Just as the Recording Industry Association of America sued Napter in the late 1990's, we now have the book publishers suing Google (GOOG) over digital book cataloging. The big point that the RIAA missed many years ago was that technology was changing the way people learn about, access, and listen to music.
CD sales have crumbled and the iPod has been invented. That's quite a shift in 6 or 7 years. Had the RIAA adjusted to the shift back then, perhaps they could have better insulated themselves from the sales hit they have taken as traffic in Best Buy's music aisles continues to diminish.
In hindsight, the RIAA should not have cared if they got their cut from the sale of a CD or the download of an album online. Unfortunately, those executives spent too much time huddled with their lawyers, and not in meetings figured out how to change with the times. With the success of iTunes, the recording industry is doing okay (online sales net them less money than a retail CD sale), but I'm sure they are still miffed at the digital revolution, and continue to spend time suing college students for illegal downloads.
It appears the publishing industry is going to follow the same lead, as seen from its lawsuit against Google for scanning copyrighted material. If we simply looked at the publishers' reaction to the launch of Google Print, you would think Google is taking books, scanning them, and posting them on the Internet for everybody to read for free. The funny part is they are doing nothing of the sort.
Google is organizing book titles and creating an online reference tool for searching the world's vast array of published works. Think of it as a digital card catalog, but rather than just your local library's collection, it encompasses (or more accurately strives to one day encompass) every book ever written.
Does this mean that readers will be able to read books without buying them, thereby hurting the profits at the major publishing companies? Not at all. What it does mean is that people will have better access to the world's books, and therefore will be more likely to find a work they want to read (and therefore, buy).
Toyota Continues to Close In on Big 3
October market share numbers for the domestic automobile industry tell the whole story. For years the Big 3 (GM, Ford, and Chrysler) have commanded the majority of sales in the United States. Once as high as 70%, their combined market share has been falling fairly precipitously in recent years, hitting 55% last month.
More interestingly, however, is the fact that Toyota Motor (TM) is closing in on Chrysler's number three position in terms of market share. Not only should they surpass Chrysler soon, but Ford's number two position is also in jeopardy, as seen by the six top sellers:
GM 22%
Ford 17%
Chrysler 16%
Toyota 15%
Honda 10%
Nissan 7%
Investors, after seeing these numbers, will probably want to rush out and buy shares of Toyota Motor (TM). However, does increasing share in the U.S. thanks to superb quality, value, and fuel efficiency, translate into a winning stock price?
As you can see from this chart, TM shares have been on fire recently but still trail the highs set in 2000. After more than doubling in the last two years, investors might want to wait for a pullback before adding TM shares. Although business is good and Toyota is taking share, the car business is still a tough one, and the stock today is pricing in a lot of good news.
Much like Southwest Airlines (LUV) and JetBlue (JBLU), the best companies in extremely competitive industries don't always shine as much as some might think.
Fed Meeting & Dell's Numbers
The recent rally has been long overdue. Going into tomorrow's FOMC meeting, I would not be surprised to see a small rally into the decision, followed by a sell-off after the language of the statement shows no slowing of interest rate hikes on the horizon. So, if the Dow is up 30 or 40 in the morning, it might be a good idea to take some chips off the table for the afternoon.
That said, after seeing Dell's surprise earnings warning tonight, a small rally tomorrow might be overly optimistic. Dell stock has been very weak lately, so a shortfall isn't totally shocking, but disappointing for tech investors nonetheless. Although Peridot does not have a position in Dell right now, a move down to, or even below, $30 per share could be an attractive entry point based on the notion that a corporate upgrade cycle will start taking shape next year.
Martha Stewart Living Shares: You're Fired!
Shares of Martha Stewart's company were down as much as 20 percent today, after the company reported a pretty bad earnings report. I've been very bearish on MSO stock for quite some time now on this blog, but even at $17 and change, I can't reverse course just yet. I just don't see how they are going to make any meaningful amount of money, and without consistent profitability, MSO is not worth nearly $1 billion. Even a forward price-to-sales multiple of 3 times (a very rich valuation in my opinion) would mean the stock has further to fall from here.
It's Decision Time for General Motors
It has been widely reported that General Motors (GM) is considering selling a huge stake in its financing division, GMAC, in an attempt to sure up its finances. With net income of $2.5 billion expected this year, GMAC is worth somewhere in the $30 billion range, so a majority stake would yield the leading domestic automaker a substantial sum of $15 billion.
What's interesting is GM's current value. At $28 per share, Wall Street is valuing the entire company at $16 billion. In essence, GM's car business has an implied value of negative $14 billion. GMAC itself, therefore, is worth nearly $60 per share.
Maybe GM should try and sell a stake in its auto division, not GMAC. Such a move would substantiate a positive dollar value for the car business, and maybe get the stock price up. If GM could ever sell cars and trucks for a profit consistently, you can see why value investors like Kirk Kerkorian think the upside is tremendous.
Selling GMAC, though, could backfire if the $15 billion generated slowly disappears. Right now GMAC is the life support for GM. Perhaps that's something they should hold on to in its entirety.
