HP’s tablet strategy – A couple of pages to borrow from Amazon’s book

HP is the world’s largest PC maker and it has been holding that position for quite sometime. However, their attempts to enter the tablet market which is looked as a natural evolution to PC market, were futile. Let’s list HP’s attempts in this direction. HP has initially started working on a tablet that runs Windows mobile OS. This initiative was abandoned after failing badly at it. They bought Palm in the hopes that Palm’s WebOS could be a good alternative to other mobile OS’es like iOS and Android. Even though WebOS received good reviews from critics, it never gave a decent fight to the two most popular OS’es. HP released the Touchpad with WebOS before it finally discontinued its production. All in all, it has been a very bitter experience to HP.

When an ecosystem starts adopting a new technology, the leaders of old technologies of that ecosystem often make lazy and late decisions. As a result, they lose the edge in their core businesses. That’s what is the fate of HP today. However, there is counter example to this opinion. When the world started adopting the client-server architecture by abandoning the mainframes, IBM made it up well. They retained their leadership in servers business until today. The market leaders must lead the new developments if they wish to remain leaders. However, HP failed at it and now its own presence in hardware field has become questionable. Of course, we don’t see this happen in a year or two. But, that’s what is going to happen eventually if HP fail to respond properly and quickly.

May be HP can try out a new strategy with their Touchpads. Instead of developing and using its own WebOS or a new OS, they should start using Windows Phone OS or Android. Developing an Operating System has never been HP’s expertise nor its strength. Of course HP-UX is one exception. However, it is NOT a mainstream OS. Therefore, it makes sense to leave that part to the experts – Microsoft or Google. The problem with this approach is low profit margins. The hardware market has been so commoditized that achieving more than 10% profit margin has become a daunting challenge. Most of the profits are taken by the software providers such as Microsoft. In fact, Amazon was quoted to lose money on their Kindle fire devices. In other words, Kindle Fire is sold at a discounted price which is less than the manufacturing cost. Then why do I suggest HP to go that route? Let’s see here.

HP’s obvious strength lies in designing hardware that performs better. They have been manufacturing PCs for decades now. So it’s highly possible that they can come up with better hardware than Amazon Kindle‘s or Google Nexus tab’s. As a result, they can even charge a premium on it. That means, instead of selling it at $199, they can sell it at a higher price so that they see a decent margin on hardware. Is that all for HP in it? No. We are NOT done yet.

If Amazon has been losing money on Kindle Fire, why is it still willing to produce this device. Where they get the money from? They get the money by selling the content like Music, Videos and Books/Magazines/News Paper subscriptions. HP can do something similar to it. HP can let Microsoft take the burden of promoting Windows App Store. HP can leverage Windows App store or they can have their own Windows mobile app store just the way Amazon developed Android app store. To compete with Amazon, HP can acquire an online book retailer – like Barnes & Noble, an online music provider – like Pandora/Spotify and Netflix for online video streaming.

Of course, HP won’t get all the functionality with the mere acquisitions. They need to alter or enhance/extend the already existed platforms in these companies. For example, Pandora/Spotify don’t sell the music as the way Apple iTunes does. So HP needs to work on extending the company’s platform and its partnerships with the content producers. I believe, by making these acquisitions and integrating them into the HP Windows Mobile App Store could bring HP back in to the play. Even though success cannot be guaranteed, it’s better to try something instead of not trying anything.


Corporate Strategy from Military warfare

A couple of days back, I watched a documentary, “When Aliens Attack”, in National Geographic Channel. To brief the theme of this hypothetical documentary, when aliens attack the earth and start decimating the population, how the humankind fight the aliens back. The documentary guessed on how the aliens attack and assumed that they are much more advanced species than we are. The argument that backs this theory is, if they can come from a distant planetary system from possibly a different star, then they must be much more intellectual than we are as our technology couldn’t achieve it. So in this fight Aliens are like Goliath and we, humans, are like David. In other words we are a weaker opponent to a much stronger opponent. Documentary discussed the military warfare strategies that humans adopt to win over the aliens.

OK, now let’s jump into the actual topic of the article and see how this theme is related to corporate strategies. While watching the documentary, I got a question what if the same strategies are applied in the corporate world. I started listening to the strategies the documentary discussed and tried to apply it to corporate world. Three strategies that were discussed in the documentary are 1) Instead of one big attack several smaller attacks cause more damage to the opponent. 2) Distributed Leadership 3) Win Aliens before they make the Earth their place.

