Running Forward, Walking Backward

Transcription

1 R T TMT V C R Running Forward, Walking Backward How Technology, Media, and Telecom Companies Can Generate Returns amid Shi ing Business Paradigms

2 The Boston Consulting Group (BCG) is a global management consulting firm and the world s leading advisor on business strategy. We partner with clients in all sectors and regions to identify their highest-value opportunities, address their most critical challenges, and transform their businesses. Our customized approach combines deep in sight into the dynamics of companies and markets with close collaboration at all levels of the client organization. This ensures that our clients achieve sustainable competitive advantage, build more capable organizations, and secure lasting results. Founded in 96, BCG is a private company with 74 offices in 4 countries. For more information, please visit

3 Running Forward, Walking Backward How Technology, Media, and Telecom Companies Can Generate Returns amid Shi ing Business Paradigms T TMT V C R David Dean Niki Aryana Jeff Bowden François Candelon Guy Gilliland Antonella Mei-Pochtler Ron Nicol Frank Plaschke Daniel Stelter November bcg.com

4 The financial analyses in this report are based on public data and forecasts that have not been verified by The Boston Consulting Group and on assumptions that are subject to uncertainty and change. The analyses are intended only for general comparisons across companies and industries and should not be used to support any individual investment decision. The Boston Consulting Group, Inc.. All rights reserved. For information or permission to reprint, please contact BCG at: Fax: , attention BCG/Permissions Mail: BCG/Permissions The Boston Consulting Group, Inc. One Beacon Street Boston, MA 8 USA

5 Contents Executive Summary 5 The Technology, Media, and Telecommunications Value Creators 7 The TMT Halo The Basics of Value Creators and Value Creation Technology: Preparing for the Post-PC Era Innovation Through Ecosystems and Business Models 4 Management Strength 5 Intellectual Property Matters 6 Media: Rising and Falling Stars 8 Digital and Portfolio Transformation Operational Excellence Telecommunications: A Tale of Two Markets and Two Eras 4 The Maturation of Developing Markets 5 Back to Basics in Developed Markets 6 The Changing Dynamics of Value Creation The New Normal The Retreat from Risk The High Costs of Being Wrong From Aspiration to Strategy What to Expect from Business as Usual Beyond Business as Usual : Determining Risk Exposure Implications for the Corporate Portfolio 4 From Strategy to Plan 5 The Reconciliation of Targets and Plans 5 Plans That Shape Actions 6 For Further Reading 7 Note to the Reader 8 R F, W B

6 T B C G

7 Executive Summary This report builds on the thirteenth annual report in the Value Creators series published by The Boston Consulting Group. It ranks the stock market performance of the world s top technology, media, and telecommunications (TMT) companies over a five-year period from 6 through and explores the secrets of their success. This year s report addresses the challenges that many TMT companies face in generating new sources of growth while they manage maturing or declining businesses. It also focuses on how companies can manage uncertainty and risk as they allocate capital and seek to create shareholder value. Among the 9 industries analyzed, technology and telecommunications retained their sixth- and seventh-place positions, respectively, achieved in the ranking, while media moved up a notch to eleventh place. Tech companies returned 6. percent annually during the five-year period, while telecom companies returned 5.9 percent annually and media companies returned 4.6 percent. Growth is by no means dead in the TMT industry, but it is emerging in new geographic markets and entirely new business segments. In order to generate value in the future, established TMT companies need to both pursue growth and manage mature businesses. In other words, they need to run forward and walk backward. In the technology sector, the rise of the smartphone and the rapid success of Apple s ipad have ushered in a new era one ruled by portability and connectivity rather than power and speed. The most successful Value Creators in the sector F5 Networks, Apple, Salesforce.com, and HTC have recognized the trends and developed innovative products, services, ecosystems, and business models around them. Not all technology companies are riding these trends. The sector s 6. percent return between 6 and would have been higher except for a drop of 6 percentage points in valuation multiple. Large-cap companies have created more value for their shareholders over the past five years than small-cap companies. The average return of companies whose market capitalization is $5 billion or more was 7.9 percent, compared with. percent for small-cap stocks. Growth remains a major contributor to total shareholder return (TSR) in the tech sector, especially among the strongest companies. Among the top-ten tech Value Creators, annual sales growth accounts for essentially all of the 7.9 percent TSR. Without the contribution of two Chinese Internet companies, Tencent and Baidu, the media sector would have reported an annual return of. percent rather than 4.6 percent. The success of both Tencent and Baidu is built partly on the popularity of social networking and media in China, but both companies also focus relentlessly on understanding consumers and delivering services that are in demand. R F, W B

