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Less glamour, more dividends: why ‘old tech’ is an investor’s friend

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31/07/2017
Fashionable and fast-growing technology stocks may look attractive, but Dan Roberts, portfolio manager, Fidelity Global Dividend fund, argues that investors should look towards old technology companies for opportunities.

When it comes to technology stocks, it is undoubtedly the rapidly growing and fashionable “FAANG” stocks which have attracted the most attention in recent years. Companies such as Facebook, Amazon, Apple, Netflix and Google have grown exponentially, adding over US$250bn of market cap so far this year. Remarkably, this is broadly comparable to the annual GDP of Chile.

These headline performance figures may be impressive, but the fact that many of these tech companies don’t tend to pay a dividend means that the wider sector can often be overlooked or under-represented in global equity income portfolios.

Notably, however, the tech sector has proven to be a relatively fertile hunting ground for the Fidelity Global Dividend fund since it was launched back in 2012. Today, the sector accounts for around 11% of the overall portfolio; although the fund’s underlying exposure here is focused on what we would term “old” tech stocks.

Less glamour, more dividends

This area looks less exciting than the new wave of tech giants but provides a more interesting opportunity set for valuation-aware dividend investors. As more mature businesses within the sector, they have ‘grown up’ to dominate their fields and display a number of attractive attributes: well-established, diversified businesses, recurring revenue streams with plenty of cash on the balance sheet, proven track records, and a strong history of paying consistent dividends.

Furthermore, as prospective growth rates have fallen, valuations have become even more attractive. This is in stark contrast to the FAANG stocks where it is questionable whether there is sufficient earnings support in the underlying businesses to warrant current valuations.

At the individual company level, Microsoft is a good example of an old tech company which offers investment potential. Microsoft has been a significant holding in the fund since launch – a period where it has continued to successfully transform its business to the new world of cloud and subscription.

That said, it still enjoys a very strong market position in the PC industry where the Windows operating system and Microsoft Office continue to generate enormous profits for the company. This is clearly a more mature industry but it provides strong recurring revenues; while individuals may switch to cheaper or free products for their home computers, the cost to businesses of switching remain high.

Elsewhere, US semiconductor manufacturer KLA-Tencor is another example of a relatively “boring” company that offers exciting return prospects. It is a world leader in its space and is therefore ideally positioned to benefit from strong demand – more advanced semiconductor technology demands due from smartphones and tablets, for example, means a greater need to invest in KLA’s products. It is also entering a new product cycle (Gen5) which supports its nearer-term outlook.

At the time of purchase in October 2016, it offered many of the characteristics Fidelity looks for in a stock – an attractive valuation, a healthy balance sheet with strong cash conversion and an excellent track record of capital allocation.

Like Microsoft, the strength of KLA’s underlying business – steered by a capable management team – means it is well positioned to grow both its earnings and dividend payments sustainably to shareholders over time.

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