One big attack vs. Several Smaller attacks – This could have a psychological effect on the opponent. If we apply this to competition in market, if a smaller company has to be fight a much bigger counterpart, then they have to concentrate on winning several smaller deals than winning one large deal. The smaller company can leave the bigger deals to the opponent and divert all the resources to smaller deals. By snatching several such smaller deals, it could make the bigger opponent feel insecure. Decisions made in insecurity and anxiety could go wrong to the opponents.

Distributed Leadership – Another strategy is distributed leadership. Instead of staying in one place and work as one large group, it makes sense to work as multiple and independent smaller groups. One larger group could be wiped out by one major attack. If the same head count is divided into several smaller groups and each group is operated under different leadership, then it would be difficult for the opponent to get a hold of us. Often decisions made by the leaders reflect their personal traits. A hasty decision maker of course makes hasty decisions. A slow mover makes decisions lately. As each group is operated under a different leader, each group’s strategy would be different. For opponent, it will be a lot mode difficult to figure out the strategy of each leader and come up with a counter strategy. As a result, the opponent might lose control on the situation.

Recently, there has been a lot of buzz on distributed leadership. Organizations are moving towards this concept and trying to develop leaders at every level of the organization. If implemented successfully, distributed leadership could create wonders. However, the problem would be to find out efficient and talented leaders, not one but several of them. To become a leader, one has to know what the current status of the organization is and where the industry in which the company is operating is heading. There has been a research going on at MIT’s Leadership Center. Their web page mentions that to become a leader one has to possess four qualities. Sense making – Knowing the context in which the organization is operating, Relating – Relating oneself with several people within and across the organization, Visioning – Ability to understand the future market developments, and Inventing – Defining new ways to work together to realize the vision.

There are several examples to prove the potential of distributed leadership. In early days of Southwest Airlines, frontline employees helped the company to come up with a strategy that gave lifeline to the company. In my opinion, franchising is the best example of distributed leadership. Franchisees do NOT belong to the franchiser. They are owned by individual owners who operate them mostly independently. Owners are free to define their own marketing campaigns and promote their businesses as long as it doesn’t hurt the brand. There are instances where an idea came from one of the franchisees and gave life to the franchiser. Have you heard of Subway’s Five Dollar Footlongs? Have ate one? Or at least have you watched its commercial either on TV? It’s so popular that most of us are aware of it. This wonderful idea has forced its competitors such as KFC to come up with a Five Dollar Meal promotion. This idea was originally originated and implemented at a Subway in Miami, Florida by its owner. His sales went up almost instantly and the parent company has decided to take it up to all the branches. We all know the result.

Win Aliens before they make the Earth their place – If the Aliens conquer the Earth, the first thing they do would be to accustom the Earth to their needs. They make Earth their place. Once they achieve it, it’s hard for us to get it back. Companies can do the same thing. Once they become market leaders, they need to define the market going forward. Make their strong areas market’s de-factos. Drive the market developments as per their strengths. One example of this, that I can see, is in Technology sector. In enterprise software world, IBM is more or less a leader. Now we see IBM heading most of the future versions of the specifications. They drive the upcoming features in the new versions of the products. That way they can stay on top.

I felt, there are many warfare strategies that can be applied in corporate world. Of course, corporations have been doing this for a long time now. Nonetheless, this is my two cents.

Best American Bank

If I ask you the question, “what is the best American bank?”, what would you say? Well, I may hear different answers from different people. Some might say JP Morgan Chase and some might say Wellsfargo. Or else some say all are alike – disastrous, especially if you haven’t come out of the financial mess they have caused. But my opinion differs with most of yours’. Of course, the question is subjective – necessary specifier to be added to this question would “from whose point of view”. Answer might differ if you judge from a customer’s point of view or from an investor’s point of view. Here I am talking from an investor’s point of view. My answer to this question is US Bancorp (USB), parent company of US Bank. Yes, it’s true if you look as an investor. As per the numbers (total assets), it’s the fifth largest bank in the US after the big four that everyone knows – JP Morgan Chase (JPM), Bank of America (BAC), Wellsfargo (WFC) and Citi Group(C). Why I say USB is the best among all? Let’s dig into the numbers.

To back my argument, I am showing you two samples of stock prices. In both cases US Bancrop stands in the first place. On Oct 9th 2007, Dow Jones industries index closed on all time high of $14164. Let’s see what were the stock prices of the top five banks on that day and calculate the change between then and now. The closing prices (adjusted closing prices) are
JPM $43.01,
WFC $33.35,
BAC $47.19,
C $443.68
USB $29.68.

