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It has been a wrenching decade for technology stocks. Investors still haven't forgotten the folly of the bubble that swelled to a peak in 2000 and deflated painfully over the next two years. Although operating earnings for tech companies have risen 90%, on average, since 2003, share prices have mostly stagnated since a short-lived rally that year.
Lately, though, tech stocks have shown signs of life, surging 26% since late July. For all of 2006, however, the sector gained an unspectacular 8%, trailing the return of Standard & Poor's 500-stock index by eight percentage points.
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Still, the rally could have legs if analysts are right and tech companies generate 21% earnings growth this year, a gain that would surpass that of any other sector. What accounts for the optimism? Look around you. Sales of high-definition TVs, iPods and smart phones are booming, and that's just one sign of strong consumer demand for technology -- not only in the U.S. and other developed nations, but also in India, China and other emerging economies.
Also, businesses are finally upgrading their tech infrastructures after a long period of hesitation. "Everything they put in their networks in 1999 is obsolete right now," says Chris McHugh, a technology analyst with Turner Investment Partners. ÒThere's significant pent-up demand.Ó Tech shares aren't cheap, trading for 24 times trailing 12-month earnings. That's up from 22 in 2005 but well below 2003's price-earnings ratio of 40. A P/E of 24 is not outrageous, but this clearly isn't a growth-at-any-cost kind of market. Here are seven tech stocks that we think have the right mix of growth and attractive share prices. We're upbeat about two warhorses (Apple and Microsoft) and also suggest three funds.
Still an online force
Cisco, Intel and Microsoft are a few of the tech giants that fell out of favor when they became too big to post the kind of sizzling growth to which investors had become accustomed. To that long list you can now add eBay (symbol EBAY). Its forecasted 20% revenue growth this year is one-third the firm's five-year average. Shares of eBay are 49% off their 2004 peak.
But eBay still dominates not one but two rapidly growing global businesses. Its online-auction market is four times larger than any rival's. And eBay owns PayPal, the biggest online-payment business. The San Jose, Cal., company's cash hoard of $3.7 billion and its free cash flow (net income plus noncash charges minus capital costs) of nearly $1.7 billion in 2006 leave it with plenty of options to offset slowing growth in the U.S. auction business. EBay is buying back stock, expanding into fixed-price online shopping (Shopping.com and eBay Express), and penetrating classified advertising through its stake in Craigslist.org and its ownership of several foreign classified-ad sites. Meanwhile, the core auction business continues to grow rapidly overseas.
Shares of eBay trade at 24 times estimated 2007 profits. That's well below historical P/E levels and reasonable for a company that continues to dominate its markets and offer robust, if not mind-boggling, growth.
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