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Compaq weathering transition

With the PC glut behind it and the Digital assimilation under way, the computer maker's fortunes are looking up.

With the inventory glut behind it and the assimilation of Digital under way, Compaq Computer is expected to report improved earnings of 6 cents a share for the third quarter when it holds its conference call with analysts Wednesday.

The third-quarter results, which follow a tumultuous first half for the company, will likely be seen as further evidence of a moderate turnaround in the PC market and Compaq's fortunes in general. Despite a worldwide economic crisis, PC sales have slightly accelerated in the second half because of lower prices, according to International Data Corporation and other research houses.

As a result, one of highlights of the conference call on Wednesday will be any guidance Compaq gives about sales in the fourth quarter, said Michael Murphy, editor of the California Technology Stock Letter. Decent third-quarter numbers, combined with strong statements about end-of-year sales, could help cement opinions about rising demand.

"The question is what are they going to say about the fourth quarter," he said. "If they have a good December quarter, and they get rid of the drag from Digital, they can get to 50 cents a share."

Among the major manufacturers, Compaq will likely recover some of the momentum it lost in the first half of the year.

Compaq struggled in the first half because of an inventory surfeit of low-end PCs. As a result, the company reported income of 1 cent and 2 cents a share, respectively, for the first and second quarters of this year. Compaq managed to clear most of these machines out by midsummer, clearing the path for sales of new computers this quarter.

In addition, Compaq may be helped by inventory woes of a different kind. Notebook competitors IBM and Toshiba suffered substantial product shortages, according to Vadim Zlotnikov, computing analyst with Sanford Bernstein, which allowed Compaq to add incremental sales.

"There have been dramatic shortages of the IBM notebooks and the Toshiba notebooks," he said. "Notebooks will be strong for them [Compaq]. Their consumer business was very good."

Zlotnikov said he expects the company to report earnings of 6 cents a share on $9.1 billion in revenue.

Compaq also experienced some small growth in the consulting division it acquired from Digital. Last quarter, service revenues grew 3 to 4 percent. This quarter, service revenues grew 7 to 8 percent, he added.

Still, a complete recovery is far from over. For the same quarter last year, Compaq reported earnings of 36 cents a share on less revenue. Compaq also will likely continue to incur expenses with the Digital transition. Following the Digital acquisition, Compaq announced it would reduce headcount of the combined company by 17,000. So far, only a few thousand workers have been laid off.

The company itself is calling the third quarter a "transitional" quarter. The conference call will take place on Wednesday before the market opens.