Anil's Raves & Rants

Broadband Slowing Down?

2007-08-13T15:44:00.000-07:00

A recent article in WSJ (link) highlights the deceleration in broadband growth:

The broadband deceleration comes after years of being on fire with growth. More than 50% of households in the U.S., or about 56 million homes, currently subscribe to a high-speed Internet service. An additional 21 million or so households have dial-up connections.

With more than half the population yet to be turned into broadband subscribers, its a bit surprising that we're already sounding the alarm bells about broadband adoption levelling off!

I remember reading somewhere: Cellular networks have a number of devices but not enough applications. Broadband services have enough applications but not as many devices.

Having more dedicated devices (infotaintment devices, broadband based gaming devices that don't need a TV screen), and services (seamless backup) that depend on a broadband is likely to increase broadband adoption. For instance, I know people routinely read news and other stuff on their phones, in places at home where they can't or don't want to take a laptop. I also worry we may end up with health issues - such as vision problems due to constantly looking at small screens. (See a recent report on the economic impact of vision problems.)

Wouldn't it be nice to have slightly bigger devices (without keyboards, cheaper than laptops, maybe dedicated devices to serve various niches) that are more "portable," robust and have better power management than laptops?

Maybe, instead of going after each other's customers and focusing on price competition, the big telecoms need to take a page out of cellular operator land and subsidize the initial cost of a device and provide value added services.

iPhone BOM

2007-07-20T00:00:00.000-07:00

Thought I'd throw this picture in a blog entry as a handy reminder for iPhone direct material (DM) costs.
From iSuppli:

Are we being lemmings or is video on the mobile phone really hot?

2007-07-18T23:59:00.000-07:00

WSJ covers (may require subscription) mobile video startups: MyWaves, Cellfish LLC and 3Guppies (what kind of a name is that?!):

So, what is the thesis here? Are we being lemmings* by chasing mobile video?

Personally, I am not very optimistic in the short run about broadcast or streamed video, at least not in the US. I'm more optimistic, however, about short video segments or mobisodes (user generated or premium). However, I would question the market size for something like this (especially given device fragmentation issues) as well as the willingness-to-pay for video. The standard answer applies here: ad supported business model!! It might work for video. The Telephia survey points to higher recall rates for ads inserted into mobile video clips.

Here's a quick sampling of research and thinking on mobile video:

WSJ is not very optimistic:

But still the services haven't caught on. Of the nearly seven million users who watch mobile video or TV from their phones every month, the vast majority watch clips sent to them from family or friends, rather than video prepackaged by a carrier, according to research firm M:Metrics Inc. Overall just 3.6% of U.S. cellphone users subscribed to a mobile video service in the first quarter of 2007, up from 1.6% in the year-earlier period, according to market researcher Telephia Inc.

Quite interestingly, Telephia in its own press release puts a very positive spin on it, although the focus is on revenue and subscriber growth, not so much on the growth in the penetration of subscribers who use video, which is what WSJ focuses on.

After another quarter of impressive subscriber growth, mobile video is rapidly becoming a significant new media distribution platform. According to Telephia, the world's largest provider of syndicated consumer research to the telecom and mobile media markets, mobile video revenues in the U.S. totaled $146 million in Q1 2007, growing 198 percent year-over-year (see Table 1). There were 8.4 million mobile video subscribers last quarter with penetration doubling to nearly four percent since Q1 2006.

M:Metrics appears quite bullish about video in 2005:

"The fact the more people intend to watch mobile video than the number who are downloading games today is very encouraging for this market"

But, points to slower take up in 2007:

In-Stat points to complexities that are holding back the growth in video:

While Mobile Video Services are a hot topic with great potential, the market is very complicated, and will take quite a few more years to completely sort itself out, reports In-Stat.

Another cautionary note (on Mobile TV) from Analysys.

Michael Mace has an excellent post taking a hard look at the realities of mobile video. The most disturbing part of his post (by his own admission) is the economics of delivering video:

Tilson of Case Western quoted some very sobering statistics on the economics of mobile video. He said one megabyte of data delivered as SMS messages yields £268 of revenue to an operator in the UK. That same megabyte delivered as video yields 20 pence of revenue, roughly 1/1000 the revenue. Of course, a single user of video is much more likely to consume a meg of data than is an SMS user, so the billing per user might still be fairly good. But video quickly exceeds the capacity of a typical 3G data network. He said no more than six viewers per cell can watch video at one time, and if 40% of users on a typical 3G system watched six minutes of video a day, they would saturate the entire network.

Be sure to read the comments down there - there are some optimists cheering for DVB-H.

All that said, it would be nice to look at some data on how many use YouTube Mobile, especially given that the iPhone comes with a YouTube player.

____________________
*Lemming: A short-tailed, furry rodent known for its peculiar habit of committing mass suicide by hurling itself -- along with hundreds of over Lemmings -- over steep cliffs and into the ocean.

*A reference from another WSJ article: "I don't want to use the word 'lemmings,' " says Scott Bonham, a partner with Granite Global Ventures. "But it's sort of like five-year-old kids playing soccer: They all swarm around the ball."

From Down Under: mobile phones becoming indispensable

2007-07-16T20:44:00.000-07:00

Just as I get depressed about the seeming lack of stellar exits in the mobile space, I run into this survey, for some temporary cheers:

-More than 90 per cent say their lives could not "proceed as normal" if they were suddenly without one.

-The typical mobile phone user makes calls "relatively infrequently", and 28 per cent make less than one call per day.

-Workers with mobile phones say the device increases their workload and also boosts their productivity.

-Among 14-17 year-olds, only 12 per cent do not regularly use a mobile phone while of those aged 18-39, 94 per cent are regular users.

-Most calls are made between partners, with women also more likely to call their children, parents and extended family. Men are more likely to make work-related calls.

-Ten per cent of mobile phone users said they don't switch off in cinemas, and half don't in restaurants.

Yep, the social impact is huge. But does that translate to profits?

How much longer are we going to sing the same old story:

Huge opportunity as we connect the next billion (Ex: Handset penetration rate in India - about 15%). Anyone know how forthcoming the next billion are to pay for mobile applications/services? ;-)
Voice revenues are going down. Data revenues are going up. 3G deployments and usage is on the uptake. But... what's the killer app that will fill the pipe?
Users are getting younger, which means its time to beat the social networking/user generated content drum... what invariably follows this line of thinking is the fact there are many social networks and hence the proverbial long tail.

