Philadel-FI

By Ian Wyatt, Big Idea Investor | MSFT | Sep 27, 2005 | comment

I am pleased to announce that in this week's Big Idea Investor we are joined by Andy Kessler, a former Wall Street analyst and later hedge fund manager turned best selling author.

Andy began his career at Bell Labs before getting into the research side of the business with analyst positions at Paine Webber and Morgan Stanley, where he worked alongside Jack Grubman, Frank Quattrone, Mary Meeker, and Henry Blodget.  In the mid 90's he started Velocity Capital, a hedge fund focused on public and venture capital investments in communications technology companies. 

Besides frequently contributing to the Wall Street Journal op-ed page, Wired Magazine, and other publications, Andy is the author of Running Money: Hedge Fund Honchos, Monster Markets and My Hunt for the Big Score, a memoir of his time in the hedge fund industry.  His latest book is titled How We Got Here: A Slightly Irreverent History of Technology & Markets.  How We Got Here takes a look at the history of Silicon Valley and Wall Street, from the Industrial Revolution to computers, communications, money, gold and capital markets. 

In his contribution to this week's issue of Big Idea Investor, Andy takes a look at the 'battle royale' that is going on between Verizon (NYSE: VZ) and the city of Philadelphia, over who will provide citywide wireless Internet access.  Situations like the one between Verizon and the city of Philadelphia, which Kessler calls 'Mu-Fi's' could soon be spreading across the country.

We hope that you enjoy Andy's column, along with the rest of this week's issue of Big Idea Investor.  As always, we welcome your feedback (email ).

Warm Regards,

Ian Wyatt
Publisher
Big Idea Investor


PHILADEL-FI

By Andy Kessler, Guest Contributor, Big Idea Investor

Sometimes reform comes in very strange ways. The Battle Royale between the City of Philadelphia and Verizon over who will provide citywide wireless Internet-access plans couldn't be more confusing. Free-market types have got to root for publicly traded Verizon over any local, politicized branch of government, right? C'mon, isn't this City Hall we're talking about­ a building wrapped in red tape (as if by Christo)! Their track record teaching our kids, hauling our garbage and running the buses does not portend success. Surely they're not first choice for megabit broadband.

But then, why hasn't Verizon already slapped up Wi-Fi hotspots in the city? The estimated cost of $9-$13 million to cover 135 square miles is a drop in the bucket to their billions. The PR from bridging the Digital Divide for 'low income, minority, disadvantaged neighborhoods' (as Philly's chief information officer, Dianah Neff put it) would be priceless.

Instead of investing in building wireless capacity, however, Verizon lobbied hard to quash public-sector competition. And close to midnight one evening last November, lawmakers in Harrisburg quickly passed House Bill 30, whose fine print barred any 'political subdivision' (government or nonprofit set up by the government) from providing a public telecom service for a fee. After an outcry, Philadelphia got a waiver, but Verizon is the one that sounds like a political subdivision. For the cost of their lobbyists, they should have just installed the citywide system and held off competition. Clearly Verizon is hiding something: But what? I told you it was confusing.

Now I can't decide who to root against, bureaucrats or monopolists. But someone is missing. Where are the entrepreneurs? Why aren't venture capitalists spreading wireless Internet all over Philadelphia or Pennsylvania or the entire country? Is this a profitless pit? Sort of.

A company named Cometa blew through lots of cash trying to do this. And Philly has implied that the Wi-Fi system will lose a million-plus dollars a year. That certainly would keep most investors away. The city is contracting with private companies, and they claim no taxpayer money will be spent, but that they might have to raise bonds. Right.

But it turns out cities get to sort of cheat, cite eminent domain, and place a lot of gear on their own light poles and radio towers. No startup gets that deal. And new mesh technologies mean Philly can plug into the Internet just once, paying wholesale rates, unlike the folks that run Starbucks or hotel hot-spots, who overpay (probably to Verizon) for the Internet connection their Wi-Fi users share.

But the real whopper is that ­as Ms. Neff claims ­by the third year, Philly will be saving $2 million a year on their $150 million IT budget by not having to pay Verizon for Internet access at their 24,000-employee city offices. Hmmm. That whole disadvantaged thing is just icing. Sounds like some sort of arbitrage.

It is, and it's not going to be pretty for Verizon. By rigging the city with wireless hotspots, under the guise of helping the disadvantaged, Philadelphia may completely bypass Verizon. A T-1 line from Verizon, which is 1.5 megabits of data per second, runs anywhere from $400 to $1300 dollars a month. With Municipal Wi-Fi (Mu-Fi), that could drop to $300, heck, maybe even $20 a month. Consumers (read voters) are happy and small businesses will save tons of money. No wonder phone companies are circling the wagons. Think of it as a Telco tax cut. Cheese steak sales are gonna boom.

It's about time (for cheaper access, not cheese steaks). If municipalities across the U.S. are willing to lose $1 million a year to save $2 million, this is going to spread like wildfire.

