HP acquisition of Compaq will damage channel

Confusion over which products will survive will help competitors

Reading, UK - Wednesday, September 5th 2001 - for immediate release

• This is a story of consolidation in difficult times, not expansion
• HP clearly has control, visible in the management, share ownership and brand
• The resulting confusion will provide many short-term opportunities for competitors
• The channel will suffer and will seek alternative suppliers immediately

Two companies with reduced share prices and CEOs under pressure have studied the weakening market conditions and concluded that their best option is to combine forces. European and US regulators must still approve the deal, and may demand concessions or introduce delays, but the industry must assume that a new company will emerge in mid-2002, and that one will disappear.

"This deal is primarily about consolidation, not expansion. It is about removing costs from two companies that have been losing money in PCs, rather than entering new markets or developing solutions. HP's acquisition of Compaq is dramatic and represents a victory for Dell's PC price war strategy," said Steve Brazier, CEO of Canalys.

The structure of the deal leaves no doubt that HP, not Compaq, has control. The Compaq name will be dropped in favour of the HP brand and HP shareholders will own 64% of the new entity. HP's dominance is apparent in the senior managers already appointed: five of the seven positions named so far have gone to HP managers, and of the four new business units - imaging and printing, access devices, IT infrastructure and services - three are to be run by HP staff.

"It is surprising that even the access business unit will be run by an HP manager, given that Compaq's revenues are double HP's in this area," Brazier added.

Compaq and HP products overlap in many areas - notably PCs, servers and storage - and choices must be made about which ranges will survive. In areas such as printing and imaging HP clearly leads, meaning that the high-volume Lexmark OEM deal with Compaq will be a casualty. Compaq has the dominant product ranges in desktops, notebooks, Intel servers and handhelds so HP will almost certainly be required to show vision and discontinue its own offerings in these areas, despite the years of hard work that went into building these substantial businesses.

It will be at least nine months before the new company is able to operate as a single entity. Communication to external partners and customers is destined to be chaotic during this period. Large companies will be reluctant to commit to buying either HP or Compaq products during the period before the merger is confirmed. How can they evaluate a product range with no assurance that it will continue after the acquisition?

Senior analyst Chris Jones commented: "A scenario where an HP salesperson says that the Compaq range is sure to be discontinued, while a Compaq salesperson says the opposite, seems a certainty. The natural result is that existing customers will either postpone decisions, or they will switch to a competitor. New, large customers will not begin considering either vendor for at least twelve months. This gives Dell, Sun and others great short-term opportunities to win new business."

HP and Compaq are the top two suppliers to the vast majority of Europe's resellers. This acquisition could well be catastrophic for the European channel, which already has to survive on wafer-thin margins and cope with stagnant demand. In merger situations one-plus-one never equals two. The combined company will provide less revenue for the channel than the two companies did separately. Revenue streams can be replaced though, and Canalys expects most resellers to begin the search for a second supplier almost immediately. This presents the best opportunity in years for Fujitsu Siemens, IBM, Toshiba, Sony and Acer to build quickly a stronger European channel. Since most of these companies are also struggling for PC profits, it will require resolve and determination to take full advantage.

"The real disaster for the channel, however, is not so much the potential loss of revenue but the consolidation of the HP and Compaq channel marketing programs, which have been consistently better managed than those of the competition," said Brazier. "The co-op funds provided by these two vendors have made the difference between survival and collapse for many of Europe's resellers. Almost overnight, one of these 'pots of gold' will now disappear for distributors and corporate resellers (a cost-benefit of the merger for the new HP). These co-op funds will not be replaced, and bankruptcies, as well as mergers, among the channel are an inevitable consequence."

Compaq and HP rank third and fourth in the PC retail sector in Europe behind Packard Bell and FSC. The acquisition will have less impact here than in the US, where their combined share is more than 50%, but it still represents a loss of choice at a time when retailers are experiencing extreme pain. Compaq's name will now be added to the list of PC brands that have exited retail.

Canalys believes that, culturally, HP and Compaq should fit well together, but they would be wrong to think that their business models are identical. Compaq has a country-centric model, where country managers have primary responsibility for profit and loss in their respective regions. Within Compaq EMEA there are also business units, which have representatives replicated through the countries. The business units are subservient to the country operations. HP is almost the exact opposite. The primary structure of the organisation is based around business units, each of which has a powerful European head. The role of the HP country manager is one of coordination, rather than of business responsibility. The strength of this structure is the ability to implement consistent pan-EMEA programs; the disadvantage is that co-operation across business units is sometimes lacking.

"Whichever structure the new HP chooses for Europe, and the HP structure must be the favourite, it will result in a completely different way of working for the employees of the other organisation," Brazier said.