January 2020 Letter

2010-2019:  Decade of Disruption

When markets resumed trading on January 4, 2010 following the New Year’s holiday, the Dow Jones Industrial Average stood at 10,584.  While this represented a nice recovery from the lows seen the previous year, the Dow was still 25% below its pre-financial crisis peak of 14,164 set in October of 2007.  As a new decade dawned, investors were eager to put the “aughts” behind them.  Indeed, the next ten years would prove to be very kind to stock investors as slow, but steady, economic growth propelled stock markets higher and the Dow nearly tripled.  The new decade would also see the emergence of disruptive innovations that would alter American life forever.  For a nation still reeling from the “Great Recession,” the turnaround would prove to be a huge winner for the optimists.  This quarter, we’ll look back at some of the disruptive forces that helped shape the last ten years and think about what possibly lies ahead.

Zero to 1.2 million; in Ten Years

In 2010, electric vehicles (EVs) built for the passenger car market were still largely experimental and very expensive.  A small two-seater could set you back more than $100,000.  For that you would get a driving range of 200-250 miles on a very expensive 50 kilowatt per hour (KWpH) battery pack, costing about $1,100 for 1 KWpH. 

At $50,000 or more just for the battery pack, only high-end EVs were produced in the early part of the decade.  Over the past ten years, however, the cost of lithium-ion battery packs steadily declined.  Today, lithium-ion packs cost less than $200 per KWpH, greatly improving affordability and providing manufacturers with more driving range options at different price points.  Tesla initially enjoyed a first-mover advantage in EVs, selling mostly high-end models, but has yet to operate profitably.  At the same time, battery affordability has brought most of the large auto manufacturers (OEMs) into the market and new EVs are on the way.  New models range from Porsche on the high end to Fiat on the low end, and a lot in between.  EVs account for about 2% of U.S. auto sales today, but some analysts think that number could grow tenfold in the next decade, approaching 20% of annual sales. 

All of these new vehicles will have a profound effect on OEM supply lines and the broader technology ecosystem, including semiconductors and software.  The drivetrain in an average internal combustion engine auto has 2,000 moving parts.  All of these parts require maintenance, increased labor, and are prone to wear and occasional failure.  By contrast, an EV’s drivetrain can have as few as 20 moving parts, but many more electrical components.  Cars will be able to better detect and communicate with other cars and even drive themselves, all requiring increased circuitry and software.  By 2030, forecasts have electrical parts equaling half of a vehicle’s parts costs.  Many tech companies are already seeing a higher percentage of their sales feed directly into the auto sector as technical content per vehicle grows at a much faster rate than the auto market itself.

New Connections

A real game changer during the last decade was the increased functionality of mobile phone devices and new products like tablets and wearables.  Faster downloads, bigger/sharper screen resolution, and better cameras changed the way we communicate, view entertainment, and shop.  Better mobile devices meant not having to wait to get home and update your Facebook page on your computer.  Everyday life experiences could now be shared instantly on platforms like Instagram, Snapchat, and Twitter, leading to exponential growth in user engagement.  Twitter, for example, saw its monthly user base grow tenfold last decade, from 30 million to over 330 million.  The challenge, however, is profitably monetizing that traffic, something that Twitter has thus far been unable to do.  Facebook, though, now has revenues from mobile platforms accounting for nearly all its total revenues.  Facebook also made what was perhaps the decade’s best acquisition, when in 2012 it bought Instagram for a mere $1 billion.  Launched in 2010, Instagram was there at the dawn of the “selfie” generation and has seen its monthly user base grow to over 1 billion. 

Better mobile devices also changed entertainment viewing patterns.  With bigger, better mobile screens and faster downloads, entertainment viewing increasingly took place outside of the home and streaming was born.  The rise of streaming content led to the decline of the traditional cable/satellite bundle.  In 2006, Google and Amazon each made bets on streaming as an alternative to the traditional bundle.  Google acquired YouTube and Amazon launched Amazon Prime Video.  Today, YouTube has over 1 billion regular users and is the world’s second most visited website, behind Google.  Netflix has over 150 million subscribers.  Large entertainment companies, like Disney, are also joining the streaming wars with new direct to consumer bundles of proprietary content.

