By Donald Dodge

When something is unlike anything we have seen before we look for analogies or comparables to try to put it in context. Investors didn’t know what to think the first time they saw Microsoft, later Google, and now Facebook. Today Techmeme has stories from The New York Times “The Facebook – Microsoft Parallels” and Wall Street Journal “Facebook Versus Google Circa 2004” which try to compare Facebook and put things in context. CNN also jumps in with “Facebook Hype Will Fade” and compares Facebook to Myspace, Friendster, and AOL. Comparing is the logical thing to do when we don’t understand something. But, how do you compare “one of a kind” incomparables?

Last week I wrote “The Best Properties Always Look Too Expensive” which attempted to explain Facebook’s valuation psychology and why market leaders/innovators always command the highest prices. I used a real estate analogy that my father-in-law taught me many years ago. He bought many prime commercial real estate properties to build his business and told me he overpaid every single time. It was only a few years later he looked like a genius and the property looked like a bargain. He didn’t overpay at all…he just saw the future value before most other people did.

Real estate is easier to value than technology because there are so many alternatives and comparables, or “comps” as they call them in the real estate business. Yes, there are “one of a kind” properties in real estate. But, there are always workable alternatives, and price comps that have been established by the marketplace. So, in real estate you might overpay by 10%, maybe even 20%, but time and a rising market covers up all mistakes.

Technology companies often don’t have comps to assist in valuation. Investors or corporate acquirers are left to develop their own scenarios and synergies…and often miscalculate. And, they don’t just miss by 10% or 20%, they miss by 100% or 1000%. When Time Warner acquired AOL, or vice versa, it was a $350 Billion dollar miscalculation. There have been many others. See my earlier post “The Ten Worst Billion Dollar Acquisitions“.

So, which is it? Are the best properties always worth their high prices? Or, does hype, and lack of comps, often push valuations beyond all logic and reason? I think you know the answer…there are examples of both.

Should investors view Facebook like Google or Microsoft? No, not in my opinion. There are curious parallels, but not comparable. They are three very different companies, in very different businesses, led by different people, at different points in time. 

Is Facebook overvalued at $50B? Many people thought Zuck should have sold when Yahoo reportedly offered $1B. Then they thought Microsoft was nuts when they invested $240M in Facebook at a $15B valuation. Are the smartest deal makers on Wall Street crazy when they invest at a $50B valuation? The pundits have been wrong every time. However, pundits are like fortune tellers…they make lots of predictions in hopes of being right once…and being forever known as “The one who called it”.

Is Facebook at its peak, as the CNN article says? No, I don’t think so. Ahead of itself perhaps, but not at its peak by a long shot. Facebook doubled revenues last year, and is just starting to try different revenue models like Facebook credits and revenue shares from casual games.

BTW, have you ever clicked on a Facebook ad? I have been using Facebook for years and have never clicked on an ad. But, a whole lot of people must be clicking on ads for Facebook to generate over $1 Billion in revenue.

We naturally view the world through our own eyes and experiences. But, when evaluating investments this can create lots of blind spots. Surprisingly, stock market valuations and acquisition prices involve a lot more gut feel and emotion than you might expect. People arrive at their own conclusions and then look for comparables or synergies to justify their decisions. Investors should be careful doing this when looking at “one of a kind” assets.

Don has been in the software business for more than 25 years. He was part of the leadership team of five software start-ups. Forte Software was the first multiplatform object oriented development environment. AltaVista was the first search engine on the web. Napster was the first P2P file sharing network. Bowstreet was the first web services development environment. Groove Networks was the first secure P2P collaboration platform.

Check out Don Dodge on The Next Big Thing

Microsoft reported record revenues and profits for the quarter and fiscal year. Yet, the stock (MSFT) is down again. What does Wall Street want from Microsoft? I think the problem is that Microsoft still considers itself a growth company, while Wall Street considers it a Blue Chip stock that should pay a higher dividend. Take a look at this 5 year graph of MSFT. The stock price is just about exactly where it was 5 years ago.

