Sunday, December 20, 2009

Three tech stocks to watch in 2010

The technology sector has always been about The Next Big Thing, and while next year will be no exception, products and services purchased will more reflect the needs of consumers and businesses - unlike the past when more tech buys reflected "wants."

Call 2010 the year of "necessary technology."

While 2009 has seen a dramatic turnaround in the world's stock markets, the rest of the key economic indicators - such as manufacturing, inventories, and jobs - have lagged behind. This has prompted less discretionary spending on technology, and even a postponement of some necessary purchases.

Slowly but surely businesses and consumers - while still extremely cautious - are seeing their own turnarounds. To aid them with their own recoveries, necessary technology that has emerged in the last two years will grab more mindshare as well as market share.

These necessary technologies will result in the deferred purchase waiting period seen last year coming to an end in 2010, giving a boost to three key technology businesses, including:

  • Semiconductors: The industry's leading indicator is already making a comeback, and is poised for growth on the backs of almost every other business in the industry. One company in particular could see huge gains in the burgeoning smartphone market, and chances are you haven't heard of it.
  • Mobile Devices: Taking computing on the road - be it in the form of a smartphone, netbook or tablet - will become more commonplace. The ripple effect from this will present a wide range of investment opportunities - from carriers to advertisers to the companies that make the phones.
  • Software and hardware: " Do more with less," already an oft-heard phrase in the jobless recovery, will continue to be heard. But new software and hardware doesn't require an annual salary and benefits, so expect this category to finally bounce back.

The Future of Tech Is in the Chips

In an analysis earlier this year, Money Morning said that semiconductor manufacturers are not only leading indicators for the tech industry, but the U.S. economy as well. Indeed, should giants like Intel Corp. (Nasdaq: INTC) and Samsung Electronics Co. Ltd. foresee a rising demand in the products that use their chips, production ramps up.

The ubiquitous nature of semiconductors puts the industry in a prime position to benefit from a boost in sales in many product categories, including computers and servers, automobiles and appliances.

One of the products that will see the highest gains in 2010 is the smartphone, and British chip designer ARM Holdings PLC (Nasdaq ADR: ARMH) stands to reap the biggest rewards from the ongoing smartphone revolution.

ARM's sales in 2008 were just $432.8 million compared to Intel's $37.5 billion. So why is Intel setting its sights squarely on what appears to be a peasant in the semiconductor industry?

Ninety percent of microchips in cell phones - including central processors and Wi-Fi chips - are designed by ARM, then licensed to manufacturers such as Qualcomm Inc. (Nasdaq: QCOM) and Texas Instruments Inc. (NYSE: TXN).

"We remain committed to bringing Intel architecture and all of its benefits to the handheld space," Intel spokesman Bill Calder told Bloomberg News . "It's a tens of billions of dollars opportunity and we're not backing off, nor are we ceding ground because we don't have a leadership position."

As smartphones become better able to perform the tasks once limited only to PCs - browsing the Internet, making spreadsheets and other documents - companies like ARM that design the chips that power them could be among the industry's superstars.

"They're very invisible," Global Equities Research LLC analyst Trip Chowdhry told MarketWatch.com in an interview. "You don't see devices saying 'ARM Inside,' or 'Powered by ARM.' I don't think they have the mass consumer awareness like Intel."

Intel once had a division that licensed ARM technology, but sold it in 2006 to Marvell Technology Group Ltd. (Nasdaq: MRVL) after failing to win enough orders from phone makers, according to Bloomberg .

Still, the future for manufacturers like Intel that make chips for PCs and servers looks bright in 2010 as consumers and businesses refresh their hardware. And if Intel can't beat ARM at its own game, it could easily buy the Cambridge-based chip designer, which has a market cap of $3.5 billion.

Analysts expect Intel's annual sales to have fallen by 7.7% by the time the ball drops in Times Square, but recover nicely in 2010 with an 11.3% gain. The revenue will be complemented by a healthy earnings per share (EPS) that's expected to more than double, going from an estimated 72 cents this year to $1.46 in the new year.

