How Ted Waitt regained control of Gateway

With that folksy e-mail greeting to workers, Ted Waitt casually announced his return last month as Gateway Inc.'s chief executive.

It was soon clear his homecoming was anything but casual. On the first Monday of his comeback, the PC maker's co-founder called in top executives one by one to tell them he was taking back control and bringing in his own crew. Jeffrey Weitzen, during whose year as CEO the stock had sunk 75%, quit rather than take a lesser position. Waitt replaced six others, including the vice chairman, the marketing chief and the technology chief.

For some employees, revering the pony-tailed Waitt and his instincts for spotting consumer trends, it was as if a Jedi knight had arrived to turn back the dark forces. At the old office in North Sioux City, S.D., they called one another to verify that the e-mail was real. "The feeling here," says Al Kirts, a manager in North Sioux City, "is if anyone can do it, it's Ted."

It won't be easy. Wednesday, Gateway (gtw) said it is restating its 2000 sales and earnings downward. The changes, requested by the company's auditors, cut 2000 revenue by $53 million to $9.6 billion and lowered net income by $74.5 million to $241.5 million. They reflect accounting changes the company had previously failed to implement, a new write-down of investments in other companies and reserves for anticipated losses to the consumer-loan portfolio.

Waitt said Thursday that the company expects to report operating losses through June as it continues to slash prices. He also sharply raised an earlier estimate of first-quarter special charges. He declined to forecast results for the full year and said the company doesn't expect to return to historic growth and profitability levels until 2002.

Even without this setback, Gateway faces declining sales and has been burning up money. Meanwhile, Dell Computer Corp. has been targeting Gateway's customers and, by Dell's account, has now taken away the No. 3 spot in the U.S. in home-computer sales. (Compaq Computer Corp. and Hewlett-Packard Co. are Nos. 1 and 2.)

Gateway's predicament suggests just how tough an environment PC sellers face. Margins seem to get crunched further each passing year. With more than half of U.S. households already owning a PC, new buyers are harder to come by. And with few programs requiring the newest computers, owners can easily defer replacement purchases in a weak economy.

Waitt, 38 years old, has plenty of incentive to turn things around. He owns nearly 32% of Gateway and has seen the value of his stake tumble by some $4.5 billion, to roughly $2 billion, as the stock has swooned. Though known for his pranks and his uniform of patched jeans and cowboy boots, he remains passionate about the company he co-founded in an Iowa farmhouse in 1985. To focus once again on the company, friends say Waitt has given up coaching his 11-year-old daughter's volleyball team and sold a treasured Ferrari.

The plan
Wednesday, at a meeting in suburban San Diego near where the company is based, Waitt outlined his plan to set it right. Gateway will cut costs by offering fewer products, handle its own advertising, retrench in retailing and pull back from some international markets. "We've been trying to do too many things in too many customer segments," he said in an interview after the public meeting.

For instance, Gateway's small-business unit will slash the number of variations on products it sells to 600 from 10 million. Soon its stores will no longer carry packaged software but download programs to CDs. The company will stop expanding its Gateway Country retail stores and will close a few, leaving it with about 300. Previously, Gateway had planned to open 90 more of the stores this year.

The company is "re-examining" its rental of space within stores of OfficeMax Inc., French retailer FNAC and Dutch telecommunications concern KPN, Waitt said. Gateway also expects to withdraw from certain European countries where its market share is minor. Waitt wouldn't say which ones. Gateway expects that charges for restructuring could be as much as $275 million in the first quarter, compared with a prior $50 million estimate.

The company has sold $500 million of consumer loans to raise cash. It has also cut 3,000 of its 24,000 employees and stopped manning some of its kiosks inside OfficeMax stores. To get the low-cost message across to senior managers, Waitt has tied bonuses to reducing marketing expenses and raising levels of customer satisfaction.

Rivals see Waitt's return as signaling a more cost-conscious and nimble Gateway.

"With Ted Waitt back, the level of competition and the value to the consumer goes up," says John Hamlin, vice president of U.S. consumer business at Dell. "We're all going to have to sharpen our pencils."

The son of an Iowa cattle trader, Waitt was 22 and working for a Des Moines computer retailer in 1985 when he talked a co-worker into setting up their own business selling personal-computer peripherals and add-ons. For capital, his grandmother guaranteed a $10,000 loan. For space, there was an old farmhouse that was part of his father's cattle business. "Ted said, 'We've got free office space, a free place to live--let's get started,' " recalls co-founder Mike Hammond, now Gateway's senior vice president of operations.

The business expanded from peripherals to selling PCs after Waitt figured it could build them for half of the $3,000 that an early supplier was charging customers to upgrade machines. Known then as Gateway 2000, the firm hung on and thrived in a brutal environment, selling PCs by phone and the Internet, as countless other small manufacturers folded or sold out.

