China not time to buy yet

China's sharemarket has been a perennial underperformer over the past two years. A number of investors are rightly asking whether now is the time to increase exposure to Chinese related growth? We believe there are enough signs to say not yet. One of these signs was an interesting article we came across on CNNgo, its was an announcement from a Chinese company looking to construct the world's largest building.

The company is Broad Group, a Chinese conglomerate whose main business is in air conditioning. The building will be known as Sky City, it will not only be the largest but the fastest built with plans to construct the building within a record period of 3 or 7 months (depending on translations and articles) using pre-fabricated materials. According to CNN Sky City at 838m will be 10m taller than the Burj Khalifa.

Source: CNNgo.com

I had never heard of the Broad Group before as it is a private company, but it has apprarently became a youtube hit with its construction videos. The video below is a time lapse of a 30 story building they constructed within 15 days. It is amazing to see the workers work through the day and the night.

Why does this concern us in the financial markets? Ironically announcements of the world’s largest buildings have tended to coincide with financial crisis. There is a great article in Forbes last year from Vikram Mansharamani. Basically the world's largest buildings precede crises as they are a symbol of easy money and unbridled optimism.

According to the table below it would seem that the world’s tallest buildings are more of a lagging indicator for crises. It cannot be said that there is easy money in China as the economy has been soft for the past couple of months. According to CNN the Sky City project is still pending approval from the central government, if it does not go ahead all this financial crisis talk will hopefully pass.

World's Tallest Skyscrapers and Related Busts

Building	Location (Completed)	Spire Height	Financial Crisis
Singer	New York (1908)	187 meters	Panic of 1907
Metropolitan Life	New York (1909)	247 meters	Panic of 1907
40 Wall Street	New York (1929)	283 meters	Great Depression
Chrysler	New York (1929)	319 meters	Great Depression
Empire State	New York (1931)	443 meters	Great Depression
World Trade Center	New York (1973)	526 meters	'70s Stagflation
Sears Tower	Chicago (1974)	527 meters	'70s Stagflation
Petronas Towers	Kuala Lumpur (1997)	452 meters	Asian Financial Crisis
Taipei 101	Taipei (2004)*	509 meters	Tech Bubble
Burj Dubai	Dubai (2008/9)**	828 meters	Global Credit Crunch

*Taipei 101 was financed and construction began in 1999, quite near the peak of the technology boom. **It is interesting to note that the uncompleted Burj Dubai tower was classified as the world's tallest structure on July 21, 2007, right around the peak of the U.S. market before the financial meltdown.

Source: Table sourced from http://www.forbes.com/2011/03/10/skyscrapers-burj-dubai-leadership-leaders-bubbles.html

At the end of the day nobody knows if China will have a financial crisis of their own. Considering we have just experienced a financial crisis in 2008 we would hope this is a less likely outcome with the recent 2008 experience seared into our memories. All we know is that there will eventually be a great opportunity to buy Chinese related stocks as the government finally loosens interest rates.  The major problem is that there has been only one rate cut and at Decisive we never look to buy the first rate cut.

A first rate cut, in our opinion is typically an opportunity to sell and not buy the related Chinese market rally as it suggests that economy is likely to weaken further. Interest rates tend to take a while for their benefits to trickle through the economy and we never know how bad things can get. In our opinion, it is much better to wait as interest rates are cut further and as we get greater visibility on the severity of the downturn.

In early June the Chinese central bank cut borrowing costs for the first time since 2008. While we are not sure of the possibilities of a Chinese related financial crisis, given it is the first reduction in rates we are much surer there will be a better time to gain exposure to Chinese equities. We will remain on the sidelines and await for better opportunities.

Jason Sedawie

http://www.decisiveassetmanagement.com/

The material in this article is for informational purposes only and in no way constitutes a solicitation of business or investment advice. The material has been prepared without regard to any client's or other person's investment objectives. Before making an investment decision you should consider the assistance of a financial adviser and whether any investment or service is appropriate in light of your particular investment needs.



