Here is part two of Fred Hickey's article. In the first article he makes a case that component stockpiling for y2k is underway.
(Runner, maybe Greenspan needs to have a talk with these guys so he can explain to them that those inventories could create bottlenecks resulting in market pressure. These guy can then explain to Alan that he ain't seen economic pressure until one or more of them shut down due to lousy remediation abroad.)
Part I-- Hickey
stocksite.com
More on Japanese fabs.
techweb.com
Part II-- Hickey
THE HIGH-TECH STRATEGIST Part 2
Fair Use/etc...
Published Monthly Since 1987
Editor: Fred Hickey
September 3, 1999
Intel vice-president Pat Gelsinger recently stated that Intel's desktop product group is planning for some potential issues at year-end from supply-line issues. "We are planning a bit more inventory positioned to deal with that." According to Electronic Engineering Times, Intel sent out Y2K surveys to its Japanese suppliers and followed up with on-site audits. In contrast to the survey feedback, the audits found that two-thirds of its suppliers faced an "extreme risk" of damage from the Y2K bug. Intel's general manager of year-2000 projects told the magazine, "It was worse than any geographic region of the world." "The single biggest finding on our suppliers in Japan was that they were in a terrible state. Most had not started a program, and if they did it was totally inadequate. It was almost as if they were looking for reasons to do nothing."
The inventory building is not just in PCs. AG Communications has admitted it is storing extra parts in case of supply problems. A recent InformationWeek survey of 250 information technology (IT) managers found that 38% are stockpiling critical supplies to make sure that production continues and customer needs are met.
In this era of lean, just-in-time inventories, it doesn't take much incremental demand to create shortages. There is no doubt that inventory building is occurring. It has caused a shortage of parts even where end demand is weak and supplies were abundant. Shortages always lead to double and triple ordering and to hoarding. We've seen this time and again in the semiconductor industry.
Historically, investors would never pay high stock multiples due to this volatility. But in this historic, out of control stock mania, investors have tripled semiconductor company valuations in less than a year, and most of the insanity has occurred in just the past few weeks. They've doubled staid, old, Texas Instruments over the last eight months. They've driven Intel up 40 points since the beginning of June. That's an addition of $130 billion of market cap (up 75%) over three months. Micron Tech. has more than doubled since the beginning of July. I know why DRAM demand is up, and it has nothing to do with PC demand. I know why Intel's Q3 is running better than expected, and why they have a hole in demand in the fourth quarter. I also know why disk drives are in shortage.
Strategy
As always, I suggest that individual investors not sell short. It's too dangerous, particularly in this mania. This is a tricky moment. Investors are celebrating every uptick in DRAM prices with wholesale buying of nearly every big-cap stock that has anything to do with technology. As time goes on and shortages worsen due to panic buying and hoarding, the price spikes could get even worse. We have no idea how long the inventory build will last, although I suspect from Intel's fourth quarter "problem" it won't be much longer.
At some point investors will realize, all at the same time, that they've been duped, again. This time the fall won't come with the Sox index at 300 or 400, but north of 560. This time, the disappointment will not be caused by Q4 demand that did not materialize, but a nuclear winter scenario, that will see falling end demand throughout 2000, with comparisons against quarters that were inflated by last-minute computer upgrades.
Over the next few weeks, there will be evidence in the form of preannouncements for Q3 and warnings about Q4 that computer demand is slowing. Hewlett-Packard's stock dropped sharply last month after it reported weaker than expected order growth. Hidden within Dell's strong earnings report (due to higher gross margins and strong consumer demand) was the weakest business sales growth rate we've ever seen. There's likely to be more trouble from the computer distributors and resellers including Ingram Micro, MicroAge, CompuCom and Inacom. Inacom's CEO admitted to Computer Reseller News that 20%-30% of his customers say they will lock down computer expenditures in coming weeks. Forrester Research predicts that 69% of large companies will lock down some portion of their computer infrastructures. Cahners In-Stat Group predicts 1.8% negative Q4 growth in networking equipment sales due to the freezing of purchases by Y2K-wary businesses.
