HP-Compaq

The merger decision

GROUP-1
Introduction
• March 19 2002, President & CEO, announces acquisition of
Compaq
• $24 bn Deal, largest merger in computer industry
• 6 month proxy fight with Walter Hewlett, board member, vs
board and CEO
• “Slim but sufficient” approval 51.4%
• HP: Global tech powerhouse for end to end soln for
enterprise customers
• Compete with market leader IBM
• Bet the company move
• Worsens stockholder's portfolio
• Sept 2011: HP down 19% & Compaq down by 10%
Industry Background
• 2001
• US economy Slowdown, Global Economy slowdown
• Fall in both consumer & business spending
• Tech particularly affected – dot-com bust
• 9/11 attacks
• Highly Competitive
• Frequent Product Introduction
• Continuous Improvements (both price and
performance)
• Shakeout Stage :adapt or be acquired (or dissolved)
 IBM
First computer in 1952
1970-80 – 80% market share – R&D capabilities
1981: Personal Computers introduced based on “Wintel”
Imitators
1984- PCs challenge Mainframe Computers
1993-IBM loses $8bn, leadership changes
New direction – “integrated solutions” “Bundling” “Internet era”
1995- IBM Global Services(IGS)
1996- Merged IGS and consultancy practices to form largest IT services provider
2001- 41% revenue from IGS
 Dell
Started in 1984 – “Wintel Platform”
Built to order, competitively priced PCs and servers
Direct sales, eliminating retail markup and inventory
Quicker to market when the product life cycles reduced
At 40% of comparable IBM machine
Customer Insights- understand needs better, Benefit from RnD of the industry
1992- fortune 500 company
1994- website, more efficient channel
1998 – leverage profitability to win corporate accounts (network-server market), enter storage
2000 – services offerings
2001- Largest global PC market share, ROIC – 355%
 Compaq
Started in 1982 – portable IBM compatible computers

Leading edge technology

1987- first company with $1bn sales in first 5 years, 1988- $2bn

Utilized the dealer supplier network of IBM, exclusive sales and service dealership

1990 - networks in 152 countries

1994 - overtook IBM to become world leader in PC sales

1997 – cost disadvantages of dealer network, emulate Dell (Internet sales) and IBM (full line provider)

Continued Dealer channel – narrowed, but did not eliminate cost disadvantages

1997 – acquired Tandem computers (high-end, mission-critical business computing)

1998 – acquired Digital Equipment Corp. (minicomputers, midrange server lines, enterprise salesforce & engg.)
 Compaq
1998- Digital improved consolidated revenues by 26% to 31.2bn$

Net loss of 2.7bn$ - RnD and merger expenses

April 1999- intense competition, lower than expected sales

22% decline in stock price, CEO ousted, CIO assumes

3 Segments – Enterprise computing(13% M.S.), Access(11% M.S.), Compaq Global services(1% M.S.)

Failed to acquire Proxicom, a consulting firm

2001 – Revenues fell 21%, Gross Margins fell 2%

cost reduction(6%) insufficient to counterbalance

Shares fell 36%

The Beginning
The merger of HP and Compaq is the best way to strengthen our businesses and
improve our market position, deliver more of what our customers need, enhance
opportunities for our employees and increase the value of our shareowners’
investments.
— HP CEO Carly Fiorina, 2001 Letter to Shareholders

• In early 2001, Fiona considered 4 strategic options for the

future growth of the company
• a go-it-alone plan
• split the company up
• grow IT Services by buying tech-services companies
• Fiorina contacted Compaq CEO Capellas to determine his interest in licensing
HP’s UNIX operating system, HP-UX.

• Capellas suggested bigger synergies and hence merger

• They then seek authorization from their respective boards

• Authorisation granted

• HP, assisted by McKinsey, and Compaq, assisted by Accenture, separately

conduct a comprehensive business due diligence investigation of the operations
of the other.

