Ideas are a wonderful thing. They are the driving force behind
all things creative and different. They fuel businesses, provide an
endless source of jobs and create value. But what is the intrinsic
value of an idea? In any business, an idea is ultimately worth the
value of the earnings generated through its execution.
As many witnessed in the dot-com bubble of 1995-2000, the market
often places excessive value on ideas which fail to generate
meaningful earnings. For a short time, hype and speculation rule
the day. But this doesn't last forever. History may be repeating
itself when looking at the current valuations of social media
companies. I recently came across an interesting excerpt by
entrepreneur Derek Sivers that I thought was relevant and worthy of
a share (note: it's a bit dated as it's from 2005):
It's so funny when I hear people being so protective of
To me, ideas are worth nothing unless executed. They are just
a multiplier. Execution is worth millions.
AWFUL IDEA = -1 NO EXECUTION = $1
WEAK IDEA = 1 WEAK EXECUTION = $1000
SO-SO IDEA = 5 SO-SO- EXECUTION = $10,000
GOOD IDEA = 10 GOOD EXECUTION = $100,000
GREAT IDEA = 15 GREAT EXECUTION = $1,000,000
BRILLIANT IDEA = 20 BRILLIANT EXECUTION = $10,000,000
To make a business, you need to multiply the
The most brilliant idea, with no execution, is worth $20.
The most brilliant idea takes great execution to be worth
That's why I don't want to hear people's ideas.
I'm not interested until I see their execution.
What Sivers is getting at is that many don't recognize that
ideas without a solid record of execution are of little value. The
amount of time required to come up with an idea pales in comparison
to the time and work required to continuously execute on one in a
competitive market. Investing in cool ideas for the sake of novelty
appears to be a good way to get burned. Ask investors in 2000′s
oft-maligned Pets.com, which fell from a stock price of over $11 to
$0.19 in a span of just 9 months. Possibilities are always
'endless' at the outset of an idea. The question is whether or not
the people behind the idea are worth investing in and whether they
will be able to execute at a level that justifies the
Publicly traded social media companies such as Pandora (
), LinkedIn (
), Yelp (
), Zynga (
), Facebook (
) and Groupon (GRPN) may have great ideas behind them, but
execution and effective monetization is what counts. I believe the
market is overestimating the ability of these companies to rapidly
grow earnings in a sustainable fashion. I am not saying that social
media is a fad or that online companies cannot be great businesses.
I am not even saying that these companies do not have solid
business plans. What I am saying is that until these companies
start generating real earnings, investing in them at their current
valuations is simply gambling.
LinkedIn, which may be one of the better companies of the bunch,
trades at a ridiculous 912 times earnings. Even after its recent
hammering, Facebook trades at 115 times earnings. The rest of the
above companies do not even have earnings to speak of. They are all
priced with an assumption of perfect execution of their business
plans and pie-in-the-sky growth projections. There are many risks
and challenges ahead. If that brilliant execution does not
materialize, share prices are going to drop. As a great strategist
once said, "no plan survives first contact with the enemy".
Continual execution amidst a changing environment is vital.
The truth of the technology sector is that competition is fierce
and economic moats are much frailer. You may be the first to get
your idea to market, but if somebody can execute that idea better
you will lose your edge very quickly. The success story of Apple
(AAPL) can be told in the execution of great ideas that already
existed. Microsoft (MSFT) attempted to introduce the mass-market
Tablet PC many years ago. How many consumers actually bought one?
Our knowledge of today's market tells us that the consumer tablet
was a great idea. But Microsoft had weak execution. Apple's
introduction of the iPad disrupted the industry and showed that
brilliant execution is what is paramount. Similarly, there were
many MP3 players on the market when the iPod was first released.
Apple simply executed the idea of having digital music in your
pocket in a much more effective and user-friendly way. Ideas are
secondary to execution when talking about value creation.
All of the above social media companies are at risk of having
somebody else executing their idea in a more compelling and
user-friendly way because the barriers to entry are relatively
small. By valuing these companies at billions of dollars with weak
or no earnings, the market is assuming that they are infallible and
that the earnings will
come. That assumption implies brilliant execution amidst a
constantly changing competitive environment.
Yet, consumer usage of online services is fickle and every
web-based company is susceptible to the 'fad' effect. The drop in
usage of once-popular services such as MySpace, AOL, Ask Jeeves,
Friendster or most of the dot-com bubble companies attests to that.
Competitive factors aside, the trends in
digital consumption towards increased mobile usage
relative to desktop
paired with a general slowdown in the global economy will hurt
optimistic growth assumptions. It is not wise to invest based on
the quality or uniqueness of an idea alone. Execution (i.e.
sustainable earnings) are what will count in the long run.
Indeed, I am sure that there will be many investors that will
generate healthy returns gambling on some of these companies. Many
more are going to get burned. It will be a challenge for social
media companies to execute to the level of the lofty expectations
inherent in current valuations.
I have no positions in any stocks mentioned, and no plans to
initiate any positions within the next 72 hours.
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