8 The sector s best companies are doing well, with the top ten generating a 8 percent annual return, equal to that of the tech sector s top ten and far surpassing the best telecom performers. Many of the developed-market top performers DirecTV, ProSiebenSat. Media, and Pearson, in particular have diverse revenue streams from ads, subscribers, and other sources that help so en the decline in ad revenues. on operating efficiently in order to maximize dividend payments. All TMT companies need to generate shareholder returns in an environment of below-average economic growth, painful deleveraging, and potential stagflation. This new normal has produced a corresponding sea change in investor sentiment and priorities. In order to succeed, companies will need to reshape their business and future through organic expansion and the acquisition of digital properties, and tightly manage their mature media properties. The telecom sector s 5.9 percent return was essentially the same as the average TSR of all companies in the Value Creators survey. Investors are looking for companies that can deliver low risk and consistent returns at or slightly above the market average. They are clamoring for companies to start deploying the hundreds of billions of dollars they have accumulated on their balance sheets, by raising cash payouts to investors. The top ten did much better over the five-year period, generating annual returns exceeding 7 percent, powered mostly by sales growth. Telecom operators in developing markets outperformed their peers in developed markets over the fiveyear period, but during the past two years the reverse has been true. The growth of developing-market operators is starting to slow as their markets mature rapidly and they face difficult choices about network upgrades and mobiledata pricing that developed-market operators have been confronting for several years. In developed markets, the most successful operators have figured out that their long-term success depends Navigating this new environment will require TMT companies to confront three basic challenges. First, they need to understand how the new environment is likely to affect their aspirations and ambitions for delivering shareholder value, and they have to reset their value-creation strategy appropriately. Second, they need to translate the company s revised value-creation strategy into a detailed plan for the company as a whole and for each of its individual operating units. Finally, they need to incorporate in-depth considerations of uncertainty and risk into strategy development and planning, as well as into their approach to setting value creation targets. T B C G

9 The Technology, Media, and Telecommunications Value Creators The autumn of is remembered for many events. In the technology, media, and telecommunications (TMT) industry, two stand out: the launch of the ipod by Apple and the decision by Hewlett-Packard (HP) and Compaq to merge. For several years, HP thrived as the dominant PC company, while the seed that Apple planted with the ipod has grown magnificently with the ipad and the icloud being the most recent additions to the garden and the company is vying to become the most valuable company in the world. Now PC players are not faring so well. Global sales of PCs are stalling indeed shrinking in the U.S. and European consumer markets and all companies are considering their strategic Companies from options. developing markets are overrepresented The industry, driven by innovation and the creative genius of the late Steve Jobs, in the tables. is entering the post-pc era. While it is natural to focus on the new kids on the block, such as Google and Facebook, many established players, notably Apple, have thrived in both the short and long run, as evidenced by the ranking of the top ten TMT Value Creators over the past ten years. (See Exhibit.) broadly defined, is growing almost percent annually. Newspapers are mature or in decline in many developed markets, but the broader media industry is growing 5 to 7 percent annually elsewhere. Similarly, voice telephony has matured, but data services are expanding rapidly, in both developed and developing markets. Meanwhile, new businesses routinely emerge in the TMT industry. Witness the rise of app stores, streaming media, cloud computing, social media, and the Internet of Everything. Western companies face new competition, too. The rapid development of markets such as China and India has spawned local champions Huawei, Bharti Airtel, and Naspers are now confidently striding the global stage. Of the 94 companies analyzed across all industries, for example, Tencent and Baidu, both Chinese companies, generated the second- and third-highest annual returns 8 percent and 7 percent, respectively over the past five years. The TMT companies from developing markets analyzed in this report are overrepresented at the top of the charts, occupying four of the top ten spots in the media sector and six of the top ten in the telecom sector. Strong growth has been a major component of the success of these companies. They have ridden one wave of innovation a er another. In such a volatile and innovative industry, few companies generate competitive success and shareholder value over long stretches. Growth is by no means dead in the TMT industry, but much of it is coming from new geographic markets or entirely new business segments. The technology sector, In order to generate value in the future, established TMT companies need both to pursue growth and to manage mature businesses. In other words, they need to run forward and walk backward. In this environment and as many TMT companies mature and become complex organizations the role of management rises in importance. Increasingly, management strength will set apart those companies that generate above-average returns for their shareholders from those that do not. R F, W B