Multi-faceted Mobile Devices Take Over

Relatively new technology like smartphones are generally slow to gain adoption, but the opening of Apple Inc.'s (Nasdaq: AAPL) App Store in 2007 was the catalyst that had the greatest effect on smartphone sales. Instead of just a phone with a few widgets like a Web browser and a music player, phones became remote controls, compasses, newspapers and cookbooks to name a few.

The iPhone made smartphones necessary technology - not because those functions couldn't be found elsewhere, but because they increase efficiency. This perception made a growing number of people overlook the cost of owning an iPhone and helped Apple buck the recession.

Smartphones will continue to be the darlings of mobile products in 2010, and prompt single-use devices such as Apple's iPod Classic and even Amazon.com Inc.'s (Nasdaq: AMZN) Kindle e-reader device to fade away into tech history.

In fact, the deterioration of iPod sales is already happening, with device shipments down 8% in Apple's fiscal fourth quarter ended Sept. 26. And while Amazon doesn't give out Kindle's sales numbers, converging devices such as smartphones and Apple's oft-rumored tablet will make Kindle as a device obsolete sooner than later.

Of course, Amazon knows this and Kindle as a platform will continue in the form of applications on the PC, Apple's iPhone and inevitably, Research in Motion Ltd.'s (Nasdaq: RIMM) BlackBerry phones and Google Inc.'s (Nasdaq: GOOG) Android operating system - found on numerous smartphones.

"E-readers are a transitional technology," Forrester Research Inc. (Nasdaq: FORR) analyst Sarah Rotman Epps told Time magazine. Despite their smaller screens, more people are currently reading e-books through applications on their smartphones than dedicated devices.

"We want you to read your Kindle books on laptops and smartphones, anything with an installed base," Amazon Chairman, President and Chief Executive Officer Jeff Bezos told Reuters.

More than 200 million smartphones are expected to ship in 2010, fueled by falling price points that go below $150, market research firm International Data Corp. (NYSE: IDC) said in a report. Any margin pressure on phone manufacturers should be offset by better volume sales.

The usual suspects will be among the leaders in smartphone sales, such as Apple, RIM and Motorola Inc. (NYSE: MOT). However, Nokia Corp. (NYSE ADR: NOK) will continue to find the going rough in 2010 as it continues to lose market share, which fell from 42.3% to 39.3% in the third quarter according to Gartner Inc. (NYSE: IT)

A wild card in this arena will be Google, which already has its Android operating system (OS) in a growing number of handsets. Reports this week surfaced that Google is working with Taiwan's HTC Corp. to market and sell a self-branded phone called Nexus One.

It's unclear what Nexus One would add to Google's bottom line that Android doesn't already - namely products and services that act as a funnel to Google's advertising juggernaut. Android is an open-source OS, which enables device makers to customize it as they see fit - for example, guiding users that want to buy MP3s to Amazon's online music store instead of Napster Inc.'s.

While smartphones represent the future, the proliferation of more mobile-friendly Web sites will accelerate advertising on all mobile phones equipped with a browser, which bodes well for the likes of Google, Microsoft Corp. (Nasdaq: MSFT) and Yahoo Inc. (Nasdaq: YHOO). Mobile advertising will have grown by 74% to $913.5 million by the time 2009 ends, and explode to more than $13 billion by 2013, Gartner says.

More than 1 billion mobile devices - be it a phone or iPod Touch - will access the Internet in the New Year, IDC says. That's catching up to the 1.3 billion users that use a PC to go online, and the rate of growth for mobile users is 2.5 times the rate of PC users.

A more "hyperlocal" approach will be taken to advertising on mobile phones in 2010. While Google revolutionized the idea of targeted ads years ago - either via search or using the content on a given Web page to show context-relevant ads - the search giant and its competitors have largely stuck to national or online-only advertisers.