San Francisco is next. Gavin Newsom, who was elected on a platform of getting rid of the homeless, now wants to offer them Internet access. One-upping Philly, he is quoted as saying 'We will not stop until every San Franciscan has access to free wireless Internet service.' And a chicken in every pot? Local phone company SBC is none too pleased, especially since the San Francisco Giants play in SBC Park, which by the way, has free Wi-Fi access (but just in the ballpark).

Every city may go for it­.  Atlanta is now accepting bids for Mu-Fi, and Tempe, Arizona, may actually roll out first.  Legislators are getting in on the cat-fight. John McCain introduced the Community Broadband Act of 2005 to counter Texas Rep. Pete Sessions' bill which would seem to give telcos a veto. Those sounds you hear are lobbyists printing invoices. Dave Hagan, the CEO of Boingo Wirelss, told me, 'competition will ultimately make monopoly telcos compete rather than protect their turf through lobbying and other means.'

It's more turf than you think. SBC and Verizon are now offering $15 DSL lines, in response to cable's success selling data lines. But it's not just Web pages. We already know Internet connections can handle voice calls­, but services available now are generally for home use.  With citywide coverage, inexpensive Wi-Fi phones (Motorola's got one) will threaten telco-owned cellular carriers Verizon Wireless and Cingular.  I can see Rocky at the top of the Museum of Art steps yelling 'Yo Adrian' into his Wi-Fi smart phone.

New technologies exist that adapt Wi-Fi signals as they bounce off walls and buildings, guaranteeing 15-megabit speeds, enough for one high-def or three regular TV channels. One of the hottest consumer electronics products in Japan is a flat panel Shower TV that displays Wi-Fi video streams. So let's see­ - customers might shut off their home phones, their cellular phones and maybe even their cable connection. Ouch. Want to bet Comcast joins the fight against Mu-Fi?

While we wait for the Telecom Reform Act of 2021, cities will set these systems up and could radically change the economics of telco and cable. But do we really want city hall between us and our Google searches? Don't worry. You can bet that after being inundated with customer service calls ­'Where do I stick my dongle?' ­these Mu-Fi's will be sold off to the private sector. W.C. Fields supposedly proposed his own epitaph, 'All things considered, I'd rather be in Philadelphia.' Maybe this will be on Verizon's tombstone as well.

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This article is copyright Andy Kessler, and its use has been authorized by the author.

If you enjoyed this article from Andy Kessler, we encourage you to visit his web site at www.AndyKessler.com and consider purchasing a copy of his books ' all of which we greatly recommend.

Wall Street Meat: My Narrow Escape from the Wall Street Grinder

Running Money: Hedge Fund Honchos, Monster Markets and My Hunt for the Big Score

How We Got Here: A Slightly Irreverent History of Technology & Markets

MICROSOFT HEARTS AOL?

By Vijay Balkissoon, Staff Writer, Big Idea Investor 

Since a New York Post story on September 15, in which an anonymous source revealed that, 'there have been talks on ways Microsoft and AOL assets can be better leveraged,' the Internet has been abuzz with talk of a Microsoft-AOL partnership or even of an outright acquisition of AOL from parent company Time Warner (NYSE: TWX) by software behemoth Microsoft (Nasdaq: MSFT).  Adding fuel to the fire, Merrill Lynch analyst Lauren Rich Fine responded to the rumors, writing, 'it is entirely possible that Google could consider making a bid for AOL as well.'

What to make of all this talk? For one, it's pretty apparent that Microsoft is threatened by Google's (Nasdaq: GOOG) position as the number one search engine and leader in online advertising.  AOL generated about 12%, or $382 million, of Google's revenues in 2004.  If AOL switched its search engine from Google to Microsoft's MSN search engine, it is estimated that Google's earnings per share would fall between 5 and 10 percent.  Stealing away AOL's business from Google would be quite a poke in the eye, but would it actually help Microsoft in the long run while also hurting Google?

Search engine marketing is a growth industry ' Google, with several explosive quarters in a row, has convinced those who dared to believe otherwise.  Microsoft, whose stock has been flat for the past few years, would love to capture a significant slice of such a high-growth industry.  Microsoft does have a track record of squashing smaller adversaries who threatened their business.  Case in point: Netscape, the innovative web browser company that brought the Internet to the average PC user, was ground into dust after Microsoft began making its Internet Explorer browser available free of charge (along with packaging it with brand new computers equipped with the Windows operating system).  Microsoft however, also has a track record of not fully quashing the competition, even after exerting the full force of its 800 lb. gorilla frame.  Case in point: MSN vs. AOL in a dial-up ISP battle that never really was. 

We all know that Microsoft is big and bad.  But what else can we make of this chatter? Certainly Microsoft is not going to scoop up AOL and then start offering its search engine marketing services free of charge.  As Lauren Rich Fine alludes to, while not on par with Microsoft's stockpile of cash, Google also has a nice pile of cash raised from its IPO and recent $4.1 billion secondary offering, on top of the cash it has generated from the operation of its highly profitable business.  With its large cash reserves, Google can either continue to make acquisitions or grow its business organically.

