Compaq Computer lifted itself up into a whole new league on Monday, as the company announced its intention to shell out US$9.6 billion for Digital Equipment Corp. and retool itself into a full-scale enterprise solutions provider. The acquisition will turn the leading PC-maker into the world's second-largest computer company, well ahead of its goal to get into the top three by the year 2000, and will undoubtedly stir up the market.
"They're not screwing around with the Dells and Gateways any more," said Jim Balderston, an analyst at Zona Research. "Now they're rubbing up against the IBMs of the world. They've moved up from Double A ball to the big leagues."
What's pushing Compaq up the ladder is not so much Digital's Alpha chip - which will dominate the 64-bit Wintel market until Intel's Merced chip hits the market next year - or the backend hardware line that will fill out Compaq's offering across the enterprise, but Digital's impressive service business. This division, which employs some 21,000 people worldwide and accounts for 45 percent of Digital's revenue, offers Compaq an important missing link in building its enterprise business.
"Service is really the centerpiece of this deal," said Frank Gens, an industry analyst at International Data Corp. "Compaq spent the last couple of years trying to convince corporate clients they could provide a full-service offering through partnerships, but found that a lot of companies didn't think that was good enough." Increasingly, Gens contends, IT managers don't simply want machines - they want them to be set up and maintained, and they're willing to pay for it.
Taking this cue, IBM has turned its Global Services division, which advises IT management on how to design the network to fit company needs and then sells the equipment and maintenance to make it work, into a $16 billion business over the last six years. In the process, the services division has given a focal point to the seemingly unwieldy array of disparate product lines IBM offers, making it that much easier to direct a customer to the product needed.
Last year Compaq also began to seriously address the question of growing its product line off the desktop and toward the back-end needed in the enterprise market, by acquiring Tandem Computers for $3 billion. The Digital acquisition will only beef up the offerings, while opening the door to services.
Elena Christopher, an analyst at Dataquest, said "it's definitely a smart move," that will allow Compaq to go head-to-head with Big Blue and Hewlett-Packard in providing full-service solutions, rather than stand-alone machines, to the enterprise. But Christopher wonders if system integrators, who until now have been responsible for filling offices with Compaq PCs, will feel that their role is threatened by an in-house services operations.
"The channel has been really good to Compaq," Christopher said. "It will be very interesting to see how they walk the line" between preserving their relationships with system integrators and going direct through their own services department.
IDC's Gens agreed and predicted that Dell Computer may actually be able to pick up more business from integrators that do feel pushed aside. "If I were Michael Dell, I'd be firing up the corporate jet and getting out to wine and dine integrators right now," he said.
But it could be a while before integrators see any real change. Presuming that Digital stockholders and government regulators approve the deal, the acquisition - touted as the largest in industry history - won't be completed until next quarter, making Digital a subsidiary of Compaq. And given Digital's size, merging the two companies will probably take longer than the four months Compaq president and CEO Eckhardt Pfeiffer says it took to integrate Tandem.
While the companies took pains to avoid talk of lay-offs during a conference call on Thursday, some fallout is expected at least in administrative areas - and perhaps in Digital's PC business, say analysts, who question the future of that product line.
Ultimately, it's a rather heady move. "It's a huge risk," said Gens of what he sees as Pfeiffer's goal of doubling revenues within the next five years. In order to do so, Compaq is trading profit margins - which amounted to 8.4 percent income on revenue last year - for the potential of growth. While Pfeiffer ebulliently described the deal (which he said was hammered out in two quick weeks) as creating a company which had $37 billion in combined revenues in 1997, the merged companies would show a profit margin of only 5.8 percent. "Not a lot of companies are willing to do that because they're scared of Wall Street," said Gens.
And in fact, the market wasn't thrilled with the news, sending Compaq stock down 2.75 points to $29. Digital shareholders, however, watched their stock gain 10 points to close at $55. But Pfeiffer was undaunted by the Street. "Compaq is already the world leader in PCs," he said in a press call. "Now we will cover the entire spectrum in computing."
