PCs: Not Dead Yet (nor irrelevant, obsolete, toast, etc.)

If you’ve seen Monty Python’s Holy Grail, you probably remember the “not dead, yet” scene. If you haven’t, picture Medieval England, the plague, dirty dead and dying people laying inside and outside mud huts. Along comes a man with a cart of bodies calling out, “Bring out yer dead!” A peasant brings a body toward the cart, slung over his shoulder, but the body says, “I’m not dead, yet.” To which the carrier argues that he is dead or soon will be, so it’s the same thing.

The PC industry reminds me of that poor wretch slung over the shoulder of technology and investing commentators–it’s being called dead, though it is clearly still alive.

What exactly, is the PC industry? It’s the desktop and laptop computer industry, along with the supporting parts and software that make PCs possible. The industry will sell around 350 million units this year, a decline that has many commentators calling for its imminent demise. The PC industry is dead–we are told–because tablets and smartphones are replacing laptops and desktops. I disagree.

The PC market is complex in that computers are used for so many different things. One way to categorize the PC market is by where PCs are used: 1) consumers (computers at home) and 2) enterprises (computers at work). Another way, which I find more helpful, is to categorize PCs into how PCs are used: 1) content consumption and 2) content creation. 

On the content consumption side, computers are used for surfing the web, reading and writing email, playing games, looking at and taking photos, listening to music, playing fantasy football, keeping up with sports news, viewing and writing Facebook posts, Tweeting, writing short blogs, reading the news and other articles/periodicals, checking the weather, shopping, etc. People who use computers in these and similar ways find tablets and smartphones do all those things as easily, but more conveniently, than desktop or laptop computers. There is little or no doubt that the PC industry is and will lose many of those who use computers solely for such consumption.

On the content creation side, computers can be used for creating computer programs, storing and analyzing data, writing articles/long blogs/books, creating presentations, generating and maintaining databases, doing research, crunching numbers, creating complex models and simulations, designing buildings, creating 3D renderings, etc. People who use computers in these ways will probably find tablets and smartphones don’t really work. Such users are likely to continue using PCs because they are better designed for content creation. I think this means the PC industry will temporarily shrink as content consumers switch devices (and emerging markets adopt PCs, tablets and smartphones in varying degrees), but will then resume growth along with the still-thriving, worldwide content creation market.

The above examples may highlight why the “at home” versus “at work” distinction has pretty blurry lines. A high-schooler writing a 20 page report with graphs and pictures may work “at home,” but is more likely to find a PC works better than a tablet or smartphone for the task. In contrast, an office worker doing research on the road is “at work,” but a light-weight, long battery life tablet or smartphone will work quite well for reading articles, displaying presentations, etc. The issue is less about location than about what the user is doing with the PC/tablet/smartphone.

Added to this, there are very good reasons to have all 3 devices. I don’t really want to lug around a PC or tablet all day when I’m in London, but I would like to be able to check the weather or read a short article in the news, and a smartphone is best for that. In contrast, if I see a need to do trades in clients’ accounts, I must have a laptop PC to toggle between making trades online, keeping track of trades in my trade log, and figuring out what and how much to trade with spreadsheets. Finally, as I’m flying to London, a tablet is really the best way to read articles, play games and even watch movies, because my laptop battery doesn’t last that long and a smartphone screen is too small for long term use.

My point is that, in my kitchen, I have an oven, stove-top, toaster, and toaster-oven because each tool works best for certain tasks and poorly for others. Is it possible that I might want a smartphone, tablet and PC depending on my purpose and preferences? If that’s the case, then why all the talk about PC obsolescence?

This is a fundamental point: products designed for content consumption are likely to become different than those designed for production. Think about “automobiles” as the broad category of all automotive form factors. Train engines, Mack trucks, RVs, Vans, Pick-up trucks, Lexus sedans, Dodge Caravans, Sports cars, Motorcycles, and ATVs all exist because there are so many uses an “automobile” can be put to. Did the innovation of any of those categories, generally or specifically, make the others obsolete, toast, dead, R.I.P.? Then why would the PC be dead just because similar, but not the same, capabilities now exist with different form factors?

Let me give some more examples to really drive my point home. If your employer thought a couch were the most productive sitting device, do you think they’d buy desks and chairs? Think about all the things that differ between content creation and consumption:

  • Pixar workstation/movie theater
  • Book writing/publishing/reading–each is done with very different form factors
  • Presentation creation/presentation viewing 
  • House design/building/living
  • Investment research and analysis/trading/reporting
  • Airplane design/manufacturing/usage–can you imagine designing or manufacturing an airplane sitting in the same chair the pilot uses? 
  • Computer game creation/playing
  • Banking database/ATM/statements
  • Auto design/manufacturing/driving

The examples are truly endless. The devices for creating, building and use are seldom the same as each other–each being designed uniquely for its specific purpose. Is it possible that tablets and smartphones don’t need to be permanent, all-encompassing replacements for PCs?

