesale basis, based on reasonably nondiscriminatory commercial terms.

In the end, the FCC approved the creation of networks that can work with any device (consumers will have the freedom to attach any device and any application to a 22-MHz section of the band), but refused to comply with the so-called "wholesale condition," (conditions No. 3 and 4 in the aforementioned list).

Consumers would greatly benefit from Google’s request to allow open devices and applications on a third of the spectrum. Traditionally phone companies have been stringent about what applications and devices could operate on their networks. With the 700 MHz band open to fresh companies, a whole new breed of mobile technology may emerge. While the FCC did not mandate the charge of wholesale prices of the 22 MHz of the spectrum, they did heed what some consider Google’s ultimatum, open devices and applications. It will be interesting to see the results of the auction. The entire band has been valued around $20 billion, which would be financial blow for any one company to bear, but Google could easily partner with any large carrier (Sprint, Alltel) or a fellow tech company (Apple, Intel) to offset the expense.

Does the evidence support the theory that their established interest in mobile technology can only peak with the introduction of a new mobile device, or are they simply setting up a network of mobile applications in order to offer mobile advertising in the future? We may not have a definitive answer, but after January 2008 and the FCC auction, we may know more about Google’s desire to become a mobile provider.

Conclusion

Could Google be poised to expand into the telecommunications and cable arena? The possibility definitely exists, and the company’s deep pockets mean they would be an instant competitor. Many believe, like TeleGeography’s Mr. Schooner, that Google will not venture into these markets because the profit margins are far too small. It is more likely that Google will use the dark-fiber they have bought cheaply and invest in their own backbone to the internet. They will effectively create their own infrastructure, and force their service providers into a lonesome corner. In contrast, Stephen Arnold has identified seventeen telephony-related patents and patent applications by Google and another dozen with a tangential link. “That means 11 to 12 percent of Google’s innovation effort since 1999 is in telephony,” he said. “Somebody at Google cares about this telephony stuff.”

Will Google offer a G-Phone? Google has been on the upward pendulum swing with their wireless and network aspirations. Google has been purchasing dark fiber in the US for many years. They will connect all their dark fiber to their new 700 MHz wireless spectrum throughout the US (if they win the auction). As subscribers utilize ‘Goog-Tel’, Google will push advertising based on their wireless activities or location further increasing revenue and margins. This national network will provide Google with unlimited bandwidth allowing them to compete with the telephone and cable monopolies for both internet and wireless customers as well as lowering their bandwidth expenses in the U.S..

Friday, November 2, 2007

Goog-411, Part 3

Surprisingly, it may be too narrow of a view to see Google’s recent movements as a push towards becoming a telephone company. Google managed to reinvent online search and advertising, so the same may be true of their aspirations with wireless and network technology. It would not be beyond the scope of their inventiveness to approach the wireless business from a fresh angle.

Google may be exploring the mobile arena for the possibility of expanding their advertising offerings into the cellular world. Some like, Scott Cleland the president of Precursor, are struggling to find the logic behind the G-Phone rumor. "Getting into the phone handset business or the wireless network business would radically change Google's business model," he said. However the mobile advertising market has grown tremendously from $60 million in 2006 to $275 million in 2007, with an expectation of reaching $2.2 billion by 2010. This type of growth does in fact warrant Google to explore and aggressively participate in the mobile phone and networking business. If Google simply wants to have a stronghold on those advertising dollars, then they need to develop a multi-prong approach in their dealings with the current mobile providers.

To cement their interest in wireless technology, Andy Rubin, the former co-owner of the popular technology creator Danger [and its popular Sidekick device], currently works at Google. Danger was a major player in the Web 1.0 era. Danger’s most accomplished project featured a flip out screen that transformed the way users interacted with the Internet, at a time when the technology was at its infantile stages. Many believe Rubin’s employment at Google signifies their work on a secretive G-phone. Presumably, Google has charged Andy Rubin with the task of creating the G-phone.