Some investors believe that there will be a pickup in demand after year-end. That's not what the surveys show. In fact, a survey by InformationWeek of 300 IT executives found that replacing mainframes and PCs are very low on their lists of priorities next year. It only makes sense. If you needed to upgrade your mainframe, you'd have done it by now. In the PC world, a perfect example is Outboard Marine, a $1 billion boat and engine builder, which was highlighted in VARBusiness magazine. Outboard needed to replace a "boatload" of 386 and 486-based PCs for Y2K compliance reasons. CompuCom supplied 1,700 systems to them. That "boatload" of older PCs were still useful to the company. Now they're replaced with speedy Pentiums. When do you think Outboard will replace these again? When they die.
The upcoming poor industry reports will not just be from distributors. IBM's mainframe sales are reportedly weak. Say goodbye to IBM's strong hardware growth this quarter. I think IBM's service orders will also soften again. IBM has done a lot of Y2K service upgrade business. JPM, a large cable assembly and wireless harness supplier to IBM and Hewlett-Packard preannounced weak Q3 results due to a slowdown in orders from computer customers. IBM and HP account for a quarter of JPM's business. JPM stated, "Several of our customers are citing Y2K uncertainties as either dampening demand or clouding forecasts for future demand. Look for Compaq's business to be terrible again. Oracle's sales were supposedly soft in the quarter just ended. We'll see if they have any tricks left. Last quarter, they dumped a lot of product in Asia to make numbers, I'm told.
The semiconductor vendors will have great Q3s, including Intel. But if Intel's fourth quarter comes up short, they'll have disappointed in three of the four quarters this year. Yet, look at the stock price. The celebration of the death of Intel's competitors was premature. For the first time ever, AMD's chips surpass Intel's in performance according to labs that have tested the new Athlon chip. This has forced Intel to respond with lower price points in their higher-end. Cyrix and IDT designs and teams have now been picked-up by Via, part of a giant Taiwanese family of businesses that intends to stop Intel from controlling the low-end of the market. Via reportedly has cut an undisclosed deal with the world's leading semiconductor foundry at extremely low prices. A Taiwan Semiconductor executive recently stated that TSMC will likely move aggressively into the microprocessor manufacturing business, which generates higher revenue per wafer than average. Say goodbye to Intel's 60% gross margins. Via also has ties with the number two foundry, UMC. Both have excellent .18 processes, certainly competitive with Intel's. The Chinese can of worms has been opened.
Micron is the "gift that keeps on giving" if you take advantage of its many insane, unsustainable price jumps. The same analysts that told investors to buy at every other market peak are daily egging-on investors to jump in at the top again. They'll never learn. There is no supply shortfall. There's a temporary demand surge. I've counted 14 major DRAM vendors all committed to this market. All are increasing production dramatically. All will be contributing to the oversupply once the Y2K inventory build has run its course.
Investors will soon face a deadly combination: nuclear winter, an inventory oversupply and the highest tech stock prices in history. It's beginning to look like Forrester Research was dead-on when they forecast last year that the PC boom will "abruptly turn into a bust at the end of 1999," and the bust will come at a time when PC production lines may be running full-tilt, and the resulting oversupply could cause a major price war. With the imbalances built up in this stock market, I just can't see this mania continuing with such a disappointment to its beloved tech leaders. I'm playing the downside through longer-term put options and LEAPS. Favorites are IBM, HP, Micron, Intel, Dell and Gateway.
Fred Hickey
603-888-3954
Information presented in this newsletter was obtained from sources believed to be reliable but accuracy and completeness and opinions based on this information is not guaranteed. Under no circumstances is this an offer to sell or a solicitation to buy securities suggested herein. The editor may have an interest in the companies mentioned. All data and information and opinions expressed, are subject to change without notice.
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