It would be very easy to say that with the dramatic changes we have already seen in technology we are coming to the end of this cycle. But we do not think that is the case. Quite the contrary, we believe this is really just the beginning of developments in technology – there should be a lot more to come.
In our view there are two key drivers behind the extraordinary disruption seen in the period from 2007 onwards. Firstly, Moore’s Law – the principle that the price of technology halves every 18 months. The economic consequence of this meant it became possible for consumers to purchase devices like the iPhone at an affordable price and with manageable energy consumption and size – none of which would have been possible back in 1999/2000. Up until that point most computers needed to be powered by mains electricity in order operate at a functioning speed, but the turn of the century marked a point where mobile devices moved from just being telephones to taking on the functions of personal computers. This generated a proliferation of devices and leads us to the second part of our thesis: the network effect.
In the mid-1990s, Robert Metcalfe developed a law in relation to telecoms, theorising that the value of a network increases exponentially with the number of users. This makes sense – if you have one person with a fax machine it is not really much use to anyone, but as the number of devices proliferates the network becomes more powerful and you can multiply the number of points of connection as a geometric progression. When you put these two factors together, you have the low cost of mobile computing together with Metcalfe’s law on networks, signalling an intrinsic value explosion and a host of new highly disruptive possibilities.
We believe this platform is now set for a huge number of new technologies to position themselves in addition to the existing opportunities. For example, the social networking phase would not have expanded to such an extent without improved mobile technology, yet this has now matured in many ways. Software as a service (SaaS) has been a key new driver of growth, as it enables individuals, rather than corporates, to make decisions about what software they want to use in their businesses. Many of these SaaS companies start off on an individual or small team basis and then effectively ‘land and expand’ based on the user experience: in the old days the decision to sign off on a huge software licence deal would have been made at board level. Such developments make the opportunity for proliferation so much greater.
Moving forward we believe one big driver of technology is going to be blockchain. As the principal technology underpinning cryptocurrencies, blockchain has been caught up in some of the negative newsflow. Yet it is starting to be seen as a really valuable technology for automating the process of trust, allowing users to dis-intermediate in areas which currently require a trusted party. Ultimately, we believe it should cover multiple forms of transactions, from buying and selling concert tickets online, to transacting real estate deals (which could further eradicate the need for estate agents or lawyers). Even some accountancy processes within business transactions could be eliminated. Blockchain could be the big next generation technology, but right now is probably at a level the internet was at 15 years ago. That said, we believe it is good to identify new trends at an early stage and understand the potential, then look for the best investment opportunities.
Technology is not only influencing the world we live in, but is also having a significant impact on how we consider these companies from an investment perspective. The increasing dominance of technology stocks in the S&P 500, for example, has prompted the index to make the radical decision to re-classify tech heavyweights Google and Facebook into its newly expanded communication services sector. This means they are now in the same sector as media company Disney as well as telecom service providers and makes things even more interesting when managing a technology fund as many of the key stocks are no longer in the technology benchmark.
This serves to further illustrate the ways in which technology is disrupting every type of business. John Chambers, former CEO of Cisco, predicted that every company would be a technology company; and those which are not would cease to exist. In our view, whatever industry you are looking at now, and in whatever capacity, you need to understand these new technologies and who the winners and losers are likely to be. We can see day by day where companies have adopted new technologies and where they have not. A current example is the retail sector – it is becoming increasingly clear which retailers are doing a reasonable job of surviving the decline of the high street by having a strong online component to their business and which are not. These latter businesses are failing at an increasingly rapid rate.
In terms of investing, it is not just a matter of identifying the biggest themes and the best ways to invest in them. Of course these are important, but we believe it is just as crucial to consider the intrinsic value of a company. In this rapidly shifting sector, it can be hard to forecast what the revenues and earnings for companies are going to look like, therefore we consider various scenarios for a company and use discounted cash flow (DCF) modelling to estimate an intrinsic value.
To us, establishing the intrinsic value of a company is really important and comes back to the start of technology investing in the late 1990s. At that time, people became far too carried away with concepts and completely lost touch with reality when it came to valuations, which led to the 2000/2001 crash. We believe there is still enormous opportunity surrounding the technology sector, but with that resides the potential for exuberance and investors need to be mindful of this.