You wrote that you did some research inside the company to "identify important aspects of the growth problem" and that, "By early November I knew the answer." What conclusion did you draw? Was it competition, the Asian crisis, a crisis in management, a change in the market, or what?
I will answer your questions based on my memory of publicly available information and statements.
It has always been hard to blame the Asian crisis for a slowdown in WIND's revenues first noticed early in 1999. Most companies impacted significantly by the Asian crisis suffered declines in revenues in late 1997 and early 1998, but by 1999 had fully recovered. For example, look at the entire semiconductor sector.
But most companies are not Wind River. WIND has thousands of design wins contributing an ever-increasing portion of revenues (based on numerous public CC comments). I deduced specific numbers describing this growth about a year ago before I left the thread-again public information. What actually happened is that when the crisis hit, the revenue-producing potential in the pool of design wins had built up to the point that it easily offset any immediately noticeable effect of the crisis. Actually, there was an effect, but it couldn't be noticed. WIND's revenues would have continued growing ever faster had the crisis not hit-consistent with the view of an emerging powerful paradigm for computing.
The impact of a slowdown in design wins, suggested in early 1999 by H&Q analysts, began to be felt on overall revenues by Q4 FY99. The bottom seems to have occurred in Q1 and Q2 FY 00, almost two years after the Asian crisis was first signaled. In the last CC, the talk was all about there being 1000 design wins in the quarter, but little mention of royalties, the converse of prior CC?s. Why? Because the ship is being righted. Design wins are escalating, to be followed by a resurgence in royalties. It can take upwards of two years to wash out completely the effects of the Asian crisis, which in turn took two years to manifest itself.
If WIND's problems were caused by competition, then the extra investments made last summer certainly hasn't had sufficient time to engineer a turn-around. (Recall that TMS and T2 were virtually completed by Q1 FY00, and Xact and RouterWare were already purchased. Extra investments involve a huge increase in activity that only now is beginning to surface as products.) Moreover, INTS also was growing much stronger during the summer and fall, which suggests that WIND's increased competitive stance wasn't affecting them anymore than INTS pRISM+ was pressuring WIND.
Conclusion: Most, if not all, of the blame for the WIND's slowdown was a delayed response to the Asian crisis. Consequently, revenues can be expected to accelerate going forward until recovery is complete. If you tack on the positive revenue implications of the extra investing and the huge implications of the merger, then there is absolutely no question that revenues will accelerate. In subsequent posts I will try outline some of the extraordinary revenue potential.
Do you think the company's new tack of going after top-line growth first is correct?
The new tack was absolutely consistent with my strong feelings both then and now. There is not the slightest doubt in my mind but that the current high-investment tack is the correct decision and represents the best opportunity for increasing shareholder value.
Here are the reasons.
First, I could be wrong in my assessment.
Second, the wise investor loves to see his company invest and thereby secure the future. In the new economy, you either win the gold or you are toast. Earnings along the way are ignorable.
Third, the gold at the end of the rainbow we seek is to be the major software company in the post-PC era, and that requires investment irrespective of whether decent growth would occur otherwise. I have no interest in continuing to sock away 35% percent returns, when I can have the world. Mitch Kertzman, the flamboyant CEO of Liberate, would say, "why else get up in the morning."
Fourth, the stock market has realized for some time now that Internet technology travels at Internet speed. The market understands the necessity of making aggressive investments to stake out Internet territory. This is expressed by out-sized market caps, providing the currency to make things happen. If WIND doesn't compel the market to value it highly, it runs the risk that a high-flying upstart will use its stock currency to cause damage. For example, a smarter Red Hat could have done real damage with a $20 billion market cap. Over the last few weeks the market has toned down this kind of maniacal behavior, but it probably will reappear.
And was the stock market correct in devaluing the company last year or merely inefficient amid the Dot-com chaos?
Since the stock bottomed under $11 and recently hit $66, in hindsight it is hard to argue the market was prescient. But to be fair, last spring the market simply didn't know the extent of the problem. An efficient market will punish negative surprises, but it becomes brutal when the cause is unexplained, even when the problem is temporary.
I would appreciate your comments about how recession proof WIND is.
Think about this. Above I argued that a 40% growth company suffered a slowdown in revenues to a mere 22% to 25% two years following a global financial cataclysm (with the epicenter being small, aggressive countries and companies) greater than anything the world has experienced in 50 years. I prefaced my argument by saying I might be wrong.
How much more recession proof can any company be? And that was without taking special steps to counter the looming problem. WIND is a different company today than the one that perhaps succumbed to a global catastrophe. In reacting instinctively to the slowdown, the company has begun emphasizing high-value market niches, expanding network effects to enhance value-add, and cementing numerous strategic relationships with semiconductor and leading product makers, in addition to investing aggressively in product development. If the old WIND was debatably sensitive to recession, I doubt there will be any credible evidence that ever points to the new WIND being susceptible to recession.
If the recent stock market decline signals a recession next year, it would seem that all tech companies are vulnerable because of high PE's, and loss of customers. What do you think might happen in the R scenario?
I doubt that the market has forsworn high P/E ratios (despite my plea for a return to sanity). They serve a rational purpose in shifting investment from the old to the new economy. However, a serious return to traditional P/E ratios, must be accompanied by a commensurate change in the business climate permitting WIND to safely travel at a slightly more leisurely and profitable pace. WIND is not a company existing outside the real-world of business. It must and will adjust to the major expectations and requirements of the times, whatever they are.
Given WIND's new size and market leadership position, all future recessions, much like the Asian crisis, will contribute to its competitive advantage. WIND will always gain market share during recessions at the expense of smaller competitors and venturesome startups, and through timely acquisitions.
But relax, I don't expect WIND to forsake earnings. In concert with the recovery in revenues I would expect operating margins to return to prior levels or better. The opportunities awaiting WIND provide for out-sized profits, not just revenues.
Allen |