Its a fragmented world indeed - carriers, consumer types and preferences, handset types (screen sizes, input methods, software platforms) etc. The big players with deep pockets and scale economies are critical to this space, although the walled garden approach they have adopted thus far stifles innovation and hurts the end-consumer.

Frontline Wireless and some celebrated VCs are trying the revolutionary approach - building out an open network. (A recent Red Herring article on that topic.)

In the meantime it remains to be seen how mobile applications can be used to monetize the billions who are addicted to the lifestyle impact of the mobile device.

Thinking about investing in a startup? Screw direct to consumer and go B2B!

2007-07-16T19:31:00.000-07:00

Mobile seems to have all the characteristics required of a typical VC investment - large and growing addressable market, favorable demographics, fragmented space, early in terms of user experience etc. You would think its a hot and sexy sector to invest in... Truth be told, it is unclear. There isn't a great deal of evidence on big exits, relative to the amount of VC dollars that have been poured into each teeny weeny mobile application/usecase. The few exits that come to mind: SavaJe, AppForge, VoiceSignal, ScreenTonic, ThirdScreenMedia and Tellme.

As I grapple with trying to figure out what type of investments make sense in the mobile value chain - platform companies vs consumer apps vs infrastructure providers vs technology enablers, I've always wondered if there's an accessible source on the debate amongst VCs on the return potential boring investments versus flashy investments.

The WSJ article today seems to have sparked off a debate by highlighting a handful of recent B2B IPOs:

The profits generated by the dozens of stock debuts of these work-horse, business-focused equipment companies dwarf the venture returns of the handful of recent consumer deals, such as Google Inc.'s $1.7 billion purchase of YouTube.com, which had been backed by just one venture-capital firm. Indeed, of the 79 technology IPOs in the U.S. since January 2006, only a handful involved companies directly serving consumers. One was troubled Internet-phone company Vonage Holdings Corp.; its stock has plummeted in the past year amid heightened competition and a patent dispute with Verizon Communications Inc.

VC blogger Ed Sim seems to think modest exits are just fine as long as the investment is in a "capital efficient" company. On the surface it seems logical. I did attend a panel discussion where a similar case was made by Ann Winblad about SaaS investments. Mark Sherman sums up his investment case for SaaS.

Would be nice to see some data on exits (IPO, M&A) to support the "capital efficiency" argument for direct-to-consumer (eg social networking, social shopping etc) startups.

Mobile Computing & Single Mobile Females

2007-06-27T14:01:00.000-07:00

Couple of very interesting anthropological studies on mobile phone usage.

Importance of mobile phones in a single woman's social life. Would be great to see this survey extended beyond the US and into some of the emerging economies. Some excerpts:

78 percent of females surveyed prefer to give their cell phone number to someone they are attracted to.
Cell Phone Replaces the Little Black Book. More than two-thirds of women (73%) of women have ditched traditional, paper address books for their cell phones to keep track of contacts.
Average number of cell phone contacts: 63
What's in Your Pocket? Almost one-third of respondents said they can tell a good amount about a person by the type of cell phone they have (32%).
12 percent of females surveyed said that they would be less likely to date someone if they had a big and bulky cell phone.
Who needs a watch? Nearly three-quarters of females surveyed look at their cell phone, rather than their watch, to get the time (74%).

Further evidence that points to use-case distinction between men and women. Women use camera, messaging and games, while men are more preoccupied with e-mail and the internet. Also, women gab just as much as men do!

About time we saw a Gucci device with a serious camera and some social networking goodies in there!!

India and its Ironies

2007-05-08T15:48:00.000-07:00

Several entrepreneurs I have talked to have felt its hard to have a team in India. Some of the reasons were: the time difference and the cost of managing the associated overhead, cultural mismatch in terms of incentives (in the valley people understand stock options, but in India cash is king), not enough tribal knowledge in the country's knowledge centers (Bangalore, Pune etc) on how to run a capital efficient small business.

I hadn't however heard of companies bailing out of India. Not until now. Read the post from Munjal Shah. The main issue appears to be steep increase in wage expectations.

Bangalore wages have just been growing like crazy. To give you an example, there is an employee of ours who took the first 5 years of his career to get from 1% to 10% of his equivalent US counterpart. He then jumped from 10% to 20% of his US counterpart in the next 1 year. During his time with us (less than 2 years) he jumped to 55% of the US wage. In the next few months we would have had to move him to 75% just to “keep him at market.”

If its not wage inflation, its the infrastructure. Andrew Leonard of Salon highlights the irony in Nokia manufacturing cellphones that have a flashlight feature:

The spread of cellphones in India is a data point indicating how new technology allows developing nations to leapfrog some of the stages laboriously struggled through by the developed world. But the flashlight feature simultaneously symbolizes how far India has to go. It's one thing to be able to skip the costly logistics of wiring a huge nation, telephone pole by telephone pole, but the hundreds of millions of Indians living in poverty will still need power and roads and clean water if their living standards are to be improved, no matter how many gadgets their Swiss Army cellphones are equipped with.

Big Company vs Startup

2007-04-29T18:56:00.000-07:00

Read Will Price's post on Large Companies - New Equation of Big Company Behavior. I generally agree with all of the points Will makes in his post but that is not the entire truth. My two bit, obvious as it may be, is that Will's entrepreneur friend certainly appears to be prone to making sweeping generalizations about large company behavior.

Startups ultimately succeed because they fit into the big company ecosystem--most of the exits these days are acquisitions by big companies, not IPOs. Big companies have unique advantages like economies of scale, supplier relationships etc, which enable them to profitably innovate in certain areas. Therefore, it boils down to what you want to do; P&G is the place to be if you care about developing, and marketing to the masses. On the other hand, Justin.TV is certainly a startup ;-) My point is that they encourage completely different risk profiles.

Large American tech companies have had a rich culture of innovation. The two most popular devices to have reached the hands of millions-ipod and RAZR-were both innovations from large corporations. Based on all accounts I have heard from my friends at Google, they are doing every bit they can to nurture the entrepreneurial spirit among their employees. It is therefore simplistic on Will's entrepreneur friend's part to associate smart people exclusively with startups. I would also argue that big companies have picked up the pace recently, when it comes to innovation and other go-to-market efforts.

