One of the things I promised with this blog was to explore ideas rather than talk my book. I also promised to explore my failures (of which there have been a few). So here goes.
To make real money in tech your company must do three things. Two out these three and the results will be (at best) inadequate.
- You need to have an idea that effectively changes the world in some way (even small ideas are OK as there are surprising profits if you can pull the next two tricks).
You need to execute – that is you need to bring the idea to reality.
And you need to keep the competition out.
Of these normally number 3 is the thing that trips up tech companies – they work really hard to get the idea implemented and then someone with less expense – and with the benefit of watching your failures, trials and tribulations – copies the idea (usually slightly better or less clunky) and the margins go to zip. Microsoft is such a fantastic company not because they have the technology right – but because people build on them proprietary software (developers, developers, developers) and that makes people reluctant to change even if the new product is superior.
But a tech company can easily be tripped up on the execution phase as well. (Anyone remember Friendster? Remember when their site took 2 minutes to load a page because they couldn’t get the IT implemented properly? And look how valuable the position they lost is…)
At Bronte we normally don’t own tech stocks unless all the ducks are lined up – that is we want demonstration of execution and we want to understand how they keep the competition out.
This year we broke the rules and paid for it. Our largest losers (cumulatively about 5 percent) are two tech stocks that are having trouble at the execution phase.
One of them is small cap and too painful to mention – the other has some hope – and it is a well known company – possibly the hottest float of 2009. The company is A123 systems and it has one of the first viable nano-batteries. It has yet to scale production to a level which demonstrates execution and even if it can execute we are not sure how well it will keep the competition out.
What is a nano-battery?
A battery works by chemical reactions which liberate electrons which have to travel through circuits (delivering power) to complete the reaction. The chemical reactions work on the surfaces inside the battery (eg the lead plates inside the lead-acid battery in your car).
One of the limits to how much power a battery can produce and how fast it can recharge and the like is the amount of surface area that the reaction can take place on and how much of the chemical can be stored on that surface area. More surface area is good and your car battery has lots of plates to increase surface area to volume ratios.
A nano-battery makes the contact area very large relative to volumes by making all the contacts at a “nano-scale”. Obviously the smaller you make such stuff the larger the surface area to volume ratio.
A123 have produced the first commercially viable nano battery. It is no longer the only one – Toshiba for instance has demonstrated one. The specifications for this battery are a step increase from the past. If the battery can be made cheaply enough (and that is a big if) then it will change the world because it will make mass storage of electricity viable for lots of applications. The obvious applications are cars but also storage of solar energy and management of peak load electricity would come into play. If A123 executes it changes the world.
When we saw the specs – well – frankly we had our doubts. So we wanted to find people who used them. And remember in the early stage these batteries were frighteningly expensive. So we went to a group that we thought would use these batteries to their full potential and be insensitive to the cost. Besides it gave us a chance to pretend we are kids again – because the real enthusiasts never grew up (they still fly model planes). This little demonstration on YouTube translates raw battery specification into something visual.
The video is astonishing but we wish we never saw it because after seeing it we would have crawled over broken glass to buy the stock. This video cost us a lot of money!
Anyway – the demonstration is a 17 pound remote control plane powered by A123 batteries. The owner will enthuse endlessly – and indeed does.
When this film was taken the batteries were so expensive that only a nutcase enthusiast would pay for them. But who cares, or so we thought! Mass production makes everything cheap and this company had a technological edge and patents we thought might keep the competition out for a while.
There was an implicit assumption here – which is that, provided the battery did not contain super expensive materials (ie rare metals at thousands of dollars per kilogram), then mass production would make anything cheap… in other words we assumed away the risk and difficulty of execution.
And alas execution is really difficult – and whilst A123 is struggling to get a product to market at a price low enough to change the world – other competitors are turning up. And they continue to burn cash in the hope of reaching some manufacturing promised land.
Linked is recent article on a new nano-battery technology (and that alas is one of many, many of which look superior to A123). What got us was just how complicated the manufacturing process seems when you read this article. The company talks about “nano-wires” taking in lithium without breaking but the process not being sufficiently mechanically stable. After all things heat up and flex. So the nano-wires are built on thin metal cores that the company likens to steel rebar. Picture this: how small is this rebar? How do you manufacture it? Who builds the machines to make the machines?
The point is that we lost money because the company just can’t get manufacturing costs low enough fast enough to produce the rosy future we saw. We assumed away execution risk and paid the price.
A123 might get there in the end – and the stock is almost certainly a better buy now than when we purchased it – in that they are further developed and the stock is half the price. But we are hardly in a position to judge whether they will execute in the end. And we are already seeing competitive products in development.
The other tech stock where we assumed away execution risk – well that was an even worse outcome. And the pain of loss makes me not even want to talk about it.
We should note some informed comment on just how much battery technology has moved in the remote control plane space. A123 might yet get to a desirable cost structure – but it is highly likely there will be lots of competition (at least nearby) when it gets there.