Discovery Communciations Content is King

The disruptive power of the internet can make or break an industry, a prime example being video. Blockbuster filed for bankruptcy in 2010 while internet content distributors such as Netflix and Amazon have attained multi-billion dollar market capitalisations. The internet has provided these companies with a new avenue for distribution increasing the competition for the best content.  This is exciting news if you are a content provider. One of the only listed pure play content providers is Discovery communications (DISCA). DISCA operates in more than 200 countries with over 1.7 billion subscribers around the world and more importantly owns all their content with a 27 year library. Discovery is better known as the producer of shows such as Dirty Jobs, Mythbusters, Gold Rush, Man vs Wild and Deadliest Catch.

Source: 10K

Another industry improvement has been the availability of products which can properly view and stream content. Television used to be just in the home but thanks to gadgets like the iPhone consumers now have televisions in their pocket. The advent of the internet is similar to the rise of the television decades ago for film producers, there were initial concerns over cannabilisation but it actually opened up an additional audience to whom they could sell their products. Half of DISCAs profits are affiliate revenues (shared subscription fees with cable operators) and the other half advertising so the larger the audience the better. According to Neilson, the average American spends 146 hours a month watching traditional television.  With the internet and great products like iPhone and iPads the time available to watch favourite content has increased. This has lead to extra revenue to DISCA with very little costs.

DISCA recognised $50m in revenue this quarter from online distributors Amazon and Netflix. DISCA sells content over 18 months olds (average 2-3 years old) to digital distributors generating significant value from their old content.  This differentiation of new content from old is important as it does not cannibalise the value cable viewers receive in paying for the most recent content, creating a win-win scenario for investors.  Neilson has also announced that it is looking to track online video consumption for advertising purposes at the end of the year. In addition DISCAs affiliate deals with the cable companies come up for renegotiation over the next few years with the bigger renewals occurring in 2014, given the ratings success investors can look forward to increases in subscriber fees.

DISCA main problem has been its joint venture with Oprah which contributed a loss last quarter. The network started out strong however audiences eventually became confused with the absence of Oprah and Oprah like shows that did not embody her values and beliefs.  Oprah is now totally focused taking on the CEO and chief creative officer roles. She has made public comments that she will not be campaigning for Obama in his re-election campaign as she is preoccupied with turning around the network. This is a massive change from when she gave Obama her first ever political endorsement in 2007.

DISCA documentaries are highly profitable, they are not like a movie business where hundreds of millions of dollars are spent for an uncertain return. They typically involve following around entertaining people and educating viewers. The shows tend to be culturally neutral, maintain relevance for an extended period of time and translate well internationally with half of content produced shown overseas.  

There are plenty of opportunities to grow internationally as viewers and advertising dollars move to cable from broadcast, similar to the US experience. For example in the last quarter DISCA added 766,000 subscribers in Brazil, more subscribers than the US has added in 3 years.

In summary, we believe this environment has created one of the best times to ever be a content provider. The internet and the addition of products that can efficiently stream and show content has increased the competition for the best content and increased the amount of time available for viewing. In our opinion investors need to channel Bear Grylls from Man vs Wild to survive this uncertain market, holding DISCA might just help.

Source: http://www.fanpop.com/spots/man-vs-wild/images/542551/title/bear-grylls-photo

http://www.decisiveassetmanagement.com/

Disclosure: Decisive is long DISCA

The material in this article is for informational purposes only and in no way constitutes a solicitation of business or investment advice. The material has been prepared without regard to any client's or other person's investment objectives. Before making an investment decision you should consider the assistance of a financial adviser and whether any investment or service is appropriate in light of your particular investment needs.

Apple vs Google

Earlier this week Apple (AAPL) held its 23rd annual worldwide developer’s conference.