Google has already begun offering its own mobile applications through a partnership with Sprint. A Sprint customer can use Gmail, Google Calendar, and GoogleTalk through their mobile devices. Google and Sprint have also been in talks to offer their WiMax mobile internet customers the ability to search the web and interact with Web 2.0 social-networking tools. Google, an already active member in the mobile software arena, may use their acquired companies to create a phone comparable to Apple’s iPhone or even something well beyond the scope of that device.

Mobile providers have proven over the years to be just as stringent and guarded about their services, technology, and partnerships. It would be hard to imagine a mobile provider giving up much of the mobile advertising dollars to Google. They would only need to look deeper into the profits of the Adwords program at Google to see the vast potential of doing something outside a partnership. This may be the impetuous for Google to offer its own wireless solution. Before we go further, we should look at the key acquisitions of Google that could make them a strong player in the wireless, mobile market.

Key Acquisitions

We already spoke of Andy Rubin, Danger’s co-founder. He began work at Google labs after
Android—his startup company—was procured by Google. Android revealed very little during their 22 months of existence, only that they were a mobile application startup presumably developing software for a location-aware mobile OS designed by Rubin. Given greater ease of Internet access with mobile products, this would allow Google to greatly expand the real-world utility of its search offerings.

While the purchase of Android could be a precursor to developing wireless technology, the acquisitions of
ReqWireless and SKIA indicate Google’s strong desire to have their own handheld device. ReqWireless creates mobile applications and SKIA produced a vector-based presentation engine that essentially renders 2D graphics on mobile devices. The 2D rendering graphics technology that SKIA produces could be the building blocks of the graphical user interface of a future G-Phone. Purportedly SKIA’s core can fully utilize Java2D and PostScript, with an approximate 300K footprint.

Google purchased
Grand Central Communications on July 2nd 2007. Grand Central communications offers a unique and control friendly solution for mobile phone users. The company developed a service that merges phone numbers from various accounts, including voice mailboxes, into one single account. The service complements existing phone lines, like for those who have home, work, and cell. Basically the service allows users to utilize one central voicemail box to collect messages. The user can access voicemails online or from any phone, and they have more control over these messages. Users can forward voicemails to anyone, block callers, save caller’s information, and more. One phone line can take calls from any of the lines a user has connected to the service, which would be an attractive feature for many business professionals. The most unique feature allows users to listen in real-time to messages being recorded.

On August 31th 2007, Google announced its investment in a company called
Ubiquisys. Ubiquisys is a femtocell developer, meaning it is working on technology that would allow wireless signals (for example, from a WiFi node and a cellphone) to link up for added signal strength and interconnectedness. While a mobile provider would use the tech to strengthen cell signals in user's homes, Google could use it to promote unlicensed mobile access, service which could help mobile phones drop their ties to providers.

We know Google has purchased and invested in many unique mobile software companies. To add to that list, Google bought
Dodgeball, a mobile social-networking service. The purchase of this company adds to Google’s repertoire of exciting and functional mobile services. Google made sure to purchase a company that would eventually open the door to social-networking on mobile devices. Another mobile networking company Google has invested in is Fon, a startup that allows consumers to share their wireless access points with a wider network in exchange for money or network-wide access. If such a network grew large, participating consumers could essentially access the internet anywhere, regardless of the provider. Google’s most recent purchase in the burgeoning social mobile space is Zingku. Whose services let consumers share cell phone photos with others through texting, get online blog posts sent to their cell phones as text messages, and poll friends via text message. As social-networking grows in popularity, the move towards mobile social-networking seems the next logical step for a company trying to develop sticky applications in which to sell ads on.

G-Phone

The possibility of Google having their own phone escalates when analyzing their various acquisitions. The mythical device dubbed the G-phone is being spear headed by Andy Rubin. Under Rubin works a team of about 100 people reportedly focused on the device. It’s believed that Rubin is working directly on the OS of the device. Collectively, the “mashed up” mobile application companies (Android, SKIA, and ReqWireless) could be poised to work on the yet undefined project, which could be the G-phone. Early rumors suggest the G-phone will run on a C++ core with a linux OS bootstrap, and be similar in design to a Blackberry. As should be expected, the phone will reportedly run the G-talk software and be optimized to run Java based applications similar to the Sidekick that Danger produced.

