Midyear
Market Review
3Com
& AOL
Don't You Believe
It...
by David Forrest
(TMF [email protected])
"Doctor! I'm not getting a pulse!"
"Quick. I need 20cc of adrenaline, STAT! Get the paddles we're gonna jump
start this sucker!"
"Doctor, the momentum is gone, the earnings are looking weak. It's too late.
We can't save the patient."
"Noooo! I'm a doctor dammit..." And the doctor continued to work feverishly.
Grieving shareholders the world over mourned the tragedy that was 3COM <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: COMS)") else Response.Write("(Nasdaq: COMS)") end if %>. Falling from its lofty perch (er... make that "torpedoed from its
lofty perch") in the mid $70 range, 3Com stock dropped day after day for
60 trading days and 60 trading nights, shattering its market capitalization,
as well as a few portfolios in the process. Having shed almost $16 billion
in market value in such a short time, the market pundits had no other choice
but to pronounce 3Com dead. With the likes of Intel tightening their belts
in the Fast Ethernet adapter card market, 3Com was sure to fail, right?
As if talking about a horrible infection, David Takata of Gruntal & Co.
proclaimed, "I think [the pricing pressures] will spread from here." After
all, 3Com was only going to come in with revenues of $810 million instead
of the $830 million that analysts were projecting! This massive 2.5% shortfall
in revenue was swiftly translated into the 65% haircut that the stock price
deserved, right?
The popular financial media wrote obituaries for 3Com, declaring that with
Intel firmly in the adapter card market, 3Com would have an enormously difficult
time. Margins would fall, and so would market valuations. In all fairness
to the gurus of Wall Street, the daunting proposition of having Intel breathing
down your neck is one to take seriously. Unfortunately, the media did little
to seriously analyze the business and see what 3Com's competitive reaction
would be. As it turns out, 3Com lowered its prices as well and has actually
gained market share as a result. The stock has risen from its lows to trade
right around $49 today. Were the pundits wrong? Did they not understand the
business?
Not everyone was blindly accepting the news. Jeff Fischer
(TMF Jeff) wrote in his excellent piece
"Networking: A Dodo Bird?":
But what about the threat of Intel? Compaq, IBM, and Intel all sell networking
products. Some fear INTEL CORP <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: INTC)") else Response.Write("(Nasdaq: INTC)") end if %> will eliminate 3Com's
healthy NIC market by offering the product on motherboards. A significant
portion of 3Com's revenues derive from these high margin products, but Intel
enjoys strong margins on the product, too, and if they kill that market they
put a bullet in their own foot. Will they?
Well? Did Intel put a bullet in its own foot? Time will tell. Compaq has
been saying for two years that it plans to focus much more heavily on the
networking aspect of its business. We've yet to see much in the way of results.
Intel's core competency is in microprocessor development. Is it possible
that it simply couldn't compete with a leader in networking? Is it possible
that customers would prefer to shop for all of their networking products
at one "store"? Did anyone consider these possibilities?
One contrary opinion I did read on February 10, 1997 (that fateful day when
3Com dropped $13 3/8 to $37 1/4 after announcing that it would miss estimates)
came from our own Randy Befumo (TMF
Templr). Randy wrote:
3Com currently trades with a price/sales ratio of 2.34 and an enterprise
value-to-sales ratio of 2.26. Although I have not done any historical
comparisons, I would bet dollars-to-doughnuts that this is about as cheap
as 3Com has been since 1993. The only networking company with more than $500
million in trailing sales that is cheaper is BAY NETWORKS <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: BAY)") else Response.Write("(NYSE: BAY)") end if %>,
and that is basically because the Wellfleet-SynOptics merger has been a disaster
from day one. Folks, don't go out lemming-like to your broker and buy, but
the stock is looking cheap.
Maybe we're just a bunch of Fools, but we don't lend too much credence to
what the popular media has to say. We like to think about things and draw
our own conclusions. You, as an individual investor, have the exact same
power. Don't believe everything you read. Learn everything you can about
a company's business and you'll soon realize that you have an enormous advantage
over the reporters who have to meet deadlines and don't have much time to
truly analyze what's going on. The financial media is more interested in
reporting whatever the "buzz" is, and less interested in actually trying
to teach and understand. Perhaps that's just a personal bias though :)
AOL Too?
Looking for another example of poor financial media analysis? Look no further
than AMERICA ONLINE <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: AOL)") else Response.Write("(NYSE: AOL)") end if %>. After introducing flat-rate pricing
in December of 1996, the media flamed AOL saying that it would be nothing
more than a glorified Internet service provider with declining margins. Couple
that with all the access problems AOL had (still has?) and the class action
lawsuit filed by several state attorneys general around the country and you
have a popular media recipe for disaster. AOL was gasping, right? Well, that
was when the stock traded at $30 earlier in the year. Six months later, the
access problems are much better, AOL is getting ready to roll out version
4.0 of its software, codenamed "Casablanca," and advertising dollars are
rolling in. America Online now trades near $60.
What the mainstream financial media completely missed was the fact that AOL
had many problems because the service was so incredibly popular! What a curse!
People weren't leaving AOL. In fact, customers were clamoring to get online
(which is why, coincidentally, it has had such access problems). For anyone
who took the time to analyze little deeper, they might have seen this and
benefited from the market's inefficiency.
Don't believe everything you read. Learn the business. Think
for yourself. |