Dell, Compaq Will Continue to Dominate Personal Computer Industry,
Despite Industrywide Slowdown, NationsBanc Montgomery Securities
Analyst Tells Investors
Business Wire - September 18, 1998 11:24
NationBanc Montgomery Securities Investment Conference
SAN FRANCISCO--(BUSINESS WIRE)--Sept. 18, 1998--The stock returns of personal computer makers is much less
dependent on overall PC industry sales growth than on individual companies' execution of their business strategies and gains in
market share, according to a PC industry analyst for NationsBanc Montgomery Securities.
"In explaining the performance of these stocks, a statistical analysis shows that company-specific factors matter far more than
industry-specific factors," said Kurt King, a Wall Street Journal All-Star PC industry analyst for NationsBanc Montgomery
Securities. King made his comments at the 28th Annual NationBanc Montgomery Securities Investment Conference, which is
running this week in San Francisco.
The conference, which is the firm's largest to date, features 245 companies with a combined market capitalization of $1.6 trillion
making presentations to more than 1,900 portfolio managers. These managers represent 280 different institutions with a combined
$3.5 trillion in assets under management.
With unit growth at lower levels than the PC industry has seen in over five years and falling ASPs (average sales prices), overall
industry revenues are expected to be essentially flat in 1998. King conducted a statistical analysis using up to 10 years of industry
data to determine how these circumstances would impact the stock returns of PC companies.
The most important factor in explaining PC company stock performance was consistency of operating margin, which King views
as a proxy for solid execution. "The market rewards consistent execution," said King. "Greater operating margin consistency
translates into better stock performance."
The second most important factor in explaining PC company stock performance was company revenue growth, which in turn was
overwhelmingly explained by shifts in market share. King believes three-quarters of PC industry unit growth from 1997 to 1998
will go to the four largest vendors: Compaq (excluding its acquisition of Digital Equipment Corporation), Dell, Hewlett-Packard
and IBM.
Meanwhile, the analysis revealed that changes in industry-wide unit growth and macroeconomic changes did not significantly
correlate with changes in company-specific revenue growth. In other words, said King, it is not prevailing market conditions but
company execution and market share gains which determine revenue growth and stock returns of individual PC manufacturers.
Consequently, King thinks that -- for the best players -- consolidation opportunities swamp diminished industry growth issues.
Even though the market share of the four largest vendors is steadily increasing, they will only capture an estimated 32% of the
worldwide market this year, leaving ample room for additional market share gains. King said fragmented international markets
represent a substantial opportunity to U.S. PC vendors, who typically have a much smaller market share overseas than in the U.S.
Server strength, according to King, will increasingly separate the winners from the losers. Server growth outpaces the industry,
and compared to desktops and portables, servers have above-average gross margins and much higher barriers to entry. The top
four players in the server market -- Compaq, Hewlett-Packard, IBM and Dell are so dominant in the server segment that King
doubts "any other PC vendor will ever get more than a five percent market share in servers." Companies that don't have
significant server businesses, he said, are not likely to do well in the long run in the tough PC market. As a result, King sees little
change in the companies that make up the list of top PC players.
Dell(1), said King, is the industry's most efficient company and the fastest-growing major PC maker both overall and in the
lucrative server market. Dell is no longer competing primarily on price, but on the quality of its direct customer relationships, which
King asserted was a "sustainable competitive advantage." Furthermore, the company's low worldwide market share gives it
substantial growth headroom; King expects Dell to experience rapid growth internationally, despite the current Asian economic
problems.
King argued that in spite of Dell's well-documented stock price rise over the past several years, the stock has room to go even
higher. His argument was based on the company's prospects for continued strong growth, pattern of upward earnings estimate
revisions and consistent beating of Wall Street consensus earnings estimates. King is targeting a price of $75 a share by next
September. (Dell closed on Thursday at $58.13 a share).
Compaq(1), according to King, is making its mark in the server business, which is the PC industry's most profitable sector.
Compaq dominates the server market, which mainly involves selling to corporate customers, and King said the firm is unlikely to
lose its lead. Compaq will maintain its advantage by leveraging its continued heavy investment in proprietary R&D, which
constitutes a significant barrier to entry for competitors.
Compaq also has substantial 1999/2000 accretion opportunities from its recent acquisition of DEC and its ODM (optimized
distribution) programs should provide gradual but ongoing benefits versus the industry at large. King is targeting a price of $44 a
share by next September. (Compaq((1)) closed on Thursday at $31.25 a share).
In addition to recommending Dell and Compaq, King also recommends Apex PC Solutions(1), a pure play on the PC server
market. Apex is the exclusive supplier of proprietary console switches for servers to all major server OEMs. Its growth is
magnified by a market shift to rack-mounted servers and channel and geographic expansion.
For 1998, King is forecasting 13 percent unit growth for the PC industry, with the Asian economic crisis reducing worldwide
growth by four to five percentage points. Coupled with a 10 percent drop in the average selling price (ASP) of PCs this year,
King expects 1998 revenue growth of only 1.3 percent, compared to 6.6 percent growth in 1997. For 1999, King is forecasting a
6.9 percent decline in ASPs and a 6.7 percent increase in revenue growth.
King used regression analysis to determine what percentage of the variations in PC company revenue growth was explained by
market share shifts, PC industry unit growth, U.S. GDP growth, and U.S. capital expenditure growth. He similarly determined
what percentage of the variations in PC company stock returns were explained by operating margin consistency (the standard
deviation of the operating margin) and variations in company revenue growth, EPS growth, the return on the S&P500 stock index,
and industry unit growth. King used a significance level of 10% (a 90% confidence level) in his analysis.
NationsBanc Montgomery Securities LLC (NMS), a subsidiary of NationsBank Corporation, is a full-service investment bank and
brokerage firm with approximately $900 million of regulatory capital. The company provides research, trading and issuance in the
equity and fixed-income markets (high yield, emerging markets, high grade and mortgage-backed markets). Other services include
M&A advisory, financial buyer coverage, loan syndications, global investment banking, real estate finance, mortgage finance,
money markets and the primary dealer.
Through NationsBank, NMS clients can also access products and services that include senior bank debt, bridge financing, real
estate banking, treasury management, trade finance and risk management (derivatives products and foreign exchange).
NMS is a registered broker-dealer with the Securities and Exchange Commission and is a member of the National Association of
Securities Dealers and the New York Stock Exchange. NMS employs more than 2,700 investment professionals.
(1) NationsBanc Montgomery Securities LLC currently maintains a market in this security. NationsBanc Montgomery Securities
LLC was manager or co-manager of a public offering and/or has performed investment banking or other services for this
company in the last three years.
|
