The truth about deflation - Eric Janszen

[ThePythonicCow]

Re: The truth about deflation

... a lot of the best software you get is free. Filezilla FTP server, Mozilla, GNU.

That's Open Source software. I made some good money the last few years writing open source software, mostly within the Linux kernel.

Open Source software has a business model and money flows. It's just that the end user can easily obtain and use it, entirely legally and conveniently, for zero software license cost.

[Spartacus]

Re: The truth about deflation

you have not defined your terms, so we don't know what you're talking about.

Deflation what is it?
declining prices?
reduced money supply ? (and if so, which aggregate?)


the iTulip position is that the government will do anything and everything to prevent runaway deflation - and "deflation" here means the wholesale collape of hundreds of banks and the attendant collapse of most of the credit markets.

as I understand the iTulip thesisoverall prices may go up (or down)
whole sections of the credit markets may collapse (or not)
prices among whole segments of the economy may drop (or rise - like say prices of certain types of housing may rise as others fall)

events that may tend to deflation (in many cases you can argue about individual events being inflationary or deflationary) will happen (have happened, are happeing and will connue to happen) but the government and FED are doing all they can to prevent a cascade.

A quick and simple question for smart itulipers.
If printing $ is so easy as often hinted on itulip, why this deflation (I'm sorry, disinflation) was allowed to happen just before the elections, cratering all possible assets and creating a huge misery for US citizens?

If helicopter Ben had it all figured out and planned, why this financial fiasco reached these proportions?

Another related question. If some of the recent action on the stock markets was caused by margin calls and forced liquidations and redemption that became worse as the nominal priced went lower and lower, why this is not a deflationary spiral?

If the WMD derivatives started to implode, doesn't it create a chain reaction with more deflationary implosions?

Finally, if the future earnings go down in 2008/2009 due to credit squeeze/bursting or higher dollar or record low sentiment ratings and generate more stock selling and more margin calls, why it would not be a spiral action?

In simple words please!

I've heard so much about "printing dollars" story that I don't believe it's true anymore. Most money in modern societies is credit (isn't it 90%?). Didn't EJ declare start of credit destruction in 2007 (one of the best calls in itulip IMHO)?

[*T*]

Re: The truth about deflation

As a user I am very keen on open source software -- but never understood the business model.
ThePythonicCow, could you explain the business model briefly please? How and where does the money flow?

[c1ue]

Re: The truth about deflation

Only a very few software companies show the large earnings and profit margins that are the indicators of greed, successfully realized.

TPC,

The reason only a very few software companies show large earnings and profit margins is more due to greed of management than anything else.

Let me put it this way: How many programmers does it take to create a typical piece of complex software? 100? 1000?

Let's say it is 100 - because programmers = cats, and 1000 cats cannot be harnessed to pull a wagon.

100 * 100K (average salary) * 2 (Burden = management and other overhead) = $20M

At $100 a copy - we're talking about 400K users (assume retail channel has 100% margin).

That's not a lot given there are roughly 1B computers in the world.

0.04% market share?

Of course there are plenty of specialty software developers. My previous industry, the average development team was around 40, but the software sold for $200K ASP/$450K list.

Average salaries - I'll assume 200K (high), thus net cost was $16M. But the 1000 time based licenses sold each year = $67M. Yet the profitability for the company was only around 12%.

Where did the extra money go? Executive compensation. A CEO with a starting $60M package who lasted 4 years, plus 100K share grants for his 'team' each of those 4 years.

Let me put it another way: Show me an industry where you can build a business by giving away free software like Adobe does.

#1 is the advertising business.

#2 is the entertainment 'business', actually an IP protection racket.

Seeing a pattern yet?

[EJ]

Re: The truth about deflation

TPC,

The reason only a very few software companies show large earnings and profit margins is more due to greed of management than anything else.

Let me put it this way: How many programmers does it take to create a typical piece of complex software? 100? 1000?

Let's say it is 100 - because programmers = cats, and 1000 cats cannot be harnessed to pull a wagon.

100 * 100K (average salary) * 2 (Burden = management and other overhead) = $20M

At $100 a copy - we're talking about 400K users (assume retail channel has 100% margin).

That's not a lot given there are roughly 1B computers in the world.

0.04% market share?

Of course there are plenty of specialty software developers. My previous industry, the average development team was around 40, but the software sold for $200K ASP/$450K list.

Average salaries - I'll assume 200K (high), thus net cost was $16M. But the 1000 time based licenses sold each year = $67M. Yet the profitability for the company was only around 12%.

Where did the extra money go? Executive compensation. A CEO with a starting $60M package who lasted 4 years, plus 100K share grants for his 'team' each of those 4 years.

Let me put it another way: Show me an industry where you can build a business by giving away free software like Adobe does.

#1 is the advertising business.

#2 is the entertainment 'business', actually an IP protection racket.

Seeing a pattern yet?

Quick note on another business model. One tech company I ran used open source where no wheels needed to be re-invented or where standards could be better met with off-the-shelf free code. The product was open source glued together with custom code "wrapped in metal," that is, running on different sized Made in Taiwan Linux boxes and delivered to customers via a reseller channel as a plug-and-play "appliance." Excellent margins and the open source/Linux architecture allowed us to turn product requirements very fast and produce major releases two or three times as fast as competitors who wrote all of their own code and delivered product as code that had to be installed on a server by the customer, which introduced OS dependency and all kinds of other variability that led to reliability and other problems for the customer and expense for the vendors.

