Will Lotus Software Blossom Under IBM's Big Blue Eye?

GIANT IBM is back as a financial powerhouse. Has it become entrepreneurial too?

That's the question the Armonk, N.Y., computer company will have to answer in coming months as it tries to pull off the biggest software acquisition in history.

After a sweeping, two-year effort to revamp his own company, International Business Machines Corporation chairman Louis Gerstner stunned Wall Street on June 5 by launching a hostile $3.3 billion bid to buy softwaremaker Lotus Development Corporation of Cambridge, Mass. The announcement served notice that IBM has turned a financial corner. It racked up $2.9 billion in profits last year after four straight years of losses. IBM says it would fund the Lotus purchase with some of its $10 billion cash hoard.

The move is also a bold gamble that the new IBM has shed its bureaucratic ways and can move effectively in the fast-paced software industry.

"People have questioned our ability to lead the industry," says IBM spokesman Jon Iwata. "We want to reestablish our position."

But there are plenty of doubters.

"It really has a lot to do with ex-

ecution," William Gates, the chairman at rival Microsoft Corporation of Redmond, Wash., said at a software developers conference June 5.

He questions whether Lotus's creative employees would fit within IBM's culture. "Was it their career ambition to be an IBM employee?" he asks.

"I'm skeptical," adds Jamie Kiggen, software analyst for Prudential Securities in New York. "There's absolutely no guarantee that IBM will become a software powerhouse in the PC [personal computer] world."

IBM's move caught Lotus by surprise. In a conference call with reporters June 5, Lotus chief executive Jim Manzi said Mr. Gerstner alerted him by telephone only about five minutes before announcing the deal publicly. Mr. Manzi said his company would study the IBM offer and convene its board within 10 days to come up with a response.

IBM is certainly pulling out all the stops. It has offered to pay $60 a share for Lotus, nearly twice what the stock was trading for on the NASDAQ exchange.

Once the deal was announced June 5, Lotus stock shot up from its June 2 close of $32.50 to $61. Indeed, the Securities and Exchange Commission is investigating heavy trading in Lotus stock before the IBM announcement. Despite IBM's high-priced offer, some analysts think the computer company can make the deal work.

"There are a lot of potential synergies between what Lotus has and IBM [has]," says Peter Rubicam, vice president and research director for Dean Witter Reynolds in New York. Lotus sells software for desktop computers. IBM caters to corporate-sized systems. Lotus has a strong consumer presence; IBM rates high among the Fortune 500 companies.

Lotus Notes is crown jewel

Lotus's crown jewel is its groundbreaking program called Lotus Notes.

This software, known as "groupware," allows corporations to move data through their organizations far more easily than with traditional software programs. The president of a company can post a question electronically that any employee can answer. Workers from different departments can work together on a project, even if they use different kinds of software and incompatible types of computers. The result is that companies, particularly the world's largest corporations, have been snapping up Lotus Notes.

IBM thinks its expertise in large corporate systems could boost Notes sales far beyond its present level.

"We are interested in helping Lotus grow and making Notes the global industry standard," Mr. Iwata says. "The two companies share a similar vision."

Strategic missteps by Lotus

But whether they can overcome their past strategic missteps is another question, says Jesse Berst, editorial director of Windows Watcher, a Redmond, Wash., industry newsletter.

Lotus has failed to position Notes strongly enough as a software base for which other software companies could write add-on applications. The company also should have lowered the price of Notes to rapidly increase the number of users rather than attempt to milk fat profits from it, Mr. Berst adds.

For its part, IBM has struggled to make its operating-system software - OS/2 - a market winner. So far, software companies have been far more inclined to write programs, such as spreadsheets and word-processing software, for the rival Microsoft system, called Windows.

If the Lotus deal goes through, the strategic decisions IBM makes could play an enormous role in the other half of Lotus's business: the traditional spreadsheet, word-processing, and other applications software.

Lotus has not had an easy time of it lately. Once the premier vendor of spreadsheet software, its market position has steadily eroded, thanks to stiff competition from Microsoft. Meanwhile, Lotus's suite of business programs has fared disastrously in the marketplace. The company reported a $17.5 million loss for the first quarter this year.

Although IBM denies this, several analysts suggest that the computermaker may decide to focus Lotus on IBM's OS/2 rather than Windows. Such a move would delight OS/2 vendors.

Lotus's future at stake

"If IBM succeeds, we're looking at getting a real suite of applications for OS/2," says Rob Page, president of Digital Creations, an Internet information provider based in Fredericksburg, Va.

But that might do in Lotus in the long run, analysts believe. If IBM executives cut back Lotus's Windows-based software, "they could end up killing Lotus," Berst says.