"After languishing for almost five years, the electronics sector ? a high flier during the 1987 boom ? was one of the best performers on the JSE in the past 12 months. With most of the major companies now posting improving profits, the sector has been keenly rerated against the JSE Industrial index. Price increases of many of these shares have tapered off in recent months, but they seem likely to appreciate further over time, especially when the economy recovers.



After last year's steep upswing, the sector has finally shed the poor image it gained after the 1987 Crash. During the mid-Eighties boom, investors chased electronics shares, particularly those of newly listed computer groups, with a zeal that bordered on the absurd. Investor sentiment crumbled when electronics shares plummeted.

When many of the newly listed computer companies subsequently reported poor fundamental performances, and growth of major electronics groups slumped as a result of extensive capital spending cuts, the sector was further blighted in the eyes of the investment community.

However, in the last quarter of 1992 electronics shares against began to attract attention and the sector was rapidly and extensively rerated. Market capitalisations of a number of companies ballooned, including bigger electronics groups such as Altron, Powertech and Reunert; information technology (IT) groups Datakor and Persetech; and specialist firms such as Q Data, SPL and Telemetrix.

Generally improving profitability is evident from the accompanying table, which ranks the sector's top 17 companies by market capitalisation. It includes all those with a market cap exceeding R100m in mid-May.

Franco Busetti, director of stockbrokers Edey, Rogers & Co, cites several reasons for the more bullish ratings. ?During the four-year slump in the electronics industry, the weaker players fell away and the strong groups reorganiesd,? he says. ?By 1992 the electronics groups were working on good margins, had low gearing, were paying almost full tax, had high dividend covers, and began to show signs of resumed earnings growth.

?The market began to realise that the reasons for the sector's low rating had fallen away, and investors moved quickly to take advantage.?

Busetti reckons the rerating has largely run its course, and further price apprecia-..

?rivals such as Barlow Rand's Reunert and Anglovaal's Grintek, address SA's traditional electronics, electrical engineering and cabling markets. These markets, with their heavy emphasis on capital-intensive local production, were for years nurtured by the State and have been hard hit by spending cuts among traditional customers such as Telkom, Armscor, Eskom, Transnet, and the mining industry.

Large capital spending by big buyers, particularly Telkom and Armscor, and the prolonged recession have forced almost all the electronics and electrical engineering groups to resize and refocus operations. Overheads, particularly manpower, have been smashed; assets and cash are better managed; and new markets, at home and abroad, are being exploited.

Altron and Powertech have begun to show bottom-line results: Altron's EPS increased by 11,1% in the year to September. Powertech's were up 5%. Reunert lifted its EPS by nearly a quarter in the year to September.

Grintek has lagged behind the other large groups; its EPS fell slightly in the year to June, largely because of the high exposure of unlisted Grinaker Electronics to the depressed military market. This is unlikely to change soon. However, IT subsidiary Siltek is expected to start delivering good earnings growth after several years of reorganization; that should bolster Grintek's performance.

Though most of the large electronics groups have been resilient and innovative in returning to profit, they are unlikely to sustain real earnings growth without an upswing in the economy and an accompanying takeoff in domestic spending on infrastructural projects such as mass housing, electrification and provision of telecommunications services.

With overheads pared and plenty of surplus production capacity, these groups would benefit quickly from large social capital spending. For rapid growth, though, several things are needed: speedy progress must be made towards a new political dispensation, the domestic and international economies must pick up, and niche export markets for neighbouring states and further afield must be developed further.

The largest and fastest growing sector of the local electronics industry is IT, which now accounts for more than a quarter of total turnover. Among major players are Barlow Rand's ISG and Persetech (both previously in TSI); Grintek's Siltek; Sankorp-held Datakor; and Altron's Fintech. Datakor has upheld a solid record: in the six months to March, its EPS rose by 12% and chairman Nic Frangos said further growth was targeted for the following six months.

Largely dependent on imported products and technology, this highly dynamic sector is more stable than it was during the Eighties boom. However, it remains strongly influenced by the rapid technological change that has characterised the computer industry since its inception.

The swift changes in the microcomputer market in the Eighties, resulting in microcomputers becoming mass-produced commodity products, was one of the main reasons why IT companies performed so poorly. Groups such as ISG, Persetech, Siltek and Fintech have largely come to terms with shifts surrounding microcomputers, and have reduced their exposure to this sector.

Further declines in computer hardware prices and growing standardisation of software is putting increasing pressure on margins, particularly among mainframe suppliers.

Persetech, which derives most of its income from selling and supporting Hitachi mainframes, has bucked this trend, with earnings up 32% in the year to September. This was achieved largely through increased market share, primarily at the expense of ISG.

The poor rating of IBM distributor ISG was compounded by the well-publicised financial woes of IBM ? though in the second quarter of this year ISG's price was recovering.

Because of the slump in computer hardware prices, most of the large IT groups are thrusting into specialised high-growth markets. Software and associated services, and networking seem to be potentially the most lucrative. Siltek should benefit from a large minority stake in listed software group Q Data, which has extensive networking interests.

Fergusson Brothers analyst Lesley-Anne Dry expects the local information technology market to grow at 14% and 13%, respectively, over the next two years, with software, associated services and networking growing particularly strongly.

Though most IT groups have attracted strong investor support, companies trading in high-growth sectors, particularly networking and software, may still offer investment opportunities."