PC sales slowdown hits Compaq

Compaq joined a string of PC companies struggling to deal with slow consumer demand during what is normally one of the busiest selling seasons of the year.

Compaq now expects revenue to be between $11.2 billion and $11.4 billion, 8 percent to 10 percent below expectations. The revised figure represents 7 percent growth from the same period last year.

The company forecast earnings per share of 28 cents to 30 cents. The most recent estimate from analysts polled by First Call/Thomson Financial forecast earnings of 36 cents a share.

Compaq shares on Tuesday gained 53 cents to close at $20.77. The warning was issued after the close of regular trading. In after-hours trading the shares slipped to about $20, according to IslandECN, which tracks trades on electronic networks.

Besides resetting expectations for the quarter, the company said annual revenue would grow 10 percent above revised 2000 estimates and earnings per share would grow 25 percent.

"Considering the progress we made this year and our momentum in the marketplace, it is very difficult for us to make this kind of announcement, but it is very clear the North American market has softened," Compaq chief executive Michael Capellas told financial analysts Tueday during a conference call.

Chipmakers Intel and Advanced Micro Devices both have warned recently of lower-than-expected earnings, as have PC makers Gateway and Apple.

With consumer PC sales tanking this holiday season, analysts had been watching consumer market leader Compaq. About a half dozen Wall Street analysts cut Compaq's rating last week--among them Chase H&Q, Credit Suisse First Boston and Janney Montgomery--each expressing concerns about the potential impact of slowing consumer PC sales.

Merrill Lynch analyst Steve Fortuna on Friday cut his Compaq fourth-quarter estimates because of industry-wide soft consumer PC sales. Fortuna forecast $11.84 billion in revenue, or 13 percent year-over-year growth, revised from 17.5 percent growth. He cut Compaq earnings per share estimates to 30 cents from 37 cents.

Fortuna expressed concerns about consumer sales, "an area that has been responsible for a significant amount of the company's recent top-line growth," he noted.

Compaq's problems are more than just soft sales, as the PC maker faces problems resulting from companies it has invested in.

"Changing market conditions have also affected certain of our strategic investments," Capellas said. "As a result, we will make downward adjustments of some holdings, principally, CMGI."

Compaq holds about a 17-percent stake in CMGI, following the Internet conglomerate's acquisition of AltaVista from the PC maker.

The adjustments would result "in a non-operating, non-cash charge in the fourth quarter of somewhat more than $1 billion," Capellas said.

Compaq has faced mounting problems with as much as 10 weeks of inventory backed up for the holidays. In a normal selling season, that would not be a problem, said ARS analyst Matt Sargent. But with market researcher PC Data reporting retail PC sales down 12 percent in November year-over-year, Compaq faces a tough job clearing out stock.

"Compaq is the biggest player in the retail desktop and notebook market, so they have the most to lose," said Sargent. "I definitely wouldn't want to be in that position in the retail market, which is definitely having problems."

Capellas said Compaq started off the quarter with strong sales growth, but weakness in the U.S. consumer, small- and medium-sized business and dot-com markets created problems in late November, going into one of Compaq's historically strongest sales period. Typically, 45 percent of Compaq's fourth-quarter sales come in December.

Despite an industry-wide slowing of consumer sales in October and early November, Compaq saw solid sales through Thanksgiving, Capellas said.

"We started to actually see what I would call a little bit of a market mentality work on us right after the Thanksgiving holiday," he said. While Compaq had anticipated some slowness in consumer sales, sluggishness spreading to commercial and small PCs was surprising.

"If you look at the revenue loss for the quarter, it is almost evenly split in the $300 to $350 million range between consumer, commercial personal computers and the balance of the whole enterprise side," Capellas said.

This split caught some analysts by surprise, as consumer sales had been expected to be soft, but the effect on other areas surprising.

Capellas warned that sales of ProLiant servers, which saw more than 40 percent growth during the second and third quarters, would fall short of expectations. Compaq had planned about 45 percent growth but now expects closer to 25 percent.

Capellas blamed the slowdown on pricing pressure at the low end and "a pull back" by dot-coms.

One contentious point has been the amount of inventory sitting on retailers' shelves. Market researcher ARS and sources close to distributors and dealers put the number close to 10.5 weeks worth of goods.

"Channel inventories are currently at the planned levels of 4 weeks for commercial products and just under 7 weeks for consumer," Capellas said. He emphasized it was important for Compaq to be "very, very careful to ensure that we have our inventories balanced correctly."

Going forward, Capellas warned, "pricing is going to be pretty soft for the first half." He said aggressive pricing would affect not only consumer systems but commercial PCs and low-end servers.