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Fleck Rap



Inventory: the Spoiler in Tech Dreams?

In Gratitude to Ingram for Greenery

Overnight markets were quiet. However, once the casino doors opened, the market (to badly mix my metaphors) bolted out of the gates. The giddiness of bulls can be seen in their besting the 60% level, as just reported by Investors Intelligence, to up 60.2% (while bears hovered around the 17% level once again). Meanwhile, the land of the housing hot potato got less than bullish news, as half an hour into the day, housing starts, which were expected to come in at 6.25 million, printed at 6.04 million.

In any case, tech led the upside charge in the early going, thanks to positive results from Ingram Micro(IM:NYSE) (more about that below). After the opening surge, the market flopped and chopped for a while, had a little dip around lunchtime, and then meekly ground higher over the course of the day, to go out on the highs. A quick check of the box scores will reveal that nothing too earthshaking happened, and that tech remained the upside winner, with the Sox up 2%. Metals stocks were under pressure today, though nothing out of line with the weakness in the metals, as described next.

Weak-Kneed Bulls Run from Yellow Dog

Away from stocks, the euro took a pasting (dropping 1.5% to $1.2496, with other currencies also weak) as German Chancellor Gerhard Schroeder said the ECB should cut rates. Gold promptly swooned on that news. I keep waiting for the day when gold says: Yup, that's exactly why folks should own me, because the dollar is a piece of confetti, and the euro is only marginally better. When that day arrives, gold will have finally reasserted itself as the only currency that is no one else's liability and cannot be printed.

The fact that gold should drop $7 because the euro was down 1.5% (as happened today) because the Chancellor of Germany is trying to get the ECB to ease is sorta nuts. But it does illustrate (1) that there is a lot of hot money in gold, which quickly responds to price action, and (2) that in some ways, the people who are long gold are still afraid of their shadow -- a not-so-uncommon occurrence in the early days of a bull market. In any case, by day's end, gold was down $8.70 to $396.10, silver was down 9 cents to $6.54, and oil was up $1.23 to $35.81 (good thing oil doesn't impact inflation).

A Cache of Inventory Is Cash in Theory

Returning to Ingram Micro(IM:NYSE), I was going to share my comments about its quarter, but as I sat down this morning to craft the spew, I received an email from a very knowledgeable reader that highlighted some of the important things to note about the call. (An additional point that I would make: Ingram Micro is also benefiting from consolidation in its industry, as well as some fairly rigorous cost-control measures.) He nailed the inventory issue, and that is what interests me the most. You will notice that he also segues to the next looming problem, which is a handset-inventory issue. Anyway, despite a bit of inside baseball, I think it's worth sharing his whole email, and here it is:

"So, back to the theoretical notion of a world without semiconductor inventory. Ingram Micro(IM:NYSE) reported last night -- a surprisingly stellar quarter. They beat revenue estimates by about $1bb. However, ending inventory there grew 30% sequentially, or $450mm, in front of a down-10% sequential quarter. How does a company beat revenue estimates by $1bb and yet still grow inventory ahead of a down quarter? One would think in this situation that inventory would have ended up depleted. This is just amazing."

"Now clearly, most of IM inventory will be finished goods like PCs and flat panels, but those still all contain semiconductors, and since Ingram does do some components business, it will include raw components as well. No wonder things sound a bit mushy in PC-component land. Which brings me to the next issue: handsets. I think handset components are now experiencing the same phenomenon that PC components experienced in Q3 and Q4, which is the mad-scramble inventory build. While I think handset sales are pretty good in Q1 (normal seasonally down/potentially slightly better than normal seasonally down), they are still running at very elevated absolute levels. And, the component sales into the handset industry are running well ahead of ELEVATED handset sales (for example, LG and Samsung units in total were flat in Q4, but Qualcomm(QCOM:NASD) shipments to them were up 49% sequentially in Q4)."

"So, my guess is that next quarter, we'll start hearing the same rumblings about handset components that we are hearing about PC components this Q -- slowing. And, handsets have the potential to be MUCH worse for component guys (not to mention an impossible comparison with Q3 and Q4 of 2004). The funny thing is, there's real slowing in the PC-component chain with the PC end market doing roughly fine (although there are some indications of softness now at retail, but still a bit unclear)."

"Handsets have the potential to be a disaster. Given all the aggressive promotional activity and upgrading of handsets, our model still has the replacement cycle being driven down short-term from 2.5 years to 1.5 years. Clearly, this is not sustainable. It seems arithmetically that a lot of upgrade activity has been pulled forward into Q3/Q4 last year, and some Q1 this year."

"So, our model is still predictive of a slowing/brick wall hitting of handset-unit consumption in Q2 (which will stay soft for a long time as a lot of the upgrades occurred with the movement to two-year contracts, which will put a huge chunk of people out of the market for a new handset for two years!). This has the potential of happening at the same time that handset components have been building as everyone scrambling for parts. A good analogy was the Wall Street Journal article about increased steel prices on Monday. It talked about someone who was trying to hoard nails. I think this is a good analogy. Just my two steel pennies."

'Till Opteron Do Us Part

And as long as we're on the subject of PCs and components, I would note that yesterday, Hewlett-Packard(HPQ:NYSE) announced a series of servers using the Advance Micro Devices(AMD:NYSE) processor. The bit of irony there, for those who have not been paying close attention, is that over the last 10-plus years, Hewlett-Packard was Intel's(INTC:NASD) partner in developing the (nee Itanium) Itanic product.

Finally, as promised yesterday, here is Joanie's piece on Greenspan.

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