Concluded in Goog-411, Part IV

Thursday, October 11, 2007

Goog-411, Part 2

Continued from Goog-411, Part I

According to a recent blog post I came across during my research I believe that they are on the cusp of an even bigger strategic move, let me explain. The Internet as we know it is a utility pipe similar to electricity or water, with internet service providers (ISPs) building their profits primarily on how many users they can have practically share the same Internet connection. Based on the idea that most users aren't on the net at the same time and even when they are online they are mainly between keystrokes and doing little or nothing when viewed on a per-millisecond basis, ISPs typically leverage the Internet bandwidth they have purchased by a factor of at least 20X and sometimes as much as 100X, which means that the DSL line or cable modem that you think is delivering multi-megabits per second is really only guaranteeing you as much bandwidth as you could get with most dial-up accounts.

This bandwidth leveraging hasn't been a problem to date, but it is about to become a huge problem as we all embrace Internet video. When we are all grabbing one to two hours of high-quality video per day off the net, there is no way the current network infrastructure will support that level of use. At that point we can accept that the Internet can't do what we are asking it to do OR we can find a way to make the Internet do what we are asking it to do. Enter Google and its many, many regional data centers to fill this gap.

Looking at this problem from another angle, right now somewhat more than half of all Internet bandwidth is being used for BitTorrent traffic, which is mainly video. Yet if you surveyed your neighbors you'd find that few of them are BitTorrent users. Less than 5 percent of all Internet users are presently consuming more than 50 percent of all bandwidth. It's BitTorrent -- not Yahoo or Google -- that has been the target of the anti-net neutrality from telephone and cable companies. But the fact is that rather than being an anomaly, the BitTorrent users are simply early adopters and we'll all soon follow in their footsteps. And when that happens, there won't be enough bandwidth to support what we want to do from any centralized perspective. A single data center, no matter how large, won't be enough. Google is just the first large player to recognize this fact as their building program proves.

It is becoming very obvious what will happen over the next two to three years. More and more of us will be downloading movies and television shows over the net and with that our usage patterns will change. Instead of using 1-3 gigabytes per month, as most broadband Internet users have in recent years, we'll go to 1-3 gigabytes per DAY -- a 30X increase that will place a huge backbone burden on ISPs. Those ISPs will be faced with the option of increasing their backbone connections by 30X, which would kill all profits, OR they could accept a peering arrangement with the local Google data center. In which their internet traffic will be encrypted and sent through Google's servers to the Internet. The data that is received will then be encrypted and sent back through Google’s servers to your computer.

Seeing Google as their only alternative to bankruptcy, the ISPs will all sign on, and in doing so will transfer most of their subscriber value to Google, which will act as a huge proxy server for the Internet. We won't know if we're accessing the Internet or Google and for all practical purposes it won't matter. Are we tomorrow sending all of our internet traffic first to Google before it is passed from there to the destination server of your preferred site? This would really put Google in the driver seat. With one move, Google reduces all operators to bitpipe providers (from the end-user to the Google network) essentially marginalizing the ISP’s.

Take note that YouTube, owned by Google, accounts for close to 10% of today’s Internet traffic this means Google would literally save millions each month by activating their own branch on the internet tree. If Google moved all its traffic onto its own network, phone and cable firms would suddenly find the electronic equivalent of a vacuum on their own networks. They would also find a gaping hole where big network usage revenue used to be and the roles could be reversed -- the phone and cable firms could become customers of Google and be forced into buying access to the Google network.

