fwiw, kevin landis plus others namedrop their fave comm IC players (plus others).
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Picks and Chips
If you're mining for gold on the Internet, you might want to look at the companies supplying the tools
By Gregory Taggart, October 1999
Bloomberg
Before you take a flier on the latest Internet IPO, take a lesson from the California gold rush. Most of the '49ers panning for the "gold in them thar hills" came up empty, or with stakes so small they hardly repaid the effort. The real winners, explains Malcolm R. Fobes, San Jose, California, portfolio manager for Berkshire Focus Fund, were "the people who sold Levis, picks, and shovels to the prospectors."
Fobes thinks the same thing will happen with the Internet. So instead of mining America Online and Yahoo!, he prospects for the supporting players that warehouse the data for and supply the chips to the companies rushing to sell books and advertising on the Web.
It's a simple theory: Even the prospector who never found gold had to buy a shovel to look for it. Likewise, the next dot.com hoping to sell the newest Tom Clancy needs a chip or two to run the servers that handle traffic to its site.
"We like companies that are benefiting from building out the infrastructure of the Internet," Fobes says. "That's where your best returns are going to be in our opinion." One of his favorites is PMC-Sierra. Break open a router, a switch, or a SONET (synchronous optical network) terminal, and you're likely to find PMC-Sierra's name inside, emblazoned on one of the specialized broadband chips PMC supplies to the likes of Cisco Systems and Lucent Technologies.
"Basically, all of the stocks in our portfolio have some sort of link to the boom in the Internet," Fobes continues. "We are of the opinion that this is the greatest technological revolution mankind has ever seen, and we are at the very beginning."
It's a prediction that bodes well for PMC-Sierra and other companies that build the bridges and fill in the potholes on the superhighway. But Fobes won't buy just any Internet-infrastructure provider. As he pokes around Silicon Valley to find his next play, he's looking for 800-pound gorillas. "The companies that we invest in have to be the dominant player in their space," he reports.
One such company is Exodus Communications. When dot.coms like GeoCities and Hotmail need a secure place to store their servers or someone to manage their Internet sites, they often look to Exodus. As proof of the company's dominance in its field, Fobes points to what happened when Intel decided to enter the "server farm" business.
"Naturally, you would think that Exodus's stock would drop dramatically, much the way other stocks do when Intel enters their markets, but that didn't happen," he declares. "The very day Intel announced its intentions, a lot of analysts came out and said, 'Wait a minute. Intel may be the 800-pound gorilla in the chip sector, but Exodus is the real expert in this area.' " Exodus's stock has hung tough around the $130 mark ever since.
Exodus and PMC-Sierra are just two of the companies that stand in the Internet wings as the Amazon.coms and the AOLs prance around on center stage. It's a role that suits them just fine. "PMC-Sierra doesn't care whether it's Lucent or Cisco, Siemens or Nortel Networks, or any of the other big networking companies that sell gear to the WorldComs and the Qwests that carry the traffic to the eBays and the Amazon.coms," says Kevin Landis, portfolio manager for FirstHand Funds. "All they care about is that as these companies need more networking equipment, they come to PMC for their specialized chips."
What attracts Landis to PMC-Sierra and its peers is that their earnings are growing faster than those of their customers, which in turn are growing faster than their customers' earnings. Amazon.com may have trouble turning a profit on ever-increasing sales, but not these companies. "To me, the safest way to play the Internet--and the way I've been playing it for the last three years--is to own the best technology providers to the Ciscos of the world," Landis states.
As examples, he rattles off a list of six companies that enable Internet traffic to travel more rapidly and surely across networks and onto the Web: Broadcom, a leader in providing circuits for the cable modem and digital set-top box markets, counts General Instrument and 3Com among its customers. The network processors made by MMC Networks are the silicon engines that are key to Cisco's products. Galileo Technology, based in Israel, designs highly integrated system-controller chips for routers, switches, and digital video equipment, among other technology, for firms like Bay Networks and Cisco.
TranSwitch supplies high-speed VLSI (very large scale integration) communications semiconductors and other integrated circuitry to Ascend Communications, Nortel, and Cisco. Vitesse Semiconductor develops high-speed integrated circuits for companies like IBM, Lucent, and Cisco. Applied Micro Circuits Corp., or AMCC, another designer of integrated circuits for telecommunications and complex data transmission, sells to customers like Nortel, 3Com, and Sun Microsystems.
