Focusing On Net Results.

It's a love-hate relationship. Many in the technology industry today are shaking their fists at the dot-com sector -- understandably. When the Internet bubble burst, it crippled the industry's revenues, left it with a backlog of inventory and pulled its stock values into the basement, along with anything even remotely technology-related. Nevertheless, the major technology players recognize that the Internet itself plays a central role in their success, and they're crafting business strategies around that reality.

In the electronics industry -- the sector covering PCs, semiconductors and network equipment -- it's clear that the fear factor still remains high among investors and corporations. The cyclical nature of this industry segment, however, can work to the advantage of those companies that remain focused squarely on what began the long slide: e-business and the Internet.

The power of the Web -- to enhance business efficiencies, strengthen supply chains, build closer connections to customers and develop forward-thinking processes -- is still a driving force for the electronics industry's long-term profitability. And as it enters a new phase of technological competition and growth, capturing the value of the Internet and e-business will be a key to boosting sales revenue and fueling a technology turnaround.

Positive Indicators

Little needs to be said about the current state of the electronics industry, since headlines trumpet its woes daily. Downward-revised earnings estimates and major workforce reductions from network equipment giants like Nortel Networks Corp. and Lucent Technologies, Inc. and pricing wars among PC makers such as Dell Computer Corp. and Compaq Computer Corp. confirm the severity of the situation. Among these realities, however, there are several important indicators pointing to a turn in the current cycle.

IT Demand Is Here To Stay

Information technology (IT) budgets appear to be on the rise again. Although far from the investment levels of the mid-tolate 1990s -- when Y2K concerns and dot-coin entrepre-neurialism drove spending to record heights -- increases in IT spending among traditional and Internet-centric businesses are reaching 4 to 6 percent this year. This modest, yet healthy, commitment to IT investments points to an important reality: Leaders recognize that e-business technology is a fundamental business tool that is essential for competing. It means demand for technology hardware, including computers, routers, semiconductors, network equipment and innovative hardware yet to be developed, is here to stay.

Factor in the industry's broad traditional portfolio, comprising industrial machines, commercial systems and consumer products (cars, homes, medical devices, military equipment and more), and the long-term outlook for the electronics market is bright. Indeed, Dataquest Inc., a unit of research firm Gartner Inc., still expects the worldwide information technology services market to grow from $665.9 billion in 2000 to $1.375 trillion in 2005.

Inventory Clear-Outs

Via Sell-Offs or Write-Offs

Inventories are being cleared out -- one way or another. Because of technology's short shelf life, much of the hardware manufactured by the electronics industry to meet the tremendous, albeit inflated, demand of the Y2K/dot-com boom was quickly rendered "obsolete" when the cycle turned downward and demand dropped. As a result, this inventory is being written off and off-loaded at bargain-basement prices.

While discounts in computer prices -- up to 40 percent in some cases -- may help fuel consumer sales, businesses are wary of making major investments in outdated technology, regardless of the low prices. Recognizing this, many electronics players are writing off their inventories to clear the way for the next generation of products. Cisco Systems Inc. recently wrote off some $2.7 billion in inventory, acknowledging the oversupply of older-generation products in its distribution channels and setting the stage for the introduction of new technology. Similarly, JDS Uniphase Corp. in June reported a write-down of $225 million to $250 million related to excess inventory, noting that new product design with its customers "remains vigorous." These write-downs can help stimulate new sales, and others are following suit.

Innovation Continues

With inventories and product pipelines clearing out, electronics companies are gearing up for the next wave of new product innovation, not only in next-generation routers and servers, but also in tools for broadband wireless services and mobile devices, where companies such as Waterloo, Ontario-based Research in Motion Limited are breaking new ground. Spending on research and development is still strong, particularly among up-and-coming technology companies creating the building blocks for the Web.

Although broadband has hit a speed bump, most technology companies are preparing for the build-out of high-speed services, which will require a major re-architecting of the Internet infrastructure. Fiber optics, optical networks, network-attached storage and wireless components and subsystems remain hot sectors, as they provide building blocks for high-speed transmission. Even major software developments -- like the impending release of Microsoft Corp.'s new XP operating system -- are likely to trigger increased demand for hardware, buoying the PC makers. Innovation is fueling competition and helping to create the next wave of products that should drive sales and revenue growth, which are critical to pulling the industry out of its slump.

Follow the Leaders

Although these indicators bode well for an eventual turnaround in the technology sector, as with any paradigm-shifting event, there will be clear winners and losers. The sector's leaders both of today and tomorrow -- are those companies focused on strategies that will help them weather the downturn, and maximize their competitive positions and market value for when the market does come back.

The best of these strategies fall into four categories: 1. Managing Costs - Strategically; 2. Refocusing on Core Competencies; 3. Mastering E-Business; and 4. Articulating and Executing a Vision for Global Success.