Now look at Microsoft financial results five years ago. They had revenues of $39.8 Billion, Net Income of $12.2B, and Earnings Per Share of $1.12. They had $37.7B in cash. For 2010 Microsoft reported revenues of $62.5B, Net Income of $18.8B, and EPS of $2.10, with $36.8B in the bank. Revenues and earnings are up about 50%, and earnings per share are up nearly 100% due to stock buy-backs. Those are impressive increases across the board, yet the stock price hasn’t moved. Why?

Wall Street prices stocks based on future potential, not past results. High growth stocks typically sell for 25 to 35 times earnings. Microsoft has a price to earnings ratio (P/E) of just 13.7, very low for a leading technology stock. By comparison, Apple (AAPL) sells for 22 times earnings. Therein lies the problem. Comparisons.

Investors have many choices in where to put their money. Comparing Apple to Microsoft in terms of future growth prospects, product pipeline, and most importantly, pricing power, Apple wins. Microsoft is a consistent power house, growing revenues and earnings every quarter, but not enough to satisfy the growth needs of investors.

Wall Street views Microsoft more like IBM, a stable Blue Chip stock with a nice dividend. IBM’s P/E is 12 versus MSFT’s 13.7. IBM’s dividend yield is 2.0% identical to MSFT’s 2.0% yield. Wall Street came to the conclusion that Microsoft is a Blue Chip ten years ago. This chart of the past 24 years tells the story. Microsoft was a growth stock from 1986 to 2000. But, the past 10 years it has flat lined.

Maybe Microsoft should accept Wall Street’s conclusion that it is really a Blue Chip stock and stop acting like it is a growth stock. Maybe they should listen to Mini-Microsoft and cut expenses significantly, focus their product development efforts, and increase their dividend.

Blunders like the Microsoft Kin phone that cost them $500M, and billions more poured into Bing search efforts, don’t contribute to growth or profits. Billions more spent on acquisitions that didn’t work out are another big drain on cash and profits. Microsoft doesn’t need to do anything fancy. Imagine what the financial results would be if they stripped away all the needless spending in pursuit of elusive growth. Imagine how much cash they would have available to pay dividends to investors if they didn’t keep spending billions on questionable acquisitions. Microsoft spends billions every year on pure research in labs all over the world. It is hard to trace any of that spending to commensurate revenue increases.

Wall Street has concluded that MSFT is a Blue Chip, and hasn’t changed its mind in 10 years. Microsoft is still investing and acting like it is a growth company. Something has got to change. Don’t bet on Wall Street changing. Your move Microsoft.

Disclosure: I don’t own any Microsoft stock. I sold it all last year. However, I do wish the best for all Microsoft employees and shareholders.

Don has been in the software business for more than 25 years. He was part of the leadership team of five software start-ups. Forte Software was the first multiplatform object oriented development environment. AltaVista was the first search engine on the web. Napster was the first P2P file sharing network. Bowstreet was the first web services development environment. Groove Networks was the first secure P2P collaboration platform.

Check out Don Dodge on The Next Big Thing

By Donald Dodge

June is Innovation Month in Boston. There are over 20 great events for start-ups and companies looking to innovate. I will be participating in several events including Angel BootCamp on June 1st, organized by John Pierce, and Momentum Summit: How Start-Ups Get Big on June 23rd, led by Scott Kirsner and the good people at FutureForward.

Also, don’t miss WebInno on June 14th. WebInno is led by my good friend David Beisel of Venrock Capital. Another jam packed conference is Xsite organized by Xconomy. 

The speakers at these conferences are amazing. The top entrepreneurs, VCs, and tech execs from New England. Attend these events and you will meet all the start-up people you need to know in Boston, or be one introduction away.

Also checkout my earlier post “Boston startup events, resources, and people you should know” If you want to start a company, finance a company, make a deal, or get connected, you will find the links you need.

Don has been in the software business for more than 25 years. He was part of the leadership team of five software start-ups. Forte Software was the first multiplatform object oriented development environment. AltaVista was the first search engine on the web. Napster was the first P2P file sharing network. Bowstreet was the first web services development environment. Groove Networks was the first secure P2P collaboration platform.

