Tech Industry

2HRS2GO: Hauppauge shows risks of idea investing

Danger, Will Robinson: concept stock ahead.

Most people know about the dangers of investing based solely on technology concepts, but the ones who do it obviously don't care -- they want the thrill of getting in on something hot. Fine, if you want to take the risk, go for it. If the stock works out, more power to you.

Conversely, it's difficult to feel sorry for these folks when things go wrong, because it's always hard to muster sympathy for anyone who defies common sense. And that's why you shouldn't feel much pity for shareholders of Hauppauge Digital (Nasdaq: HAUP) today. Shares of Hauppauge tumbled more than 44 percent this morning after the company warned of an earnings disappointment just two days after executing a 2-for-1 stock split.



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Hauppauge's cards turn PCs into TVs, an idea whose appeal I've never quite understood. Other than that small segment of folks who edit video, how many people want to watch television on a PC when you can watch it on a TV? I don't know, but enough people watch PC TV for Hauppauge to be profitable -- the company earned $3 million, or 33 cents per share, in fiscal 1999 as revenue increased 51 percent year-over-year to $38.7 million.

In fact, it's probably not fair to call Hauppauge purely a concept stock, given that it has been profitable each of the last four fiscal years, with gradually improving sales and operating margins.

But the stock took off at the start of this year on rabid enthusiasm about the next wave of TV. Hauppauge's goldmine was supposed to be its WinTV-D cards, which provide digital television. Ten months ago, Business Week's Inside Wall Street column quoted a money manager gushing over Hauppauge's prospects:

"David Jordon, senior vice-president at Axiom Capital Management, says Hauppauge will benefit from the increasing supply of Internet-based digital video content and the rising demand for high-speed digital broadcast receivers for PCs. ... In 2000, Jordon sees profits of at least $1 a share on sales of $75 million."

Instead, Hauppauge is on track to miss analyst estimates by 83 percent for this fiscal second quarter, because digital TV hasn't taken off. Subsequent quarters won't be much better: "The company expects that the persistent slow acceptance of Digital TV products in the U.S. may have a continuing negative impact on the company's performance for the rest of fiscal 2000," says CFO Ken Plotkin.

Hauppauge can't do much about that, notes FAC/Equities analyst Joel Krasner. Although he expected Hauppauge to earn 14 cents per share in the March quarter -- which would have been a 40 percent year-over-year improvement -- Krasner downgraded HAUP to "neutral" about a month and a half ago from a "strong buy" after the stock price reached $75 on a pre-split basis.

Digital TV hasn't taken off because you need an outdoor antenna to get the limited programming currently available. Cable TV providers don't transmit it.

"People either don't want an outdoor antenna or they don't want to put one up," Krasner says. "Until the cable companies are forced to carry digital signals, Hauppauge is probably not going to sell very many digital cards."

If anything, PC television runs counter to the current trend. Instead of watching TV on their computer, people are using TVs for PC-like uses thanks to digital set-top boxes, advanced game consoles, WebTV and other hardware.

Krasner points out Hauppauge has other products in the pipeline, including a card expected to debut next month that lets people record TV programs. Sounds nice, but don't ReplayTV and TiVo (Nasdaq: TIVO) digital VCRs already exist?

New cards are especially important to Hauppauge because they're higher margin products. I wouldn't be surprised if that's a minor contributor to sluggish sales: it's hard to justify $260 to $300 for a card that lets you watch just a few hours of digital TV a week.

By the time digital TV programming becomes plentiful, viewing technology will likely be commoditized with cheaper digital converters, so Hauppauge won't be competing against those $7,000 high-definition TVs anymore. Which brings us back to the original question: how many people will watch television on a computer when they can get it on the TV they already have?

And that's the biggest danger of all with concept investing -- the idea might not be as hot as you think.

People love pointing out Microsoft (Nasdaq: MSFT) isn't an innovator, but so what? Purely from an investing point of view, innovation is overrated. First mover advantages mean nothing if you're moving into a market where there aren't enough people yet.

Not that being a first mover is always bad -- see Yahoo! (Nasdaq: YHOO) as an example. But for every Yahoo!, there's are multiple Netscapes and Compuserves that falter and find themselves under the thumb of latecomers like America Online (NYSE: AOL).

Hauppauge doesn't face any mammoth competitors yet, although there are quite a few decent-sized ones. But if digital TV on a PC ever becomes a viable market -- an unproven thesis itself -- you can be sure that someone bigger and better will move in.

Does that mean you should avoid unproven markets altogether?

Well ... let's just say that's not the worst idea in the world. Perhaps it's a boring way to invest, but consider this: would you rather be bored and profitable, or exciting and down 44 percent today?

Granted, if people only invested in proven things, new companies would never be able to go public.

But Hauppauge is hardly new. In its 18-year history the company has changed its business at least twice: from math acceleration software and hardware to mother boards in the late ྌs; and switching to TV cards in the early 1990s.

It's not a terrible track record, but it's not all that impressive either. Yet some people at the start of this year decided Hauppauge was the greatest thing since intercourse and somehow overlooked the fact that it's almost impossible to find digital TV anywhere outside of a satellite dish.

Investing in Hauppauge because of digital TV is like investing in Corel (Nasdaq: CORL) because you're all hot for Linux. It might be great technology and may be the wave of the future, but if history is any guide, you can't assume great execution from these particular companies.

I know, I know -- there's someone out there who made truckloads of cash on Hauppauge and makes fistfuls on plenty of these hype-driven issues. But most people don't. 22GO>