Industry Focus: 2000 in Review

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By Bill Mann (TMF Otter)
December 5, 2000

As the person who selected BOTH of the poorest performing Industry Focus 2000 companies, it has fallen upon me to write the annual review of our selection performance. Actually, I'm happy to do it, as it will give us all a chance to reflect upon some of the difficulties of stock picking, even for people who know the ins and outs of the businesses they cover.

2000 was a strange year, by any measure. In the space of time from November 1999 to the present, we have seen the Nasdaq Composite, the resident index of many of the companies core to the most ebullient sectors of the U.S. economy -- including computer software and hardware, telecommunications, and the Internet -- run up more than 2500 points (a move of almost 100%) and then give every inch of those gains back.

Think about this: in the beginning of 2000, we could not get enough of companies with names ending in ".com," nor could we buy B2B e-commerce, telecommunications, or Internet incubator companies fast enough. Fast forward to today, when we have sent each of these sectors off to slaughter, and some of the suppliers for these industries are following closely behind, having seen booms and busts of their own.

The stock market rises, the stock market falls, and investor trends and flights of fancy occur all the time. This may be the most rapid and violent shakedown of certain sectors that we have seen in a generation, and it reinforces the fact that we, as investors, are stewards of our own financial health. In some ways, the returns from this last year's Industry Focus will bear this out: some of the selections, although done with the utmost of foresight, performed not only badly, but highly erratically, rising with the tide that pushed the Nasdaq up over 30% in the first few months of this year (following 82% gains over the previous full year), only to fall the hardest soon thereafter.

Industry Focus 2000 returns from 11/12/99-11/10/00    

Company         (Ticker)   11/12/99   11/10/00    Return
Genentech          DNA     $36 5/8    $79 7/16    116.9%
Stryker Corp.      SYK      30 29/32   48 13/16    57.9%
Warner-Lambert*    WLA      93 5/8     129.75      38.6%
T.Rowe Price      TROW      36 5/8      46 1/16    25.8%
Argosy Gaming      AGY      13 7/8      16 5/16    17.6%
Outback Steakhouse OSI      22 7/8      26 3/4     16.9%
Tootsie Roll        TR      32 7/8      38         15.6%
Intel             INTC      38 3/32     37         -2.9%
Cedar Fair         FUN      19 15/16    18 5/16    -8.2%
America Online     AOL      74 1/4      50 1/2    -32.0%
Yahoo!            YHOO      98 15/32    56 7/16   -42.7%
Dell Computer     DELL      41 3/4      23        -44.9%
Gateway            GTW      81 1/2      39 37/50  -51.2%
Amazon.com        AMZN      74 15/16    30 1/16   -59.9%
Peapod            PPOD       8 5/8       2 1/4    -73.9%
Carrier Access    CACS      50 9/16     11 15/16  -76.4%
e.spire Comm.     ESPI       8 3/16      1 21/32  -79.8%

*Now merged with Pfizer (NYSE: PFE)

If you look at the returns of each of these companies you will see something that is truly amazing: With the singular exception of the inversion of Intel (Nasdaq: INTC) and Cedar Fair (NYSE: FUN), every single technology stock from Industry Focus 2000 underperformed the non-technology companies. (We are not labeling biotechnology stocks "high-tech" here.) Internet, communications, and computer- related companies all took it on the chin. What kind of odds would you have been given in November 1999 if you bet that Tootsie Roll (NYSE: TR) would outperform Intel, America Online (NYSE: AOL), Dell (Nasdaq: DELL), and Gateway (NYSE: GTW)? Pretty long ones, I'd imagine.

There is a lesson here. No, no, it's not "don't trust the Fool writers," though it should be implicit that if you are investing solely based upon what someone writes about a stock without doing your own homework, then you are setting yourself up for failure. The lesson is this: the market can turn very quickly, and even a year may be insufficient to determine whether or not your own strategy is working. Investors loved the Internet in January, and they hate it now. In the end, companies' fundamentals will prove the final arbiter for the wisdom of your selections: for Peapod.com (Nasdaq: PPOD) and e.spire (Nasdaq: ESPI), it may already have. Even great companies have bad years, though.