With its highly profitable business model combined with its immense popularity, Google is no Netscape.  If Microsoft were to acquire AOL or Yahoo ' a rumor that floated about with abandon this past summer ' would the dynamics of the search game change? I'm inclined to think that, like the case of MSN vs. AOL, Microsoft, despite its best efforts, might be just a tad late to the search party.   



THE GOLD STANDARD

By Peter D. Henig, Market Columnist, Growth Report

If the Fed thinks inflation is here to stay, should investors be betting on gold long term?

What a difference a month makes.  One hurricane, four closed refineries, a housing boom gone soft (or bust?!), and now the Fed raises rates once again. 

If investors were worried about a post-hurricane slowing of the economy, the Federal Reserve beat them to the punch ' only to reiterate that inflation should be the true cause of our concerns.  Raising rates another quarter of a point, the Fed signaled it would continue to do whatever it takes to battle higher energy prices and that Katrina's economic impact would be temporary at best.

Either way, September has not been kind to investors.  U.S. stocks had their first losing streak last week since Katrina hit the Gulf Coast on Aug. 29, with the Dow shedding 0.03 percent, the S&P falling 0.3 percent and the Nasdaq off 0.7 percent.  Some analysts and Wall Streeters are quietly wondering if the Fed should have paused in hiking interest rates, worrying that Katrina's potential jolt to the economy warrants a more neutral ' or softer ' Fed position.  That with gas prices now over $3.00 per gallon, consumers may be facing a double whammy ' stagflation; inflation with a declining economy.

What's an investor to do?  Some experts say buy gold, some say buy lumber, some say buy oil, and some say stay away from stocks altogether.  I think I'd say the latter (or buy Qualcomm (Nasdaq: QCOM)!), though I'm warming to the argument for investing in gold.  The lumber call is a short-term knee jerk reaction to the expected rebuilding of the gulf coast; a necessary endeavor to be sure but one that will take time, and will be offset by any slowdown in homebuilding overall.  Though prices have spiked recently in some timber companies, including Plum Creek Timber (NYSE: PCL), Weyerhaeuser (NYSE: WY), and Georgia-Pacific (NYSE: GP), their price increases were noticeably halted at or near previous highs. 

The continued bullishness in oil and energy prices may indeed live on, but investors should now follow noises out of OPEC to increase production by 2 million barrels per day to keep up with demand, as well as the short term price impacts of having four gulf coast refineries all simultaneously knocked offline as a result of Katrina.  When those refineries are up and running again, and should OPEC further raise its production ceiling, energy prices may begin to cap out, at least in the short to intermediate term; finally flattening out the stock prices of many energy companies.

That leaves gold ' the commodity that has now attracted a great deal of attention among investors as inflationary fears truly take root.  In gold, investors have a range of choices: Harmony Gold (NYSE: HMY), Gold Fields (NYSE: GFI), Placer Dome (NYSE: PDG), Newmont Mining (NYSE: NEM), even the exchange traded fund (ETF), Streettracks Gold (GLD) ' each of which has seen their shares rise as the spot price of gold heads quickly towards $460 a troy ounce, not far from the magical $500 level. 

With gold trading at 17-year highs the Fed has been in a bind ' does it reign in inflation as it's supposed to do, choking off further investment with higher rates?  Or should it have loosened or left rates as is given rising unemployment as a result of Katrina (the economy is now expected to lose 400,000 jobs in the short term) or even the specter of increased joblessness as a result of a softening real estate market. (Bear in mind, low mortgage rates and home price appreciation have not only fueled consumption, but also job growth -- 40 percent of which has been housing related over the past three years.)

The problem with gold right now is that no one knows just how much of a safe haven it might be; or more specifically, how much investors might need to turn toward a safe haven if, in fact, a post-Katrina impact on the economy turns out to be minimal and energy price increases begin to abate.  Gold bulls have a terrific history of claiming the sky is falling when in fact blue skies were only just around the corner. 

To my mind, however, inflationary fears this time around seem inherently real.  I see no rollback in energy prices anytime soon, and yet I don't think the full adverse impacts on the economy have yet played out as a result of higher oil and gasoline prices.  I also believe other countries that have, until now, been buying our debt as a means of what to do with all of their excess cash may now start to buy up gold as well, choosing a hard asset over a paper currency.  If the Fed continues to raise rates, even in this fragile post-Katrina environment, it will send a clear message to investors that inflation should be viewed widely as a legitimate threat.  In that case, the market may continue to soften overall while gold, silver and platinum may become our new best friends.

Pete Henig is the market columnist at Growth Report, an independent investment newsletter focused on investments in small cap, profitable, high growth companies.  During his four years at Growth Report the newsletter has averaged a return of 27% in the model portfolio.

Enjoy this article by Growth Report market columnist Peter Henig?  Click here to get Peter's weekly column in the Growth Report newsletter advisory.  You can try Growth Report today, without cost, risk, or obligation for 30 days.  Just click here now ' It's Free.

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