On a separate note, an underreported event occurred in distribution pricing law in the US last year.

Since 1912 in the US it has been illegal for vendors to dictate prices to distributors. All they can do is provide an MSRP. This rule is the bane of channel-based sales businesses because one reseller will make a huge effort to sell a product to an end user against a competing vendor's product only to lose the sale to a volume "box house" that offered the product at a lower price because they purchased at a volume discount from the vendor. However, the rule did result in lower overall prices for the end user. Now vendors can and many do provide both an MSRP and a "floor" price. The aggregate price impact across the economy might be substantial if this becomes common practice–once the depression ends, that is.

I've met Chambers a couple of times. Very smart, solid guy. Don't envy him in his current predicament.

Cisco Shares Drop; Chambers Forecasts Sales Decline

Nov. 6 (Bloomberg) -- Cisco Systems Inc., the top maker of networking equipment, declined in Nasdaq trading after Chief Executive Officer John Chambers forecast the first revenue drop in five years because of the financial crisis.

Sales will fall as much as 10 percent in the second quarter, which ends in January, Chambers said yesterday on a conference call. In August, he predicted a gain of 8.5 percent from a year earlier.

Business changed course after the credit crunch hit, pushing October orders down 9 percent, Chambers said, adding that his comfort level with the forecast was the lowest since the dot-com bust in 2000. Chambers plans to save $1 billion in costs over the next three quarters by curbing hiring, business travel and relocations.

``He's normally a very optimistic guy, so when you hear him talk about the tone of business being what it is now, I don't even know what to say,'' said Chuck Heath, an analyst at UMB Investment Advisors in Kansas City, Missouri, who recommends buying the shares. UMB owns about 760,000 Cisco shares as part of $11 billion in assets. ``It just makes you want to throw up your hands and give up.''

[touchring]

Re: The truth about deflation

As a user I am very keen on open source software -- but never understood the business model.
ThePythonicCow, could you explain the business model briefly please? How and where does the money flow?

I think PC is referring to Enterprise open source as opposed to end user open source programs like Firefox. The Enterprise model works on service, so the software is usually non-unmaintainable by the user, so he ends up paying more money to engage the service of a professional.

[ThePythonicCow]

Re: The truth about deflation

I think PC is referring to Enterprise open source as opposed to end user open source programs like Firefox. The Enterprise model works on service, so the software is usually non-unmaintainable by the user, so he ends up paying more money to engage the service of a professional.

Yes, some markets, such as Enterprise, are much smaller.

The market, for example, for computers to perform analysis of wing failure on Space Shuttles has a size of about one. I've got a plaque that used to hang on my wall from my work in such an effort.

I am oversimplifying a bit here; perhaps it would be helpful to think of it like the automobile business. Just because there are bazillions of cars in the world doesn't mean that the business model that applies to designers of 12 cylinder Ferrari engines is a "large numbers" business model.

The world of software has a rich variety of business models. The Linux operating system for example is a major or dominant player in such product markets as handheld smart phones, network routers, and the worlds largest super computers. Such markets have very different business models and sizes.

[ThePythonicCow]

Re: The truth about deflation

As a user I am very keen on open source software -- but never understood the business model.
ThePythonicCow, could you explain the business model briefly please? How and where does the money flow?

The situations in which Open Source makes good business sense are those in which the software is not ones primary competitive advantage, and in which it makes more economic sense to treat the software as a shared commodity, which you and your competitors share in developing, as it keeps down the costs of each of you and raises the value and quality of what you can deliver to your customers.

That may not sound like a persuasive business case until you imagine for a moment that you are the sole remaining competitor in such a market who is still trying to depend on proprietary software that only you develop. You cannot compete. Your software development costs kill you, and your customers don't like paying more money to be locked into a solution that will die a horrible death if your company abandons that product line.

A similar model to Open Source has been seen for millenia in the research done at Universities and by interested lay people. This is work shared by all where each stands on the shoulders of their predecessors. Accomplishments are possible that could not be done in the private world of patents and trade secrets.

[ThePythonicCow]

Re: The truth about deflation

Now vendors can and many do provide both an MSRP and a "floor" price. The aggregate price impact across the economy might be substantial if this becomes common practice–once the depression ends, that is.

That's an interesting bit of news - thanks, EJ.

[ThePythonicCow]

Re: The truth about deflation

I wrote above:

your customers don't like paying more money to be locked into a solution that will die a horrible death if your company abandons that product line.

Correction.

your customers don't like paying more money to be locked into a solution that will die a horrible death when your company abandons that product line.

Every proprietary software product line is abandoned, sooner or later.

With Open Source, the former customers and continuing users of that product can keep it going, for as long as they are interested, perhaps decades after the original sponsoring company has gone bankrupt.

[LazyBoy]

Re: The truth about deflation

He told me that he was at an auction last week of several fairly new 3 bedroom homes on 4 acres across the street from a local lake here in New Hampshire with water rights and they were selling for $35K each at auction.

What lake/where? I love NH lake country...

[DemonD]

Re: The truth about deflation

As the main post in this thread states, we are definitely in deflation right now. The question is, how long will this go on? Some commentators are predicting a possible multi-year rally in the dollar. I'm not sure that this is possible considering the trillions of dollars being pumped out from our goobermint. But I'd like to see the itulipers opinions on this.

[phirang]

Re: The truth about deflation

you wont get inflation without a tbill minksy moment.

till then, i advise having a strong short position against "inflation hedges": this could get really ugly.

that said, i'll wait for the end of the weak to get short anything...