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Tandem: Compaq's corporate solution

Compaq's goes shopping to bolster its position as a computing solutions provider for enterprise networks.

After talking acquisition with a handful of different computer manufacturers, Compaq Computer (CPQ) today settled on Tandem Computers (TDM), agreeing on a $3 billion stock deal designed to bolster Compaq's position as a computing solutions provider for enterprise networks.

On news of the deal, Compaq's stock dropped 2-7/8 from Friday's close of 106-3/4. Tandem, which has had a 5-year high of about 18, closed at 20-3/4, up 5-3/4 from Friday.

"Tandem offers Compaq a move into corporate business," said Stephen Dube, an analyst with Wasserstein Perella Securities. "I feel very positive about this deal. [Buying] Gateway 2000 (GWT) and Micron Electronics (MUEI) would have only added an alternative method for distribution," Dube said.

Micron confirmed in April that it had preliminary acquisition talks with the computer giant but noted they never reached a serious level. Meanwhile, Gateway's merger talks with Compaq reportedly broke down around May.

Dube said the deal should curb other acquisitions for Compaq, at least for now.

"We should not see another major one in the near future," he said, noting the move realizes a lot of what Compaq wanted to accomplish with an acquisition: an easy reach into a variety of new products and services.

Under the terms of the agreement, Tandem will become a wholly owned subsidiary of Compaq. As part of the merger, the Houston-based PC giant will issue 29 million shares of stock, with an exchange ratio of .21 shares of its offering for every Tandem share.

Last month Compaq and Gateway reportedly dropped their merger deal after disagreements over Gateway executives reporting to Compaq officers, according to an article in Time magazine.

This agreement gives the company a pathway into other desirable markets, Dube said. There is some overlap, but adding Tandem will contribute clustering software, Internet commerce software, corporate business services, and high-end servers to Compaq's growing product lineup.

Eckhard Pfeiffer, Compaq's president and CEO, said the company is going to leverage Tandem's 4000-strong worldwide field force. Pfeiffer said the deal gives Compaq "a range of capabilities to deal with corporate major accounts worldwide that we have not been able to build at this stage of the company. It doubles our total worldwide sales force...It gives us a solutions capability that goes way beyond what Compaq is offering today, and gives us an account servicing capability that Compaq hasn't had in the past."

Compaq, with annual revenues of more than $18 billion, has long hoped to become an end-to-end systems provider, capable of offering customers everything from PCs to networking equipment to iron-clad systems like Tandem's Himalaya line of nonstop servers.

The Tandem acquisition gives Compaq high-end servers and a field force of systems integrators, two elements the company needs to become a complete computing provider to multinational corporations.

"Compaq has articulated a clear strategy to grow the company from $20 billion to $40 billion. Tandem has a high-end presence, a lot of system software, and a system and sales and engineering force that is doing what Compaq is doing. [Compaq] had a choice to build or acquire," said Eugene Glazer, technology analyst for Fortis Advisers in New York.

The hitch is that Tandem has not been the strongest player in back-end corporate computing for some time, and has shown spotty financial performance of late. "Their sales have not grown for years and their earnings have been all over the place," Glazer said.

Tandem reported second-quarter net profits of $26 million, or 22 cents a share, for the period ending March 31. The company's profits have fluctuated since it posted a major loss of $49.6 million, or 42 cents a share, in the same period a year ago.

Meanwhile, Tandem's revenues dropped to $467.3 million in the second quarter, down from $576.2 million a year ago. They have been slipping on a sequential basis for more than a year.

But Roel Pieper, Tandem's CEO, said the company is in the middle of a turnaround.

"The last five quarters have been profitable. We've generated in the last 12 months close to $300 million in cash and we're growing revenue. The last two quarters were record quarters for our Himalaya systems. The last year and a half to two years have clearly been quite a positive ride," he said.

One aspect of the merger that bodes well is that both companies have been strong and vocal supporters of Microsoft's (MSFT) Windows NT operating system.

Tandem entered into an alliance with Microsoft last year to promote NT as an enterprise-class operating system. Prior to the Microsoft alliance, Tandem focused on Unix and RISC platforms. Tandem has ported its ServerNet technology to NT and the company has previously reported strong sales of its ServerNet technology.

Compaq, on the other hand, has worked with Microsoft to integrate Windows NT into the corporate environment, especially in the financial sector, which is a strong Tandem market.

"Our total addressable market has been doubled to about $650 billion," Pfeiffer said in an earlier statement. "This offers the opportunity for significant revenue growth. We will truly offer complete solutions, from handhelds and portables to networked desktops and workstations, all the way to Windows NT servers and the Himalaya range of massively parallel commercial systems."

Pfeiffer added that the company's "field resources will more than double" with the buyout.

Pieper will remain CEO of the Tandem subsidiary and take on the additional title of Compaq senior vice president, reporting to Pfeiffer. Enrico Pesatori will continue as president and chief operating officer of Tandem.

The two companies have worked closely in the last year as the industry has moved increasingly toward systems that cluster several servers together. Tandem has moved some of its clustering technology, including its ServerNet, to the PC server arena in hopes of taking a chunk of the large revenues expected when Microsoft's Cluster Server software rolls out later this year.

Reporters Ben Heskett and Jeff Pelline contributed to this report.