The Starting Line: Economic package may thaw tech spending

Last week, Bush outlined a broad tax stimulus plan to help the economy recover from the Sept. 11 terrorist attacks on the World Trade Center and the Pentagon. One of the agreed-upon techniques to boost the economy is so-called enhanced expensing, which would allow companies to depreciate assets at a more rapid clip.

For the tech sector, beset by layoffs and profit warnings, depreciation--a reduction of earnings to write off the cost of an asset over its estimated useful life--is no small matter. Technology executives have long griped that tax rules don't reflect reality in the sector, which is defined by 18-month product cycles.

The idea of accelerated depreciation isn't new, but with Bush's jump start, a handful of bills designed to give the tech sector a shot in the arm are more likely to become law.

Tech companies contacted by CNET News.com said it was too early to tell how a stimulus plan would affect their businesses, but executives on numerous conference calls have voiced support for accelerated depreciation.

If Bush's depreciation proposal is passed--and analysts believe it will be--companies will be able to amortize depreciation more quickly and boost the bottom line for a temporary time, likely one year.

"The package is not exactly rocket fuel for depressed technology stocks, but it should represent something like a good stiff shot of penetrating oil or WD-40 to 'unfreeze' technology sales to end users," said Prudential Securities analyst James Lucier.

Analysts stress that the tax boost won't save parts of the tech sector already reeling. For example, tax credits aren't going to boost the telecommunications sector, which is plagued by overcapacity. But companies that are delaying IT projects might move ahead if they have a tax carrot dangling in front of them.

For some companies, the tax breaks could boost capital spending anywhere from 3 percent to 10 percent, just enough to allow some to make their quarters.

In Lucier's estimation, companies such as Siebel Systems and Oracle, which have had to deal with customers putting off IT projects, could benefit from a tax stimulus plan.

On Thursday, lawmakers are expected to start "marking up" new levels for depreciation, Lucier said. These so-called asset-depreciation tables haven't been examined since 1986, he added. Various assets fall under a different depreciation level. For example, a telephone switch could be amortized over a 15-year period, broadband equipment could depreciate over seven years, and PCs and software over five years, he said.

"It's insane," Lucier said, referring to how tech products go extinct before accounting rules say they do. "Under the 1986 rules, you'll never recover your initial investment."

Under the Bush plan, which has to be approved by Congress, a five-year depreciation period could be reduced to two years. Lucier said the package could be enacted by Nov. 1 and made effective retroactive to Sept. 11.

Will it work?
The president's plan is designed to work across multiple industries, not just tech. That leaves one question: Will the plan help the tech sector break out of its doldrums?

History shows that tweaking depreciation rates can spark capital spending, which in turn would help technology spending, analysts said.

When President Reagan cut corporate depreciation rates in the early 1980s it sparked a real-estate boom. Of course, when Reagan's tax breaks were repealed in the late 1980s, the boom turned to bust, helping spark the savings-and-loan crisis. In the 1960s, President Kennedy used "investment tax credits," essentially accelerated depreciation, to boost the economy, analysts said.

"It's very possible that accelerated depreciation will result in additional tech spending," said A.G. Edwards economist Gary Thayer. "Lower tax liability means your cash flow is higher and so are your profits. With more profits, a company may choose to spend more or at least not cut back."

Analysts say a good deal of that capital spending will be on technology, largely because the one-time offer on accelerated depreciation will favor goods that have "low adjustment costs," meaning they deliver a quick return and are easily acquired and installed.

Lucier said software and IT equipment fits the bill for goods that have low adjustment costs.

But before any company gets a depreciation bounce, Congress will have to mull over the details, said Jeremy Siegel, a professor at the Wharton School of Business. "It's hard to say how this will turn out, since Congress is making the final decision," he said.

Tech executives, speaking on recent earnings conference calls, have spoken about the need for fiscal stimulus but have said it's unclear what effect it would have on spending.

Picking winners
If the Bush stimulus plan is enacted, analysts said, software companies could see the biggest benefit.

Companies such as Siebel and Oracle have demand for their products, but customers are delaying purchases to see how the economy will shake out. Microsoft could see companies make an early leap to its new Windows XP operating system. And storage companies may experience some increased spending, analysts said.

Simply put, any company on the fence about an IT project may take the plunge with accelerated depreciation.

"This will help companies that are basically doing OK but are straining to make their numbers," Lucier said. "Oracle's biggest problem is closing deals right now."

The key to determining the winners will largely depend on the price tag. According to Lucier, it makes sense to push up hardware purchases to gain accelerated depreciation benefits only if the price tag is above $50,000. For software, the threshold for capitalizing software expenses is in the low triple-digit range.

Lucier said a tax incentive might make companies opportunistic. He cited Microsoft and semiconductor-equipment companies as potential beneficiaries. Customers of those companies know they will have to upgrade software and equipment but may not have decided whether to do it this year or next year, he said.

Computer Associates and BMC Software are others that may get a break, analysts said.

Hardware companies that make big-ticket items, such as workstations and high-end servers, may also get a boost from the Bush plan, Lucier said.

Economy a wild card
Worries about the economy, however, could limit any effect accelerated depreciation could have.

According to recent surveys, chief information officers are pegging IT spending to the economy. A Morgan Stanley survey earlier this month showed that 39 percent of CIOs said they would closely monitor the economy to evaluate spending, up from 33 percent in August and 19 percent in July.

The survey also revealed that 31 percent of CIOs are cutting IT spending because of the economy.

In other words, there are no guarantees that accelerated depreciation will help IT spending, a fact not lost on analysts.

Goldman Sachs analyst Laura Conigliaro said she is expecting IT spending to be "pretty anemic" in 2002.

"Although we expect some benefit from increased fiscal stimulus, the low household savings rate, unemployment, declining consumer confidence, and a still relatively wide corporate financing gap (the difference between corporate investment and cash flow) provide cause for concern," Conigliaro said.