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Technology Stocks : ICO (Inacom) LeadingTech Mgmt Services Co -- Ignore unavailable to you. Want to Upgrade?

To: Chris Baker who wrote (200)	5/8/1998 11:03:00 AM
From: Joe Dancy	Read Replies (1) \| Respond to of 274

Here's an advance copy of our Y2K report that we'll load on our website, which mentions ICO as an undervalued Y2K play: Joe ***** THE YEAR 2000 PROBLEM: A TORNADO OR LIGHT RAINSTORM? The Federal Reserve released a report estimating the economic impact of the Year 2000 (Y2K) problem last week (http://members.aol.com/lsginvest/art202). The Y2K problem was created when programmers only used two digits to represent the date - assuming that the software would be replaced or upgraded by the year 2000. While computer hardware has been upgraded continually by many users, much of the software has not been replaced or rewritten to alleviate the date issue. When the year hits 2000, the date becomes "00." The Fed estimates that the Y2K problems will cost U.S. business around $50 billion. Fortune 500 companies alone will spend more than $11 billion. Worldwide costs will be around $300 billion. These cost estimates do not include capital spending for hardware and software upgrades and replacements, so the total costs will be much higher. Federal Reserve: No Y2K Recession Fears of a recession induced by the year 2000 overblown according to a Federal Reserve official, but the Fed concedes that the Y2K problem will hurt labor productivity and could shave a tenth of a percentage point off annual economic growth in the U.S. in the next two years. Some sectors face larger problems than others: the Fed noted that electric and telecommunication industries still face significant issues since one Y2K noncompliant company could affect other interconnected firms. Most telecom carriers hope to complete year 2000 efforts by the end of 1998 to leave time for industry wide testing next year. Due to the complexity of the problem "every sector of the communications industry" is potentially vulnerable. One problem in studying the issue is that many companies lack information, or are not publicly disclosing, the extent of their problems. Of 225 companies that have disclosed Y2K costs in SEC filings, the projected total costs of each company will be around $27 million. Among electric and telecom companies 32% did not disclose anything about their year 2000 project status, and 22% are running late according to SEC records. Because of the lack of information on the extent of the problem no-one knows how many potential glitches abound in the millions of lines of software that are in use. If problems exist, the software in many cases must be rewritten or replaced. Interconnected systems that rely on each other are especially vulnerable to this problem. The use of some credit cards expiring in "00" already have been rejected by automated financial data systems. In the power industry many plants have just begun taking inventory on the embedded systems that control operations and are finding hundreds of them, many of them unique and all highly dependent upon interfaces with other systems according to the Fed. Fixing a plant's embedded systems could require an unscheduled shutdown, costing millions of dollars a day in lost revenue. Other Experts Are Less Optimistic About Y2K Impact Others are less optimistic about the impact of the Y2K problem. Economist Edward Yardeni of Deutsche Morgan Grenfell rates the odds that it will trigger a deep recession at 60%. The computer problem wields the potential to trigger a recession by the second half of 1999 by "corrupting the quality and flow of information through financial markets, interrupting delivery of utilities and halting production on factory floors." (See: members.aol.com. Some have compared it to the interruption of oil supplies in the early 1970's, and expect to see a chain reaction ripple across the economy. Failure of interconnected computers could lead to problems in the banking industry, with money transfers, financial records, personnel files, airline reservations, medical records, and with telephone and electric grids. For example, in 1990 a few bad lines of bad software caused AT&T's long-distance system to crash for nine hours. Two recent independent surveys found few skeptics of the Y2K crisis. Among the projects managers surveyed by the Information Technology Association of America 44% reported that they have already experienced year 2000 problems in their operations, and 22% expect to see problems by the first quarter of 1999. A further 17% are expecting trouble in the fourth quarter of 1999. (See: members.aol.com A similar bleak outlook was reported by members of the "Y2K Group," composed of 200 project managers at federal agencies, the armed forces, and businesses. Asked to rate the seriousness of the year 2000 problem 83% said they expect the Dow Jones Industrial Average to fall 20%, more than 50% said the crisis will cause at least a mild recession, 33% predicted there will be a strong recession, and 11% said they expect a depression. One point experts appear to agree on is that the U.S. is well ahead of other countries in identifying and correcting the problem - which leads many to expect the Y2K impact will be more severe in Europe, Japan, and elsewhere. In a recent Washington Post article James Glassman notes that two positions have evolved on this issue: "reassuring complacency (fixes will be made); or hysterical alarmism (the world will collapse)." Some experts taking the alarmist view are arguing that households should stockpile foodstuffs and water, withdraw all money from banking accounts, and should secure a fresh supply of batteries and lanterns to cope with the massive economic disruptions that lie ahead. Others argue that since we have had several years notice to correct this problem the worst disruptions will be avoided. It's interesting that Glassman states he leans "toward alarmism simply because all the specialists I contacted last week -- people actually involved with fixing the computers -- are alarmed." (See: members.aol.com Investment Implications The lack of complete information makes it difficult to determine how severe the Y2K impact will be on the U.S. and global economy. What is clear is that the problem will reduce worldwide economic growth to some extent as resources are diverted to address the problem. Whether the problem causes a recession as the problem ripples through the economy - or worse - is anyone's guess. The Fed study, and the industry surveys, indicate that billions will be spent in consulting fees, software, and hardware to fix the problem. Many companies have already begun to replace equipment with new hardware and software - an easier fix in many cases instead of attempting expensive patchwork repairs that may or may not be effective. The problem is also a global problem, so these expenditures will be much larger than just the U.S. market. Numerous Y2K and hardware/software companies should benefit from the problem, although many are currently at valuation levels well above market averages. Lone Star Y2K Model Portfolio Play The Lone Star play on the Y2K problem is an indirect one through Model Portfolio company Inacom (ICO). See: members.aol.com ICO is a marketer and distributor of technology products and services. Service revenues have accounted for less than 10% of the company's revenue and over 50% of the earnings, and management expects the percent of service revenues to double over the next five years which will increase margins. Part of the company's strategy is to take advantage of the increasing Y2K corporate technology support demands, which offers ICO an excellent opportunity to expand support to current and potential clients. ICO recently reported revenue of $1 billion for the first quarter, a 19% increase from year earlier levels. Service revenue increased 57.6%, communications revenues grew by 26.9%, and hardware revenues increased 16.3%. First quarter earnings were $0.54 a share, a 29% increase from levels of a year ago ($0.42 cents a share). Based on the consensus earnings estimates for the fiscal year ending December, 1998, the forward price-earnings ratio is 14.1. With a consensus estimated five year earnings growth rate of 18.5% annually, the estimated growth rate/forward price-earnings ratio is a strong 1.3. ICO has a price- to-book ratio of 1.6 and a market capitalization of around $540 million - a small cap. Analysts like this company - eight have a "strong buy" and three have "buy" recommendations. We continue to like ICO also - and think that service revenues generated by the Y2K problem will enhance margins and earnings for long term shareholders.