None other than Steve Jobs, the father of the iPad, made this point when he talked about the much vaunted post-PC era: 

“When we were an agrarian nation, all cars were trucks because that’s what you needed on the farms. But as people moved more towards urban centers, people started to get into cars.”

This didn’t mean that trucks died, became irrelevant, or obsolete. The truck market continued to grow and grows to this very day. Truck market growth wasn’t as fast as car market growth, initially, but it did still grow along with the economy. I don’t think slower growth, or even decline, is the same as death. People stop physically growing in their 20’s, and yet we don’t consider them dead. People in their 60’s may be in decline in their mental and physical faculties, and yet that doesn’t mean we consider them dead, irrelevant, toast.

Rapid or slow growth isn’t the only consideration, so is specialization, which isn’t a bad, but a good thing. Designing things that specialize in content consumption versus production will make people happier and more productive. So was it ever. A good argument can be made that specialization of design leads to greater, better, more productive usage, not death, decay, R.I.P.

Did farm trucks built to be specialized trucks make farmers more productive? You bet! Did urbanites prefer driving cars instead of half-breed car-trucks? Certainly. Did this lead either market to die, or did both grow and thrive? You be the judge. Did the specialization of trucks and cars compliment each others’ growth such that both thrived because of specialization? Yes.

And this brings me to the PC companies themselves, where I must admit I’m biased (my clients and I own shares of Microsoft, HP and Dell). My argument above is that the PC market isn’t dead because content consumption and production make for logically different products and markets. PCs will still be the major tool used for content creation until some better option comes along, and tablets and smartphones don’t seem to fit that bill (talk to people who do any of the content creation tasks I referred to above, and find out how many of them do it exclusively or even most of the time with their tablet or smartphone).

For the PC companies to die, they would have to make computers and software for content consumption only, and no other products, and then everyone who uses computers that way (or a sufficient majority) would have to switch to tablets and smartphones.

First, do HP, Dell and Microsoft make products and services solely for content consumption? Here, the facts speak for themselves. 70% of HP isn’t in the desktop and laptop business. 50% of Dell isn’t. Microsoft doesn’t report the numbers explicitly, but I can infer from public filings that they are like HP: at around 70%. 

So, if 30% of HP, 50% of Dell and 30% of Microsoft are in the desktop and laptop business, how much of this side of their business makes products for content consumption versus production? Once again, the facts speak for themselves. HP’s consumer business is only about 1/3 of it’s desktop and laptop business, only 35% of Dell’s, and Microsoft’s is probably around the same 1/3 as HP. That means, of the total business that HP, Dell and Microsoft do (these figures are estimates), less than 10% of HP’s business is PC content consumption, 18% of Dell’s, and less than 10% of Microsoft’s.

Added to this, desktops and laptops for content consumption are the least profitable businesses for each company, with razor-thin margins right now. The result is that HP, Dell and Microsoft are making little or no money off their content consumption desktops and laptops right now, so losing this business–if, indeed, that happens at all–would not be the end of the world for them.

What, then, is the other side of each business–the non-desktop/-laptop for consuming content side? One part is content production desktops and laptops. That side may see some erosion in units and margins from tablets and smartphones, but it seems a bit of a stretch to say Rest In Peace to a huge, vital business that seems more likely to be complimented by tablets and smartphones than replaced by them (can a Boeing engineer really effectively and efficiently design a jetliner on his couch with his smartphone and tablet?).  

What about the other 70% of HP and Microsoft and 50% of Dell that isn’t desktops and laptops at all? That side makes servers, networking and storage equipment, data center/productivity/back-office software, and consulting and services for enterprises. In other words, all the pictures, videos, databases, music, and equipment we utilize when we access content with our tablets and smartphones is made possible by the software and hardware made by companies such as HP, Dell and Microsoft.

I’m not arguing that Dell, HP and Microsoft will or can win back content consumers with new products and services–even though that is clearly possible–to avoid becoming dead, irrelevant or obsolete. I’m arguing that part of the PC market–the content creation side–will continue to thrive, and that the more profitable and growing sides of Microsoft, Dell and HP creates the back-office equipment necessary for tablets and smartphones to exist, much less thrive.