Most mobile devices can identify where a user is, either through GPS or an IP address. So if a user is in an unfamiliar city and has an appetite for Italian food, a text or voice search through directory applications or a mobile Web site will yield Italian restaurants within a few miles. Similar to the Yellow Pages, businesses that pay more to providers such as Google or Microsoft will have their results more prominently featured. The ancillary effect of this will likely mean more jobs, as well as a pickup in mergers and acquisitions (M&A) in this arena.

"We are absolutely planning to increase our headcount and we're aggressively trying to find the best talent as we did historically," Google Chairman and Chief Executive Officer Eric Schmidt told Bloomberg in November. "We are back in business - hiring people."

Even though Google would likely be successful by bringing its AdSense program to mobile phones, it chose to buy the established AdMob Inc., which was founded in 2006. AdMob specializes in image-based mobile display ads within apps, giving Google - which only had text-based ads being shown in apps - a head start on competitors like Yahoo and Microsoft.

Microsoft has a clear opportunity for in-app advertising. Its counter to Apple's App Store and Google's Android Market, Windows Marketplace for Mobile, just launched in October.

Like it did with traditional Web search, the Redmond, Wash. software giant once again finds itself looking up at Google. But that's not to say it isn't trying: Earlier this year it formed a partnership with Quattro Wireless.

In this fast-paced game of staking a market share claim, Quattro could find itself the target of an acquisition by either Microsoft or Yahoo.

Windows 7 to Spur Software, Hardware Sales

Last fall's release of Windows 7 was received much better than its predecessor Windows Vista, and will make significant headway in gaining market share in 2010. An IDC report says Windows 7 will run on the majority of PCs by the end of 2011, roughly 10 years after the current market-share champ Windows XP was released.

Next to Windows XP, Windows 7 represents the next evolution of the PC that Vista failed to deliver: Make it easier and faster for users. And in an economy where productivity gains greater importance, an OS like Windows 7 becomes a necessary technology.

PC sales will grow 7% in the New Year, while sales of packaged software will grow 3%, IDC says. Gartner paints an even more optimistic picture, with PC sales growing 12.6% in 2010.

Before businesses will take the baton of implementing Windows 7, it will be consumers that spur PC sales pre-loaded with the OS, and it started before Windows 7 was even released: Third-quarter PC sales gained 0.5% versus the same period in the previous year, according to Gartner. That soundly beat the market research firm's own estimate of a 5.6% decline.

Recent gains in consumer spending have come largely from the " frugality fatigue" of the employed, says Money Morning Contributing Writer Jon D. Markman. "Retail sales are up materially, particularly at car dealerships but also at electronics stores, building materials vendors, sporting goods stores and bars," he wrote in a recent column.

The sweep of Windows 7's rising penetration will be wide and result in a larger "ecosystem" that will produce $18.52 for every dollar of revenue the company generates from the OS, IDC says. By the end of 2010, this ecosystem will have reaped Microsoft more than $320 billion in related products and services.

For Microsoft's upcoming Office 2010, the value proposition will be tougher for the company. Much of the next generation of Office will revolve around cloud computing, but the slam-dunk that Microsoft is accustomed to in this arena will be challenged by Google Apps, which is being positioned as a much cheaper alternative.

Google revealed on Monday that the City of Los Angeles will move all 34,000 of its employees to its suite, joining Washington and Orlando. Los Angeles Chief Technology Officer Randi Levin says the move to Google could produce a return on investment (ROI) of roughly $20 million over the course of the five-year contract.

But don't expect Google to even come close to knocking Microsoft off its lofty perch in 2010. While eyebrows at Microsoft's campus will be raised at Google's contract wins with big cities, Microsoft has a firm grasp on businesses.

"Microsoft is entrenched," Scott Kessler, an equity analyst at Standard & Poor's told Bloomberg. "Microsoft isn't going to lose market share to Google anytime soon. It's going to take some time and Google is fully aware of that.

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