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Creative Tech fighting fit for next lap
Group is healthy and has learnt to be street smart, says Sim Wong Hoo
By Jennifer Lien
[SINGAPORE]
Countering critics of his new strategy, Creative Technology chairman Sim Wong Hoo says that his company is now in the best shape ever to take the next leap.
"This is like deja-vu 1989," Mr Sim told BT last week. "Creative in 1989 was a US$1 million company, facing consumer audio giants like Yamaha and Roland, 1,000 times our size, and yet we prevailed.
VIPs at Creative Technology's HQ: Prime Minister Goh Chok Tong (centre), Mrs Goh (left) and Mr Sim (right) at the recent opening of the group's headquarters
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"Today, Creative is a US$1 billion (S$1.7 billion) company. Yes, we're still up against consumer electronic giants, 50 times our size. Which Creative do you think is in a better position?"
Mr Sim was referring to his new "personal digital entertainment" strategy announced last month, which has impressed few analysts so far.
This involves selling a variety of digital gadgets, such as audio players, video recorders, pianos and projectors, all linked to the PC, and Internet-ready.
The day he unveiled his new strategy, Creative posted a 19 per cent lower net profit of US$60.6 million for the December quarter. Since then, the Creative stock has fallen 18 per cent.
Fretting that Creative's shares were "behaving like it's going bankrupt", he pointed out that the December quarter was its second most profitable. Creative also had over US$400 million in cash and was tightly run. Its inventory had fallen 13 per cent year-on-year to US$125 million, and gross margins were over 30 per cent, despite Creative selling CD-ROM drives at 5 per cent margins or less.
He singled out fears that Creative's core audio business was "going down the toilet", and that Creative would be "crushed" by consumer-electronics giants such as Sony in selling the new gadgets.
Audio margins were at 50 per cent and rising, and Creative's latest flagship card Sound Blaster Live! was delivering "much, much higher" margins than previous products, he said.
Market share was going up: Creative sold 10 million audio products in the December quarter. Sound card sales jumped 50 per cent year-on-year during the quarter, while lower-margin audio chips for original equipment manufacturers (OEMs) soared tenfold. Also, Sound Blaster Live! had sold one million units in the four months since its launch -- Creative's fastest product ramp. The AWE64, Creative's last major card, took six months to hit one million.
Responding to concerns that audio revenues had fallen 12 per cent despite volumes, Mr Sim said Creative was lowering costs faster than the drop in prices, thus maintaining overall margins. Also, despite lower prices, selling more units means a higher installed base -- and more customers who will return to buy other Creative products.
But Mr Sim conceded that upside growth for audio margins may "flatten".
"I think at a certain point competition will come in. We have no illusion that we are able to keep this. We're prepared to fight. But I think a healthier model would be around 30 per cent."
As for competition against well-established consumer-electronics companies such as Sony, Panasonic and Yamaha, Mr Sim noted that Creative had leapt to No 2 in retail and No 3 in distribution for graphics -- a market which, in 1995, no-one believed it could win in.
Creative had also gained market share for speakers from entrenched competitors Philips, Yamaha and Altec, reaching the No 1 mark in distribution, and No 2 in retail, within a year of entering the market.
And addressing concerns that Creative lacked the mainstream consumer distribution channels for non-PC products such as home theatres and pianos, Mr Sim said Creative has always had access to these channels through its Cambridge chain of speaker stores, and its subsidiaries E-Mu and Ensoniq.
Creative was aware of the challenges of entering a new market, and would be cautious. It was also aware that "giants may come out to play" -- and would move quickly. And from its ill-fated foray into making CD-ROM drives, Creative had learned to be street-smart, said Mr Sim.
Taking the opportunity to further explain the new strategy and its impact on Creative's company structure, Mr Sim said personal digital entertainment would continue to centre on audio, which is required in all forms of entertainment, be it movies, music or games.
Creative would continue to be vertically-integrated in all audio functions, from chips to speakers, ensuring control over margins.
Other add-ons, such as graphics cards and DVD-ROM drives, are produced with partners. Lower margins from these products are acceptable, said Mr Sim, "since our investment is smaller".
In the same vein, the new personal digital entertainment devices will be built by Creative, or with partners, depending on the audio content.
The strategy will gradually result in a complete, PC-related entertainment system, built around audio. Each product will be driven by a "killer" software application, produced either by Creative or its partners.
And rather than generating only a couple of hundred US dollars in sales from each PC in existence, each PC could "in a couple of years" generate US$2,999 in personal digital entertainment spending -- a big potential cash cow.
Creative will introduce these products over time, said Mr Sim. A digital audio player, based on the MP3 standard but with enhancements, will be launched next quarter.
The strategy will also result in a company restructuring. Creative's professional audio division, US-based E-Mu Systems, will combine with lower-end sound card maker Ensoniq, to produce digital pianos and other products for the whole company.
This was timely, since the professional electronic audio market was "stagnant", given the recent return to acoustic instruments by professional musicians, said Mr Sim.
As for the rest of the company, Mr Sim has given his managers a quarter to come up with a new structure. "I'm throwing everything into the pool again and then they'll all divide," he said.
Instead of having fixed product groups, the new structure could have fluid teams, with engineers rounded up for individual projects. "But I'm not going to mandate it," said Mr Sim.
And the financial impact?
"I think the revenue will be much higher, but in the long run the gross margin might reduce a bit, because of the number of partnerships, because we're selling bigger items," said Mr Sim.
"I think the 30 per cent margin is too good for this business. Sound cards, no problem. But moving into these big bulky things, the margins might not be that high."
But he hastens to add that this will not be an issue, as percentage expenses will fall in line with growing revenues. "And because we're not adding so much value, the margins should be lower."
How then will he convince the financial community of Creative's well-being?
"Our PE is so low already, single-digit, we're just like a trading company making a 5 per cent margin. You cannot value by margin, you value by profitability," said Mr Sim.
"You look at our bottom line, that's the most important. If you make more money, you give whatever PE you feel is comfortable.
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