Gateway to Buy EMachines

Combined company would be the third-largest PC company in the U.S. market-still far behind Dell and HP-and would give Gateway a stronger presence in low-end computers.

Gateway Inc., which has spent the past year trying to expand beyond its PC-making roots, on Friday announced it was buying privately-held computer-maker eMachines Inc. for about $235 million.

Officials with Gateway, in Poway, Calif., said the combined company will create the third-largest computer maker in the country behind Hewlett-Packard Co. and Dell Inc.—and eighth in the world—with combined 2003 revenue of $4.5 billion and more than 7 percent of the U.S. PC market. EMachines, of Irvine, Calif., generated about $1.1 billion in revenue last year.

Gateway will pay $30 million and 50 million shares of stock for eMachines, and officials say they expect the deal to close in six-to-eight weeks. Gateway officials expect the deal to help it reach profitability in 2005.

Under the terms of the deal, eMachines CEO Wayne Inouye will take the same role at Gateway, and Ted Waitt, Gateways current CEO, would remain as chairman. Roderick Sherwood will remain as Gateways chief financial officer.

Gateway is hoping to expand its computer and growing consumer electronics business by taking advantage of eMachines low-cost operating model and retail channels while at the same time reducing its own operating expenses.

Gateway has revamped its business, trying to become a branded integrator that can supply the majority of the computer needs for both consumers and enterprises. For the commercial segment, that has included reviving its server line and moving aggressively into selling storage devices. The consumer products include everything from plasma TVs to digital cameras.

Through the deal, Gateway will continue to sell Gateway-branded commercial and consumer products through its existing channels, and sell eMachines desktops and notebooks under that companys brand through third-party retail channels throughout the world.

Also, by buying eMachines, Gateway brings in another flavor of desktop and notebooks. Gateway has relied primarily on Intel Corp. processors in its systems, but eMachines also uses chips from Advanced Micro Devices Inc.

It also brings a winning formula. The fourth quarter 2003 represented eMachines ninth consecutive quarter of growing revenues. In contrast, Gateway has suffered losses for the past several years. In fourth-quarter earnings announcement Thursday, Gateway reported revenue of $875 million and a loss of $114 million.

"eMachines has created an operating structure, growth trajectory and reputation among customers that is a model for the future," Waitt said in a prepared statement. "Theyre bringing to Gateway a strong brand that has grown dramatically in value over the past two years relative to its retail competitors and one of the most capable management teams in the PC world."

During a conference call with reporters, both Waitt and Inouye touted the synergies that will be realized by combining Gateways direct sales model with the indirect model of eMachines, which sells its products though such retail outlets as BestBuy and Circuit City. However, Waitt had to field several questions on that indirect models impact on Gateways own retail stores. There are no plans now to start selling eMachines products in Gateways stores, he said.

"Were going to try to minimize any conflict between those two" sales channels, Waitt said.

Gateway spent much of last year revamping its almost 190 retail stores across the country to make them more attractive not only to consumers but also to small and mid-sized companies. In keeping with the branded integrator strategy, Gateway officials wanted a place where customers could see not only how the products work but also how they work together.

Some industry observers say the stores, which numbered more than 220 in 2002 before Gateway closed more than 30 in cost-cutting moves, could be a financial drain on the company. Gateway officials said the stores are a key differentiator over competitors such as Dell, particularly in consumer electronics where customers want to touch the products before they buy them, Waitt told analysts last fall. On the enterprise side, the Gateway Stores, which officials say are responsible for about 40 percent of Gateway revenues, enable IT administrators to try out such products as servers and storage devices before buying them.

Although Inouye, with his experience selling PCs through retailers, is taking the helm as CEO, Waitt dismissed the notion that Gateway could be downplaying its indirect sales channel through systems integrators and professional services firms. "We have our professional division under [former IBM executive] Jocelyn Attal and they will not change their method of doing business," Waitt said.

Inouye is not limiting his horizons at Gateway. He was asked if the acquisition, which officials said will double Gateways PC sales volume, could move the company from number three to number two among PC vendors. Inouye responded: "I would like to be the number one company. That will take some time. [But] were not going to start low here."