<THE RULE BREAKER PORTFOLIO>
One Possible Future
Reminding us there are many...
by Jeff Fischer (JeffF@fool.com)
ALEXANDRIA, VA (May 10, 2003) -- Look at the date. Can you believe that we're already in the year 2003? The Fool is nearly 10 years old. It seems just yesterday the year was 1999 and everyone was discussing that year 2000 bug. In fact, President Bradley recently spoke about the year 2000 in the context of "historic lessons."
Rather than be sentimental, however, let's consider recent news.
Achieving $5.9 billion in annual sales, Amazon.com (Nasdaq: AMZN) achieved net profit margins of 4.8% last quarter. The company continues to leverage its 35 million customers in numerous ways beyond mere retail sales, the Amazon Personal Finance service, the business transaction referral fees with banks, travel agents, and so forth. The latest business added to Amazon, however, is being called extreme by some and laughable by others. Amazon's Pool Cleaning business got its tab on the site's mainpage today.
The stock price declined.
Mister Bark Thompson, of Merrill, Dean & E*Trade Group said, "We fear that pool cleaning has a limited online market." Amazon founder Jeff Bezos replied, "Nobody leads the pool cleaning business on a national scale yet. Now that we have so many businesses, we need to be more flexible. Sure, this is a stretch [Bezos then laughed uncontrollably for 10 seconds], but it's like any other business. Click the tab, tell us where your pool is, and within 48 hours your pool will be clean enough to drink."
The Pool Cleaning tab on the Amazon mainpage was added directly beside the new Microsoft tab. The world is still digesting the news that Amazon is buying its giant Washington neighbor. Especially astounding is Amazon's mind-boggling $600 billion debt offering, the proceeds of which will buy Microsoft. Bezos may go down as the savviest debt financier in history.
Of course, the addition of Microsoft will boost Amazon's sales and profit margins.
Before considering Microsoft, Amazon is valued at $23 billion, exactly what it was priced at four years ago, on May 10, 1999. In fact, because shares outstanding have risen, the stock is actually slightly below where it traded in May four years ago. An investment in Amazon since its 1997 public offering has still been an amazing seven-year success, but following new highs in 2000 and 2001, the stock has drifted lower the past two years.
Fools knew way back in 1999 that at a price of $23 billion this could happen. We wrote here in 1999, "At this price, Amazon's stock could remain flat for many years." Well, it has been four years and the investment is net-flat. We're always trying to think 10 years ahead, however, and meanwhile our investment in Amazon is still beating the market by over 2,000 percentage points.
eBay (Nasdaq: EBAY) is hosting billions of dollars worth of transactions on its site annually, with classified ads accounting for 17% of transactions. Auctions remain the largest revenue stream, while bartering of vacation homes, the sale of travel tickets by airlines (eBay couldn't have put its unique twist on Priceline.com's business model soon enough), and cars offered wholesale are all pulling in behind classified ads. Car dealers, travel agents, insurance salespeople -- all of these professions are hurting, but eBay and other online-based companies continue to hire aggressively, keeping our economy strong.
Still sporting gross margins above 80%, eBay is one of the most profitable online companies on the market. The stock is up 31% since 1999, outperforming the S&P 500 which is up -- after a wild ride that continues -- 17% the past four years. The S&P 500 and most stocks were considerably higher two years ago, in 2001. Even following the recent decline, the stock market has still experienced a record 10-year sprint.
America Online (NYSE: AOL) announced its 34 millionth subscriber today, up from 17 million four years ago. It's interesting, though not surprising, to note that Amazon.com has more registered users than AOL has subscribers.
America Online was late to the high-speed cable Internet access market that came of age in 1999 and 2000, and its xDSL partnerships have been slow to take flight. As many people predicted years ago, always-on cable has become the predominant way to connect to the Internet at great speed -- at least for now.
AT&T (NYSE T) is by far the largest cable consortium in the world and with @Home (Nasdaq: ATHM) it leads the market. As you'll recall, America Online first broke into the high-speed cable market in 1999 only by sacrificing a portion of subscriber revenues to its cable hosts. The company lost a fair amount of what I call "independent advantage" when a large portion of its business model came to rely on cable providers.
Even so, AOL continues to be the leading Internet service provider four years later, although each of its subscribers is now valued at a lower amount. A majority of U.S. homes have not switched to high-speed cable access yet. Many never will, and even if they do and don't choose America Online, AOL is still hard to beat for dial-up and remote access around the world. The market is large enough to support both telephone and cable access, of course, despite the very crowded and slow nature of telephone line access. (At least in 1999 and 2000 you could reliably sign on at 56K through your phone line. Many people would be happy for that again.)
Overall, though, America Online continues to lead. On May 10, 1999, the company signed a deal with five major banks. The banks have been on AOL's personal finance channel since that fateful day, and they have been joined by 38 other banks since. Many banks on AOL are local banks that serve local markets. AOL continues to lead in some forms of commerce as well, although broadband access-resulting commerce is quickly catching AOL's numbers.
Our only wish is that AOL had captured more of the high-speed cable market at lower costs to its business back when all of this unfolded. It was up against tough competition, though, as AT&T moved first to gobble up cable assets and had Microsoft (Nasdaq: MSFT) on its side as long ago as 1999. Foolishly, investing in Rule Breaker @Home in 1998 has since compensated for much of AOL's slack. America Online's stock is up about 32% since 1999 (it was much higher two years ago), while @Home has gained significantly more during the same period.
