How Low Can PC Prices Go?

As consumers cut back and the popularity of low-cost netbooks grows, the computer industry could see a sharp drop in prices

When Jim Wahl bought his first computer back in 1995, it cost $2,500. In December, when the Dallas acquisitions manager bought a Hewlett-Packard (HPQ) laptop for his daughter, he paid just $600. "[In the past], it was a lot bigger decision," Wahl says. "But now, the tires on my car cost more than my laptop."

Personal computer prices tend to fall over time, of course. But in the past few months, computer prices have plummeted much more sharply than the usual 5% yearly declines. In the fourth quarter of 2008 alone, the average personal computer's selling price dropped 14.3%, according to consultancy IDC. Only once in the past 15 years have PC prices declined at a faster rate—in the fourth quarter of 2001, as the Internet bubble burst, when they dipped 14.5%, according to IDC.

And the recent slide may be a precursor to sharper declines ahead. As consumers cut back amid the global economic downturn and the popularity of low-cost computers known as netbooks rises, the computer industry could see a big drop in prices. "We are not done yet," says Rob Enderle, president of consultant Enderle Group. "The drop is going to continue through the year." Matthew Wilkins, an analyst with researcher iSuppli, predicts that average laptop prices could fall a further 10% in 2009, while desktop prices drop 15%.

Netbooks Cost as Little as $250

The accelerating price declines could change the dynamics of the tech industry. For consumers and corporate customers, the trend is overwhelmingly favorable. They get more computing capability than ever before, often for less than $1,000 and, in the case of netbooks, for as little as $250.

But for tech companies, the squeeze is painful. Computer makers such as Dell (DELL) and Lenovo are struggling as customers hunt hard for bargains. Manufacturers of components like memory chips and monitors are feeling the pinch, too. Even Intel (INTC) and Microsoft (MSFT), the two most powerful companies in the personal computer business, are making strategic adjustments to address the new realities of the business. The recession is certainly a major factor in the PC price declines, and, as rough as the economy looks now, it will recover at some point. What may not change, however, is the growing importance of netbooks. Manufacturers like Asus and Acer have been rolling out the stripped-down devices, which typically run $300 to $600, over the past year. And as consumers have scooped the products up, Hewlett-Packard and other top manufacturers have weighed in with their own netbooks. Even Apple (AAPL) is reportedly considering coming out with one of the devices. The number of netbooks shipped this year is expected to double, to 20 million, according to IDC, reaching 15% of all portable PC shipments.

Fears of Cannibalization

The adoption of netbooks presents a challenge for the established players in technology. Companies such as HP and Microsoft want to get in on the growth in netbook sales, but they want to avoid cannibalizing their existing businesses, which tend to be more profitable. David Daoud, research manager at IDC, estimates that PC makers pay $15 to $25 per netbook for Microsoft's Windows operating system, less than half the price of the company's cheapest version of Windows XP for laptops. Citigroup (C) analyst Brent Thill called netbooks a "troublesome trend" for the software giant.

While netbooks have always been cheap, they're getting larger and more powerful, too. For as little as $360, a nine-inch Asus Eee PC 901 comes with built-in Wi-Fi connectivity, a camera, and easy uploads to photo-sharing site Flickr. Netbooks have crept up in size from the original seven- or nine-inch screens to 12 inches, bumping right up against traditional notebooks, even though they can cost one third the price. "What's concerning here is, [netbooks] could potentially reset consumer expectations of what you pay for a notebook," says Richard Shim, research manager at IDC.

Chipmaker Freescale is working with manufacturers on computers costing as little as $199, which will make their debut later this year. On Feb. 16, another component supplier, Nvidia, announced its semiconductors will power mini-computers costing less than $100 and able to run high-definition video. While some computer makers are skeptical anyone can deliver a respectable product at that price, Nvidia executives say they're determined to do so. "Our belief is, you'll be able to build a very high-capability device," says Mike Rayfield, general manager for Nvidia's mobile business. "You can't go much cheaper than $99."

Lower Prices Could Rev Up Demand

Changes in distribution could further erode consumer perceptions of what a computer is worth. Wireless carriers in Europe and the U.S. are starting to offer netbooks to their customers for little money up front or even for free with a monthly wireless data contract. Retailer RadioShack already sells an Acer Aspire One netbook with a two-year AT&T (T) contract for $150. That's $50 less than the cheapest Apple iPhone from AT&T.

On the plus side, cheaper PCs could rev up demand. "There's definitely price elasticity and an opportunity to sell more units to new customers," says Ezra Gottheil, an analyst at Technology Business Research. That's why iSuppli predicts that, despite the downturn, portable computer shipments should grow 12% this year, to 156 million units globally.

At this point, some PC makers are happy to be able to sell anything, even cheaper netbooks, that have to make up in volume for slow sales of more expensive PCs. CTL in Portland, Ore., which sells about 100,000 computers a year, expects netbooks to account for half of its sales this year, up from 30% in 2008. "They are just an easier sale [right now]," says John Tucker, a product manager at the company. "You can't fight it, you've got to adapt."

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