The conference demonstrated the differing approach AAPL has towards it software (iOS) compared to competitors such as Google (GOOG).  The main difference being that AAPL partners with the best content providers, while GOOG with Android and Google+ seem to prefer their own services in competition with everyone, a very different approach. At the conference AAPL announced partnerships in social with Facebook, reviews with YELP and OpenTable for restaurant reservations. AAPL has integrated these services within iOS, seeking to provide the best overall experience for users. We cannot imagine GOOG teaming up with Facebook!

On show was the fierce rivalry between AAPL and GOOG with the announcement of the widely rumoured AAPL mapping system, the upgrade to Siri (voice search/personal assistant) and the social partnerships mentioned above. Siri will be introduced to the iPad, it has also been updated with more languages such as Mandarin and Cantonese. In addition, Siri has knowledge of sports, movies and restaurant reviews from partners such as Yelp. This is bad news for GOOG as Siri totally bypasses GOOG search, putting GOOGs core business at future risk.

The most interesting disclosure was the number of accounts in the AAPL App store. Quoting Tim Cook “we now have over 400 million accounts on the App Store. These are 400 million accounts with credit cards and one click buying, so it’s simple and elegant to buy your apps. This is the store with the largest number of accounts with credit cards anywhere on the Internet that we’re aware of. And thanks to you, we have over 650,000 apps in that store, and 225,000 of these apps have been specifically designed for iPad to take advantage of the large beautiful canvas. This compares to just a few hundred for our competition.”

Check out the developers webcast at

http://events.apple.com.edgesuite.net/126pihbedvcoihbefvbhjkbvsefbg/event/index.html

GOOG has not released any account numbers but this 400 million number dwarfs Paypal with 110 million active user accounts and Amazon with approximately 170 million. Making it easier to pay for applications creates a virtuous cycle for the developers as they are more likely to be paid for their efforts, with the money received going to creating better applications thereby attracting more and more customers.

In summary, AAPL and GOOG differ in their philosophy to partnerships and competition, this has resulted in very different products. AAPL is focused on partnering with the best service/content providers with the aim of achieving the best user experience. While GOOGs do everything approach to content and services results in an inferior experience for its android users, this is becoming more and more apparent to consumers every day. A product is only as good as the services and content it provides. Stay long AAPL and stay away from GOOG.

http://www.decisiveassetmanagement.com/

Disclosure: Decisive is long AAPL

The material in this article is for informational purposes only and in no way constitutes a solicitation of business or investment advice. The material has been prepared without regard to any client's or other person's investment objectives. Before making an investment decision you should consider the assistance of a financial adviser and whether any investment or service is appropriate in light of your particular investment needs.

Facebook personalising the web

At Decisive we invest in companies with a combination of great management and growth potential. Facebook (FB) with 901 million monthly active users and 3.2 billion likes and comments per day fits both these criteria. FB has plenty of revenue growth potential, it earns only $5 per user compared to Google’s (GOOG) $30 average revenue per user. However, in our opinion the most exciting element is not advertising but in the ability to make applications (apps) and the internet more tailored and personalised.

There are more than seven million apps and websites integrated with FB as of December 31st 2011. FB can improve the user experience by making everything more personal and social, as every product or experience seems to be better off with friends. Apps and the internet assume a general one size fits all approach is best for users, given the amount of information on the internet this is not very helpful.  Personalised webpages and apps would save much time and effort and would be very valuable to all internet users, app developers and companies.

FB has big plans to personalise the internet.  In late May FB quietly announced on their blog a partnership with Bing to bring more social features to search. This partnership makes sense as we typically get input from friends in making decisions.  The search engine combines FB friend likes over the web to provide personalised search results for users.  This personalisation also extends to company internet sites. FB disclosed an example in their S1 registration statement. A FB user can visit Pandora (free internet radio) and with input from FB listen to personalised music from bands users have liked on FB.

