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April 30, 2007

Peace, Love and Bobby Sherman

"History doesn't repeat itself but it rhymes." Mark Twain

The more things change, the more they stay the same.

There are fundamental laws of nature that no matter how the world and people have evolved, are as consistent as Spring following Winter and the Sun rising in the East.

Markets are motivated by fear and greed - but earnings growth drives stock prices over time. Things are never as good as they seem or as bad, reality lies some where in between.

We know about Aesop's fables today because the Greek philosopher recognized thousands of years ago that the wiring of people and human nature is as absolute as the laws of gravity. The Farmer and the Goose that Laid the Golden Egg, The Tortoise and the Hare, The Crow and the Pitcher, The Boy Who Cried Wolf, and The Fisherman were all fables that are as applicable today as they were before the Internet, television, instant messaging and airplanes were on the scene.

The current macro environment seems to have some elements of "the '70 show" where our country is divided by a gruesome war in a far away land. Every day, the New York Times writes about another atrocity causing many to question the strategic rationale of our involvement.

Everyone is concerned about the environment and wants to give peace a chance - global warming, AIDS in Africa and the growing extreme between haves and have-nots causes strife amongst the caring.

The politics and economics of oil have an outsized influence on government and business leaders.

Iran and Russia are highly relevant in the debate on who's on first amongst our friends and foes.

And last week, for the first time since my high school economics class, the word "stagflation" became used in mainstream lexicon - with first quarter GDP at a paltry 1.3% and consumer prices rising at 3.4% (2.2% when food and energy are removed - although I'm not sure why you'd do that). Obviously, low growth and high inflation is the recipe for disaster but I'm not sure it's time to bring out Gerald Ford's W.I.N. (whip inflation now) buttons. Globalization, the internet and outsourcing all put a secular lid on inflation.

As I see it, our crisis in confidence is really a crisis in fresh ideas.

As I outlined it in last week's ThinkThoughts, my proposal is for a new political party I called the Earth Party.

America is starved for new ideas to address the problems of today. Education, Energy alternatives, the Elderly, the Environment, supporting Entrepreneurism and Economic incentives aligned with our most important goals are the fundamentals which we need to move ahead. We need a plan and we need to execute the plan.

Remarkably, creating goals and having everybody understand them is a big issue. Factually, in a most recent study of how companies execute goals, only 15% of the Fortune 500 employees even know what their company's goals are. As it relates to our country, I know our populace has a less than 15% chance that we know what the top 1, 2 or 3 goals are.

Execution of goals requires disciplined leaders. The current execution of our nation's goals reminds me of what the late John McKay - coach of the hapless Tampa Bay Buccaneers said after a particularly bad game when asked about his team's execution - he said "I think it's a good idea". In corporate America, the execution factor is that when all is said and done, more is said than done.

Last week markets mainly moved higher led by NASDAQ and the Dow which moved up 1.2% each and the S & P 500 which advanced 0.7%. The Russell 2000 was up 0.1%. Apple (NASDAQ: AAPL, $99.92, Buy - Price Target: $130) and Amazon (NASDAQ: AMZN, $62.60, Source of Funds - Price Target: $34) were the two main growth stocks in the news with both reporting huge first quarter results.

While investors are generally pleased with first quarter numbers, this is mainly due to the fact that expectations were low with EPS originally forecasted at 3.2% for the S & P 500 with the current expectation over 2x that to around 7%.

We remain very bullish.

Posted by Michael T. Moe at 12:07 PM | Comments (0)

April 23, 2007

The Earth Party

When the United States was new, there were no political parties - just factions. George Washington ruled the nation with one eye to the future and building a great country and one eye to the past, respecting the historical sovereignty of the individual colonies.

Before you could blink those two eyes, a seemingly natural order emerged where two political parties were embedded in our system. At first we had the Federalists, led by Alexander Hamilton, versus the Anti-Federalists. Then the Democratic Republicans, led by Thomas Jefferson, emerged to replace the Anti-Federalists and provide the "common man" a party to combat the elite Federalists.

The Federalist became the Whigs and the Democratic Republicans became the Democrats. Then the Whigs became the Republicans and that's the two party system we've had for basically 150 years.

Yesterday was "Earth Day" which provided me with an idea for a new political party. Increasingly it seems to me that the traditional Republican and Democratic Parties are becoming obsolete. Both parties seem void of new ideas and more focused on beating each other up than creating solutions for the future.

It's time for a new party to come on the scene to reflect the emerging realities and to provide a political platform for tomorrow. My idea is to launch "the Earth Party", a.k.a. "TEP."

The core philosophy of TEP is that "the world is flat" and irreversibly interconnected. Policies and priorities need to reflect the self-evident truth.