10 Exhibit. The TMT Industry Has Produced Several Ten-Year Stars Market value ($billions) Sales growth Margin change TSR decomposition Multiple change Dividend yield Share change Net debt change # Company Location TSR Apple United States F5 Networks United States Cognizant Technology Solutions United States Naspers South Africa Telekomunikasi Indonesia Indonesia Samsung Electronics South Korea Millicom International Cellular Luxembourg..4 NA NA NA NA NA NA 5 8 MTN Group South Africa Infosys India Philippine Long Distance Telephone Philippines Company Top ten Total sample (4 companies). 4, TSR Sources: Thomson Reuters Datastream; Thomson Reuters Worldscope; Bloomberg; annual reports; BCG analysis. Note: The contribution of each factor is shown in percentage points of the ten-year average annual TSR; TSR factors may not add up to total TSR as a result of rounding; NA = not applicable. Average annual total shareholder return,. As of December,. As of September,. Among the 9 industries analyzed in The Boston Consulting Group s broader Value Creators report, technology and telecommunications retained their sixth- and seventh-place positions, respectively, from the ranking, while media moved up a notch to eleventh place. On average, tech companies returned 6. percent annually during the five-year period, while the annual return for telecom companies was 5.9 percent. Media companies returned 4.6 percent. (See Exhibit.) Several companies performed significantly better during the period, as we will show and several significantly worse. The performance of the three sectors is considerably better than for the prior five-years, from through 5, when they finished in the bottom three spots of the Value Creators rankings, all with negative returns. In that period, the tech, media, and telecom sectors were victims of and perhaps even culprits in the popping of the technology bubble in the early part of the decade. In mid-, stock markets plunged from the renewed economic uncertainty in Europe and the U.S. Among TMT companies, the telecom sector suffered the least. In general, the strongest companies continued to perform better than average during this period, with some notable exceptions. The fate of TMT companies is tightly linked to what we like to call The Big Exponentials specifically, Moore s Law, Kryder s Law, Butters s Law, and the newly defined Koomey s Law. The Big Exponentials are driving down the costs of components and expanding the performance of systems devices and networks. They are the invisible hand behind. Moore s Law states that the number of transistors on an integrated chip doubles every 8 months. More dramatic, Kryder s Law says data density on a storage medium doubles every year, and, most dramatic, Butters s Law says that the throughput of fiber-optic cable doubles every nine months. Koomey s Law says that the energy efficiency of computers doubles every 8 months. T B C G