Check out Don Dodge on The Next Big Thing

By Donald Dodge

Successful startups are founded by product people, preferably engineers. Once the product is done the Sales and Marketing guys take over the company to push market adoption and revenue. Then the Finance guys take over to get operational efficiency and profit. Then the company declines and eventually dies. The time between these phases depends on how good the product guys were in the beginning.

This corporate evolution happens all the time as companies grow from a handful of people to a couple hundred people, to thousands of people. As revenues grow from millions to hundreds of millions, and even billions, the infrastructure expands, geography expands, and bureaucracy expands.

Most product oriented founders can’t handle, or don’t want to handle, the daily grind of growth issues. There are some exceptions like Steve Jobs, Bill Gates, Larry Page, Sergey Brin, and a few others. Mark Zuckerberg has done pretty well, and looks like he will continue to lead Facebook to the next level. But these are the exceptions.

More often the VC board members push out the product oriented founders and install “professional managers” to take the company to the next level. It even happend to Steve Jobs at Apple. I have heard the rationalization a hundred times. Many times the VCs are right…the founder doesn’t have the skills or interest to take it to the next level. But, then many times they get the replacement wrong and head down the spiral path to Finance guys taking over and eventual death. The old cliche’ “Finance guys know the cost of everything, and the value of nothing” comes into play when they are running the company towards the end of the natural evolution.

Startup entrepreneurs should study Steve Jobs, Bill Gates, Larry Page, and Sergy Brin. Follow their lead. Stay focused on the product. Make it “insanely great”. Don’t get defocused into building new features and products that don’t fit the grand vision. Always ask yourself how this new product or feature will disrupt the market, or significantly change the user experinece. Don’t build new things just because you can. Stay focused…or fail.

A few years ago I was mentoring a startup entrepreneur who had four or five ideas for new products. I suggested that he stay focused on his core business and make game changing innovation there. I repeated an analogy I heard years before. “When you are on an elephant hunt, don’t shoot at the squirrels. It wastes ammunition and scares away the elephants”. Stay focused or you could end up on the natural evolution curve and end up with the Finance guys running your company.

Don has been in the software business for more than 25 years. He was part of the leadership team of five software start-ups. Forte Software was the first multiplatform object oriented development environment. AltaVista was the first search engine on the web. Napster was the first P2P file sharing network. Bowstreet was the first web services development environment. Groove Networks was the first secure P2P collaboration platform.

Check out Don Dodge on The Next Big Thing

By Donald Dodge

Apple is 34 years old, Microsoft is 35. Can elephants dance? Apple today feels like an innovative startup, Microsoft a corporate behemoth. MSNBC says “Apple, Microsoft hit midlife as fresh, frumpy“. Steve Jobs is the driving force behind the iPod, iPhone, iTouch, iPad, devices that have changed the world. Bill Gates started disengaging at Microsoft 10 years ago. Apple (AAPL) has a Market Cap of $215 Billion, while Microsoft (MSFT) is at $257B. Apple has nearly $25B in cash, Microsoft has $36B.   

Enterprise vs Consumer – For years Apple competed against Microsoft in the desktop / laptop computer market. Windows had over 90% of the market, while Apple had between 5% and 8%. Apple took pride in delivering a seamless end-to-end experience, but in the process controlled the hardware and software themselves. Microsoft focused on software and made it available to any company that wanted to build hardware. Microsoft engaged partners to build applications and do consulting or system integration. The strategy worked great for Microsoft.   

Apple shifted focus to consumer electronics with the iPod, iPhone, iPad and other devices. There was no competition from Microsoft in these markets. In fact, Microsoft is struggling to catch up with Apple. Imagine what would happen if Apple decide to focus on games? Hmmm…Xbox could have some serious competition.   

Founders Matter? – Founders are the heart and soul of startups, but do founders matter 20 or 30 years later when there are tens of thousands of employees? In a word, yes. Look at what happened at Apple when Steve Jobs left…and when he came back. The transformation was amazing. Look at what happened to Microsoft when Bill Gates starting disengaging and focusing more on philanthropy. Some would argue that the pace of innovation slowed, the killer instinct subsided, and Microsoft lost its soul. I don’t agree with that generalization, but certainly comparing Apple and Microsoft over the past 10 years points out some very different approaches.   

