Elwood - from Barron's Online - article on PC stocks...
August 5, 1998
Cheap PCs Aren't Worth the Worry
By Rivka Tadjer
This spring, before everyone started worrying about a bear market,
investors had other concerns in mind -- like the sub-$1,000 PC.
Some analysts argued that the spread of cheap,
powerful personal computers would wipe out the
profitability of PC manufacturers and even hurt
mighty Intel, which has become a dominant force by
getting people to "move up" to more advanced PCs with the latest
Intel chips.
Investors promptly sold the stocks that would be hurt most by this
trend, including Compaq Computer, retailer CompUSA and Intel
itself. All three are off their 52-week highs, as are Gateway and
Hewlett Packard (which has had other problems, too).
But it's looking more and more as if once the busy back-to-school
and Christmas seasons are over, the top five -- Compaq, Dell
Computer, IBM, Hewlett Packard and Packard Bell, which between
them account for half of all PCs sold worldwide -- will be as healthy
as they were before the first sub-$1,000 PC came into existence.
They may even wind up to be stronger companies once streamlined
inventory management, online sales and product and service
diversification plans go into full swing.
In fact, sales of sub-$1,000 PCs may already have topped out,
according to ZD Market Intelligence, a unit of Ziff-Davis Publishing.
"Sub-$1,000 PCs accounted for 48% of all consumer retail sales in
February," says ZDMI analyst Aaron Goldberg. "But that was the
peak; for the second quarter the number dropped to 40%."
Though Goldberg expects the number to climb again for the
Christmas selling season, he also says come spring of next year, the
percentage may drop again, as high-end buyers shop based on
computing power, not price.
And smart manufacturers are actually finding ways to make money
on $1,000 desktop PCs. "The ASP (average selling price) of all PCs
will continue to drop, but the rate of decline will slow," says William
Milton, analyst at Brown Brothers Harriman. "By the time the $1,000
PC is the norm, the production of these PCs will be more efficient
and there will be other computer products manufacturers will sell as
well."
Also, most of the PC makers are diversified companies that don't
stand or fall on PC sales For example, at market leader Compaq,
which has 14% of the world market, "PC sales still account for [only]
5% to 10% of its total sales revenue," says Walter Winnitzki,
computer analyst at Paine Webber. "So the $1,000 PC can't have
that much effect on business." PC sales represent a small chunk of
IBM and Hewlett Packard's business, too -- and even Dell gets only
10 percent of total revenue from consumer PCs, Winnitzki adds.
The cheaper machines have yet to
catch on in the corporate world,
whose PC purchases amount to
twice the dollar volume of the
consumer market. "The $1,000
PCs are not penetrating the
corporate market at all yet," says
Winnitzki. ZDMI's Goldberg says
that corporate purchases of
sub-$1,000 PCs, while growing,
remain negligible -- only 5% of all
sales by the end of the second
quarter, up from 2% in January
1998. (Dell officials say they're not even selling sub-$1,000 PCs to
companies because there has been no demand for them.)
Meanwhile, the leading PC makers have responded to dropping
prices by wringing more costs out of their operations -- making
manufacturing more efficient and thereby stabilizing profit margins.
"In general, I've seen gross profit margins in the PC industry stabilize
at roughly 20% over the last 18-24 months, despite falling average
selling prices," says Winnitzki.
In fact, says Winnitzki, "Compaq's lower-priced Presario carries the
highest return, according to Compaq." That model, the Presario
2254, costs $799, after a $100 rebate. But inventory costs are next
to nothing, because demand is so high the stores can't keep the
machines on their shelves.
"The rate of inventory turns over the last couple of quarters at
Compaq are 100 times for consumer sales," says Winnitzki.
Compaq, which outsources manufacturing to Taiwan and has
streamlined distribution, is trying to move toward Dell's direct-sales
model, so excess inventories don't weigh down profits. Other PC
manufacturers also are heading in this direction.
But direct sales is just the beginning. PC vendors are trying to
generate repeat business in several ways. According to ZDMI's
Goldberg, more and more consumers are setting up their own
computer networks in their homes. Just as households bought two
cars, four color television sets and three VCRs to keep everyone
happy, parents are buying Jason and Jennifer their own PCs -- and
linking them up through family networks.
Right now only 1% of households have a network, but that will climb
to 5% to 8% over the next couple of years, Goldberg says. As of
January 1998, the average household has 1.3 PCs, up only slightly
from 1.2 last year. Fifteen percent of households now have two PCs,
and Goldberg expects that to reach 17% next year. And, of course,
the more PCs people buy, the more peripherals such as printers,
scanners, servers, and network services they'll purchase as well.
Some of those products have higher margins than PCs do.
Compaq's shares peaked last fall just shy of 40. But as strong sales
of sub-$1,000 PCs caused inventories of higher-priced machines to
build up, the stock price slipped -- a decline exacerbated by its
costly acquisition of Digital Equipment (see Weekday Trader,
"Compaq Makes a Big Move; Shareholders Cringe," January 26,
1998).
Compaq's stock now hovers at 31,
a bit more than 15 times estimated
1999 earnings of $1.95 a share --
a nice discount to its projected
earnings growth rate of 18% to
20%. Meanwhile, Dell 's stock is
hanging in there at 106, about 10
percent below its 52-week high of
118 (just last month). Hewlett
Packard, which has been in the
doldrums, actually hit a 52-week
low on August 4, trading at 51 1/8,
more than 40% off its 52-week high
of 88 in May. Intel has crept back from its 52-week lows of 65 21/32,
closing Tuesday around 82, still well off its high of 102.
These stocks may continue to sag, because of worries about Asia
and the market as a whole. But as the year goes on, PC
manufacturers should fare well -- and the sub-$1,000 PC may turn
out to be just a flash in the pan.
Rivka Tadjer is a New York-based journalist and columnist.
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The thread sure picks up when we start seeing these 2 buck moves... As for Goldman, interesting that they upgraded after the close, I seem to recall Reichers posting earlier today that he saw a 500k block trade, lo and behold, from Goldman... <ggg>
John |
