When an entrepreneur invents a new technology or solves a problem in a novel way, a new company is born. Very often, companies grow, go public and end up in a boring rut where they pump out minor iterations on their original business idea. But the most exciting companies are constantly involved in launching important, new innovations. Not every company I invest in fits this description, but many do. And I love it because innovations can drive growth for a long time. Companies that keep innovating can keep growing.
Netflix is a simple example of innovation. When Reed Hastings started the company in 1997 the idea of sending DVDs by mail was innovative and highly successful. Knowing DVDs would become obsolete, the company launched a streaming video business that brought impressive video quality to online customers. I remember hearing excited reports from U.S. subscribers back when many tech pundits, including myself, thought the technology wasn’t ready for prime time. Was I ever wrong. I should have been more forward thinking when these rave reviews first came out. And now that high definition streaming video is table stakes, Netflix has re-invented the idea of TV by launching complete seasons of original shows all at once. The innovation continues.
Apple innovated with the Mac, iPod, iTunes music store, iPhone, iPad, and who knows what’s next. The ability of the company Steve Jobs founded to keep innovating has been key to its success. Contrast this with Microsoft, who innovated with the DOS operating system, and followed Apple into graphical user interfaces. Once Microsoft’s innovations got them to the top position in the PC market, it seems they had very few new projects to spark new growth. Their announcement this week to buy Nokia’s hardware business for about $7-billion seems defensive rather than innovative.
Amazon re-invented how people shop for books, and then how people shop online for pretty much anything. Then they created the Kindle platform and are largely responsible for the popularity of ebooks today. And who would have expected Amazon to become one of the world’s largest cloud computing companies? Amazon has kept innovating across many markets.
Today, I believe Google is in a very strong position to keep innovating for the benefit of investors, customers and consumers. After taking the lead in search, online video, Internet advertising, maps, smartphone operating systems and PC browsers, Google is set to launch a whole new market for wearable computing.
Google Glass is a wearable computer with an optical head mounted display. You wear it like a pair of glasses, except it doesn’t have lenses. Whatever the video display projects you’ll see in front of you, along with whatever you’re looking at. Glass can take pictures, shoot video, search Google, or run other customized applications. You have to be a developer to buy Glass, and it will set you back $1,500. Most people think it’s crazy expensive. It is, but a little bit of forward thinking makes it easy to see that this product could become cheap and ubiquitous in many vertical markets and even with the general consumer.
Nurses and doctors could use Glass to get visible patient alerts, or have pertinent information relayed to them during surgery, for example. What if recipes and cooking instructions were right there in your field of view as you moved around the kitchen? Navigation instructions could be easier to look at and follow. Glass could be used to elegantly deliver training material. And how many times have you been sitting on a plane when the guy beside you is working on a confidential powerpoint presentation? Glass could easily be used for privately reading and editing documents. The list of possibilities is endless, and we’re only at the very beginning of this growth opportunity.
Many companies are not forward thinking enough to tackle such projects. Google has shown that it is different. Sure, not every bet will pan out. Projects are like stocks, and every company should have a few big bets. For Google, the Glass project is one, but not the only one. Google is also working to commercialize self-driving cars. Who would have thought that an Internet giant could possibly become a world leader in autonomous vehicles?
Wall Street has trouble putting a value on innovation that won’t likely show up on the income statement for a few years. So it often gets discounted. In the case of Google, the stock is 8 per cent below its July peak. According to S&P Capital IQ the consensus earnings estimate for next year is just over $51 per share, putting the P/E ratio for this stock below 17x. At current prices, I don’t believe I’m paying for possible growth coming from Google Glass or self-driving cars.
Innovation isn’t always successful. As an investor, just as an entrepreneur, you have to realize failure is a likely outcome. But when success happens, especially in technology, it can lead to a decade or more of solid growth. It often leads to the kind of growth that nobody anticipated. By investing in management teams who share this attitude, I think you’ll do better over the long term.