I recently read the Hamilton Hemler’s ‘7 Powers’ it is a book that has been recommended to me by a number of investors and rightfully so! Helmer offers up a number of investing and business nuggets, which I‘ve tried to summarise below.
First, a bit about the author – Hamilton Helmer has a very successful track record as both a bottom-up investor and strategy advisor. His firm, Helmer & Associates (later Deep Strategy), has led over 200 strategy projects with major clients such as Adobe Systems, Agilent, Hewlett-Packard, John Hancock Mutual Life, Spotify and Netflix. Netflix founder, Reed Hasting wrote the foreword in the book.
Helmer’s track record (on his personal account ie. not as a fund manager), is one of the most impressive I’ve seen – generating a 44% compound return over 20 years. That is, he turned $1 into $1,469 or $1 million into $1.4 billion ! Although he doesn’t explicitly call out the attribution of his returns, I believe it is highly likely he made close to 100x his money on his Netflix investment.
“The 100x increase in Netflix’s stock price serves as a signal of the uncertainty that initially existed. Prior to Netflix's success, the value potential was opaque to the investment community, not because investors were thoughtless or ill-informed, but because the "route of power" was not just unknown, but unknowable - even to Netflix management”
My 10 key takeaways from the book:
Why CEOs of big corporates fail to invest in the ‘new / disruptive business’ - usually it is about incentives. For example, it is devilishly difficult to design a CEOs compensation so that it closely mimics long-term enterprise value. Addressing the threat of a Counter-Positioned competitor frequently requires upending the incumbent's business in multiple ways, and such turmoil is rarely symmetric in its impact on enterprise value and compensation, even with best practice long-term incentives in place.
The assent of great business is not linear – but more a step function
To have a ‘Power’ a business must have both a ‘Benefit’ (significantly better product or service) and ‘Barrier’ (competitors are unable to replicate)
A key question to consider if a business has ‘Power’ – What price can the business offer their good or service, such that they can still generate healthy margins whilst their competitors are losing money?
Netflix had to pivot their business twice to achieve ‘Scale Economics Power’ – first from mailing DVDs to streaming, then from paid content to originals. The crux of Netflix’s sustaining Power came when they purchased the exclusive rights of House of Cards in 2011. Purchasing ‘originals’ turned a variable cost into a fixed cost.
A recent Compuware study of 588 SAP (one of the world’s largest Enterprise Resource Planning (EPR) software providers) ) found that 43% were unhappy with SAP response times across all components. Nearly all felt that SAP performance problems would result in financial risks, and 50% felt unable to predict SAP performance. Yet another survey of more than 1,000 customers found that 89% expected to continue paying the annual maintenance fees for SAP in the near future.
Only certain types of goods can have branding potential – Two conditions are necessary: 1) The promise of eventually justifying significant price premium; 2) long enough amount of time to achieve such magnitude.
At one point Apple released a technical bulletin instructing customers to drop their computers from a height of three inches to try to reseat dislodged chips
Cornered resources – if a firm repeatedly acquired coveted assets at attractive terms, then the question investors should ask is “why are they able to do this?”
The product difference must be dramatic to achieve that 'gotta have' response. Just how much is enough? Andy Grove, the formidable Intel CEO, suggesting that 10x improvement was required. Which was right for semi-conductors however for other products the number is likely much different.
I have outlined Helmers ‘7 Powers’ below along with its definition and an example of each.
Helmer’s 7 Business Powers include:
Scale Economics: A business in which per unit costs decline as production increases e.g Netflix.
Network Economics: A business where the value realised by the customer increases as the installed base increases e.g. Google, Facebook.
Counter-positioning definition: A newcomer adopts a new, superior business model which the incumbent does not mimic due to anticipated damage to their existing business e.g. Netflix v Blockbuster; Kodak v digital photography.
Switching costs: The value loss expected by a customer that would be incurred from switching to an alternate supplier for additional purchases e.g. SAP, Oracle, Microsoft.
Branding: the durable attribution of higher value to an objectively identical offering that arises from historical information about the seller e.g. Hermes.
Cornered resource: Preferential access at attractive terms to a coveted asset that can independently enhance value e.g. Pixar.
Process power: Embedded company organisation and activity sets which enable lower costs and/or superior product, and which can be matched only by an extended commitment e.g. Toyota.
Thanks for reading,
Lachlan Morgan, CFA.
Partner | Analyst