According to Landis, Broadcom, MMC, and Galileo cater mostly to local area networks, or LANs, while Transwitch, Vitesse, and AMCC serve the wide area networks, or WANs. "If you send a job to your printer or an e-mail to the boss upstairs, you probably do it over a LAN. If that e-mail goes across the country, it is probably across a WAN," he explains. The WAN bone connects to the backbone, and the backbone connects to the Net, so any firm supplying chips to a company making network routers becomes an Internet play.
And anybody offering you a faster--much faster--connection to the Internet may also be your connection to big profits. The speedier your data transmission, the better the resolution of video on demand, and the faster graphic-intensive Web pages load--in short, the more enhanced your Internet experience. Landis thinks the company that can give you that enhancement is GlobeSpan. The June 1999 IPO makes chip sets that enable data to travel 150 times faster over a basic phone line than is possible with current modem technology, thus using valuable bandwidth more efficiently. "If you're looking at broadband Internet access to the home," he explains, "GlobeSpan is going to be a DSL [digital subscriber line] play, and Broadcom is the cable-modem play."
Paul Cook, portfolio manager at Munder NetNet Funds, likes companies that help Websites make sense of all the information they collect every time you click through their sites, a process called data mining (for companies that protect your privacy, see "A Secure Piece of Internet Action.) "There is an opportunity for those companies that are able to drill down into an Oracle database so that the company that actually collects the data can better profile their visitors and cross sell them as a result," he explains. For example, Amazon.com could pitch pet food to visitors who regularly search for books about dogs, or prescription drugs to those who spend their time reading self-help medical texts. Engage Technologies, a July 1999 IPO, does the mining that makes such cross selling possible for Raging Bull (a part-owner of Engage), MSNBC, and Dell Computer, among many others. "There are two winners here," says Cook, "the companies that actually use the data and companies like Engage."
Other winners are the bit players that supply essential technology to those golden financial Websites. Thomas F. Thurlow, portfolio manager for Thurlow Growth Fund, likes Knight/Trimark Group, a company that provides "best execution" services to broker-dealers and institutional clients. "While E*Trade and Ameritrade, and maybe Merrill, butt heads, Knight/Trimark works quietly behind the scenes, settling their trades," Thurlow reports. "I think it will benefit from the growth in on-line trading."
He also likes two other financial supporting players. Security First Technologies provides innovative backroom technology to Web-based banks. "First came NetB@nk and then TeleBank, and then you got a bunch of other banks that have some on-line operations on the side," Thurlow says. "It won't be long before banking on-line is the norm and ATMs are antiques. Security First will prosper from that." So will CheckFree, a company that turns your browser into a virtual mailbox for bills. Like Security First, it is hidden from the customer, willing to work behind the curtain to keep your finances in order and your bills paid, while your bank or credit union takes the bows.
Thurlow believes that eventually every company will have an Internet strategy of some sort--and need tech support to implement it. "I'm looking for the behind-the-scenes players that companies will turn to for help," he says. Among the providers of aid and comfort that new on-line ventures will turn to are Inktomi and InfoSpace.com. Inktomi offers one of the Internet's most robust search engines on a private-label basis to many of the world's top search sites, including HotBot and Yahoo!, Anzwers (in Australia), and RadarUOL (in Brazil). It has also developed a caching technology that stores heavily requested information--news of Princess Diana's death, for example--closer to the end user in local points of presence for faster access, while eliminating redundant traffic. (For more about Inktomi, see "Anatomy of a Buy,".)
InfoSpace conserves Internet energy as well, by aggregating yellow pages, maps, weather reports, and horoscopes. It allows portals like Lycos and Netscape and destination sites like the Wall Street Journal Interactive Edition to private-label the information and search capabilities. "Who knows which portal will be on top in two or three years?" Thurlow asks. "One thing for sure is that they will be using InfoSpace. There is not really anything else out there that competes with them."
All this talk of caching technology, broadband chips, and server storage may be boring to someone looking to retire on the next golden Internet IPO. But gold has its risks, and infrastructure has its rewards. Just ask Landis. He's done pretty well investing in companies that supply the picks and shovels to the Net. He made back 15 times his investment in PMC-Sierra in just under three years, and AMCC returned more than eight times in two and a half years. He laughs. "I can't pat myself on the back, because I would have done better to buy Yahoo! and Amazon," he says. "But I can pat myself on the stomach. I've had a much calmer existence."
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