Extreme benefits from 3Com shift

3Com's decision to surrender its high-end networking business to Extreme Networks should result in a financial boon for the upstart network equipment maker.

As part of its restructuring plan announced yesterday, 3Com will exit the high-end networking business and give Extreme access to hundreds of its customers--large corporations and telecommunications firms that buy expensive, high-speed equipment to speed up their networks.

Extreme's stock, which has soared since its public offering last year, will also employ 200 3Com sales, marketing and engineering staff. In return, 3Com will receive options to buy 1.5 million shares of Extreme.

No technology exchanged hands in the agreement. 3Com will kill off its family of high-end equipment and simply refer its customers to buy Extreme's products.

For Extreme, an emerging networking player, the deal with 3Com will give the company the resources it needs to compete in a lucrative but highly competitive market that includes stalwarts like Cisco Systems and Nortel Networks, as well as upstarts like Foundry Networks.

"They've got one of the better products out there, and the 3Com deal will certainly escalate their visibility in the market and provide them with a jump in revenue," said Gruntal & Co. analyst Michael Davies. Businesses and service providers install Extreme's high-speed equipment on their networks to alleviate network congestion and allow computer users to receive information on the Net more quickly.

Chase Hambrecht & Quist analyst Erik Suppiger expects the partnership will add $100 million in yearly revenue to Extreme's coffers for its 2001 fiscal year, which begins in September. The company reached $55 million in sales and a profit of $4 million, or 8 cents a share, last quarter.

In fact, 3Com chief executive Eric Benhamou predicts that Extreme has the potential to double its revenue.

"They're a growing company and can easily double their rate of growth as they assume responsibility for our large accounts," Benhamou said. "Extreme will take a big leap forward in size and expansion, particularly in the large enterprise space."

Extreme chief executive Gordon Stitt won't make such bold predictions, but admits that the 3Com partnership is huge for the young, four-year-old company.

Extreme sells most of its high-speed equipment to businesses, but the company has recently chased after the more lucrative Internet service provider (ISP) market, which makes up 20 percent of its overall revenue, according to the company

The infusion of 3Com employees will double Extreme's sales force and systems engineers worldwide, Stitt said. "One of the frustrating things is getting enough systems engineering people to help ISPs get their networks up and running and deployed. The additional people give us the ability to accomplish that."

Chase H&Q's Suppiger said the increase in staff comes at a critical time as the company tries to take on emerging markets, such as providing connections for Web hosting facilities and businesses that are building networks to connect corporate headquarters to far-flung branch offices.

"We view the transaction as quite favorable for Extreme as it provides critical resources at a pivotal time," Suppiger said in a report. "It is introducing upgrades across its entire product line and it is penetrating several new markets.

"Extreme is also gaining access to a sizable installed base of users that have demonstrated a willingness to buy products from vendors other than Cisco," Suppiger said.

Yesterday's agreement does not guarantee that Extreme will capture 3Com's customers, however. The two firms have tested their products for compatibility and have developed a plan for customers who use 3Com's CoreBuilder switching products to migrate to Extreme's Black Diamond switching technology.

Extreme is hoping to take over 3Com's existing accounts and is contacting each 3Com customer. Stitt said his company will offer a program for 3Com customers to trade in their 3Com equipment for Extreme's products.

"We're providing a smooth migration path so their customers aren't orphaned," Stitt said.

The deal yesterday further cements a close relationship the two companies have enjoyed since Extreme launched four years ago. 3Com was one of the initial investors in Extreme, pumping in several million dollars when the company was still a start-up.

3Com remains a minority investor in the company. In fact, it is widely believed that Extreme has built some networking equipment for 3Com in the past, though particulars of that arrangement have never been disclosed. Benhamou said Extreme was the perfect choice for 3Com to turn to.

"Our customers felt good about them. They have a good management team and technology team, and many of their senior executives were once part of 3Com," Benhamou said.

The 3Com partnership is the latest deal Extreme has struck to better position the company. Extreme in January partnered with another high-flying upstart, Juniper Networks, to make their products compatible.