11 Exhibit. Technology, Media, and Telecom Showed Average Performance over Five Years Value creation TSR Mining and metals 5.7 Machinery.4 Consumer nondurables Chemicals. 8. Retail 6. Technology 6. Telecommunications 5.9 Construction and building maintenance Automotive components Consumer durables and apparel Media 4.6 Automotive OEMs.9 Utilities.9 Travel and tourism. Medical technology. Transportation and logistics. Multibusiness.7 Pulp and paper. Pharmaceuticals.7 Total 5.9 Fundamental value Sales growth Margin change Valuation multiple = Multiple change Dividend yield 4 4 Cash flow contribution Share change 4 Net debt change Sources: Thomson Reuters Worldscope; Thomson Reuters Datastream; Bloomberg; company disclosures; BCG analysis. Note: The contribution of each factor is shown in percentage points of the five-year average annual TSR; TSR factors may not add up to total TSR as a result of rounding. Five-year average annual TSR (6 ) for the weighted average of the respective sample. innovation, new business models, and new businesses, and the unrelenting force behind the following paradigm shi s: The Dawn of the Post-PC Era. Portability and connectivity trump power and speed as is illustrated by the success of Apple s ipad. With this shi, the structure of the industry is in play: the layered and modular PC business must confront the tightly integrated Apple business model. Semiconductor makers, so ware players, and device manufacturers are having to adjust to shi ing profit pools. The Digital Transformation of Media. Traditional media companies are no longer the exclusive gatekeepers of content. Over-the-top, or OTT, services such as Hulu and YouTube are highly popular, and tablets and smartphones have created an entirely new way to consume content. These social media and user-generated content sites build profiles on the basis of what users buy, what they read, the sites they visit, and who they interact with, raising concerns in many quarters about data privacy. Telcos as Utilities. In developed markets, telcos increasingly recognize the challenges of competing with fastmoving Internet and social-media companies and are focusing more on achieving success in their core business. In developing markets, the telecom sector, long focused on a land grab of mobile voice customers, is rapidly transitioning from voice to data services and increasingly facing challenges similar to those that confront telcos in developed economies. These paradigm shi s will mean that the list of TMT leaders will undoubtedly look different from today s. One well-known company not listed as a TMT player is Amazon.com, whose.7 percent annual return would place it in the top ten of TMT companies. With its presence in the cloud-computing, video-streaming, and tablet businesses, Amazon is increasingly competing with traditional TMT players. Its success suggests that this industry will always be characterized by creation and destruction. R F, W B

12 The TMT Halo Even though the tech, media, and telecom sectors have not delivered great returns in recent years, the industry is driving big changes in the global economy. The Internet the common denominator among the sectors powers national economies and shapes the fortunes of many nontechnology companies: more than percent of the world s population now has Internet access; online sales make up a significant share of the retail sector in many countries; more than 8 million people globally are active users of Facebook; the volume of mobile data doubles every year; and, by some estimates, trillion devices will be connected to the Internet by 5. Across the globe, policy makers are asking themselves how they can exploit the Internet to benefit their national economies. To help them, the BCG e-intensity Index compares the depth and reach of digital activity across 5 countries by analyzing both a nation s supply of Internet infrastructure and the demand for Internet services. (See Exhibit.) Among the top-ranking nations for example, Denmark, the Netherlands, and the U.K. the Internet is likely to contribute as much as 5 to percent of GDP growth from 9 through 5. In countries in the next tier for example, Germany and Hong Kong it will contribute around percent of GDP growth. (See Turning Local: From Madrid to Moscow, the Internet Is Going Native, BCG Focus, September.) The ability of TMT companies especially telcos to continue to play a role in helping their local economies grow will increasingly turn on the willingness of government regulators to permit adequate returns. In markets such as India, for example, it is becoming more difficult for operators to generate long-term value for shareholders. The Basics of Value Creators and Value Creation Of the 4 TMT companies analyzed, 58 are from the tech sector, 46 from media, and 8 from the telecom sector. To be ranked, companies needed to have been publicly listed for all five years, with at least 5 percent of their shares being publicly traded. We also imposed a Exhibit. Internet Prowess Correlates with Economic Strength BCG e-intensity score Natives South Korea United Sweden Denmark Kingdom Netherlands Iceland Japan United 5 States Players Finland Norway Luxembourg Hong Kong Germany France Singapore Switzerland Australia Nascent natives New Zealand Canada Czech Republic Slovenia Belgium Ireland Estonia Poland Portugal Spain Austria Israel United Arab Emirates Russia Hungary Italy Laggards Argentina Brazil Malaysia Slovakia Greece 5 Turkey Saudi Arabia China Chile Venezuela Mexico Morocco Colombia Egypt South Africa India Indonesia Aspirants Per capita GDP () Sources: ComScore; Economist Intelligence Unit; Euromonitor International; Gartner; International Monetary Fund; ITU; Magnaglobal; Ovum; Pyramid Research; Speedtest.net; United Nations; World Bank; World Economic Forum; BCG analysis. Note: R =.89. T B C G