A further example is FBs own app centre. The centre recommends apps based on user interests and apps they and their friends have liked. It will send users to other stores such as Apple’s to download apps and will enable users to “like” iTunes music, TVs and movies. This centre is designed to grow the use of FB mobile apps and gives developers the optionality to monetise through in-app purchases or paid apps. This should offset mobile advertising concerns and showcases the potential FB has to monetise mobile, check out http://www.facebook.com/appcenter.

FB has the further opportunity to personalise not only the internet but products like the iPhone as well. FB will be integrated into Apples new operating system with a single sign in across all FB enabled apps. It also extends to FB birthdays, events and phone numbers which will appear in the phones calendar and contacts. There are no excuses if you forget a friend’s birthday now!

FBs CEO Mark Zuckerberg is young but comes with great credentials. The late Steve Jobs admired Zuckerburg the most in the Valley for not selling out and wanting to create a lasting company, a pretty good reference in our opinion. Mark seems more interested in building great products, focusing on the user experience rather than just making money. These are characteristics which not enough CEO’s seem to show these days.

During the FB roadshow, we were impressed by comments made by the CFO. He commentated about how happy they were internally with their margins as they are in the heavy investment stage of their business, building the foundations for long term success. At 20%+ profit margins would like to see what the margins would be after the heavy investment stage is over!

A FB article cannot go by without a comment on the debacle that was the IPO. The only good thing about the process was it got Europe out of the headlines for a week! The table below compares FB to GOOG at the time of their respective filings.

	Facebook	Google
Amount Raised	$16 billion	$1.6 billion
Market capitalisation @ IPO price	$104 billion	$23 billion
% of insider selling	57%	30%
Year founded to listing	2004-2012, 8 years	1998-2004, 6 years
Profit prior year to IPO	$1 billion	$105.6 million

What stands out is the size of FB vs GOOG at time of IPO, but also the amount of insider selling which is nearly double that of GOOG. What is more interesting is prior to filing, FB quarterly EPS declined year on year while GOOG was still doubling. (Note GOOG is 6 months ended  vs FB 3 months ended, see table below.) Suffice to say the FB metrics are not as favourable. While FB has tremendous growth opportunities and at the right price will provide a good return for investors, its unlikely to see a similar six-fold return in three years like GOOG. It was amazing re-reading GOOG S1 registration statement in 2003, their largest customer was America Online (remember them) they accounted for approximately 16% of revenues!

		FB		GOOG
In millions	Three Months ended March 31				Six months ended June 30
	2011	2012	% pcp		2003	2004	% pcp
Revenues	731	1,058	44.7%		560	1,352	141.5%
Net income (loss)	233	205	-12.0%		58	143	146.7%
Net income (loss) per share:
Basic	0.12	0.10	-16.7%		0.44	0.93	111.4%
Diluted	0.11	0.09	-18.2%		0.23	0.54	134.8%

Source: S1 registration documents

One thing that has always struck me about GOOG is that users are searching for some product or interest, therefore any advertising was relevant and useful rather than intrusive. While FB has the benefits of more accurate audience targeting, there is the question of effectiveness. FB users are there to interact with friends and not search for a particular product or interest. This is further compounded by the increasing use of mobile. FB does not generate any meaningful revenue from use of mobile and was a major factor in year on year earnings declining. This is an issue but with FB integrating social features into apps this could change. Offering users more personalised experiences and products should in our opinion increase the future effectiveness of FB advertising.

FB advertising revenues are nowhere near GOOG $30 average revenue per user (ARPU). FB $5 ARPU has plenty of upside optionality as FB has not syndicated its ads across other websites.  This would be similar to GOOGs Adsense network. Adsense enables partner websites to deliver GOOG ads relevant to their websites content. As of 31 December 2011 this drove advertising traffic to GOOG and was 28.4% of their revenue as of 31 December 2011.