Entrepreneurship certainly has made people rich (and added real value to the world) but I like to see that balanced out with other opportunities. See the FT article: "Smart companies take on 'intrapreneurial' spirit" from July 2005. Search link here.

Fama or French - Matters of Credit

2007-04-27T21:28:00.000-07:00

The three factor model extends CAPM with two factors size (small vs big) and value (market price relative to book value) in addition to the market risk premium. Basically, that leaves you with three betas. You can read more about it elsewhere, but what's hilarious is the article from Tuck School of Business (Dartmouth) that uncovers the real relationship between Fama and French, especially the real dope on who did all the work! Follow the link Fama Factors out French to read the article.

Matters of Guidance

2007-04-26T12:43:00.000-07:00

In a recent discussion about public versus private companies, a couple of us were wondering about the exact pros and cons of earnings guidance (earnings forecasts or estimates) and what is the impact of not providing any quarterly guidance.

Why give guidance at all? Basically the market trades on expectations (expected earnings). The catch with not giving guidance is analysts drop coverage or make up their own forecasts. This could potentially shoo away institutional investors and create unnecessary volatility. The argument for company executives giving earnings guidance is that they are likely in a better position than analysts and hence they could predict more reliably what the quarterly earnings report is going to look like.

The argument against giving guidance is that it fosters market myopia, which in turn causes companies to adopt a short-term "earnings management approach", rather than take a longer-term strategic view, one that includes making rational capital investments.

In "To Guide or Not to Guide? Causes and Consequences of Stopping Quarterly Earnings Guidance," the authors find no evidence that firms that stop giving guidance, offer better visibility on longer-term strategy including any additional capital investments. On the contrary, they point to issues with management and more earnings volatility (including losses).

Similarly, in "Is Silence Golden? An Empirical Analysis of Firms that Stop Giving Quarterly Earnings Guidance" the authors suggest that firms couch poor performance and low external demand for guidance in altruistic terms, when they decide to stop guidance. Furthermore, stopping guidance causes the market to reduce its expectation.

From an operating perspective, my own dilemma is how do you reliably forecast earnings? I can see the value in making an attempt, just so you get a feel for all drivers of earnings, but sharing it with the investors is just likely to force managers to do their best to meet their guidance. For instance, not dispose off sunk investments, play tricks with non-cash generating activities like depreciation etc.

Some interesting bits on this on the web....

Google, the darling of the Wall St condemns the practice of giving guidance:

Although we may discuss long term trends in our business, we do not plan to give earnings guidance in the traditional sense. We are not able to predict our business within a narrow range for each quarter. We recognize that our duty is to advance our shareholders' interests, and we believe that artificially creating short term target numbers serves our shareholders poorly. We would prefer not to be asked to make such predictions, and if asked we will respectfully decline. A management team distracted by a series of short term targets is as pointless as a dieter stepping on a scale every half hour.

NY Times article on The Rational Mr Buffet points out that:

Mr. Buffett is also against the practice of issuing quarterly earnings guidance, the self-imposed benchmarks that drive executives to sacrifice long-term strategy for a short-term payoff.

On the brighter side, there seems to be some rationality creeping up amongst investors. WSJ reports:

As the stragglers report actual results for 2006, investors have been unusually forgiving toward companies that have reported profits below expectations.

In an attempt to keep America's capital markets competitive, the chamber of commerce appears to have raised an issue with earnings guidance, among other things like Sarbox. Some of these are additional factors that may feed into the private equity, buyout binge.

WSJ reports:

The report, commissioned by the nation's biggest business lobby, called for an end to quarterly earnings forecasts, an overhaul of the Securities and Exchange Commission, and an increase in retirement savings.

The Economist appears to have a good article on this topic. I don't have access to it. If you are a premium subscriber you can access it here.

To start up or not...

2007-04-26T12:42:00.000-07:00

Accelerating your career, awareness/expertise in all aspects of company building from the ground up, reaping bigger monetary payouts are all good reasons to be doing a startup.

A thought provoking article on if you should do a startup or not by Paul Graham, a programming languages researcher and LISP guy, now running Y Combinator, an early stage venture firm.

Its important to first acknowledge that to be uncertain is human:

There's nothing wrong with being unsure. If you're a hacker thinking about starting a startup and hesitating before taking the leap, you're part of a grand tradition. Larry and Sergey seem to have felt the same before they started Google, and so did Jerry and Filo before they started Yahoo. In fact, I'd guess the most successful startups are the ones started by uncertain hackers rather than gung-ho business guys.

Unless you are looking at an industry that is crying for new business models, I do agree with Paul that an early stage tech startup probably needs kick ass engineers rather than "gung-ho business guys."

Those of us trained to look for data, gather support and be deliberate before making a decision (could degenerate to analysis paralysis) may find it interesting that he offers some support for the blink theory:

Several of the most successful startups we've funded told us later that they only decided to apply at the last moment. Some decided only hours before the deadline.

He then cites a whole bunch of reasons for people's reluctance to start something up. Some interesting ones that may provoke interesting discussions...

I get a fair amount of flak for telling founders just to make something great and not worry too much about making money. And yet all the empirical evidence points that way: pretty much 100% of startups that make something popular manage to make money from it. And acquirers tell me privately that revenue is not what they buy startups for, but their strategic value. Which means, because they made something people want. Acquirers know the rule holds for them too: if users love you, you can always make money from that somehow, and if they don't, the cleverest business model in the world won't save you.

This is certainly true about YouTube and all those other Web2.0-ish companies like MySpace, Flickr etc that offer up a strategic value simply because of number of eyeballs. We all know venture investments are a high-risk "asset class" but Paul seems to rationalize that in a very odd way. I am not sure I buy the comparison between a startup (i.e something like Justin.TV) and a value stock:

The most valuable truths are the ones most people don't believe. They're like undervalued stocks. If you start with them, you'll have the whole field to yourself. So when you find an idea you know is good but most people disagree with, you should not merely ignore their objections, but push aggressively in that direction. In this case, that means you should seek out ideas that would be popular but seem hard to make money from.

No idea? No problem!

In fact, we're so sure the founders are more important than the initial idea that we're going to try something new this funding cycle. We're going to let people apply with no idea at all. If you want, you can answer the question on the application form that asks what you're going to do with "We have no idea." If you seem really good we'll accept you anyway. We're confident we can sit down with you and cook up some promising project.

Or follow some practical advice.