Two hundred and twenty years ago, the Federalists argued for a strong national government and the Anti-Federalists fought for State rights. The Earth Party's objective is to balance the need to put America first with America's leading role in global citizenry. The AIDS epidemic, poverty, terrorism, education, pollution and energy are global issues that have a profound impact on the future of America.

A key principle of the Earth Party is to be an outstanding fiduciary of the planet we have been given - it's not ours. Growing up, the "America the Beautiful" and "Anti-litterbug" campaign had a profound impact on me and many others. We need a new "planet earth" campaign to keep streams and the air clean, the forest full and the wildlife abundant.

The main points of the Earth Party platform are what I call the Six E's - Environment, Education, Energy Independence, Elderly Support, Entrepreneurism and Economic Incentives.

Environment - the Earth Party will embrace growth but not at the expense of the environment. Tom Friedman's mantra that "green" is the "new red white and blue" captures the point that environmentalism is really patriotism.

Education - in the Knowledge Economy and Global marketplace, education makes the difference not only on how an individual does but how a company does and for that matter how a country does. The correlation between poverty, crime, drugs, suicide bombers and lack of education is indisputable. We have a responsibility and self interest to revolutionize our own education system and provide support to help educate the world. The Internet can help democratize learning, providing access, lower the cost and ultimately increase the quality.

Energy Independence and Alternatives - the consequences of being hostage to foreign oil are unacceptable. The consequences for the environment of being dependent on any oil are substantial. We need to dramatically invest in innovation for alternative and clean energy - biofuels, solar, water and wind. Biofuels can make the Midwest the new Saudi Arabia, but have our farmers, engineers and country be the beneficiaries. Solar power has tremendous potential and an everlasting source of energy that will be here for as long as it matters (because after the Sun's gone - we're gone).

Elderly Support - as a country, we need to create policy and programs that support, respect and elevate our older citizens. An inconvenient truth is too often, we try to pretend our elderly don't exist without the voice they deserve. With an aging US population, people living longer and new issues this demographic reality present, a new elevation of the elderly is critical for America's moral foundation.

Entrepreneurism - we need to reinvigorate our economy, society and political system with the magic that entrepreneurs bring to the system. Providing an environment that allows entrepreneurs the freedom to create solutions to problems, new businesses that service the needs of the populace and the world is critical to having the world be a better place in the future. Stock options work and Sarbanes Oxley doesn't.

Economic Incentives - the Earth Party believes that Capitalism and Free Markets work. People behave in accordance with economic motivations - objectives that we want to achieve as a society need to be aligned with key priorities. The goals from the other five E's need to have economic incentives reflected to achieve our policies.

What does the Earth Party have to do with investing in the "stars of tomorrow" - the fastest growing, most innovative companies in the world? Maybe nothing. Or maybe everything.

The biggest investment opportunities are where there is a problem - the bigger the problem the bigger the opportunity. The environment, education, energy independence and alternatives, the elderly, entrepreneurs and economic incentives are going to be hot issues surrounding where investment potential abounds.

The seventh "E" - earnings - are what propelled the markets significantly higher last week. While expected earnings growth for the first quarter is still a very modest 5.3%, results have been better than expected. Of the 101 S & P 500 companies that reported last week, 70 beat consensus earnings expectations and just 17 missed. For the week, the Dow was up 2.8% and has been up 15 of the past 16 sessions. The S & P 500 advanced 2.2% and the NASDAQ, powered by 69% EPS growth, was up 1.4% for the week.

Advancers beat decliners by a 2 to 1 margin and particularly impressive was that the ratio of companies making new highs versus new lows was 1167 to just 149. Also encouraging was the $5.4 billion of inflows into equity mutual funds.

We remain bullish with a focus towards companies that have strong organic revenue and earnings growth. These companies will attract investors' attention in the slower growth environment we are in.

Posted by Michael T. Moe at 10:39 AM | Comments (0)

April 16, 2007

‘Tis the Season…

King Solomon of Israel was the wisest person of all time according to the Good Book. In Ecclesiastes 3 he writes about how there is a "season" for everything; from living to dying, loving and hating, etc. (the Byrds wisely created the best selling song Turn, Turn, Turn from it).

We like the concept of "seasons" as it helps create an order around things and a framework to process stages in life. Seasons have emotions that are associated with them. Summer Season means "schools out" and fun at the beach. Fall is Football Season and time to get ready for the winter. Christmas is "'tis the Season to be jolly", etc.

With April, a number of seasons commence. While spring officially starts in March, it's not until April that people really start to believe winter is over (except this weekend on the East Coast!).

