Digital Equipment Corporation <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: DEC)") else Response.Write("(NYSE: DEC)") end if %>
146 Main Street
Maynard, MA 01754
(617) 897-5111
http://www.digital.com

BUFFALO, N.Y., July 30, 1996/FOOLWIRE/--- Digital reported this morning a let loss per share of $2.87 and a full year loss per share of $0.97. Full year revenues of $14.6 billion were the highest in company history.

Excluding restructuring charges of $492 million, net income for the quarter was $59 million, or $.33 per common share, compared with net earnings of $160 million, or $1.01 per common share, in the comparable quarter a year ago.

For the full fiscal year, the company reported a net loss of $112 million, or $.97 per common share. Excluding restructuring charges, net income for the fiscal year was $380 million, or $2.23 per common share, compared with net income of $122 million, or $.59 per common share for fiscal year 1995 -- a $258 million year-over-year improvement.

Total operating revenue for the quarter was $3.72 billion, essentially unchanged from a year ago. For the year, operating revenue was $14.6 billion, up 5 percent from the $13.8 billion reported in the 1995 fiscal year. It was the highest yearly revenue ever reported by the company.

"During the 1996 fiscal year, Digital made progress towards growing its strategic businesses and improving its financial performance," said Chairman Robert B. Palmer. "Our earnings per common share improved by 278 percent over the previous fiscal year, excluding the restructuring charge. We still have a good deal of work to do in a number of areas, but I am confident that the foundation is there for a stronger and more profitable Digital in fiscal 1997. Our strategic businesses, the ones we expect to drive our growth for years to come, are healthy. Alpha system revenues for FY 1996 were up 45% over the previous year, driven by demand for our enterprise-level AlphaServer 8000 family and more recently, for out new midrange AlphaServer 4100 systems. We have now generated $10 billion in revenues from Alpha products and services since Alpha's introduction."

"Growth in our Unix business continues to accelerate. Revenues were up more than 50% for the year, compared to a 40% increase the previous year on a smaller base. We experienced strong growth in Windows NT across our Alpha and Intel platforms. Revenues more than doubled this year. We reported significant growth in other key businesses including network products, storage products, Intel servers, and multi-vendor services. In each of these areas, revenues for the year were up more than 30%. Although our open VMS business overall continued to decline, open VMS on Alpha revenues were up 23% last year. This reflects customers' confidence in the capabilities of open VMS and its seamless interoperability with Windows NT."

"As we said during our last teleconference, Digital's failure to meet our original earnings expectations in Q4 was largely the result of problems in two areas: PCs and Europe." Palmer has spent a lot of time with these teams in the last four weeks and is pleased with the progress they're making and with the plans to address remaining problems. "In the PC business, for example, our revenues in Europe and Asia/Pacific were up in Q4 over the same quarter last year. Although PC revenue declined in the US year/year, sales out of the channel were up 20% from Q3. As a result, we made steady progress in reducing channel inventory and we continue to drive operating expenses to more competitive levels." Palmer said that he's confident that this progress and their strategic plans would lead to a much better quarter in PC during Q1.

In Europe, Digital is planning to expand direct sales focus, recruit new channel partners, and further reduce expenses. The company is also going to focus on a smaller core group of European channel partners. "This will allow to reduce channel competition and conflict, improve support, more effectively target our marketing programs, and better manage our channel relationships. We're also attracting some new management talent with extensive experience in both channel development and direct sales. While we cannot control European economic conditions or currency fluctuations, we can do a much better job of managing and growing our business in Europe, and that is clearly our objective."

"As I look back on fiscal '96, I see many strategic accomplishments that bode well for Digital's future. Most important, perhaps, was the introduction of a clear corporate strategy focused on three major growth opportunities--high performance 64 bit UNIX platforms, Windows NT across the enterprise, and internet productivity within and between enterprises. This strategy positions Digital for where the market is going. It also builds on our historic strength in high-performance platform and operating systems, enterprise computing, networking, and service and support...With powerful new 64 bit systems, 64 bit UNIX, and open VMS operating systems, and a rapidly growing portfolio of 64 bit applications from our partners, Digital has solidified its position as the undisputed leader in delivering 64 bit solutions to customers--a position we intend to sustain."

