Weak Sales Hammer Compaq Again

Compaq (CPQ Quote) warned Tuesday evening that second-quarter sales would fall short of estimates. The company set plans to fire 1,500 more workers as it scrambles to slash costs.

The PC maker said after the close of trading that it expects second-quarter revenue of about $8.4 billion, 9% below first-quarter levels and around $400 million below the figure that analysts polled by Thomson Financial/First Call were looking for. Compaq blamed deteriorating conditions in the European market. TheStreet.com wrote last month that Compaq was a likely candidate for a second-quarter warning.

Meanwhile, the company said it expected to earn 4 cents a share for the quarter, in line with expectations. Compaq's bottom line was sheltered somewhat by a series of aggressive cost-cutting measures the company has undertaken in 2001. Compaq set plans to fire 5,000 workers back in March. It raised that number to 7,000 in April.

Downer Boxmaker's stock slides

Now Compaq is saying it will fire about 8,500 employees in 2001. It set plans to take a $490 million charge against its second-quarter earnings to cover the new severance expenses.

"We are committed to taking aggressive actions during this period of slow demand to make permanent improvements in our business model," said CEO Michael Capellas. "It is now clear that the economic slowdown is spreading overseas, and we will therefore move more swiftly and go even deeper in our structural cost reduction programs."

It looks like Compaq will manage to meet its earnings estimates despite pricing pressures. On a conference call following the release, CFO Jeff Clarke said that the company expected gross profit margins to fall a full percentage point from the first quarter.

Part of that decline in gross margins is simply the effect of the price war. "We continue to see very aggressive pricing across all of our regions," said Clarke. "On our part, and certainly our competitors' parts, continuing at rates we saw in the first quarter."

But also there's also the matter of inventory. When Compaq reported its first-quarter results back in April, it pledged to cut inventory by $450 million, $300 million of which was to come from the group of equipment resellers collectively known as "the channel." Clarke emphasized that Compaq had easily exceeded that goal, lowering its own inventory by $200 million and cutting $400 million out of the channel, for a total of $600 million.

In the long term, Compaq hopes that lower inventories will help it lower its cost structure enough to compete effectively with Dell (DELL Quote), whose direct business model gives it absolutely no channel inventory whatsoever. But the plan is clearly taking its toll on sales and margins in the short term. The only way to reduce channel inventory is to stop selling products to resellers until they've dumped the excess, which they usually accomplish by slashing prices.

Right now, the market seems pleased with Compaq's progress. Its stock was rising in after-hours trading after falling 44 cents to close at $13.76 in regular trading Tuesday. It was lately changing hands at $14.01 on Island.

"They took $600 million out in channel inventory," said A.G. Edwards analyst Brett Miller. "That's a material amount. As long as the supply chain logistics can handle it. The worst thing is if you're not efficient enough to do that, and you have stock-outs. But they've been very diligent in this." (A.G. Edwards hasn't done recent underwriting for Compaq.)

The company is scheduled to announce results for the second quarter on July 25.