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Technology > Tech Biz
Gateway plans for perfection
As it phases out consumer electronics, everything must align perfectly for the company to succeed.
September 15, 2004: 3:30 PM EDT
By Eric Hellweg, CNN/Money contributing columnist

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BOSTON (CNN/Money) - While tech stocks pushed Nasdaq near a two-month high on Monday, shares of Gateway Computer stumbled downward.

At the company's annual analyst meeting in New York that day, CEO Wayne Inouye affirmed the guidance for the current quarter and hinted that the fourth quarter would be slightly better than consensus analyst projections.

That's hardly reason to push a stock down almost 3 percent, right? Well, there was that Wall Street Journal report that the company was abandoning its profitable consumer electronics products and focusing on PCs. That's enough to drive the stock down on almost twice normal daily volume.

Gateway executives were quick to point out to me that they are not phasing out the division entirely. Gateway (GTW: Research, Estimates) has decided to focus mainly on its PC division, but insists it has not abandoned -- and has no plans to abandon -- the sales of its plasma and LCD screens and digital-music players.

A spokesperson says the company has "placed a hold on plans to refresh [certain consumer electronics products] with new models," but also that Gateway will "work on new digital-TV and other convergence products for later this year." So is it confusion that's driving this stock down?

So long, consumer electronics?

If, in fact, Gateway is sunsetting most of its CE division, as some of the analysts I spoke with believe, I think it's a smart move.

The division is a pretty decent profit machine for the company, accounting for a little less than half of its profits. That's going to be tough to replace, but the high-end television market is about to go through a massive margin crunch. Recent factory openings in Asia and the proven demand for these models means that the high-end TV market will soon be hit with a surfeit of new competitors and a glut of supply, inevitably pushing prices down.

"The market is a lot tougher right now. Prices are coming down pretty rapidly," says NPD Group analyst Stephen Baker. "It's a tough place to be." Gateway's exit could end up looking prescient.

I think the market is being a bit shortsighted if it's punishing the company for scaling back its CE operations. However, so many factors have to align in the new Gateway plan that almost nothing less than perfection will be considered a success. As such, investing in Gateway today signals a belief that things will work out exactly in its favor.

Perfection as a goal

Gateway has set stretch goals -- reach over $1 billion in quarterly sales, become a $10 billion company, and overtake Hewlett-Packard (HPQ: Research, Estimates) in retail sales.

To reach those goals, however, the company must do everything right and hope that its rivals don't. The most pressing business is to maneuver the minefields of channel conflict created when it began selling the same PC products online and in stores.

The company could catch a break if HP relinquishes the low end of the PC market to Gateway. That's conceivable, since HP reportedly doesn't make money on its low-end units, but it isn't likely in a market that is still in a "grab market share" phase.

Corporate Governance
Industrial Components

"Gateway implied fairly strongly at the analyst meeting that HP is a much weaker operator than they are, and that's possible," says Charlie Wolf, an analyst with Needham & Co. "But HP is still the gorilla in the space." (Wolf owns Gateway shares and has a "hold" rating on the company.)

Finally, Gateway must rack up sizable sales of its TVs, which will likely only be sold online. When was the last time you bought a television set without first examining its picture quality?

In the end, the presence of Inouye as CEO remains the best argument in favor of this stock. Gateway's current management team is the strongest the company's had in years, and Inouye's talent for making money on low-end PCs, coupled with his retail experience, can make magic.

But, hoo-boy, it's a risky bet.

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