So here's the brief recipe for getting startup ideas. Find something that's missing in your own life, and supply that need—no matter how specific to you it seems. Steve Wozniak built himself a computer; who knew so many other people would want them? A need that's narrow but genuine is a better starting point than one that's broad but hypothetical.

For those of us not in our 20s, I found he addresses three other relevant misgivings: need for structure, not ready for commitment and family to support.

MBA @ Wharton: Recap of Term 3

2007-04-24T10:31:00.000-07:00

[Almost About to Finish Term 4, I figured I'd clear out my backlog on the recap of Term 3!]

If there is only one thing I could say about Term 3, that would be "Whew! Its done." With about 3.25 credits--that's 4 1/2 credit courses, one 1/4 credit course and a 1 credit course--it was a lot of awkward context switching. Add to the mix your day job that pays the bills and occasional family considerations ;-), it got real messy.

My classmate Chairman P has a few posts on Term 3. Here's a funny poem and one on how you age faster at Wharton, especially during Term 3.

My take on the courses this past term:

Corporate finance (the 1 credit course) was an absolute delight. Prof Percival was great at de-quantifying finance; in other words, a good deal of time was spent in class trying to use financial analysis to drive strategy, product mix, cost structure etc. In contrast were the exams, which were mostly quantitative. Calculating NPV's by hand sure seemed like a lot of drudgery... The case write-ups were lesser binary in approach - we had the opportunity to understand a business problem, take our time, use Excel to analyze the data and then finally present a nuanced view point - not just numbers.

Marketing Management was like an introduction to marketing - basic frameworks (5Cs - 4Ps, Segmentation Targeting Positioning - STP etc), basic marketing math - describing the economic value to the customer (EVC), using EVC to set prices, figuring out break-even volumes, sizing up markets (for both volume and profitability) etc. While many of the concepts were tribal knowledge for many of us in the industry, it helps to have frameworks and a strong quantitative bias (only to be expected at Wharton) towards marketing initiatives. I particularly enjoyed Prof Bell's classes and especially his liberal references to marketing literature during his lectures.

For a 0.5 credit course, Marketing Strategy was a ton of work. Most lectures were case based. In addition to preparing for the cases, we had to work out the marketing math (like ad budget, price, market sizes etc) and enter the data into an online system. We spent a great deal of time messing with a market simulation system (called Sabre), which had algorithms that simulated typical market dynamics. In the later part of this course we looked into life-cycle of markets/industries; I think that may be a nice segue into Competitive Strategy - something we'll be looking in Term 4.

I learned a great deal of new concepts in the other two 1/2 credit courses: Matching Supply with Demand, and Managerial (or Cost) Accounting. I have never worked in manufacturing; I enjoyed learning about the type of issues one needs to be aware of with inventory management, use of different supply chain topologies, distribution strategies etc. I would say the workload was medium. Managerial Accounting was the last 1/2 credit course and it whizzed past most of us! Excellent professor and very pertinent material on inventory valuation, internal performance measurement, assigning costs to products etc. Especially in this day and age of corporate cost cutting, managerial accounting certainly teaches you what to focus on when you are looking to cut costs, and the right questions to ask when someone claims s/he cut costs.

Finally, a quick word about the course on communication. The intent is to get you comfortable with various forms of corporate communication - addressing employees, the press, managing crises etc. If you are not a good speaker already, I guess the course could help. But I have to say that its certainly not a conducive environment to prepare and practice a speech, especially when your communications class starts at 630pm or 7pm and goes on till 9. It makes even lesser sense given that you probably had two or three deliverables on that very day and have been sitting in class since 9am!

Churchill Club's 9th Annual Top 10 Tech Trends Debate

2007-03-27T22:45:00.000-07:00

Way too many balls in the air. Way too much context switching between work, family, marketing finals, marketing simulation (Sabre), cost accounting assignment etc ad nauseum. I tell myself not to forget the larger goal - to be an entrepreneur or be involved with entrepreneurship in a significant way. I couldn't resist the idea of going to Churchill Club's 9th Annual Top 10 Tech Trends Debate today.

UPDATE: Pointer to SJ Merc Review of the Event.

The basic format of the event was that the moderator or a panel of star VCs would make a prediction. There would be a short debate at the end of which the audience gets a chance to wave a green card or a red card for the prediction.

The VC panel consisted of John Doerr (Kleiner), Steve Jurvetson (DFJ), Roger McNamee (Integral Capital Partners), Joe Schoendorf (Accel Partners). Tony Perkins from AlwaysOn was the moderator.

The top trends from my notes. I've tried to annotate who mentioned the trend.

Mobile Devices: There are going to be many more design centers for devices, requiring more "belt space" [Roger McNamee - RM]
FCC will approve at least one new broadband network in the next year. More broadband freely available is the best thing you can do to reduce digital divide, improve possibilites for education and its good for VCs! [John Doerr - JD]
There will be a web 2.0 "shakeout" in the next 12 months and the "shakeout" won't include mobile. "Shakeout" here means reduced, down rounds of investment. [Tony Perkins - TP]
Moore's law will bifurcate to the point where technological advances in memory will precede logic by several years. [Don't remember who said this. Could've been Steve Jurvetson - SJ]
Power shift: Shift in economic power to the BRIC nations will profoundly impact current business. [Joe Schoendorf - JS]
Active Media: Consumers are choosing active media over passive media which will erode power of today's media companies and will require a re-engineering of the advertising business. [Roger McNamee - RM]
Enterprise Web 2.0: Web2.0 functionality will move to enterprise and media in a big way. [TP]
The next two years will herald first synthetic life form. [SJ]
The Brain: Rise of radical approaches to treating brain disease. [JS]
Going green could be the largest economic opportunity and imperative of the 21st century. [JD, of course!]

I know this doesn't give you the complete picture. I'll try to write some more notes on each "trend" as time permits!

Fundamental Indexing

2007-03-27T14:03:00.000-07:00

On a trial basis, I've been trying to roll some of my non-retirement savings out of mutual funds and into ETFs. Let's say I've been taking whatever I'm reading in my finance books a tad too seriously! All skepticism aside, I don't like having to shell out the expense ratio, especially when you read that many mutual funds don't even beat market returns. See excerpt from Investopedia:

The Journal of Finance (Mar 1997) reports a comprehensive study by Mark Carhart on mutual funds over the period from 1962 to 1993. He states that "by 1993 fully one-third of all mutual funds had disappeared." Furthermore, in 1997 the Wall Street Journal reported that during 1982-1992 mutual funds reported average returns of 18.1%, but after calculating in survivorship bias, the report found that this return was whittled down to 16.3%, lower than the 17.5% return on the S&P 500 during the same period. In other words, when we take survivorship bias into account, the average mutual fund underperforms the market.

