High-tech companies are starting to report their second-quarter earnings, and for much of the enterprise software business, the picture is bleaker than expected.
Sales and profits will fall below expectations for dozens of tech companies--and sellers of high-end applications are among the hardest hit. Their bottom lines are sagging for myriad reasons, including sluggish sales, less-than-perfect product planning and expectations that were too optimistic.
Eyes on enterprise
The merger talks between SAP
and Microsoft underscore a harsh
market reality for companies
selling to corporate buyers.
"We have seen an uptick in the number of (earnings warnings). There were 23 negative preannouncements in this past week alone," said John Butters, a research analyst with First Call, pointing to companies such as Veritas, WebMethods and PeopleSoft, which all issued earnings warnings. On Wednesday, more companies added their names to the list: Seibel Systems, Filenet and BMC Software.
So far in this earnings period, 341 technology companies have preannounced their results. Of the group, 112 companies said their earnings were higher than expected, 55 companies said they would be in line with Wall Street's projections, and 174 issued warnings that they would miss expectations.
The worse-than-expected results have shaved billions of dollars in market value from the software companies this week alone, including $4 billion from Veritas. On the brighter side, hardware makers appear to be riding out the storm.
Not all tech companies are in the doldrums: Yahoo on Wednesday posted sales and profits that matched expectations, although its stock fell in after-hours trading. But more significantly, the concentration of bad news among enterprise software companies has some analysts worried that the downturn in that business could be more prolonged than predicted.
"People are worried we're seeing weak IT spending and weak software spending," said Charles Di Bona, an analyst with Bernstein & Co. "Some people attribute it to the presidential elections and the handover in Iraq, but I don't think so. Everyone had expected some conflict when the government was turned over to Iraq, and it's not like the presidential elections weren't expected. They happen every four years."
Added Anil Vasudeva, an analyst at Imex Research: "There has been a bit of a dip in the past two months."
Despite the recent bad news, it may be too early to tell whether this is a seasonal condition or a harbinger of more serious problems. Layoffs and slow sales in the first half of 1998 prompted some to predict a recession, but the technology boom roared on for two more years. In 2000, many analysts scoffed at concerns that PC sales were slowing, until Intel, Gateway, Apple and others warned in quick succession.
Discounts and delays
With enterprise software makers, which have been in the spotlight this week, the common denominator could be seen in language used by Siebel in summing up the causes of the decline: "Unexpected delays in purchasing decisions by certain prospects and customers near the end of the quarter."
PeopleSoft blamed its miss on its ongoing takeover battle with Oracle. Some analysts, however, stated that PeopleSoft's earnings warning on Wednesday can be traced to its acquisition of J.D. Edwards last year and longer lead times on deals.
"There were 23 negative preannouncements (about earnings) in this past week alone."
--First Call analyst John Butters
"Companies intend to spend a lot on software, but they just didn't feel like doing it right now," said Patrick Mason, an analyst at Pacific Growth Equities.
When big companies do decide to buy, they're hunting for greater discounts, which further erodes software makers' profits, said analysts. The trend started several years ago and isn't expected to stop anytime soon. In a recent Forrester Research survey of 25 IT managers in companies with at least $1 billion in annual revenue, roughly half expect discounting to continue through 2004 and in the foreseeable future.
In particular, PeopleSoft and other companies that sell enterprise resource planning software are feeling the pinch. Those companies, along with Oracle and SAP, sell software used to manage financial, human resources and other business areas.
Many big companies have already spent millions of dollars in the past decade installing ERP systems. Rather than buying more products to do more things, companies want the software they already own to more closely model how they do business.
The bad news has rippled across a number of enterprise software sectors. Kana Software, which makes customer relationship management software, warned on Wednesday that sales would total $10.5 million to $11.5 million for the second quarter, less than expected and less than the same quarter last year when sales hit $12.1 million.
The state of software spending
Businesses are still laying out
money for applications, but not
the way they used to--especially
in the enterprise sector.
