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By Chris De Herrera 
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Palm's Split - Can they do it?
By Chris De Herrera, Copyright 2001
Revised 7/30/2001

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All of these statements are based on my personal ideas about the computer industry.  I do not work for Palm nor have I had any financial interest in Palm or done any business with Palm.  You must do your own research about Palm to decide for yourself about their decision to split.

The Split - Hardware and Software Companies

Recently, Palm has been discussing splitting itself into two different companies - hardware and software.  The idea is that the hardware company would be able to continue to innovate the hardware without worrying about the(Palm OS software. Also, the software company would be completely separate from the hardware as well.  I anticipate that splitting the software company out would allow Palm to work more closely with the other hardware OEMs they have as well.

Can they Succeed?

Like other companies that came before it, Palm's decision to split hardware and software has been attempted before.  However, none of the major players that I can think of that exist today has succeeded in this. Companies like Apple, Novell and Banyan Systems come to mind as ones that have failed to keep both alive.  In the case of Novell and Banyan Systems, they converted to software only companies and ran on standard Intel systems.

Apple's Attempt

Think back into the more recent past, and Apple comes to mind with it's attempts at licensing it's OS and allowing 3rd parties to create compatible hardware.  In the end, Apple revoked all the hardware and OS licenses and returned to selling both hardware and software. They outlived their experience in splitting, however it was pretty painful to watch. 

Profits for Software Licenses?

Are there significant profits in software licenses?  I believe that there can be.  However, I believe that Palm will still be working closely together to allow their software to run well on their hardware.  Heck, Palm will be it's own largest licensee of it's software.  So telling me that this will make the other OEMs feel more comfortable does not really cut it.  They can't avoid taking to each other to succeed and they've had close relations so I bet there will be lots of informal discussions between the groups.  Further, the software's success is closely related to the hardware's sales success as well.

Some Financial Trends (which may not be obvious)

I was interested  in comparing some financial numbers of Palm's that I have not seen in the press anywhere.  I have created a table of their License Expenses for the past 7 quarters and the Research and Development Costs as well as Palm's hardware sales.  All of these numbers are from their press releases or their notes of their conversations with analysts.  
Note:  All Dollars and Unit Sales in Millions. Palm's Fiscal year ends June 1 of each year.

Fiscal Quarter 4Q2001 3Q2001 2Q2001 1Q2001 4Q2000 3Q2000 2Q2000 1Q2000
Palm Unit Sales 0.681 2.1 2.16 1.5 1.18 0.991 not disclosed not disclosed
Research & Development $45.085 $43.867 $40.993 $30.320 $20.491 $21.077 $15.671 $12.134
License Fees - Primarily from OEMs $11.6 $11.2 $6.7 $4.6 $4.4 $3.0 $0.5 not disclosed

Some Analysis on Unit Sales (based on my own calculations)

So now you can see that the total of the license fees is approximately $42 million dollars since it's inception.  The total sales of all Palm devices to date as of the end of the Fiscal 4th Quarter 2001 (June 2001) is 16 million with 13.7 million of them being manufactured by Palm directly.  So that leaves 2.3 million units sold by the OEMs since their inception.  Based on the numbers that are publicly released, the average OEM price over the total existence is $18.26 per unit.  This shows how closely the software company's success is related to the hardware's sales of Palm as well as the OEMs.
Note:  All Dollars and Unit Sales in Millions. Palm's Fiscal year ends June 1 of each year.

Fiscal Quarter 4Q2001 3Q2001 2Q2001 1Q2001 4Q2000 3Q2000
Palm Unit Sales as disclosed by Palm 0.681 2.1 2.16 1.5 1.18 0.991
Estimated License Fees from Palm Hardware as calculated based on OEM average price $12.435 $38.346 $39.442 $27.39 $21.547 $18.096
License Fees primarily from OEMs as disclosed by Palm  $11.6 $11.2 $6.7 $4.6 $4.4 $3.0
Estimated Total Fees  $24.035 $49.546 $46.142 $31.99 $25.947 $21.0957

So you say that looks interesting. It looks like it would be enough to cover the research and development costs.  Is there enough to cover the additional costs to run both companies separately with their own Administration, Sales, Support, of of course Research and Development?  I can't tell.  I don't see lots of room for profits thought there may be more room than meets the eye.  The Research and Development costs are NOT broken out by Palm OS versus Hardware.  Without this information there is no clear way to see the results of the split.  Clearly, there are other costs besides these which must be taken into account.

Palm OS 5.0

On the surface, the Research and Development expense is much higher than in the prior year.  I suspect that the unreleased Palm OS 5.0 development is costing more than prior generations of the Palm OS.  I would expect this since they are switching to the ARM microprocessor type from the Motorola Dragonball (68000 based) cpu that they have used since they first started designing devices.   Palm has publicly discussed that they want to make sure that many of the existing applications will run on the new ARM based systems.  This will require lots of testing. Also, the new designs using the ARM processor will require the hardware engineers to work closely with the software engineers to complete this task well.  Would a split now delay Palm OS 5.0?  That's another question that only Palm knows.

Conclusion

As an outsider with not financial interest in Palm, I see no clear cut benefit being presented by Palm to the shareholders for splitting the company.  Clearly, Palm has got to explain why they think splitting into 2 separate units is profitable today.  Further, the relationship of hardware to software makes the 2 companies very tightly tied together.  I don't see Palm being able to out compete their OEMs in the hardware space forever.  Clearly, Sony among others, has demonstrated it's ability to create very innovative products based on standard ideas.  They have out done Palm with their latest Clie that has a higher resolution screen and similar features in my opinion.  Handspring demonstrated the value of using peripherals and Palm has added support for it.  So I don't think the hardware company would survive on it's own due to these market factors.  The big question is whether or not the software company can survive without the hardware company.

All of these statements are based on my personal ideas about the computer industry.  I do not work for Palm nor have I had any financial interest in Palm or done any business with Palm.  You must do your own research about Palm to decide for yourself about their decision to split.


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