1. Managing Costs - Strategically

The fall-off in top-line revenues has led to dramatic workforce reductions, as PC makers, semiconductor manufacturers and network and communications equipment companies added tens of thousands of workers to the jobless rolls in the last quarter alone. While the layoffs may be necessary, cutting labor costs is largely a short-term measure. The current downturn also presents valuable opportunities for businesses to streamline and position to be more competitive in the long run.

Utilizing outsourcers that facilitate customized manufacturing presents one such opportunity. Electronics companies can save substantial costs by letting outsourcers take on manufacturing processes, while the electronics players themselves focus on what they do best: research and development, design, sales and branding.

Indeed, outsourcing has gained momentum. For example, wireless equipment company L.M. Ericsson Telephone Co. has outsourced mobile phone manufacturing to Flextronics International Ltd., and communications and software maker Avaya Inc. has turned to Celestica Inc. to capitalize on outsourcing efficiencies.

Similarly, strategic alliances, partnering or consolidation can lead to greater cost efficiencies by leveraging the know-how, resources and market share of other businesses. Among the thousands of alliances within the industry, the Compaq/H-P Open View global alliance is a good example of two traditional electronics companies leveraging each other's strengths to complement their own. Compaq's top rank in the PC server market and H-P Open View's leading position in the network and NT management markets help customers manage their networks proactively, creating a more valuable overall product offering for Compaq without the cost of developing proprietary solutions.

Also critical to cost-saving is effective management of vendor financing, a business practice that got out of hand over the last two years. Communications companies paid a stiff price for risky loans made to customers -- mostly start-ups -- and later defaulted on their obligations. Now, electronics leaders have realized that sound financing principles cannot be sacrificed just to make the sale. But make no mistake: vendor financing continues to play an important role in the industry's success, especially among optical networking players involved in the deployment of global high-speed pipelines. Through proper due diligence and closer scrutiny of customers -- including reviews of customer business plans and risk tolerance levels -- vendor financing is being managed in a more strategic way, one that mitigates risk and maximizes return.

2. Refocusing on Core Competencies

The core business value of technology has always been and will continue to be innovative product development, not manufacturing, distribution or retail sales. The leaders in electronics today are refocusing on what they do best: developing leading-edge technologies.

In the dot-com heyday, strong revenues emboldened electronics makers to extend their reach into non-core activities. But the era of "conglomerates" in the technology industry is largely over. Recognizing they cannot be all things to all parties, smart companies are focusing strongly on their core competencies; they're shedding peripheral activities not central to technological innovation. For instance, Compaq is showing strength with innovative hardware that will play a central role in its future, such as the iPaq handheld players, high-end servers and network storage devices. Network equipment makers are streamlining their businesses, a strategy Lucent recently highlighted in announcing its plan to condense five major businesses into two -- landline and wireless -- after spinning off Avaya and Agere Systems, Inc.

3. Mastering e-Business

According to a recent KPMG study, the computer/electronics sector has expressed the strongest commitment of any major industry to invest in its e-business infrastructure and capabilities. Some 80 percent of the IT professionals surveyed said their senior management aggressively supports the organization's IT strategies. Clearly, companies in the electronics space are leaders in e-business, which speaks directly to the industry's ability to rapidly leverage the Web for valuable cost savings and business efficiencies.

From inventory management, supply chain efficiency and procurement, to customer connectivity and enterprise-wide knowledge sharing, e-business tools and strategies have been implemented by the electronics industry much faster than in many other industry sectors. The leaders understand that an Internet-centric strategy is crucial to realizing the internal business efficiencies and external business success required for long-term competitive advantage. In fact, the winning electronics companies of the future will very likely be "virtual organizations."

4. Articulating and Executing a Vision for Global Success

Dell's CEO Michael Dell recently expressed his vision for expanding Dell's global market share from its current 13 percent to a whopping 40 percent -- despite the current economic conditions. In today's depressed economy, there's simply no substitute for a clear, decisive, well-articulated vision.

Providing a vision for the company's future -- in the near- and long-term is essential for inspiring and rallying a workforce, around one common objective: success. And while the U.S. is the cradle of Internet technology and e-business, today's electronics leaders understand that their visions must encompass the global marketplace. Lucrative markets in Asia and India, for instance, present valuable opportunities to expand market share and grow revenues overseas. A prime example is Nortel's recent multi-million-dollar deal to build a nationwide backbone network for one of China's largest telecommunications operators.

In the electronics industry, which is by no means limited to the Web and e-business, it's clear that its future lies squarely with those companies that are able to leverage the Internet for bottom-line savings and competitive advantage -- and to attract and retain "customers for life."

Cost-saving techniques, innovative products and visionary thinking -- coupled with a mastery of the Internet and e-business -- are just some of the factors that will separate the winners from the losers, once the technology malaise is over. By taking effective steps to lead themselves out of an historic technology downturn, the companies that supply the world with essential e-business tools face a brighter, albeit, challenging future.

Ed Rodriguez is global sector chairman of KPMG LLP's electronics practice based in Silicon Valley, Calif. He can be reached at [e-mail]. The views and opinions are the author's and do not necessarily represent those of KPMG.