How Did This Happen? (The Collapse of the Stock Market, Part 2)
Posted Mon Mar 19 12:56:33 2001 by steveg |
By Steve Gilliard
(Note: this is Part II of this week's multipart series on the collapse of the stock market and its effect on IT.)
The IPO boom
The stock which created the IPO frenzy was Netscape. It exploded on
its first day and then everyone from the institutional traders to the
man in the street focused on tech stock ipo's. Short term value
dominated the day. Get rich (on paper) quick.
There is a simple rule: markets are cyclical. This is a rule which
does not change because the businesses have changed. Nor because some
slick wall streeters say it has. Or some business hagiographer pushes a
"Long Boom". Even in a growing economy, which this is, there will be a
down cycle. It is natural.
The dotcoms which were financed largely by venture funds, escaped
the kind of basic due diligence that most companies would have been
subjected to. In the real world, a company headed by people convicted
of financial crimes would have a heavy burden to meet. One report
suggested that nearly 40 percent of dotcom CEO's had some kind of
criminal conviction in their past. Speculation drove much of what
happened in the dotcom business. But it also affected more stable IT
companies. Cisco, Microsoft, Oracle, Dell also had an explosion in
stock prices, reaching 52 week highs which placed them at the top of
the heap.
The problem is that the dotcom economy was based on some seriously fragile assumptions about growth and consumer habits.
Assumption one: Broadband
Everyone assumed that broadband would grow much faster than it had
in the last decade. ISDN was a debacle for the telcos, and DSL is
barely any better. The rollout is slow, service often poor and it's
expensive. People may want DSL, but in many cases, they can't get it.
When they can, it can take weeks to get installed.
But there is another assumption underlying this which was flawed.
Broadband makes for a faster, but not better experience. It doesn't
improve the programming or make it any more tasteful. Icebox on
broadband still delivered a cartoon with a kid pimp and a whore named
chickenhead. It still had Mr. Wong. Pseudo still had Tanya TV and Star
Freaky. In short, the crappy, offensive, juvenile programming that
dominated on many of these sites would just be moving faster.
Broadband can't make better content. Flash pages will still crash,
bad programming will still be bad. Would broadband be better than dial
up? Sure, if you want to download MP3's on Gnutella. But many of the
content companies had far greater problems than speed.
Assumption two: e-commerce
Owning a store is owning a store. Online or off, it doesn't matter
much. The only difference is that an online only store costs a lot more
to run. Instead of delivering 10,000 shirts to the Modell's warehouse,
you have to deliver one shirt to 10,000 consumers. Which is labor
intensive. Not that many of these companies thought about this.
There is one exemption to this rule, books and music. Most book
stores only get a few hundred copies of a single book, some as few as
five. There is a system designed to deliver limited copies of books to
anyone, from bookstores to readers. So why has Amazon run up so much
debt? Because they wanted to sell large items the same way they sell
books. That is the kind of management error which makes absolutely zero
sense. Books, records and to a lesser extent VHS/DVD movies can be sold
in small lots to end users and be profitable. Which Amazon is in these
areas.
Their debt exploded when they tried to do more than sell books.
Lawn chairs and rakes are best left to the world of Home Depot and
Lowe's. The shipping costs alone are killers.
Most e-commerce companies were trying to make their way in the face
of entrenched consumer preferences. Toy stores exist for kids to
explore. People pick their own fruit for a reason. It is biological,
developed over millennia of human experience. Webvan wasn't going to
change that.
Many of the assumptions of e-commerce companies were based less in
reality than in the belief that they could do things that bore no
semblance to proven human conduct.
The short boom
If you were to ask people what was the most successful IPO of the last few years, only a few people would get that answer right:
Krispy Kreme
Why?
Let's examine Krispy Kreme for a moment and you will understand how the company thrived while others failed badly.
KK is a regional brand of donut. Established in 1938, the company
is now located across the South, Midwest and in California and New
York. The company has established a steady expansion plan into various
metropolitan areas. Only New England, home of a Dunkin Donuts every 10
blocks, so ubiquitous that three year olds know the brand, has not been
penetrated by the company.
