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|  | OCTOBER 18, 2004
 S&P RATINGS NEWS IT Is Recovering, Bit by Bit [Page 2 of 2] Electronics DistributorsImproving levels of technology spending are evident in the electronic-components and computer-products distribution sector. Industry growth is expected to be in the 5% to 10% range for 2004, with rates at the upper end of the range for broad-line, global distributors that participate in multiple sectors and benefit from higher-growth locations. Rating outlooks in the electronic-components sector remain negative, based on weak earnings and debt-protection measures. However, we expect earnings to improve on a year-over-year basis through 2004. Rating outlooks are stable in the computer-products distribution sector, reflecting consistent profitability and less leveraged financial profiles than the components distributors. Contract Manufacturers Sequential revenue growth for the electronics manufacturing services (EMS) sector likely will moderate over the near term as rising inventories in the supply chain -- particularly computing, storage, networking and telecom -- have slowed orders. Most companies continue to experience favorable operating leverage, albeit very gradually, as benefits from restructurings and low-cost manufacturing translate into higher EBITDA margins. Balance sheets remain strong, with most companies generating positive cash flow, indicating the market likely will remain fragmented and intensely competitive through the next business cycle. One significant departure from the group is Celestica (CLS; BB), which announced sales and earnings shortfalls this quarter. This rating was placed on CreditWatch, with negative implications over concerns about falling profitability, negative cash flow, and increasing leverage. Software Service Providers Of the 46 rated companies in this sector, 20 are rated investment grade, while the outlooks for 70% of the total are either stable or positive. The relative stability of this sector is supported by a high proportion of service revenues under long-term contracts, providing a solid recurring revenue base and a better degree of visibility than other high-technology sectors. Based on recent trends and earnings announcements, it appears corporations are loosening their purse strings somewhat and beginning to reinvest more in IT infrastructure. However, most rated software and services companies remain cautious, and continue to realign their cost structures. Most maintain adequate financial flexibility to cushion any near-term volatility. Overall business fundamentals remain strong, the industry is still highly fragmented, and well-entrenched companies should continue to perform well over the long term. Consolidation activity has accelerated recently, especially for companies that are prominent in national defense initiatives. We expect this trend to continue as companies expand critical mass and technical expertise. European Semiconductor and Passive Electronic-Component Manufacturers This group continued to report good results in the second quarter of 2004. The ongoing solid performance was reflected in two positive actions, with the outlooks on B+-rated ASM International (ASML ) and BBB-rated EPCOS changed to stable from negative, as good performance allowed the companies to restore their financial profiles. Overall, all rated European players showed solid, but not exceptionally strong results in the first half of 2004 on rising volumes and a better pricing environment. Forecasts remain healthy for the remainder of 2004 and 2005. Growth in 2005, however, is expected to be weaker than 2004, with only low double-digit growth. This trend also has been highlighted by an increase of 8% in German semiconductor sales in August, 2004, following 12% rise in July and 18% rise in June. Adverse fluctuations in the euro/U.S. dollar exchange rate will continue to be monitored closely, as will the strength of the European wireless industry -- the latter a key market for these participants. We believe most European semiconductor-related manufacturers recently have built sufficient financial flexibility to protect credit quality in the near term.
 From Standard & Poor's Ratings Services All of the views expressed in this research report accurately reflect the research analyst's personal views regarding any and all of the subject securities or issuers. No part of analyst compensation was, is or will be, directly or indirectly related to the specific recommendations or views expressed in this research report. Standard & Poor's Regulatory Disclosure Any advice, analysis, or recommendations contained in articles labeled "Insight from Standard & Poor's" reflect the views of Standard & Poor's, which operates separately from and independently of BusinessWeek Online. It is possible that BWOL may from time to time publish information that is not consistent with advice, analysis, or recommendations that are published by Standard & Poor's. Standard & Poor's and BusinessWeek Online are each units of The McGraw-Hill Companies, Inc. Get BusinessWeek directly on your desktop with our RSS feeds.  Add BusinessWeek news to your Web site with our headline feed. Click to buy an e-print or reprint of a BusinessWeek or BusinessWeek Online story or video. To subscribe online to BusinessWeek magazine, please click here. Learn more, go to the BusinessWeekOnline home page  | | |
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