By Fidelity, 27 December 2013
Successive advances in computing have been driven by declining costs and improving functionality. Historically, each ‘wave’ has supported 10 times more users than the last wave. While the most recent mobile internet wave is still ongoing, far-sighted investors are looking ahead and asking, what could be next? At Fidelity, we believe the next big wave could be the ‘Internet of Things’ – the global ecosystem of connected physical objects that can sense, process and communicate data with each other.
This Perspective outlines Fidelity’s take on the Internet of Things, including its key drivers and some likely investment beneficiaries.
“The killer app that wired the world ready for appliances was the light bulb. So the light bulb is what wired the world. And they weren’t thinking about appliances when they wired the world.” Jeff Bezos (founder of Amazon.com)
The ‘Internet of Things’ (IoT) is the name given to the growing range of internet-connected objects with embedded sensors that can process and share complex information without human involvement. The benefits include physical objects accurately sensing their environment and communicating this information to improve the overall efficiency of a system or a process.
Such internet-enabled objects – from factory machines to fridges – have existed for some time. But, critically, just like the humble light bulb gave rise to the electricity network and the thousands of electrical appliances we know today, the IoT is destined to be many times more powerful than its beginnings. Originally devised to connect computers, we’re now realising the internet can usefully connect many other things too.
As the chart above shows, in terms of units, big technology waves tend to move in multiples of 10, the last 10-fold wave which is still being played out is the move from personal computers to smartphones and tablets. Looking ahead, we think it is very likely that the next big wave will be the much broader proliferation of internet enabled devices – the –IoT.
The IoT concept is not new – the term was coined by the British technology pioneer Kevin Ashton back in 1999, and in 2000 South Korean company LG produced an internet-connected fridge. However, in the past, a number of key limitations prevented the IoT from moving forward. Increasingly though, the constraints of the past are fading and new enabling factors are arising.
Perhaps the single most important driver has been the rapid proliferation of internet-enabled smartphones, coupled with ‘always on’ connectivity. In fact, the phones in most people’s pockets today are actually internet-connected mini-computers that are more powerful than the average PC of a decade ago. In terms of new enabling factors, the most important one is the ability to store vastly greater amounts of data remotely in the ‘cloud’, which has also been a key catalyst behind the ‘big data’ theme. Finally, the price of hardware (processors, sensors etc) has continued to fall significantly in line with Moore’s Law.1
“Industrial and consumer companies that fail to realise the significance of the ‘Internet of Things’ will be more exposed than those in the 1990s that failed to see the opportunity and threat of the internet for faster online distribution of their products. The ‘Internet of Things’ is bigger because it is not only about product distribution, but rather product innovation to tap into the wireless, portable distribution methods favoured by young consumers. Those who grab a first-mover advantage could see their market share soar at a speed not previously possible, and vice-versa.”
Christopher Moore, Portfolio Manager, Global Equities
The best ways to begin to understand the business and investment potential of the IoT is by looking at some specific real-world examples.
At the sector level, we think there will be both first-order, ‘horizontal’ and second-order, ‘vertical’ implications. Horizontal beneficiaries will be those companies that make the various key physical components that make the IoT possible. A good example of this are the low-cost semiconductor-based micro-electromechanical systems (MEMS) sensors that are required to pick up the real world data that all the connected ‘things’ send out – indeed, most modern smartphones already feature multiple MEMS sensors.
Vertical beneficiaries, on the other hand, comprise second-order beneficiaries that will be able to benefit from applications that are highly specific to their industry and which ultimately either serve to boost output efficiency or service quality in some way.
While there are opportunities to be found in both horizontal and vertical sectors, we believe the opportunity in vertical sectors is much broader owing to the greater diversity of potential industry applications, some of which are likely to be genuine game-changers. Indeed, this is why for some time already, our research efforts have focused on determining those companies that are taking the lead in articulating and implementing effective IoT strategies that differentiate them from their competitors. First-mover advantage in this area will be critical – early adopters of IoT could see their market shares rise significantly.
The key reason why we see fewer opportunities in horizontal sectors is due to the greater susceptibility of hardware to commoditisation. In short, because hardware is easier to replicate, profit margins tend to get eroded quite quickly, with value migrating to other harder-toreplicate areas. This is exactly what happened in the computer industry; as the chart below shows, as PCs became more ubiquitous, value increasingly shifted in favour of key software publishers, suppliers and service providers (such as Microsoft, Intel and Google).
