The Pc Boom--And Now Bust?

Few things better define the spirit of the 1990s and its prosperity than the personal computer. Even a decade ago, it existed on the fringes of popular consciousness and the economy. It was visible, important and discussed. But it was not TV. Since then, it's spread almost everywhere. It's journeyed into roughly half of all American homes and onto (it seems) virtually every desktop. It's the foundation of countless personal fortunes and a toy for the masses--never has solitaire been as popular. But is the great PC boom near its end? It is if you believe Fred Hickey.

Though Hickey is not a household name, he is a seasoned spectator of the computer industry. Since 1987, he's published a monthly newsletter called The High-Tech Strategist for investors. Hickey is not (make no mistake) predicting that people will suddenly grow tired of their PCs and throw them in the garage. What he is suggesting is that the era of fabulous growth--when PC sales rose at double-digit rates every year--is petering out. If he is correct (and, of course, he may not be), the implications could reverberate far beyond the computer industry for a couple of reasons.

First, the PC explosion--and everything associated with it, from software to ISDN lines--has been a driving force of the U.S. economy. It has, for example, propelled strong business investment, as companies overhauled offices, factories and customer networks. In 1990, company purchases of high-tech equipment (computers, communications gear, instruments) was 20 percent of all business investment, which includes everything from office buildings to industrial machinery, reports economist Richard Rippe of Prudential Securities. By 1998, it was 40 percent. And over the past decade, the computer industry (including software) has generated about 1 million new jobs.

Second, faith in the computer boom has infused the stock market with much of its indomitable optimism. For the last few years, most companies' stock prices haven't kept pace with the overall stock averages. (In 1998, about 70 percent of all U.S. stocks trailed the Standard & Poor's index by 15 percent or more, reports Salomon Smith Barney.) Rises in the major indexes have stemmed significantly from investors' enthusiasm for computer-related stocks, which have traded at astronomical prices in relation to profits. These prices reflect the belief that the computer-industrial complex has embarked on an endless period of frenetic growth. If that assumption popped, computer stocks would decompress, and that might (to put it mildly) dampen the entire market.

When something continues for a long time, it's hard to imagine it ending. But unstoppable phenomena do stop. Crime receded; inflation fell; Michael Jordan retired. For new gadgets, we have the product cycle. Good new products usually experience a manic phase. Everyone's got to have one. Declining prices expand the market. Performance gains attract new customers. But ultimately, the market becomes saturated. Everyone's got one; price declines slow; performance flattens. This is not death. It's just different. Industries become "mature." Sales increasingly reflect replacement needs and population growth.

For most of the 1990s, PCs have been in their manic phase. In 1989, an estimated 21 million personal computers were sold worldwide, about 9 million of them in the United States, reports the market-research firm Dataquest. In 1998, worldwide PC sales totaled almost 93 million and U.S. sales about 36 million. In 1990, about 15 percent of U.S. households owned a computer. Now, that's 50 percent, according to Odyssey, a research firm.

What makes Hickey think this manic phase is finished? Well, he's got evidence and a theory. He scours the industry for the latest sales intelligence. It's not good, he says. Some PC manufacturers (Dell, Gateway) sell directly to customers. Others (Compaq, IBM, Apple) sell mainly through distributors, which resell to stores, businesses or "system integrators" (which create networks for companies). Hickey monitors them all. "Every major PC vendor has now reported lower-than-expected revenues in its latest report," he wrote in his February newsletter.

The theory to explain the evidence is simple enough. Business demand for PCs is weakening, and because that's the largest part of the market, the shortfall won't be easy to offset. Consumers account for only about 30 percent of PC sales, estimates Dataquest. Businesses, government and schools represent the rest. "You've reached saturation," says Hickey. "In many businesses, there's a one-to-one ratio of computers to people." The newest chips and software don't offer enough improvement to entice companies to upgrade. Some companies have been replacing systems to avoid the Y2K problem. With that finished, "they'll freeze spending."

By units, American PC sales rose 13, 20 and 19 percent in 1996, 1997 and 1998. Hickey expects growth to collapse. Sales revenues will stay flat or drop, because fierce competition will depress prices. Profits will suffer. Stocks will slump. The hurt will affect satellite industries--computer chips and software.

Let us note (again) that Hickey might be wrong. Dataquest's U.S. forecast for 1999 envisions a 14 percent rise in sales to 41 million PCs. The Internet may nourish demand. Overseas sales may offset any weakness in the United States. Some new products (palm-size computers) may benefit the larger electronics complex. A bit further out, says Dataquest analyst Erin Lawrence, looms the prospect of "pervasive computing"--computer chips inserted in everything from household appliances to security systems. The industry may still be in its manic phase.

But some omens last week suggested that Hickey might be right about the PC boom. At midweek, The Wall Street Journal reported that top executives at three computer makers (Compaq, Gateway, Apple) had sold $90 million of personal stock in 1999. They unloaded just as PC sales and stock prices were weakening. A day later, IBM revealed that its pretax loss on its PC business had jumped from $161 million in 1997 to $992 million in 1998. This signals overcapacity and downward price pressure. The PC boom and America's boom have gone hand in hand. At least one may be wobbly.