B u s i n e s s C u l i n a r y A r c h i t e c t u r e C o m p u t e r G e n e r a l I n t e r e s t C h i l d r e n L i f e S c i e n c e s B i o g r a p h y A c c o u n t i n g F i n a n c e M a t h e m a t i c s H i s t o r y S e l f - I m p r o v e m e n t H e a l t h E n g i n e e r i n g G r a p h i c D e s i g n A p p l i e d S c i e n c e s P s y c h o l o g y I n t e r i o r D e s i g n B i o l o g y C h e m i s t r y WILEYe WILEY JOSSEY-BASS B O O K PFEIFFER J.K.LASSER CAPSTONE WILEY-LISS WILEY-VCH WILEY-INTERSCIENCE 7525_Kwatinetz_00fm_ad_qxd 11/3/00 1:27 PM Page i The Big Tech Score 7525_Kwatinetz_00fm_ad_qxd 11/3/00 1:27 PM Page ii 7525_Kwatinetz_00fm_ad_qxd 11/3/00 1:27 PM Page iii THE BIG TECH SCORE A Top Wall Street Analyst Reveals Ten Secrets to Investing Success MIKE KWATINETZ DANIELLE KWATINETZ WOOD John Wiley & Sons, Inc. New York • Chichester • Weinheim • Brisbane • Singapore • Toronto 7525_Kwatinetz_00fm_ad_qxd 11/3/00 1:27 PM Page iv This book is printed on acid-free paper. ࠗ∞ Copyright © 2001 by Michael Kwatinetz and Danielle Kwatinetz Wood. All rights reserved. Published by John Wiley & Sons, Inc. Published simultaneously in Canada. No part of this publication may be reproduced, stored in a retrieval sys- tem or transmitted in any form or by any means, electronic, mechanical, photocopying, recording, scanning or otherwise, except as permitted under Sections, 107 or 108 of the 1976 United States Copyright Act, with- out either the prior written permission of the Publisher, or authorization through payment of the appropriate per-copy fee to the Copyright Clear- ance Center, 222 Rosewood Drive, Danvers, MA 01923, (978) 750-8400, fax (978) 750-4744. Requests to the Publisher for permission should be addressed to the Permissions Department, John Wiley & Sons, Inc., 605 Third Avenue, New York, NY 10158-0012, (212) 850-6011, fax (212) 850- 6008, E-Mail: PERMREQ @ WILEY.COM. This publication is designed to provide accurate and authoritative infor- mation in regard to the subject matter covered. It is sold with the under- standing that the publisher is not engaged in rendering professional services. If professional advice or other expert assistance is required, the services of a competent professional person should be sought. ISBN 0-471-39592-7 Printed in the United States of America. 10987654321 7525_Kwatinetz_00fm_ad_qxd 11/3/00 1:27 PM Page v Contents Foreword by Scott W. Schoelzel . ix Preface . xiii Acknowledgments . xvii Chapter 1 . 1 The Big Tech Score Theory of Investing G A Few Key Points G Why You Can Beat the Pros G Why This Book? G Playing the Stock Market G Summing Up Chapter 2 . 13 Concentrate Your Investments on a Handful of Companies G Creating Investment Pools G Scared Money Rarely Wins G Timing Is Everything G Summing Up v 7525_Kwatinetz_00fm_ad_qxd 11/3/00 1:27 PM Page vi vi contents Chapter 3 . 23 Buy Low, Sell High G Feeding the Frenzy G Getting Specific G In and Out? G The Long-Term Portfolio G Summing Up Chapter 4 . 35 Don’t Invest Blindly G The Seven Deadly Sins G Summing Up G Interview with Thomas G. Kamp, Alliance Capital Chapter 5 . 45 Invest in Great Management G What to Look For G Hail the Founder G Help Wanted G Observing a Company in Hot Water G Hiring the Best People, Period G Summing Up G Interview with Mark Kingdon, Kingdon Capital Management Chapter 6 . 67 Look for Companies with a Competitive Advantage G The Virtual Enterprise G The Economic Advantage G A Product That Can’t Be Replicated G The Unbeatable Brand G Almost, but Not Quite 7525_Kwatinetz_00fm_ad_qxd 11/3/00 1:27 PM Page vii contents vii G Summing Up G Interview with Larry Solomon, Capital Group Chapter 7 . 87 Love Companies Customers Love G Providing Better Service G Creating an Elite Product G Delivering More Value G Putting It Together G Summing Up G Interview with Fred Kobrick, Kobrick Capital Fund Chapter 8. 105 Look for Long-Term Thinkers G Prime Examples of Short-Term Thinking G Going Long G Prime Examples of Long-Term Thinking G Summing Up G Interview with Roger McNamee, Integral Capital Partners Chapter 9. 