The comparison can’t be complete, or the conclusions verified, until Steve Jobs leaves Apple for a few years. Then we will see if the presence of the founders is what makes Apple different from Microsoft. Perhaps Steve Jobs will be able to influence and effect the culture of Apple long after he leaves. Bill Gates influence and killer instinct is hard to find today at Microsoft. Steve Ballmer is the unquestioned leader at Microsoft. Ballmer is amazing…but very different than Bill Gates.   

Transformational Change – The MSNBC article has some very interesting quotes from people in the industry. Here are a few of them;   

“The difference between the two companies is that Apple has been fearless about transformational change while Microsoft has been reluctant to leave its past behind,” said Casey Ayers, president of MegatonApps in Jacksonville, Fla. His company soon will release its first iPad app, “Multitaskers” which includes a calculator, ruler, lantern, stopwatch and five more functions.

“Microsoft has always been loath to change and risk alienating some of its customers, but its inability to leave the past behind has left their product line bloated and dysfunctional,” Ayers said. “Yet iPhone completely changed the mobile space forever. Apple doesn’t blink at making unpopular decisions if it believes they will result in a better end product. … It’s just a matter of time now before Apple blows past Microsoft’s market cap.” 

Transformation Continued – Microsoft is a great company. Over $60B in annual revenue, with $36B in cash, and Steve Ballmer driving the company forward. Yes, they lost a little when Bill Gates disengaged, but the real question is what will happen when Steve Ballmer rides off into the sunset?    

The next leader of Microsoft will make or break the company. IBM faced a similar crisis about 20 years ago. They brought in Lou Gerstner from RJR Nabisco. Gerstner totally changed IBM and put them on an entirely new path. Mr. Gerstner wrote a very interesting book “Who Says Elephants Can’t Dance?” about the transformation of IBM. That was nearly 20 years ago, but some history lessons are timeless.   

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Don has been in the software business for more than 25 years. He started his software career with Digital Equipment, aka DEC, in the database group. He was part of the leadership team of five software start-ups. Forte Software was the first multiplatform object oriented development environment. AltaVista was the first search engine on the web. Napster was the first P2P file sharing network. Bowstreet was the first web services development environment. Groove Networks was the first secure P2P collaboration platform.  

Check out Don Dodge on The Next Big Thing 

By Donald Dodge

Universities produce lots of research, patents, and base technologies. Few of them ever make it to the commercial market. Yet, lots of recent college grads start companies that bring amazing innovations to market. Why the disconnect? The obvious conclusion is academic versus business thinking. Not so fast. If that were true, corporate research labs would transfer most of it’s research into new and existing products. The truth is a very small percentage of corporate research ever makes it to market.

The biggest factor seems to be the fundamental differences between research and product development. Research focuses on advancing technology without being constrained by business requirements. Product development starts with examination of customer needs and business requirements, and matches existing technologies to the problems.

University Research & Entrepreneurship Symposium - Today I attended the URES 2010 conference in Cambridge, MA. I saw 10 new startups that are spinning out of university research labs. These startups represent the best technologies and teams that have commercial viability. The technology was impressive, and the teams presenting were like any other tech startup team. The startups included;

• HydroGen Technologies – Boston University
• Hestia – Purdue University
• CoSi – University of South Florida
• Orthogonal – Cornell University
• FloDesign Sonics – Western New England College
• BioFilm Sciences – Harvard
• ReThink Energy – University of Waterloo
• i-Matsh – Dartmouth College
• The Imagination System – Penn State
• Cence-Me – Dartmouth

There were 10 more companies on the Life Sciences track that I did not see. Most of these do not have web sites yet since they are still inside university labs.

Last year four of the 20 companies that presented were funded by VCs. That 20% funding rate is far higher than the normal 1% to 2% of companies most VCs fund. Of course these startups have been screened by a panel of VCs before presenting, so we are only seeing the best.

Technology Licensing Office – The big universities have Technology Licensing Offices that handle technology transfer on behalf of the university. MIT in Cambridge has one of the best TLO’s in the country. VCs are constantly looking at technologies from MIT and other universities, but my guess is they represent less than 5% of the companies they fund, probably much less. What are the issues with TLO deals?