13 minimum market capitalization of $9 billion for technology and telecom companies and $ billion for media companies. The overall rankings track performance in local currency from 6 through ; returns for the first nine months of are also listed in the exhibits. In addition, we show the contributions of the six component parts of total shareholder return (TSR) in order to assess how each company creates value. The first two elements sales growth and change in profit margin represent a company s fundamental value. The third element the change in valuation multiple conveys investor perception of the company. All three elements contribute to establishing the change in a company s market capitalization. The last three elements cash dividends, share repurchases, and debt repayments determine the contribution of cash payouts to a company s TSR. The following three chapters explore the performance of the technology, media, and telecom sectors in more depth and examine how companies can generate greater returns in the future. The final three chapters lay out a general approach to value creation to help executives assess risk, evaluate options, and create solid plans for improving performance. This approach is especially relevant to tech, media, and telecom companies that are experiencing disruption in their traditional businesses and evaluating new sources of future growth.. For companies that are listed in exchanges outside their home country, returns are calculated in the currency of the exchange.. We calculate the multiple as the ratio of enterprise value (the combined market value of equity and debt) to EBITDA. R F, W B

14 Technology Preparing for the Post-PC Era As the five-year period under study in this report was ending in late, a twodecade era dominated by the PC was coming to a close. The rise of the smartphone and the rapid success of Apple s ipad ushered in a new era one ruled by portability and connectivity rather than power and speed. The rules of the game are still being written, but it seems clear that success will hinge on new foundations: the creation of attractive ecosystems; the use of the cloud to provide anytime, anywhere computing; the ability to manage exploding volumes of data, especially mobile data; and the wow factor of simple-to-use yet functional devices. All top-four tech Value Creators F5 Networks, Apple, Salesforce.com, and HTC recognized and embraced these trends and are reaping rewards. F5 Networks plays the role of the merchants that sold pickaxes during the Gold Rush. The cloud depends on F5 s products and services to speed and secure the delivery of so ware over networks. Apple s ipad, released in April, is the jet fuel that launched the superportable computing boom; Salesforce.com has built a growing business-to-business cloud operation; and HTC is now the number-five smartphone provider. (See Exhibit 4.) The portability paradigm alone will radically reorient industry economics. Although tablet sales volumes are Exhibit 4. The Technology Top Ten, 6 Market value ($billions) Sales growth Margin change TSR decomposition Multiple change Dividend yield Share change Net debt change # Company Location TSR F5 Networks United States Apple United States Salesforce.com United States HTC Taiwan Delta Electronics Taiwan Cognizant Technology Solutions United States Oracle United States Infosys India Citrix Systems United States Technologies United States Top ten Total sample (58 companies) 6.,44. 9 Sources: Thomson Reuters Datastream; Thomson Reuters Worldscope; Bloomberg; annual reports; BCG analysis. Note: The contribution of each factor is shown in percentage points of the five-year average annual TSR; TSR factors may not add up to total TSR as a result of rounding. Average annual total shareholder return, 6. As of December,. As of September,. TSR T B C G