Bernanke Is A Solid Pick
Fortunately, President Bush decided not to throw us a curve ball today with his appointment of Ben Bernanke as the next Fed Chair. Recent history clearly had the market a bit spooked with Greenspan's successor yet to be named, but a relief rally on Wall Street is underway. Bernanke really has only been in the spotlight in recent months, as potential replacements were discussed. Nonetheless, his credentials are strong and I think the market was hoping he'd be Bush's top choice.
I still believe Greenspan wants to "finish what he started" and will likely bring Fed Funds up to 4.5% before he moves on in late January. If this view proves true, and Bernanke doesn't continue boosting short-term rates, we could see a nice market rally back to the upper end of the trading range between now and sometime in the first quarter, as the rate hike barrage would be over. That would certainly be welcomed by investors, myself included.
Why I'm Not Selling Google
It isn't an easy decision by any means, but when people are paying you to make investment decisions for them, you have to step up and figure things out.
Peridot has had a decent sized long position in Google for many months now. What makes the decision even more complicated today is that I decided to put on a trade yesterday to play the GOOG earnings release. I bought the Dec 300 Puts and the Dec 320 calls, with the stock at $308. The logic was that GOOG would probably move drastically after the Q3 report, but the direction of such a move was hardly assured. Fortunately, we did get a huge move after the blow-out report that has some analysts pegging the company's 12-month price target at $450 per share.
Even with Google shares up $40 today, I'm not selling. Of course, my first instinct was to sell, given that my strategy is to buy when others are selling and sell when others are buying. After all, the only reason Peridot is long GOOG now is because the crowd was selling immensely when the company's IPO lock-up period expired early this year, presenting an opportunity for those who prefer go against the consensus view.
My rationale for not selling today isn't very complicated. Yesterday the company was trading at 41x next year's estimates, a level investors were willing to pay based on an assumption of how fast they thought Google could grow. Today we know that the company is growing at an even faster rate than we figured just 24 hours ago. However, now the stock trades at 40x 2006 earnings.
Google's growth rate has gone up, and the stock's valuation has gone down. In this particular case, I can't justify selling the stock, despite today's $40 gain.
The Energy Debacle
The following numbers were pulled from the October 2005 report from the Energy Information Administration:
Total worldwide oil demand:
2004 - 82.5 million barrels per day
2005 - 83.7 million barrels per day
2006 - 85.6 million barrels per day
Total worldwide oil supply:
2004 - 83.0 million barrels per day
2005 - 84.3 million barrels per day
2006 - 85.5 million barrels per day
As readers of this blog are aware, I think buyers of energy stocks are current prices will be handsomely rewarded. Most are down 20% or more this month alone. ConocoPhilips (COP) has forward P/E of 6.4x. Occidental (OXY) is 7x. Plains (PXP) is 8x.
It is true that dramatic commodity price erosion from here would put these estimates in jeopardy, and therefore make these P/E's irrelevent. However, when I see numbers like the ones from the EIA, along with $60 oil and $13 natural gas today, I tend to think the reaction right now on Wall Street is out of line. We'll just have to wait and see.
The Google Numbers
Are pretty amazing. If you are wondering why the stock is up $29 in after-hours trading, consider the following. Google (GOOG) grew revenue 14% sequentially from Q2 to Q3. During the same period, Yahoo (YHOO) grew sales 6%. So, right now GOOG is growing more than twice as fast as YHOO. And yet when you look at today's closing prices, GOOG is 41x 2006 EPS with YHOO trading at 47x. Another point to think about is Google grew 14% sequentially in the 3rd quarter (which equates to 69% annualized), which is seasonally the weakest quarter of the year.
Genentech's Q3 Highlights Healthcare Cost Issues
There is little arguing that the rising cost of healthcare is one of the biggest issues hampering the U.S. economy. Next year, average health insurance premiums are expected to surpass $14,000 per family. That will represent one-third of the average household income in this country. The main reason for such staggering costs are prices for prescription drugs. Drug expenditures, which were $12 billion in 1980, hit $179 billion in 2003. That's an average increase of 12.5% per year, more than 4 times the historical rate of inflation.
Investors need look no further than the Genentech (DNA) Q3 earnings report to see exactly how crazy drug prices have gotten. Genentech's newest and second-best selling drug, Avastin, costs a whopping $140 for a day's supply. That equates to $4,400 per month and $53,000 per year. Should a drug for colon cancer really cost 20% more per year than the average household income in the United States? I bet very few could argue it should.
The argument for limiting the costs of prescription drugs centers around the idea that limited profit potential will result in less research and development, and therefore fewer novel therapies for the world's most lethal diseases. Without the ability to make a significant profit, proponents of a healthcare free market say, drug makers will lose the incentive to discover new drugs for cancer, heart desease, etc.
However, a simple analysis of Genentech's third quarter income statement shows that this theory, while it makes sense in economic terms, simply isn't true when you actually look at the numbers. Here are some key facts from DNA's latest earnings release:
* Genentech's drug mark-up (retail price versus manufacturing cost) is 662%
* Only 38% of the drug company's profit is reinvested into research and development, and net profit after tax actually surpasses total R&D expenditures
* Drug company net profit margins are nearly 20%, higher than any other major industry
And the one that is important to understand when hearing the debate on spiraling costs for prescription drugs:
* If retail prices for Genentech's drugs were reduced by 50% effective immediately, the company would still be able to spend the same amount it does today on R&D and would have more than $400 million left over in excess profit every year