How did Krispy Kreme build brand recognition and loyalty? By
building on site donut factories. Most KK's make their donuts fresh
during the day. A hot KK glazed donut has become a cult item. With no
national advertising or marketing plan, the company benefited from free
press and word of mouth. The green, red and white of Krispy Kreme has
become a cult in areas where it was established. Everyone from Bill
Clinton to Hollywood actors rave about the donuts, usually unprompted
by anything.
In the New York area, the company has taken advantage of several
problems which befell the Dunkin Donuts franchise holders, including
rats in a few small retailers. A larger dispute over pricing, which has
led to the closing of many Dunkin Donuts franchises, has made it easier
for the company to attract users.
But what has made Krispy Kreme succeed while dotcoms failed?
Planned growth: The company expanded into the Northeast over a period of years.
Limited marketing: Instead of spending money on capturing users,
they relied on the uniqueness of their product, hot donuts on demand,
to help capture attention. They knew word of mouth would follow.
Advertising by customer: their main ad campaigns are not print, but
user-based. You can get 100 donuts to sell for a bake sale at a
discount, you can bring them into your office as well. Why sell ads
when you can push the product directly to the user. They'll sell coffee
to go along with that.
Retail sales: Krispy Kreme donuts are sold to supermarkets under
the brand name in their own display cases, another form of advertising
and a way to introduce the product to the wider community.
By doing this, and allowing the customer to see the product being
made-their stores have an open production setting in most places-they
created not only a "need" for their product, but awareness while making
money. It's not a written off cost.
Who pays
The problem is that the investment in the market has changed in the
last 10 years. Once, stock market investments were a marginal part of
the economy. Most people invested in their home, a savings account and
a few savings bonds. But at the end of the 1980's, pensions began to be
replaced with 401K's, which would allow individual investors to pick
between a range of funds. Which during a bull market is a wonderful
thing. With a bear market, this is far less attractive.
What the problem is for most workers is that most of them are
completely unequipped to do this. Playing the market is complicated and
the rules involving 401K's are complicated. So there is plenty of room
for the investor to get smoked in the process.
With so many people so deeply in the market, the dip in stock
prices has been a serious drain on their economic resources. You lose
the money there, it is probably gone forever. This history of the
market is that it may take years, if ever, to recover their value.
While the boom was going on, there was some suggestion that social
security be invested in the market, which was a bad idea on many
levels, the most obvious one being that the feds would now take a
direct role in running companies. Pension funds exert a powerful
influence on companies now, despite their diminished role for
individuals. This would have placed the feds in an insane level of
influence in the success or failure of specific companies which don't
make guns or airplanes.
The problem is that most investors are not used to the kind of
maintenance that is needed to make sure that their investments are
making a profit over time. Without that needed skill, people face long
term economic damage, far worse than credit card debt or two mortgages.
Their future is evaporating with no assurance of recovery.
Part III
Mom and dad lose their shirts while Henry and Mary become famous
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Name: Carl Guderian
Email: carlg@vermilion-sands.com
Date: Mon Mar 26 14:09:59 2001
Comment:
I went through a dozen and a half last week when I was back home in
Houston. They do have a better aftertaste than Shipley's glazed, but
only barely. If anyone had placed me exactly between one of each I'd be
there still. I was lucky to have lived in DC before KK went national,
and downright ecstatic that they expanded to Texas.
Nobody sits on the right hand of Jesus (or right tentacle of
Cthulhu, take your pick), because that's where He (or It) keeps the
everlasting bowl of Krispy Kremes.
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Name: bob
Email: pale_13@usa.net
Date: Thu Mar 22 10:21:05 2001
Comment:
I grew up in NC (where KK is based) and think they are about as close
to heaven as you can get with your clothes on. It wasn't uncommon for
the cops to hit their blue lights to get through an intersection if
they saw the "Hot donuts NOW!" sign on.
You just have to get them hot, but then a dozen disappear so quickly...