But in the mid-1990s, Waitt missed the consolidation in the corporate PC market. Gateway invested heavily in building a corporate sales force and a server-computer business, but it couldn't make the effort work.

Weitzen comes aboard
A few years ago, Waitt tried to sell the company to Compaq. When that fell through, he began looking to beef up management. Convinced that only a big-company team could guarantee Gateway wouldn't lose its way again, he hired Weitzen, now 44, who was executive vice president of AT&T Corp.'s Business Markets division.

Initially Gateway's No. 2 executive, Weitzen led the company in the expensive process of opening Gateway Country retail stores, ultimately expanding at a clip of 35 outlets per quarter. Fearing that computer sales would become less and less profitable, Weitzen also emphasized what he called beyond-the-box sales--services such as Internet access and training that promised bigger profits.

By the end of 1999, Gateway was reporting record profits and sales, flourishing in a home-computer market on which International Business Machines Corp., Acer America and Packard Bell NEC had given up. Gateway charmed some buyers with its cow-spots logo and worked to develop relationships with its customers, offering innovative financing that let them regularly update their machines. Retaining the title of chairman, Waitt then handed the CEO job to Weitzen and began spending more time at a family foundation that provides scholarships and technology to the disadvantaged.

But soon, gains in PC sales began to slip. Some insiders felt that with his services push, Weitzen was neglecting the formula that had made Gateway a big success in the cutthroat home-PC business: keeping overhead to a minimum and pushing for volume. Gateway's unit sales had historically grown at twice the industry's rate, but last year its growth rate of 10.5% trailed the industry's 14.5% rise in unit sales.

Dwindling cash
Gateway began 2000 with $1.34 billion in cash and marketable securities. The total was down to $614 million by the end of the year, even though the company had added $241.5 million, after revisions, of net income during the year. Some of the money went to investments in companies that agreed to buy or market its computers or services. Last spring, for instance, Gateway paid $10 million for a stake in Quepasa.com Inc., a Spanish-language Web portal. But that company is now in liquidation.

Gateway also invested $50 million in the stock and debt of OfficeMax, which was expected to sell 520,000 of its computers annually but is thought to be selling far fewer. And Gateway bought $7 million of Rent-Way Inc. stock in a deal to become the rental-store chain's exclusive PC supplier.

Gateway saw its revenue from PC sales fall 15% in the fourth quarter. It blamed the slowing economy, but the company also was being blistered by Dell. As its unit sales weakened, Gateway kept prices up in hopes of maintaining revenue -- and Dell made its move.

Dell stopped spending money to develop different computers for the home market, instead offering consumers its small-business PCs at cut-rate prices and pouring cash into consumer advertising. By December, some Gateway PCs were as much as 10% pricier than similar Dells, as Dell sacrificed profits to claim market share. Dell traditionally trailed Gateway in home-computer sales, but says it now has gained three percentage points to nearly a 12% share, while Gateway's share has fallen.

Much of Dell's gain came in Internet sales, where shoppers can easily click from one company Web site to another to compare prices. In all, Dell says its U.S. home-PC sales grew 46% in its fiscal fourth quarter ended Feb. 2. And Dell's overhead costs were a lean 10% of sales, compared with Gateway's 20%. To get its costs even lower, Dell recently cut 1,700 jobs.

Waitt first began to take a more active interest last fall, insiders say, not long after helping produce a television commercial. He had stayed in touch with Gateway managers and grew increasingly concerned about the departures of longtime employees. In December, he was dismayed by the resignation of marketing vice president Bart Brown, who had joined Gateway in 1989 and remained close to Waitt.

The stock kept sliding and Waitt's wealth with it. Finally, he concluded that no one understood the company as he did and that he was the best person to fix it, says Richard C. Schutte, who runs Waitt's personal investment arm, Avalon Inc.

At a Jan. 17 board meeting, directors were upset with executives' failures to respond to Dell's price cuts. They supported a decision to reduce the payroll and restructure operations. Waitt didn't tip his hand.

But shortly afterward, he huddled with Weitzen and told him of his determination to play a larger role in operations. By the last weekend in January, Weitzen had made clear he was unwilling to accept a lesser role. On Jan. 29, the board met by phone and confirmed Waitt as CEO. Shortly thereafter, he began calling managers and dismissing them.

He rehired two longtime allies, Brown and David Russell, former vice president of supply-chain management. And he launched a "back to basics" drive, slashing prices. Now, Gateway and Dell are neck and neck in price. Some Gateway models are as much as 8% cheaper than Dell's.

A recent e-mail to employees: "I know it's been a tough few months, but don't worry, we're coming back."