Disagreement on value of technology:

• No proven customer/market fit for the technology
• Key technology researchers will not transfer with the technology
• Complicated Intellectual Property (IP) ownership issues
• Long term royalties that may not make sense for the product evolution

Its All About The People – VCs invest in people not technologies. Entrepreneurs have a balance of business sense and technology smarts that is very rare. Matching entrepreneurs to technology wizards is where VC firms add a lot of value. They have a list of serial entrepreneurs that they know and trust. Magic happens when they match these entrepreneurs to cool new research.

Check out Don Dodge on The Next Big Thing

 Ben Lorica at O’Reilly reports that there are about 1,500 business applications on the Google Apps Marketplace. Ben put together this chart that summarizes the number of applications in each category, and a split between enterprise apps and search related apps.

The Google Apps Marketplace provides one stop shopping for the two million businesses that Google Apps. App stores have been around for a long time, but usually focused on free or low cost consumer apps for cell phones. The Google Apps Marketplace is focused on business applications.

For software developers, it provides an easy way to market their products to millions of customers that represent 25 million end users. Building a vibrant ecosystem on a business platform is all about developers. Giving developers an easy way to sell their products to millions of customers is a big plus. Making it easy to integrate, providing rich APIs, and developer support are essential. This is my new job at Google.

The Google Apps Developers Team at Google is here to help developers from any size company build great new applications. Email me if you have an application for the Google Apps Marketplace, or if you need help getting started.

Check out Don Dodge on The Next Big Thing

The future of computing is that your cell phone will become your primary computer, communicator, camera, and entertainment device, all in one. The exciting new applications are running in the browser, with application code and data in the cloud, and the cell phone as a major platform.  I think in the near future there will be docking stations everywhere with a screen and a keyboard. You simply pull out your phone, plug it into the docking station, and instantly all your applications and data are available to you. You can connect to the Internet via your cell phone service, WiFi hotspot, or wired connection.  Your phone will have enough storage so you can decide which applications and data are stored on your phone, and which will be in the cloud. Replication will work seamlessly in the background so that you always have a backup copy of your data in the cloud. Where does that leave the PC industry leaders? Scrambling towards mobile.

Why do leaders fail to adapt? The Innovators Dilemma, made famous by Clayton Christensen, clearly explains why market leaders fail to make the leap. Innovation usually happens at the low end of the market where the products are simple, prices are low, margins thin, and the market totally undefined. The industry leaders have great margins, high prices, and customers who want more features and are willing to pay for them. The industry leaders always move up market and leave the new emerging market to smaller innovators. The process usually follows these 6 steps;

1. The disruptive technology is discovered, often by the market leading company.
2. Marketing people seek reactions from customers and industry analysts.
3. Established companies decide it is a better strategy to speed up the pace of sustaining technical advancement in their own product rather than go down market with the disruptive technology.
4. Start-ups learn about the disruptive technology and see opportunity. They keep their cost structure low, build the technology, and find new markets through trial and error.
5. The start-ups get some initial success and then move up market and eat away customers from the market leading company.
6. The market leading company finally jumps on the bandwagon reluctantly with a half hearted attempt and fails. It is too late.

Giants don’t die quickly – IBM dominated the mainframe computer business in the 60’s and 70s. They didn’t make the shift to Mini-computers until it was too late. They did finally make the transition from a hardware company to a professional services company and IBM is still a very successful, but different company.  

Digital Equipment, Data General, Hewlett Packard, Sun Microsystems, and others attacked IBM from the low end with Mini-computers and Workstations. They didn’t try to build a better mainframe. They moved the market to lower end, cheaper, faster, computing models. I worked at Digital Equipment in the late 80’s when they had over 130,000 employees and billions in revenue. However, when the platform shift to PCs happened none of these industry leaders made the leap fast enough. None of these companies exist today. (Update) Actually, Hewlett Packard does exist today as HP, and is better known for printers…and PCs.

