Archive for January, 2007

Apple Finds the “Key Logs” in the Music, Video and Wireless(?) Industries

January 17th, 2007

Ok, I will admit that I have spent a week scanning stories (ever more quickly) about the iPhone and trying not to get sucked up in the hype. The phone looks beautiful, it will probably work reasonably well, and successively better and at lower price points with each generation. That part is not very exciting.

What has me interested is comparing the (perceived) relationships between the iPhone and the wireless carriers, and the iPod and the music and video content studios. It makes me think of something I once read about logging.

In the heyday of the logging industry, timber would be cut and floated downstream to sawmills. Frequently logs would pile up into a logjam and experts would be called into determine which logs needed to be freed to release the entire jam. The handful of logs tying up the entire bunch were referred to as the “key logs” and the people who could find the key logs were extremely important resources in the logging industry.

In the modern era, logjams are metaphorical and sometimes only visible as such in hindsight. Looking back to 2000, the music industry had clearly gotten itself stuck behind a rights-based logjam of sorts. At risk of losing a big piece of its harvest to piracy, the industry was unable to figure out how to let consumers buy music online. Apple’s iPod and iTunes store may not have broken the jam completely, but let the industry bring a bunch of its timber downstream and earn revenue from music sales. Studios are slowly allowing iTunes to do the same for video content.

In a similar way, the wireless carriers have created a logjam of wireless services. Consumers want wi-fi/wireless connectivity and access to services that aren’t necessarily offered through the carriers. The carriers have consumers locked in to the wireless networks with little or no ability to work around the jam. Thus, consumers pay $2 for a ringtone from Cingular, but $0.99 for the entire song on iTunes. To date, no handset manufacturer has been able to break the jam and give consumers what they really want- fast, inexpensive internet access to online content.

This is where the iPhone comes in. Time will tell whether reality lives up to the promise, but Apple is saying that the iPhone has built-in wi-fi as well as Cingular Edge support. That means I could use Edge to get online (slowly) from just about anywhere, and jump to a wi-fi network for a much better online experience where wi-fi services are available.

At least for me, the winner there is likely to be T-Mobile, since it runs the most reliable wi-fi networks around where I live and being able to get online from my iPhone *and* my laptop would be enough for me to spring for a T-Mobile wi-fi account.

That’s the short term, though. If I am writing this then Cingular and every other carrier must have figured it out as well and are working on their own wi-fi networks. Here’s hoping that if nothing else, the iPhone will break the online access logjam created by wireless carriers, allowing consumers to get fast, cheap connectivity and the carriers to find a new revenue stream.

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Week in Review: Saddam, YouTube, Apple & Cisco

January 11th, 2007

Recent happenings were just to good not to comment on.

Saddam Hussein Execution Filmed by Phone Camera
And we thought “regular” video cameras let us see things as never before. I am amazed that someone was able to wave a phone around in the execution chamber without being spotted. Nevertheless, this episode gives us a glimpse of the possibilities user-generated content allow in the political sphere. The raucous footage gave the lie to the solemn, sedate image the Iraqi government tried to offer of the execution.

Moreover, the immediate dispersal of the footage shows clearly that once something has been recorded and uploaded somewhere, the cat has not merely been let out of the bag, but instantly cloned and distributed worldwide. Were it not for the fact that just about everyone’s response to the execution was “good riddance” (by contrast, imagine if it had been Moqtada al-Sadr being mocked as the noose tightened), this could have been a disaster for the Iraqi government.

YouTube Blocked by Brazilian ISPs, then Un-blocked Again
On note related by technology though decidedly seamier, a Brazilian court ordered YouTube to completely remove videos of a Brazilian model from its site. YouTube protested that it couldn’t do so selectively and moreover it couldn’t prevent users from re-uploading the video. Since I can’t read Portuguese I can’t verify the chain of orders, but it appears that the court order extended both to YouTube itself and to Brazil’s ISPs. The ISPs, also unable to selectively block one video (or more accurately, many copies of a single piece of footage), instead blocked all of YouTube for several hours until the order was reversed.
The entire episode demonstrates a couple of things. First, courts are wishing for a simpler time when they could just lock the cat away and be done with it. Part of the court’s final order was apparently a request to explain why YouTube and the ISPs were unable to comply with the initial order. Second, this story ended happily for YouTube, but the next one might not. Being at the vanguard of the user-generated content revolution is going to leave some scars for sure.

Apple and Cisco Outdo One Another in Shows of Chutzpah
Apple announces the long-awaited, much-delayed iPhone, only to be promptly sued by Cisco for trademark infringement. Cisco had just released its own iPhone-branded product in December. Word is that negotiations stopped without a signed deal Monday night before Tuesday’s product unveiling and Apple let Cisco know after the announcement that there was no deal after all.

