It seems that no matter what the market does, investors still want to see which old tech stock is the one to own for the year ahead. Everyone still remembers the massive growth of the late 1990’s despite what happened in 2000 to 2002 and the market malaise of 2008. We are going to still pass on a thought to you which many will consider heresy. Cisco Systems Inc. (NASDAQ: CSCO), Dell Inc. (NASDAQ: DELL), Intel Corp. (NASDAQ: INTC), Microsoft Corp. (NASDAQ: MSFT), and Oracle Corp. (NASDAQ: ORCL) have all evolved to the point that they may soon become no different than Grandma Furgeson’s old fashioned utility stock she used to invest in.
We have made this argument many many times. But for 2009 we want you to embrace the notion that many of your old technology leadership companies have now become utilities or appliances. While there are still many outlying factors that are different, this is how these old leaders are evolving. That evolution is not the death of the companies. Not at all. But it will require a rethinking of how they need to be analyzed for the years ahead.
Utilities generally thrive from population growth and likely enjoyeither monopolies or highly dominant positions. They haverecurring clients who have to use their services whether they want toor not. Living without modern day technology via computing andcommunications would be no different than calling your electric &gas company and telling them you are going back to fire wood andcandles. They’d laugh and tell you they will be there next week ornext year when come back to your senses. The only difference is thatmany of these tech stocks as the “new utilities” have refused to paysteady Eddie dividends that Ma Furgeson would want. For now….
The NASDAQ 100 fell a whopping 41.9% in 2008, which means that it gaveback all of the gains of 2004 to 2007. We are not going to make anymarket calls just yet for 2009. Technology spending is goingto be capped by the recession, and new spending trends are migrating to what seems to be either for thebudget-oriented or those looking for long-lasting computers and software.
Cisco Systems (NASDAQ: CSCO) is the utility that dominates the data andcommunications equipment market. If it is digital data or audio datatraveling anywhere from your phone or your PC, chances are that Cisco switches, hubs, and routers are involved. The former promise of growth has now been scuttled because ofour great recession. CEO John Chambers now even refers to its as thetoughest environment he’s seen. There will be growth here again. Itscorporate telecommunications products and its Telepresence will winmore business as replacements to business travel. But again, thegrowth is currently scuttled. The company even tells you this right upfront. Cisco and other backbone tech companies have said that corporations, governments, and communicationsproviders are demanding that the new technology spending is somethingthat will not be obsolete in a few years now. The only differencebetween this utility and Ma Furgeson’s utility is that there is nodividend. The company at some point will have to decide what to do with its cash.It cannot make a $20 billion acquisition unless it goes in a newdirection. At roughly 12-times earnings and with almost $30 billion onits books, there are lots of opportunities for the utility to send cashout. And when that dividend (if it comes), then Ma Furgeson will tellyou it is the utility stock she wants to own.
Dell Inc. (NASDAQ: DELL) went in an entirely different direction than itsarch rival of H-P and former rival IBM. It stayed in the PC businessrather than diversified into services. Unfortunately, the PC businessas an entire business sector has matured and is now just an appliancebusiness. Who do you know in business that no longer has a work PC?Who do you know that either does not have a home computer or a notebookPC? And now comes the netbook for the travelers who need slightlybetter access than a smartphone. Throw in a recession. Now either goto Best Buy or log on to Dell.com. You will notice a bifurcated PCmarket. It is either high-end computing, or it is the sub-$500 PC.And now the sub-$500 PC is becoming mainstream. Even Apple has gonewell into the sub-$1,000 market, and is going to have go far deeperthan that. Growth is elusive.
Thecompany has also spent too much on buybacks despite its cost cutting.It is making new management changes by getting rid of two outsiders andpromoting from within, which many believe is a signal that Michael Dellis reconsidering his old turnaround (again). Analysts are no longerlooking for earnings growth in the year ahead, but with nearly $10billion in cash and at under 10-times earnings this year and next itwill be able to fund dividends if it chooses to go the route of autility. If Dell starts paying out a serious dividend that it sayswill be a steady and high one, then Ma Furgeson will tell you she’down it.
