Chapter 12 - Networking: Market Order: LANs 1983-1986
In early 1985, the investment decisions by 3Com management in 1984 took form. In January 1985, 3Com announced the formation of a new application software division headed by Chairman Robert Metcalfe.13 The new division would focus on network-based applications, such as multi-user personal productivity tools. The intention was: to compete with the success of stand-alone software products, such as spreadsheets and word processors; to better the functionality of minicomputers; to distinguish its LAN solutions from those of other vendors and to combat the growing presence of Novell.
On March 30, 3Com unveiled its Intel-based dedicated network servers. The 3Servers, named to reflect their three functions – peripheral sharing, information exchange and gateway access to other networks – were meant to provide minicomputer capabilities to personal computer networks. (Access meant access to other 3Com networks, however.) Bill Krause remembers:
We were taking the next step to getting more value out of what we were selling into the proposition other than just LAN adaptor cards and software. We wanted to sell servers, and so we were looking to become the Sun of the PC market. In other words, what Sun had done for the 68000-based Unix clients and Unix servers we were going to do with DOS clients and DOS servers. So we were going to become the Sun of the DOS PC world.
Any misplaced confidence management may have had should have been shattered when Novell’s next-generation network operating system, Advanced NetWare/86, began shipping in June. Nevertheless Krause remembers:
We ignored it. We didn’t think it mattered. We thought they were dead wrong. We thought they were totally wrong, because without the applications, how could they succeed?
3Com’s financial success continued unabated with sales of $46.3 million for fiscal year ended May 1985, up 177%.
Then that summer, a personal relationship between Krause and Paul C. Ely, Jr. that had ended abruptly when Krause left Hewlett-Packard for 3Com - Ely had been Krause’s superior – just as suddenly resumed. Only now Ely too had left Hewlett Packard and was in the midst of turning around the minicomputer and desktop computer company Convergent Technologies, Inc. as President. Ely was keen on making acquisitions to grow Convergent. In a fitting match, Krause and the management of 3Com had evolved a vision of workgroup computing and believed that if they could also sell the computers that populated their LAN installations they could grow a significantly larger company, just as Sun Microsystems was doing. Krause remembers:
So we’re sailing that summer again, the summer of ‘85, and I was telling him about the workgroup computing vision, and he says: “You know, at Convergent, we have exactly the same vision, only we use CTOS [their proprietary operating system]. Why don’t we merge the companies? We’ll cash cow CTOS and we’ll build on yours. We’ll use all of our OEM relationships with Burroughs and AT&T and all those guys to fund really becoming the Sun of DOS. And we’ll cash cow CTOS.” Great.
While conversations continued in earnest, 3Com still had a company to run. In November 1985, 3Com introduced the first fruits of their software division: 3+ software. In addition to a suite of software, 3Com introduced the concept of workgroup computing: users on a LAN, or other 3Com LANs, sharing information and becoming more productive as a group
Then the surprise. On November 26, 1985, 3Com and Convergent announced they would merge in a transaction valuing 3Com at $133.6 million. The vision of workgroup computing, the long standing desire to sell computers, the “HP” culture within 3Com, and the intense competition from other LAN companies all combined to motivate 3Com management to buy into a larger vision made possible by the merger. It seemed to make sense and the shareholders of 3Com began giving their formal support.
On March 20, 1986, a week before the merger seem headed for shareholder approval, Convergent announced disappointing financial results; sales were down and profits had dropped to 5 cents a share from 14 cents the previous quarter. Much of the decline was blamed on slowing sales of computers to AT&T. As part of the process to complete the merger, 3Com had retained its investment bankers, Robertson Colman & Stephens, to give an opinion on the “fairness” of the proposed valuation for 3Com. Given the drop in the profitability of Convergent, Robertson Colman & Stephens refused to give the needed opinion.14 In announcing the stunning decision to cancel the merger, Krause said:
It’s one of those unfortunate circumstances where you have an obligation to receive a fairness opinion, and if that can’t be rendered you can’t proceed.15
The post-merger collapse period proved to be challenging. Krause remembers:
It was a very difficult thing, because we really had sort of emotionally consummated the merger, and it was a very hard time for me personally, because here I had patched up things with my old mentor and was really looking forward to working with him again, and more importantly I thought we had the right vision for the industry. If that merger would have gone through, I think both companies would have been extremely successful. I was able to regroup my own emotional energy, to gather up our own internal efforts and refocus them and getting us moving down the path, sort of what I call the period of oscillation, going back and forth with ‘Should we be a workgroup computing company or Should we go back to our roots in networking?
From the outside 3Com appeared not to skip a beat, reporting sales of $48 million for the six months ended November 1986, up 73%. The robust personal computer LAN market swept them upward despite the distraction of the proposed Convergent merger.