• HP and Compaq also engages investment banks Goldman Sachs and Salomon
Smith Barney, respectively to evaluate the financial aspects of the deal
• Goldman Sachs says it’s a bad idea.

• On Sept 3, both boards vote unanimously to approve the merger agreement and
resolve to recommend that their shareholders vote for the merger.
The Merger Agreement
• HP would acquire all of the outstanding stock of Compaq

• Exchange 0.6325 shares of HP common stock for each outstanding

share of Compaq stock A

• Estimated purchase price of $24 billion

• derived using an average market price per share of HP common stock of
$20.92, which was based on an average of the closing prices for a range of
trading days (August 30, August 31, September 4, and September 5, 2001)
around the announcement date (September 3, 2001) of the proposed merger
Management’s Reasons for the
Merger
1. Customers increasingly demanding full-line end-to-end hardware and service
providers
• Neither HP nor Compaq was in that position alone. However, together they could replicate IBM’s
model

• Compaq’s strength in industry standard servers coupled with HP’s Linux and UNIX offerings.

2. HP would also be able to leverage Compaq’s progress in developing a direct

sales channel, yielding a more flexible distribution model.

3. Compaq led in overall storage. By adding HP’s strength in high-end storage, the
combined company would be the industry leader in both the enterprise
storage segment and the fastest-growing subsegment—storage area networks
Management’s Reasons for the
Merger
6. Combined services business would have 65,000 IT architects
operating in 160 countries, which would provide the critical
mass needed to accelerate growth in this key market.
7. Expand the support business, an important driver of customer
loyalty, and would provide a larger customer base to sell to.
8. Management also believed that the merger would result in a
leading position in managed services— the fastest-growing
service segment
9. According to plan, the merger would yield $2.5 billion in
annual cost savings by mid-2004 due to economies of scale.
• Enable HP to increase investment in the imaging and printing business,
currently the company’s primary cash generator.
Walter Hewlett’s Opposition
• 14-year HP director and son of HP cofounder William Hewlett
• Owned 72.8 million shares—or 5.9%—of HP common stock
• powerfully symbolic HP figurehead
• HP’s second-largest shareholder and an important voting constituent.

• For three months, during board meetings, Hewlett considered the merits of the transaction and
voiced concerns centered on a growing conviction that the merger would destroy shareholder
value
• if Hewlett voted against the merger, the agreement could not be signed without renegotiation,
which might result in HP’s having to pay a higher price.
• Hewlett believed it was his duty to negotiate the lowest possible price for Compaq if the merger
was to be submitted to a shareholder vote.
• Since the merger would be approved without his vote, Hewlett decided to vote for the merger as
a director and to give shareholders the chance to make their own decision
• Told the board that he would vote against it as a shareholder.
More Opposition
• Proved right by the stock market’s negative reaction to the proposed merger.
• On November 5, 2001, two months after the initial announcement, HP’s share price trailed the
preannouncement level by 27% (aggregate loss of $12.3 billion of market value).
• During the same time, an index of comparable companies increased 9.9%.
• Reinforced his conviction about the merger
• Had 2 more independent analyses carried out which confirmed his reservations against
the merger.
• On November 6, 2001, Hewlett announced that the Foundation, the Trust, Hewlett’s
sisters Eleanor and Mary, and he would vote against the merger.
• Later that same day, David Woodley Packard, son of HP cofounder David Packard,
announced that he too would vote against the merger.
• HP shares gained 17% with these announcements.
• The market’s reaction further reinforced Hewlett’s belief that the merger was not beneficial for HP.
The Proxy War
• HP’s largest shareholder, The David and Lucille Packard Foundation (the
Packard Foundation), which owned 10.4% of HP common stock,
conducted its own independent analysis

• On December 7, the Packard Foundation announced that it too would

vote against the merger.

• Despite the market’s reaction and opposition by the Hewlett and Packard
families, Fiorina was determined to take the merger to a vote.

• In response, and acting on behalf of the Trust, Hewlett initiated a proxy

war and began to take the steps needed to solicit votes against the
merger