As of the last trading day – July 13th 2012- these stocks closed at
JPM $36.07,
WFC $33.91,
BAC $7.82,
C $26.65,
USB $32.70.

Note: Numbers enclosed in brackets show losses.

During this time Dow Jones’ gain is (-9.79%). Gains of bank stocks are as follows:
JPM (-16.13%),
WFC 1.67%,
BAC (-83.42%),
C (-93.99%),
USB 10.17%
Only WFC and USB gained and other three banks lost and performed worse than Dow Jones. Between Wellsfargo and US Bancrop, the latter stood first. Let’s look at another criteria.

Let’s consider the last five years and see how these banks’ stocks performed. In the last five years the highest price of these stocks are as below.
JPM – $48.66 (Apr 28 2008)
WFC – $39.80 (Sep 19 2008)
BAC – $52.71 (Oct 1 2007)
C – $507.30 (Jul 16 2007)
USB – $37.99 (Sep 19 2008)

Let’s calculate the gain/loss of these stock prices from these highs.
JPM (-25.87%)
WFC (-14.7%)
BAC (-85.16%)
C (-94.74%)
USB  (-13.92%)

Again US Bancorp stands first in the list with 13.92% loss and Wellsfargo is second with 14.7% loss.

Bottomline is, from the above numbers, US Bankcrop looks less risky than its counterparts. If you look at the growth side when times are good, US Bancrop might NOT stand at the top of the list. However, with less risk comes less reward/return. If you are a moderately risk-averse investor and want to invest in bank stocks, then US Bancrop looks to be a good option. As we all know, all financial institutions are riskier than other stocks. However, US Bancrop seems to be a better choice for those of you who are risk-averse but are into financial stocks.

PS: I just analyzed the stock prices changes here. Of course, you have to go through a lot more stats to decide before you invest in a stock. This post is NOT an exhaustive/thorough in that respect.

A tribute to Indian Farmers (To world farmers to that matter)

If you are from India or at least you follow the happenings from India, it’s likely that you heard of Indian farmers committing suicides. Have you ever think of the reason? The reason you may give is that their financial status has been in distress. That’s right. But do you know how bad it is really? Let’s dig into some numbers and know the facts.

For analyzing the facts, let’s consider simple growth metrics of a country – GDP (Gross Domestic Product) and Income-Per-Capita. If you are unfamiliar with these terms, here is a brief explanation. GDP is the cumulative productivity of a country in a year’s time. That means it’s the total income, a country (its workforce) earns in a year. Income-per-capita is GDP divided by population. That means it’s the income person person in the country on average.

In 1990 agriculture’s share in GDP was 31%. In 2011, it fell down to 16%. That means in about twenty years, agriculture lost half of its share in GDP. In 2011, nearly 52% of Indian workforce was dependent on agriculture, which is almost same as it was in 1990. In other words, 52% people are earning only 16% of the GDP where as the remaining 48% workforce, who is non-farmers, is earning 84% of the GDP. That means, income-per-capita of non-farmers is more than 5 times of the income-per-capita of farmers. In other words, farmers are earning 70% less than the nation’s average income-per-capita. For every rupee (dollar) that a non-farmer Indian is earning, a farmer is earning less than 20 paisa (cents). That shows how bad the farmers are doing.

The future for farmers doesn’t look bright either. In 2011-12, Indian GDP is projected to grow at 6.4% where as agriculture is expected to grow only by 3%. On the other hand, food inflation has risen to 12% in 2011. That means if you bought a kilo tomatoes for 10 Rupees in 2010, it would have cost you 11.20 Rupees in 2011. Though there was growth in food prices, the growth is not reaching the end producers – the farmers. Recently you might have heard of Indian government’s decision to allow Foreign Direct Investments into multi-brand retail sector (currently the decision has been put on hold because of the opposition government faced in parliament). This change would have allowed foreign companies to invest up to 51% which is a crucial number to take over the decision making capabilities. If this happens, it would not be a boon to farmers, primarily for one reason. Currently farmers have better negotiation power with the traditional retailers to get better prices to their products. If this law comes into force, then foreign companies would follow the same strategy they have been following elsewhere in the World. If you ask farmers,  in countries like USA, you may not hear much positive opinions about the big retail chains and their pricing policies. These chains make long term contracts with farmers which are less profitable to farmers. As the chains enter the market, it’s likely that traditional retailers will be forced to go out of business because of the fierce competition. As a result, farmers have to agree for the highly restricted contracts from chain retailers or they won’t find a buyer to their products. Hope this law will never be approved. Of course, same effects can be created by the domestic chain retail stores. However, we haven’t seen this trend yet.

