The Silent Killers in Stock Investing: Commoditization and Obsolescence
Lessons from the Rise and Fall of BlackBerry and the Success Story of Brown-Forman Corporation: Navigating Obsolescence and Thriving in the Ever-Evolving Market
In the bustling streets of New York City, a man named John found himself immersed in the world of investments. Among the myriad of investments that crossed John's path, one stood out with both triumph and sorrow.
The Rise and Fall of BlackBerry
One particular investment that left a lasting impression on John was his foray into BlackBerry. In 2006, he made the decision to invest in the company drawn to its market leadership, secure email services, and strong revenue growth profile.
From 2003 to 2011, BlackBerry's revenue grew at an impressive compound annual growth rate (CAGR) of 15%, with operating margins reaching a peak of 43.6% in 2010. During its heyday, BlackBerry held over 50% of the US and 20% of the global smartphone market, selling a staggering 50 million devices annually.
However, this success did not last. BlackBerry's market share dwindled from a peak of 20% in 2009 to less than 1% in 2013. Its revenue fell from $19.9 billion in 2011 to $6.8 billion in 2014. The operating margin turned negative, and the return on invested capital fell to -8.5% in 2014. John held onto his investment until 2014, witnessing the downfall firsthand.
BlackBerry, originally known as Research in Motion, was a pioneer in the smartphone industry. Its focus on providing secure and efficient communication devices, primarily targeting the enterprise market, set it apart from the competition.
However, despite its initial success, BlackBerry's downfall came when it failed to recognize the threat posed by the iPhone. The dismissal of the iPhone as a "toy" marked a critical misstep in BlackBerry's strategy, leading to a decline in market share and revenue.
As Apple and Google made smartphones accessible to the mass consumer by creating slick user interfaces and attractive apps, BlackBerry remained doggedly focused on its enterprise customers and their security and connectivity requirements.
This was the traditional innovator's dilemma at work – BlackBerry catered to its most important customers that generated most of its revenue and profits, and hence neglected the end market that would ultimately become the most important.
BlackBerry innovated primarily around feature improvement – faster email, better security, etc. In doing so, it missed the value proposition of the smartphone as a platform for personal productivity and entertainment
John realized that he had missed the tell-tale signs of a company vulnerable to obsolescence and commoditization. He had failed to see that BlackBerry's core offering was no longer unique or valuable in the eyes of consumers.
Commoditization erodes differentiation and pricing power, while obsolescence hinders companies' ability to adapt and innovate, leading to declining market share and revenue, ultimately affecting stock values.
Guiding Principles for Better Investment Decisions
Determined to avoid similar pitfalls in the future, he began studying the concepts of obsolescence and commoditization in stock investing. He developed a list of tell-tale signs that would help him make better investment decisions:
Declining market share: A significant and consistent drop in market share can indicate that a company's products or services are becoming less popular or relevant.
Falling revenue and margins: Consistently decreasing revenue and margins may suggest that a company's products or services are becoming commoditized.
Negative industry trends: Operating in an industry facing declining demand or increasing competition puts a company at risk of obsolescence.
Lack of innovation: Companies that fail to innovate and adapt to changing market conditions are more likely to become obsolete.
Over-reliance on a single product or service: Companies heavily dependent on a single revenue stream are vulnerable to obsolescence and commoditization.
In his research, John stumbled upon the concept of the Lindy effect, which suggests that the longer a company has existed, the greater its ability to combat obsolescence and remain relevant. In 2017, John decided to put his learnings into action and made an investment in Brown-Forman Corporation.
The company's flagship brand, Jack Daniel's, was first registered in 1866, and it has since become one of the most recognized and beloved whiskey brands globally.
Throughout its long history, Brown-Forman has successfully navigated challenging periods, including the Prohibition era in the United States from 1920 to 1933.
While many other alcoholic beverage companies went out of business during this time, Brown-Forman managed to endure by diversifying its product offerings and exploring alternative revenue streams, such as selling medicinal whiskey and acquiring other spirits brands.
Furthermore, Brown-Forman's ability to adapt and innovate is demonstrated by its continuous expansion into international markets. The company has established a strong global distribution network, reaching consumers in over 170 countries.
Unlike BlackBerry, Brown-Forman had successfully navigated the winds of change. It had diversified its offerings beyond its core whiskey products, venturing into tequila, vodka, and wine.
In the case of Brown-Forman, the company's core business model, which is the production and sale of spirits, is not vulnerable to obsolescence or commoditization
Despite temporary setbacks such as the imposition of retaliatory tariffs in 2018, the company demonstrated resilience. Its sales had grown steadily at a CAGR of 3.2% over the past five years. Operating margins remained stable, hovering around 34%, while the return on invested capital showcased impressive figures ranging from 25.77% to 51.36%.
Conclusion
Inspired by his learnings, John recognized the importance of identifying the signs of obsolescence and commoditization in stock investing. Overall, while both companies faced the challenges of commoditization and obsolescence, BlackBerry's failure can be attributed to a combination of factors such as a lack of innovation, limited consumer appeal, and a narrow market focus.
In contrast, Brown-Forman's success stems from its ability to adapt, diversify, leverage brand recognition, and build a strong global presence coupled with a product that has a loyal customer base. Armed with this knowledge, he forged ahead on his investment journey, seeking companies that exhibited resilience, adaptability, and a long-term outlook to navigate the ever-evolving market.