By JONATHAN CHENG, MATT PHILLIPS and STEVEN RUSSOLILLO
In their lust for the latest technology IPO, investors appear to have ditched some of their former tech darlings.
Amid the heavily hyped chatter on initial public offerings from Zynga, LinkedIn and Facebook, seemingly old-school tech companies such as Apple and Google were conspicuous laggards during the second quarter. The Nasdaq Composite index ended the quarter in negative territory, compared with gains for the rest of the market.
Following IPOs from LinkedIn, Zynga and Pandora, emerging tech companies are gaining high valuations and overshadowing established companies like Apple and Google, Steve Russolillo reports. (Photo: AP Photo.)
The buzz over the latest crop of tech newcomers has been palpable. LinkedIn ended its first trading day with a stock-market value of about $9 billion. On Friday, Zynga filed paperwork with regulators for a $1 billion IPO, although the final amount could be considerably different. Facebook is aiming for a stock-market value of more than $100 billion, placing ahead of the likes of Cisco Systems and Hewlett-Packard.
Still, some investors say the pummeling of tech stocks may have gotten out of hand.
Investors in LinkedIn are paying about $21 for each dollar of the social-networking website's estimated 2011 revenue. Yet they are paying less than $6 for each $1 of expected revenue at Google and Apple.
"The reality is Apple and Google are large-cap growth stocks, but they're not trading like such at the moment," said Paul Bard, director of research at Renaissance Capital, an IPO investment-advisory firm. "Investors aren't treating them as growth stocks. Instead, they're placing their bets in this new wave of Internet companies."
By one measure, tech stocks are at their cheapest compared with the rest of the market in almost 20 years.
For the past four months, the price-to-earnings ratio of the tech sector has been below that of the S&P 500, according to estimates compiled by UBS. That's the first time that has happened since 1992.
As of last week, the S&P 500 was trading around 12.4 times one-year forward earnings, and tech was fetching 12.1 times, UBS estimates. Apple stock is now fetching about 12 times earnings. Google is trading at about 13.8 times. Intel and Microsoft have P/Es of less than 10.
Reuters
The Microsoft Corporation's headquarters in a 2009 photo.
The turning point for tech came in March, as Japan's earthquake and tsunami caused supply hitches and worries emerged about global economic growth, dragging tech stocks down more than most.
Jonathan Golub, chief U.S. equity strategist at UBS, thinks now is the time to jump into tech stocks, pointing to a number of tech names he calls "unusually cheap."
Some say valuations have gotten so low that they are likely to rise should there be any stronger signs that the economy isn't mired in a prolonged slump. A few glimmers of hope for those bulls came last week, and tech recovered along with the rest of the market.
Even if the economy does sputter, the valuable—but underappreciated—combination of cash flow, accumulated cash and decent dividends offered by companies such as Microsoft, Cisco, Intel and Hewlett-Packard could become attractive to conservative investors.
Mark Luschini, chief investment strategist at Janney Montgomery Scott, suggests there may be some early signs those attributes are gaining notice. He points out that Microsoft shares rose 2.4% during the second quarter, handily outpacing the S&P 500's 0.4% decline.
"They've been sort of unsponsored, if you will, almost orphaned in the marketplace," Mr. Luschini said of large-cap tech stocks. "I think people are looking at these things as if they're some sort of old-world victim of some new-age technology that make these franchises no longer viable. But I think it's just the opposite."
Not everyone is so sanguine on the sector. Burt White, chief investment officer at LPL Financial in Boston, notes that the tech sector's earnings and revenue growth have lagged that of the broader market in recent quarters.
"That's not what we expect from tech," Mr. White said. "The market is just concerned that it's not going to get the growth rate from tech that we thought we would."
Investors are regularly willing to pay top dollar for earnings if they think a company has significant growth potential. But with that seemingly not the case for former high-fliers like Cisco and Hewlett-Packard, their shares are among the worst performers this year among the 30 Dow Jones Industrial Average components.
Cisco has slid 22% through Friday, H-P has dropped 12% and Microsoft has lost 6.8%. U.S. markets were closed Monday for the Independence Day holiday.
"If growth doesn't materialize, these valuation multiples can come crashing down," Mr. Bard says. "But if growth materializes, history has told us that somewhere down the road the multiples will normalize to levels of more mature growth companies."
Phil Orlando, equity strategist at Federated Investors, says investors now have a rare chance to buy some formerly expensive stocks at reasonable valuations.
"The cheapness is an opportunity to buy," Mr. Orlando says.
Write to Jonathan Cheng at jonathan.cheng@wsj.com, Matt Phillips at matt.phillips@wsj.comand Steven Russolillo at steven.russolillo@dowjones.com
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