All that said, I probably will stick with funds like MINDX and MAPTX when it comes to investing in foreign/emerging markets.

With low expense ratios, ETFs are an attractive choice. But which ETF? Armed with new found knowledge about fundamental indexing (from Chapter 4 of BMA as well as Prof Percival's lecture), I did a bit of poking around.

In a capitalization weighted index, the weight associated with a particular stock is based on its market cap. In a fundamental index, that weight is based on some fundamental metric. Dividends appear to be a particularly good metric if you believe companies need to stop screwing around holding large amounts of cash, with no good projects to invest in.

See Prof Seigel's article on WSJ for a detailed description of the fundamental weighted indexes as the "next wave of investing".

The Fama/French world emphasizes low P-E and small cap stocks. Bogle et al in another WSJ article cite a few reasons about why you probably shouldn't be too eager to jump on the fundamental indexing bandwagon. They cite

Potentially high management fees for fundamental indexed funds
Equivalency of fundamental indexing to picking low P-E and small cap stocks (which Fama/French have shown produces outsized returns)
Turnover - say when a manager increases dividends, you're going to have to buy more of that stock. This is not an issue especially if you are investing your retirement savings.
Fundamental indexes constructed out of dividends as the metric may not be tax efficient. (Long-term capital appreciation enjoys favorable taxation compared to short-term gains such as dividends.)

Do your own diligence, but I'm trying out a couple of fundamental indexed funds from WisdomTree. I'm going with Dividend-Weighted ETFs instead of Earnings-Weighted ETFs.

The Economics Lives of The Poor - A Summary

2007-02-19T14:57:00.000-08:00

I'm one of those who has been excited about the possibilities offered by bottom-of-the-pyramid business models, that is, for-profit businesses that effectively and efficiently engage the underprivileged while serving unmet needs. I recommend Prof Prahlad's "Future at the Bottom of the Pyramid," if you want to look at several successful examples ranging from Casas Bahia and Cemex in Latin America to the Jaipur Foot and Aravind Eyecare in India.

A few months back, a friend pointed me to "The Economic Lives of the Poor," a working paper from the Poverty Action Lab, associated with the MIT Department of Economics. If you grew up in the developing world, you may find the data in the paper corroborating many of your observations and experiences. Nonetheless there are a few insights... (I've tried to higlight them by italicizing).

It's a 20-page paper, one I had put off reading it for quite sometime now and there's plenty of data in there. Here's a quick summary:

Data surveyed in the paper has been collected from India, Pakistan, Nigeria, Kenya, Indonesia, South Africa, Peru, Guatemala etc.

The paper defines the poor as those whose daily budget is $2.16 in purchasing power parity. The extremely poor are looking at a daily budget of $1.08. The authors use consumption rather than income because they have more accurate data on consumption.

Living arrangements

There are more people per household among poor families. The paper points out that this helps in spreading fixed costs over a larger number of people. There are many more people of prime working age (21-50) in these households than those above 50. About 0.3 is the ratio between number of old people to those of prime working age. Compare that to 0.6 in the US. High fertility and high mortality rates among older people are possible reasons. It's also possible that older people are underrepresented because they tend to be richer.

[No major surprises here.]

Spending Habits

Conventional wisdom has been that the poor don't have enough money to eat. Yet the average poor person does not spend every penny per dollar on gaining calories. Alcohol and tobacco (4%-8%), entertainment and relegious festivals (10%) occupy a prominent portion of every dollar consumed. Just eliminating alcohol and tobacco could give them 30% more to spend on food!

[I have to say not much of this is surprising to me. The poor may have more constraints to work with but they are humans too, and not necessarily more rational.]

What's somewhat interesting here is out of the money spent on food, a good chunk is spent on food that is not calorie efficient (rice, wheat, sugar as opposed to millets such as bajra or jowar) or even healthy. Based on the data from India, it appears that the trend is to spend lesser on food - 70% in 1983 to 62% in 1999.

Assets

Interesting paradox here. Among the poor land ownership is prominent: 4% in Mexico own land, 30% in Pakistan and 99% in Udaipur, India! Otherwise, the poor own very few durable assets. Quite a few people seem to own radios and about 1/2 of them own a clock or a watch.

[To me this is an interesting paradox. Is it true that the poor own land which they can't monetize?]

Health

Based on data from India, the poor consume 1400 calories per day and they have a BMI (body mass index) of 17.8. Compare that to a BMI of 18.5 which is the cut-off being underweight. Despite widespread occurence of disease, anemia, diarrhea, poor vision etc, level of self-reported happiness is not particularly low. Main causes for stress appear to be health related issues, including death.

[Wealth/happiness and poverty/sadness don't go hand in hand. I knew that!]

Based on a survey in New Delhi, India, it appears that there is good access to health care providers. What is of grave concern is the poor quality of health care, mainly due to unqualified healthcare workers. The paper talks about a survey which highlights that treatments from such unqualified healthcare providers are slightly more likely to cause more harm than good.

Education

Most kids go to school but the quality of education they get in free/public schools is quite abysmal.

How they earn money

Most are entrepreneurs - i.e they raise small amounts of capital, carry out investment and claim earnings. Because of limited skills, its easier for them to run their own business than take up a job.

Many hold multiple "jobs" and there is a notable lack of specialization. It appears they may be spreading risk by staying diversified. They also can't raise sufficient capital to create a business that would occupy all their time. The paper gives the example of women in the Indian town of Guntur. They run eateries where they cook dosas in the morning, they then move on to do other things like collect trash, manual labor etc. The businesses are also not very efficient - for instance there is a lot of waiting time in dosa making.

[Is it really diversification? Sorry to sound harsh but it does sound simplistic logic, coming from the academia! What if customers don't want dosas all day? What if they simply want more money and can't make much just on making dosas? It could get sunny in Guntur... how can they stand in the sun all day making dosas?]

There is a lot of temporary migration (less than 1 month) for work, but the paper cites the need to stay close to a social network as a reason for them to not migrate too far away or for a longer period of time.

