News from WSJ,
The Wall Street Journal Interactive Edition -- October 23, 1997
Impact of Cheaper PCs Is Seen As Boon for Some Tech Stocks
By SUSAN PULLIAM
Staff Reporter of THE WALL STREET JOURNAL
Main Street may be cheering this year's sudden surge in
sales of personal computers priced below $1,000. But Wall
Street, so far, has only applauded politely.
What gives? Any time prices start falling, investors get
ready to run for the exits because profit margins usually
start falling as well. But in the case of personal computers,
some investors and analysts believe lower prices could
actually be good news for some technology shares.
The silver lining they see is that the lower prices will
expand the market for PCs enough to offset the lower
profits on each machine. Until just recently, the percentage
of U.S. households that own a computer has been holding
steady at around 40%. Now some analysts say that figure
could grow to 60% over the next several years.
The impact of the $999 PC, known on Wall Street as
"sub-zeros" after the fancy refrigerators, seems likely to
vary widely among the biggest high-tech stocks.
Microsoft, for one, shapes up as a beneficiary because it
receives a flat $45 for each computer sold, no matter how
low-priced, using its industry-standard operating system.
Ditto Compaq Computer, first on the scene with a
powerful $999 machine, which it began selling last
February and which helped boost its unit sales growth in
the third quarter by 54%.
Intel, on the other hand, which has been trying to hold the
line on microprocessor prices, could lose big, at least
temporarily. Instead of Intel's well-known brand, most of
the less expensive models contain cheaper chips from its
rivals Advanced Micro Devices and National
Semiconductor's Cyrix unit.
"In the long run, I believe this is good for everyone. I even
think it's neutral for Intel. But it's going to cause chaos in
the market for technology shares, certainly among
investors who have to reassess the implications for the
industry," says Drew Peck, an Intel analyst with Cowen &
Co.
The cheaper personal-computer models may have hit the
shelves earlier this year, but Wall Street began taking a
harder look last week when their explosion in popularity
became obvious. On Tuesday, Intel reported third-quarter
results that fell short of Wall Street's estimates, as a result
of price competition brought on by the cheaper machines.
Since then its shares have slid from around 91 to
Wednesday's close of $83.9375, down $1.8125.
Two days later, Compaq reported that its third-quarter
unit sales jumped 54%, in part because of soaring sales of
its $999 Presario 4505. Its shares got hit because of overall
nervousness and a run-up in the stock before its earnings
were released. But since then, its shares have managed to
hold steady.
If sales so far this year continue at the same pace, about
five million of the new cheaper models will be sold by year
end, according to estimates by ABN Amro analyst, David
Wu. That would be about 40% of the U.S. retail computer
market units.
No technology company is set to take advantage of the
new trend like Compaq. "Of all the PC companies selling
these machines, Compaq has the strongest momentum.
They have been aggressive on pricing and advertising and
they argue their margins are OK," says Hambrecht &
Quist analyst Todd Bakar.
Another obvious beneficiary of all
these new low-priced PCs could be
Internet stocks -- assuming more
PCs equals more net surfing -- such
as America Online, Yahoo! and
Excite, says one high-tech mutual
fund manager. Modem companies
such as the U.S. Robotics unit of
3Com may also be helped.
But don't rush out to buy any
high-tech stock based on the $999
trend, alone, analysts caution.
Morgan Stanley's Mary Meeker said
last week in a note to clients that
business couldn't get much better for
Compaq. But she concedes she is
"flinching" in her conviction about
her "outperform" rating on Compaq
because its shares are up 150% so far
this year. What's more, she says,
Compaq had to turn up unit sales
growth of 56% to turn out revenue
growth of only 31%.
Some investors are waiting for the
dust to settle before they make any
bets on the cheap PC market. Lots of
people think PC prices will have to
fall really low -- to $300 or so --
before penetration into U.S. homes
will really take off. At those prices,
analysts say, no computer maker would win. And if the
cheaper models spread to the U.S. corporate market, some
say the industry's profits could really tumble.
Others, however, see at least short-term benefits. "Clearly,
this is coming on stronger than people expected," says Ed
Petner of Lynch & Mayer. "I think it will lead to a great
Christmas for some tech companies," he says, including
Microsoft.
One surprising aspect of the $999 trend is that only
Compaq seems to have anticipated the demand.
International Business Machines doesn't even have a
model, and last week said it will restructure its PC division
to respond to the trend.
"IBM, at least initially, missed this wave and they are
rethinking their strategy," says Hambrecht & Quist's Mr.
Bakar. Dell Computer and Gateway 2000 also have yet to
respond. Even Hewlett Packard, which has usually excelled
in the low end of the market, has been slow out of the
gate, just recently launching its sub-$1,000 product in
recent weeks.
To be sure, personal computers below $1,000 existed
before, in a price range Packard Bell dominated. What has
changed, however, is that Compaq's Presario model is a
better quality, more powerful machine than earlier cheap
models. "At $999 you can get a decent computer now. At
$1,500 you get a really good box," says ABN Amro's Mr.
Wu.
Sales have been strong for PC vendors such as Gateway
2000 in the $1,000-to-$2,000 range for a while. But the
emergence of the under-$1,000 market signals a changing
trade-off between higher prices and extra processing
power.
Though most component prices have been falling for
years, computer prices had stayed relatively steady, partly
because Intel has kept rolling out new microprocessor
generations whose extra power helped justify prices $2,000
and above.
But that seems to have changed with Intel's Pentium II,
says Cowen's Mr. Peck. While Pentium II costs vendors
$500 or more, Cyrix has a chip powerful enough to make
most users, such as net surfers, happy for $79. "The
performance for Pentium II isn't dramatically higher than
for Pentium," Mr. Peck says.
Other suppliers could feel the pinch of the $999 market as
well, analysts say, such as disk-drive makers such as
Seagate Technology and Western Digital.
But few companies that look like big losers will sit still and
let the $999 market get away. "If Intel planned to sit on its
hands, National Semiconductor and AMD would make out
great. But Intel has sent lots of signs that it won't sit on its
hands." In that event, he says, Intel will prevail.
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