A look by the numbers
It is no coincidence that the three best-performing companies are all in healthcare. Genentech (NYSE: DNA), for its part, continued on its path of growing revenues at 25% per year, and in spite of the long-held lawsuit brought against it by Glaxo Wellcome (NYSE: GLX) charging patent infringement in its production of Rituxan and Herceptin. But company and industry ebullience can go a long way in alleviating the doubts sown by such things as lawsuits. Industry growth really can raise all ships, with Genentech, surgical instrument company Stryker (NYSE: SYK), and Warner-Lambert (now merged with Pfizer (NYSE: PFE)) all benefiting from the collective confidence the public holds in the continued advancement of medical therapies and technologies.

And some pain
While the medical industry has seen collective growth that has now lasted (in some areas) several years, the telecommunications industry has, in the course of 12 months, done a complete about-face. E.spire (Nasdaq: ESPI) is perhaps the poster child for how a company with promising facilities and potential can implode quickly if it is dependent upon external sources for continued funding. That funding seemed assured in 1999, now it seems nigh impossible.

E.spire is an ugly story in an ugly sector. The company was up more than 90% in March, only to spiral downward after it was forced to restate earnings. Management shakeups and tightening credit covenants ensued, so a company which held such promise last year is now "exploring strategic alternatives," code for looking for a buyer. But e.spire may not have done much better regardless, as its entire sector, Competitive Local Exchange Carriers (CLECs), has seen a reversal in fortunes that is only trumped by that of the Internet retailers. As an industry, the CLECs are down more than 74% on the year, having been gravely harmed by the continued lack of cooperation from incumbent carriers.

Incidentally, one of the other companies in the Focus, Carrier Access Corporation (Nasdaq: CACS), has dropped nearly as fast due to the fact that its customers were largely CLECs. Carrier Access Corporation remains a company with enormous net margins on its products (18%+), and yet it suffers mightily as investors wonder where it will make up its lost revenue potential from its biggest customers. This is a company that is run extremely well, but as in so many situations, companies that are dependent on only a few customers are deeply tied to the fortunes of those customers.

But while Carrier Access Corporation suffers as its customers do, Peapod.com's closures of operations in several markets show that its decade-long move to profitability has just taken too long (yes, this company has been in operation for 10 years, primarily in Chicago). Where venture money seemed plentiful for such Internet flights of fancy last year, there isn't such a gravy train for companies that are not profitable from operations at this point. Industry Focus writers got smacked in Y2K when they took the biggest risk, specifically on companies that were not profitable.

But what of some of the success stories? Paul Larson, our gaming guru, picked Argosy Gaming (NYSE: AGY) over many of its more recognizable brethren. This company has grown its earnings significantly for the past few years, and did so this year as well. Moreover, the company won awards from its peers for having the best and clearest shareholder information, something for which we at the Fool must join in tipping our hat. Excellent companies like Argosy are out there, and they aren't necessarily in the place where everyone else is looking. We have attempted to identify some such companies in this year's Industry Focus 2001.

Perhaps that should be the eternal lesson from 2000. The year that "tech stocks," those darlings of the investing world, were exposed to be beholden to the same economics as the rest of us. While the overall performance of the Industry Focus 2000 -- a cumulative return of -10.7%, lower than the S&P 500's return of -8.7%, -- is unlikely to inspire those who are looking for investment "tips" (which, it should be pointed out, we do NOT provide, nor should our investment ideas be construed as such), we are nonetheless confident that the underlying lessons that were spelled out in each section were sound.

Some lessons, such as a reinforcement of the fact that you should do your own homework, may be byproducts of our performance in Industry Focus 2000. And as in anything, it will be interesting to see how these companies perform in the three-to-five-year time frame, the minimum duration in which a fundamental analysis should be given, absent any major changes, to prove its ultimate wisdom. The stock market had a tough year, and some of the industries we covered in 2000, even more so. Ultimately, we should seek to find the leaders in those industries that have better- than-average long-term prospects.