Mad Hedge Technology Letter
October 11, 2019
Fiat Lux
Featured Trade:
(CISCO’S DOWNWARD SPIRAL)
(CSCO)
The technology infrastructure company Cisco sold off over 2% after Goldman Sachs analyst Rod Hall downgraded the stock to neutral from buy.
His downgrade was based on a guess that enterprise spending will weaken further, and that telecom spending will continue to remain unimpressive.
This shows you how far the bank of the elite has fallen and the quality of their research considering Cisco’s earnings report was in August and this call should have gone out far earlier.
Goldman Sachs (GS) has trimmed headcount fiercely as their traditional businesses from IPOs to trading have been squeezed to suffocating levels forcing the bank to go into the subprime segment with the Apple (AAPL) credit card.
In Silicon Valley, Cisco’s shares will be subdued for the foreseeable future because the telecom segment is softening up as we motor into 2020 nicely, noted by Goldman.
The headwinds stem from the slow adoption of 5G and requisite carrier network automation implementation.
If you thought 5G would happen with a mere snap of the fingers, you are wrong. It will be implemented in agonizingly slow stages with lots of trial and error along the way.
Enterprise spending has also tapered off boding ill for the company that supplies the foundational technology to the software startups.
Adding fuel to the fire, waning business confidence at large enterprise driven by trade volatility as opposed to a broader macro slowdown is somewhat disconcerting and Cisco will most likely trade sideways in a stupor until external catalysts either pick up the stock or the bizarre world of geopolitics slams it down.
The floor of the stock is solid and deeply rooted in the profitability of the stock.
This is a great company and is one of the premier brands that slide in nicely in most offices in Silicon Valley.
The company isn’t a growth company, yet not written off into the legacy dustbin, and the sudden paradigm shift to value has made this stock even more attractive.
The 7% revenue YOY growth last quarter is not a problem as risk appetites are reigned back as the economic cycle ends.
EPS grew to $3.10 highlighting the ultra-profitable nature of the company.
Many of the recent tech selloffs in individual names have been induced by sour forward-looking outlooks and Cisco followed suit calling for 0-2% revenue growth, and GAAP EPS growth of -14% year-over-year.
The company has turned to the exciting revenue stream of subscriptions accounting for around 70% of the company's software sales.
This has created inflated net margins with Cisco improving from 16.7% five years ago to 25.8% today.
Cisco is a cash cow generating $15.8 billion of cash flows from operations, up 16% year-over-year.
The bump up in cash flow has made it easier to justify M&A which Cisco has routinely turned to in an effort to shore up different areas of the business.
A dividend was initiated in 2011 providing shareholders with strong annual double-digit percentage increases.
Financial engineering doesn’t stop there with Cisco's buyback approach resulting in reducing its outstanding share count by roughly 16.3% over the past 5 years adding to the profitability narrative.
Macro-risks have gone up the wazoo in the external market and Cisco is a legitimate candidate for a short-term trade to safety at these levels and a long-term investment.
Considering that their Chinese business is only in the single digits and revenue growth is in the high single digits, value-added management should make this company even more compelling.
And as the next wave of 5G adoption hits, this stock will experience a tidal wave of asset appreciation.
I can guarantee that the best is yet to come, and the status quo isn’t all that bad too.
“There are two equalizers in life: the Internet and education.” – Said Former CEO of Cisco John Chambers
Mad Hedge Technology Letter
October 9, 2019
Fiat Lux
Featured Trade:
(WHAT’S BEHIND THE CHINESE TECH BLACKLIST)
(FTNT), (PANW), (CRWD), (CYBR)
The administration banning 8 Chinese tech companies screams one thing – American cybersecurity will become more important than ever before.
Interestingly enough, most of the entry list included Chinese own version of cybersecurity companies which usually participate in heavy-handed censorship including facial recognition startups Sensetime, Megvii and Yitu, video surveillance specialists Hikvision and Dahua Technology, iFlyTek, Xiamen Meiya Pico Information Co and Yixin Science and Technology Co.
All of these companies have “borrowed” American source code while applying American designed semiconductors to create a business aiding the interests and model of the Chinese Communist Party.
As the stakes become higher, American companies too will have to grow cybersecurity budgets, and instead of budgeting for mass authoritarian censorship, American companies will need to spend to protect the technology and networks they develop from getting pillaged from totalitarian regimes.
If American tech companies renege on the Faustian bargain of doing business in China for their technology, then it will force the Chinese to acquire this sensitive technology by any means possible and that doesn’t involve sitting on the emperor’s chair in Beijing.
What does this mean for the broader trade war?
Even if we get a mini deal, it won’t address that the main guts of the trade conflict entails killing off Chinese tech in the way we know it now.
Being able to agree on some sort of enforceable mechanism is a pipe dream, even if an enforceable mechanism is agreed on, who will enforce the enforceable mechanism?
That’s how tricky it is for corporates doing business in China and now the NBA (National Basketball Association) has received a small sampling of the trade war with one innocuous quote by Houston Rockets General Manager Daryl Morey who tweeted then deleted his democratic support for the Hong Kong freedom movement.
The ban of these 8 Chinese companies means they will no longer be able to purchase U.S.-made technology parts to use as inputs of a censorship business model that goes against democratic values.
The trigger for the blacklist was the way these technologies were used to imprison ethnic Muslim minorities in Chinese Xinjiang province paving the way for China to lash out again against the U.S for the ban.