From where I sit, it seems like there is plenty of hubris to go around on all sides here. Sure, Apple’s move is brazen. I imagine their view is that the litigation will serve no one and they are going to make so much money off the device that they can afford to let it drag on for a little while until a deal is made.
Cisco certainly knew what it was doing too. The iPhone name has been used by everyone and his mother to describe Apple’s phone project for at least a couple of years. I am sure the December product announcement was not a case of accidental timing, either, but an attempt to grab the spotlight for a moment as anticipation built toward MacWorld. Moreover, one report I saw said that Cisco’s proposal required interoperability of the two iPhones- Apple has “walled garden” in its DNA, so I can’t imagine how anyone really thought this might fly.

In the end this is really just a game of chicken between tech giants. It’ll be interesting to see who swerves first. On the facts, I give slightly better odds to Cisco. Their Infogear division has used the name since 1996 and Apple has only a weaker “iFamily” claim to the rights. Cisco’s pressure play is to enjoin sale of the product using the iPhone name. Of course, with an expected June delivery date this leaves plenty of time for a deal to emerge. Look for Cisco to lose on the interoperability angle when the dust settles, but pick up a giant cash windfall from licensing rights.

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Grouper Networks Case Study on Startup Review

January 9th, 2007

I recently authored a case study of Grouper Networks, a popular video hosting website acquired last summer by Sony.  You can click here to read the study, which looks at Grouper’s history, launch strategy and important success factors, including its emphasis on copyright-legal videos and its simultaneous pursuit of consumer-facing and white label distribution.

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More on London’s AIM

January 5th, 2007

I recently found a couple of articles talking about the AIM and its place in the scheme of things for cash-hungry businesses. My earlier point about the AIM was that it is not a very good “out” for companies hoping to escape the US environment. Most companies merge eventually, and if a suitor is subject to Sarbanes-Oxley and the rest of the SEC’s requirements, the prospective selling company had better comply as well or risk a drop in its purchase valuation.

AIM as a Step on the Road to Liquidity
Cleantech Investing summarizes the benefits and pitfalls of the AIM pretty well. It is easier and cheaper to go public, but harder for big shareholders to get liquidity given the thin trading in most stocks on the market. The AIM therefore serves more as an alternative to mezzanine financing for certain kinds of companies- it is not a good source of liquidity and at present doesn’t appear to be a great place to remain long term.

This may all change over time, of course. The number of US-based companies on the AIM (36 by my count) is very small. Still, the data definitely supports my thinking that companies need to maintain a plan for Sarbanes compliance.

AIM as Market of Choice for Clean Energy Companies
The other interesting point Cleantech notes is that a survey lists the AIM as the go-to market of choice for clean energy companies, and predicts it will remain that way for the next three years. The survey summary is frustratingly short on detail as to why this should be so. It cites the “arduous US regulatory environment” as the principal driver behind the trend, but doesn’t explain why this makes the AIM more compelling for clean energy businesses than for those in any other sector.

The danger I see in this thinking is companies financing themselves into a corner by going public too quickly with too little planning for how to keep M&A valuations high in the long term.

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YouTube Gets Dinged by Brazil

January 4th, 2007

I have previously posted on Youtube’s pending overseas problems, as well as the problem with notice-and-takedown rules for copyright violations in the user-generated content world. Apparently, the ex-wife of soccer star Ronaldo was filmed having sex, and copies of the video made it onto YouTube. Reuters reports that the plaintiff, Daniela Ciccarelli, demanded that YouTube remove the video and that YouTube did so, but users promptly re-uploaded it.

The court’s most recent ruling was that YouTube must shut down until it is able to comply with the demand to remove all copies of the video, though Reuters dryly notes that enforcement of the order in US courts could be difficult.

I doubt Google has a great deal of concern that YouTube may actually be forced to shut down. At the same time, it is conceivable that YouTube could face sanctions in Brazil for failing to comply with the order. Add in the Japanese issues and a pattern seems to be in the making. At a certain point the collective weight of overseas litigation seems likely to go from headache-inducing to big trouble. It will definitely be interesting to see how matters unfold.

New Year’s Resolutions on Electronic Recordkeeping, Prompted by the Federal Rules of Civil Procedure

January 4th, 2007

Since I don’t do any litigation in my practice, I find it surprising to get some good advice from the Federal Rules of Civil Procedure- I barely know how to find them, never mind use them!  Still, there are a couple of new rules on electronic discovery that highlight the need for good business practice in the area of electronic document retention.
The basic idea behind the new rules is that they (i) require participants in a lawsuit in the federal courts to agree on e-discovery practices early in the suit’s life, and (ii) define “electronic records” much more broadly than before. Essentially all information in electronic form is now clearly subject to the discovery rules, including not just traditional “documents” but also email and IM communication, blogs, database records, backup files, etc. Parties claiming they are unable to produce requested data will be required to provide a good reason for the failure- though the new rules only went into effect December 1, 2006 and have not been tested, presumably “I can’t find it” won’t be good enough in most cases.

