Rackable: New CEO; same old woes

Rackable Systems said former CA CTO Mark J. Barrenechea will take over as CEO of Rackable Systems, the beleaguered server and storage system maker.
Written by Larry Dignan, Contributor

Rackable Systems said former CA CTO Mark J. Barrenechea will take over as CEO of Rackable Systems, the beleaguered server and storage system maker.

Barrenechea had been on the Rackable board, according to a statement. He resigned as CTO of CA last May following an exodus of executives at the software maker. Barrenechea will replace Thomas Barton.

It's safe to say Barrenechea will have his hands full. Rackable rose to prominence on the back of data center build-outs, but larger rivals have put the squeeze on the company.

Indeed, Rackable has had a string of disappointing quarters that have pummeled this former high-flier. On March 26, Rackable reported a first quarter net loss of $10.2 million, or 36 cents a share, on revenue of $72 million. In the same quarter a year ago, Rackable reported a profit of $6 million, or 23 cents a share, on revenue of $84 million. The company also cut its outlook for the second quarter and replaced its chief operating officer. On March 21, Rackable hired a new sales and marketing chief to replace  the one who bolted in January.

Last week, former CEO Tom Barton said:

"We are encouraged by the progress we've made over the past thirty days in assessing our long-term business model. These steps include a newly-defined plan for handling business at our largest accounts, a strategy for diversifying our sources of revenue, and a focus on higher gross margin products. We believe we have the right team and strategy in place to stabilize gross margin attainment and improve long-term profitability."

Guess Barton didn't get the memo about Barrenechea.

The culprit for this implosion: Pricing pressure from rivals. Gross margins fell from 19.8 percent to 13.5 percent as top accounts squeezed Rackable on price. W.R. Hambrecht analyst Ryan Hutchinson noted that Dell has turned up the heat on Rackable at big customers such as Yahoo and Microsoft. And Rackable is vulnerable--its three largest customers account for 53 percent of revenue.

Meanwhile, Rackable said it plans to move toward standardized configurations to counter the price competition. It also has high inventory levels.

Part of the problem is that Rackable gained momentum based on its partnership with AMD. The pitch was that Rackable could offer better power efficiency with AMD powered servers compared to Intel. Now that AMD's lead has eroded Rackable is taking a hit. Rackable has Intel-based servers, but so does everyone else.

Canaccord Adams analyst Mark Kelleher sums it up:

"The server and storage markets that the company competes in are intensely competitive.  Rackable's historical advantage competing with superior AMD-based systems against power-hungry Intel based systems has dissipated with the introduction of better Intel processors.  Given the significant resources of key competitors such as Dell and HP, and their clear intention to take market share back from Rackable using pricing power."

Bottom line: Rackable is a dwarf compared to giants like HP and Dell and too dependent on its big customers. It's a situation that's not going to clear up anytime soon.

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