15 still small compared with those of PCs, big profit pools are in play. Microso and Intel currently capture 67 percent of the profits of the PC market, but our analysis suggests that LCD and memory vendors such as Samsung, LG Display, and AU Optronics divide nearly half the profits of the tablet market. (See Exhibit 5.) Will the rest of the tech sector respond as swi ly and as presciently to the portability and cloud paradigms as this quartet of leaders? Investors are undecided. The sector s annual return of 6. percent from 6 through is better than that of most other sectors and far better than its 4. percent annual return during the preceding five years, but it does not exactly signal a screaming buy. Neither does a 6-percentage-point drop in valuation multiple, despite a postcrisis recovery. Only three sectors had larger declines in multiples: the pharmaceutical sector, with its loss of patent protection for blockbuster drugs, and the media and medical-technology fields. Growth remains a major contributor to TSR in the tech sector, especially among the strongest companies. Among the top-ten technology Value Creators, annual sales growth contributed an average of 8 percentage points of TSR, compared with just 9 percentage points among the entire tech sample. A rising margin contributed an Although tablet sales volumes are still small compared with those of PCs, big profit pools are in play. average of 6 percentage points among the top ten, but just percentage point for all tech companies sampled. Many strong tech performers are building enormous cash reserves rather than paying dividends. Dividends, for example, added only percentage point in returns to tech companies, compared with percentage points half of total return for all 94 companies sampled across all industries. Goldman Sachs estimates that the 5 U.S. tech companies with the highest market capitalizations will have $46 billion in cash by the end of an increase of more than $8 billion in just one year. More than 6 percent of that increase is with just five companies: Apple, Microsoft, Cisco, Google, and Oracle. While large cash balances may make sense during uncertain times, investors will eventually want to see the cash put to more productive use either as payouts or as productive investments. In September, for example, Microso announced a 5 percent increase in its quarterly dividend to cents, following increases of 8 percent and percent in 9 and, respectively; it has one of the highest dividend yields among big tech players. In the post-pc era, what will separate winners from losers? Three strategic factors stand out: innovation, strong management, and intellectual property. Exhibit 5. Tablets Produce Profits for a Different Set of Players PCs: Microso and Intel capture most of the profit pool Microso and Intel enjoy ~67% of profits Tablets: LCD and memory vendors capture the largest share of the profit pool No operating-system share in the tablet space Lower processor price and margins LCD and memory vendors enjoy 46% of profits Displays CPUs Motherboards Disk drives Other electronics GPUs So ware Memory Batteries Source: BCG analysis and estimates. Note: Profit pools are based on the gross margins of companies in each sector. Software is dominated by Microsoft in PCs and by apps in tablets. Displays are dominated by monitors in PCs and by LCD panels in tablets. R F, W B

16 Innovation Through Ecosystems and Business Models The tech sector continues to be driven by innovation, which is the fuel that fires both sales and margin growth. Innovation is not only about creating new products and services but also increasingly about creating new ecosystems and business models. Apple did not just enter the music, telephone, and tablet markets with bright and shiny objects. It provided an unprecedented and richer consumer experience through the tight integration of products and services. This integration generated customer lock-in, recurring revenue, and strong loyalty. Amazon is trying something similar with its recently announced Kindle Fire tablet. Salesforce.com, an early leader in cloud computing, is transforming information technology from a fixed- to a variable-cost business by charging for so ware usage rather than for site licenses. It has also enabled productivity in the increasingly mobile and untethered workforce. Like Apple, Salesforce.com has worked to develop an ecosystem of partners that enhance its basic offerings for vertical industries or niches. HTC is quickly transitioning from being an original-design manufacturer (ODM) to being a leading branded-smartphone manufacturer by working closely with telecom operators and, more recently, with Google to create Android handsets. The company has invested heavily in design, brand, and customer experience, and has succeeded against much larger players. In the early years of this century, when many of its competitors were scaling back on research, HTC created Magic Labs, an R&D organization. This shi in orientation has been in the works for a long time. Peter Chou, a cofounder of HTC, predicted the rise of powerful smartphones and similar devices more than a decade ago. (See Exhibit 6.) HTC is an example of a broader trend in tech companies: the end of the traditional distinction between hardware Exhibit 6. HTC s Shift to Android Phones Helped Power Tremendous Valuation Growth in,5,,5, Revenue growth and margin increase ODM strategy based on strong product innovation on the Windows platform; established Magic Labs Moderate growth and strong dividend payments Established strong partnerships with about 5 operators including Orange, O, AT&T, and T-Mobile First G Windows mobile device (May 5) Multiple compression and lower margins during crisis Postcrisis increases in multiples, reflecting future expectations Achieved differentiation through innovative user interface and product design Launched HTC brand in key markets while maintaining ODM partnerships Strong revenue growth and additional increases in multiples Abandoned plan for own OS; introduced first Android phone () Invested in so ware companies such as Saffron Digital Annualized TSR TSR decomposition Revenue growth Margin change Multiple change Cash payout change Sources: Compustat; BCG ValueScience Center; BCG analysis. Note: Indexed to on January, 5; ODM = original-design manufacturer. T B C G