PCs aren’t dead any more than trucks died 3 years after the first car, any more than airplanes eliminated the need for cars, any more than word-processing eliminated the need for paper, any more than railroads were irrelevant after trucks were first created. Not every new invention is a substitute. I would argue that tablets and cellphones will substitute as content consumption devices, but not as content production devices.

Is the PC market rapidly changing? Yes. Will there be winners and losers? Definitely. Will content consumption and production devices continue to rapidly change and evolve into more specialized equipment? Almost certainly. Will all the back-office equipment and software made by Dell, HP and Microsoft be necessary for content consumers to gain access on their tablets and smartphones? Yes. 

Will current PC companies die? Perhaps, if other, new businesses become better at profitably making the specialized content consumption/content production devices. Perhaps, if they fail to compete in their markets outside of desktops and laptops. Perhaps if they make strategic errors to enter markets they can’t compete in, or pay too much for acquisitions, or create a culture that snuffs out innovation. But, that’s a lot of “perhaps.” The future is uncertain, especially for highly competitive markets with little or no barriers to entry. Competitive markets are not, by definition, dead, but quite the opposite. You’ll know its dead when there is no more competition, and no one cares, and commentators aren’t trying to convince you it’s dead.

Perhaps the talking, breathing, huge, dynamic PC industry isn’t quite dead, yet. Perhaps we should monitor the patient objectively before chucking it into the dead-body cart.

Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.

PCs: Not Dead Yet (nor irrelevant, obsolete, toast, etc.)

Profits, not market share

As a shareholder of Dell, I must admit to being frustrated by all the focus both Wall Street and the media apply to market share. Listening to them, you’d think all that matters is market share. They’re wrong.

What matters in business is profits.  Not market share, but profits and their sustainability. Market share is a measure of sales relative to other companies. It’s a top-line focus. Profits are bottom-line. It’s the money a company makes, it’s a measure of value-added, and it’s the money a business has to compete in the future.

In Wall Street and the media’s defense, there are some businesses where market share is all important. In Internet search, for example, Google dominates with high market share and very high profits. There’s a network effect in search that hugely rewards number one. Number two and below not only don’t make much money, they lose big-time (just ask Yahoo! and Microsoft (another holding of mine)).

Let me give you a quick theoretical example of how to gain very high market share but lose in the end.  Buy $30,000 Honda’s sell them for $15,000. I guarantee you’ll have #1 market share. But, you’ll be out of business so quickly it won’t matter. Now, buy those Honda’s and sell them for $29,000. Once again, you’ll have very high market share and you’ll last longer, but you’ll still be out of business in the long run, guaranteed.

Now, back to the computer market.  

A couple of years ago, Acer overtook Dell by grabbing the #2 market share spot. Was that #2 in profits? Not at all. In fact, Acer gained #2 market share selling netbooks. Remember those. Perhaps not, because they’ve been almost completely supplanted by tablets–mostly Apple’s iPads. Acer gained market share selling a cheap, low profit margin product. Dell didn’t follow. Since then, Acer has fallen back below #2 and Dell continues making profits and competing successfully. Dell focused on profitability, not market share, and it worked.

Fast forward to today, and Lenovo just overtook Dell for #2 in market share. Instead of selling netbooks, Lenovo is dominating sales in China and doing very well in emerging markets. Their profit margins?  1.85% at last report on an accounting basis. Dell’s profit margins? 5.8% on an accounting basis (7.6% on a cash basis).

Now, think about that. Profits are what is used to buy inventory, innovate new and better products, build supply chains, hire productive employees, etc. Just for the sake of the argument, let’s assume Lenovo is selling a product that’s just as good as Dell’s (which is unlikely with so much lower profit margins). Lenovo is essentially selling $30,000 Honda’s for $30,555 and Dell is selling them for $31,740.  Lenovo is making $555 on each sale and Dell makes $1,740–more than three times as much!

That’s the money each company has to pump back into the business. Lenovo would have to have over three times the market share to have the same amount of profits to plow back into the business in order to be competitive. Does Lenovo have three times Dell’s market share? Not even close. In other words, Lenovo cannot compete by focusing on market share, it must either focus on profitability or risk losing that market share over the long run.

I’m simplifying the argument a bit to make things clear, but my point is still valid. For a company to survive and thrive over time, it’s about profitability, not market share. An over-focus on market share is the wrong way to think.  It’s a focus on effects, not causes.

In the long run, Dell doesn’t need high market share to succeed. It needs profitability. That, it has.

Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.

Profits, not market share