3Com Expects Brighter Days In Near Term
Date: 3/24/98, Author: Michele Hostetler, IBD.
By the time El Nino stops pouring rain on California, 3Com Corp.'s future could be sunnier.
Too many unsold modems from 3Com's $6.6 billion June merger with modem maker U.S. Robotics Inc. continue to dog the Santa Clara, Calif.-based networking company. It is expected to keep struggling until at least next quarter. After that, however, the picture begins to look a little brighter.
''The good news is that the worst is over,'' said George Kelly, an analyst with Morgan Stanley Dean Witter in New York. ''But I think it's going to be another quarter before the channel problem with U.S. Robotics is over. By the end of the year, I think 3Com will be one of the best stock performers in the group.''
When 3Com's financials are released Tuesday, analysts expect the company's earnings for the third quarter ended Feb. 28 to be 14 cents a share, compared with 50 cents a year ago, according to First Call Corp.
Projections for the rest of the fiscal year are not rosy, either. The company is expected to have earnings of 96 cents a share for fiscal '98, compared with $1.41 for '97, First Call says.
''I think it's a year of transition,'' said Farrokh Billimoria, an analyst with Hambrecht & Quist LLC in San Francisco. ''The weaknesses come as a result of the transition.''
But there's certainly a lot of potential this year. The networking industry may be slowing, but new markets are starting to open. 3Com is gambling that its strategy of creating products for the network's edge - closer to desktop PCs - will win.
''I think '98 will be special in the sense that we will have put adjustments of the merger behind us and will be able to have a much more aggressive-looking focus to our new product cycle,'' said Eric Benhamou, 3Com's CEO and chairman. ''We look at '98 as a year of opportunities that we didn't have in '97.''
3Com's management team and manufacturing strategy are getting credit for squeezing out profits from narrow-margin markets. 3Com now holds the No. 2 slot in the networking market.
The company is getting more help as the industry moves to networks based on Internet standards. The playing field now is more level, analysts say.
3Com is not adopting the strategy of its competitors, which is to build networks from expensive, centralized equipment out to the desktop. Instead of the network telling a PC what it should access, 3Com wants the desktop machine to give the orders.
3Com is a leader in network interface cards, which connect PCs to a network, and modems, which link computers to the Internet. Both products live on thin profit margins. The company has built up its business in switches, which help data move faster.
In contrast, overall market leader Cisco Systems Inc. works at the core of a network, where all of the expensive equipment sits. It dominates routing technology, which directs network traffic and is a key product for the Internet.
Bay Networks Inc. and Cabletron Systems Inc. are somewhere in the middle of Cisco's centralized approach and 3Com's edge strategy.
''I think there is a lot to be said about 3Com's edge strategy, where having intelligence at the edge creates a less-complex network,'' said Paul Zagaeski, an analyst with Giga Information Group, a market researcher in Cambridge, Mass.
Still, 3Com hasn't been able to win over the key high-margin accounts from large corporate customers. And its merger with U.S. Robotics has continued to distract 3Com, analysts say.
In '97, U.S. Robotics tried to get the industry to adopt its X2 technology as the de facto standard for higher-speed 56K modems. Then Rockwell International Corp. and AT&T Corp. jointly came out with an opposing product and stymied U.S. Robotics' plans. A price war flared, driving down prices.
U.S. Robotics' modems gathered dust on shelves as consumers and companies waited for the industry to pick a technology, which it did in February. The new standard should help its modem business bounce back, but old inventory holds it down.
Modems are a key part of the high-growth remote-access business. Ascend Communications Inc., Cisco and 3Com fight to win contracts from telephone carriers, Internet service providers and large corporations.
3Com long has eyed enterprise accounts, where all the big deals are made. But it's had limited success.
3Com could win more large corporate contracts with Layer 3 switches and its CoreBuilder product line. Also called routing switches, these products combine the power of routers with the speed and low cost of switches.
''We're hitting the market early,'' Benhamou said. ''There are some customers who will wait until their favorite vendor has the product, but many will not. This gives us an opportunity to appeal to customers who don't do business with 3Com today.'' |
