March 15, 2001 3:15 PM PST

Compaq to cut 5,000 jobs, miss estimates

Compaq Computer on Thursday warned it will miss first-quarter earnings estimates and cut 5,000 jobs.

The announcement, which followed a week of analyst downgrades and a profit warning from Intel, put Compaq's earnings per share between 12 cents and 14 cents, or flat year over year. The company projected revenue of $9 billion to $9.2 billion, 4 percent lower than last year.

Compaq previously forecast $9.6 billion in revenue, flat year over year. Compaq also expects to report a $125 million, one-time gain, mostly from the sale of its Road Runner investment.

A consensus of analysts polled by FirstCall had expected earnings of 17 cents a share including the recent downgrades.

Houston-based Compaq expects to take a restructuring charge of $125 million to $150 million. The company also plans to cut 7 percent of its work force, or about 5,000 jobs.

"The reasons for the lowered estimates are now familiar to you," Compaq CEO Michael Capellas told financial analysts during a Thursday afternoon conference call. "We are seeing continued overall weakness in the U.S. economy."

"What started out as a broad-based slide in consumer confidence has now spread to reductions in corporate capital spending," Capellas said. The slowdown in consumer and commercial PC sales "naturally has led to some very aggressive pricing."

Compaq reported the biggest slowdown in desktop followed by notebook sales. But the company also is taking a hit in servers, particularly among low- and mid-tier products. Much of the slowdown is more in vertical markets, such as telecommunications, financial services and manufacturing.

Rather than broad upgrades, most businesses are focusing on upgrades around specific projects, Capellas said. Compaq plans to "become absolutely more aggressive" on pricing "and work like the devil" on putting together complete packages.

Overall, sales sluggishness has been greatest in the United States, with expected year-over-year growth in all other geographic regions.

"We so far in the quarter have not seen particular degradation of order rates or activities in Europe on the commercial side," Capellas said. "We've seen the high end in Japan remain relatively stable."

But Capellas warned "that there will be some extension of the weakness we've seen in the U.S. (spreading) to Europe."

Compaq also announced changes in management. Jeff Clarke will replace Jesse Greene as chief financial officer. Greene will become Compaq's senior vice president of strategic planning. Mike Larson, who had been responsible for Compaq's consumer division, will become senior vice president of the Access Business Group.

Compaq's retrenching comes amid a general slowdown in the PC industry. Morgan Stanley analyst Gillian Munson lowered estimates for the quarter and the year for Compaq on March 9, after Intel said that server sales to date have been lower than expected.

"While Intel isn't the only data point to look at when analyzing Compaq, it is a pretty big directional data point relative to other news in the market," she wrote.

Compaq is in the midst of a major organizational change with the the formation of the Access Business Group, which will form from the merger of Compaq's consumer and commercial divisions. By merging research and development, manufacturing and other logistical operations, Compaq hopes to save between $500 million and $600 million a year. Most of the layoffs will result from the consolidation and changes in supply-chain and marketing organizations.

Capellas said Compaq's structural changes are essential to remaining competitive in a slowing sales environment that pinches margins.

"Do you have enough room in your model to drive operating expenses to drive expenses down to offset it?" he asked. In this environment, "you have to drive your break-even point down."

To do this, Compaq plans to execute on the restructuring plan very quickly, "not be afraid to take bold moves and look at the organization a little differently," Capellas said. "That allows you the latitude to offset the margin decline."

Capellas said Compaq would not give details on where the layoffs would take place or give future guidance until the company's first-quarter earnings announcement, which is expected in late April.

"It's not surprising, given what's been happening in the overall industry," said Technology Business Research analyst Lindy Lesperance. "But they seem to be acting quickly to cut costs. The reorganization makes sense, but Compaq has had so many. That could be a problem."

"This is just not an organization change," Capellas said. "It reflects the view where we think the market is heading. Business and home computing is converging."

Capellas emphasized the consolidation would take advantage of the "technical synergy between the two groups" and would lead to more efficient manufacturing and "aggressively streamline our supply chain and overall inventory."

Lesperance questioned how much synergy there might be between the commercial and consumer groups. "A lot of the consumer manufacturing is outsourced, but this is something Compaq hasn't looked at on the commercial side," she said.

IDC analyst Roger Kay said the consolidation makes sense. "There's not as much a functional difference between consumer and commercial PCs as there used to be," he said. "You are going to see more of this kind of consolidation."

Kay pointed out that features such as network cards have moved from mainstream commercial systems to the consumer market, while multimedia functions on home PCs are more widely used at the office.

Still, Compaq, like other PC makers, faces challenges ahead.

"In the context of the announcements from Intel and Cisco, these types of layoffs are not entirely surprising for a company focused in the computer industry," said Dataquest analyst Charles Smulders.

Given current economic conditions and forecasts, Dataquest predicts PC unit sales in the United States will rise a paltry 5 percent this year over 2000. But if a recession hits rather than a second-half recovery, all bets are off.

"In a recession, that number would be flat or fall below 2000 unit shipments," Smulders said. "Given the component overhang and lackluster demand on the consumer and commercial side, we can expect lackluster computer demand for at least the first half of the year."

While the slowing economy will present challenges for all companies, "those companies involved in markets showing saturation, like PCs, will have the toughest time," he said.

 

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