Intel Corp. (NASDAQ: INTC) is in the same boat that Dell is inas far as the PC market is concerned, although it at least enjoys amassive market leadership position. Sure there is AMD, but Intel isjust like Beck’s song… “Where it’s at!”. All AMD does is insure that Intel will have to sell better and better processorsfor lower and lower prices. As goes the PC market, so goes Intel. Theprocessor power that is available for even the sub-$500 PC is now morepower than 90% of the user market’s most basic needs. Intel is the brainbehind your PC that is probably allowing you to read this and do othertasks right now. Ma Furgeson would tell you it is a great utility. Atalmost 14-times earnings and with declining earnings now expected, thefocus now may be more on the $15+ billion cash arsenal. Its dividendis already north of 3% today, and it is a DJIA component.
Microsoft Corp. (NASDAQ: MSFT) at least has many other businessesbesides providing operating systems for PC’s. But guess where itsmainstay still reside? It sells variations of Windows and Office, andthat is where that massive cash arsenal that keeps accruing comesfrom. This move into cheaper and cheaper computing may actually beplaying itself into Microsoft’s favor.
Apple is a premium product nodoubt and it has brand loyalists who feel far safer with its O/Svariations. But guess what? With the virtualization program byParallels Mac users can still run Windows. We will go ahead and takethe hit from the Linux crowd with this statement: Linux just hasn’tmade the huge dent many expected. If you go buy a Linux PC from any retailer thefirst thing the salesperson (assuming they are one that can speak) willwarn you about is that many functions or programs you currently use maynot be compatible. It is almost as if Microsoft has factored in asubliminal tip to everyone for selling and buying a Windows program forthe PC. And as far as the Office suites, well again this is the othercomponent that keeps the monster rolling. Can variations of Office bereplaced in time? Sure. Sun, Google, Corel, and others are working onthat now. And they have been working on that forever. Microsoft stillretains the lead here. But the market has matured. Its P/E is closeto 10, it yields nearly 3%, and it holds nearly $25 billion in cash.Ma Furgeson would tell you it is a great utility and she’d own thisDJIA component for that.
What about Oracle Corp. (NASDAQ: ORCL)? Larry Ellison probably feels alot like Alexander the Great after conquering the last bastion of theknown world. You rule and dominate, you still have some far reachingcompetition and know of many foreign lands that are not really on yourown maps. But as far as what is known, it is mostly controlled.Oracle has acquired just about every small rival that it wants orneeds, and SAP has never regained its lost ground. Enterprisecomputing is dominated by Oracle. But how many new businesses arethere that are massive? How many new governments are there? OK, shootme. The answer is many, but the budgets are now being constrainedglobally. Is that going to change in 2009? Oracle’s enterprisedominance will likely stay, but the recession will likely keep this onefeeling like a utility stock. Ellison did say he would try to use theweak market to make acquisitions. But again, these are now bolt-ondeals or enhancement deals. The enterprise is now established. Atabout 13-times forward earnings and with its $10+ billion cash arsenalit could be a major dividend payer if it wants to. Ma Furgeson wouldtell you Larry Ellison runs a great utility after that.
This is not the demise of Tech Stocks. This is merely the evolution oftech and computing. It is certainly no insult to these companies, atleast not in most cases. The markets have matured and for thenear-future the old great growth stories have been interrupted. If therecession goes for more than another year then these companies willhave little choice but to start deploying their cash via dividends. Goask these dominant companies how well their share buybacks havehelped. We all eventually invest like Ma Furgeson. The onlydifference is that we no longer clip dividend coupons off of sharecertificates and we no longer receive the dividend checks in the mail.
We did not include any DRAM companies in here for a host of reasons.But in that case we argue that DRAM (and in most current cases, Flash)is just a commodity business. The only difference between DRAM as acommodity and grain or gold is that DRAM prices seem to only go lowerand lower.
Maybe the market will even eventually start using GAAP accounting forearnings rather than the pro forma numbers. The difference betweenGAAP earnings and non-GAAP earnings at most utilities is not thatgreat. The difference in the two at tech “utilities” is still ratherlarge due to stock options and other “one-time” expenses. If and when that changes, maybe even Warren Buffett or hiseventual replacement will start to embrace these new utilities. Atleast no one uses EBITDA when referring to these anymore.
Jon C. Ogg
January 5, 2009