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Name:
Email:
Date: Wed Mar 21 19:50:04 2001
Comment: The other thing about Krisp Kremes is that they tend to taste better than most other donuts, They do not have an aftertaste
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Name: beammeup
Email: no@intelligentlife.net
Date: Tue Mar 20 08:20:00 2001
Comment:
I keep opining that the investment banking syndicates underwrote the
issuance of stock in a way which was considerably more fast and loose
than they did traditionally. They did this possibly because there was a
need to test the business models, to test the infrastructure, to test
the products, to feel what the actual effect of IT and it's related
products and services would be in the real world, where the mom and
pops had their computer at home or at their small business and were
actually considering using the net to buy stuff. . . they knew that
people would buy in, given greed and ready cash from easy credit. . . a
lot cheaper than real increases in pay. . .
They knew that something like this could and would happen, they got
what they wanted, though, knowledge as well as a more widespread
adpotion of the technology by the public. . .
The comfort level of the public with the technologies is now such
that they have a starting point. . . depending, of course, on whether
there can be products and services of real value offered to the general
public.
I guess that this means that, while we may be having problems now,
the overall economic picture will remain cyclic and difficult to
predict from the individual investor point of view. The institutional
investors, being much better armed with TIMELY information can make
much better decisions over the long run.
then again, maybe I'm full of shit. . .
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Name: vlad
Email: b_vlad@telus.net
Date: Mon Mar 19 21:57:18 2001
Comment:
Fortunately (or otherwise :), I've had a chance to work for a start-up
dot-com company right after my first year of CS at a local technical
university.
Although I wasn't much into the business aspect of the running of
the company (I worked as the only systems programmer), I should admit
that had our company started its 'business' just a year ago, we could
have gained significant amounts of (including myself, of course, as I
was entitled for the lucrative stock-options).
As I see it now, the whole problem wasn't as much connected to our
dot.com's business plan (although, I may not fully denie its biases) as
to the market and the growing scare in the IT sector. Our company dealt
with web-enabled communications such as the Live Person technology.
However, to introduce a streak of uniqueness (and hence value), we
featured things like business branding (with the help of our
product...) through personalized product feature forms for e-tailers
and alike. The interesting factor to note was that many VCs that we had
a chance (myself too) talk to were quite excited (or so it seemed) over
the product.... however, noone was ever willing to give us a buck.
We also had some management problems. .. but that's a long story.
Anyhow, I had spent around 6-7 months which helped me through for
some time before I was hired to work for a bigger and stable company.
cheers,
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Name: Bill Volk
Email: bvolk@youworkit.com
Date: Mon Mar 19 18:43:27 2001
Comment: VC's created a 'product'...
Angel investors funded deals that the VC's would buy... VC's would fund deals they could flip into a IPO.
It had little to do with fundamentals. The "Greater Fool" theory
worked as long as there was a fool up the chain to invest or buy shares
in the company.
As a biz-dev guy told me this morning...
"You almost HAD to play the game."
Plenty of people got rich while the bubble was still growing. I
worked 5 years for a educational startup that IPO'ed in Feb. 2000 ... 4
or 5 months earlier and I'd been rich.
The real culprits were the finanical pundents who would tell people that these companies were crap.
I also have no sympathy for the doomed CEO's who assumed additional
finanicing ... but I understand how their VC boards may have pushed
them to "spend according to plan" to sell to the next round of suckers.
I turned down deals just for this reason.
Bill Volk
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Name: Leif Quakeman
Email:
Date: Mon Mar 19 15:28:18 2001
Comment: >So why has Amazon run up so much debt? Because they wanted to sell large items the same way they sell books.
I presume that what you mean by "large" is big-ticket items. But my
understanding is that Amazon was driven to sell "more" items - not
larger-ticket ones. Their problem was in the "last hundred miles" of
the fulfillment chain - between the distro center and the home.
If you buy one item from Amazon, they lose money, because they make
no profit after delivery costs are factored in. But if you buy two - or
maybe three items, they win - by a few pennies, anyway. So Amazon's
strategy has been to broaden the line, introduce personalization
features that will introduce "related items", etc - so that people will
buy more than one item at a time.
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