PC suffers birthday blues

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Bill Gates, Andy Grove and other legends in the personal-computer industry gathered this month to munch on jumbo shrimp and toast the 20th anniversary of the PC. But there's little to celebrate-especially close to home.

The maturing and highly commoditized home PC category is beginning to look a lot like the TV-set market of the `70s: a replacement market of cutthroat price competition where big names suffered big losses until weaker players quit the game or sold their brands to those who had the fortitude to play.

PC marketers, battered by the tech recession and a faltering economy, have looked elsewhere to add-on services such as Internet access to make up for razor-thin margins on hardware and peripherals. However, stalled demand and falling prices are likely to wreak even more havoc as PC makers move into the crucial holiday market.

Carnage and consolidation in the sector over the past few years have eliminated some brands from the consumer retail market, including Acer, NEC and Packard-Bell, former kingpin of the category. A once-rocketing retail brand, eMachines, in May hired an investment banker to scope out alternatives including a sale; the loss-plagued company's stock traded last week for just 24 cents. Yet another sign of the times: Struggling Ziff Davis this summer closed FamilyPC magazine.

Rob Enderle, research fellow at Giga Information Group, estimates 38% of consumer PCs sold so far this year have been sold below cost. "The financials are all ugly," he said. "At the end of this war, there may be little left of the traditional PC market and it may well look a lot like the TV segment."

Household PC penetration in North America has stalled between 55% and 65%-largely a replacement market and an increasingly tough sell. But Mr. Gates' Microsoft Corp., Mr. Grove's Intel Corp. and allies-Dell Computer Corp., Compaq Computer Corp., Hewlett-Packard Co. and others-this fall will aggressively hype the capabilities of faster PCs loaded with Windows XP to connect to MP3 players, digital cameras, camcorders and other gadgets.

Industry pundits said Microsoft's XP upgrade is unlikely to stoke demand. Windows XP will launch officially Oct. 25.

"We remain skeptical that XP is going to make a substantial increase in [PC] demand. We're not convinced that customers are going to want to spend more [on a replacement PC] for greater stability and reliability in their home," said David Bailey, research analyst at investment bank Gerard Klauer Mattison. "Most of the people who want PCs have PCs. It may be difficult in this economic environment to sell what remains largely a big ticket, discretionary item."

Roger Kay, director of client computing at International Data Corp., said XP will give "a mild stimulus" to the PC market, especially home PCs, helping the market achieve "a modest boost" from back-to-school and holiday sales.

With the replacement PC market anemic at best, both for consumer and business markets, Mr. Kay suggests Intel's Intel Inside co-op ad funds are crucial. "Those incentives are more valuable than ever in this low-margin environment," he said. "Everyone is hoping [Windows] XP will stimulate demand, and it is one of the only accelerators on the near horizon."

Business and home PC shipments in the U.S. fell just below forecasts with a second-quarter decline of 8.1% year over year and a 1.3% sequential drop from the first to second quarter, according to IDC.

For the second quarter 2001, Dell ranked first in U.S. PC shipments, according to IDC, with 24% market share. Compaq ranked second with 12.7% share for the quarter, followed by HP at 9.4%, Gateway with 7.6% and IBM Corp. with 6.1%. IBM no longer sells home PCs in stores, though it sells to consumers directly. Three brands commanded nearly 90% of the retail desktop PC market-HP, Compaq and eMachines, according to NPD Intelect, for the first six months of the year.

Dell is rapidly stealing share, with overall U.S. PC shipments up 13% in the quarter ended Aug. 3. And Dell's consumer PC shipments rocketed 39% as the company continues an aggressive TV push from Omnicom Group's DDB Worldwide, Chicago, featuring a precocious teen-ager advising parents on what to buy.

Rivals are less fortunate. Gateway, which earlier this year pulled its creative in-house, has closed some retail stores and is undergoing a major restructuring as it continues to be pummeled by Dell. In the second quarter, Gateway saw a 36% decline in consumer PC unit sales year over year. Last week, its stock hit a five-year low as Standard & Poor's lowered its debt rating to "junk" status.

HP faces its own struggles. In July, HP warned that consumer product sales would decline 24% in the third quarter with revenue falling 14% to 16% year over year.

Analysts are watching HP's PC business closely. "If things don't change, HP remains the most at risk" of exiting the category, said Mr. Enderle. But he added: "I still have a hard time believing they will get out."

An HP spokeswoman said the company remains committed to its PC business. A recent Barron's article suggesting it pull out of the PC business prompted a statement from Iain Morris, president-HP Embedded and Personal Systems Organization. "We do not intend to sell, shutter or close it down."

Layoffs, reorganizations and speculation about consolidation in the PC industry suggest little hope for a recovery.

"It's ugly," Mr. Enderle said. "Dell is trying to take Compaq out [the hard way], and the second tier vendors may actually start dropping first."

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