17 and so ware companies. Hardware companies are generating an ever-larger share of their revenues from services and greater product differentiation through so ware. IBM began building its services and so ware businesses years ago, and Apple has always followed this model. HTC is also investing in so ware capabilities. With its acquisition of hardware supplier Sun in 9, so ware house Oracle is playing the same hand from the other end of the deck. These are not new trends, but they have taken on new urgency in light of the assault of fresh attackers from China and other developing nations that can frequently undercut their Western rivals on the price of commodity hardware. In this new environment, successful companies need to be less invested in their legacies and more attuned to the needs of their customers. They need to recognize threats from both familiar competitors and new attackers. They also need to understand the different dynamics of these businesses. The development cycles of hardware, so ware, and services vary considerably, and they also have different capital and capabilities needs. Investors have different expectations for each of them too. Providing customers with integrated offers is as much a management challenge as a product challenge. Management Strength Although the tech sector is known for start-ups and attackers, the large-cap companies in our sample have created more value for their shareholders over the past five years. The average return of companies whose market capitalization is $5 billion or more was nearly 8 percent, driven mostly by sales growth ( percentage points), compared with. percent for small-cap stocks. (See Exhibit 7.) IBM, now years old, was once ridiculed by Bill Gates in the early days of the PC era and floundered badly in Exhibit 7. The Technology Large-Cap Top Ten, 6 TSR decomposition Market Sales Margin Dividend Share Net debt TSR value Multiple growth change yield change change TSR change # Company Country ($billions) Apple United States Oracle United States Infosys India IBM United States 5 5 EMC United States 6 Hewlett-Packard United States 5 7 Samsung Electronics South Korea 8 Taiwan Semiconductor Manufacturing Company Taiwan Hon Hai Precision Industry Taiwan Qualcomm United States 4. Top ten 5 Total large-cap sample 5 Total small-cap sample Sources: Thomson Reuters Datastream; Thomson Reuters Worldscope; Bloomberg; annual reports; BCG analysis. Note: The contribution of each factor is shown in percentage points of the five-year average annual TSR; TSR factors may not add up to total TSR as a result of rounding. Average annual total shareholder return, 6. As of December,. As of September,. R F, W B

18 the middle of it. But IBM, with a 4. percent annual return, has rebounded strongly. It made the right bets on services and the cloud and executed strongly, with particular emphasis on training, communication, and collaboration. In fact, in late September, IBM briefly supplanted Microso as the technology company with the second-largest market capitalization. Oracle is a younger company that embraced strong management practices and ranked seventh among all technology companies in value creation (and second among the large-cap technology companies), with a. percent annual return. Its management expertise was on full display from 5 through 7, when it absorbed $5 billion in acquisitions, and in early, when it acquired Sun Microsystems for $7.4 billion. Oracle has teams within divisions to handle acquisitions and established processes and methods to integrate the people, systems, and customers of its acquired companies. For example, each acquired company switches to Oracle s IT systems immediately on closing. This handson approach generates cost savings quickly. Strong management practices also allow the best-managed companies to separate from the pack as they deal with the challenges of globalization. Increasingly, the development of technology is a global undertaking with teams from several locations working together in order to take advantage of expertise, low-cost production, and as necessary local market know-how. Such cross-border collaboration does not just happen: it is an outcome of strong practices and processes. Intellectual Property Matters Intellectual property (IP) has been a source of competitive advantage since the days of Edison, Bell, and Globalization requires strong management practices. Marconi, but the stakes have never been higher. Patent filings and litigation are on the rise, and an emerging breed of companies, known as nonpracticing entities, has raised the risk profile. These companies are increasingly sophisticated and well funded, and they manage large patent portfolios that they use to win large settlements from established companies. Globally, IP is increasingly being leveraged to help multinationals gain market access and level the playing field, even in countries such as China. In the mobile-device market, the action has been especially heated in the past few months as both new and well-established players try to fortify their positions. A smartphone may be covered by more than 5, patents, ensuring that no one company controls all the necessary IP. So manufacturers negotiate licenses and increasingly sue one another. Nokia has settled with Qualcomm and Apple, but Apple continues to battle with both Samsung and HTC over patents related to tablets and smartphones. In June, Apple and Microso teamed up with four other companies to pay $4.5 billion for 6, patents held by bankrupt telecom-equipment supplier Nortel Networks. Google, the loser in that auction, turned around and agreed to buy Motorola Mobility for $.5 billion, a significant premium. Motorola s IP portfolio, which is similar to Nortel s, complements Google s and will presumably help Google defend its Android mobile operating system and ecosystem from attack and also provide it with offensive leverage against competitors. (See Exhibit 8.) Although companies such as IBM have long recognized the strategic importance of IP, other companies have come later to the table. To succeed, companies need to elevate IP to the CEO agenda and apply laser-like focus to the interplay of technology, IP, and competitive advantage. T B C G

