One of my responsibilities as a former software equity research analyst was to determine the size and growth rates of new market opportunities. I used these numbers to predict with some certainty a company's revenue and profit in time.
If a new market opportunity area might ultimately be worth about $1.0 billion in annual revenue, for example, I knew that if my company was the market leader in this sector, they were likely to end up with at least 50% of the market as it matured -- about $500 million in revenue. Those software businesses would typically end up with net income margins ranging from 15% to 20%, which equates to earnings in the range of $75 to $100 million, as they matured. Putting a multiple on market earnings (currently 20x earnings) suggests that the company could someday be worth between $1.5 and $2.0 billion.
You can then use the growth rate of the market opportunity to discount that future value to determine the company's current worth. Faster growing market opportunities imply higher company valuations, while slower growing market opportunities imply lower valuation multiples.
A fast-growing competitor newly on the market could cause the current market leaders to have a sharply lower valuation because that company could very well lose its dominant market share position and end up with only 20% to 30% of the market and a lower profit potential. The second position in the market might only get to $200 million in revenue and 10% net income margins, or $20 million per year. They would then receive a lower multiple on earnings, perhaps only 15x earnings, to put their valuation at about $300 million, which would be well below the expected valuation of the market leader.
You need to find differentiated market opportunities where the combination of first to market with a good product and/or the early capture of a good group of beta customers offer some protection from future competitors.
Where's the next new opportunity?
The Internet of Things
Devices tend to spit out small bursts of data at high frequencies. While most of the data isn't interesting, occasionally, something important happens like telemetry that displays an engine's performance at various speeds. Once the patterns are collected and analyzed, new data may not improve your knowledge of the engine's performance, but as the engine's performance characteristics start to change at some point in the future, the data will then show an impending failure. This warning sign will enable someone to take action to avoid an expensive repair.
Ultimately, I believe nearly all devices will be connected to the Internet using cellular, WiFi, Bluetooth and coming future connectivity technology.
Connected device applications, or the Internet of Things (IoT), generally require wired or wireless connections from devices to cloud storage, analysis tools to establish the patterns of behavior and monitor the data for abnormalities, and reporting tools to notify humans of changes in the patterns. Due to the large amount of data that's collected and the importance of notifying users immediately when something changes, these applications need to be real-time in nature, which adds complexity to the infrastructure. This problem creates a market opportunity for knowledgeable developers who are able to leverage real-time data management to avoid connected device failures. Customers who purchase these types of solutions value this insight, especially when they're able to prevent a failure.
Ultimately, I believe nearly all devices will be connected to the Internet using cellular, WiFi, Bluetooth and coming future connectivity technology. Given the sheer number of devices that exist to date, I can envision thousands of market opportunities with a potential value that ranges from tens of millions to multiple billions of dollars in size. These market opportunities are in many different areas:
- Industrial devices, like factory equipment and mechanical components
- Transportation devices, like trucks, ships, airplanes, railways and buses
- Consumer devices, like fitness equipment, autos, home automation and medical devices
- Office devices that help with managing facilities, technology, employees and products
- Communication and networking devices, such as routers, switches, hubs, and central office and edge equipment
- Armed forces equipment, drones, transports, weapons systems and communications hubs
- Process manufacturing devices used in energy, food and chemicals that handle recipe management, pipeline/delivery management, resource extraction and many other processes
Some of these markets are derivatives of the location tracking markets that have existed for some time and leverage tracking devices to determine the location of these devices at any point in time. Increasingly, these markets are morphing into new markets that capture usage data streams for more sophisticated purposes as described in the engine example above.
The cloud presents a massive market opportunity because cloud technology can be applied in so many different end markets.
Opportunities in the Cloud
The cloud presents a massive market opportunity because cloud technology can be applied in so many different end markets, such as devices, consumers, knowledge workers, workgroups, enterprises, industries and regions. Each of these opportunities has different dimensions of complexity, whether it's the customers, products, security, deployment, infrastructure and management. You can classify these opportunities in many ways, but since I tend to associate market opportunities with customers, I have classified them into the following areas:
- Cloud Applications
- Device connectivity and management applications
- End-user applications
- Workgroup applications
- Enterprise applications
- Cross-Enterprise applications
- Cross-Industry applications
- Regional applications
- Cloud Infrastructure
- Cloud deployment platforms
- Cloud development and testing technologies
- Cloud security and management technologies
These areas are all rich in opportunities but they are quite different, and in subsequent articles I will discuss them in detail.
The device connectivity and management application market opportunity is gigantic with potentially hundreds of smaller market opportunities within it. Many of the other areas are also quite large as you will see in upcoming articles.
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