EMachines Posts Loss, Prepares to Cut Output

Bargain computer maker EMachines Inc. posted a slimmer loss than expected for its latest quarter Wednesday, but braced itself for continued weak retail sales by announcing plans to cut production by as much as 20%.

“We are very, very concerned about the health of PC sales” in the fourth quarter, Chief Executive Stephen Dukker said. Retailers are reporting that sales are down 10% to 20% across the board, he added.

The Irvine-based company lost $6.1 million, or 4 cents a share, excluding certain costs, in the third quarter. Analysts polled by First Call had predicted a loss of 5 cents a share. The company recorded $2.9 million in red ink for the same period a year ago. Revenue rose 12% to $175 million.

The bleeding slowed from what Dukker called a “train wreck” of a second quarter, when EMachines badly overestimated consumer demand. The company dumped excess inventory at steep discounts, resulting in $40 million in operating losses.

But analysts warned that the ongoing market conditions that have hobbled other computer and computer parts makers recently--prompting profit warnings from Intel Corp., Apple Computer Inc. and Dell Computer Co.--could inflict deeper damage at EMachines.

“The problem with owning the bottom end is that as the market softens, everyone cuts prices,” said Rob Enderle, who covers desktop computers for GIGA Information Group, a market research firm. “Their advantage becomes less significant and they don’t have the cash war chest the others do.”

EMachines shot from nowhere in late 1998 to emerge as the nation’s third-largest vendor of desktop computers, offering basic models for eye-popping prices as low as $399. It targeted first-time buyers and lower-income households, shoving out other low-end competitors to grab a huge chunk of the under-$600 market.

Still, analysts doubted the company’s volume would translate into profits: EMachines makes only a nickel for every dollar it records in gross sales, while higher-end manufacturers like Compaq Computer Co. and Hewlett-Packard Co. take home a quarter.

Then the bottom fell out of retail PC sales in the spring, with EMachines’ sector taking the worst of it.

“The bargain-basement end was and is lousy,” said Danny Lam, an analyst for the Communications and Computing Report.

Vendor surveys showed that 80% of consumers on their second PC would not buy a third because of the pain and aggravation they experienced on their previous purchase. Though a big chunk of consumers still did not own home computers, the holdouts were increasingly tough sells, Enderle said.

EMachines experienced a host of operational growing pains that compounded those problems.

The company’s clunky process for shipping its products from Asian factories to U.S. stores made it impossible to adjust quickly when market demand plummeted, Dukker said.

The firm installed a more flexible, “just-in-time” distribution system this quarter that, combined with the production cuts, should insulate EMachines from product gluts, Dukker said.

EMachines also weathered substantial turnover in its executive ranks in recent months, losing its chief financial officer to an Internet start-up and most of the managers it inherited when it acquired Free-PC Inc., a start-up hatched in free-spending Pasadena incubator Idealab.

“When an incubator-stage company moves out of the incubator, not all of them can meet the test,” Dukker said. “We needed to change Free-PC into a productive, real-world environment.”

Investors and analysts remain dubious about EMachines. The company’s shares have lost almost 90% of their value since the initial public offering in March. The stock closed at $1.25 on Wednesday, up 6 cents on the Nasdaq market. The company released its results after the close of regular trading.

“The home retail market is very dynamic and the players change fairly regularly,” said Charles Smulders, principal analyst for computer distribution at Gartner Dataquest. “EMachines’ challenge is to establish brand credentials beyond price.”

Dukker listed a host of initiatives designed to boost the company’s bottom line even if U.S. PC sales remain listless.

The company’s third-quarter revenue got a push from its distribution deal with Dixons Group that landed EMachines more than 10% of the British retail PC market in just 90 days, Dukker said. EMachines’ new Internet appliance, designed in partnership with Microsoft Corp. and aimed at consumers who want simple Web access without a PC’s complications, also hit store shelves last week.

Early next year, EMachines plans to start selling computers directly to the public, Dukker said. The company would finance customers’ purchases of their PCs, allowing them to pay them off month to month.

Dukker predicted Wednesday that EMachines will become profitable in the last three months of 2001.

“It really gets my goat when people talk about us as if this is it,” he said. “We’re like an early adolescent.”

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