Tomorrow wreaks revenge on today

It was somewhat ironic that the IT industry's trade body, the CSSA, should choose as the theme 'Tomorrow came today' for last...

It was somewhat ironic that the IT industry's trade body, the CSSA, should choose as the theme 'Tomorrow came today' for last week's annual conference.

City Briefing

While it was intended to reflect advances in technology, it could equally have been applied to the share price of many IT companies.

At the top of the market, companies were being valued as though the promise of their partnerships and technology had already arrived and were being delivered.

There is little doubt that we are on the verge of some major advances in business practices which will feed directly into lifestyle improvements.

The ability to conduct business and personal transactions on the move, to have access to information and be accessible wherever you are will realise many of the applications we previously would have considered to be science fiction.

For example, put a GPS chip in a mobile phone and it will be able to tell you whenever you are within a few hundred yards of one of your friends and offer to call them and arrange to meet. Sounds far fetched? It will be here sooner than you think.

The problem is that we have to value advances like this today and factor that value into the share prices of the companies leading the way.

To justify the stratospheric valuation of some share prices, you have to believe that they will be able to maintain their technological lead for anything up to 30 years, a ridiculous period to try to forecast.

Let's take ARM Holdings, the systems-on-chips manufacturer, as an example.

It has excellent products and technological lead, but at a share price of £28 it is on a price/earnings ratio of 330 and is forecast to grow at less than 50% in 2000/2001. To put that in perspective, a rule of thumb is that P/Es should be no greater than forecast growth, so clearly the market is expecting greater things in future years from ARM.

The problem is that new entrants to the market will undoubtedly emerge, and it is perfectly possible that a technological advance will leapfrog ARM's current offering, or at least take enough market share to ensure that the current valuation is unrealistic.

Alternatively, if ARM manages to maintain its leadership for a few years and further evolve its products, the valuation may be conservative.

Knowing which of these views is correct is near to impossible without seeing inside every laboratory in the world, and there lies the problem for technology share prices. Just as it was impossible to call the top of the market on the way up, so it will be equally difficult on the way down.

This is because valuations are being driven by sentiment and promise rather than stable fundamentals. Which brings me back to the CSSA and the collapse in technology company share prices.

Yes, tomorrow's technologies are arriving today, just as yesterday's valuations are leaving.

Ian Mitchell is an IT analyst with stockbroker Beeson Gregory. His opinions should not be construed as investment advice.

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