Bloomberg Anywhere Remote Login Bloomberg Terminal Demo Request


Connecting decision makers to a dynamic network of information, people and ideas, Bloomberg quickly and accurately delivers business and financial information, news and insight around the world.


Financial Products

Enterprise Products


Customer Support

  • Americas

    +1 212 318 2000

  • Europe, Middle East, & Africa

    +44 20 7330 7500

  • Asia Pacific

    +65 6212 1000


Industry Products

Media Services

Follow Us

Bloomberg Customers

Ready for a Tech Renaissance?

By Steve Rosenbush After the stock market crash of 2000, you can't blame investors for being wary of tech. But after a few false starts, it appears that the sector is finally getting back on its feet. Tech companies are posting solid revenue and earnings growth, industry analysts are raising their forecasts for the coming year, and investors are coming back in a big way.

A powerful rally over the past few months has inspired a level of passion among investors and analysts not seen since tech stocks' short-lived climb in late 2003 that ran out of steam in early 2004. Here's why: The 80 tech outfits of the Standard & Poor's 500-stock index have gained 16% since they hit their low for the year on Apr. 20. The S&P 500 itself is up only 9.3%.

"One of the areas where there's real earnings growth is tech.... These things are starting to look good, and that hasn't been true in a long time," says Jeffrey Knight, head of Putnam Investment's global asset allocation team.

STRONGER THAN SUSPECTED? Tech profits have risen by a solid 14%, according to David Dropsey, an analyst with Thomson Financial. That's better than the 11% gain Wall Street expected a few weeks ago. And it's stronger than the 11.4% profit gain in the broader market. Tech companies such as IBM (IBM), Broadcom (BRCM), and Apple (AAPL) have all beaten earnings expectations by a considerable margin.

The latest market rally in tech stocks is based mostly on rising confidence about the domestic economy and growth markets abroad. And the outlook for the sector may actually be even stronger than the latest earnings reports suggest. For the first time in years, companies are mass-deploying new tech products. And the combination of healthy corporate balance sheets, a strong economy, and new products from wireless networking to Web-based software services could sustain solid growth for the rest of the decade.

Which sectors are likely to benefit most? The market for semiconductors and semiconductor-equipment makers, a leading indicator, is already sizzling. Communications equipment could be poised for the next big run-up. Capacity utilization in this sector, hardest hit from the tech crash, is still in the 60s, well below its historic norm. There's room to boost production.

PATCHY BENEFITS. And this time around, telecom is delivering a wide range of new products, such as wireless smart phones that can handle real time e-mail as well as music and video. "The convergence of wireless networks and content, such as pictures and music, is creating new business opportunities for us," says Padmasree Warrior, chief technology officer at wireless-equipment maker Motorola (MOT).

Some areas of the software industry will benefit, too. Goldman Sachs software analyst Rick Sherlund says the big enterprise-software makers -- Microsoft (MSFT), Oracle (ORCL), and SAP (SAP) -- will get a boost from accelerating growth. Computing platforms are being rewritten to support Web services enabled by new common industry standards. The last period of major changes to computing platforms, such as the replacement of mainframes with servers and the rise of the Internet, sparked huge periods of expansion.

But Sherlund warns that the growth won't be across the board. The latest Goldman Sachs survey of IT plans at large and midsize companies forecasts growth of just 2.2% in capital spending this year. That reflects the fact that gains may be concentrated among a handful of larger companies.

"SELECTIVE MARKET." "We're developing a market of haves and have-nots," Sherlund says. Smaller companies may have a hard time sharing in the growth, which is why the sector is a good candidate for consolidation.

This differentiation extends well beyond software. It will be a general theme of the tech expansion during the next few years. "Tech is back for the right companies in the right market at the right time," says Scott Kriens, chief technology officer of Internet equipment maker Juniper Networks (JUN). "This will be a very selective market, with winners and losers.

Still, corporations suddenly find they have little choice but to invest in technology if they want to maintain the earnings and productivity growth of the last few years. Businesses have lost some of the operating leverage they enjoyed a few years ago when they cut bloated costs, according to Bill Whyman, tech analyst with independent market researcher The Precursor Group.

GENERATING REVENUE. But now, employment is rising, and wages and compensation are moving higher, too. Energy costs are soaring, and borrowing costs are escalating, albeit slowly. Companies can't add revenue without a corresponding boost in labor and capital costs. "So corporations are starting to use technology to boost productivity, which is the basis for profit growth," Whyman says.

Companies are also starting to use technology as a way to create new markets and add revenue. They're looking to wireless networking, Web-based services, and high-speed fiber-optic networks to support new lines of business. SBC (SBC), Verizon (VZ), and BellSouth (BLS), for example, are building new fiber-optic phone lines that will support TV as well as Internet and phone services.

"It's not just about IT as a cost-center, but as a revenue center. IT may be back in the position of being something that can contribute to corporations at the strategic level," Sherlund says.

DANGERS TO THE COMEBACK. No one is suggesting that the market will return to the go-go years of the late 1990s, when revenue at many tech concerns soared 20% a year or more and stock valuations went through the roof. Whyman thinks that the sector's growth, which hit 12% in 2004 and leveled off to the high single digits this year, is about to rise modestly.

And some economic risks still pose a danger to the comeback. Paul McEntire, the chairman of Skye Investment Advisors, says he still worries that rising oil prices, high federal budget deficits, and Nasdaq's excessive valuations could hurt the sector.

Yet credible arguments can be made for why tech's expansion can be sustained. Capacity utilization is running below historic averages, according to Whyman. After hitting an all-time high of 93% in 2000, the sector's capacity utilization drooped to a low of 58%. "It was the first-ever tech depression," Whyman says.

Utilization has bounced back to 72%, but it's still below the historic norm of 77%. Whyman thinks it should continue to climb another few percentage points, which would mean that IT producers will get even busier as business picks up.

Here are a few more good reasons for tech providers to cheer.

Better Balance Sheets. The sector's financial profile is much healthier than it was during the boom. In the late '90s, high capital-spending levels forced companies to use their cash. But capital spending is rising at a slower pace now, and corporate cash levels are at record highs (see BW, 7/18/05, "Too Much Cash, Too Little Innovation").

Global Growth. Economic expansion is strong, which means that companies have the wherewithal to invest in technology. Action Economics strategist Michael Wallace says he expects gross domestic product to rise from a current level of 3.4% in the second quarter to 5% in the third quarter, and 4.2% in the fourth.

And the growth of markets in China and India should help the industry sustain its momentum through the end of the decade, says Edward Yardeni, chief investment strategist at money manager Oak Associates (see BW Online, 7/27/05, "China's Global Urge to Merge"). For the moment, Europe is relatively weak. But overall, global growth is a clear plus.

Tech Regulation Is Less of an Obstacle. Telecom rules that forced the Bells to share their networks with rivals discouraged investment, says John Rutledge, a former White House economic adviser. Those rules have been overturned, and now the Bells are investing more money in broadband, he says. That helps the entire tech sector, which supplies chips and other components.

Given the trauma of the past few years, the prospect of a strong but competitive market is a vast improvement. "With a knack for reinventing itself, the tech industry is a growth engine once again," Action Economics' Wallace wrote in a recent report. That should be good news for the economy as a whole.

Rosenbush is a senior writer for BusinessWeek Online, based in New York

blog comments powered by Disqus