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Europe in two-year recovery

As companies wrap up their books for 1996 and strive to meet 1997 expectations, economic conditions overseas are playing a major role in their financial conditions.

As companies wrap up their financial results from 1996 and strive to meet early 1997 expectations, economic conditions overseas are playing a major role in their financial conditions.

Europe is at the bottom of an economic cycle, and in the middle of 1996, things started to improve, according to Dataquest senior analyst Charles Smulders. "On the one hand in 1996, the United Kingdom, which has a different cycle, performed really well, but Germany had a negative GNP in '96." Germany is the biggest driving force in Europe, he said.

"Structurally, Europe [excluding the UK] is weak. It has a high cost for public infrastructure, which drains taxes. And taxes have to be high to support the infrastructure, which discourages investment," he added. When taxes are high, growth slows, which results in unemployment. That is bad news for companies that depend on European revenues.

Oracle (ORCL) shares fell in heavy trading last week after Goldman Sachs analyst Rick Sherlund suggested the company's stock is unlikely to gain until March.

"We believe Oracle's stock is stuck in 'no man's land' until it reports results for the third fiscal quarter" ending in February, said Sherlund in a research report. "It will likely take some encouraging news on European operations for the stock to perform."

But Europe's traditional growth has shifted elsewhere. This is not heartening for companies that depend on those revenues.

"Europe has historically been one of the strongest markets [in] both software sales and growth," said Jim Sanders, research director at the Software Publishers Association. "But right now, the biggest growth in sales has been in Japan and Brazil."

In December, Oracle reported 44 percent growth in its Asia-Pacific region, while its Europe, Middle East, and Africa regions rose only 16 percent compared with a year ago. This report raised analysts' flags, and investors reacted by pushing the stock down 3 points.

Cisco (CSCO), which released its earnings yesterday, saw less growth than it had hoped in Germany, France, and Italy due to circumstances specific to those countries, said Van Kasper & Company analyst Paul Saunders. As a result, Wall Street's wrath pushed the stock down over three percent on the news.

"France has a cultural aversion to networking, and they are just less prone to adopt networking technology. But these aren't major problems, just areas of concern," he added.

Cisco currently gets 47 percent of its revenues from international sales. Saunders explained that these are not long-term concerns and that the company is seeing strong growth in other areas. Japan showed 200 percent growth for the quarter, upping Cisco's revenues there to 12 percent, although that was less than the company had anticipated.

The uncertainty of overseas markets could lead to problems for companies across the board, though. "On a country by country basis, [Cisco has] a lot of distribution channels, and if this downturn continues, it would have to make some adjustments. It's an economic downturn, and [Cisco], just like every other company, is going to have to ride it out, Sanders added.

Both International Data Corporation and Dataquest research report that Europe's economic problems contributed to the decline in personal computer sales. Growth slowed to 16 percent, down from 27 percent growth over the fourth quarter of 1995.

The German PC market, the third-largest in the world, was stung in the fourth quarter by the pressure of record unemployment levels.

"Unemployment is very high, there is a lot of anxiety, and consumer confidence is low," said IDC analyst Kevin Hause in an earlier interview. Businesses aren't concerned with buying new computers; rather, they are keeping the ones they have going and investing resources elsewhere, he added.

Germany is a growth engine for Europe, and it has been struggling to bring the economies of eastern and western Germany together. In 1996, growth in eastern Germany fell below growth in western Germany, which was a big drag on the economy, Smulders explained.

Countries surrounding Germany also felt the crunch as they shadow the German market, he noted.

The SPA has not released fourth-quarter and 1996 year-end results, but in the third quarter, software sales in Germany and Austria sales declined 21 percent; Switzerland was down 26 percent, and France was down 7 percent. Western Europe overall was declined 7 percent from the same quarter a year earlier.

All countries in Europe, however, did not experience a decrease. On the contrary: Portugal's growth soared 42 percent, Spain's growth jumped 26 percent, and Italy has positive growth of 18 percent. Moreover, the downturn has not suppressed all industries. Internet service providers are expanding overseas, and demand is in full force.

In December, CompuServe (CSRV) announced that it would beef up its marketing and product development in Europe due to high demand. The company said it nearly doubled its subscriber base in the previous 12 months.

This announcement came days after America Online (AOL) announced that AOL Europe would expand service to Austria, Switzerland, and Sweden.

But Smulders warned that as the European Union transitions toward a common currency, all governments will be cutting back to reduce inflation and bring down government spending.

"I expect the next two years will not be very dynamic. The main thing is that investments are going to go down and demand for IT products will not be as strong."