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A Real Deal?

Some users fear the HP-Compaq merger could reduce options
Best-of-breed products, world-class IT services, a stronger partner for business customers, and a tougher competitor to IBM. Or, fewer PC and server choices, higher prices, reduced innovation, and muddled execution. If those are the potential results of the proposed multibillion-dollar merger of Hewlett-Packard and Compaq, many of their business customers hope it's the former--but fear the latter.

Compaq and HP, both battered by the downturn in tech spending, had already been winnowing product lines to reduce costs. Together, they'll accelerate that process in an effort to achieve the $2.5 billion in yearly savings that company officials say justify the deal. They also promise to cut 15,000 jobs from a combined workforce of about 155,500. In the process, says HP CEO Carly Fiorina, the new company--to be called Hewlett-Packard--"will change the game not only for our two companies but for the industry as well."

IT managers say the merger will be beneficial if it results in lower prices and a stronger technology partner. But some are worried about what will happen to their existing investment in HP and Compaq products as the vendors decide which platforms stay and which go.

Christina Pascarella manages server infrastructures for Hostcentric Inc., an application service provider in Houston that hosts a database of information on the more than 22 million immigrants who passed through New York's Ellis Island. The system runs on Compaq Tru64 Unix servers with TruCluster software, which Pascarella says is the best combination for the job. But she doesn't know if the products will be around much longer. "We don't want to have to go through another migration or have our choices dictated," she says.

She might not have an option. HP has spent millions developing HP-UX, its version of Unix, which leads some observers to speculate that HP-UX will get the nod over Compaq's Tru64 as the combined company consolidates on a single Unix version to keep development and support costs in check. Also likely to get the ax: A number of Windows-based server and PC lines. Here, Compaq products have the edge, thanks to higher sales. Analysts predict Compaq brands such as Presario and Evo could live on at the expense of HP's Brio and Vectra business PCs.

That could leave the new HP looking a lot like the old Compaq. Although the companies talked a lot last week about launching an assault on the high-end server and IT services markets, the deal's biggest impact would be to create a PC giant that derives more than one-third of its revenue from access devices--desktops, notebooks, and handhelds. IT infrastructure would account for 26% of revenue, printing and imaging for 23%, and services for 17%.

Photo by Doug Cantor

The new HP will "change the game" for the industry, says CEO Fiorina.
Another concern: Will the need to wring savings out of the merger cause research and development to flag at HP, long famous for a culture that prizes innovation? The combined companies will spend $425 million less on R&D each year than they would have separately. Don't be worried, reassures Compaq CEO Michael Capellas. Together, HP and Compaq will be a research powerhouse with "unbelievable design capabilities and the best engineering in the business."

At least one HP customer agrees. "Our interest is how this merger impacts the long-term strategy for high-performance computing," says Lynn Parnell, director of the Department of Defense's distributed center for high-performance computing at the Space and Naval Warfare Systems Center in San Diego. "Integration of their capabilities for innovation puts the new HP in a stronger position in the high-performance computing market."

The economies of scale achieved by HP and Compaq could make it more difficult for other vendors, such as Sun Microsystems, to continue offering products based on non-Intel chips, giving companies fewer technology options, analysts warn. "As the industry shifts from proprietary platforms to Intel's Itanium, HP will benefit as the leading supplier of Itanium systems, and Sun will become isolated," says U.S. Bancorp Piper Jaffray analyst Ashok Kumar. Even IBM could have difficulty justifying the cost of its RISC-based computers in a market flooded with low-cost, high-performance Intel chips, he says.

Sun doesn't see a threat. HP and Compaq are two weak companies that face a massive integration task, says Shahin Khan, VP of marketing at Sun. "We see a gold mine of opportunities because of the confusion among their customers, sales forces, and employees," he says. Officials at Dell, IBM, and Microsoft declined to comment.

Some IT managers fear they won't see the lower prices that should come from economies of scale as players combine. "I'm concerned about the cost of PCs," says Jim Pierce, director of IS at Anixter International Inc., a cable and wiring distributor in Skokie, Ill. "Anytime I've seen the combination of two of the biggest suppliers, it hasn't been good for customers."

