Western Digital Pulls Together

Roger W. Johnson believes in corporate togetherness.

So much so that the chairman and chief executive of Western Digital Corp., which makes circuit boards, disk drives and other electronic innards for personal computers, is moving his company’s decision-makers and chip designers into a house that Johnson built: a gleaming headquarters that springs up 14 stories in the Irvine Spectrum business park.

By corralling the company’s executives, engineers and designers in one spot, Johnson hopes to overcome traditional rivalries that block innovation. This new sense of togetherness is especially important for Western Digital, which employs a motley crew of chip architects brought together by six acquisitions over the past five years. The concept is also the key to setting the company apart from its competitors.

Johnson wants to instill in Western Digital’s culture his idea of “interarchitecture,” or designing and manufacturing a family of electronic parts to work together so that the net result is better overall computer performance than if they were built independently.

But he knows that it will take more than fancy terms like interarchitecture and a splashy new building to sway outside skeptics who think the latest incarnation of 20-year-old Western Digital is a crazy collection of companies bound by aimless acquisitions.

While the company’s financial performance has improved this year, some industry observers criticize Western Digital management for spending too much time acquiring companies instead of executing its business. And by trying to be all things to all computer manufacturers, Western Digital, they fear, may only make itself vulnerable to competitors in each of its five business categories.

“It’s too early to claim a victory for Western Digital’s strategy,” said Steven Ossad, an analyst with Montgomery Securities in San Francisco. “They are having a change in fortunes, but a lot remains to be seen. They’ve been a disappointment before.”

Says Johnson: “We’ve spent time swallowing acquisitions. Now we have to execute.”

To be sure, Johnson’s scheme for gathering various pieces of the production process at a single site is not original.

Other manufacturers, such as Hewlett-Packard Co. and Apple Computer Inc., have designed new products by combining resources from all levels of the company, said Jim Mottern, a manufacturing with the accounting firm of Ernst & Young in Irvine.

Johnson isn’t straying from his no-nonsense management style to follow the likes of flashier Silicon Valley executives such as Steve Jobs, the Apple Computer co-founder who is now chairman of NeXT Inc. Rather, Johnson, whose conservative approach matches the dark three-piece suits he favors, believes the togetherness concept will bring Western Digital operating efficiencies. Companies that have pursued it found that they can get products to market much more quickly and cut development costs, Mottern said.

“We’re all going to be a lot closer together (in the new headquarters), and inter-architecture should be a lot easier,” said Kathryn A. Braun, senior vice president and general manager of Western Digital’s largest division. “People were skeptical about it at first, but they’re learning that we all have to be headed in the same creative direction.”

Johnson also hopes that the new headquarters will be a symbol that bolsters the stature of Western Digital. The company’s circuit boards and disk drives make possible smaller and faster computers, yet its name remains largely unrecognized outside the industry because it doesn’t make consumer products, such as personal computers.

Western Digital’s financial performance about a year ago didn’t help the image. The company’s earnings suffered last year, the result of a slow PC market and the cost of absorbing several acquisitions. The company lost $2.7 million in its fiscal 1990 first quarter ended Sept. 30, 1989, and laid off 950 people--or 12% of its work force.

Earnings have bounced back for the past two quarters, but the first-quarter deficit will hold profits below last year’s levels. For the first nine months of the current year, the company earned $14.7 million on revenue of $776.6 million, compared with earnings of $30 million and revenue of $748.6 million a year earlier.

Analysts are estimating earnings of $20 million to $25 million for the fiscal year ending June 30, and Western Digital is expected for the first time this year to top $1 billion in revenue.

“The financial performance (in the past few years) has been bumpy,” said David W. Schafer, vice president of worldwide sales. “It’s not so hard to understand, but it’s painful that people on Wall Street didn’t see what we were up to. It’s becoming clear now.”

