LEX COLUMN: HP/Compaq LEX COLUMN
Financial Times; Mar 15, 2002
HP/Compaq
Hewlett-Packard's vote on the proposed Compaq acquisition is too close to call. By fighting the merger, Walter Hewlett, dissident director and family shareholder, has provided disgruntled shareholders with an alternative to walking. On balance, shareholders would be advised to vote "no" next week. HP faces a difficult future with Compaq or alone. This is a bear market merger between two struggling companies. The potential cost synergies are attractive. But the execution risk is huge. And HP shareholders are being asked to pay 47 times Compaq's 2002 earnings for the privilege.
HP and Compaq estimate Dollars 2.5bn of cost savings. That would provide a focus for managers and shareholders but achieving it will be a challenge. The companies admit revenue attrition will be significant: the estimate of 5 per cent might be optimistic; the assumption it will all be low-margin business almost certainly is. HP and Compaq have done extensive planning and Compaq has some (bitter) experience. There is still no precedent for a big, successful technology merger. Were Compaq the perfect partner, it might be worth taking the risk. Yet buying Compaq will turn HP into the world's biggest PC manufacturer. Alone it derives 40 per cent of revenues from printing and imaging, and 20 per cent from PCs. HP/Compaq would derive 30 per cent of revenues from PCs and 25 per cent from printing.
The combined, loss-making, PC business could be spun off, but a premium for Compaq will already have been paid. The contribution from Compaq's servers and services businesses is firmly skewed to the low-end. Most analysts are unimpressed by the combination. Nor are customer surveys terribly encouraging. It is not surprising that antitrust regulators quickly waved the deal through. Competitors are rubbing their hands. A low price might still tip the scales. But Compaq's standalone earnings forecasts have collapsed since the deal was announced. Consensus forecasts are down 60 per cent for this year and 40 per cent next, according to Thomson Financial/First Call, while HP's are up 50 per cent and down 16 per cent respectively. HP would be paying 47 times 2002 earnings and 26 times 2003. Since announcing the acquisition, HP's shares have dropped 14 per cent, underperforming the S&P tech component by 17 per cent. If the deal fails, HP shares should jump. Presumably Carly Fiorina would leave. There is no reason why others should follow. The new CEO will have big challenges. Among them is beefing up the enterprise business through smaller, more targeted, and more manageable acquisitions.
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