Adapt or perish: Dealing with disruption

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Self-driving cars, electric cars, artificial intelligence, virtual and augmented reality, streaming video on demand… The list of technologies threatening to improve our lives and/or take our jobs is ever-growing. Stories of failed incumbents such as Kodak, MySpace, and Yahoo are popular among investors, but in reality, incumbents are frequently successful in adapting their business models to deal with new trends and technologies. With this in mind, Livewire reached out to some technology experts to firstly ask each for an example of a company that's adapting positively to technological changes in its industry, and secondly for an example of a technological change that could have a significant impact on established Australian business. Andrew Macken from Montgomery Global Investment Management, Nick Griffin from Munro Partners, and Delian Entchev & Nick Cameron from Watermark Funds discuss a range of companies from Australia and overseas in the latest Buy Side Brief.

Q: Could you tell us about a company that’s adapting positively to technological changes in its industry?

Netflix reinvents itself again

Andrew Macken, Portfolio Manager, Montgomery Global Investment Management

A great case study in a business that has adapted to technological change is Netflix (NASDAQ:NFLX). Founded in 1997, people forget that this business started out as a DVD mail-order business. In return for a periodic subscription fee, the customer could select DVDs to rent online. These DVDs were then physically mailed to the customer, who would then mail them back to Netflix after they had been watched. As the technology of video-on-demand developed, this could have easily spelled the end of Netflix’s business. Yet Netflix evolved its business model and invested heavily in video-on-demand to create a large, international content distribution system. Recently, it has evolved its business model again to invest in developing its own original content. This represents a level of strategic agility that most businesses lack.

Leveraging data to add new clients

Nick Griffin, Head of Investments, Munro Partners

We see the world’s largest credit bureaus, Experian (LON:EXPN) and Equifax (NYSE:EFX), as adapting well to technological change. Both companies own unique data sets that include credit data and credit scores and both are now adding to these data sets with further acquisitions and then repackaging their data sets to sell to other verticals such as Government, Healthcare, Technology disruptors etc. So rather than remaining attached to banks, bank lending, credit cards etc., these companies have evolved and added to their data sets, allowing them to be sold to multiple clients and verticals. This strategy provides a constant source of additional earnings growth as these new verticals evolve.

2 companies investing in the future

Delian Entchev & Nick Cameron, Investment Analysts, Watermark Funds

We believe the perception that incumbents fail to adapt is, on balance, wrong for technology. We would say incumbents are perhaps slow to react vs. a complete failure to respond. This is particularly relevant to incumbent providers to large multinational industrial/financial companies which have built complicated mission-critical IT infrastructure to support business processes which have evolved over the last 40 years. e.g. IBM mainframes are powering ~90% of global banks transaction volumes vs. the new cloud platforms like Amazon Web Services (AWS).

Examples we would highlight are:

MYOB – this company was a traditional on-premises accounting software solution provider. With the emergence of the cloud/SaaS and competitors like Xero, MYOB has been quick to respond to this disruption and itself is now providing its market dominant accounting software solutions through the cloud. It has invested significant capital to do so over the last seven years to get to this point.

ORACLE – The dominant database provider in the world was arguably slow to launch its answer to database as a service (DaaS) in cloud, having only recently launched a competitive product to AWS’s. Is it too little too late? Or does the trusted brand allow it to be late to this party and maintain share in this cloud growth channel? Remember the old saying ‘no CTO/CIO ever got fired for implementing Oracle’.

Q: Can you tell us about a technological change that could have a significant impact on established Australian businesses?

The most disruptive force in retail and media

Nick Griffin, Head of Investments, Munro Partners

Amazon Prime is the most disruptive force in retail and media today, but it’s yet to come to Australia. Amazon Prime membership is currently available in the US and parts of Europe for one flat fee (~$100 p.a.) it provides its members with unlimited free delivery of any Prime product they buy on the platform within 48 hours guaranteed. It also provides unlimited video and music consumption on the Amazon video platform. This unrivalled fulfilment offering sees Prime membership growing at 28% p.a. to now over 60 million members. It's estimated that a standard Amazon Prime member spends approximately 4.5x as much on Amazon as a non-member, with long-term members spending over 10x as much. In the US, Amazon now represents about 35% of all e-commerce sales and over 5% of all retail sales from virtually zero ten years ago, significantly impacting sales of traditional US retailers and forcing them to embrace lower-margin e-commerce to compete. Should the Amazon Prime offering come to Australia, traditional retailers should be concerned, and if anything, should be preparing for its arrival now by investing heavily in e-commerce fulfilment and customer loyalty programs.

Two global giants with their eyes on Australia

Delian Entchev & Nick Cameron, Investment Analysts, Watermark Funds

There are two global technology companies we would identify as having the potential to impact local businesses. Firstly, Uber - we already see the impact on Taxis and the value of taxi license plates. This also has implications for payment solutions i.e. Cabcharge. Secondly, Amazon – with online retail booming, the entrance of Amazon Online into Australia could have significant repercussions for traditional Australian retailers

Two Australian insurers at risk

Andrew Macken, Portfolio Manager, Montgomery Global Investment Management

The business of auto insurance is at risk from developments in data-gathering, intelligent safety systems and, ultimately, driverless cars. At the extreme, if auto accidents can be eliminated completely by technology, then so too is the need for auto insurance. Even at the lesser extreme, to the extent risks can be more easily identified and priced, then the price of good risks will be competed down towards cost and bad risks will be avoided by insurers altogether. This is also damaging for the current insurance model which effectively requires good risks to overpay and subsidize the bad risks. Australian businesses that could be affected by these developments (and which should be actively thinking how to evolve) include IAG (ASX:IAG) and Suncorp (ASX:SUN).


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