To: Lizzie Tudor who wrote (10965 ) 4/1/2002 2:07:18 PM From: Bill Harmond Respond to Tech vs Non-Tech : Perhaps no two stocks offer a more symbolic view of the market's affinity for tech vs non-tech than Cisco (CSCO 17.07 +0.14) and Sysco (SYY 29.32 -0.50). The former is of course a tech bellwether, while the latter is a leading distributor of food and related products to the food service industry. As fate would have it, Cisco was upgraded by Banc of America today, while Sysco was downgraded by Merrill Lynch. Does this point to a turn in tech's fortunes? Though anything can happen in the coming few weeks, we have our doubts that these ratings changes will mark a real turning point for tech and non-tech - valuations explain why. Cisco trades at a forward P/E on FY03 estimates of 36.3, while Sysco's FY03 P/E is 25.3. The valuation gap between Cisco and Sysco has narrowed considerably; during the tech bubble Cisco routinely traded at forward P/Es in the 60-70 range while Sysco's valuation was still in the 20-30 range. The valuation gap is of course tied to the growth gap. It has been and still is widely perceived that tech growth will exceed non-tech, even non-tech at an exceptional company like Sysco. Current First Call consensus estimates for 5-year earnings growth are 25% for Cisco and 15% for Sysco. Though these Cisco numbers have been ratcheted down over the past couple years, they are still extraordinary. What exactly will propel Cisco's growth rate to 25% per year for five years? Unless we see another tech bubble, that growth estimate is almost certainly overstated. Even if we ignore the possibility of another downturn in IT spending sometime in the next five years (as the analysts quite clearly do), it is difficult to arrive at 25% annual earnings growth. When IT spending growth does resume, a pace of 10% would be quite strong, particularly following the recent bubble. What these long-term Cisco growth rate forecasts and valuation premium imply is that the market's view of technology is still excessively optimistic. Note that at the outset of 1998, the valuation and growth estimate gap was even more extreme, yet over the succeeding five years, Cisco EPS growth has been roughly 8% annually (that's using the generous pro forma numbers and full year FY02 estimates) and Sysco's has been 28% (using GAAP). Today's Cisco upgrade and Sysco downgrade look more like an indication that tech is still too richly valued than as an indication that the tech sector's underperformance has come to an end. - Greg Jones, Briefing.com