Wireless Strategy

However, if purchasing dark-fiber for the past three years was the sign of Google pulling anchor and heading towards becoming a telephone company, then the acquisition of ReqWireless in July 2005 was the tide that took them out to sea. Even more recently, Google has purchased GrandCentral Communications—a Web Startup that allows users to consolidate their different home, work and mobile phone numbers into one through an Internet application. More tangible evidence comes from Europe where the South Korean electronics maker LG introduced a new phone on the market preloaded with Google applications. Many have dubbed this phone the “Google phone.” The other giant factor to Google leaning towards becoming a wireless provider comes from their interest in the 700 MHz wireless spectrum auction set to happen in January of 2008.

Continued in Goog-411, Part III

Saturday, September 29, 2007

Goog-411, Part 1

Have you ever dialed 1.800.GOOG.411? Better yet, have you ever heard of it? If the answer to either question is no, you may want to add a new number to your list of contacts. You may be wondering why it is so important to have this particular number. Well, it happens to be Google’s directory assistance line. If you still aren’t seeing the benefit of etching this number into your cell phone, perhaps you’d like to know more about this service and what it offers those who use it. This is Google’s directory assistance and free call connection alternative to the traditional 411 service provided by the incumbent telephone companies. The introduction of this service, along with many other key acquisitions, have many wondering what exactly Google has in store for the future. Is the sky darkening for many wireless and Internet providers as Google could be poised to unveil a wireless phone or even launch their own network for the internet? When investigating Google’s acquisitions during these past few years, interesting signs appear; the purchase of companies that create mobile applications, aggressive lobbying of the FCC for wireless spectrum, as well as buying dark fiber by the mile. What does it all mean? Will Google soon be the purveyor of a G-phone, or will they simply slash their own Internet costs by building their own network?

So far Google has not allowed the public to see past the hazy windows of the Google labs. Based on Google’s own acquisitions—their purchasing of dark fiber, and their other takeovers—it is only a matter of time before the whole world sees exactly what they have in store. “It’s not an if, it’s a when,” says California-based technology analyst Rob Enderle. “Different parts of this are coming in at different speeds, but once they’re done what they plan to do is offer comprehensive services through their own backbone and effectively lock a lot of the traditional players out of the market. A lot of them don’t even see it coming.” When we consider Google’s recent actions, coupled with their past acquisitions, the future seems to hold more for this Internet giant.

“These guys are increasingly swirling and swiveling around the telecom space,” says Lawrence Surtees, vice-president and principal analyst of Canadian communications research for global technology consultancy IDC. “If you put all of this together, is Google a search company or a telecom network service provider or all of the above?” Google famously built its own data center by stringing together thousands of inexpensive Dell PCs with Gigabit Ethernet and developing all the software internally, as opposed to purchasing high-end proprietary solutions sold by vendors such as H-P, Sun, or IBM. Google is now doing the same thing in telecom. It's using cheap standard technologies such as dense wave division multiplexing (DWDM) and Ethernet to drive costs down and develop its own private network using dark fiber coupled with the aforementioned DWDM and Ethernet. Rather than buying an expensive "solution" from an internet service provider i.e. telecom or cable company.

Google is likely working on a project to create its own global internet protocol (IP) network, a private alternative to the internet which could be controlled by the search giant. Their efforts appear to be picking up speed with each passing moment. Google has been buying up miles of unused fiber-optic cable called dark fiber, this usable network of cables was overbuilt by telephone and cable companies during the tech boom in the late nineties. Google has spent a small fortune purchasing these lines for pennies on the dollar at auctions and bankruptcy proceedings as well getting long term leases for these lines from third party vendors in order to construct its own private (IPv6) backbone between its data centers (estimates are 60 to 80 locations globally). Google is also buying shipping containers and building additional data centers within them, possibly with the aim of using them as significant nodes within the worldwide cable network. "Google hired a pair of very bright industrial designers to figure out how to cram the greatest number of CPUs, the most storage, memory and power support into a 20- or 40-foot box" Robert Cringely wrote. "The idea is to plant one of these puppies anywhere Google owns access to fiber, basically turning the entire Internet into a giant processing and storage grid." Late last year, Google purchased a 270,000sq ft telecom interconnection facility in New York and it is believed that from here, Google plans to link up and power the dark fiber system and turn it into a working internet network of its own.

