Sunday, March 8, 2009

Whose eating lunch?

Tuna Sandwich- 1 share GE $7

Glazed Donut- 1 shares GM $1.50

Small coffee (not from Starbucks)- 1 share Citigroup $1

As anticipated, over dinner the other night, the conversation turned to the dismal state of the economy and areas of future opportunity. That's when my tall skinny friend Scott said something that really struck a chord. For background, Scott is a successful and soon to be executive refugee from the wholesale 'shmatah' retail business. He doesn't say much, but when he speaks, it's good to listen. He noted that so many of the troubled companies in his industry are struggling because they lost their relevance. Sure, the recession pushed them in extremis, but the economy only accelerated and exposed the market reality that they were no longer needed, or even wanted. As an example, he cited once proud Sears and its sole remaining relevance as a place to buy Kenmore appliances or a tools. Not much of a reason to have tens of thousands of employees and a $4B market cap. He went on to say that retail is littered with so many corpses that never made the 'big box' transition pioneered decades ago by Walmart; and being big is not good enough. You have to be different and better.

His observation rings true across many other traditional and emerging industries which now suffer from a massive production oversupply; the slowdown has meerly exposed such over-investments. A combination of cheap production, supply chain efficiencies, open global markets and government subsidies have greatly accelerated production supply, far outstripping demand, and leaving producers vulnerable to a certain, and necessary shakeout.

Looking close to home, the flip side of capital efficiency in the Internet has given us a stunning over supply of little differentiated companies, long on UI, but with scant IP innovation. True, the combination of low cost outsourced infrastructure (thanks Amazon and Akamai), free open source software (LAMP), and pay as you go marketing (Google) lowered the barriers to entry, but the barrier to success, when faced with scores of relevant competitors has never been higher. We have overproduced companies, with far too much capability to serve a finite amount of relevant customers. More than ever, innovation is critical as insulation from the ravages of price competition that inures in markets suffering from supply surplus.

We have seen too few innovative solutions like Wolfram is apparently working on. And too much time, and capital invested in nice product mash-ups which are not destined to ever be self supporting companies.

The financial services sector is also an industry that I have been closely involved with. Now that Lehman and Bear are gone, outside of the market shock, is there really an effect on clients? The twin towers of innovation and globalization, where the banks down the block are headquartered in Canada, Hong Kong, and the UK, and operate seamlessly in NY, has fundamentally altered the banking relevance map. If a few more disappear will it really change the customer landscape? I think not.

The Private Equity sector is not immune from the relevance test. In Israel it seems that the combination of low returns, global competition and an institutional liquidity crisis is well along to shrinking the domestic venture market by at least one third. I suspect that they are a leading indicator for the US market.

I see little friction in the type of companies entrepreneurs choose to start; bridled passion knows no bounds. I look forward to more successes from innovation perspiration and am confident entrepreneurs will again shake it up.

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