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Tech Darlings Or Disappointments?

Maxwell is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Tech industry darling Apple (NASDAQ: AAPL) seems to have lost its way. Since September, the company has lost about $150 billion of market capitalization, or about 23% of its value. The issue of course, is whether this presents a buying opportunity, or whether Apple has further downside risk. There is some debate that the decline in stock price is largely attributable to profit taking in light of a likely hike in capital gains tax. But there is more to it than that.

Step one of what ails Apple came in fourth fiscal quarter earnings, which while more than solid, nonetheless disappointed Wall Street. It is not every day where a 23% net profit margin, and earnings up by 23% from the year ago, would disappoint. But Apple has so spoiled analysts in recent years that any quarter that is less than the moon disappoints. Apple noted in its quarterly release that it expected first fiscal quarterly revenues of $52 billion, and profits of about $11 billion. This would represent an 18% rise in revenue from the first quarter of fiscal 2012, but a 15% decline in profit. Now, Apple has traditionally under promised and over delivered, so analysts are not taking the profit decline prediction seriously. Still, the narrowing of margins is a concern, and merits attention.

Not all was bad in the fourth quarter – far from that. iPhone sales were up 58% from the year earlier quarter, and iPad sales were up 26%. But two long term product categories struggled mightily. The company's Macintosh computer line sales rose by just one percent. Apple is not immune to the slackening of demand in traditional desktops and laptops due in large measure to the rise of tablets and smart phones that Apple itself has brought forward. Apple's iPod line fell by a double digit percentage, continuing what is clearly the downside of a bell type curve for iPod players.

The pace of change at Apple has clearly slowed. Under the late Chief Executive Jobs, updates of product would be executed at a breathless pace, a pace that has slowed of late. The long rumored Apple TV is still a rumor. And, since at present about 60% of Apple's revenue is generated outside the United States; it often faces competition as the road team. Note that the litigation in California between Samsung (SSNLF) and Apple ended in Apple's favor. Similar issues litigated in Japan ended in Samsung's favor. One of Apple's key markets is of course China. But in that market, its market share rates it just the sixth largest phone seller, and it seems to have lost momentum.

Apple has proven to have an adroit sense of playing political games by its recent announcement of investing $100 million to bring roughly 200 jobs and some Macintosh manufacturing to the United States from China. I might be more excited if it were Apple's iPhone franchise rather than the moribund computer business would be coming to America, but it is better than nothing.

We need to accept a new paradigm for Apple. No company can grow profits at the 70% clip that Apple has averaged the last five years over the long haul. But as long as its iPhone is just a little “cooler” than other smart phones, and its iPad is a little cooler than its competitors, there is no reason Apple cannot grow in the 15%  to 25% range going forward. Analysts have the company's five year PEG at 0.52, making Apple about as undervalued as any growth company out there. As long as the price stays under $600 per share, I would be a buyer.

In recent years Apple's largest hardware competitor has been Hewlett-Packard (NYSE: HPQ) a company who through a string of poor decisions and uninspired product line is confronting an uncertain future. A number of analysts have predicted the company will split into two separate concerns and sold off this year. So we have a company with a number of failed, multi-billion dollar acquisitions, and large shares of what will be declining markets for desktop computers and printers. There is little risk of positive surprises going forward. In fact, analysts have lowered 2013 earnings projections from $4.20 per share to $3.34 per share during the past 90 days, and management warns that even the lowered projection is probably optimistic. Essentially, management is betting on enterprise revenue growth to carry the company, but Hewlett-Packard stands far behind market leaders like IBM (NYSE: IBM) and Oracle (ORCL).

Investment activists such as Carl Icahn are rumored to be interested in shaking up Hewlett-Packard, but that may be too little, too late. I do not believe Hewlett-Packard to be a suitable choice for most individuals.

IBM in particular is a company from which some struggling hardware makers can take some solace. For decades, IBM was America's leading computer hardware maker. In 2004, IBM jettisoned its personal computer business, and ever since has been focused on enterprise software and consulting. IBM is still competitive in the server space, offering express servers for small and medium sized businesses. But a number of small pop up companies that sell cloud space, like DataClub, are eroding its market share. IBM's revenues from its System z mainframe server products fell 20 percent in the third quarter of 2012, compared with the same period in 2011. Despite the erosion in this segment of its business, IBM's rock solid balance sheet and extraordinarily predictable earnings make it a great choice for conservative, buy and hold investors.

Dell (NASDAQ: DELL) is working to recover from a prolonged slump as well. Its bread and butter personal computer business is in the skids, so the company's new products are focused on enterprise, always a substantial part of Dell's business. Included in the line are tablets and convertible tablets. Founder and controlling shareholder Michael Dell has stated he plans to continue the company's several years buying spree, supplementing the 18 acquisitions for $12.7 billion since 2009 with more niche acquisitions going forward. This trend toward enterprise equipment is meant to replace lost revenues from a declining overall personal computer market. In the third quarter, Dell's computer unit shipments fell 8.3% from the year earlier, and I expect that pattern will persist.

With over $14 billion in cash at the end of the third quarter, Dell has the luxury of time to grow its enterprise business. Analysts are mildly bullish with a mean rating of 2.4, but I don't see Dell doing any better than matching the market over the next 12 to 24 months, and think you can do better.

StockCroc1 has no positions in the stocks mentioned above. The Motley Fool owns shares of Apple and International Business Machines. Motley Fool newsletter services recommend Apple and International Business Machines. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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