An Analog Thinker in a Digital World

In our 2023 Market Outlook, we highlighted three broad themes that we believe warrant considerable attention as we expect they will likely have major investment implications for years to come. The first was an in-depth look at the emergence of electric vehicles (The World is Running on “E”). Next we discussed the lasting implications of pandemic era supply chain disruptions that accelerated deglobalization trends that were already in place, with a focus on reshoring of domestic manufacturing (Back to the Good Old Days). We close out the year with an investor’s perspective on the importance of balancing risk and reward as new technology integrates into society at a fast pace.

Navigating the Rise and the Fall

Technological innovation is exciting, necessary, and inevitable. It can also be challenging to navigate. Staying on top of the latest technology trend while discerning the difference between the next overhyped fad and a generational paradigm shift is not an easy task. Getting this right is important for long-term investors to perform well but getting it wrong as a business can be an existential problem.

Consider the average time a large company maintained their dominance 65 years ago compared to today. According to McKinsey, in 1958 the average time a company was listed on the S&P 500 was 61 years. Today it’s less than 18 years and that number is forecasted to decrease even further over the next decade. While there are many factors that have contributed to businesses failing to maintain their position as one of the world’s most valuable companies, the time of adoption certainly has played an important role.

The reality that companies struggle to maintain their industry leadership calls into question the most fundamental premise of long-term investing to buy and hold. While it remains prudent to identify companies with sustainable competitive advantages, the time frame of what is considered sustainable over the long run seems to be shortening. In addition, a rapidly evolving society puts even greater importance on identifying companies with strong company leadership to make decisions with the long-term in mind, even if that means negative consequences in the short term.

Disruptive Innovation at Its Finest

It wasn’t that long ago when Netflix seemingly took Blockbuster down overnight. At the time their business model of renting DVDs in the mail with limited selection and minimal late fees seemed unsustainable. However, it allowed them to acquire 1 million customers in just under 3.5 years. The surge of revenue, at the expense of profitability, provided the company additional lead time and resources to innovate further into streaming. While considered a markable feat at the time, several mainstream technology companies have since achieved much faster growth.

According to OpenAI, ChatGPT acquired 1 million users just 5 days after launching in November 2022. The speed at which ChatGPT acquired new users is astonishing given the underlying technology (i.e., generative artificial intelligence (A.I.)) is new to the masses. Unlike Netflix where customers were provided a more convenient service that was already intuitive, A.I. is still quite novel in the minds of most people. The success of OpenAI’s ChatGPT and subsequent partnership with Microsoft left many imagining a future that resembles their favorite Sci-Fi movie, but also has kicked off the next gold rush in the tech industry.

Not a Time for Complacency

With few publicly traded companies solely dedicated to A.I., the so-called Magnificent Seven’s stock prices have benefited and are the market’s current betting favorites of what could be a life-or-death race to the top. With ample financial resources, supreme engineering talent, and a plethora of data, it’s fair to say their advantage is sizeable. Despite all this, company leadership should be wary and not allow their skyrocketing stock prices to breed complacency because the threat is double sided. The opportunity to innovate and bring new products to market is ripe for the taking, but the risk to existing core revenue sources may be greater than ever.  

There may not have been a company better positioned to bring generative A.I. to the masses than Alphabet – the parent of Google. Gmail is the top email provider globally and Google’s global search market share stands at approximately 84.69% to 91.9%, confirming its status as the leading search engine worldwide​​. Over 25 years the company has amassed an immense amount of data on the global population. Everything from what people search for online to bits of information scraped from personal emails (yes, Gmail’s privacy policy allows them to scrape personal emails for data). Mix in their acquisition of the London based A.I. company DeepMind in 2014, it’s a bit puzzling as to how OpenAI and Microsoft beat them to market.

One conclusion could be that Alphabet got complacent. They’ve been on top for so long that management may have either missed the opportunity or they simply didn’t push hard enough. While certainly viable, advanced business strategy could have also played a role. It is not a secret that big tech companies have come under fire for anti-competitive behavior such as acquiring smaller companies that could threaten their own products and services. Google and Gmail are “free” services that rely heavily on advertising revenue. There is growing belief on the Street that generative A.I. powered chatbots and digital personal assistant services could alter the way society uses search engines, therefore reducing usage and bringing down revenue. Without a clear monetization strategy that rivals their current cash flow machine, it’s possible Alphabet realized innovation could cannibalize their core business. Sometimes new technology becomes available before the world is ready for it, but other times business profitability stands in the way of innovation.

The Fourth Industrial Revolution is Here

The speed of innovation, such as the fast emergence of A.I., widens the gap between disruption and opportunity, making for a very high-stakes situation. Alphabet is an interesting high-profile example playing out in real time, but all businesses should consider themselves on notice as the way we live, work, and interact with each other is rapidly evolving. This phenomenon has been labeled the Fourth Industrial Revolution and is characterized by the fusion of the digital, biological, and physical worlds, as well as the growing utilization of new technologies such as A.I., robotics, the Internet of Things (IoT), virtual reality (VR), and cloud computing. This revolution is distinct from the Third Revolution (AKA Digital Computing), which was digital in nature, and is marked by a range of new technologies that combine the physical, digital, and biological worlds, affecting all disciplines, economies, and industries​​.

One of the key drivers of this revolution is the rapid adoption and integration of these technologies into everyday life and industry. The pandemic has significantly accelerated this process, as the need for digitization and contactless operations became critical. Companies that had already begun integrating those technologies were better positioned to handle pandemic-related challenges.

The title of this article, “An Analog Thinker in a Digital World”, is a phrase my father used to happily say whenever he got lost with new technology. To be clear, he loved new gadgets and products. It was just hard for him to keep up, but he never shied away from trying to learn and adjust. Perhaps that is a good lesson for everyone as technology continues to progress; stay curious and remain flexible because change is coming whether we like it or not.