U.S. and European regulators are expected to take a close look at the implications of the merger on competition, but most watchers expect the deal to be approved next year.

Other IT buyers welcome the merger, saying it will create a financially stronger vendor capable of delivering a broader mix of hardware and services. The Nasdaq Stock Market in New York uses Compaq's NonStop Himalaya servers to process more than 1 billion trades a day. CIO Gregor Bailar says the merger will make Compaq a better partner. "Compaq has specific capabilities in key areas," he says, "but HP has breadth."

Like many IT executives in charge of global operations, Bailar prefers to deal with a single vendor that can deliver a complete, integrated solution. In a letter to Compaq employees last week, Capellas conceded that the vendor lacked the ability to do that. "Two significant gaps make it difficult for us to be truly recognized as a major player in the enterprise," Capellas said. "One is a leadership position in data center Unix. The second ... is a leading set of open application integration tools to support interoperability." HP's software, including its OpenView systems and network-management platform, will help, Capellas said.

That's important to Nasdaq. "We need a single image of our data center," Bailar says, "and HP can deliver that." The CIO says Capellas and HP officials have assured him that the Himalaya systems will continue to be available.

Users of other Compaq systems have similar hopes. Alan Metzger, Northrop Grumman Integrated Systems' chief engineer on the Air Force's Joint Stars development support program in Melbourne, Fla., is counting on continued support for his 500 OpenVMS systems. "Our rep doesn't anticipate any change," says Metzger. "We have plans for OpenVMS that go out for 15 years."

Some of HP's partners, however, say the vendor doesn't have the best track record when it comes to putting customers' requirements ahead of its own business considerations. Howard Dratler, VP of the HP division at Veritas Software Corp., says one of his customers wants to use Veritas Cluster Server for multiple operating systems, including HP-UX. But HP is dragging its feet when it comes to providing the necessary interfaces. "I've seen many customers more limited than they want to be," Dratler says. "Too often, HP refuses to support third-party products."

HP and Compaq officials also say the combined companies will be better positioned to challenge IBM in the lucrative professional-services market. With 65,000 services professionals, "they will be in a unique position to retain, satisfy, and up-sell" to their customers, says Forrester Research analyst Carl Howe, adding that more hardware sales should also lead to more services contracts.

But changing perceptions may not be easy. IT managers say the ability to make good hardware--core competencies of HP and Compaq--has little to do with the skill sets required to deliver sage advice. SunTrust Inc. Banks in Atlanta uses both Compaq and HP hardware, but it turns to IBM Global Services for anything beyond product support. SunTrust executive VP and CIO Robert Whitehead says he hasn't given major consulting and integration projects to HP or Compaq because "we don't think of that as their core strength." With 150,000 staffers, IBM Global Services is more than twice the size of the combined resources of HP and Compaq.

The Compaq acquisition also will help HP offer computing resources as a utility-like service, something both companies were aggressively pursuing before the merger. In Compaq's view, that means everything from usage-based pricing to full life-cycle management of systems (see "Compaq's Challenge"). In July, HP unveiled usage-based pricing for its high-end Superdome server and Windows-based Netserver systems (see "Rebuilding, The HP Way").

At the same time, the new company will be better able to attract high-profile partners, says HP worldwide marketing VP Jim McDonnell. "The merger expands our depth and geographies," he says. "We become an attractive partner to PricewaterhouseCoopers and Accenture, which creates a formidable competitor to IBM."

Fiorina and Capellas first must prove they can integrate the two businesses. Both companies have had problems absorbing past acquisitions. Fiorina concedes that combining two fiercely competitive companies won't be easy. "As difficult as product rationalization is, what's more difficult is integrating a sales force," she said last week at a press conference.

The organizational issues have some analysts worried. "Compaq employees have been trained to view HP in a hostile fashion," says U.S. Bancorp's Kumar. "A major challenge will be retaining key personnel through the massive restructurings that the merger will require."

Still, others say Fiorina and Capellas just might be able to make it work. "He's more operational, but she can sell," says Giga Information Group analyst Rob Enderle. "It may not be a match made in heaven, but it's damn close."

--with Alorie Gilbert

Photo by Doug Cantor