"Significant deals that we expected to close this quarter did not close. We continue to see very cautious enterprise purchasing resulting in CFOs and CIOs delaying large enterprise application purchases," Kana chief executive Chuck Bay said in a statement "This has been exacerbated by merger and acquisition activity within the financial services sector, which is one of our strongest verticals."
Ascential Software also announced that sales would be lower than predicted--at $63.5 million to $64.5 million, rather than the expected $65 million to $68 million. Customers are waiting to sign deals for a longer period of time, the company said. FileNet offered a similar explanation as to why sales will come in slightly low at $93 million to $95 million for the quarter.
And BMC said it "experienced delays in customer purchasing decisions among larger accounts, mostly in the United States." It lowered its sales estimate to about $320 million from $350 million.
Hardware high wire
On the brighter side, hardware makers are expected to meet earnings expectations, with second-quarter sales being seasonally depressed.
Market research firm IDC estimates that PC shipments grew 13.5 percent in the second-quarter worldwide compared with the same period a year ago, and were up 11.6 percent in the United States. Quarter to quarter, shipments are down, but that's normal, IDC analyst Roger Kay said. Worldwide shipments appear to have dropped around 6 percent, which is seen as roughly normal, while U.S. shipments dropped about 2 percent.
"I hear a bit of whining from certain sectors, like hard drives, but the normal seasonal trends appear to be materializing," he said.
"It looks like April and May were less than stellar, to put it mildly."
--Analyst Dean McCarron
on second-quarter chip sales
Gartner's Charles Smulders said unit shipments probably grew by 12.6 percent worldwide. PC prices didn't decline much during the first half because of tight supplies of some components, but price cuts should begin to occur again in the second half. Discounts could fuel sales, but also depress potential sales gains from increased unit shipments.
Among semiconductor makers, the picture is mixed. Processor shipments probably met or were on the low end of expectations, said Dean McCarron, principal analyst at Mercury Research.
"It looks like April and May were less than stellar, to put it mildly," he said. "The wild card is what happened in June."
In June, Intel said sales would total between $8 billion and $8.2 billion, a higher range than the $7.6 billion to $8.2 billion discussed at the beginning of the quarter. Three weeks later, however, Intel said it would recall new chipsets shipped in the second quarter.
Flash memory, however, continues to be a hot market. Revenue for NAND flash, found in memory cards, will grow about 70 percent this year over a torrid 2003 while NOR flash revenue is expected to rise by 25 percent for the year.
Still, the flash-memory shortages of last year are largely over, and price erosion has begun to sneak back into the market. If consumers get rattled and curb their buying of electronic goods, price declines could wipe out much of the projected revenue increases.
But Betsy van Hees, an analyst at iSuppli, observed that American shoppers seem to be fairly immune to crisis. "It hasn't stopped them before," she said.
"It would appear...that the storage market is dead in the water."
--Ashok Kumar, analyst with Raymond James
Storage manufacturers and hard-drive makers are facing low demand and intense competition.
"The storage industry reared its putrid head several times in the last couple weeks to remind us how sour things seem to be turning
out. Maxtor, Veritas, Emulex and Overland Storage all disclosed disappointing business wrapped in a sea of gobbledegook explanations," wrote Ashok Kumar, an analyst with Raymond James, in a report dated July 7. "It would appear that the real explanation for all of these surprises is that the storage market is dead in the water."
Manufacturers of flat-screen TVs and PC monitors may also report weak sales, said Paul Semenza, an analyst at iSuppli.
"The LCD TV market has not grown as rapidly as the very aggressive projections panel makers were using at the beginning of the year," he wrote in a report. "There is still a mismatch between pricing and screen size for LCD TVs."
Prices of panels, the complex sandwiches of silicon and glass that sit at the heart of monitors and TVs, also dropped consistently during the quarter, the first time that has happened in more than a year. That could be bad news for LG Philips, the world's second biggest panel maker, which is planning an IPO.