Debt and Savings

Debt levels vary from 11% (East Timor) to 93% (Pakistan). However, they get credit mostly from informal sources, not banks or other formal lending institutions. They end up paying almost 4% per month in interest. This premium is NOT due to default rate, rather its due to the high cost of capital for the informal lending sources which gets passed to the poor consumer and also due to the perceived cost of enforcement.

No formal savings. There's a great deal of temptation to spend, especially because some of their wants are things many of us take for granted. Saving money at home is not easy: there's a danger of theft or a family member (spouse or son) stealing or taking the money away.

[No surprises.]

They respond well to micro-credit because it gives them a way to buy something and then pay it off in a disciplined manner. Checkout my friend Renuka's article in the Hindustan Times on micro-credit and women.

Men in Thongs and Beer (and Superbowl Ads)

2007-01-31T23:46:00.000-08:00

UPDATE from class: Thanks to Azar for the pointer to the incredibly funny iPhone ad spoof: http://www.youtube.com/watch?v=1xXNoB3t8vM. And thanks to Prof Bell for two decades of Superbowl ads.

Rolling Rock (beer) tries to leave an impression by making the ad provocative and scandalous.

If you thought you had seen it all in class with the $400 Gucci "man purse," try this: The Rolling Rock "Man in Thongs" ad. A less graphic version of this ad where the VP Marketing pretends to be apologizing, is actually live on TV. You can see his blog here.

Another ad that features the beer ape and the ad with him apologizing...

I dug up the intented takeaway of a related ad plan for the same product here. Bob Lachky, EVP Global Industry Development at Anheuser-Busch, sez:

I also think the cross-platform advertising approach that we are using on Rolling Rock is a great example. It’s kind of like the wardrobe malfunction model. You let people know about it one way, you show it to them like it’s the forbidden fruit. We’re going to run some TV spots (this week) featuring the next faux pas of the Rolling Rock marketing director. He’s going to be like we’re making a mistake, Oh, my gosh, we’re going to put this in on the Super Bowl and it features men in thongs. Research told us this was gong to be great because after all men in Europe wear thongs. Obviously it doesn’t run on the Super Bowl but the day after Super Bowl your guy comes back on TV and says I thought I made the right call but obviously I didn’t. The people in the know have obviously gone to the Web site to see the forbidden Internet piece. It’s a fun way of using TV as a tease and the payoff to the consumer is actually being delivered through the Internet. When you have a limited budget and you’ve got a portfolio our size we had better embrace new media because it is more efficient and it is more in line with the target audience than traditional media is. Not every brand can be a TV brand nor should every brand be a TV brand. In many cases it’s probably not right for the evolution of the brand.

Get Serious

While we're on the topic of adverts and promotions, checkout Serious to get a glimpse of what form your junk mail is going to take in the future! I think its a pretty neat idea.

Crash the Superbowl

2007-01-28T20:04:00.000-08:00

When I recently read about Yahoo's acquisition of Jumpcut, I was starting to wonder exactly how these companies are going to make money.

Turns out Jumpcut is used as an enabler in the viral marketing/user-generated ad contest Doritos. It seems to have the effect of a viral buzz effect in online social networks while simultaneously getting some high quality ads for Doritos.

If you haven't already, take a look at the ads in Crash the Superbowl. What I couldn't help notice is that 3 out of the 5 ads seem to be using some type of accident for humor.

While we're on the topic of user created ad contests, check out some submissions for the Dove's user created ad contest (which was open only to women), supposed to air on Feb 25 during an Oscar commercial break.

If you are from my Wharton class, you may find this description of the JumpCut CEO at VentureBeat somewhat amusing: "He then enrolled into Stanford’s MBA program, where they teach you to start companies."

While we're thinking about monetizing social networking and user generated content, you may also find Prof Percival's comments on valuing social networking ventures quite interesting:

If MySpace becomes the model, social networking sites will be quite different from the classic dot-com bubble companies which tried to cash in big by going public while staying independent. The risks are not the same when an iffy venture is part of something bigger, says John R. Percival, adjunct professor of finance at Wharton. "This is kind of like the oil and gas business. The risk might not be as great as you think, and a high valuation might be justified."

A small, independent oil driller faces a huge risk in drilling a new hole, which may be dry, he says. Compared to that, risks from changing oil prices and demand are relatively small. But the situation is reversed when the driller is part of a bigger enterprise that drills many wells. A dry hole here and there doesn't matter, but changes in oil prices and demand do.

Social networking sites may be risky for their founders and the venture capital firms that fund them in the early years, but they don't appear to be pumping huge amounts of risk to the marketplace the way tech firms did in the late 1990s. "If you have a little bit of money invested in this and you're already invested in other things," says Percival, "frankly the risk is not as big as you think."

Book Review: Magic Formula Investing - The Little Book That Beats the Market

2007-01-08T22:47:00.001-08:00

A friend recommended Joel Greenblatt's Little Book about a year back. It starts out sounding like a joke or some kind of a hoax but it should takeall of 1-2 hours to read the entire book and I strongly recommend it - both for adults and teenagers!

Before I proceed to review the Magic Formula, the following points represent my underlying investing philosophy:

The market is noisy (capricious) in the short run, efficient (values companies efficiently) in the long run. I believe in mean reversion, that is, temporarily undervalued stocks are likely to rebound back to their 'true' values.
Given my net worth, I don't see any value in paying someone to manage my money. As a result, I am not too excited by mutual funds. I prefer ETFs.
I'm too lazy to keep constant track of my portfolio and I hate transaction costs. I therefore like buy-and-hold approaches.
Diversification globally is goodness.

Written in a tongue-in-cheek style, Greenblatt appeals to the child in you, quite literally, to educate you on time tested concepts of value investing. Overall a good book targeted at the mainstream public that not only builds an appreciation for the rationale behind value investing but also gives you an almost mechanical method to invest using the "Magic Formula." Here's a quick summary of MFI...

Greenblatt's basic theory is that its pretty hard for most people (and especially individual investors) to reliably forecast future growth. He therefore recommends that the individual investor simply focus on buying good companies at a good bargain. Good, as defined by MFI, is used for a company with a high ROIC (return on invested capital) and you separate a good bargain from a bad one by looking at the Earnings Yield (EY).

