Editor’s note: Russ McGuire is the online director of Business Reform Magazine. Each issue of Business Reform features practical advice on operating successfully in business while glorifying God.

Jeff Hawkins founded Palm Computing in 1992. In 1994, he invented the PalmPilot, a very cool handheld computer which would revolutionize computing. In 1998, he left Palm, taking some of the key team members with him to form Handspring, a maker of devices running the Palm operating system. Last week, Palm announced the acquisition of Handspring, bringing Hawkins and team back into the fold. Does this return to its beginnings really mark the beginning of the end for Palm?

Hawkins had a great idea, and with the PalmPilot, his company delivered an excellent execution of that idea. The PalmPilot succeeded where previous attempts by Apple Computer and others to create a personal digital assistant (PDA) failed for three basic reasons:

  1. The device fit people’s lives. Palm rode technology advances to build a device that was small enough to easily hold and convenient to carry while being priced within reasonable reach of many professionals.
  2. The software worked practically. The handwriting recognition software worked much better than on previous devices, and the device easily and automatically synchronized with the most common desktop applications.
  3. The timing was right. By 1994, virtually all professionals were comfortable using computers for common tasks – replacing a paper organizer with an electronic one was well within reason. The device was also on the front end of the Internet explosion, which would further entrench computers into everyday life.

However, being “right” doesn’t always guarantee survival. Launching a technology startup is never cheap, and revenues and profitability lag well behind hype and technology excellence. In 1995, Palm was acquired by U.S. Robotics (USR), a leading manufacturer of dial-up modem equipment. In 1997, U.S. Robotics was acquired by 3Com, a leading networking equipment manufacturer that had been founded by Robert Metcalfe, the inventor of Ethernet.

Time hasn’t been kind to either U.S. Robotics or 3Com. While USR held a dominant position in modem technology at the critical moment when mass consumer adoption of dial-up access to the Internet created a surge in demand for that technology, 3Com squandered that position by trying to use it as a lever to force other 3Com products into USR’s service provider accounts. That effort backfired, with the combined company rapidly losing market share. U.S. Robotics was split back out of 3Com in 2000.

3Com has continued to shrink. In 1999, 3Com reported $5.8 billion in sales. This year, the company expects sales of just over $1 billion. Much of that shrinkage involves selling off or spinning off of former divisions, including the spin-out of Palm in 2000.

However, Palm’s problems do not stem directly from its 3Com/USR legacy, but rather from its competitive foes. As it often does, Microsoft saw the attractive market that Palm had created and decided to own it. The first quarter of this year marked a key milestone as end-user revenue from Microsoft-based PDAs exceeded that from Palm-based devices. According to Gartner, Inc., Microsoft blew past Palm, taking 52% of the market compared to Palm’s 37%. To make matters worse, the overall market is shrinking. The number of units shipped dropped by 11.1% from a year ago, and prices are coming down.

So, Palm finds itself as a one-trick pony with shrinking share of a shrinking market facing price competition and entry by powerful brands such as Dell and Nokia.

What’s the company to do? How about throw good money after bad and dig itself deeper into its existing problems?

The theoretical justification for Palm’s acquisition of Handspring is to move Palm dramatically into the hybrid cellphone/computer market. Handspring’s Treo has been warmly received by the market. Consistent with Hawkins’ strengths, the device is designed well, both in form and function. However, unlike the original launch of Palm, Handspring didn’t create an unrecognized market opportunity, the company merely provided some early market intelligence for powerhouses like Nokia and Microsoft who were already poised to jump in when the timing was right. Those companies, and more, have jumped in and Handspring has been unable to establish a profitable business model.

It is unclear how Palm expects to prosper where Handspring has struggled. Even worse, the Handspring acquisition further convolutes a confused corporate strategy.

At the same time that Palm is bringing Handspring, a device manufacturer, in-house, the company will be spinning-out PalmSource, the division that licenses the Palm operating system to companies like Handspring, Sony, Samsung and others. This move will create two separate companies, theoretically completely independent of each other. This should make Palm software licensees more comfortable, especially those like Samsung and Kyocera who make hybrid PDA/phones, that their supplier is no longer competing with them.

However, confusion will continue between Palm the brand for devices, and Palm the brand for the software running on devices that compete with Palm devices.

At the completion of these two transactions, Palm will consist of two separate companies. One will be a hardware manufacturer with two primary product lines – each losing share and struggling with profitability and competing against brands such as Sony, Nokia, Hewlett Packard, and Dell without the market presence or the product breadth of any of them. The other Palm company is a software developer with a single product that is losing share against Microsoft. Its channel includes Sony; Microsoft’s channel includes Dell, HP, Siemens, Toshiba, and NEC. There are few barriers to keep Palm’s existing OS licensees from jumping to Microsoft.

If this is such a bad deal, then what should Palm have done instead? At this point, Palm should consider selling rather than buying, and certainly that’s still an option. Palm’s board should pick a winner – is it the software or the hardware. Personally, I would bet on the software. The market will support a viable competitive operating system to keep Microsoft in check. It has no similar reason to keep Palm, the device company, alive.

If betting on the software company, the Palm board should’ve looked for a strategic buyer for the hardware business who has not yet committed to either Palm or Microsoft – perhaps IBM or Nokia. The real missed opportunity was Dell who only committed to Microsoft last year. The value of validating the Palm OS and strengthening the channel would greatly outweigh any value from the sale price itself. Theoretically, adding Handspring to the mix will make such a deal more valuable for a computer company like IBM, however, it also eliminates an entire class of potential acquirers, such as Nokia, who will see little value in the Handspring technology and capabilities.

Selling the software company may also make sense, with or without a sale of the hardware division. However, PalmSource’s need to be part of a larger company with a broader product portfolio is much clearer than any potential buyer’s need to add the Palm OS to its product set. Apple could be a potential buyer, although the Palm model would be a complete mismatch with Apple’s reluctance and previous failure to license the Apple OS. Other candidates are even harder to justify – Sun or Oracle simply to spite Microsoft, AOL or Yahoo as an extension to their online brand/customer experience, or maybe even Red Hat to gain access to Sony and to strengthen their bid to other computer manufacturers.

Perhaps Palm has inherited the 3Com legacy after all and is only capable of acquiring overpriced companies and dividing itself into worthless ones. Only time will tell.

Russ McGuire is Online Director for Business Reform. Prior to joining Business
Reform, Mr. McGuire spent over twenty years in technology industries, performing various roles from writing mission critical software for the nuclear power and defense industries to developing core business strategies in the telecom industry. Mr. McGuire is currently focused on helping businesspeople apply God’s eternal truths to their real-world business challenges through
Business Reform’s online services. He can be reached at [email protected].

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