The first requirement of a Rule Breaker is "Top dog and first mover in an important, emerging industry." Important means relevant to many people, if not most. Important also means big. Big as the sun. (By the way, this helps explain why it was blistering hot this weekend. I meant to warn you on Friday!) Important also means that the industry has the potential to be life-changing, as in:
"I say the earth did shake when I was born." --Glendower (Part I, Henry IV)
One reason that Amazon.com (Nasdaq: AMZN) and eBay (Nasdaq: EBAY) soared to $18 billion valuations not long after going public is related to industry potential. Amazon operates in consumer retailing, a trillion dollar industry. eBay leads online auctions, which could reach hundreds of billions of dollars in yearly transactions. Already in 2000, eBay should see over $5 billion in gross merchandise sales on its site (keep in mind that the company only gets about 7% of that as revenue) and Amazon could top $3 billion in sales.
However, what largely supports these companies' market valuations is the potential for sales to double, triple, and continue to grow meaningfully for a long time. As one Fool posted this weekend, companies like these have "very high ceilings."
Today we continue our look at Celera (NYSE: CRA) because we want to know how large its industry may be. How high is Celera's ceiling?
From our poll results so far, you've voted that you believe the genomic information industry will be:
11% say about $3 billion in size
35% say at least $10 billion in size
9% say much of the info will be free, so it'll be less than $3 billion in size
27% say the industry will be worth over $100 billion
18% say it's impossible to guess its potential size
Our two-year-old upstart Celera has partnerships with companies including Pfizer (NYSE: PFE) and Amgen (Nasdaq: AMGN) that are worth more than $100 million, but this revenue is spread over several years. In 1999, Celera had $12.5 million in sales. This year, Merrill Lynch estimates that Celera will have $41.1 million in sales and $159 million in research & development costs; in 2001, the estimate is for $73.5 million in sales and $192 million in R&D costs. Celera will likely lose over $80 million annually both years. The company, incidentally, expects to be profitable by 2003.
If we continue to project forward, we can estimate that Celera will achieve over $100 million in annual sales by 2002, but it is difficult to estimate beyond that when you don't even know the average cost of a subscription to the company's database. On our Celera discussion board, Fools are pondering the same, and some of them from the industry posted to suggest that academic institutions are being charged $150,000 a year for "10-seat access" to Celera's sequence databases. If true, most academic contracts are small potatoes compared to the multi-million dollar contracts that Celera needs to land with pharmaceutical giants. (Yet, how many pharmaceutical giants are there? Especially as consolidation continues.)
Now consider sales at other public database leaders.
Human Genome Sciences (Nasdaq: HGSI) began to create genomic databases in the early 1990s. Last year, HGS had $24.5 million in revenue. This year, sales should be flat, while year 2001 revenue will likely be a scant $4 million because HGS will be "remonetizing" its expiring database contracts that year. Starting in 2001, HGS will offer its data to companies at much higher rates than the existing (and soon expiring) contracts. Whether HGS signs many clients or not, selling data isn't as important to this company as it is to Celera, because HGS is producing drugs, too.
Incyte (Nasdaq: INCY) is another leading competitor offering genomic database information, as well as related services such as software. The company had $157 million in 1999 revenue and could near $200 million this year. There's also DoubleTwist, but we don't have sales numbers for this private operation.
So, competitors with considerably higher sales than Celera do exist. You can view this as either a negative or a positive (one that indicates demand). Important reminders are in order, however: the industry is new and Celera is newest; information will only become more advanced and thus more valuable; Celera is on track to have the deepest, widest database across many genomes, and not just in gene sequencing, but in proteomics (the study of proteins), which will differentiate it from competitors.
Raise the Roof!? How?
Coming full-circle, another reason why Amazon and eBay have created so much market value so quickly is that their businesses are creating barriers -- including brand recognition and customer habits -- that block the potential success of competitors. These barriers increase the size of the industry for these two leaders, because fewer competitors should mean greater market share.
Can Celera create similar advantages and capture growing market share in the genome information industry? What if it can't?
Well, wait. Perhaps large pharmaceutical companies will carry contracts with all the leading genome info providers in order to have the best advantages in creating drugs. (They can afford it and may need to in order to compete.) If this is the case, competitive barriers could be largely unnecessary.
Whatever happens, as shareholders we need to believe right now that Celera's business model has the potential for a very high ceiling. We need to believe that Celera's subscription model could result in a billion dollars or more in annual sales. In case that doesn't prove true, we also need to be convinced that the company will have the flexibility needed to grow its business in other ways, just as Amazon grew beyond books.
Perhaps Celera will merge with a pharmaceutical company to develop drugs together, while still maintaining a database business, too. Maybe not. Perhaps Celera will collect commissions on drugs developed by its subscribers. (HGS has revenue-sharing contracts.) In fact, if most database providers do this, new billion-dollar drugs could make today's revenue estimates for the gene information industry look downright silly. Or maybe not.
In summary, we believe in the potential for a high ceiling above Celera. However, when you invest in young Rule Breakers, often you can't be certain how a high ceiling will get built on such a small frame (and if you could know early on, you're probably not breaking rules). There a many options and the risks appear large no matter which blueprint is attempted.
How high is this company's ceiling? You should ask that question of all your investments. With a Rule Breaker, hopefully you won't readily find an answer. This fact underscores the high risk in this investment strategy. It isn't for every Fool.
Vote in the poll if you haven't. Fool on!
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