While not everyone on Wall Street is sold on Western Digital’s strategy, most analysts agree that the Irvine firm is at a transition point in its history. Its stock has risen sharply on persisting rumors of some big contracts from International Business Machines Corp. “I think they have made excellent progress in turning around their business and their image in the past two quarters,” said Edmund C. Spelman, analyst for Oppenheimer & Co. in New York. “There is a healthy degree of skepticism because of their erratic track record, but they aren’t promising more than they can deliver.”

While Western Digital’s financial recovery can be attributed in part to improving conditions in the PC industry, Johnson believes that the company also is beginning finally to reap the benefits of a strategy he put in place when he joined the firm in 1982.

Johnson’s plan from the start was to assemble a collection of computer component suppliers and make Western Digital a one-stop supermarket for personal computer makers worldwide. This strategy was intended to help Western Digital in two ways.

The company could gain efficiencies from co-manufacturing the various products and then packaging the products together and selling them at reduced costs to PC makers. And once it owned each of the component businesses, it could develop an advantage over competitors through interarchitecture.

To expand into the computer graphics market, Western Digital acquired Paradise Systems in 1986 and Verticom Inc. in 1988. To strengthen its business in devices that control data storage, the company acquired Adaptive Data Systems in 1987, and it entered the business of making core logic chips that control communication between computer peripherals and the central processing unit with the 1987 purchase of Faraday Electronics Inc. It moved into the fast-growing market for networks that link PCs, printers and related equipment by buying ViaNetix Inc. in 1987. And finally, by buying Tandon Corp.’s disk drive business in 1988, the company entered the intelligent disk drive business.

Johnson says Western Digital remains unique among PC components manufacturers because of the wide array of products it makes. On a value basis, they account for about 50% of the cost of a PC’s parts. The only parts it doesn’t make are the central processing chip and mass memory chips.

To a casual observer, Western Digital’s acquisitions might look like a hodgepodge of loosely connected companies. But Johnson said the businesses share much in common: They are in markets where success means exploiting advances in semiconductor design.

And in that respect, Johnson says, his company has a leg up on its competitors through its alliance with AT&T; Corp. in which AT&T; makes state-of-the-art chips for Western Digital.

But Western Digital has been careful not to become overly dependent on AT&T.; So Johnson is building a $119-million wafer fabrication manufacturing plant in Irvine that is scheduled to open in January.

The core logic chips introduced by Western Digital in March allowed the company to integrate the functions of more than 30 chips into three. The Western Digital-designed chips are faster when used together than when they are used with non-Western Digital products, making them the first products that exhibit interarchitecture.

“For the first time, our parts are all designed by Western Digital people,” Johnson said. “We’ve been planning to get into this position for eight years. We think we have built an engine that will give us an inherent advantage over our competitors.”

Some skeptics, such as Montgomery Securities’ Ossad, say there is little concrete evidence that Johnson’s business strategy or inter-architecture plan will give the company a competitive advantage over such Silicon Valley rivals as Conner Peripherals, a disk drive maker, or Chips & Technologies, which makes core logic chips that control communication between computer peripherals and the central processing unit.

Western Digital’s challenge is to get each of its major product lines profitable at once, but that’s easier said than done because of fierce competition in each area. As Braun put it, “If all Roger’s kids can perform in the same quarter, we would blow Wall Street away.”

The task is made more difficult by a lack of industry design standards and the need to redesign the same components for different types of computers, such as laptops or workstations.

The disk drive business, for example, has been a particularly volatile segment of the industry with thin profit margins. But disk drives are quickly becoming Western Digital’s bread-and-butter business, accounting for 37% of its sales now compared to 8% in fiscal 1987.

Despite its growing dependence on disk drive sales, Western Digital was hampered in its efforts to become a major player in the field when it was slow to develop a line of 3.5-inch “intelligent” disk drives. The delay allowed Conner Peripherals to grab a bigger share of the market, said Crawford Del Prete, an analyst at International Data Corp. in Framingham, Mass.

