Buying PC Giants Ahead of Windows 8
Alvin is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
Microsoft (NASDAQ: MSFT) Windows 8 will launch on Oct. 26. In the new operating system, Microsoft has integrated a touch UI with “normal” Windows. It is definitely a risky move, because it adds a learning curve to the new OS. In Windows 8, the classic start menu has been replaced by a new start screen, which has live tiles, and the OS boots to the start screen instead of desktop.
Personally, I like Windows 8 and I think adding a touch UI is a natural progression of the OS (I have Windows 8 Consumer Preview installed in VirtualBox on my laptop). The OS is smooth and boots quickly. However, Microsoft definitely faces a risk of alienating current users of Windows. In addition, people who are not tech savvy might struggle to adjust to the new OS. Thus, the PC giant and its partners face some risks in the upcoming launch.
However, Windows 8 opens the door to the fast growing tablet market. PC sales have been stagnant, while tablets have been growing explosively. In Q2 2012, approximately 87 million PCs shipped worldwide. In comparison, 25 million tablets shipped. However, PC shipments declined by 0.1% while tablet shipments grew by 66.2% year over year. Windows 8 tablets could prove to be a huge catalyst for Microsoft and its traditional PC partners. In addition, Windows 7 will still be available. Microsoft will allow purchasers of Windows 8 Pro to substitute Windows 7 or Vista in a new PC. This provides a solid OS to fall back to, in case Windows 8 turns into a disaster.
Looking forward, in terms of software versatility, Windows 8 tablets will have a huge advantage over other tablets (i.e. the Apple (NASDAQ: AAPL) iPad and Android tablets) because they are basically lower-powered PCs. Thus, users can use Microsoft Office and other legacy Windows programs. In addition, Windows 8 could fair very well in touchscreen laptops or hybrids.
In terms of Windows 8 products, Dell (NASDAQ: DELL) plans on releasing a tablet (XPS 10), a hybrid Ultrabook (XPS Duo 12), and an all in one desktop PC (XPS One 27). Hewlett-Packard (NYSE: HPQ) plans on releasing a tablet (ElitePad 900), a hybrid (ENVY x2), and several all in one PCs (Envy 20, Envy 23, Pavilion 20, and SpectreOne). Clearly there will be a lot of competition in the tablet market, and that before we’ve mentioned the well-entrenched iPad and Android-products are entrenched products. Regardless, at least Windows OEMs will be able fight Apple and Android with a touch friendly OS.
Currently, the play of buying shares of traditional PC giants ahead of the Windows 8 launch date is a low-risk move because the companies have low valuations. With the exception of Microsoft, which has a PE of 15.02 (this is actually inflated because of a $6.2 billion write down in Microsoft's Q4), Dell and Intel (NASDAQ: INTC) have low PE ratios of 5.63 and 9.54, respectively. From Dell’s forecast, the company has a forward PE ratio of 5.57. HP, which has recently been crushed for adjusting its 2013 non-GAAP earnings forecast to the range of $3.40 to $3.60 per share (excludes expected restructuring charges, amortization of intangible assets, and acquisition related charges), has a forward non-GAAP PE ratio of 4.15 to 4.4.
Even if Windows 8 turns out to be a complete and utter disaster, the valuations for Dell and HP are already so low that it is hard to see them going any lower. An extreme 50% cut in earnings would result in a doubling of Dell and HP’s PE ratios, but the resulting numbers would still be well below 15. In the case of Intel, a Windows 8 disaster should not really affect the company because Intel dominates the desktop CPU market. Even if some consumers switch to Apple computers, Intel would still profit because Apple uses Intel’s chips in its Macs. The MacBook Air, MacBook Pro, Mac mini, and iMac are powered by Intel Core i5 and i7 processors.
In summary, Windows 8 is a big risk for Microsoft because it adds a learning curve to the OS. However, the OS makes Windows tablet friendly. In addition, the valuations for Dell and HP are already so low (PE of 5.63 for Dell and a 4.15 to 4.4 forward PE for HP) that short of a complete meltdown of the PC industry it is hard to see their valuations sink much lower. In the case of Intel, the company faces low risk because alternatives to Windows PCs also use Intel's chips. In addition, Intel gets the benefit of a solid chance at entering the tablet market. Finally, Windows 7 is a good fallback OS for PC OEMs and Microsoft.
Overall, Windows 8 is a step forward for Windows because it adds a touch UI. The tablet capability of Windows 8 and the low valuations of PC OEMs and Intel make Dell, HP, and Intel good plays on the upcoming Windows 8 OS. The potential rewards outweigh the risks. The same cannot be said about Microsoft, but it does have Windows 7 to fall back to in case things go wrong.
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