Posted by: hdemott | April 30, 2010

Derivatives – Movies, Music And Flash

If you are on Wall Street (and I am) you spent a lot of the week glued to the television watching as Senators grilled Goldman Sachs  over such esoterica as CDO’s, CDO Squared, CDS, Synthetic CDO etc…. Derivatives were on the mind for sure. Whether you take the side of Goldman or come down on the side of the populist Senators looking to place blame on someone for our economic mess (look! he seems to be doing okay – let’s use him as a scapegoat) you got some flavor of derivatives this week.

Derivatives have another meaning – which is a secondary or tertiary effect in the marketplace.

Let me give you two examples – one from eth media world and one from the tech.

Last Christmas Gamestop – a company familiar to all sorts of young boys and their parents – reported a terrible end of year – complaining that Wal-Mart had dropped pricing on their stock of Nintendo Wii machines to drive traffic.  At the same time – you may not have noticed this phenomenon – because you were too busy seeing Avatar for the 3rd time – making the fourth quarter the all time high quarter for movies.

As an investor, your first thought is – okay, Gamestop is going down and Nintendo might do a little better, as console sales are often accompanied by a slew of game. Fox is obviously doing well with Avatar – and the movie theater companies (Regal, Cinemark, AMC, Carmike, IMAX) should also be going up as well.

These are obvious to anyone with a brain – and are very quickly worked into the prices of securities – so the opportunities are perhaps not as great here.

So where to look – the first derivative!

The first derivative would be to think that if Wal-Mart had a lot of gaming customers that means that they drove a lot of traffic through their stores. What else is in Wal-Mart stores that appeals to the same customers? the answer is movie rentals in the form of Coinstar’s Redbox. So an immediate first derivative effect might be to see if Constar had a good quarter and was gaining share.

A second derivative might lead you to look at Blockbuster. Their business model is predicated on foot traffic into their stores to rent new release movies (80% new release). In addition, most of their business occurs on weekends when people unwind. Their business is almost 30% driven by December (that’s 30% for the year – they are very much like a retailer). Christmas this year was on a Friday, as was New Year’s Eve – so you are essentially taking out two movie rental weekends in the biggest month of the year. In addition, from the Avatar box office – those with free time were out watching the Navi battle the imperialists looking for unobtanium.

All of these facts would lead you to believe that BBI might be an exceptional short candidate.

Yet post XMAS, and post the GME announcement Blockbuster bonds (both senior and secured bonds) and the stock was unchanged.

Needless to say – as soon as they came out with numbers, it became clear that they had had a tremendously bad December and the whole capital structure tanked. In a straight up market – here was something going straight down.

Strangely, Coinstar wend down with it – on the assumption that movie demand had been dented – yet just the opposite had happened. Redbox killed it in the quarter and there was a great buying opportunity.

A first derivative of this second derivative trade would also to have looked at Netflix. With all those people marching into Wal Mart to buy new Blue Ray players and television sets (and Best Buy as well) and with people not renting from traditional Blockbuster stores – streaming started to take off. Netflix has doubled year to date.

All of this leads me to today’s real topic: Apple and Adobe. When Apple’s CEO Steve Jobs released his thoughts on why Flash is not welcome in the iPhone/iPad universe there was a ton of digital ink spilled (here, here, here, and here). From an investment standpoint ADBE has gone down – and AAPL – well AAPL does nothing but go up.

That’s Easy.

The question is where do we go from here. What’s the first and second derivatives of this move.

Well the first reaction I can think of is that businesses don’t want to have different websites for different formats – so websites developed in Flash will have to be reformatted or rebuilt in whatever apple says. Who benefits from this? Probably independent programmers – but I bet there are companies out there who have built their business on Flash. Book publishers who keep publishing Flash books are at risk – guys who own and develop other standards might benefit.

What are the second derivatives?

I’m not sure, but I’d love to hear anybody’s thoughts!

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Responses

  1. First, this is worth a read: http://www.esarcasm.com/13913/steve-jobs-apple-adobe-letter/

    2nd, one would assume the 2nd derivatives from the Apple/Adobe dustup would be Silverlight (Microsoft)…however, since Apple certainly isn’t letting them play on it’s devices either, it can’t be them. So, it must be Google+Android.

    The truth is this: for all Jobs wants to whine about Flash, Flash is installed on approx. 1.5 billion computers worldwide. That’s a larger install base than any single operating system. Add together all Mac+Iphone+Ipad users and you have like 30 million worldwide. It’s not even a rounding error of the number of Flash users.

    If Steve wants to kill Flash, he has his work cut out for him.

  2. One other point: flash CS4 has started taking steps to build in HTML5…so, in the long run Adobe might still win, and have their tools build to either format…stay tuned…


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