7 Tech Stocks With Promise

Thrills and spills are a given, but the industry's prospects are surprisingly good.

By Chana R. Schoenberger

Ever since the internet bubble burst in 2000 with a cataclysmic market crash, many investors have been wary of technology stocks. No matter how the group performs or what its prospects are, tech stocks and skittishness seem to go hand in hand. So it wasn't surprising that investors fretted after the sector soared 79% last year, assuming that the stocks had become overvalued. And they brooded when the stocks recently tumbled 10% in a month, worrying that the move portended a more fearsome fall.

But allow us to offer an alternative view: Having long ago shed the taint of dubious companies that were all hype and no profit, the sector's fundamental picture looks quite promising. Scott Kessler, the head of tech-stock research at Standard & Poor's, offers three reasons for optimism.

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First, technology companies generally don't carry a lot of debt on their balance sheets. That allows them to snap up other companies when opportunities arise. Second, tech companies are tightly tied to overseas economies; in 2008, Kessler says, the tech companies in the S&P 500-stock index generated 55% of their revenues abroad. If the U.S. dollar continues to sag, prices of U.S. products will become even more attractive to foreign customers. Finally, the end of the recession means more spending by both businesses and consumers.

The sector's strong showing last year means that it's tough to find attractive tech stocks at dirt-cheap prices. But we think that the seven listed below, which include a mix of well-known and somewhat obscure companies, should perform well over the coming year.

Applied Materials (symbol AMAT), $12

Companies that make the enormous, expensive machines needed to produce semiconductors should see sales jump 50% this year, says Kessler. Applied Materials, the nation's largest player, sells chip-making equipment of all kinds, including machines that make solar panels and the components that go into solar cells -- "a nice longer-term opportunity" for Applied Materials, says Kessler. Plus, he says, the Santa Clara, Cal., company will benefit from its heavy overseas exposure; in the quarter that ended in October, 85% of Applied Materials' sales came from outside North America. Since February 2009, when the stock dipped to $8, the shares have climbed 52% (all share prices and related data are as of February 15). Analysts see the company returning to profitability this year; they expect Applied to earn 62 cents a share in the year that ends this October and $1.03 in the October 2011 fiscal year.

Cisco Systems (CSCO), $24

In a severe recession, when companies halt spending for all but the most essential technology, a company that makes routers, switches and other networking equipment is a bad bet -- even if it's a powerhouse like Cisco. But now that corporate budgets are again expanding, businesses are likely to restart stalled projects to build and consolidate the data centers in which they house their servers. Fewer layoffs and growing pay-rolls also mean that companies will likely put more money into networking equipment to link offices. These trends should favor Cisco. In the quarter that ended January 23, sales rose 8% from the same period a year earlier, and earnings per share jumped 23%. Headquartered in San Jose, Cal., Cisco has been buying up rivals, such as Tandberg, a Norwegian maker of video-conferencing gear, and Starent Networks, a U.S.-based producer of broadband equipment for mobile-phone carriers. Financial analysts at Jef-feries & Co. see the stock returning to its November 2007 level of $29 this year. Cisco sells at 16 times analysts' expected earnings of $1.54 per share for the fiscal year that ends in July. With a market value of $136 billion, it is the largest company on our list.

Microchip Technology (MCHP), $27

This semiconductor maker is a rare tech dividend play, with the stock yielding a generous 5.0%. "There are only a handful of blue-chip, U.S.-based tech companies that pay notable dividends, and this is one," Kessler says. Microchip's products go into a variety of electronics that are mostly made overseas, such as washing machines, blood-glucose meters and control panels for cars. The Chandler, Ariz., company derives 75% of its sales abroad, including nearly one-fourth in China. S&P sees the stock reaching $33 by year-end as sales of both micro controller chips and analog products improve. Analysts expect Microchip to earn $1.10 per share in the year that ends this March and see a big jump, to $1.58, in the March 2011 fiscal year, as the economy continues to mend.

Nice Systems NICE), $30

Every time you hear the message, "Your call may be recorded," you're likely encountering this Israeli firm's product. NICE's software records and analyzes customer-service calls, Web chats, video conferences and all kinds of digital files. As companies switch to Internet-based phone systems, and as regulators increasingly require banks, brokers and other kinds of firms to record and store communications data, businesses boost their purchases of NICE's products. Fear of terrorism is also increasing demand for security software from governments and businesses -- to download video feeds from security cameras, for example. Analysts look for earnings of $1.72 per share in 2010, up from an expected $1.50 in 2009, and they see long-term earnings growth of 17% a year. S&P says the stock, which has nearly doubled since October 2008, could hit $39 in 12 months.

Nvidia (NVDA), $17

Once, only video-game fanatics cared about computer graphics. Now, with 3-D movie sensation Avatar sweeping theaters and high-definition video coming to cell phones, everybody seems to care. That's good news for Nvidia, a Santa Clara, Cal., producer of graphics chips. Nvidia has a series of new chips, code-named Fermi, that render 3-D graphics for PCs, as well as a new chip, Tegra, aimed at phones. "We think there will be very good momentum for these kinds of products," says analyst Hans Mosesmann, of Raymond James Financial. Nvidia, which gets 91% of revenues abroad, lost money last year, but analysts think the company will make 36 cents per share in 2010 and more than twice that next year. The shares fell sharply after Nvidia reported fourth-quarter results that fell short of investors' expectations. The stock has nearly tripled since late 2008 but is still more than 50% below its record high of October 2007.

Vistaprint (VPRT), $55

The smallest company on our list, with a market value of $2.4 billion, Vistaprint sells business cards, magnets and other customized products online to small businesses and individuals. It's a classic example of a service that does well when moved to the Internet, although Vistaprint does have partnerships with big-box office-supply retailers, such as Office Depot. Based in the Netherlands, the company also offers Web-site hosting, e-mail marketing and other digital-only services. Both revenues and earnings per share grew 40% in the quarter that ended in December. Analysts at Jefferies expect revenues to jump 25% in the fiscal year that ends this June and look for earnings to climb 17%, to $1.97 per share, as Vistaprint expands in Europe and Asia. The stock has been on a roller coaster since going public at $12.27 in 2005. It hit $46 in October 2007 and crashed to less than $12 in November 2008 before recovering to its current level. Jefferies's year-end target: $65.

Yahoo (YHOO), $15

Yahoo came under fire when it and longtime rival Microsoft finally decided last July to link their online search-engine and advertising businesses. But now Yahoo, under the leadership of new chief executive Carol Bartz, can stop worrying about Microsoft's deep pockets menacing its profits and concentrate on regaining online-advertising market share lost to archenemy Google. S&P's Kessler says operating profit margins hit bottom in 2008 and should keep climbing. Although revenues shrank 10% in 2009, analysts see sales rising 5% this year, to $4.9 billion, as more companies advertise online. Analysts expect profits to climb to 47 cents a share, up from 42 cents in 2009. Kessler sees Yahoo shares at $24 by the end of the year.