Investors cheer disruptors

SUDDENLY Mark Zuckerberg and the phenomenon of Facebook are front and centre of investor sentiment again.

Facebook chief executive Mark Zuckerberg. Facebook has made the leap from pulling in traffic to pulling in profits. Picture: Scott Olson

SUDDENLY Mark Zuckerberg and the phenomenon of Facebook are front and centre of investor sentiment again. The juggernaut social media site service had just announced an earnings result that has shot out the lights.

The result marks two outstanding developments: the ­arrival of Facebook in earnest as a Wall Street giant and the confirmation of “disruptive companies” as the investment trend of our time.

First to Facebook: if you recall the company arrived on the stockmarket not so much with a bang but a whimper when it listed at $US38 in May 2012. In the months following the listing Facebook sunk to as low as $US19.69 in August 2012 as fears gripped the market the social media site would not make the leap from pulling in traffic to pulling in profits. Specifically, technology analysts worried Facebook would not make the move to mobile from the desktop.

The latest Facebook result for the three months to June 30 blew those fears away. Just focus on these two figures released midweek: a whopping 62 per cent of Facebook activity now is on mobile devices while earnings estimates — underpinned by mobile advertising — beat expectations for the ninth time in a row.

There are 890 million people who engage with Facebook at least once a day and the company is putting on new users at the rate of 40 million per quarter … that’s more than the population of Australia becoming users/customers of one company every three months.

For investors it is always enthralling to watch a company of this scale triple in price in a year. (Its shares are trading at $76.74.) In the case of Facebook we’ve got an example of the theory of “disruptive business” writ large. “Disruptive business” has been a management theory since 2005 when Harvard University Press released a book called Blue Ocean Strategy. One of the main contentions of this very influential work was that the most successful companies of the future would succeed not through being “the best in the business”. Rather, they would win by creating a business where there was no competition at all. W. Chan Kim and Renee Mauborgne, two professors at the elite INSEAD business school in Paris who co-authored the book, gave us the enduring notion of “uncontested markets”.

Less than a decade later, the idea of disruptive business that creates uncontested markets is the dominant investment trend of the decade, just as “structured finance” was 10 years ago, or privatisation in the 1990s or deregulation in the 80s.

Though investors associate the notion of “disruption” most closely with technology, there are examples of disruptive businesses stretching across every industry from automotive to retail.

About the same time Blue Ocean Strategy was released, an Australian report from broker Baillieu received wide attention for noting that the cumulative market capitalisation of Australia’s best known online “disrupters” — Carsales.com, recruiter Seek.com and Realestate.com.au — was higher than the market capitalisation of media stalwart Fairfax. Today any of those three companies is worth more than Fairfax … with Seek alone coming in at roughly twice the market capitalisation of the diversified newspaper company.

Crucially for all disruptive enterprises is the risk of being a veritable one-trick pony. In other words, the initial disruption offers a headstart but without constant innovation the lead from the pack diminishes. Brisbane-based internet travel site Wotif was spectacularly successful in its first few years. It was also a tremendous stock on the australian Securities Exchange. In recent times it has struggled to maintain the growth rates of its early years and is the subject of a takeover by global internet travel leader Expedia.

Facebook, Google, Seek and Wotif were obvious disrupters. Less obvious, though equally potent, are companies that are disrupters inside an industry category. Outside the realms of pure technology, the retail sector is another testing ground — the global success of the Zara fashion chain is a story of disruption without the gloss of new technology.

Spain-based Zara reformu­lated the century old-retail store practice of “seasonality”. A traditional fashion store turns stock over every two months. Zara turns stock over twice a week. (Zara is also a disrupter that optimises social media: it has 22 million Facebook followers; our own Myer group has 300,000. )

Swedish music operation Spot­ify has the potential to devastate CD sales. California-based electric carmaker Tesla has the potential to upturn our gas guzz­ling mainstream auto industry.

Similarly, internet-enabled peer-to-peer Lending has the potential to undermine margins in the conventional banking industry. A disrupter that has caused particular consternation is Uber, the alternative taxi service that has everyday car drivers picking up fares through an internet platform. Uber has already caused taxi strikes in London and Paris this year.

As Victor Hugo said, there are few things more powerful than an idea whose time has come. The same may be said for investing in a disruptive new idea whose time has come. Just now Facebook is proving the point.

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