But Del Prete said Western Digital has performed a good balancing act in making the transition to more profitable, higher-capacity disk drives and is in a good position to enter the next generation 2.5-inch disk drive market, examples of which are expected to hit the market in the next two years.

Analysts say it will take more than two consecutive profitable quarters to persuade them that the seesaw days are over at the Irvine computer company.

The company says last year’s layoffs were the last tasks in eliminating duplication from its many acquisitions. Almost as quickly as its fortunes sank, Western Digital recovered and its employment has grown to 7,500, above the pre-layoff level of 7,000 in April, 1989.

“This company looks like it’s on the verge of a turnaround,” said Richard L. Whittington, an analyst at Kidder, Peabody & Co. “But looks aren’t everything. I’d like to see them report good results for three to five quarters in a row.”

With 50% of its business overseas and sales to all personal computer manufacturers except Apple Computer, the company is no longer dependent on any one source or geographic region for its future well-being. In addition, the business is balanced between computer manufacturers, accounting for 62% of sales, and resellers, which provide 38% of revenue.

And analysts are encouraged by the company’s ability to reduce inventories and debt despite a heavy capital spending program that includes building a new semiconductor plant.

Although the domestic PC market is not expected to grow as quickly as it did in the early 1980s, Johnson believes that the unification of Western European markets after 1992 and political liberalization in Eastern Europe offer opportunities for increased sales abroad.

Johnson said the days of big acquisitions are behind Western Digital, but that doesn’t mean the company will not dabble in new markets. Eventually, Johnson believes Western Digital components will be used not just in PCs but also in a range of consumer electronics products.

Meanwhile, Western Digital has been attracting attention recently because of rumors that it has been awarded a large contract to manufacture IBM’s long-expected notebook-size computer. Western Digital and IBM refused to comment on any such deal.

But, last month, Western Digital announced a cross-licensing agreement with IBM, and company officials have been dropping hints that the company has won some major design coups. And rumors of an IBM deal have helped Western Digital’s stock, which reached a 52-week high of $14.75 per share on Thursday, but fell to $14.25 at Friday’s close.

Phil Devin, an analyst for market researcher Dataquest in San Jose, said he expects an announcement during the next several months that Western Digital will manufacture IBM’s notebook computer.

If Western Digital has beaten its competitors to the IBM deal, analysts say it would be proof that Johnson’s strategy, particularly the interarchitecture approach to chip design, is beginning to pay off.

Buying into the PC

Western Digital has parlayed its success as a maker of disk-storage circuitry into a billion-dollar-a-year business. Chairman Roger W. Johnson’s strategy has been to acquire component manufacturers and weld diverse technologies into a unified PC architecture.

A. COMMUNICATIONS: * Function: Circuits that link PCs with other computers and devices such as printers * Acquisition: ViaNetex Inc., 1987 * Competitors: 3 Com Corp., Novell Incorporated, National Semiconductor Corp.

B. CORE LOGIC CHIPS: * Function: Microships that control communication between different parts of the computer * Acquisition: Faraday Electronics, 1987 * Competitors: Chips & Technologies, VTI, Acer, Intel Corp.

C. VIDEO / IMAGING CARDS: * Function: Circuits that control color and resolution of PC screen * Acquisitions: Paradise Systems, 1986; Verticom Inc., 1988 * Competitors: Cirrus Logic Inc., Chips and Technologies, Tseng Laboratories Inc.

D. STORAGE CONTROLLERS: * Function: Manages flow of data between processor, memory and storage on magnetic disk or tape * Acquisition: Adaptive Data Systems, 1987 * Competitors: Cirrus Logic Inc.