If the move to provide internet access was to take place on a national level, then Google would eventually seek out a company that offered “last mile” access through acquisition as opposed to partnering (via Sprint, Earthlink, etc). The “last mile” refers to connecting the fiber optic backbone to buildings. The broadband company GigaBeam (GGBM) presents an ideal acquisition, with a market cap of $27.25 million. GigaBeam specializes in the last mile with their WiFiber solution, which is a new concept in point-to-point wireless technology. The WiFiber ultra-high frequency bands allow wireless fiber-equivalent speeds with reliability similar to terrestrial fiber. WiFiber provides last mile access and backhaul, while complementing both Wi-Fi and WiMax. This could enable faster communication capacity, delivery, and cost less than previously possible. With the addition of WiFiber to Google’s information backbone, many customers would have access to video, data, or voice at prices once unimaginable. Gigabeam’s strategy also addresses the common last mile problem which represents the biggest hurdle for any company challenging the incumbent telephone and cable monopoly. GigaBeam would fit perfectly with Google, utilizing the miles of dark fiber in Google’s network, and allowing Google to offer a true full scale internet pipe straight to the consumers’ home.

Google has been experimenting in WiFi in the city of Mountain View, California where they have mounted networking equipment to public utility poles in the city. Google is also partnering with Earthlink to try to get WiFi into the city of San Francisco. In the partnership between Google and EarthLink to provide WiFi access in San Francisco, EarthLink would provide wireless service for 16 years and Google would be the sole Internet provider or ISP. Google would profit by having their search engine, maps, and other online applications available to users through the EarthLink pages. Even though this test-bed scenario has since faltered due to price and politics with the city of San Francisco, Google is still looking to offer free wireless access to other cities across North America and possibly Europe. Suppose this secure WiFi solution becomes popular, the Google servers will see a huge surge in the amount of data traffic they currently process. It could be the reason for their interest in the miles of dark fiber, or it could be a reason to build their own, private network backbone?


Continues in Goog-411, Part II

Tuesday, August 28, 2007

Is Niche apparel a Niche stock ?

Clothing is a very ugly industry despite its glitz and glamour. For small businesses to survive and thrive – they need to create products that are emotionalized, authentic and, above all, differentiated. These businesses must be able to distinguish themselves from their direct competitors, establish themselves in consumers’ minds and therefore create a niche. Over the past few years we have seen an explosion of new brands in the niche apparel market. I’m going to examine two companies going in two very different directions in this hyper fickle realm of retail. Both companies have products that qualify as niche markets. HEELYS specializes in wheeled footwear that is currently all the rage among children, tweens and even teenagers. Under Armour has specialty sportswear that is engineered to keep athletes cooler during physical activity. These companies represent niche apparel as well as niche stocks. Stocks that are considered to have a short life once the fad (demand for the underlying product or service) begins to decline are known as niche stocks. Niche stocks have been making waves in the stock market for some time but it is difficult to determine which companies will qualify for more permanent status on the market and in your portfolio.

Heelys, Inc. (HLYS) is a designer, marketer and distributor of action sports-inspired products targeted to the youth market. The Company’s primary product, HEELYS-wheeled footwear, is a line of dual-purpose sneakers that incorporate a removable wheel in the heel. HEELYS-wheeled footwear allows the user to seamlessly transition from walking or running to skating by shifting weight to the heel of the sneaker. During the year ended December 31, 2006, approximately 98% of HEELYS’ net sales were derived from the sale of its HEELYS-wheeled footwear. The Company, however, also offers a selection of HEELYS branded accessories, including protective gear such as helmets and wrist, elbow and knee guards, heel plugs, wheel bags and replacement wheels, and a limited variety of apparel items.