The platform shift to PCs was ironically started by IBM. However, they quickly lost the lead to Compaq, Dell, and others. The real winner in the PC platform shift was Microsoft. Microsoft dominated the PC software business in the 80s and 90s, and extended that dominance into server software like Windows Server, SQL Server, and Sharepoint. Will Microsoft lose its dominance to a competitor that builds a better desktop Operating System? Some would argue that Apple did with the Mac, but Microsoft still has over 90% market share. Another proof point that market leaders don’t lose their dominance to competitors…they lose it to market shifts. Like IBM, Microsoft will be a financially strong company for many years to come. But, an innovator and industry leader?

Platform shifts have 10X the number of devices and users. The move to Mobile is big and fast. Mary Meeker of Morgan Stanley says Mobile Internet usage is bigger than most people think, and it is exploding. Every platform shift has 10X the number of devices and users. There were about 1M mainframes, 10M mini-computers, 100M PCs, and 1 Billion cell phones. The next wave of mobile devices will be over 10B.

Think about the mobile phone you had in 1999, just a little over 10 years ago. Mine was a Motorola StarTac flip phone. It was state of the art at the time, but it had no camera, no email, no text messaging, no web browsing…just a phone. Now think about where mobile devices will be in 10 years. The iPhone you have today will feel like the StarTac of 10 years ago.

There will be an explosion in mobile bandwidth too. Again, think about the Internet access you had 10 years ago…probably 56K dial up or 128K ISDN. Today broadband is nearly universal. With the roll out of the 700Mhz wireless spectrum over the next 5 years we will see an explosion in mobile bandwidth just like we did from dial up to broadband. This will enable amazing new mobile applications and businesses.

Google’s big bets on the future of computing line up perfectly with the vision of “exciting new applications are running in the browser (Chrome), with application code and data in the cloud (Gmail, Google Apps, Google App Engine), and the cell phone as a major platform (Android). Oh, and that web search thing looks like it will be big too. :-0

Will history repeat itself? Will the previous platform leaders (PCs) fail to make the leap to lead the new Mobile platform shift? Will it happen in three years? All good questions that are open to debate. The direction seems clear, it is just a matter of time.

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The Google Apps Marketplace allows Google Apps customers to easily discover, deploy and manage cloud applications that integrate with Google Apps. More than 50 companies are now selling applications across a range of businesses, including:

• Intuit Online Payroll: A small business application that offers business owners a new way to efficiently run payroll, pay taxes and let employees check paystubs all within one integrated online office environment.
• Manymoon: The company’s free work and project management application for Google Apps makes it simple for businesses and teams to organize and share information including tasks, projects, documents, status updates and links with co-workers, customers and partners.
• Professional Services Connect (PS Connect): This new cloud-based offering coming soon from Appirio, pulls contextually relevant information on people, projects, customers and transactions from a user’s domain and surfaces it directly inside a Gmail message so services professionals can make more informed, real-time decisions.
• JIRA Studio: A hosted software development suite from Atlassian enables software developers to flow naturally between Gmail, Google Calendar, Google Docs and other design and development tools in order to better track and manage project issues and workflow.

Once installed to a company’s domain, these third-party applications work like native Google applications. With administrator approval, they may interact with calendar, email, document and/or contact data to increase productivity. Administrators can manage the applications from the familiar Google Apps control panel, and employees can open them from within Google Apps. With OpenID integration, Google Apps users can access the other applications without signing in separately to each. The Google Apps Marketplace eliminates the worry about software updates, keeping track of different passwords and manual syncing and sharing of data, thereby increasing business productivity and lessening frustrations for users and IT administrators alike. That’s the power of the cloud.

More than just a store – There are lots of “solutions marketplace” style web sites that list lots of different applications. But, they are basically just links to another web site where you can purchase the software, download, install, provision, and handle integration on your own. Why not make it easy? Why not have one place to purchase applications that are already integrated, use Single Sign On (SSO), and launch-able from within your email app? That is the idea behind Google Apps Marketplace.

Developers, Developers, Developers – Building a vibrant ecosystem on a business platform is all about developers. Giving developers an easy way to sell their products to millions of customers is a big plus. Making it easy to integrate, providing rich APIs, and developer support are essential. This is my new job at Google. The Google Apps Developers Team at Google is here to help developers from any size company build great new applications. Email me if you have an application for the Google Apps Marketplace, or if you need help getting started.

Check out Don Dodge on The Next Big Thing