A major piece on the front page of today’s Wall Street Journal (subscription required) argues that American companies are sitting on a huge cash hoard, but are extremely reluctant to spend it on new gear or software.
After declining in 2001 and 2002, investment spending finally turned up in the spring of 2003 and has been increasing since then. Shipments of U.S.-made machines, computers, furniture, airplanes and other capital goods in the first eight months of this year were 12.1% above year-ago levels…[snip]… But business isn't spending nearly as much as swollen profits and the pile of cash in corporate coffers suggest it should…According to the Journal, US companies held $1.27 trillion of liquid assets at the end of Q2, up more than $300 billion since 2002. At nearly 11% of GDP, this is the highest rate of corporate cash holding since 1959.
Well then, it looks like someone has a little money to spend. The 64 terabyte question is: will they or won’t they? And if they do, when? The Journal story doesn’t really have an answer to these questions, but it deploys a few carefully chosen anecdotes to suggest that large US manufacturing companies are skittish about capital spending. Among the reasons cited:
- current capacity usage that is still not high enough to justify more than maintenance spending
- an economic recovery which is strong but not roaring
- more stringent financial reporting requirements
- excess capital spending in the last cycle
- new lean manufacturing technology that lets companies produce more with less equipment
- a preference for investing in overseas rather than US-based plants
But if we tune out the political subtext as irrelevant, it remains that the Journal has put its finger on a fact of extraordinary consequence: the current cash rich status of US companies constitutes a veritable tinderbox of potential IT spending that is awaiting the appropriate spark to set it off. Make no mistake: the tinderbox will not combust spontaneously. All other things being equal, executives who have survived the ups and downs of the past five years will choose to sit on their cash rather than spend it (or else distribute it to shareholders through buy-backs and dividends, like Cisco and Microsoft). Not unless some compelling outside influence forces their hand. The current situation can be compared to a dry forest where a vast amount of underbrush has accumulated that could provide fuel for a raging forest fire – if the right stroke of lightening came along.
What might that stroke be? For the past two years our survey research has shown that many purchasers of big packaged apps such as ERP or CRM, while acknowledging that the software was necessary, are disappointed in the hard dollar ROI produced by it. The fact is we are very late in the current software technology cycle. Most software vendors and venture capitalists have convinced themselves that today’s enterprise IT customer is only interested in incremental improvements that show quick payback. This is of course a self-fulfilling prophecy: if your big bang products fail to deliver big bang benefits (due to rigid architectures that encourage out-of-control labor costs and unmanageable integration complexity), then naturally your customers will fall back on small bang products that are less likely to disappoint.
But there are some exceptions. Oracle, PeopleSoft and Siebel, for example, are all looking enviously at the license revenue growth spurred by SAP’s Netweaver and MySAP offerings. We can only hope that the executives of the first three companies (who have been a little distracted lately, it is true, by M&A and management issues) are pressing their product development teams to match SAP. To be sure, if we look beyond applications to infrastructure, we see that Oracle’s own 10g database is doing rather well too – surely matter for reflection right now at IBM, considering the flat to negative sales growth posted by DB2 in the most recent quarter.
We don’t know exactly how the next IT spending forest fire will start. But we can describe the chain of events that will lead to the conflagration. First, a handful of prominent user companies will suddenly find they are getting major traction with some of the newer software technologies. Perhaps it will be SOA (services oriented architecture), RFID, datacenter virtualization, or something else. Second, sales results for the companies who supply these products – be they established giants or start-ups – will pick up, drawing the attention of Wall Street and the media. Finally, the executive peer group of the early adopter companies will notice what is happening and begin to wonder if they are being left behind. This last stage is crucial, for we believe that formal or informal peer group benchmarking is an extraordinarily important factor in driving big ticket capital spending decisions. Peer pressure is the wind that can turn a small fire into a big fire, one that jumps fire breaks and sweeps all before it.
Bottom line: the Journal’s skepticism notwithstanding, we think the odds favor a major new flare-up of IT investment that could begin in earnest as early as 2005, following what we believe will be a surprisingly strong final quarter in 2004.