“I think that ‘Internet of Things’ has got a chance to become a very powerful disruptive theme over the next five years. Think about how personal computers or smartphones have changed our day-to-day lives – I am thinking about a similar order of magnitude.
In keeping with Moore’s Law personal mobile connectivity has become very affordable. The next logical step is to make various objects ‘talk’ to each other. This is going to be a gradual process and it will have an impact across different industries.
"Investors should look at companies that embrace the trend early and which can differentiate themselves on this basis – GE and Nike are two companies that are trying to achieve this.”
Dmitry Solomakhin, Portfolio Manager, European Equities
Monsanto – As the world’s leading agricultural bio-technology company, Monsanto has a track record of game-changing innovations to its name, including a pioneering role in the early development of genetically modified crops. Now the company is at the forefront of efforts to create integrated data systems aimed at boosting farming productivity. This is evidenced for example in its proprietary FieldScripts farming system and its decision in October 2013 to pay a sizeable $930m for Climate Corp, a climate analytics company. As the clear leader and investor in this field and given the world’s ever-increasing food needs, we think Monsanto is a company that is uniquely well positioned in its sector to take advantage of the IoT, with potentially disruptive results.
General Electric (GE) – Possibly the most promising of all areas is the growing interaction between the IoT and the industrial sector. GE is playing a leading role here, investing significant resources in the area it calls the Industrial Internet.2 With over 3m major ‘things that spin’ in today’s industrial base, GE has estimated that process optimisation that leads to just a 1% of savings across multiple industries could be worth a combined $226bn over 15 years.3 For example, GE argues that the Industrial Internet will allow many companies to move towards ‘zero unplanned downtime’, whereby preventive maintenance can be undertaken based on the actual condition of industrial assets rather than the estimated condition.
Samsung – As well as being one of the leading smartphone manufacturers, Korea’s Samsung is a company that is unrivalled in the sheer breadth of its technology products, including fridges, washing machines, DVD players etc. Considering also the vast research resources at its disposal, we think Samsung is ideally positioned to take the lead in developing smart consumer devices that can talk to each other. For example, Samsung has already developed a wifi-connected washing machine that allows its owners to connect and control their washing remotely via their smartphones.
Nike – In the consumer health and fitness area, smartphones have enabled enhanced web-based performance analytics. The company that has built the world’s leading web-based platform is Nike, through its Nike+ platform. While the 18m+ users of this platform should be more likely to continue buying Nike apparel, we think the greater commercial benefit is likely to be associated with the wealth of customer data that is becoming available to Nike. For example, Nike noticed that customer data from its Nike+ platform showed that many runs were actually off-road, prompting it to boost its off-road training shoe range in response.
Looking further ahead, we think a potentially game-changing opportunity for Nike could be its Fuelband innovation - this is a sensor-embedded wearable wrist-band device that records, saves and shares user activity statistics via the Nike+ platform in a much more convenient way compared to hand-held phones. Since the launch of Fuelband, Nike+ sign-ups have increased by over 50%, contributing to significant reductions in TV and print advertising and larger budget allocations to digital marketing.
“As mobility growth slows, technology investors will increasingly look for the next big thing – we think the Internet of Things could be it.”
Ozan Asim, Research Analyst, Semi-conductors and telecoms equipment
We think the rapid growth in intelligent objects that communicate with each other will constitute the next big technology wave following smartphones. We think the increase in intelligent connected devices has the potential to transform business practice across a wide range of industries, offering tremendous opportunities for those companies that are the quickest and most adept at creating applications that positively differentiate them from the competition.
As investors, we see it as part of our job to seek out those companies with the best laid plans and best prospects for capitalising on the Internet of Things.
1 Hardware prices for consumer devices (e.g. TVs, VCRs, etc.) have tended to decline by over 50% after the first decade of their introduction (Source; FIL, December 2013)
2 GE has committed to spend $1.5bn on R&D related to the Industrial Internet between 2012-15
3“ The industrial internet: Pushing the boundaries of minds and machines”, Marco Annunziata & Peter C. Evan
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