Alpha proved costly for Compaq

Compaq executive denies the company is axing its hardware business, despite the loss of Alpha
Written by Ken Popovich, Contributor

The Alpha processor proved a costly investment that was increasingly difficult to justify, a senior Compaq Computer executive said this week.

"This has been a very interesting week for Compaq," said Mike Winkler, head of Compaq's global business units, admitted during a news conference yesterday at PC Expo scheduled to tout two new rack-mounted servers, but which gave way to a broader discussion of recent events.

On Monday, company Chairman Michael Capellas announced that the company will cease production of its Alpha processors in 2004, and will instead embrace a new Itanium processor developed by Intel.

The same day, the Wall Street Journal leaked a memo Capellas sent to employees in which he stressed the company's plans to focus on boosting its software and services businesses, raising questions about the future of the company's core hardware business.

Compaq's Alpha processor powers the company's most expensive computer systems, which can sell for more than $1m (about £700,000).

The chip, introduced in 1992, was the first 64-bit processor on the market, forging the way for eventual domination of 64-bit processors in high-end computing. Compaq acquired Alpha technology when it bought Digital Equipment Corp. in 1998 for $9bn.

While the chip has long remained among the top processors based on performance, it has never secured a dominant market share and has seen its minor share continue to erode over the last several years.

While Compaq still plans to introduce a newer, faster Alpha chip - the EV7 - late next year, the computer maker has halted development of its successor, the EV8, after deciding that future sales would not be enough to offset the hefty investment to develop such chips.

"Unless you've got an incredible volume to spread it over, the chips are so incredibly expensive," Winkler said.

Compaq may not have recognised how pricey developing processors can be when it acquired the Alpha, said Linley Gwennap, principal analyst with the Linley Group.

"I think Compaq either underestimated how much it costs to maintain a microprocessor architecture like Alpha, or they were just trying to get by on the minimal possible investment," he said. "In either case, they haven't been funding the necessary development the Alpha processor required to keep it competitive."

According to Winkler, just to design and develop future generation of Alpha was costing Compaq $300m a year, he said. "That's no small change," he said.

Such expenses probably proved even more burdensome in recent months as Compaq has suffered falling sales and earnings amid an industry-wide slump in computer sales.

In Capellas's memo to employees, he said the computer maker will aim to slash operating expenses another $200m per quarter. Compaq has already slashed operating expenses this year and announced plans in April to lay off 9,000 workers.

After reevaluating the marketplace and figuring out what they were willing to commit to developing the chip, Gwennap said it appears the company decided it just wasn't worth the effort.

"I think they finally realised that there is no point in having your own microprocessor if it is not competitive," he said. "I don't think they wanted to invest what it would take to keep it competitive, so they decided to just get rid of it and use Itanium instead."

In a deal announced Monday, Compaq agreed to transfer its processor technology to Intel, a company Winkler said is far better positioned to design and sell chips.

"Intel will be selling these things dirt cheap because of the volumes they sell," he said.

As part of the agreement, Compaq will migrate all of its high-end computing systems to Intel's new 64-bit Itanium processor.

While Houston-based Compaq will continue to invest in Alpha until the chip is phased out in 2004, the computer maker will see some immediate savings.

"There will be a few hundred engineers that will go over immediately, those who were working on the EV8, which we are not going to make," Winkler said. "Once the EV7 is phased out, those designers will go to Intel as well."

Eventually, he said, other computer makers, like Sun Microsystems, will likely have to abandon their own proprietary chips and embrace Intel's processors just as Compaq did.

"It is clear that proprietary RISC architectures (like Alpha and Sun's UltraSparc) are going to run out of runway relative to Intel alternatives," Winkler said. "Just as you saw Hewlett-Packard migrate away from its PA-RISC, I think you're going to see the entire industry do that. It is only a matter of time until each company admits it."

Ultimately, companies will differentiate themselves not by the processors but the hardware, software and services they can package with those processors.

"No one cares what the processor is inside," he said, "it is really the applications and the software that drives the value for the customer overall.

Winkler also took issue with a Wall Street Journal story Monday about Capellas's memo to employees. Winkler said the newspaper misconstrued the memo, concluding that hardware sales were becoming secondary to services and software, Winkler said.

That "could not be further from the truth", he said. "The hardware business is the foundation for our services business and our services practices."

While Compaq wants to boost software and services revenue from 20 percent to 33 percent, Winkler said the company will "in no way compromise" its hardware business, and continue to seek to build it up as well.

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