Now, do you want to do something to make their lives better? Probably there is not much that we can do except for small help here and there. When you go to shop groceries in India, try to buy from Raithu Bazars (Farmers Markets) instead of buying from a grocery store chain. If you are one of those who don’t think twice before spending 5,000 Rupees on a branded dress or 2000 rupees on a dinner, then don’t bargain with the farmers for 5 rupees on a Kilo tomatoes. Be compassionate to farmers wherever and whenever you can. Hope and wish that Indian government’s decision to allow  FDI into retail business would never materialize.

Since 1997, nearly 2,00,000 (2 lac) farmers have committed suicide. Still every year, more than 17,000 farmers are killing themselves. Despite all these setbacks, still more than 50% of Indian workforce is in agriculture which hasn’t changed in last 20 years. That shows their commitment to their profession. Today, India is the largest rice producer, second largest wheat producer, only after China. India is the second largest in world agricultural output after China. India’s share in world’s agricultural output is more than 8% in 2011. It’s NOT just Cricketers who are bringing glory to India and Indians. It’s farmers too. Hats off to Indian farmers !!!!




Tim Cook, Steve Jobs’ Alter-Ego?

Note: I like to listen and learn from your opinions. If you like to share your view with me, then don’t hesitate to leave a comment on this and all other articles. I welcome any constructive discussions.

One of the most discussed topics last week is Steve Jobs’ resignation as Apple’s CEO. I like to put forward my thoughts on it. Many reports and TV shows covered this story. Almost everybody agreed that Tim Cook is a good alternative to Steve Jobs. When I read a little bit about Tim Cook, I could not come to the same conclusion immediately. If I was asked my response on this would be,  “we don’t have enough information to say either way”. I may sound strange by saying so, but let’s look into why I have to say that way.

First of all let me acknowledge Jobs’ achievements. I am trying to establish Jobs’ personality so that the comparison between Jobs and Cook would be easier. I don’t go into the history a lot but will briefly touch a few important milestones in Jobs’ life. As we all know Steve Jobs is a Co-founder of Apple. Who is the other co-founder(s) then? That’s Steve Wozniak. He is the design and the electronics guy behind early days of Apple. Apple’s first computer in the market was Apple-I. It was designed by Wozniak and was sold by Jobs. Then it was a good success and laid the path to its next generation computer Apple-II. Apple-II was a huge success. It redefined the computer world and over night Apple and Jobs became the hot news in Tech world. Jobs was the face of the company and he was believed to be a whiz-kid by most of the tech people.

After the success of Apple-II, company did not have a success for a long time during which it had to rely on Apple-II’s revenue for survival. Meanwhile, Jobs started working on a project called Lisa. This was supposed to be a high-end computer with much better configuration than the previous models. For some reasons Jobs was forced to leave the Lisa project which is taken over by others in the company. As a replacement Jobs was given another project (which was completely his brainchild) called Macintosh. Despite the hype it created, Mac was NOT an instant success. Eventually it did good. On the other hand, Jobs was forced to leave Apple.

After leaving Apple, Jobs started another company called NeXT which is acquired by Apple after his return to it. NeXT was not a successful venture, if not a failed one. While Jobs was with NeXT, he happened to buy Pixar Studios for $10M (some say it was only for $5 M). Jobs’ main idea behind buying PIxar was to manufacture Computers for Imaging purposes. His idea behind it was always to sell computers that can be used with Medical Systems etc. Jobs never considered Pixar to be an animation studio though he let some of its resources to be spent on animation. It was the case at least until Toy Story got released. Eventually Pixar was proved to be one of the best animation studios and was bought by Disney for $ 7.4 billion. With this deal, Jobs has become a board member and the biggest investor of Disney.

We all know what happened with Apple after Jobs’ return. He turned the company which was on the brink of bankruptcy to one of the most successful companies in American history ( I am sure Microsoft must be regretting its decision to lend a helping hand of $150M to Apple at that time). Today it’s the largest tech company in the world. By looking at Apple’s history everyone agrees that Steve Jobs is one of the best CEO’s that world ever had.

