Wall Street Whispers: Compaq Looking at Cabletron

By Kevin Petrie and Justin Lahart
Staff Reporters

Is

Compaq

(CPQ)

nosing around

Cabletron

(CS) - Get Report

?

The very suggestion of an acquisition spawned quite a scramble on Wall Street Wednesday. Any investors who still had shorts on Compaq were scurrying to cover.

"If you're short, you want to get less short, or flat, or long," one trader says. Already optimism about Compaq's second-quarter profit report due Thursday morning has driven shares higher; many expect the builder of computer servers and PCs to clear the

First Call

estimates of $1.39 per share. At 10:30 a.m. EDT Thursday, Compaq will unveil a new distribution effort and some new products, according to company officials. Cabletron also was on the rise Wednesday afternoon on heavy trading volume.

But with all the trading tumult cast aside, the notion of a Compaq-Cabletron combination strikes some chords in the sell-side crowd. Compaq has nibbled its way into the networking industry before (see an April 14

story in

TheStreet.com

), and with its sharply discounted stock Cabletron is widely considered a takeover candidate.

In numerous categories, the lines are blurring -- phone-gear suppliers

Lucent Technologies

(LU)

and

Northern Telecom

(NT)

are tackling the data business as well. With networkers such as Cabletron,

Fore Systems

(FORE)

and

Shiva

(SHVA)

trading at discounted levels, many speculate that Lucent, Nortel or Compaq may buy their way into networking.

"It would make sense," says analyst Matt Barzowskas at

First Albany

of Compaq buying Cabletron, although he had not heard the rumor. First Albany has performed no underwriting for either company.

First, Barzowskas says, Compaq is looking to expand into networking because it is a higher-growth business with healthier margins, despite increasingly bloody competition. While PC sales are increasing 20% or less annually, network-hardware products are widely expected to grow at a 30% to 50% annual clip. And the margins remain wider -- in the first quarter Compaq posted 12.7% operating margins, while Cabletron came in at 23% in the second quarter.

Cabletron would offer Compaq a tightly integrated array of hubs, switches and other products, Barzowskas says, which work alongside one another more efficiently than other network products.

Furthermore, Cabletron boasts a solid base of rather loyal corporate customers, according to Barzowskas. A July 3

story in

TheStreet.com

says several fund managers are betting Cabletron will be able to repair a short-term production constraint this fall and catch up with the robust customer demand for its new products.

Analyst Mike Cristinziano at

Gerard Klauer Mattison

, which has performed no underwriting for either company, echoes Barzowskas' assertions. He adds that Cabletron's recent profit shortfall and stock tumble has raised questions about how the company can survive alone.

"There's lots of speculation out there about who will buy Cabletron," he says. The big three of networking --

3Com

(COMS)

,

Cisco

(CSCO) - Get Report

and

Ascend

(ASND) - Get Report

-- have more far-reaching distribution channels, heftier manufacturing capacities and fuller product arrays. He says Cabletron may move to increase its might in those areas, either by purchasing another outfit or folding into a larger concern.

Cristinziano adds that Compaq sells its products through an extensive channel of retail outlets, and also directly to customers. Cabletron's network products, he says, might bolster those sales efforts.

Compaq declined to comment, and Cabletron officials did not return calls for comment.