117 Always Look Forward, Not Backward G Betting on the Old-Timers G Betting on the New Wunderkind G The Do-It-Yourself Mentality G Summing Up Chapter 10 . 137 Pick Only High-Growth Companies G What Spurs Growth? G The Stockholder Screen Test G Growth Is Hard to Maintain G Summing Up 7525_Kwatinetz_00fm_ad_qxd 11/3/00 1:27 PM Page viii viii contents Chapter 11 . 151 The Best Stocks Are Cheaper Than You Think G The Game G Applying Guidance Bias to Valuation G A Word of Warning G Summing Up Chapter 12 . 171 Mike and Danielle’s Portfolios G Mike’s Portfolio G The Unknown Portion of the Portfolio G Summing Up Chapter 13 . 183 The New Technology Era G A High-Tech Primer G Linux G Solid, if Not Sexy G Summing Up Chapter 14 . 203 The Fourth Wave of the Web G History Lesson G The Fourth Wave and You G The Future of the Fourth Wave G Place Your Bets G Summing Up Epilogue. 221 Index . 223 7525_Kwatinetz_00fm_ad_qxd 11/3/00 1:27 PM Page ix Foreword here are people that each of us meet over the course of Tour lives who are truly extraordinary at what they do. Such a person might be a doctor, an architect, or a teacher you had in high school. They come from all walks of life. While you’re not always exactly sure what it is that makes them extraordinary, you recognize it when you see it. You don’t need to spend even five minutes with John Chambers, of Cisco, to realize: Hey, this guy isn’t just good, he’s spectacular. I put Mike Kwatinetz in that upper echelon of extraordinary people. I met Mike in 1991. I don’t actually remember what stock we first talked about. Mike was an analyst at Sanford Bernstein and I was immediately impressed with the depth of his knowledge. Before becoming an analyst, Mike was a mathematician and a soft- ware engineer. It was apparent from our first meeting that he had a true first-hand sense of the software industry and the complexi- ties inherent in technology investing. We have talked about dozens of companies over the years, as well as the whole technology landscape—Microsoft, Dell, Cisco, the recent rise in the popularity of Linux, Sun Microsystems, the frag- mentation of Unix, IBM, Apple, and many more. With respect to Microsoft and Dell, two positions in which we both made a lot of money for our clients and shareholders, we debated everything— from various new products to their respective Internet strategies, ix 7525_Kwatinetz_00fm_ad_qxd 11/3/00 1:27 PM Page x x foreword the direct-sales model to the various lawsuits (there were actually three), and the proliferation of NT to what the future holds for each company. Mike had an uncanny ability to identify the key variables early on and the conviction to stay focused on the fundamentals. I am not the only person who feels this way. From time to time, I’ve talked with managers from around the country. It’s very clear that my contemporaries feel the same way as I do about Mike. That’s true at the companies as well. I once asked Mike Brown, the CFO at Microsoft, who he thought was doing the best work on the stock, and he told me Mike Kwatinetz. In addition to being a superb quantitative analyst, Mike has always been able to add the qualitative side. Good investments rest not only in being able to read a financial statement but in being able to read people and organizations. When you’re investing, the people are paramount. When you invest in a Microsoft or a Dell, you’re investing your money with Bill Gates or with Michael Dell, and with their respective management teams. There are so many intangibles in running each of these businesses that you have to make something of a leap of faith. You have to believe that the guys running the business will, when push comes to shove, make the right decisions. You have to feel confident that they are the type of people you feel comfortable investing your money with for the long run. Finding market-leading companies, with a properly leveraged business model, run by extraordinary people is a tough combina- tion to beat. I remember that a number of years ago, there was a really hot networking company I kept getting calls about. Everyone was telling me, “If you own Cisco, you have to own this.” I went out to see this company.