On the other hand, Tim Cook worked at some of the best computer manufactures such as IBM and Compaq. At both Compaq and Apple he was mostly responsible to the supply chain management. He doesn’t have much experience as a CEO except for a couple of months in 2004 in Jobs’ absence and then seven months in this year. That means mostly he is an operations person and yet to be proved as a CEO.

I like to recollect one of the most common questions in management world. What is the difference between a Leader and a Manager? Just think of it for a while before you continue to read on. Leader is a person who is mostly responsible to set the future course of the company. He has to motivate the employees, define the vision of the company and see how and where the company would be in the years to come. He is also responsible to make the company reach its vision in the given period of time. On the other hand, a manager is a person who takes care of the day-to-day operations. He might define the processes that would facilitate the day to day activities. He makes sure products/services/solutions are delivered on time. The same person can be a good leader as well as a manager. But there is no guarantee that a good manager makes a good leader and vice versa. That’s why most of the companies have two different designations CEO (Chief Executive Officer) and COO (Chief Operating Officer). What’s the difference between a CEO and a COO? Yes, COO reports to CEO and CEO directly reports to the Board of Directors. But that’s not what I am trying to highlight here. CEO is mainly responsible to  define the future course of the company whereas COO is responsible to make sure the operations are performed without any hiccups.

So far Tim Cook was more of an operations person than of a leader. No doubt he did an excellent job in removing all the chaos in Apple’s supply chain. He outsourced all the manufacturing to China and saved a lot of money to Apple while improving the quality of its products. His experience as a CEO is not known yet. Jobs as the CEO and Cook as the COO proved to be one of the best teams (just as Oracle’s Larry Ellison and Ray Lane did). Jobs always had a vision to the company. He is believed to be the world’s best consumer. He had an aesthetic touch to all of his thoughts. Aesthetics always played a crucial role in Apple’s products. If you ask any Apple customer why they like Apple products, the most frequently given answer would be “they look cool”. Apart from coolness, Apple products are simple to use. All this came into Apple’s products only because of Jobs. I am not saying Jobs himself designed all these products. But he has the taste of picking up the best of the designs/features to provide. He would never be satisfied with anything inferior. Tim Cook has declared that he would continue to give the same importance to designs and designers. However, what he also needs is the ability to pick the best one out of 10s of options provided to him. This quality cannot be acquired with experience. It has to be possessed by birth.

In the last seven months, since Steve Jobs announced his leave of absence, Tim Cook has been working as Apple’s CEO. However, in these seven months, I didn’t see any major decisions that can change the company’s path. It’s not very often you see the companies changing or redefining their strategies. So I would say we need to wait on this and see how Tim Cook will do when the time comes to define the company’s vision. With Apple’s current product line any operations person can lead the company for the next couple of years. But we need to see how Tim Cook is going to fare at his job when the time comes. It’s a skill to read the pulse of the consumers. Based on their pulse, products have to be made. It’s what Steve Jobs excelled. Even he was not correct all the time. He had some misfires too. For example, his purpose behind buying Pixar was to sell Image Computers. But how many of us know about Pixar Image Computers? His bet did not work in this scenario. However, Pixar was successful for other reasons which he too surprised about.

Generally when founders of the companies leave and the second generation leaders come in, it’s not easy to share the same vision and view as the founders did. We have at least a couple of cases in front of us to prove it. Where is Microsoft’s growth since Bill Gates gave up the reigns? What happened to Dell in the absence of Michael Dell? What went wrong with Apple between Steve Jobs’ exit and reentry into Apple? On the other hand there are successful stories too when the next generation leadership replaced the founders. Companies like HP and IBM did well even when the next generation took over.

It’s possible that Apple can stand in the same league as HP and IBM does. However, Steve Jobs cannot be replaced. There is no second Steve Jobs and there is no another Bill Gates. Every person is different with his/her own strengths and weaknesses. As Michael Porter, the famous Strategist once said, the leader’s personal values have to be taken into consideration while defining the future course of a company (in defining the feasible strategy of the company). All we need to do now is, just wait and see how Tim Cook’s strengths and weaknesses can off-set Steve Jobs absence.

PS: I hope iPhone 5 release is NOT delayed by Steve Jobs’ absence. Generally new models of iPhone release in June. This time it is NOT out yet. Hmmm…..it’s already end of August, I suppose. Are we seeing Jobs’ effect already 😉 ?