"Together with Oracle and other leading database and applications partners, we created an entirely new market for very large memory database technology. Demand grew as companies discovered a cost-effective way to turn their huge databases into competitive advantage. During FY '96, we sold more than 1,800 AlphaServer 8000 systems to companies throughout the world. One of the highlights of FY '96 was our alliance for enterprise computing that we announced with Microsoft last August. It firmly established Digital as one of the clear leaders in delivering products and services based on Windows NT for both our Alpha and Intel-based platforms."

Microsoft has announced a 64 bit version of Windows NT that will run first on Alpha platforms. Last month, Digital announced its 500 Mhz Alpha processor, which is sampling today, that runs up to 2 billion instructions per second. The company is also working with Mitsubishi on a low-cost Alpha processor to work with NT on the desktop. The 21164 PC, this chip will be sold in the $2,500 price range PC market. Along with DEC's translation software, the chip will drive 64 bit applications as well as 23 bit Windows NT. In addition, DEC and Samsung are now semiconductor partners and will focus on the Alpha chip.

Building on the success of the Alta Vista search engine and Digital's two decades of experience with the internet, Digital is providing a "growing portfolio of software products for the emerging inter/intranet market. We are also building strategic alliances with other internet leaders, like Microsoft and MCI, to develop comprehensive solutions for corporate intranets, including hardware, software, and services."

The balance sheet continued to strengthen as Digital completed the quarter with $2 billion in cash, an increase of $437 million, or 27 percent, compared with last year.

"Digital ended the fiscal year with the highest cash level in nearly five years," said Vincent J. Mullarkey, vice president and chief financial officer. "We experienced improvement in asset management across the board including solid progress in both inventory and accounts receivable.

"The asset management improvement over the past fiscal year gives management increased confidence in positive cash flow generation," Mullarkey continued. "As a result, Digital has announced a stock repurchase program for up to 10 million common shares."

Product revenue for the quarter was $2.141 billion versus $2.132 billion in the fourth quarter of the previous year. Service revenue was $1.578 billion, compared with the $1.618 billion reported in the same period last year. Total revenues were up 2% from last year, adjusting for divestments and up 6% adjusting for divestment and currency translation.

As previously indicated, revenue in some European markets was down due in part to an economic slowdown. The company, however, did well in other markets including, Japan, the United Kingdom, Italy, Latin America and the ASEAN countries.

The company, as expected, reported that revenue in its personal computer business was down 3 percent in the fourth quarter compared to a year ago.

"Our Intel-based PC business is an important component of Digital's company-wide Windows NT strategy," Palmer continued. "We are focusing on the server business where we've been growing at a rate of more than 25 percent while we continue to provide mobile and desktop products to our enterprise customers as part of client/server solutions. "I am encouraged by the improvements we've made in reducing channel inventory and managing costs, while recording strong growth in our Intel-based server business."

Product gross margin was 34.3 percent for the fourth quarter and 33.7 percent for the full year showing improvement of 3.1 points and 4.6 points respectively over the corresponding periods last year. These improvements were driven by continued cost improvements, more competitive product offerings and a greater volume of AlphaServer products.

Service gross margin was 30.4 percent for the fourth quarter compared with 34.0 percent in the comparable period last year. The reduction reflects the shift in business mix towards multivendor service and support offerings. Management continues to be confident, Mullarkey said, that the service gross margin is stabilizing and should begin to improve in the short-term.

"Our SG&A expense, at 23%, is unacceptably high. We are taking actions to bring SG&A back in line through restructuring, cost curtailment programs, and revenue growth." The results for the quarter include several one-time charges, including charges for exiting the retail PC business and the DRAM businesses. These charges were partially offset by $23 million in gains associated with divestments. Currency has an unfavorable $24 million impact on earnings compared to Q3.

The Corporation ended the quarter with approximately 59,100 employees -- a reduction of 1,800 positions during the quarter and 2,600 positions compared with the same period last year.

Other effects of asset management included: A seven day improvement in days-sales-outstanding; a three year low in Q4 inventories; over $2 billion in cash and positive cash flow from Q4 operations of $336 million.