With ratios, its basically garbage in, garbage out. We need to look under the numbers and see how they're calculated. Greenblatt defines them as follows:

ROIC = EBIT/(Working Capital + Fixed Assets),
where EBIT: Earnings before Interest & Taxes
EY = EBIT/EV,
where EV, the Enterprise Value = Market Cap+Net Interest Bearing Debt

The reason he adds back debt to EV is to make sure the Earnings Yield is not affected at all by the debt-to-equity ratio. He also wants to compare companies at different debt and hence tax levels.

The basic steps to building an MFI portfolio is as follows:

Create a composite ranking of companies by ROIC and EY.
Buy stocks for 20-30 of them (you could do it gradually)
At the end of the year, review and:

sell losers 1 day before before the end of the year
sell winners 1 day after the year end
replace losers with new companies, go back to 1.

Based on back testing (17 years), the magic formula has yielded annual returns in excess of 30%. There hasn't been any 3 yr period with negative returns.

This method has some nice attributes: almost mechanical, focus on the portfolio and not individual companies/stocks, not much churn. Note that he recommends this for average individual investors who are not into doing a great deal of diligence on the companies.

Here's the best part. There's an MFI website, www.magicformulainvesting.com, which allows you to screen companies based on the ROIC, EY criteria.

ROIC or ROE or ROA?

ROE is return/book value of equity. This doesn't take into account the debt capital. ROA is return/book value of assets, which can include accounting gobbledygook like goodwill. In addition, Greenblatt removes uninvested cash from assets, and adds payables since in effect they are an interest-free financing of operations.

Not many have been able to reproduce the MFI screens. If you understand exactly how he calculates ROIC, do let me know!

Commissions?

As a Schwab customer, I'm looking at transaction costs of 25 (size of my MFI portfolio) times $12 = approx 300-600 depending on when you bought and when you started replacing them. Check out www.interactivebrokers.com or www.foliofn.com. I tend to holder longer than 1 year.

No Utilities, Financials & ADRs

To keep things simple the vanilla ROIC and EY don't apply to the capital structure of financials, possibly because they are usually highly levered.

Isn't Earnings an accounting artifact?

Earnings could be inflated temporarily by creative accounting! An equity from the MFI screen could be the subject of earnings restatement. I don't believe vanilla ROIC or EY can guard against that. Greenblatt remarks that sophisticated investors such as himself can calculate forward-looking versions of these parameters.

Macroeconomic factors

Capital intensive industries tend to be cyclical. The MFI screening criteria doesn't seem to account for business cycles that may affect industry fundamentals.

Micro ($50m-$300m) vs Small ($300m-$2b) vs Mid ($2b-$10b) vs Large cap ($10b+)

In my experience micro and small cap pickings from MFI have shown a lot of volatility AND negative returns. My recommendation is to stick with mid & large cap.

MBA @ Wharton: Comparing Wharton's MBA Program for Executives and the Fulltime MBA

2006-12-26T16:10:00.002-08:00

We have had quite a few prospective students visit our class. One question that has consistently come up at least in my conversations is exactly how are you equivalent to the fulltime MBA and how are you different? In other words, for the marketing aficionados, what is the point-of-parity (POP) and the point-of-difference (POD)? :-)

I've spent a bit of time thinking, talking and probing the differences. Here's a short analysis. You may find it useful to contrast this with the official comparison.

First, let me make this crystal clear. The academic rigor of the MBA Exec program is unquestionable. Having applied to and having sat through classes (including an entire weekend) in several other schools, the quality of instruction and the rigor has very few parallels if any. The course content is not exactly the same but its very similar to and just as rigorous as the Wharton fulltime MBA coursework.

So its simply NOT a watered down MBA program for the working professional. You certainly want to keep that in mind before you apply. You will find yourself testing the limits of your ability to balance when you are in this program.

Here are some other parameters.

Opportunity Cost: Taking a break from a fulltime job incurs a significant opportunity cost: two years of lost salary, experience and on-the-job networking. In addition, you're going to have to pay the regular tuition plus living expenses in Phili. The flip side is that in the MBA Exec you lack a sense of complete immersion. You have to evaluate the opportunity cost taking into account how far you have advanced in your current career path and what it is you want to do in the longer-term (post MBA) and how badly you want to do it.
Cohort: You are generally looking at a slightly older crowd (very young in spirit, of course!) with families and such. I will also say just the numbers (800+ in the fulltime program versus 100 in the MBA Exec class) make the fulltime cohort much more diverse in terms of experience, goals etc. That said, remember that the MBA Exec cohort can give you a run for your grades.
Career Support: You get access to career management services if you are not a sponsored student. If you are sponsored and want access to the MBA career management services, your management will have to write a letter allowing you to make use of career services. Remember that career management for more experienced candidates in the Exec program is a bit on the experimental side. The career management office is used to working with fulltime MBA candidates. Repurposing their services for the needs of an older, more experienced class is yet to happen.
Networking: With your own cohort, there are plenty of opportunities to network both in and out of class. Your spare bandwidth is the only constraint. Outside of your cohort, its a bit more challenging. The fulltime MBA candidates have a) many invited speakers, b) student run conferences (Wharton Private Equity Conference, Wharton Technology Conference etc), and c) internship opportunities. They also have several clubs that help you with skills improvement, interviewing, resume building etc. Career treks organized by student run clubs are generally focused on internship opportunities for fulltime MBA candidates.
Electives: Wharton boasts of the largest faculty among all business schools and perhaps as a result of that, I believe Wharton students have access to a very large and diverse set of electives to choose from. This continues to be true for Wharton MBA Exec students, when you compare some of the other Exec MBA programs. The specific set of electives offered are based on a voting process. Therefore, simply due to varied demand resulting from a larger and more diverse class, the fulltime candidates have access to more electives than the MBA Exec students do.

A few final points on this subject:

I believe you can apply to both programs. If you get into both, you can perhaps postpone your decision a bit.
While I can't comment about the official line on transfering from one program to another, I know of people who have done the following types of transfers. In general, it could be very challenging adjusting to a completely different cohort. In the case of a transfer to the fulltime program, you could get quite disoriented if you land up there in the second year. YMMV, but having done some asking around, I would not recommend that.

MBA Exec West (SF) to MBA Exec East (Phili)
MBA Exec West (SF) to MBA fulltime (Phili)
MBA fulltime (Phili) to MBA Exec West (SF)

To sum up the decision making process, I'd say if you are trying to move into a career that is a marked departure from what you have been doing (i.e you are not looking to rely upon or strongly leverage your past experience), go for the fulltime program. For example, if you want to move from tech to i-banking, the simplest route is to join the big gang of 800 fulltime MBA students in Phili. But before you do that, make sure you familiarize yourself with the lifestyle of a typical post MBA i-banking job. Note also that career opportunities private equity are very hard to come by and the recruiting process may not help you much. That said, not having to balance family, a fulltime job and the courseload, does give you the time to network with the PE community.