Warren Buffett’s BofA investment – A layman’s analysis

Today as soon as I woke up and logged on to yahoo finance, as I routinely do, I was surprised to see Bank of America’s (BofA’s) gain of 25%. That converts to nearly $19 billion in absolute numbers (of course, it shed some of its gains later). Then I saw the news and came to know about Warren Buffett’s investment of $5B in BofA. Then I started reading about the whole thing. First of all I wondered how powerful that $5 B is. In an hour or so (market was opened just half an hour before or so), those $5 B earned $19 B (at least on paper). Then I started reading the news on this topic. Almost all of the articles mentioned a rare instrument in investing world – “Credibility”. Yes, you read it right. More than the $5 billion, Buffett lent his credibility to BofA. Just in case you are NOT familiar with this word in investment world, as I am, then here is the Oxford dictionary’s definition of “Credibility” – “The quality of being trusted and believed in”. That means Buffett’s quality of being trusted/believed in is lent to BofA. But who is trusting here, really? That’s right. You, myself and many investors like us. By the way, if you are tempted to ask me why I took the definition from Oxford dictionary and why not from others, then my answer is credibility :). Yes, I believe in the quality of Oxford dictionary. OK, let’s leave the linguistic part of the discussion aside and start on the main part – Financial part of the news.

I know a few people who mimic the prominent investors’ portfolios. If you are the one of those who wants to follow “THE legendary investor”, then take a moment and read the below analysis. after you read it and give it a thought, then you can make the decision by weighing in all the information available to you.

To analyze how this deal works out for OTHER investors, let’s look at Buffett’s similar past investments. On SEPTEMBER 23, 2008, Buffett invested $5 B in Goldman Sachs (GS). On the next day after the news was made public, GS gained more than 4% and closed at $125 compared $120 a day before. The next three days were also good though the gains were NOT as good as the first day’s. Then market dynamics started working and they brought the stock down to $120. Then the trend was more like seesaw. As per the terms of the deal, Buffett got 10% annual dividend and also the warrants at a strike price of $115. These warrants were good for 5 years. Warrants are like options. Once you acquire them at a some strike price, either you can buy the underlying stock at the strike price within the validity period or you don’t have to if you don’t want to. For example, within these 5 years if the GS stock price goes above $115, then you convert those warrants into stocks by paying just $115 each, even if the price is $200. If the stock goes down, then you don’t have to buy and you won’t lose any money. The deal gave him a 10% dividend and these warrants at a discounted price on the closing price of Sept 23rd 2008. The closing price was $120 and he got them for $115. A regular investor would have got only 1.3% dividend on his/her investment where as Buffett got a whopping 10%. In the next 5 years from Sept 2008, if the stock price goes down, it wouldn’t cause him any loses. A normal investor would lose the money as much as the stock goes down. By the way, normal investors own something called common stocks. In case of liquidation, a company has to clear all its debts first and then the preferred stock would get the preference and at the last the common stock. The stocks that Buffett owned were Preferred Stocks which means his risk is less comparative to a common investor’s risk.

Note: All the calculations are done through simple calculations. Compounding is not used for simplicity purpose.

If we do simple math with the stock prices then we can see how much money Buffett would have made from GS investment vs how much a common investor would have made. Let’s scale Buffett’s investment down to a common man’s range. Buffett invested $5 B and let’s take $1 per every $1 M he invested. That comes to $5000. Let’s say a common investor invested $5000 in GS on the same day as Buffett did. The closing price of GS on 23rd Sept 2008 was $125.05 and today’s closing price is $109.84. Dividend for normal investors is $1.3%. The inflation rate of US in 2009 was -0.34% and in 2010 was 1.64%. That means the net inflation is 1.3%. A normal investor who had invested $5000 on Sept 23rd 2008 in GS would have lost 12% in stock price ( (125.05-109.84)*100/125.05 ). The net gain after factoring in inflation and dividend is (dividend 1.3*2)-( stock price change 12)-(inflation 1.3) = -13.3%. That means he would have been left with $4335. Let’s see how much Buffett would have made with the same terms he got. The net after inflation adjustment is (dividend 10*2) – (inflation 1.3) – (stock price change 115-109.84) = 6.7%. Had he invested $5000 then he would have been left with $5675. That means he can make 27% more than what an ordinary investor would have made.

If the normal investor hadn’t followed Buffett, then would he/she have left with better investment opportunities? Let’s see some examples. The change in S&P index between Sept 23rd 2008 and today is -2.4%. The net after inflation adjustment would be -3.7%. That means normal investor would have $4815 for his $5000. That’s nearly 10.5% more than the amount he would have gotten with GS investment. Being the index of 500 stocks, S&P is much less risky compared to GS.

