When two giant companies come together, it's a sure bet that the players will still get a lot of attention for the move. But in the rough and tumble computer business, where virtually no company is safe from the ravages of the souring markets and declining margins, opinions about deals are not always good.
Processing Content
The proposed mega-merger of Hewlett-Packard Co. and Compaq Computer Corp. not only underscores the increasingly competitive market in computer products, it also points the way to a changing marketplace-one where appealing to the financial industry is paramount.
With the economy slumping, dot-coms dropping like flies and PC sales falling 10% this year, many industry observers agree that once these titanic technology vendors merge, targeting the tremendously lucrative and evergreen banking business will be at the top of its to- do list. The financial services sector spends more than virtually any other industry on IT infrastructure, says David Schatsky, research director for New York-based Jupiter Media Metrix, and HP-Compaq will need to build its business here if their traditional PC and Unix server revenues dwindle as predicted.
Says Fritz McCormick, an analyst with Celent Communications, based in Boston, "The financial industry couldn't be any more important."
The sweet spot here for HP-Compaq is not only the industry's basic IT spending, says McCormick, but even greater expenditures going forward as banks and brokers increasingly automate their customer service, settlement and cross-selling. McCormick estimates that the securities industry alone will spend more than $8 billion on improving its straight-through processing.
Alan Alper, an analyst for Gomez Inc., based in Waltham, Mass., does not believe financial services is as major a segment overall for HP now as it could be. Although it does have a healthy business selling its Unix servers and desktop machines, HP lacks the big iron and the IT services muscle that have ensured IBM's preeminence among banks.
According to McCormick, HP has had a wider audience for its servers in Europe than it's had in the U.S., where "IBM is such a powerhouse, it's hard to chisel *it* out of that space."
To its benefit, HP will inherit a more high-end, fault-tolerant product line through the Compaq acquisition. Compaq's Himalaya line of nonstop servers, favored by several financial firms, came via the company's June 1997 acquisition of long-time banking hardware vendor Tandem Computers Inc. Having a broader portfolio of products will serve the merged HP-Compaq well, says Schatsky of Jupiter.
But the company will also need to add to its middleware offerings by alliance and acquisition, he adds, as well as achieving its ambitious goal of more than $2 billion in cost cutting over the next several years.
"Just buying a company with a strong arm in financial services doesn't give you the financial services market," says Schatsky.
In addition to expanding its hardware sales beyond Unix servers and Windows PCs, the merged HP-Compaq also plans-and needs-to move more deeply into professional services. Through Compaq, the company will gain some key alliances with Big Five consultants and other third-party integration firms, as well as a much deeper base of internal services know-how. But without a doubt, HP-Compaq will have to groom their services business quickly.
"There's two ways of looking at this," says Alper of Gomez. "If you can't compete on the hardware side, you look to services. But then again, even *the growth of* IBM's services business has fast outpaced its hardware sales."
Arguably, HP has long known it needs to beef up its IT services if it intends to flourish in the years to come. Last fall, it made a bid to acquire the IT consulting arm of PricewaterhouseCoopers, which eventually fell through after HP failed to hit its financial goals. McCormick of Celent believes that it still remains "critical for HP to grow services to help them break into different *industry* verticals" like the financial services market.
"They not only need to provide the support to stand up behind what they're doing *with hardware and software*," says McCormick, "but it could represent a tremendous source of revenue."
In a recent research brief, analyst Carl Howe of Cambridge, Mass.- based Forrester Research says he believes the HP-Compaq merger will create a "locked-in $15 billion services business" as the company helps its customers "maintain a wealth of complex legacy technology ranging from old HP 3000 servers to Compaq's OpenVMS operating system.
"With a combined 65,000 services professionals, the new HP will be in a unique position to retain, satisfy and up-sell these customers," says Howe, " something it couldn't do without the merger."
Fairly bullish on the deal, Howe believes the addition of Compaq's services staff will add some much-needed staff, skills and experience that will allow the merged company to quickly "handle desktop and multi-vendor networking jobs that IBM Global Services and EDS won't touch."
But other industry analysts have not been as positive about the merger, which has widely been characterized as two floundering companies coming together out of desperation as much as mutual benefit. Clearly, Wall Street has not warmed to the deal as much as CEOs Carly Fiorina and Michael Capellas might have hoped-analysts widely criticized the deal, and HP shares fell more than 30% in weeks after the Sept. 3 announcement. (To be sure, the Sept. 11 terrorist attacks also had an overarching negative effect on virtually all stocks in the weeks that followed.)
Although the merger would create a computer company with $87 billion in annual revenue, making it second only to IBM Corp., the announcement of HP and Compaq's pairing wasn't much of a surprise given shrinking margins and heightened competition from nimble rivals like Dell Computer Corp.
"The justifications articulated by HP mostly surround cutting costs," says Schatsky of Jupiter. "It's just not an especially exciting piece of news."
Certainly, rivals in the financial-services hardware and IT services space do not seem to be shaken, according to analysts.
"I wouldn't expect IBM and Sun to be quaking in their boots," says Alper of Gomez. "Financial services companies are tried and true."
Alper points out it took Sun Microsystems Inc. years of work- targeting its high-end workstations and servers like its Sparc line to the trading industry-to break into financial services and ultimately build business in other areas of the industry. Alper points out that while it makes huge investments in its information technology, the financial industry tends to be very loyal to its vendors and slow to warm to new players. "Banks are true blue to a large extent," Alper quips, referring to many banks' long-standing relationship with Big Blue in hardware and services.
Although stronger competition from HP may give other vendors a run for their money-and benefit business customers-Schatsky of Jupiter believes that "each of *HP's* competitors has enough of its own worries not related to this merger, like finding new margin opportunities and *dealing with* a cloudy economic climate."
Big Win is Possible
All the same, analysts admit the merger could bring key strengths to the computing giant if it exercises those strengths. Alper believes the sheer expansion of the product line "from desktops to high-end servers" may allow HP-Compaq to offer its financial industry clients a better deal on a broader package of products and services. By aggressively teaming with fast-rising application service providers in key areas, as HP already has to an extent, "HP might be able to work with middlemen to displace IBM" in important arenas like online banking.
Nonetheless, the road ahead creates some unenviable challenges for this corporate computing behemoth.
"*HP and Compaq* have to hope that this fourth quarter is as far as the economy has bottomed out," says Alper. "They're between a rock and a hard place, and they have to remake themselves in a very capital- intensive business-like services."
Karen Epper Hoffman is a writer based in Poulsbo, WA.