MBA @ Wharton: Recap of Term 1 & Term 2

2006-12-26T16:10:00.001-08:00

Doing an MBA at Wharton, while pursuing a fulltime job has been everything I expected to experience AND much more!

Chairman P has done an outstanding job of chronicling Wharton's MBAExec program; I hope to continue on Ron's tracks, add more color and additional insider perspectives on the whole experience.

To start with, I'll try to recap our Term 1 and Term 2. I'll focus on two distinct aspects: the hard skills and everything else.

Term 1

To me the first term/semester (started on May 22, 2006) was the hardest of all. We had a seriously steep ramp-up curve:

The first week added the lion's share to the steep slope... about 6-8 hours of classwork a day for five days, oscillating somewhat awkwardly between seemingly ultra-soft stuff ("Managing People At Work") to hard $$$ realities around running a firm ("Microeconomics") to understanding how firms mis/represent their performance ("Financial Accounting").
I suspect most folk have to maintain a delicate balance of being physically away from work, at the same time being somewhat tuned into what's going on there, while getting a ton of new concepts being pounded at you. The context switches are hard in general, but it could be a lot harder depending on one's particular situation and relationships at work. I for one had a particularly tough time being weaned away from work.
Thanks to friends who had just graduated from the program - I had a ton of insight about how the program worked before I started, perhaps a bit too much! The one thing I would emphasize for someone starting the program in 07 or later is to focus on preparing ahead of time. What you really get out of the class is largely a function of how much work you put in ahead of the class. Note that I do admit that this is easy to say but much harder to implement!
You're just starting to get to know people... and generally alcohol is involved when you meet new people! With hindsight, I would say temper it down to maybe two or three drinks, depending on your tolerance level. Its not exactly easy to transition from a 6-8 hr sleeping hour schedule to alcohol+4hr sleep+7 hours of classwork!

So, what the heck did I really learn in these three courses?

Microeconomics: Arguably the most important lesson I learned was in the very first class: the real value of a company (to its shareholders) is the present value of its future cashflows discounted at the opportunity cost. I am constantly reminded of this every time I evaluate buying a company's stock for my personal portfolio. In general the course reminded me of the importance of economic profit, and the importance of watching costs inside the firm and marginal cost per user gained. Ideas around expected utility and game theory were intellectually stimulating but I'm still working on developing a real world appreciation for those. We cogitated about common sense concepts of monopoly and cut-throat competition (commoditization) in a more rigorous and theoritical framework.
Financial Accounting: Having spent most of my career as a technologist, I had worried a lot about my real customers and what they really want. This course exposed to me what your obligations are to a new category of customers: the investors and analysts. In terms of sheer material, I probably learned the most in this course and a newfound appreciation for the difference between accounting profits and real/economic profits. In contrast with Microeconomics, the last day of class where we took apart the financial statements of a real company and looked for holes all over was my most memorable class.
Managing People At Work: Lesser said about this course the better! Basically, many of us already have a great deal of experience managing people at work... this course attempted to reify one's perspectives on people management. While I do agree working with and managing people is the most important aspect of running a firm, I'm ambivalent about the utility of being taught management frameworks in class! All that said, the Field Application Project (FAP) was a commendable component of the course: to complete the requirements of the FAP, you identify a 'management' type project in a company of your choice and you apply the frameworks and concepts you learned in class to a real life problem. This might sound very sexy in theory, but when you combine heavy workload in Accounting and Microecon with a real life (i.e work & family) and your first exposure to study group dynamics, you end up losing appetite to solve a real world problem fast... UNLESS you can combine it with something at your work place. One way to ensure you (and your group) does a good job in this course is to pick a project that you or someone in your study group is personally invested in.

Term 2

In my experience, Term 2 was much easier to manage in comparison to Term 1. I had a better sense of devising a best known method to optimize my performance at home, work and school. Term 2 should have been more work, with three 1/2 credit courses and two 1 credit courses.

While its hard to describe what I really learned from our Leadership class and how best I can apply what I learned in the the real world, I have to say Prof Mike Useem is probably the best person to teach the course. In particular, I enjoyed the corporate social responsibility slant of the course.

Macroeconomics was most fascinating to me. I have a new sense of awareness about the macroeconomic environment in which a) firms conduct business, b) I invest my own money :-), and c) the use of macroeconomic trends and numbers to evaluate the social impact of government policies. Hats off to Prof Andrew Abel for a great course! The YouTube video from Columbia sums up the type of things you learn in a Macroeconomics course, including their opinion on our textbook!!

Prof Waterman's Statistics was another great course - much of it was about statistical methods and inferences to real world problems. When I invest my own money and look through technical analysis, I have a much better sense for correlation, alpha, and beta among other things. The course also hones your skills to draw better inferences from pictorial descriptions of data such as histograms and graphs.

The trip to Philly was another highlight of Term 2.

At the end of these two terms, the one thing I feel certain about is the workload associated with any course at Wharton. It doesn't matter whether its a soft course or a quantitative one - you have to expect to put in an obscene amount of time to stay on top of what's being covered in class and do reasonably well in the evaluation components (exams, assignments, projects etc).

Beyond the Classroom

The Wharton experience is intense. The program doesn't sacrifice academic rigor: that includes the number of credits, the number of hours of instruction and tests. Basically the program cuts you no slack just because you are holding a fulltime job.

You quickly learn how to best optimize your effort - at work, with family and at school. You learn to not waste time and the art of prioritizing. When you are working upwards of 65 hours a week, you develop a unique combination of mental and physical stamina as well as the ability to context switch. I believe these are important qualities to have in an operating manager. You also learn to better appreciate leisure and downtime!

The flip side is that you end up attempting to absorb a TON of material in a compressed calendar schedule. (For instance, Abel & Bernanke's 600 page text book.) Add to this the pressure of grades, it ends up being a challenge to develop a real world appreciation for the concepts being taught.

The residency requirement (at Le Meridien) gets you socializing with your classmates (poker, fantasy football and parties), but when you are juggling several balls, you are pretty strapped for time and energy to network outside your class especially during the regular work week.