Not only has China applied the technology to Chinese nationals, they have exported this technology to African states and are allowed access to the data which could theoretically be exploited for additional economic and political gain about which they essentially have no qualms.
Chinese foreign ministry spokesman Geng Shuang has characterized this move as “interfering in China’s internal affairs” and as you probably believe, he expressed great unsatisfaction with this move as Chinese and American delegations plan to meet shortly to hash out their differences.
The 8 banned companies will need to source alternative tech in the same way that Huawei Technologies has done.
Huawei was banned this past April under national security premises blocking access to US-made software for its handsets and devices, such as Google’s Android operating system and Microsoft’s Windows.
This will hurt certain semiconductor manufacturers like Nvidia who sell artificial intelligence chips for video surveillance to Hikvision and semiconductor stocks have sold off hard on this news.
Washington’s move has laid bare the fierce struggle for technology supremacy and America’s refusal to allow Chinese technology companies to reign supreme off of ill-gotten intellectual property and American semiconductor chips.
It could be the final straw in corporate America funding China to take down itself or at least another step to disengaging with the Sino cash cow.
And this new episode is almost guaranteed to usher in a flight of capital to American cybersecurity companies as Chinese hackers open up a new frontier to hack the best of America’s intellectual property.
I envision the likes of Palo Alto Networks, Inc. (PANW), Fortinet, Inc. (FTNT), CrowdStrike Holdings, Inc. (CRWD), and CyberArk Software Ltd. (CYBR) as good long term buy and holds that offer quality exposure to the cybersecurity story and the future growth of it.
“Some people don't like change, but you need to embrace change if the alternative is disaster.” – Said Founder and CEO of Tesla Elon Musk
Mad Hedge Technology Letter
October 7, 2019
Fiat Lux
Featured Trade:
(NEVER CONFUSE A GREAT SERVICE WITH A GREAT STOCK)
(SPOT), (APPLE), (GOOG), (NFLX)
Customers like to call me and tell me how cheap Spotify is.
Well, it’s cheap for more than one reason.
Even though Spotify (SPOT) dominates the music streaming space just like Netflix (NFLX) dominates the video streaming space, that does not mean investors should go out and buy the stock by the handful.
The numbers are quite impressive when you consider that Spotify boasts 100 million paying music subscribers.
In the iOS world, Apple (APPL) has 60 million music subscribers while Google (GOOGL) has only 15 million music subscribers.
Why do I mention Google?
They aren’t in the online streaming business, or are they?
Google has signaled its intent that they won’t just allow Spotify and Apple to turn the online streaming industry into a duopoly.
They are the third horse in the race.
Recently, Google announced that its YouTube Music app would now come preinstalled on all new Android devices.
Naturally, absorption rates will increase dramatically, and this app could become quite sticky.
Apple has a moat around its castle because of the iOS system but Spotify has no defenses against such attack.
Spotify is a slave to the Android platform to reach customers which is dominated by Google by not only their software but also their hardware now.
Spotify won a recent deal to preinstall its music app on Samsung (SSNLF) devices, but this won’t be the case for most devices.
Google has a two-way money-making strategy for YouTube Music service through both advertising and subscription sales.
Accessibility comes with ads and to remove ads, YouTube Music charges $9.99 per month.
Consumers spent $7.0 billion on music streaming subscriptions in 2018 and diversifying away from Google Search is something that CEO Sundar Pichai is hellbent on.
Google has lept into selling cloud computing services and hardware products, including speakers, in search of non-advertising revenue.
In reaction, Spotify cannot just lay vulnerable like a sitting duck, and have announced tests for a price increase for family plan subscribers in Scandinavia.
The family plan in Sweden currently costs about 149 Swedish krona ($15.45) per month, similar to the pricing in the United States and the rest of Europe and it will be interesting to see if they can stomach a 13% increase.
I bet there will be a revolt as Scandinavians know they can just hook up to YouTube with an ad-less browser to listen to whatever they want for free.
Looking to lucrative markets to squeeze more juice out of a lemon would have a higher chance of succeeding if a level up in service is also offered.
The desperation is palpable as Spotify’s Average Revenue Per User (ARPU) falls off a cliff and is the reinforcement I need to feel that this business is impossible to make money in.
Just the unforgivable headwind that licensing music eats up is enough pain with allocating 75 cents on every $1 of revenue.
The company has been in a precarious position right out of the gates.
Even publishers have gripes against Spotify's declining ARPU, since a large part of their contracts include revenue-sharing agreements with the music streamer.
Ultimately, Spotify is a service that cannot differentiate itself through exclusive original series and films which is inherent to survival.
Their attempts to allow individual singers to upload backfired because only their users are interested in hearing the 0.1% of popular music deemed popular from mainstream culture.
Spotify, Apple Music, and Google will possess more or less the same library of music that most people want to listen to.
Then it comes down to what platform is more convenient than the other.
Apple and Google have strong financial backing giving them higher pain thresholds if they lose money.
Until Spotify can find a magical way to make their product unique, they are on the path to a death by thousand cuts even if they do have a great product.
“Spotify has paid more than two billion dollars to labels, publishers and collecting societies for distribution to songwriters and recording artists.” – Said CEO of Spotify Daniel Ek
Mad Hedge Technology Letter
October 4, 2019
Fiat Lux
Featured Trade:
(WHY YOU ARE ABOUT TO LOSE YOUR JOB)
(SPECIAL AUTOMATION ISSUE)