CPQ/NETWORKING article #4 (see BOLD):
10/27/97 InformationWeek 146
1997 WL 14148537
InformationWeek
Copyright 1997 CMP Publications Inc.
Monday, October 27, 1997
654
Columnist
Taking Stock
Compaq Keeps Moving
--
Recent acquisitions have added depth to the PC maker's product and service
offerings, and reengineering has paid off
Besides being the largest PC company in the world, Compaq Computer is
extremely well run-unlike some other PC companies with fruit hanging on
them (read:Apple).
The PC industry has always been known for its volatility. Fickle
customer demand is always the unknown factor, and old inventory is a
perpetual headache in new product cycles. Many one-time charges to
financial statements are the norm.
Companies like Compaq show that a new PC business model has come to
town. The model delivers timely, cost-effective new products, makes
profitable acquisitions that benefit shareholders, and executes at all
levels from manufacturing to marketing. This did not happen overnight.
Interestingly, Compaq was slow to go the build-to-order (BTO)
manufacturing and optimized distribution route that was so lucrative for
Dell Computer. But now Compaq seems to be aggressively playing catch-up
and gaining market share. By mid-1998, Compaq should have most of its
desktop production based on BTO manufacturing. This will let the company
compete more aggressively for market share and still maintain gross and
operating margins at current levels.
Unit volume growth in the latest quarter was definitely boosted by
demand for the low-priced desktop PC. But despite all the fuss over the
$1,000 machine, it was server sales that caught my eye. As IS managers
expand their network environments, demand for Compaq's broad range of
enterprise servers and associated desktop PCs will grow. The combination
of service and quality has always been a trademark of Compaq in the
corporate market.
But IS managers should note that Compaq is not standing still. Recent
acquisitions like Tandem and Microcom have expanded the depth of
Compaq's products and services to encompass servers, networking, and
workstations, as well as desktop PCs. This was obviously not intended to
address the consumer market. It would not be surprising, given the more
than $6 billion in cash on Compaq's balance sheet, to see the company
continue on the acquisition trail in 1998. Again, most of the new
acquisitions are likely to be directed toward the corporate market,
which should please IS managers.
Besides the manufacturing reengineering, Compaq is benefiting greatly
from financial restructuring. Management has targeted U.S. channel
inventory to be a maximum of two weeks by year's end. It also aims to
improve inventory turnover to 30 times a year by 1998. These changes
should have a meaningful impact on operating margins. Compaq is also
taking advantage of the tax-loss carry-forwards from the Tandem
acquisition, which has helped it reduce the current average tax rate.
The biggest near-term risks are the uncertainty of continued PC demand
and the margin pressures caused by the low-end consumer PC market. Also,
highly profitable segments like notebooks have clearly gotten more
competitive. Compaq's notebook segment is seeing formidable challenges
from Dell, Gateway 2000, IBM, and Toshiba.
Financially, Compaq could not be in much better shape, with no
long-term debt. Revenue in the latest quarter was $6.47 billion, up 31%
over the same period last year. Gross margins were a healthy 27.4%,
producing earnings-per-share growth of 40% over last year. Compaq
produces a return on invested capital over 60% and just recently started
its first dividend. With so much cash on its balance sheet and large
cash-flow generation from operations, I expect major share buyback
programs will be implemented in the latter part of 1998 once
restrictions are lifted due to the Tandem acquisition. I estimate that
fiscal 1997 earnings will be about $2.65, growing to $3.35 in 1998. With
the current share-price/earnings-per-share ratio at 22 times my 1998
estimate, Compaq cannot be called a value play, but it is worth a
premium.
William Schaff is chief investment officer at Bay Isle Financial Corp.
in San Francisco, which manages the InformationWeek 100 Stock Index. You
can reach him at bschaff@bayisle.com.
---- INDEX REFERENCES ----
COMPANY (TICKER): Compaq Computer Corp. (CPQ)
NEWS SUBJECT: World Equity Index (WEI)
INDUSTRY: Computer Makers; Computers (CPM CPR)
Word Count: 624
10/27/97 INFWK 146
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