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BEA: A David Surrounded by Goliaths


For years, BEA Systems Inc. (BEAS) climbed so high and so fast it should have suffered from altitude sickness. The company pioneered the hottest of hot Internet software markets: so-called Web application servers for running key business and e-commerce programs. Fueled by e-business mania, the company's sales doubled every year. In February, 2000, the good times peaked as BEA's stock hit $73, giving the upstart a mind-bending price-to-earnings ratio of 751. Even competitors were in awe. Edward J. Zander, president of rival Sun Microsystems Inc., wondered last summer if BEA was destined to become the "next great" software company.

Now investors are wondering if BEA can climb out of a jam. The company carved out a marketplace that has proven so crucial to computing that technology titans IBM (IBM) and Microsoft (MSFT) have piled in. The Web application server is the traffic cop for the Internet, creating and posting Web pages on the fly and handling transactions for the busiest Web sites and run-the-business applications. To grab a piece of the action, IBM is selling its Web-application server for 10% to 20% less than BEA, and Microsoft is including it free in its Windows server operating system. "We won the early fight," says BEA Chairman William T. Coleman III. "The booby prize was we got to compete with the giants."

And they're taking their toll. When BEA reported financial results for the third fiscal quarter ended Apr. 30, it was its third disappointing quarter. Revenues were $224.8 million, down 13% from a year ago. Net income was $3.9 million, an 81% drop. For the full year, analysts expect revenues will be flat at $976 million. And BEA's stock is in the dumps: At $11, it's off 74% from a 52-week high of $42.75. The current price-earnings ratio? A more down-to-earth 38.

Things aren't likely to get better anytime soon. Even though analysts expect BEA's revenues to grow by nearly 20% in fiscal 2004, AMR Research Inc. says IBM will take the lead in the application-server market this year. Big Blue's share of the market is expected to jump 5%, to 31%, while BEA's share will dip about a percentage point, to 26%. The reason: IBM now has technology that's nearly as good as BEA's and less expensive. "I'm attacking the competition like mad," says Steve Mills, senior vice-president, IBM Software Group.

Fortunately for BEA, its executives saw this coming nearly two years ago. Back then, co-founders Coleman and Alfred S. Chuang, now the CEO, set the wheels in motion for a series of new products, just now hitting the market, that are designed to broaden BEA beyond Web application servers and hone its technology edge. Last year, the company added corporate Web-portal software to its portfolio. Last month brought an upgrade of its application server, keeping it a step ahead of the competition. And later this year, BEA plans on diversifying into security and computer system-management software.

Coleman and Chuang's vision: BEA remains a vital player by delivering Web servers and related products that bridge any operating system and software application. As a neutral middleman, BEA helps customers avoid being locked into technology from major tech players such as IBM and Microsoft.

But, unless BEA comes up with another software success, it won't regain its supernova status and could wind up as an unspectacular member of the corporate software club. That would be a jarring reversal. The seven-year-old company sputtered in its early years. But it found its stride in 1998 with the acquisition of WebLogic Inc., which made Web-application servers. Within three years, BEA's revenues nearly tripled, to $819 million, thanks to WebLogic.

It's no surprise that other tech companies took notice. IBM sees application servers as the entree to a grand strategy of selling consulting services and other types of software like databases and security systems. Compared to IBM, BEA looks downright Lilliputian. Big Blue has 8,000 engineers working on its WebSphere application server products, compared to just 700 engineers at BEA. IBM can discount big because it sells so many different pieces of hardware, software, and services--and typically makes its profits in services.

Over the long haul, Microsoft may turn out to be an even more daunting competitor for BEA. Although BEA's products are considered vastly superior to Microsoft's now, the software giant has a history of making gradual improvements and finally trouncing competitors such as networking software rival Novell Inc.

To escape the heavy feet of Microsoft and IBM, BEA has been pouring resources into technology. Last quarter, it spent $29.9 million on research and development. That's 13% of revenues, up from 10% a year earlier.

BEA is also trying to rekindle growth by putting its products in the hands of corporate business units. In the past, it focused mainly on the elite programmers in corporate tech central. The company just released a set of tools for creating software programs that are designed to be much easier to use. Now people with some tech know-how in business units can quickly build or expand programs running on the WebLogic server, rather than wait for specialists to do the job.

Spearheading that program is BEA's new chief marketing officer, Tod Nielsen. He used to run developer relations for Microsoft, so he understands just how hard it will be to survive a close encounter with the software giant. "I look out from my office, and I see that giant Novell office building. And I see a half-empty parking lot," says Nielsen. "I don't want that to happen here."

BEA caught Microsoft and IBM flatfooted once. It's unlikely to do that again. By Jim Kerstetter in San Jose, Calif.


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