2 Stocks to Watch in the Dying PC Market

By Markets Fool.com

Based on the first quarter of this year, the dying PC market hasn't received a miraculous shot-in-arm. Though not quite dead, the notion that last year's 2.1% drop in global PC sales was considered a positive sign demonstrates how bad things have gotten. Outside of the U.S., which was responsible for over 80% of all PC sales in Q1 of this year, there were 5.2% fewer units moved. The news was slightly better stateside, with a 1.3% decline.

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Even the widely hailed introduction of the new Windows 10 operating system, or OS, from Microsoft isn't expected to kick-start PC sales. Traditionally, a new OS from the world's dominant provider would be cause for celebration among PC makers, but not anymore.

It's not just device makers affected by declining PC sales, OS developers and firms like Intel -- which, as with Microsoft, enjoyed its own PC market dominance -- have been hit hard. But after experiencing some tough times, both industry behemoths are in the process of reinventing themselves, thanks in part to the dying PC market.

One path to the cloud
Though its stock price has eased some since announcing earnings on April 23, Microsoft shareholders are still enjoying a nice run of late. What's somewhat surprising about its stock price is Microsoft's last quarter was negatively affected by slowing PC sales, as evidenced by the 19% drop in Windows OEM Pro revenue, and a whopping 26% decline in non-Pro sales. Wasn't long ago that would have sent investors running for the hills.

But the declining PC market forced Microsoft to re-evaluate its business priorities, and recognize that the days of running nearly every computing device on the planet were over. The answer is CEO Satya Nadella's "mobile-first, cloud-first" strategy.

The Devices and Consumer unit -- where Windows resides -- still increased its top line by 8% last quarter, to $9 billion, thanks to a 21% jump in search revenue, 8.6 million Lumia smartphones sold totaling $1.4 billion in revenue, and Surface Pro 3 pseudo-tablet sales that improved 44% year over year. Microsoft's flagship Office 365 also increased dramatically, up 35% from the prior quarter, thanks in large part to changing its focus from PCs to the cloud.

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For the seventh consecutive quarter, Microsoft enjoyed triple-digit sales growth from its cloud services unit, and is now tracking at over $6 billion in annual cloud revenues.To put that into perspective, the prior quarter Microsoft's cloud run-rate of $5.5 billion was $800 million less than its recent quarter.

Another path to the cloud
Prior to the proliferation of mobile devices, if you owned a computer it likely had "Intel Inside," which is still the case. Of course, Intel's reliance on the dying PC market raised legitimate concerns about its future. Based on Intel's languishing stock price -- it's down about 13% year to date -- some are still grappling with that question.

Last quarter was a microcosm of Intel's struggles in a tough PC market. Revenues were essentially identical to Q1 of 2014, though slightly better gross margins and cost controls boosted operating income and Intel's earnings-per-share, or EPS, 8%, to $0.41. Considering Intel's stock price as of this writing is nearly identical to its pre-earnings level, investor's weren't impressed. But there's a bit more to Intel's story than PCs.

According to CEO Brian Krzanich, the 8% drop in Intel's Client Computing Group was due to, "lower than expected demand for business desktop PCs." Yet Intel was able to post flat overall revenues, despite an 8% drop from its largest business unit responsible for nearly 60% of total sales. How? Declining PC sales forced Intel to transition to its new strategic objectives: particularly cloud data centers and the Internet of Things, or IoT.

As the cloud continues to explode, global data center growth is expected to go along for the ride: and Intel is ready. Last quarter's 19% improvement in revenues to $3.7 billion was impressive. But the fact that each quarter data center revenues make up a larger part of Intel's revenue pie is even more telling. Toss in 11% growth in IoT sales, and Intel is on its way.

Sometimes a company needs a defining moment to start focusing on the future. For Microsoft and Intel, the dying PC market was the impetus to begin looking ahead. And based on results, they are both well on their way.

The article 2 Stocks to Watch in the Dying PC Market originally appeared on Fool.com.

Tim Brugger has no position in any stocks mentioned. The Motley Fool recommends Intel. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.