PCs Showing Surprising Strength

Electronic News, April 26, 1999 by Arik Hesseldahl

IBM, Gateway PC Shipments Surge

Armonk, N.Y. -- Rumors of the death of the PC industry seem to have been greatly exaggerated.

Both IBM and Gateway Inc. last week reported strong first quarter results that were propelled by a global surge in PC shipments. IBM said its PC revenue jumped 48 percent in the first quarter, while Gateway reported its PC unit shipments grew by 42 percent.

Both companies' earnings beat Wall Street estimates. IBM's report spurred a rally Thursday on both the NYSE and the NASDAQ, pushing the Dow Jones industrial average to a record close.

The strong PC shipment announcements come just a few weeks after Louis Gerstner, IBM chairman and chief executive officer, proclaimed, "the era of the PC is over." IBM's PC group has been under a cloud since it reported a nearly $1 billion in loss for 1998, which -- combined with Gerstner's statement -- fueled speculation that it might abandon part of its PC operations.

The PC industry as a whole has been rocked in recent weeks by reports of less-than-inspiring results from PC and PC-related companies. The world's largest PC company, Compaq Computer Corp., last week reported profits that were half of what analysts expected (see story page 44). Microprocessor giant Intel Corp. and competitor Advanced Micro Devices Inc. both reported disappointing first quarter results two weeks ago.

These reports fueled a sense of gloom and doom in the PC market, still the main driver of sales for the semiconductor industry. However, by Thursday, the outlook of the PC industry seemed to have brightened somewhat in light of the news from IBM and Gateway.

The improved outlook caused some analysts to observe that recent talk of the end of the PC era may have been premature.

"This is what mid-level managers fear-that people will listen to the CEO and quote him," said Aberdeen Group analyst Bob Sakakeeny, referring to Gerstner's PC eulogy.

Still, many analysts believe that the heyday of the PC industry has passed.

PC unit shipments will grow at a strong compound annual growth rate of 15 percent from 1998 to 2002, according to the market research firm Dataquest, San Jose, Calif. However, much of that growth is expected to be from lower-value systems sold to homes and to developing countries. This will cause revenues to rise more slowly than unit shipments, decreasing future profitability for PC makers, Dataquest predicts.

This phenomenon can already be seen in Gateway's results for the first quarter. Gateway's Unit sales grew at a much faster rate than revenue as average selling prices for its PCs fell.

IBM, based here, last week reported first quarter net income of $1.47 billion, or $1.55 diluted earnings per share (EPS), up from $1.04 billion, or $1.06, in the same quarter of 1998. Wall Street had been expecting $1.41 per share. Revenues grew 15 percent to $20.3 billion.

Despite the positive news on the PC front for IBM, there was still a fly in the ointment. PC revenue jumped to $3.5 billion, up 48 percent. But IBM's PC unit also posted a pretax loss of $89 million and reported a decline in gross margins of nearly 1 percent.

IBM reported a turnaround in Asia, racking up 20 percent growth to $3.5 billion. Sales in the Americas jumped 13 percent to $8.8 billion while Middle Eastern and African sales grew 20 percent to $6.3 billion.

Services and software led the way, accounting for 60 percent of gross profits in the quarter. Gerstner said services is "clearly the fastest- growing portion of the information technology industry and we continue to extend our leadership position each quarter."

"The real money these days is in services and software," Sakakeeny said. "That is where all the companies that are doing well these days have been moving."

Hardware made a strong comeback. Total hardware revenues were $8.6 billion, up 17 percent from the first quarter a year ago. Revenues from personal systems increased significantly, IBM said. Within servers, System/390 revenues increased while RS/6000 and AS/400 revenues declined.

Storage revenues gained and microelectronics revenues declined. In the prior quarter a shortfall in that segment had triggered a negative stock market reaction. Not this time. Total hardware revenues rose 17 percent from the first quarter of last year, with revenues from personal systems up significantly.

At the same time, growth in hard disk drives was offset by weakness in memory chips.

Total operating income rose 37.9 percent.

IBM shares rose $2.13 to close at $171.88 on the New York Stock Exchange last Wednesday when the report was issued. After hours trading led to another surge in share price. On Thursday, IBM shares surged again, closing at $194.5.

Gateway, North Sioux City, SD, reported first quarter net income of $99.6 million, or 62 cents per share, up 31 percent from $75.9 million in the first quarter of 1999. Stock analysts had predicted Gateway would earn only 60 cents per share for the quarter. Revenues were $2.1 billion, up 22 percent from $1.7 billion in the first quarter of 1998.