We’re all familiar with the saying “All work and no play makes Jack a dull boy.” And most of us are familiar with how that played out for Jack Nicholson’s character in The Shining.
We need a work-life balance.
That’s how we maintain healthy and happy lives.
[ad#Google Adsense 336×280-IA]We also know our investments and our portfolios need to be balanced.
Because anything out of balance can be a very dangerous thing…
For not just investments, but also the companies we invest in.
Despite all the other issues companies face on the road to success, customer risk can often be overlooked.
And it might be the most important.
A small company starting out can score a big win with a major international behemoth.
It can change the fortunes of that small company. And as the larger customer grows, the smaller supplier grows exponentially.
But then something very dangerous occurs… That big customer goes from accounting for 10% or 15% of the smaller suppliers’ revenue to accounting for 30% or 50% – and sometimes even more.
The smaller company is now balancing on a knife’s edge – no longer in control of its destiny. And if you own shares of that smaller company, that means the company you’re invested in has no power over its growth.
Today, being part of the Apple (Nasdaq: AAPL) ecosystem can make or break companies.
The tech giant has the power to be a kingmaker in the tech world. And it can just as easily eviscerate suppliers in the blink of an eye.
Recently, this devastation was on full display. Shares of Imagination Technologies (OTC: IGNMF) fell as much as 72% in a single day as Apple announced it would no longer use the company’s graphics chips.
Instead, Apple would switch to making them in-house.
Roughly half of Imagination’s revenue came from Apple. It was not just the chipmaker’s largest customer… It was a critical customer.
And that should be setting off alarm bells when you see a situation like that.
It’s overexposed to a single client.
And this isn’t the first time we’ve seen something like this from Apple.
A couple years ago, Apple loaned GT Advanced Technologies hundreds of millions of dollars to build furnaces to produce sapphire glass, reportedly for iPhone 6 screens.
Everyone was stoked…
From early 2013 to mid-2014, shares of GT Advanced Technologies soared, gaining more than 560% in a little more than a year.
Revenue for the sapphire glass supplier was expected to triple to more than $600 million in 2014 – then double again to more than $1.2 billion in 2015.
This was in August 2014. Price targets for GT Advanced Technologies were $23. And shares were trading for $14.
But on September 9, 2014, Apple didn’t mention new sapphire screens for the iPhone 6. Later, the company announced it would use GT Advanced Technologies’ sapphire for only camera lens screens and Touch ID.
Shares of GT Advanced Technologies plummeted. And by October 2014, the company filed for bankruptcy.
For small and midsized businesses, this isn’t uncommon. The key to success is to find a niche, whether it be an industry or a client. And it’s just how businesses start out… especially in the current day and age where competition is global.
So when you’re researching a company, understand who its customers are. Find out what percentages of its revenue come from its largest customers.
If it’s at the mercy of a single company, understand that. It doesn’t necessarily make it a bad investment. But you want to see it trying to expand to new markets and new clients.
Other Apple suppliers like Broadcom (Nasdaq: AVGO), Qualcomm (Nasdaq: QCOM) and Skyworks Solutions (Nasdaq: SWKS) have moved beyond relying solely on the iPhone maker.
Several years ago, I wrote that then-presidential hopeful Ron Paul’s portfolio terrified me… It was invested only in gold and gold stocks. During the years of gung-ho gold – when nothing slowed the precious metal’s ascent – it appeared savvy.
I often heard from people then who had 50%, 60% and 80% of their portfolios in gold and gold stocks.
“That’s madness,” I’d tell them. And the response would be “gold is going to $5,000.”
Then, the sector spent almost five years in a bear market.
We can go back to the dot-com era when investors did the same with internet stocks. I’d wager a bet that there are plenty of investors wildly overweight in marijuana stocks right now.
I’m sure of this because I was attending a presentation on Parkinson’s the other night, and the questions from the crowd were about medical marijuana… not the new treatments in trial or coming to market.
It’s easy to become overweight in one sector… and just as easy to become overweight in stock.
I’ve told the story many times of how I keep a Lucent Technologies tote bag hanging in my home office. Just a simple reminder that even the most widely held stocks can go away.
That’s why I preach diversity and equal weighting.
If a bomb goes off in your portfolio – either because of a single company or a sector – if you’re diversified and not overweight in a single investment, the damage is contained.
Growth relies on diversification. Not just for your portfolio, but for each investment contained within it. And on top of that – for both your portfolio and your investments – diversification leads to stability.
Source: Investment U