Santa Brought a Lot of Disk Drives

The fourth quarter was a gift for the data storage sector

For a few brief days in early January, it felt like the good old days in one corner of the battered tech industry: storage. Already this month, four companies that make storage systems have said they would beat fourth-quarter estimates. EMC said sales would surpass analysts' expectations by 18%, networking gear maker McDATA said its revenues were running 20% higher than expected, and StorageTek boosted earnings projections by 25% for the quarter. And on Jan. 9, drivemaker Seagate Technology Holdings posted a 60% profits gain, to $198 million, on sales up 6% in its first quarter as a public company.

So is it time to break out the party hats? Not quite yet. While spending in storage is often a leading indicator for the whole tech sector, it doesn't look as if the fourth-quarter bonanza signals a turn. "One good month does not make a trend," says Dave Roberson, president of Hitachi Data Systems Corp.

What gives? The jump was largely due to a yearend spending spree. Despite the slowdown in the economy, the need for storage capacity has continued to soar. Businesses and consumers generate ever-growing loads of e-mail and other digital fare that needs to be stored. So businesses that found themselves with a little money left in their tech budgets at the end of the year funneled most of it into storage gear.

Problem is, storage companies typically suffer a seasonal dip in sales in the first quarter, so those gains won't last. Overall, tech researcher Interactive Data Corp. looks for storage sales to fall 3.7% in 2003, to $12.8 billion.

That's not as bad as it sounds, coming off of 2002's 18.9% drop. Unlike other tech markets, demand for storage has been strong throughout the downturn. CIOs surveyed by Merrill Lynch & Co. say tech budgets should rise only 1% in 2003, but they cite storage as the top area where they expect spending to increase. For the industry, the problem is the cost of a megabyte of storage drops roughly 40% a year. That didn't hurt in the late 1990s, when demand zoomed 80% or more annually. But now it's barely enough to compensate for the falling prices, say analysts.

Moreover, the industry's surprisingly strong fourth quarter suggests storage may still turn out to be one of tech's safest harbors in the months to come. Companies are focusing on finding more efficient ways to use the drives they have. That creates brisk demand for new approaches, such as networks that tie storage gear together. While expensive, the networks give companies the flexibility to move data among machines and find underused drives. In some cases, companies have raised how much they can store on back-office machines from 35% to 60%.

That could drive more demand for storage and maybe other types of technology. As companies raise utilization to 80% or so, they'll have no choice but to buy more gear. "You can only fill up the glass to a certain point before it starts to overflow," says Storage Technology Corp. CFO Robert S. Kocol. And when storage's cup runneth over, the rest of the sector may not be far behind.

By Peter Burrows in San Mateo, Calif.

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