Let’s see at AT &T which pays 5.9% dividend to the investors. The change in stock price is +1% (29.06 – 28.75). The net gains after dividend for 2 yrs and deducting inflation for two years would have been +11.5%. That means your $5000 would have been $5575. Though we cannot generalize, telecom stocks are less risky compared to financial stocks.

I am sure you will end up with the same conclusion if you analyze Buffett’s investment in GE that took place around the same time.

Today with BofA’s deal too, Buffett made a similar agreement. He would be paid 6% dividend where as normal investors would get only 0.6%. That’s ten-fold. He got warrants at strike price of $7.14 which are valid for 10 years. In these 10 years, he can buy 700 million stocks at $7.14. No matter how high the stock goes, he would still get them at $7.14 each. On the flip side, if the stock goes down, he will get his money paid back by BofA with the dividend and he doesn’t have to use those warrants. As a regular investor you won’t have this flexibility unless you buy Options. Of course, you won’t get 10 yr valid Options anyway.On top of these he also got 50,000 preferred stocks.

I like to bring an economic theory called “zero-sum game” to your attention. As per Wikipedia it means, a zero-sum game is a mathematical representation of a situation in which a participant’s gain or loss is exactly balanced by the losses or gains of the other participant(s). To rephrase this in layman’s terms, someone’s gain must be equivalent to other’s losses. Sum of cumulative losses and gains would be equal to zero. Buffett is sure on the gaining side. To compensate those gains somebody has to lose equal amounts. If you follow him, you decide on which side you would be – the gaining side or the losing side.

What I mean to highlight here is, it MAY NOT always be wise to blindly follow a successful investor. It may not always lead you to profits. Buffett is a legendary investor and so as his deal with BofA. At the end of the day, company’s performance and market dynamics weigh in and they are the REAL factors that make the stock move up or down. For a company with $77 B market cap, $71 B revenue and $94 B operating cash flow, $5 B would not make much difference. What BofA is trying to buy from Buffett is investor’s (all of our) trust. Buffett is selling/lending it to BofA. It’s up to the investors to look at the fundamentals and make the right decision.

A close look at HP

In recent times, Hewlett-Packard’s stock price has become a concern to its investors. On Friday, 19th of Aug 2011 itself it lost 20% of its market capitalization which is equivalent to $12 B approximately. A day before that HP announced its plans to either spin-off or sell its PC business. After I heard this news, I was shocked initially then thought of doing some math on HP revenues and growth rates.

For simplicity purposes, all the numbers mentioned here are rounded to the nearest integer. For 2010 FY, HP’s total revenue was $126 billion. Out of this, PSG (Personal Systems Group), its PC business, has contributed $41 billion (approx) towards that number. PSG’s revenue was nearly $41 billion, one-third of the total revenue. Total earnings from operations was $11.5 Billion out of which earnings from PSG were just $2 Billion. That means the group that contributed 33% of the total revenue has only resulted in 17% of the total earnings. As a result of this drag, HP’s margins look too low. IBM’s operating margin is 20% which is twice as HP’s. Let’s see how HP’s numbers look if we exclude PSG from HP’s portfolio. HP’s revenue excluding PSG was $85 billion and its earnings were $9.5 billion. HP’s operating margin with PSG is 9.12% where as without PSG is 11.17%. Either way HP’s operating margin doesn’t look as good as IBM’s 20%.

On the other hand, the growth of HP is also not on par with IBM’s. HP’s total Y-o-Y (Year over Year) growth including PSG for 2010 was 10%. Enterprise Servers, Storage and Networking group (ESS) grew at 21% and IPG (Imaging and Printing Group) grew at 7%. These numbers too don’t look so good. ESS grew at a good rate 21%. On the other hand the growth of Services was a meager 0.7%. This group is mainly composed of its $13.9 billion acquisition of EDS. PSG group grew at 15.4%. In fact this the second best growth after ESS.

The numbers for the first three quarters of 2011 compared to the first three quarters of 2010 look a little different. These numbers are the three most recent quarters numbers. So we can give more importance to these over 2010’s numbers. Services almost remained same between 2010 and 2011 (1% growth). Growth of other Organization Units are as follows ESS +14.6%, Software +14%, PSG -3%, IPG +3%. PSG actually contracted by 3%. On the other hand, their services definitely seems to be in bad shape. They are hardly seeing any growth there. IBM and other players in Services area are growing well in that sector with good operating margins. IPG growth is also NOT so appealing. However, it might be the market which is already saturated where it’s hard to see any rapid growth.