HEELYS current share price of $9.25 is in stark contrast to its public debut late last year when its shares received an enthusiastic welcome at $21. Heelys Inc.'s shares dropped to a then all-time low of $11.84 on August 8th, 2007 as a reduction in orders cast a cloud over sales for the remainder of the 2007 fiscal year. The shoe-maker forecast a dismal second half of the year due to over-inventoried U.S. accounts. It cited aggressive expectations and retail softness in footwear and apparel as explanation for the downward trend. The company's shares were trading down about 57.72 percent at $9.25 in morning trade on the NASDAQ, August 28, 2007. Robert W. Baird analyst, Mitch Kummetz, downgraded the stock to "neutral" from "outperform," adding that even if the company's sell-throughs were to improve before orders for spring 2008 came in, revenues for the first half of 2008 will likely be hurt due to cautious ordering. Bear Stearns analyst, Jennifer Childe, reports that retailers are hesitant to place additional orders in the face of already bloated inventories. Childe lowered her rating on the stock to "peer perform" from "outperform," but said management's guidance appears to reflect a "worse case scenario," with room for potential gains if back-to-school sales momentum continued. Bear Stearns was one of the underwriters for the company's initial public offering. At least three other brokers also downgraded their ratings.

Under Armour (UA), founded in 1996 by former University of Maryland football player Kevin Plank, is the originator of performance apparel - gear engineered to keep athletes cool, dry and light throughout the course of a game, practice or workout. The technology behind Under Armour's diverse product assortment for men, women and youth is complex, but the benefits are simple: for optimal performance wear HeatGear® when it's hot, ColdGear® when it's cold, and AllSeasonGear® between the extremes. Under Armour's mission is to "provide the world with technically advanced products engineered with their [our] superior fabric construction, exclusive moisture management, and proven innovation. Every Under Armour product is doing something for you; it's making you better...”

The sports apparel company is popular among more than just gym rats and teenage athletes. Short sellers, who try to make money by betting that the price of a company stock will fall, have made Under Armour one of the hottest stocks for short sales on Wall Street in recent months. In a Bloomberg News July 2007 ranking of companies with more than 10 percent of shares available for short trading, Under Armour ranked 25th among companies with the largest amount of short sales on the New York Stock Exchange. According to several analysts, it is not surprising that Under Armour’s stock is hot among short sellers. Since the company became publicly traded in November 2005, its stock price has prompted frequent Wall Street criticism. The company’s price to earnings ratio – the common Wall Street gauge in determining how expensive a stock is relative to its market value and earnings during the past year – is 78.16, according to Bloomberg statistics. In comparison, Nike, which dwarfs Under Armour, has a P/E ratio of 19.57. Under Armour has revenue of $467.32 million, while Nike $16.3 billion.

Many analysts have also wondered if the company can maintain a large enough growth in sales to justify its stock price. So far, the gamble that short sellers are taking has been stonewalled - by a large block of institutional investors who believe Under Armour stock will move even higher. Rather than falling, Under Armour stock has increased approximately 24.78 percent in 2007, and has achieved record highs during the past several months as investors push up demand for shares. Institutional investors, who are satisfied with the business fundamentals of the company are aware of its popularity among athletes and non-athletes alike, have been buying the stock and pushing up its price. The stock reached a record high of $67.10 after the company released second-quarter earnings July 31, 2007, and raised its financial outlook for the year. These diverging views have created a Wall Street money battle on which direction the stock will turn. Under Armour continues to receive praise and criticism as its stock price has fluctuated wildly during its two-years being publicly traded.

It is not surprising that these companies are being scrutinized. With the fall season almost upon them, sales from these two niche apparel makers will help determine who will survive to become a household staple and a stock market portfolio stalwart. Based on the analysis from Haye Capital Group, it is believed that unless HEELYS starts to diversify its product offerings they will go out of style like the zipper and metal studded leather jackets of the mid eighties. Under Armour has a more utilitarian purpose so for the time being it is the clear choice for both a lasting brand and stock portfolio pick. With its current product lines having a longer and better product life that is not just trendy but practical as well, Under Armour has a clear advantage. The key for both of these companies is to get the “niche” out of the perception of both their apparel and their stock if they are to be truly mainstream and lasting brands.