Easier Times for Hard Drives

Consumer devices have come to the rescue of the ailing hard-drive industry. Hard drives, some smaller than the proverbial matchbook, are popping up in everything from Apple Computer's(AAPL Quote) iPod to Microsoft's(MSFT Quote) Xbox.

Seagate Technology(STX Quote), which had the smarts to spot this trend early on, now derives 10% to 15% of its revenue from the consumer electronics market, a total that the Scotts Valley, Calif., company figures will jump to 25% or higher by 2007.

Meanwhile, the much larger cell-phone market is beckoning Samsung, which has already built a phone with a tiny hard drive manufactured by Toshiba, and other companies are expected to follow suit. If all goes well (and it may not), game and music devices, digital-video recorders, cell phones and other consumer gadgets will eat up 164 million hard drives worth $10.2 billion in 2008, predicts technology researcher IDC. The same market in 2004 comprised 43 million drives worth $3.1 billion at the factory door.

The consumer electronics boom couldn't have come at a better time. The PC industry, the meat and potatoes of hard-drive makers, has long passed its peak growth years, and even though there has been significant consolidation in the drive space, there may still be too much capacity.

Last year, for example, shares of Seagate and other drive makers cratered as they fought to dump excess inventory, the result of overly optimistic forecasting in late 2003.

Seagate has rebounded smartly from the downturn, appreciating by 93% since bottoming in mid-August. Last week, Lehman Brothers analyst Harry Blount upgraded the stock to overweight, saying he favors vendors that are gaining share in the market for computer notebooks and consumer devices, and those that have adequate access to components.

"Of the three public [hard drive makers], we believe Seagate fits the best," says Blount, whose company does not have an investment banking relationship with Seagate.