19 Exhibit 8. Google s Purchase of Motorola s Patents Will Broaden Its Wireless IP Portfolio LCDs LCD panels Image display control technologies Power supply and control technologies Video encoding and decoding User interface displays Mobilecommunication terminals Mobile-devices and phones Search queries and computation Touchscreen displays Information entry, retrieval, and display Digital broadcast technologies Multimedia technologies and players Image capture and processing Digital-camera imaging Computer data management Computer systems monitoring and management Signal processing Wireless-communications technologies and messaging Memory systems and methods Wireless transmission Wireless LANs Content and image delivery Google Motorola Sources: Thomson Innovation; BCG analysis. Note: Graphical illustration of U.S. patent filings of top players in mobile communications since January, 6; LCD = liquid crystal display; LAN = local area network. R F, W B

20 Media Rising and Falling Stars The media sector is a potpourri of traditional print and publishing companies, growth companies from China and other developing markets, high-flying Internet businesses, Hollywood and Bollywood studios, and business information services. With its health linked closely to the advertising cycle, economic crosswinds, and the challenges and opportunities of new technologies, the media sector is tough. Even with the stellar contributions of Chinese Internet players Tencent and Baidu, the media sector generated only a 4.6 percent annual return over the past five years. Without those two companies, the sector would have reported a. percent annual return. But the averages hide the fact that the sector s best companies are doing well, with the top ten generating a 8. percent annual return, equal to that of the tech sector s top ten and far surpassing the best telecom performers. Some media companies get it. One of the common denominators among most of the companies from developed markets that make up the top ten DirecTV, ProSiebenSat. Media, and Pearson, in particular is that they have diverse revenue streams from ads, subscribers, and other sources that help so en the decline in ad revenues. Two other developed-market companies in the top ten are NHN, which operates South Korea s biggest search engine (Naver) and top game-playing portal (Hangame), and IHS, a U.S. provider of business information services. (See Exhibit 9.) Revenue streams from ads, subscribers, and other sources help soften the decline in ad revenues. mainly for its messaging service, QQ, which offers its more than 7 million users games and opportunities to purchase virtual goods. Baidu, the leading search engine in China, has developed multimedia services and expanded into the search market in Japan. (Naspers, a South Africa based media group with a strong presence in many emerging markets, was an early investor in Tencent and still has a large stake in the company, so its number-four ranking among media companies was assisted strongly by China, too.) The success of both Tencent and Baidu is built partly on the popularity of social networking and media in China. In developed markets, many of the socialnetworking brand names, such as Facebook and Foursquare, are not yet public, but the private market for their shares implies Tencent-like valuations, at least until investors move on to the next new thing. Those successes, however, are built on more than just a fad. Tencent and Baidu and Facebook, too also have serious capabilities and are relentlessly focused on understanding consumers and delivering services that are in demand. Tencent has tailored products to specific characteristics, interests, needs, and usage profiles of Chinese Internet consumers. It recognized local trends such as the popularity of instant messaging, social networking, and the unmet demand for online and at-home entertainment in a nation where television penetration is still low. It followed a deliberate strategy to build traffic, create stickiness, and then generate revenues. (See Exhibit.) China is the main value-creation story in media. Tencent has a broad portfolio of Internet services, but it is known While valuation multiples have expanded and contracted over the past five years, annual revenue growth consis- T B C G