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HP-Compaq deal branded trouble

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Early last Tuesday, Hewlett-Packard Co.’s proposed acquisition of Compaq Computer Corp., which had been announced a week earlier, seemed fraught with problems.

But later that morning, the deal’s woes seemed negligible when compared with the magnitude of terrorists smashing airliners into the World Trade Center and the Pentagon, killing thousands.

When the chaos of the past week begins to recede, HP Chairman-CEO Carleton "Carly" S. Fiorina and Compaq Chairman-CEO Michael D. Capellas will likely return their full attention to the deal. And when Wall Street resumes trading, it is not expected that the investment community will have changed its negative opinion of the proposed acquisition.

On Sept. 4, the day the deal was announced, trading on the New York Stock Exchange reduced the transaction’s value from $25 billion to $19 billion.

Taken aback by reaction

"They were taken aback by the negative reaction," said Martin Reynolds, a Gartner Group research fellow. "They’re going into damage control mode."

Among the many problems dogging the deal between Palo Alto, Calif.-based HP and Houston-based Compaq are two difficult marketing challenges.

First, to close the deal, the two companies have to sell investors and shareholders on its benefits. Second, if the deal is completed, the challenge will be to brand the two companies as one entity, which will be called Hewlett-Packard, and to make clear marketing decisions about how it will compete against IBM Corp., Dell Computer Corp., and others.

Merger desperation

Wall Street has hated the deal from the beginning. It was floated, at least in part, to palliate shareholders disappointed with Fiorina, who failed to close an acquisition of PricewaterhouseCoopers, and with Capellas, whose company is losing market share to Dell.

"They’ve got to build a campaign to sell the merger; otherwise, the merger won’t happen," said Rob Enderle, a Giga Information Group research fellow.

HP and Compaq have gone on the offensive to sell a varied constituency—shareholders, investors, partners, suppliers and customers—on the value of the combined company. Fiorina, for instance, addressed a Salomon Smith Barney technology conference and promoted the acquisition’s merits.

Additionally, Compaq is mulling an ad campaign to tout the merger.

A main argument against the deal, which will create an $87 billion company, is that it is seen merely as a gambit to buy market share in a range of product lines, primarily PCs and servers. "The most persuasive argument against the deal is that there is too much overlap by the firms," Enderle said.

Those questioning the deal say the combination will simply produce a larger version of a struggling tech company.

"It really smacks of a merger of desperation," said Paul Gillin, VP-editorial of TechTarget.com.

On the other hand, Gillin did say the overlap has been overstated. HP is strong in printers and other peripherals, while Compaq is a PC power. Similarly, HP is strong in Unix servers, while Compaq is strong in Intel-based servers.

Other industry observers want more specifics, such as how the promised $2.5 billion in annual costs will be cut.

The bigger the better

Enderle said there are potential upsides to the deal, its sheer size being one. "It [will be] the largest PC and server manufacturer on the planet, and it will have a global reach in services that matches IBM," he said.

This mix of hardware and services points to the branding problem that may face this combined company. The HP and Compaq brands are mainly hardware brands: Compaq is PCs and HP is printers.

Yet computer hardware has become a commodity. The high margins are in services.

Both Compaq and HP have tried before to move deeper into services. Compaq bought Digital Equipment Corp. in 1998 and never fully integrated the company’s service capabilities. Most observers blame poor execution, but Al Ries, chairman of branding consultancy Ries & Ries, said ditching the Digital brand was a mistake. "If you buy a product line that’s outside your own category then you should keep the brand name," he said.

Meanwhile, HP couldn’t pull off its own deal designed to boost its services—the proposed acquisition of PWC. Now HP is betting on Compaq, and together the companies face many challenges in becoming Avis to IBM’s Hertz in the services arena. "More like Rent-A-Wreck to their Hertz would be my opinion," said Lance Travis, service director at AMR Research.

IBM dominates IT services

In 2000, IBM was the worldwide IT services leader, with a market share of 5% and revenue of $33 billion, according to Gartner Dataquest. The combined entity of HP and Compaq would control 2.1% of the worldwide market, with revenue of about $14 billion.

"The real problem is IBM has been at this for a while, and they’re very well tuned," Gartner Group’s Reynolds said. By aligning itself with the term "e-business" in its "Solutions for a small planet" campaign, IBM was able to brand itself as a forward-thinking services company.

HP did run an "e-services" campaign but it has since been eclipsed by the "Invent" campaign, which says little about services.

The Compaq brand will likely provide little benefit in presenting this new entity as a services provider. "It’s a box company," Ries said.

But the Compaq brand does pose some tough questions about how the new HP would brand its hardware. HP has given few indications of its plans for the Compaq brand, other than Hewlett-Packard will be the name of the company as a whole and Compaq’s sub-brands will be used "smartly," Fiorina told reporters.

Ries said HP should keep the Compaq name for PCs. "Would Ford buy Volvo and change the name to Ford Safety?" he asked. "If you do that, why buy it?"

Gartner Group’s Reynolds said: "If Compaq were buying HP, printers would almost certainly still be HP."

While HP and Compaq’s course remains unclear, what seems certain is that the longer the two companies struggle with the specifics of their merger, the more opportunity it provides competitors.

As Reynolds puts it: "IBM, Dell, Sun will be knocking at the door [of customers] with an unconfusing story."

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