Assuming in a couple of years FB can close half the $30 gap to $15 revenue per user, assuming 1 billion users and assuming a conservative GOOG Market Capitalisation/ 12 month forward revenue multiple of 4.5x would equal a $67.5 billion market cap or $25 per share (using approx share count of 2,700 including options). FB may have burned a lot of investors, but potential investors should not make the mistake of ignoring the optionality FB has to monetise its large user base. As the stock tumbles, a price below $25 should get a few a more likes by investors.

http://www.decisiveassetmanagement.com/

Disclosure: Decisive has no position in FB

The material in this article is for informational purposes only and in no way constitutes a solicitation of business or investment advice. The material has been prepared without regard to any client's or other person's investment objectives. Before making an investment decision you should consider the assistance of a financial adviser and whether any investment or service is appropriate in light of your particular investment needs.

Starbucks keeps on delivering

Starbucks (SBUX) is one of the most recognised brands in the world. It is the one and only truly global retail coffee company. The retail and restaurant industries they operate in are extremely competitive. These industries have low barriers to entry and tend to have strong number 2 competitors. There are plenty of examples in burgers with McDonalds and Burger King, pizza with Domino’s and Pizza Hut, donuts with Krispy Kreme and Dunkin Donuts. However in coffee there is no one else who comes close.

SBUX was successful as it developed a brand which stood for more than just coffee, what SBUX would term a “third place”. SBUX became a place where customers could relax in-between pressures from home and work. Management early on realised that to accomplish this goal their competitive advantage had to be their employees. As a private company SBUX offered part time workers health care benefits and distributed stock options to staff. They empowered their employees to become partners in business. The CEO Howard Schultz granted stock options to every level of staff, at the time all 700 employees. These initiatives reduced employee turnover and more importantly gave SBUX a more local feel as the baristas acted more like owners than employees.

SBUX has proven itself to be a great business. It is the dominant coffee chain in America and operates 17,000 stores in 55 countries. Amazingly it still has plans for growth with two key initiatives. The first is SBUX international store rollout. SBUX international store count (see chart below) pales in comparison to industry peers such as McDonalds and Yum Brands (YUM). SBUX currently has 500 stores in China with plans to have 1,500 stores open by 2015. Just this year they announced plans to open their first store in India.

Source: Company 10K

At their 2010 investor conference SBUX disclosed that its US operations have 36 stores per active million customers.  YUM, the owners of KFC and Pizza Hut in China have 12.2 stores per million customers in China. While SBUX only has 0.7 stores per million in China. SBUX is dominant in the US but globally serves just 1 in 100 cups of coffees.

The second growth initiative is in coffee away from stores. In America SBUX currently serves only 1 in 7 cups away from home and 1 in 25 at home cups of coffee. Offering consumer products such as single cup brewers allows customers to enjoy the SBUX experience outside of the company store base.  According to Schultz this division may one day rival the profitability of the retail business. A big statement considering sales of packaged coffee and tea comprised 7% of 2011 revenues.

SBUX is a very innovative company, they were early to digital and have one of the most liked brands on Facebook. They also enabled mobile payments early last year. Mobile payment use has increased ten fold from 2011 to 2012. It has generated more than 45 million payment transactions in the last 14 months, the largest for North American retailers. This has generated savings in credit card charges and has helped improve customer service times. There is also potential upside with the acquisition of Evolution Fresh and La Boulange Bakery. SBUX intends to be the leader in the juice and bakery markets, just like they have become the leaders in the coffee market.

SBUX has a lot more flexibility than other chains as they own and do not franchise their stores. This flexibility gives SBUX the opportunity to sell their branded consumer products through other channels. This ability combined with the overseas roll out opportunity, suggests this growth story seems set to keep on delivering.

http://www.decisiveassetmanagement.com/

Disclosure: Decisive is long SBUX

The material in this article is for informational purposes only and in no way constitutes a solicitation of business or investment advice. The material has been prepared without regard to any client's or other person's investment objectives. Before making an investment decision you should consider the assistance of a financial adviser and whether any investment or service is appropriate in light of your particular investment needs.