Good Decision to spin-off/sell PSG (Personal Systems Group)

By looking at these numbers, HP definitely doesn’t look good as of today. Investors’ concerns are NOT meaningless. In my opinion, HP has a lot of work to do at hand. As they declared last week, it’s a good idea to spin-off its PSG group. With narrow margins and weak growth prospects of the market, it’s a good idea to get rid of that division which IBM did long time back when there was no concept of tablet PCs which are the reason for PC market shrinking. However, IBM was not a big player in that market. Therefore it was an easy decision to them. On the other hand, HP is the world’s largest PC maker. But considering the industry’s growth prospects, the decision is wise on HP’s side to divest in this market. It will NOT reduce HP’s profit a lot but increases the operating margin by 2% which is a good metric to please the investors to some extent. By selling this business, they can release the money that’s been stuck in it and spend the money in a growing sector.

Lurking Danger – Services Group

In 2008, HP spent $13.9 billion to acquire Electronic Data Systems (EDS). I believe it was a good decision although it was a little pricey one. Services industry is the one where margins are high. HP is more like a follower in this sector than a leader. IBM has entered sector long before HP did and remained the market leader. Though the decision was good, its implementation doesn’t seem to be right. This group grew by 1% between 2010 and 2011. Between 2009 and 2010 it grew by 0.7%. In my opinion, this seems to be a disaster waiting to strike. Unless, HP solving the problem that’s hindering the growth, this group would also lose its steam. HP’s history with acquisitions is not-so-good, if not bad. Last year, they acquired Palm for $1.2 billion dollars which they are simply throwing it away, today. For the same money around the same time it could have got someone like Pega Systems which is a good player in BPM software world. In 2001, when the Application Servers were ruling the enterprise software world, HP acquired an application server vendor, Bluestone Software. Given the time at which this decision was made, one has to agree that it was a good move. However, the execution part of that strategy was not so good as HP had to discontinue the product. So, one of the things that HP has to address is it’s Services group’s growth issues.

Positive Signs – ESS (Enterprise Servers, Storage and Networking) Group

Except for servers, the other two are HP’s recent initiatives. They ventured into storage and networking sectors recently. The growth in this group seems to be really encouraging to HP. Before and after, Palm, some of HP’s acquisitions are in this sector. These acquisitions include Opsware, 3Com, 3Par, ArcSight etc. I believe HP is doing the right thing here and needs to continue to focus on this sector. May be, Juniper Networks would be a good fit to them to compete better with Cisco in Networking.

Untapped Market – Software

Though HP has the presence in Enterprise Software market, it is still a small player in this sector. Out of HP’s $126 billion revenue, Software contributes only 2%. I believe this is where HP can look for more growth in near future, along with Services and Data Storage and Networking (ESS). It has announced, some time back, as its focus is to expand into the enterprise software. Its main intention is to concentrate on Cloud based software which is an upcoming trend in Software world. By making this decision, HP is going in the right direction. However, it is already too late for HP to enter Enterprise Software market which is already filled with a lot of big players like Oracle, IBM, SAP etc. Their current presence is negligible compared to these other players’. So HP has to make the decisions quick. We need to wait and see how the acquisition of Autonomy would help HP to lay the first steps in this direction. However, I doubt if it could help them to enter the Cloud Computing area. While acquisitions stimulate the inorganic growth, HP has to concentrate on Organic growth as well. It has to put more focus on getting more and more talented people in to this division. New products have to be developed in-house as well. Being the highest margin market, Software can take the HP’s growth by leaps and bounds. It’s going to be HP’s cash cow, provided the right decisions are both made and implemented.

To conclude, HP has some serious problems in hand to solve. They have to work on their margins. In my opinion, the recently announced decisions, if correctly executed, can save HP from current crisis. HP is not the first one to be in this situation. In 90’s, IBM had the same problem and they were able to turn the things around in to their favor. Now it’s HP’s time. All it needs is a right person who can drive HP’s growth engine in right direction. Can Leo Apotheker be the one? We need to wait and see. May be, an experienced hand in M&A and post M&A activities is what Mr. Apotheker needs at this moment.

Personal Experience with HP: I like to see HP make a come back. I started my career at HP as an intern. I wish HP good luck !!!

References: Key Stats Page at Yahoo Finance Annual Report 2010  and 2011 Q3 Financial Report