Digital buy prompts Compaq makeover

If CEO Eckhard Pfeiffer can execute the strategy laid out to analysts, stockholders, and the press over the past two days, Compaq will be transformed over the next couple of years from an efficient PC technology vendor to a massive computing organization complete with global consulting and support groups; research divisions dedicated to Unix, microprocessors, and other technologies not indigenous to Compaq; a much larger headcount; and revenues approaching $60 billion.

At the same time, the Houston, Texas-based company's core PC business will begin to shift toward the direct sales approach pioneered by Dell, a move that could make Compaq more competitive but also put it on a collision course with its reseller base.

But first, the company will cut 17,000 workers--15,000 from Digital and 2,000 from Compaq proper--and otherwise revamp its organization in the next few months.

"It's going to take a while. Even Compaq on its own has had trouble with execution," said Ashok Kumar, computing analyst with Piper Jaffray.

Compaq's last attempt at a business model makeover, after all, was its build-to-order initiative designed to reduce inventory. Instead, a miscalculation lead to bloated product levels.

Compaq will take estimated charges of $2 billion for restructing and $3.4 billion for an in-process research and development write -down, according to analysts. The expenses will dampen Compaq's earnings for the year, Compaq said, because the costs associated for the acquistion won't be put behind them until the fourth quarter.

At least on paper, the plan looks sound, according to most analysts. The question, however, is whether the company will be able to pull off these goals without upsetting its core businesses.

"There is a lot of work ahead in making in making these companies fit together," said Bruce Stephen, computer analyst with International Data Communications (IDC). "Will Compaq be able to keep its eye on its core business of selling PCs?"

Speaking this morning in New York, Pfeiffer focused on three themes. First, Compaq will tackle enterprise computing by combining technologies from Compaq, Digital, and the earlier acquired Tandem division. The aim will essentially be to develop a high-end group of products that combine Digital's 64-bit Alpha chip and Unix platform with clustering and other technologies created by Compaq and Tandem.

Second, Compaq will place strong emphasis on interoperability between these technologies and Microsoft's rival Windows NT operating system. To this end, Compaq will engage in a large "middleware" development effort to make interoperabilty "seamless," Pfeiffer said.

Pfeiffer called the trend toward NT one of the two most important trends in the industry, rivaled only by the development of the Internet. With Digital, Compaq will now have the largest field force of NT-trained technicians.

Third, the company will begin to look toward consulting and support services as a large driver of revenue and profit. By 2002, Compaq wants to have a $1.5 billion services group, which will include a global service and support division.

While remaining vague, Pfeiffer and the other Compaq executives sketched out a number of changes coming in the next few months. Digital's PC brand will disappear once the current products hit the end of their lifecycle. The only survivor will be the HiNote brand of notebooks.

Alpha workstations under the Compaq brand name will come out "soon," said John Rose, Compaq's senior vice president and group general manager of the enterprise computing group. Rose and Pfeiffer also pledged strong support for the Alpha chip architecture, although a number of observers have said that the company will likely begin to shift to Intel's rival 64-bit platform when the second version of the Merced chip, called McKinley, appears toward the end of 2001.

Pfeiffer and other executives also emphasized that the "new" Compaq will be reorganized to allow customers to buy products in any manner they wished, including directly from Compaq or via the Web. But while increasing direct sales and Web sales will help Compaq reduce costs, when a traditional vendor tries to go direct, resellers typically react by threatening to switch allegiances to another brand.

Compaq maintains that computer resellers will remain the company's primary fulfillment arm, but Roger Kay, another analyst at IDC, said that this is another indication that the company is moving closer to the direct model pioneered by Dell. "They have been trying to sneak up on the channel for a long time, but every time the channel reacts," he said.

Stephen posited that conflict between Compaq and its dealers could be especially pronounced over the issue of services. Resellers generally make more from services than product; to date, Compaq has not been in the services business. "The channel wants to sell services too," he said. "It's going to be a delicate balance.

Lou Mazzucchelli, an analyst at Gerard Klauer Mattison, said that the Compaq's overall strategy seems sound, but that the test will come in the integration phase. "The devil is in the execution," he said. "It's two far-flung empires that you are putting together. Management is not underestimating the task, which is a very good sign. They can't underestimate it."

Key groups to watch include the field sales force and the services and consulting group. "The integration of the field sales forces is critical. If that hits a snag, that's a problem," he said.