Small Indulgences in Uncertain Times

A good friend of mine revealed to me on the weekend that December was his Company's best month EVER in its 10-year history on all measurements; sales, cashflow and profitability. This wasn't an anomoly as Q4 was his best quarter EVER, and January was the best January since inception. He is not a bankrupcy lawyer, nor is he involved in cloud computing, mobile applications, or social networks.

He distributes books.

You know, those masses of paper, ink, cardboard and glue that have survived for centuries. No screens, no buttons, no ports or dongles. The only operating system is a slightly moistened fingertip. A lot of people, including myself, believed that Amazon's (AMZN) outstanding Q4 and best December ever was impacted positively by its cloud services. On the contrary, books may have drove performance.

There are some things for fundamentalists to think about.

Regardless of economic conditions, there is a basic human need for enjoyment; pleasure in life; indulgence. Fashion, travel, art, music, games, dining, sports and hobbies all bring pleasure into the lives of people and all represent multi-billion dollar industries worldwide (for example, according to some analysts, scrapbooking is a $2.5 billion industry). During the past 15 years or so, pastimes have become increasingly conspicuous, expensive and, well, frothy. As American consumers continue to de-leverage, more slightly used scuba gear, kite boards and Versace bags hit Craigslist. However, there is still a need for pleasure, and this is where the basic book regains its mojo. Books offer relatively cheap and portable pleasure with an aftermarket. It does not matter if your 3,500 square foot McMansion has been foreclosed and you have moved into a 800 square foot 1 bedroom apartment, the book is there. There is no monthly subscription and a book can be enjoyed while one is curled up under a blanket on a couch at home as much (if not more) than if one is bundled up on the patio of a local Starbucks. Better yet, there is no electronic copy restriction. When you are done reading a book, you can sell it or trade it for a book that someone else has enjoyed.

My friend distributes books to both offline and online retailers. All are reporting outstanding results during the recession. So its not about the delivery system (electronic/terrestial). All book sales are taking off. Its about the book; a small indulgence in uncertain times.

Which are the technology-centric vendor groups, or sectors that may benefit from the de-leverage of indulgence? It appears that the companies that were mentioned in the Web 1.o Redux post should continue to benefit for a while more. Apple's iTunes/iPhone media portal should offset some potential weakness in its future hardware sales as people download small indulgences in the form of songs, video, and iPhone applications. Both mobile networks, and Virtual Mobile Network Operators (VMNO) with media portals could also benefit to the extent that mobile content portals exist. The infrastructure players that support these mobile content portals should benefit, although most are private entities.

Internet activity should spike during 2009 as people get more involved in social networking and general surfing. Growth in these activities could follow unemployment/underemployment growth. However, there is a downside. The CPC value of advertising is likely to continue to decline as corporate marketing budgets get slashed. Until ad rates improve, margins for internet publishers and portals may be squeezed by higher costs associated with more usage. As these players struggle to find network efficiencies, infrastructure players could benefit from investments in better utility.

Going deeper into the ecosystem, although net neutrality has eliminated the potential for tiered pricing by network providers, there is a significant amount of traffic management required to maximize efficiencies for both terrestial and mobile networks. Two small-cap Canadian companies stand to benefit directly from the need by network providers to improve traffic efficiencies: Bridgewater Systems (BWC.TO) and Sandvine (SVC.TO).

The trend towards small indulgences during a recession is not new. It has happened during every past recession. People still want to have fun, enjoy their lives and indulge in pleasurable activities regardless of their financial condition. Fun that requires big cash outlay or leverage is likely to be put on the backburner by many households. Dream trips to Tuscany, new fishing boats, big screen TVs are examples of delayed big-ticket indulgences. For some, this recession may put those dreams on hold permanently. However, people adjust and they still seek pleasure in smaller, more economical packages. The re-emergence of the book could be a lead indicator of fun and entertainment in smaller packages. Unlike in previous recessions, the technology, processes, and methods of getting the small indulgences is a little different.

Trends for technology investors:

> online/mobile media retailers are benefitting now and should benefit more throughout 2009.
> more traffic on the web combined with lower ad rates may squeeze margins for online publishers and portals.
> Network providers will need better tools to manage traffic as usage increases and more media is moved around. This could require significant ongoing investment, and may be an area positively impacted by various infrastructure stimulus plans as the US govenment supports net neutrality. Although two small cap tech stocks have been highlighted that could benefit, there are several other Canadian companies that operate within the broadband and networking ecosystem that could also benefit.

I do not own any shares in the Companies mentioned above.

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