Tech Boom 2.0

Published in Investing on 7 January 2011

As ARM shares soar on a press release, can tech shares live up to the new hype?

With comedian Steve Martin tweeting from Las Vegas' Consumer Electronics Show (CES) this week, you know technology is hot again. Not just because the 65-year-old is even on Twitter, but because he presumably assumes his half a million followers will appreciate geeky tweets like:

"At Vegas Consumer Electronics Show: Saw large wooden device that can fling boulders over castle walls. iPad killer."

From Twitter to the mainstream news and recent Facebook movie The Social Network, I don't remember technology getting mass attention like this since the late 1990s. And that is telling, since there are similarities between what happened then and what's brought technology back into the limelight now:

  • In the mid to late-1990s, technologies such as email, Web browsing, and mobile phones went from the preserve of nerds and young people to become ubiquitous.

  • In the mid to late-2000s, technologies such as Facebook, Twitter, and smartphones have gone from the preserve of nerds and young people to become ubiquitous.

Sure, Facebook and smartphones have been being used by early adopters -- both businesses and individuals -- for a few years now.

But as ever with technology, it's when the initial wrinkles have been ironed out and the majority of the population get on-board that you really see how transformative a new development will be.

Out of the Windows

To my mind, momentum is being driven by the coming together of three key trends:

  • Social networking : Facebook, Twitter and the like.

  • Cloud computing: Using distant computers accessed via the Internet to store and process data away from your PC, perhaps without you even thinking about it (such as with Gmail or Flickr).

  • Smartphones and tablets: Small devices like the iPhone and iPad. They are effectively mini-computers, but much more user-friendly than traditional PCs.

RBC Capital Markets estimates global smartphone shipments will top 350 million in 2011, overtaking PCs for the first time. Most of those new iPhone, Blackberry, and Android owners will be checking Facebook and email on the go, and finding fewer reasons to upgrade or even switch on their desktop computers.

This is seismic stuff. The PC isn't going to die -- especially in the workplace -- but the explosive growth phase is over.

Instead, more mobile, Internet-focussed devices will dominate the action over the next decade.

ARM-ed and dangerous

A new technology landscape usually means new companies prospering, and this latest boom is no different.

Consider the rapid ascent of FTSE 100 member ARM (LSE: ARM), whose shares have soared 400% since the start of 2009. On Thursday morning alone the chip designer's shares jumped 10% on confirmation at CES that Microsoft will support ARM-based architecture in the next version of Windows.

ARM's chips already dominate mobile phones and tablet devices, but the revelation that mighty Microsoft now believes it must support ARM as well as Intel chips to compete in the New World Order has excited investors, who see all kinds of platforms emerging over the next few years.

In the cloud computing world, more and more devices are going to get smart and communicate with each other, so the total market for ARM's designs could far exceed the PC market dominated by Intel -- although ARM will only earn a tiny fraction of what Intel used to get for say a Pentium chip.

A third of ARM-designed chips are already used in things like televisions and digital cameras.

The Android uprising

ARM's sexiest customer is Apple, and the success of the iPhone and latterly the iPad has been a major factor in bringing ARM to more investors' attention, especially in the US.

Yet just as Apple is only one of ARM's many customers, so the Californian innovator is no longer the only credible maker of touchscreen phones and tablets.

iPhone certainly stole a march on the likes of Nokia and Motorola -- and the iPad surprised everyone -- but Apple's rivals are fighting back. At this week's CES, companies like LG, Samsung, Hewlett-Packard and the newly spun-off Motorola Mobility are all showing off tablets running either Google's Android operating system or Microsoft's Windows 7.

The performance of Android smartphones has already hugely improved in the last six months, and in turn they're taking a larger share of the market.

According to the latest data from ComScore, Android phones are now winning 26% of the US smartphone market (up from less than 20%) versus Apple's 25%, with Blackberry-maker RIM in pole position with a share in excess of 30%.

The big Apple

Apple doesn't attend CES, which gives its rivals some rare space to shine. But I doubt it is too worried.

On Thursday it overtook PetroChina to become the second largest company in the world after Exxon Mobil. Hard to believe it was only 14 years ago that CEO Steve Jobs returned to save the company he founded.

It would be going too far to suggest Apple's world-conquering valuation is a sign of frothiness in the tech market. This company is minting money, is on a relatively modest forward P/E of 17, and is sitting on a hoard of cash.

Yet to return to my 1990's comparison, we might ask what year we're in -- 1996 or 1999?

There are certainly other ominous signs:

Key companies like Facebook, Twitter, and LinkedIn haven't floated yet, but off-market trading in their shares has already prompted some very ambitious valuations.

  • Only this week we learned that Facebook is apparently worth $50 billion, after Goldman Sachs pumped $450 million into the company on behalf of clients.

  • ARM is priced at over 50-times 2011 earnings, dropping to a still eye-watering 45 for the year to follow.

  • The US Nasdaq market has advanced more than 130% since its late 2008 low, versus a mere 45% advance for the Dow Jones.

Personally, I believe this new tech boom has further to run. Many key US tech shares remain on sane ratings, and for all the hoo-hah the Nasdaq was pretty much flat over 2010.

If you agree, then come back next week, when we'll look at some UK companies who will benefit from the boom.

More from Owain Bennallack:

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Comments

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UncleEbenezer 08 Jan 2011 , 12:38am

ARM is at the head of the pack, but it's not the only UK semiconductor company to be doing very nicely. IMG is up on a similar valuation, and even more rapid rise.

Our chip designers are wiping the floor with their american counterparts. Intel may still 'own' a healthy market, but ARM and its licensees are the growth story, in markets where Intel can't expect to compete seriously for both technical[1] and business[2] reasons.

[1] Power consumption.
[2] Licensing model.

TMFFlaneur 10 Jan 2011 , 12:51pm

@UncleE -- Yep, Imagination has had a cracking run, and the stakes taken in the company by both Intel and Apple speak for themselves.

That said, I've heard more positive things about Intel's upcoming mobile chips. It's seen off nippier rivals before, and I wouldn't discount it if it can get its own chips in order.

I'll be including IMG in an imminent article of interesting UK tech investments to consider researching, so watch this space! :)

shinygoldcar 10 Jan 2011 , 11:28pm

So what kind of growth do you need to justify a P/E of 50? But ARM does look like a great company with little debt and consistent positive earnings.
Didn't the first tech boom have loss-making companies at crazy valuations?
Profit-making companies at crazy valuations is a big improvement.

TMFFlaneur 11 Jan 2011 , 3:27pm

@ShinyGoldCar -- Ha, absolutely! :)

Plenty of companies on high P/Es do well, often for many years. But there's no arguing your risks have increased, since you're vulnerable to a de-rating of the shares on a loss of confidence (to 'just' 20 say) as well as any earnings hiccups.

A related danger is you buy a great company on a high P/E and the share price goes nowhere for years even as the company grows its business, because it was all in the price. This was the case with a lot of the best US techs post 2000.

RobinnBanks 12 Jan 2011 , 12:41am

If you believe Apple is sexy, you're doing it wrong; unless you're into soft-core! (;-0)

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