The $492 Q4 restructuring charge includes: removal of 7,000 positions, with approximately 75% coming from overhead areas, over the next 12 months; closing an additional 3.5 million square feet of space; consolidation of sales functions across business units; continued consolidation of manufacturing and distribution sites; and improvement of service delivery model to improve service margins. The population reduction is distributed across geographies and business units. Approximately 75% of the charge will support employee separations and 90% of the charge will require cash usage.

The company achieved record revenues in 1996 despite divestments of units that has been generating $1 billion in revenues. Adjusted for divestments, total operating revenue for the year increased 9%.

The company's cash position of $2 billion is the strongest it has been in five years. Total cash flow from operations in the fiscal year amounted to $600 million. Product gross margin of 33.7%, an improvement of 4.6% or 460 basis points. This was Digital's first product gross margin gain in eight years. The company expects to achieve within two years net margin competitive with industry leaders.

Q&A

PCs and the now-divested DRAM business have hurt gross margins. How can that be improved? The company does not divulge specific margin targets but it did say that Europe, where they have substantial exposure, did hurt them. Relative to Q3, Q4 gross margin was hurt, by 1%, in charges associated with exiting the above-mentioned businesses. A further 0.6 was associated with currency and another point was associated with PCs in price-protection, which may or may not recur. On an adjusted basis, Q4 gross margin was nearly flat with Q3. Q--the upcoming quarter--is normally weaker for Digital. The company is also reversing somewhat the model, in Europe, of decreasing direct sales and is now shifting some of the sales force to deal more directly with customers.

The company doesn't have data to support an analyst's hypothesis of less seasonality in with the more indirect sales model. They said almost half of Q1 is comprised of European vacation schedules, which impacts almost 50% of Digital's sales, whether those are made directly or not.

Alpha represents 1/3 of DEC's product sales. Intel-based PC business was strong in servers and mobile computers. Desktop weakness was expected. Sales out of the channel in the US for desktop business were encouraging with 20% growth. Networking was up 27% and storage, 10%. Storage has been supply-constrained in the past [protecting prices], which made storage revenue growth look weaker on year/year bases. The remaining product revenue distribution, about $500 million worth, was hurt by printers and supplies (down 35% year/year), memory, and the VAX business, which continues a year/year decline of 40-50%. VAX makes up $100 million of total product revenues.

PC losses in Q3 were around $50 million and were higher in Q4. The PC unit continues to make expense reductions. Q1 1997 expenses for this unit will probably be 40% lower than Q1 1996. PC inventory in the channel has come down from 15 weeks sales to eight weeks--the goal being four weeks sales.

The company is still planning on breakeven in Q2 1997 for the PC business. Currency impact for Q1 should be attenuated.

As companies move to Windows NT 4.0, "there's no company better positioned to take advantage of that." The company won't predict in which quarter that's going to happen or where it would have its greatest impact.

Headcount should be at 55,000 by the end of the calendar year with the front-loading of the reduction. The last time the company was at 59,000 was 15 years ago when annual revenues were $3 billion.

Overall book/bill is 1.0.

The company's restructuring plans, those that have been booked in the past and those that have been booked and reserved in this quarter, will continue to be directed at achieving higher gross margins. Some of the gross margin room afforded by restructuring will be invested in maintaining competitive price points in the market. Normalized growth rate in storage and networking was 25% this year, backing out past supply constraints. The SG&A model will be 20% of revenues for the full year.

Shares outstanding for Q4 were 154 million. Q3 included 3.5 million share equivalents due to the fact that Q3 was profitable. The accounting convention that reduced outstanding shares is tied to the loss in Q4.

Digital announced the highest performance internet protocol gigaswitch in July, which delivers up to 18 million I/P packets per second. This switch is installed in DEC's Palo Alto Research Center, which they call the Internet Switching Center. This is neither an ISP nor a telco POP, but more a facilitator for customers' high bandwidth application needs. Palmer said "sometimes the financials have obscured the leadership that we have not only in Alpha technology but also in networking with the new, very high performance switching technology that we have. I'm very optimistic about the network products area."

* A Fool conference call synopsis represents an effort to highlight the salient points of a conference call and should not be taken as an authoritative accounting or transcription of the entire event.

Copyright 1996, The Motley Fool
All Rights Reserved. This material is for personal use only.
Republication and redissemination, including posting to news groups,
is expressly prohibited without the prior written consent of The Motley Fool.