Has This Changed the Investing Game Forever?

Who were the biggest US companies in the early 1900s?

During the time, the US was a lot like China today — growing rapidly, building new things everywhere.

What their economy needed was a lot of steel and oil.

It should then come as no surprise that some of the biggest companies were industrial, like US Steel and standard oil.

Both were extremely important to America’s development early on. They employed huge swathes of the US population. They also produced extremely important goods.

Had you been an investor then, you’d have gladly put your money into both.

But as the US developed, both become less relevant. US businesses could buy steel cheaper from places like China. They also developed new methods like fracking for getting oil out of the ground.

While the US still needs oil and steel, their economy grows hungry for more iPhones, software and other higher value products and services.

And it’s why the largest companies today are completely different from those of years past.

Built to last

In Jim Collins’ book, Built to Last, he set out to find what make truly exceptional companies just that. What surprised Collins was not so much what he learnt but what he unlearnt.

Exceptional companies that stood the test of time didn’t need a ‘great idea’. They didn’t need a charismatic leader. They didn’t even focus on beating their competitors.

Instead, many visionary businesses have a cult-like culture, they’re willing to try new things, and they consistently innovate.

Such qualities are extremely hard for an industrial company to adopt, which is why the top companies of today aren’t US steel or standard oil.

Instead it’s Apple Inc. [NASDAQ:AAPL], Amazon.com, Inc. [NASDAQ:AMZN] and Alphabet Inc. [NASDAQ:GOOG] that reign supreme.

The Largest Companies By Market CAP 14-03-17

Source: Visual Capitalist

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But if they want to stay top dogs, they’ll need to keep innovating, maintain their culture and consistently try new things.

Not all will. And that’s why you could see some different names on this list in the next 10 years.

But what’s interesting about tech on top is how it’s changed your investing landscape.

In the 1900s, it was easy to know which industrialist was top dog. Now as the top companies hold fewer tangible assets and more intangibles, things get a little tricky.

It even amazes Buffett

Talking to a group of business leaders, Warren Buffett remarked at the amazing shift of businesses over time.

If you take Apple, Facebook, Microsoft and Google, in aggregate just those four will have well over $2 trillion of market value.

They require no net tangible assets…They’re wonder businesses.

This means companies like Microsoft and Facebook don’t need to store massive amounts of inventory. Apple and Google also don’t need to buy expensive machinery or office buildings around the world — though that hasn’t stopped them.

All they need is an idea and brains to put it into action. 

Buffett continues:

Apple…takes no capital. That’s a different world than when Andrew Carnegie got rich and John D Rockefeller.

They had to build one steel mill. Take the profits from that over time and build another steel mill, maybe borrow some money.

But the world where you can translate an economic model into hundreds of hundreds of billion, approaching a trillion of value, with no tangible assets, that’s a different economic model.

Even if you go back to the 1960, the number one company was General Motors. But now there are businesses that don’t require inventory, they don’t require fixed assets, they don’t require receivables and they get extraordinary margins.

That is a different investment world…This didn’t exist remotely to the same degree, 50- to 60-years ago.

You might say the rapid advance of tech has change the investment game forever. I would argue it’s a change for good.

Why wouldn’t you want to buy the company that grows on little to no capital? It’s far better than the business model that requires an enormous amount of money and grows slowly.

But while you look at a far better business model, valuing such a model can be tough.

Some things never change

I don’t care what kind of investor you are. You always want to buy a business for less than it’s worth.

Of course this then raises the question, how much is a business worth?

Investors tend to look at the price-to-earnings (P/E) ratio. Because earnings determined the value of business, the price you pay relative to earnings must be a good barometer.

However, those that lean on the P/E ratio can find themselves paying far too much for terrible businesses and passing on far too many wonderful investments.

And as tech continues to dominate, the latter will become more common.

You likely already know many tech companies come with a high P/E.

Because they can scale quickly, investors jump on these growth stocks, bidding the P/E up to 40- and 50-times earnings.

But even at such a price, some businesses are still dirt cheap.

Take Amazon for instance.

The online retailer has traded on a P/E of more than 500-times earnings over the past five years. Surely such a company is grossly overvalued?

Yet over the same time, the stock has climbed up more than 480%. Are investors just crazy? Maybe not.

If Amazon can continue to grow sales by 30% and profits by far more, over time the online retailer could potentially be a great investment.

What might also cause investors trouble is trying to determine the value of intangibles. Because some of the largest tech stocks carry very little tangible equity (assets minus liabilities), investors have the jobs of valuing intangibles.

For Facebook, this might be their wide-stretching network. For Microsoft, it’s their brand name and the stickiness of their product.

But overall, this is a positive for investors like you.

You can throw your money into the largest companies on the market, and know their capital-light models will be around for decades to come.

Kind regards,

Härje Ronngard,
Editor, Money Morning


Money Morning is Australia’s most outspoken financial news service. Your Money Morning editorial team are not afraid to tell it like it is. From calling out politicians to taking on the housing industry, our aim is to cut through the hype and BS to help you make sense of the stories that make a difference to your wealth. Whether you agree with us or not, you’ll find our common-sense, thought provoking arguments well worth a read.

Money Morning Australia is published by Fat Tail Investment Research, an independent financial publisher based in Melbourne, Australia. As an Australian financial services license holder we are subject to the regulations and laws of Corporations Act and Financial Services Act.


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