Amgen (NYSE: AMGN) has outperformed Amazon over the past four years. Starbucks (Nasdaq: SBUX) has done well in Europe, including Italy. And hey, remember Iomega (NYSE: IOM)? Yeah. Then there's Trump Hotels (NYSE: DJT), a position we still hold. The stock has been around $2 for over two years. Three new casinos opened in Atlantic City last year (the ones we mentioned long ago, in the 1997 short report), rejuvenating business for everyone but the Donald and his aging property. (It's funny that Trump's stock sometimes rises sharply after a poor earnings report -- as it did today -- and then, like a balloon, it slowly deflates. At least, that has happened in the past.)
Finally, remember four years ago today, in 1999, when 3dfx (Nasdaq: TDFX) announced a new website devoted to gamers? Smart move. Nearly 90% of the company's revenue is generated from the site today, just four years later.
All told, it has been a wild four years. The online world has grown much more quickly than was expected. Many stocks appreciated at incredible rates for a handful of years, but have cooled since, many returning to year 2000 levels here in the year 2003. A handful of new business leaders (Amazon, AOL, eBay) have still crushed the market by large amounts, however, and this is just the beginning. This is only the year 2003, hardly ten years after the Mosaic Web browser was invented. The Web is still only a child.
These past four years since 1999 have reminded us again and again that anything can happen. We wouldn't have guessed that Amazon could be flat over four years, but we did say in 1999 that this very thing could happen. (We also never guessed that Amazon would reach a $30 billion market value as early as 1999, as it did, and we can't complain with our seven-year return of 2,200% despite the past four years.) In 1999, optimism for Internet-related stocks was rampant and much of it was arguably justified. However, underlying business results eventually must match valuations at least somewhat. Amazon, with less than $6 billion in sales, is valued at $23 billion. Can that be argued with vehemently? Well, perhaps I could try. We'll save that for later.
Back to May 10, 1999
This column is not a prediction. It is merely an exercise in flexibility and it is a different way to say that we're long-term investors. Amazon, valued at $23 billion today, could be valued similarly four years from now. Will that happen? What about AOL? Will the online leader's stock only appreciate 32% in the next four years? We don't pretend to know or even guess. We do accept the possibility, however.
In today's exciting market, if an online-based stock doesn't rise $10 or more in a single day, it might be considered boring. In this type of environment, it's Foolish for all of us to remember that, in another time, perhaps just a few years from now, a $5 gain (or 5%) in one day might be a very unusual happening.
I don't predict doom for any company. I'm an optimist. I think the growth of the Internet is going to amaze all of us on many levels, even from this point. I think this is just the beginning for the medium -- the very tip of the Antarctic. But I don't pretend to know what the underlying stocks will do over the near term -- the near term being just five years or less. Anything can happen. Enjoy.
Day Month Year History Annualized R-BREAKER +5.63% -7.53% 50.14% 1406.97% 76.78% S&P: -0.35% 0.38% 9.35% 205.95% 26.47% NASDAQ: +0.91% -0.65% 15.22% 250.80% 30.16% Rec'd # Security In At Now Change 8/5/94 2200 AmOnline 0.91 128.50 14038.75% 9/9/97 1320 Amazon.com 6.58 146.88 2132.40% 5/17/95 1960 Iomega Cor 1.28 4.94 285.62% 12/4/98 450 @Home Corp 56.08 155.06 176.50% 2/26/99 300 eBay 100.53 193.13 92.11% 12/16/98 580 Amgen 42.88 63.81 48.83% 2/23/99 290 Goodyear T 48.72 65.56 34.58% 7/2/98 470 Starbucks 27.95 37.06 32.58% 2/23/99 300 Caterpilla 46.96 61.75 31.48% 4/30/97 -1170*Trump* 8.47 5.88 30.63% 2/20/98 260 DuPont 58.84 74.88 27.24% 2/23/99 180 Chevron 79.17 96.25 21.57% 1/8/98 425 3Dfx 25.67 18.13 -29.39% Rec'd # Security In At Value Change 8/5/94 2200 AmOnline 1999.47 282700.00 $280700.53 9/9/97 1320 Amazon.com 8684.60 193875.00 $185190.40 12/4/98 450 @Home Corp 25236.13 69778.13 $44542.00 2/26/99 300 eBay 30158.00 57937.50 $27779.50 12/16/98 580 Amgen 24867.50 37011.25 $12143.75 5/17/95 1960 Iomega Cor 2509.60 9677.50 $7167.90 2/23/99 290 Goodyear T 14127.38 19013.13 $4885.75 2/23/99 300 Caterpilla 14089.25 18525.00 $4435.75 7/2/98 470 Starbucks 13138.63 17419.38 $4280.75 2/20/98 260 DuPont 15299.43 19467.50 $4168.07 2/23/99 180 Chevron 14250.50 17325.00 $3074.50 4/30/97 -1170*Trump* -9908.50 -6873.75 $3034.75 1/8/98 425 3Dfx 10908.63 7703.13 -$3205.50 CASH $9924.87 TOTAL $753483.62Note: The Rule Breaker Portfolio was launched on August 5, 1994, with $50,000. Additional cash is never added, all transactions are shared and explained publicly before being made, and returns are compared daily to the S&P 500 (including dividends in the yearly, historic and annualized returns). For a history of all transactions, please click here.
</THE RULE BREAKER PORTFOLIO>