The mobile revolution has also changed the way we shop.  Online purchases now account for a little over 10% of total U.S. retail sales with nearly half of those purchases transacted from a mobile device.  Amazon is the clear leader with nearly half of all online sales and the number one mobile retail app.  Brick and mortar retailers, like Home Depot, are beginning to use their physical locations as a convenient point of distribution to their customers.  Over half of Home Depot’s online sales are now picked up in a Home Depot store by the customer.  Restaurants are also adopting mobile order and pay systems.  On your way to the coffee house?  Simply enter your order from your mobile device, pay from your digital wallet, and walk in and pick up your order.

Medical Discoveries

The past decade has been a successful one for the R&D departments at many leading healthcare companies.  While we haven’t yet cured cancer, we have made progress extending life.  One key breakthrough has been the science of immuno-oncology (IO).  Simply put, IO therapies block a tumor’s defensive ability to deactivate the immune system’s T-cells.  In 2009, Merck acquired Schering-Plough, where an antibody known as Pembrolizumab was in development.  After several successful clinical trials, Pembrolizumab, now known as Keytruda, was approved as a second line treatment for melanoma in 2014.  Keytruda received a first line approval the following year.  In late 2016, Keytruda was given first line approval for treatment of non-small cell lung cancer (NSCLC), a leading cause of cancer-related deaths.  Keytruda was proven to extend life and reduce the risk of cancer spreading by 50% as compared to chemotherapy alone.  Since its launch, Keytruda has received approval in multiple international markets covering several different cancers.  In the third quarter of 2019, Keytruda sales topped $3 billion, up nearly threefold from two years earlier.

In the decade ahead, we expect further advances and breakthroughs in both the treatment of medical needs and the delivery of healthcare to the patient.  For instance, medical device companies continue to advance the use of robotics to more surgical and joint replacement procedures.  Additionally, new less invasive methods are being developed to treat heart disease and repair or replace defective heart valves.  Efforts are also being made to improve the efficiency of the healthcare system through increased digitization of healthcare records that will seamlessly connect clinical data across the entire healthcare spectrum.   

Global Disruptions

 The world of geopolitics saw its share of disruption last decade.  The shale oil revolution meant the United States was a net exporter of oil by decade’s end for the first time since the 1940s.  In 2016, the United Kingdom passed a referendum to leave the European Union.  The drama of negotiating what came to be known as “Brexit” lasted another three years, but as a new decade dawns, Brexit is poised to happen early this year.  The last decade also saw the ascendance of China as the world’s second largest economy.  To further its growth, in 2015 China unveiled its “Made in China 2025” plan.  The country aims to upgrade its technological expertise to capture a larger share of the world’s higher value added production.  China’s consumer class continues to grow, giving rise to online platforms like Alibaba and Tencent, effectively China’s version of Amazon and Facebook.

What’s To Come?

  • Self-driving cars – We’re all backseat drivers
  • Flying taxis – The next Uber
  • Electric planes – “Jumbo” batteries
  • Space tourism – A lunar Ritz Carlton
  • Hyperloop 700+mph trains – All aboard!
  • Remote surgery – Farewell hospitals
  • Telemedicine – The doctor will text you now
  • Biometrics replacing passwords – May I check your retina
  • Paperless real estate transactions – Blockchain with a purpose
  • Cashierless stores – Thank you for shopping
  • 3-D printed food – Pass the ketchup please
  • End of fossil fuels – NOPEC
  • Gene therapy cures for common diseases – Now that’s recycling
  • Chores done by robot – Amen
  • Robo Umpires – Strike 3.1

Since not too many could’ve predicted all that we saw the past ten years, we’re not going to predict the next ten.  Obviously, many of these trends will continue and new disruptions will occur.  Our job is to make sure we have the right portfolio of companies led by forward-thinking management teams, such as:  technology companies that sell “picks and shovels” to current and future disrupters for the coming transition to 5G, as well as artificial intelligence (AI) and virtual reality (VR); consumer facing companies with a strategy to leverage the power of the internet to serve customers wherever and however they choose;  innovative healthcare companies with new products meeting unmet medical needs and solving patients’ problems;  industrial companies using technology to enhance automation and logistics. 

We will be flexible, open to new ideas, embrace change, and take some calculated risks.  We greatly appreciate our relationship with you and wish you a Happy New Decade!