Dueling Fools Enron Around
Bull Argument

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Dueling Fools

By Paul Commins (TMF Buster)

Are you cautiously intrigued by the "new economy" and, in particular, business-to-business (B2B) Internet commerce, once one of its biggest stars? Like the concept but fear all the stock losses and future unknowns?

Well, what if I told you about a leading B2B Net market maker with a classic, Net-centered, new-economy business model that managed to return 21% over the past 12 months of hype-resistant stock markets. Oh, by the way, this company also features old-economy revenues, muscle, and influence.

Interested?

As you may have guessed by now, I'm talking about leading Net market maker Enron (NYSE: ENE), the onetime gas pipeline company that is in the process of completely transforming its fundamental business model. When deregulation hit the natural gas industry in the 1980s, Enron -- forced to react quickly -- stepped in to make a free market where none had previously existed.

It hasn't been easy. You don't transport gas over 30,000 miles of pipeline, from its source to local distributors, without some heavy up-front investment in fixed assets. So Enron was definitely "loaded down" -- typical for the energy industry -- as it entered its new era.

But, by spinning off dead weight, holding strategic energy assets, and leaping into the "light" role of energy market maker, Enron has increased its asset turnover year after year. Over the first nine months of 2000, Enron's total revenues were 1.4 times total assets.

Compare this to Duke Energy (NYSE: DUK), an energy behemoth similar to old Enron and one that has not moved as aggressively into new opportunities created by two decades of utility deregulation. Over the first nine months of 2000, Duke's revenue line still trails its total asset line, showing a turnover ratio of just 0.8.

Over this same period, Williams Communications (NYSE: WCG), a company that is often compared favorably with Enron, shows total revenues of just one-fifth (0.21) of total assets.

Why the focus on revenues to assets? Because the new economy isn't really about the Internet. At its core, it's about nimble business models that generate high levels of revenue relative to assets (high "asset turnover"). The Internet has certainly been a catalyst for creating these kinds of business opportunities, but it's the business model that generates the profits, not the enabling technology.

When you unload assets, you have to rely on brainpower to make a living, and Enron has a proven record for enlightened innovation. If you're nervous about taking in hype from a new-economy-smitten Fool, take a look over at Fortune Magazine, which has rated Enron "America's Most Innovative Company" for five years running, not to mention tops in "Quality of Management" and Number 22 on their list of best places to work in the U.S.

Our community of Fools agrees, voting Enron into the FOOL 50. For more concrete proof, just look over at telecommunications, where deregulation has crippled asset-hamstrung giants like AT&T (NYSE: T) that have been unable to skip nimbly through the changing business landscape.

By most accounts, the chief architect of Enron's successful transformation has been newly crowned CEO Jeff Skilling (a recent guest on Fool radio). When Mr. Skilling talks about his company, he emphasizes his belief that Enron's ultimate competitive advantage is its "fundamentally better business model." Enron has most clearly demonstrated this basic advantage in the race to capture Internet B2B markets. Its EnronOnline marketplace is by far and away the biggest B2B Net market, boasting more than half a million transactions with a total value of more than $300 billion since its inception in late 1999. Nobody else even comes close.

Early in the B2B investing craze, analysts were coaching us to look at Net market makers who were targeting large, fragmented, inefficient B2B markets. Early liquidity in such markets, the argument went, would drive network advantages, a la eBay (Nasdaq: EBAY), leading to profitable businesses surrounded by deep moats.

By and large, however, this just hasn't happened, and it hasn't happened because most of the budding Net market makers failed to offer anything of value to large corporate buyers and sellers. As a result, these dominant corporate players just ignored the upstarts, banded together, and created their own industry marketplaces, squeezing out the upstarts.

Enron has bucked this trend by offering something of real value that none of these big corporate buyers and sellers want to tackle -- risk management. Hedging future costs and profits is a fundamental component of capitalism, and Enron is bringing this tool to energy markets around the world. Enron typically targets markets fresh from government deregulation, when chaos reigns and risk management offerings are most in demand.

Perhaps the most well-understood example of an Enron-like risk management service is futures markets for agricultural goods. These allow small farmers to "lock in" a reasonably consistent revenue stream in the face of enormous price volatility. The basic concept is really just a play on insurance, where a single, asset-heavy entity pools risk across lots of smaller players. The risk manager profits by charging for protection from the kind of large losses that would kill the small fish but which the aggregator -- by virtue of its size and balancing smarts -- can easily shoulder.

Paul Commins does not own shares in Enron or any of the other companies he talks about in this week's Duel. Like all Fool staff members, he maintains a current list of stocks he owns in his personal profile, but he wants to remind you that Motley Fool writers are mere investors writing for investors, and not Wall Street analysts.

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