E. INTELLIGENT DISK DRIVES: * Function: Combines storage controller with disk drive to improve performance * Acquisition: Tandon Corp., 1988 * Competitors: Quantum Corp., Miniscribe, Seagate Technology

A CHANGING PRODUCT MIX

Percent of total sales, color keyed to products listed above:

1986 COMMUNICATIONS: 5% INTELLIGENT DISK DRIVES: 95%

1987 COMMUNICATIONS: 3% VIDEO / IMAGING CARDS: 10% STORAGE CONTROLLERS: 8% INTELLIGENT DISK DRIVES: 79%

1988 COMMUNICATIONS: 4% CORE LOGIC CHIPS: 6% VIDEO / IMAGING CARDS: 18% STORAGE CONTROLLERS: 14% INTELLIGENT DISK DRIVES: 56%

1989 COMMUNICATIONS: 6% CORE LOGIC CHIPS: 6% VIDEO / IMAGING CARDS: 25% STORAGE CONTROLLERS: 18% INTELLIGENT DISK DRIVES: 45%

1990 COMMUNICATIONS: 8% CORE LOGIC CHIPS: 6% VIDEO / IMAGING CARDS: 18% STORAGE CONTROLLERS: 36% INTELLIGENT DISK DRIVES: 32%

Source: Western Digital Corp.

WESTERN DIGITAL PERFORMANCE

While revenues have continued to climb speedily over the past five years, Western Digital’s profits peaked in 1987 and have been declining since.

Revenue in millions of dollars: 1985: $189.2 1986: $300.3 1987: $481.4 1988: $769.3 1989: $992.1

Net Income (Loss) in millions of dollars: 1985: -4.2 1986: $23.2 1987: $45.8 1988: $43.4 1989: $34.3

Net Income as Percent of Revenue

As percentage of revenues, net profits have declined to less than 2% from a 1987 high of 9.5%.

1990 *: 1.8%

* ending 3rd Quarter 1990.

Stock Price Rebounds

Western Digital’s stock has bounced back from a 24-month low of $7 at the end of October. 5/31/88: $15.25 10/31/89: $7.00 6/12/90: $14.50

Source: Dow Jones News Retrieval

KEY EVENTS IN WESTERN DIGITAL’S HISTORY

March, 1990: Introduced first chips designed under interarchitecture concept, or designing and manufacturing a family of parts to work better together than if they were designed independently.

June, 1989: Western Digital reports net income of $34.3 million on revenue of $992.0 million for the year ended June 30, 1989.

August, 1988: Acquired Verticom Inc., a maker of computer graphics hardware.

March, 1988: Acquired Tandon Corp., a maker of hard-disk drives, for $80 million.

September, 1987: Western Digital reaches an agreement under which AT&T; will share advanced chip technology with Western Digital. In exchange, Western Digital will order a specific volume of chips from AT&T; each year.

July, 1987: Acquired Faraday Electronics Inc., a money-losing core logic chip maker for $42 million in stock.

January, 1987: Acquired ViaNetix Inc., a maker of local area network hardware.

November, 1986: Paradise Systems, a maker of computer graphics boards, acquired in a stock swap valued at about $35 million.

August, 1986: Acquired Adaptive Data Systems Inc., a maker of disk drives.

June 1985: Western Digital reports a loss of $4.2 million on revenue of $189.2 million, feeling the effects of a PC industry slump.

November, 1984: Johnson is named chairman of Western Digital after Charles Missler resigns to head a small Irvine defense firm, Helionetics.

June, 1983: Western Digital reports net income of $424,000 on revenue of $50.9 million for year ended June 30, 1983.

June, 1982: Roger W. Johnson is named president and chief operating officer. He focuses business on computer-related businesses and shuts down six subsidiaries. Western Digital reports loss of $7.1 million on revenue of $33.2 million for year ended June 30, 1982.

1978: Western Digital emerges from bankruptcy.

1976: Western Digital files for Chapter 11 bankruptcy after reporting a $4-million loss.

July, 1971: Company changes its name to Western Digital.

April, 1970: General Digital founded as a specialized semiconductor component manufacturer.

SOURCE: Western Digital Corp.