June 4, 2003 11:12 AM PDT

Palm to acquire rival Handspring

Palm said Wednesday that it will buy rival Handspring in an effort to strengthen its grip on the market for handheld devices.
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Palm, which also announced that it has finalized plans to spin off its PalmSource software division, will purchase Handspring in a stock deal.

The transaction will grant Handspring stockholders 0.09 of a share of Palm--and no shares of PalmSource--for each share of Handspring common stock.

Because the deal is for Palm shares that exclude the value of PalmSource, it is difficult to calculate an exact dollar value. However, the deal valued Handspring shares at some amount below Tuesday's closing price of $1.11, based on Tuesday's closing price for Palm. Shares of both companies climbed Wednesday on word of the deal.

Executives expect that the Palm Solutions Group, the company's hardware arm, will merge operations with Handspring in July, creating a new hardware company with a new name. The spinoff of PalmSource will occur at the same time, they said.

By adding Handspring's Treo hybrid cell phone/PDA to its own line of personal digital assistants, Palm believes it can create a much broader product line and a stronger presence in an increasingly crowded handheld market. It also expects to gain from access to Handspring's technology and to the company's relationships with resellers and cellular service providers. At the same time, Palm anticipates cost savings and will bring back some of its former stars.

Eric Benhamou, Palm's CEO, said on a conference call Wednesday that the combination is "essential" as competition among handhelds and so-called smart phones mounts, especially from heavyweights Microsoft and Nokia.

Palm is the No. 1 seller of PDAs, but the company has been hit by slowing demand for handhelds and increased competition from new entrants, including Dell Computer. PDA shipments were down 21 percent during the first quarter, according to IDC. Shipments have been slumping for the past few quarters.

Both Palm and Handspring reported losses for their most recent quarters. Company executives expressed optimism that a united front would bring financial rewards.

"We will be able to get to profitability sooner together than separately," Handspring CEO Donna Dubinsky said on the conference call.


Newsmakers
Dialing up the
next transition

Palm and Handspring co-founder
Jeff Hawkins says desktops and
notebooks will become accessories
to combo cell phone organizers.


The deal also brings full circle the relationship between the two companies. Handspring founders Jeff Hawkins--who invented the first Palm handheld--and Dubinsky established Palm in 1992 and were the top names at the company until they left in 1998 to start Handspring. Handspring became one the first outside companies to license Palm's operating system.

Hawkins and Dubinsky will help lead the company toward its new goals. With the PalmSource software operation running on its own, Palm will become a hardware company and can get to work on bolstering its brand and its market share in the handheld market.

A shift in the marketplace
The Handspring acquisition won't necessarily boost Palm's share of the PDA market or improve its near-term prospects against competitors such as Hewlett-Packard that use Microsoft's operating system software or others such as Sony that use the Palm OS, said analysts, who were generally favorable toward the deal.

But the deal should help Palm accelerate its entry into the emerging market for devices that join PDA and cell phone features by giving it an entire line of current and future products as well as sales channels. Over time, the hybrids have the potential to sell many more units than the PDAs from which they derive, analysts said. Launching the right product at the proper time could dramatically improve Palm's prospects, boosting its unit sales and profitability.

The deal allows Palm, which has been hesitant to enter the market for the hybrids, to get in without much risk, said Steve Baker, analyst with NPD Techworld.

"The downside to Palm is so minimal that there's really no risk for it to do this," Baker said. "The synergies on the back end include a lot of things Handspring has been doing to support the Treo as a phone/e-mail device that may allow Palm to develop the category faster and or take advantage of with some of its existing products, such as the Tungsten W."

But the merged company still could experience rough waters in the early going. Shipments of what research firm Gartner calls converged devices aren't expected to overtake PDAs until around the end of 2005, according to Todd Kort, an analyst with Gartner. Between now and then, there will be a lot of experimentation with new products.

"There's a lot of interest in the product," Kort said. But for the time being, he added, "there are a lot of tradeoffs involved. Probably by that time (late 2005), someone will have hit on a formula of tradeoffs that are acceptable to a wide enough group of people."

Gartner sees PDA shipments reaching about 12 million units in 2003, while cell phone sales will hit somewhere between about 450 million and 500 million units. But converged devices will be lucky to reach 3 million units, Kort said.

Ultimately, he said, "even if you get 5 percent of the people who buy cell phones to buy a converged device, that's going to be larger than the number of PDAs sold."

In addition, the deal helps Palm bolster its defenses against a Microsoft siege. Though Palm remains the leading seller of PDAs, products based on Microsoft's Windows CE operating system and the Pocket PC software, such as Hewlett-Packard's iPaq, have been steadily gaining market position over the past few years. Microsoft has also launched software that extends Pocket PC to hybrids of PDAs and cellular phones.

The deal also marks the end of Handspring's struggles. The company's Visor PDA was once second in market share to its Palm counterpart. But Handspring had seen a string of quarterly losses as it tried to make a transition away from PDAs to focus only on the Treo.

With the company having blown out most of its inventory of Visor products, "Handspring's PDA sales were going to be near zero this quarter, and it pretty much stuffed Sprint and T-Mobile with Treo," Kort said. "You have to give Donna (Dubinsky) credit for managing to sell the company now, before things got worse."

But even though Palm suffered through about two years of mediocre product planning decisions, said Kort, "I think Palm is starting to bounce back. Its new models, the Zire and Tungsten C, are doing pretty well."

Cost structures
Combining the operations of the two companies could lead to reduced costs, margin increases and revenue enhancements, said Paul Coster, an analyst at J.P. Morgan.

On the downside, he cautioned, "let's not forget the context here, which is that the market is still weak and both companies are unprofitable. Handspring had a serious issue with respect to liquidity. I think it's really bailing out Handspring investors, but that aside I think it's a good thing," Coster said.

Handspring will be given a $10 million line of credit from Palm in order to continue its business while the deal closes. An additional $10 million will also be available if needed, according to Judy Bruner, chief financial officer of Palm.

Palm expects the new company to see approximately $25 million in cost savings annually after the deal, a result of increased manufacturing volumes and the elimination of overlapping programs. Part of those savings will come from job cuts. Palm expects to eliminate 125 people from its overall work force and to get rid of duplication in facilities.

In the company that forms from the union of Handspring and the Palm Solutions Group, that group's CEO, Todd Bradley, will become chief executive of the new company. Hawkins will be named chief technology officer, and Dubinsky will sit on the board of directors. The new company headquarters will be at the current Palm offices in Milpitas, Calif.

The new company will consist of two business units: Handheld Computing Solutions for marketing Palm PDAs, and Smartphone Solutions for marketing Treo and like products. Ken Wirt, Palm Solutions' senior vice president of sales and marketing, will run the handheld computing unit. Ed Colligan, Handspring's president, will run the Smartphone Solutions unit, Palm said in a statement.

The board will consist of seven members from the current Palm board plus three members of the current Handspring board, including John Doerr, Bruce Dunlevie and Dubinsky. Benhamou will continue as chairman of the merged company as well as of PalmSource. PalmSource CEO David Nagel will leave the Palm board.

Handspring shareholders will own about 32.2 percent of the new company, and Palm shareholders will own about 67.8 percent. The deal is subject to government and shareholder approval

In trading Wednesday, Palm shares soared 19 percent to close at $14.44, up $2.29. Handspring was up 17 cents, or 15 percent, to $1.28.

 

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