. . . Tuesday March 1, 2005

Sound Wreck

Muhammad Ali could have never made it as a publicly traded stock.

Because of the style employed during some of his fights, he would’ve quickly been so overwhelmed by downgrades and class action suits that the towel would have been thrown in long before anyone had a chance to realize that he would emerge as the stronger fighter when it counted.

Rope a Dope doesn’t work in the public markets.

In the public market, when it counts is now. No one who owns stock in your company is going to sit through several quarters of rope-a-dope. And that’s a problem because companies are often punished for positioning themselves for the future.

Take the case of Audible. They are in a the leadership position in a growing market (downloadable audiobooks and other content). Given the explosion of iPod sales and the emergence of podcasting, one expects Audible to enjoy a nice, long term, upside.

But then, a few weeks ago, the executives at Audible did the unthinkable. They decided to take some of their profits and put the money towards positioning the company for the future. While revenues were expected to grow apace, the Audible team warned of thinner margins due to the decision to reinvest in corporate initiatives.

The stock plummeted. Part of this drop was due to some incredibly negative reactions by stock analysts. Take a look at this outtake from Adams Harkness:

Management’s strategic decision to double-down–investing in new businesses such as wireless and education–should eliminate the hoped-for margin ramp in 2005. While revenue guidance is higher than the consensus, these investments wreck earnings and, in our opinion, the stock.

If you’re a holder of Audible stock, the notion of it being “wrecked” probably sent you running for the exit. But wait. Let’s take a further look at the Adams Harkness opinion. It goes on:

Separately, we cannot disagree with the wisdom of any of these investments. However, in combination, they serve to wipe out the anticipated margin improvement in 2005, lead to year-over-year earnings declines and destroy investor confidence. We believe it will take several quarters to rebuild investor confidence and therefore are moving to the sidelines.

Now there is no denying that Audible failed to give the market a reasonable heads-up about their plans. But even the harshest criticism of the company comes with the pretty massive caveat that the critic sees the moves as wise.

The downgrade was followed by a series of class action lawsuits accusing the company of misleading investors – who apparently were under the impression that no corporate investment would be needed in order for Audible to maintain a leadership position in a burgeoning market.

Of course, the market is about perception. What hurt the stock was really the word “wreck” served up by a firm that couldn’t argue with the wisdom of Audible’s executives.

Isn’t something about all of this broken? Why should a company that is planning for the future find itself flat on the canvas with a black eye?

Now you might be reading this and wondering to yourself, “Hey, I wonder if Dave owned some Audible stock before the sudden drop-off?” Well, the answer that question is no.

But I bought some right after.

Update: The stock is up 38 cents since I first posted this. Feel the power.

Concentration is important!