In my experience, most businesses that aren’t in highly regulated industries like banking or health care aren’t required to have e-recordkeeping policies, and therefore don’t. For businesses that face litigation as an inevitable cost of doing business, the new rules may push recordkeeping policies higher on the to-do list. Smart companies will view the requirements as an opportunity to focus on data security as well, and try to make sure that they (a) only retain data they need to, and (b) store data securely in a way that can be readily searched and produced on demand.

Smaller businesses generally don’t think of litigation as a cost of business and preparing for e-discovery probably sits permanently at the bottom of the to-do list. As Eric Sinrod points out, though, e-discovery is expensive and the new rules move the process earlier in the litigation calendar, such that litigants may have no choice but to dive in early. Thus, the new rules could make the already crushing prospect of litigation to a growing business potentially life-threatening.

However, another way to look at it is that the new rules really only codify something that is a good idea anyway- figure out what data to retain and what to delete, then follow the plan you develop. I admit to being a data packrat myself- I tend not to empty my Trash folders (email especially), but to use them as long-term out-of-the-way storage for stuff I might need someday. The rules tell me that electronic recordkeeping should receive the same kind of attention as physical records. I don’t store physical drafts of documents permanently, so why should I keep electronic versions?

The same goes for my clients. I certainly hope that none of them are dragged into federal court (or any other, for that matter), but the rules really do just put a price tag on one risk of not having a good e-records management policy. We know what the costs could be if something should go to litigation and good business practice says we should be have and follow a records policy anyway, so logic says the wise company moves that item up the list and gets a policy in place during 2007, preferably sooner rather than later.  Hence, my new year’s resolution is to get more serious about my own e-document retention, and to periodically remind my clients to put their own policies into place as well.

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London’s AIM is not the Answer to Sarbanes-Oxley

January 1st, 2007

The AIM, formerly known as the Alternative Investment Market of the London Stock Exchange, has gotten attention recently in the US due to increasingly complex and burdensome reporting requirements for companies listed on US-based stock exchanges, most notably the Sarbanes-Oxley Act of 2002.  In particular, Sarbanes-Oxley’s Section 404 requires companies to certify that their internal controls and procedures are sufficient to provide complete and adequate disclosure of material issues to investors.

Sarbanes only applies (formally at least- more on that point below) to public companies listed on US exchanges, esp NASDAQ and the NYSE. A trend has thus arisen in the last couple of years where companies seeking to raise capital from public markets do so on exchanges outside the US. A few companies have listed on the Toronto Stock Exchange, but the exchange receiving the most attention is the London Stock Exchange’s AIM.

In some respects, this is a natural fit. The AIM was created in 1995 as a “lighter-touch” alternative to the main London Stock Exchange. Costs of an initial listing are much lower than the LSE, NASDAQ or NYSE and ongoing regulatory requirements are much less stringent as well.

There are currently about 1,600 companies listed on the AIM, of which 36 described themselves as US-based as of this writing. The regulatory requirements consist principally of the oversight of a “nomad“, a nominated advisor hired by the company both to vet the company’s filings and to advise the company on investor-relations issues. The Wall Street Journal (subscription required) has a good article on pros and cons of the nomad system. Since January 2005, the number of US companies listed on the AIM has tripled from 12 to 36, indicating a possible trend in the making (though the numbers do not exactly indicate a mass exodus from US exchanges).

However, companies hoping that the AIM will let them avoid the US regulatory framework are misguided (Sarbanes-Oxley imposes the most stringent set of requirements in the US currently, so this post focuses on compliance with it).  It is the rare company, public or private, that continues in business indefinitely without being acquired.  Any company that lists on the AIM thinking it will be able to forever avoid Sarbanes issues succeeds only in (a) limiting its pool of prospective acquirors to other business not subject to US securities laws, (b) reducing its sale price by the amount required to bring the company into compliance, or some combination of the two.
Thus, companies listing on the AIM still need to comply with Sarbanes-Oxley. AIM provides a way for companies to go public at significantly lower cost than in US markets, but as the title of this post suggests, the AIM is not a way out of Sarbanes-Oxley compliance.

AIM Performance Chart

However, this is not to say that AIM has no value.  There may well be companies capable of going public and supporting a reasonable valuation on a small-cap exchange, but for whom compliance with Sarbanes-Oxley and other US regulations would be excessively burdensome.  This seems like a pretty big gamble, but it is possible that such companies could go public on AIM, get enough cash to kick the business into high gear, then bring in US compliance at a later date.

Given that the AIM has underperformed major US indices recently (see chart), it seems as though the risk here is extremely high. As this chart shows, the S&P 500 during 2006 outperformed the AIM as a whole by close to 15% (note: I have not tried to separately measure performance of US-based AIM companies).
On balance, then, the AIM sounds like a great opportunity, but it entails significant tradeoffs as well.  Companies listing on AIM need to be aware that long-term planning will probably require them to deal with Sarbanes-Oxley and other US securities laws at some point, and choosing not to comply in the short term may foreclose- or alter the economics of- merger opportunities in the future.