The beginning of April is the beginning of the Baseball Season with millions of people going to opening day to cheer on the home team (and/or drink beer).

On Friday the 13th, the "old" Old Pro, which was the oldest bar in Palo Alto, shut its doors after 43 year round seasons and marking the end of an institution. The despair caused by the death of the "old" Old Pro was lessened by the birth and success of the "new" Old Pro in downtown Palo Alto (full disclosure, more than half of my casual wardrobe is Old Pro gear courtesy of Think advisor and Old Pro investor Bill Campbell).

Of course, April is also the month that contains April 15th, the final day of the Tax Season. This year, We the People will provide a $2.4 trillion contribution to our government to act as fiduciaries (where is Elliot Spitzer for this one??? Forgot for a second he was part of the government). To put the $2.4 trillion in perspective, China's entire GDP is only $1.9 trillion!

But for investors, next week is really the beginning of 1st Quarter Earnings Season. Last quarter was the first time in 18 quarters where earnings growth as proxied by the S & P 500 was below 10%. This quarter is expected to be worse with current analyst forecast for the S & P 500 at just 3.2% and only 6.6% growth estimated for the year. Interestingly, in the ThinkEquity Research Universe where we expect 26.4% EPS growth for 2007, we are forecasting just 12.7% EPS growth for the 1st Quarter significantly above the S & P growth but way below our growth expectation for the year.

In an environment of which we are coming out of where seemingly everything was experiencing high EPS growth, true growth companies were underappreciated. Now that we have entered a period where GDP growth is expected to be only 2.2% in 2007, S & P 500 growth is expected to be less than 7% and the Fed is more worried about inflation than getting fuel in the tank, we believe sectors and companies that are experiencing high organic growth will be attracting investor's attention and assets. Accordingly, we now believe we have entered The Season for Growth - growth companies will be the stars and growth investors will finally start to achieve out-performance.

In our universe of focus, we expect the Media/Entertainment to have 37.4% EPS growth for the quarter and 34.5% EPS growth for the year. Google (NASDAQ: GOOG, $466.29, Buy - Price Target: $600), Akamai (NASDAQ: AKAM, $53.00, Buy - Price Target: $63) and ValueClick (NASDAQ: VCLK, $29.50, Buy - Price Target: $33) are all experiencing outsized growth and rated a BUY by ThinkEquity.

We expect our overall Tech Research Universe to experience 23.2% 1Q EPS growth and 26.7% for the year. Apple (NASDAQ: AAPL, $90.24, Buy - Price Target: $120), CBEYOND (NASDAQ: CBEY, $34.00, Buy - Price Target: $40), salesforce.com (NYSE: CRM, $42.58, Buy - Price Target: $55), QUALCOMM (NASDAQ: QCOM, $42.55, Buy - Price Target: $50), and Color Kinetics (NASDAQ: CLRK, $21.35, Buy - Price Target: $28) are all high quality growth companies that we expect to have much faster EPS growth than the overall market and are rated BUY.

Despite consumer confidence falling and gas prices and yields rising, the markets continued to move up last week led by NASDAQ. For the week, NASDAQ was up 0.8%, the Russell 2000 advanced 0.7%, with the S & P 500 up 0.6% and the Dow up 0.4%. Advancers beat decliners by a 7 to 5 margin and companies making new highs versus new lows were a bullish 854 to 195.

Even with slower growth expectations for the overall market, with the S & P 500 selling at under 15x 2007 estimates and 13.5X 2008 versus a 4.77% 10-year note, stocks are attractive. We think the real opportunity is to focus on companies that have secular organic growth that is much higher than the market and that have reasonable valuations.

With NASDAQ trading near 2500, which if it breaks through, it should be off to the races, strong earnings results from tech and growth bell weathers such as Google (NASDAQ: GOOG, $466.29, Buy - Price Target: $600), Intel (NASDAQ: INTC, $20.46, Accumulate - Price Target: $23) and IBM (NASDAQ: IBM, $94.93, Buy - Price Target: $110) next week could be the catalyst that is needed.

We have put together our 20/20/20 - BUY list which has ThinkEquity BUY rated companies that we expect to have 20% or better 1Q results and we are forecasting 20% or better 2007 and 2008 EPS growth.

Posted by Michael T. Moe at 11:39 AM | Comments (0)

April 09, 2007

Star System

One of the bizarre realities of Wall Street is the generally random process security analysts use to evaluate investment opportunities. I was an analyst at Lehman Brothers when it had the number-one-ranked research department on Wall Street. I was Director of Global Growth Research at Merrill Lynch when it was ranked #1. I was Director of Growth Research and Strategy at Montgomery Securities when that firm did better research than the other two top ranked firms. And at all three places, the instructions were essentially the same: "Here's a laptop. This is your industry. Go write research and recommend companies."

Was there a Merrill Lynch way? A Lehman Brothers way? Or was there a process to identify, analyze and recommend stocks? Absolutely not. Basically the "process" for doing security analysis was to hire bright, ambitious people and tell them to do their thing. Sometimes it works. And often it doesn't. It's not a mystery that research analysts are held in such low regard.

But it's not their fault because they haven't been given a process. If Starbucks hired kids off the street and told them, "Go make a latte" very few people would have ever heard of Starbucks.

One of the characteristics of great companies is that they are systematic and strategic in how they operate their business. Similarly, to be a great investor or analyst, you need to be systematic and strategic on how you analyze companies.

We have created a "recipe book" on how to identify and invest in the fastest growing companies in the world. It starts with our Think 10 Commandments and then proceeds to our megatrend analysis, our evaluation of company's four Ps and a disciplined valuation approach.

The Think 10 Commandments is the foundation for our investment process. I know it sounds unbelievably hokey and simplistic-and it is-but we believe passionately in it and it works. Complexity sometimes impresses people but it rarely produces stellar, consistent results.

First, be right on the fundamentals. Earnings growth drives stock price. There is essentially a 100% correlation between how a company does and how its stock performs over time. Focus on the fastest-growing companies.

Second, be proactive, not reactive. Looking ahead and anticipating where the world is heading is how we catch winners early on. Try to predict what will be in tomorrow's newspapers, as opposed to reacting to what is in today's.

Third, be rigorous but don't have rigor mortis. Looking at the balance sheet to make sure a company has enough cash to support your "blink" decision is important, but it is possible to overanalyze opportunities. The best investments are often easy and intuitive.

Fourth, when wrong, admit it. The best investors and analysts are wrong a lot. The worst thing to do is rationalize a mistake. Be intellectually honest. Make decisions based on current facts, not what you had thought to begin with.

Fifth is the cockroach theory. You seldom find just one cockroach in a kitchen. Likewise, if you find a problem at a growth company, there are always more behind it. It's rarely a one-quarter issue - the first loss is the best loss.

Sixth, investment ideas are about information and insight. Information is valuable if it is proprietary. Insight is valuable if we know what that information means.

Seventh, the 4Ps (people, product, potential and predictability) are key for any successful growth company. The first P, people, is the most important.

Eighth, use five independent sources for each stock you invest in. If possible, have a regular dialogue with the company management, but remember they will always see the glass as half full.

Ninth, find three main reasons for a stock to move up or down. In addition, identify near-term catalysts for price movements. Maintaining a thesis for why you own a stock is key.

Tenth, and finally, be passionate about investing, but dispassionate about the investment. The stock doesn't have feelings or know you own it.

The Ten Commandments create a consistent framework to cement my philosophy and are integrated into all that we do. We then start with a top-down view of each growth sector to determine how Megatrends and industry drivers are influencing the potential of an industry. From that top-down approach, we create investment themes, which are where we focus our research and resources.

Next, we strive to know and list all the companies within the investment themes we've identified. From big to small, public to private, fast growing to slow growing, we will rank the companies based on the four Ps. We may not have a model on every company, but we will have an opinion on who the best companies are, based on the four P framework.

After we rate the companies within our investment themes, we have a disciplined valuation approach, based on earnings growth and price to earnings to determine near-term attractiveness. The reality is that at any given time, there are great companies selling at bad valuations that create near-term risk, as well as bad companies selling at compelling valuations that create near-term opportunities. A disciplined valuation approach focused on future earnings gives us a framework to make informed decisions and manage risk.

The other part of our research process is to have one eye on the short term and one eye on the long term. There is no question that the greatest benefit will be derived from being right in the long term, but we need to be alive to enjoy the success.

The eye focused on the short term needs to understand catalysts, data points and valuation. Understanding what will move a stock in the next two hours, to days, two weeks, and so on, is highly relevant. The eye focused on the long term assesses earnings growth. As I'll say again and again, earnings growth is what drives stock prices and is nearly 100% correlated with long-term performance.

In the shortened week, stocks acted well led by NASDAQ, which jumped 2.1%, followed by the DOW, up 1.7%, and the S&P 500 advancing 1.6%. Many reasons were given for why stocks continued to march upwards but I think the real reason is that stocks want to go up. By that I mean that stocks are looking for excuses to advance and investors are shrugging off news that could be interpreted negatively and are looking at the glass half full. Also, the $1.5 trillion buying power of private equity firms provides both a catalyst for upside in companies (who's next?) as well as protection on the downside.

We remain bullish.

Posted by Michael T. Moe at 06:20 PM | Comments (0)