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Gateway

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PROBLEM STATEMENT
Gateway Incorporated is a major U.S. marketer oI personal computers and related products and services, which
targets both to consumers and businesses. Additionally, it is one oI the top two manuIacturers oI consumer PCs in
the United States. AIter a slowdown in the economy in 2000, Gateway had a 14 percent decline in year-end annual
operating income and posted a $25 million operating loss in the Iourth quarter oI 2000. The strategic objectives oI
the new senior executive team and CEO (Ted Waitt) are to: (1) simpliIy Gateway`s business, (2) reduce the
company`s cost structure, and (3) return to a path oI long-term, sustainable proIitability. Their goal is to normalize
business and operate at a level that will drive healthy shareholder returns through a sustainable long-term business
model. Essentially, in order to increase proIits and preserve market growth, Gateway must make critical decisions
regarding the delivery oI their products and services in a value-driven market. The Iirm`s key alternatives will
examine whether or not to continue with the current business modelwhich includes expanded presence in
OIIiceMax stores and the cost eIIectiveness oI the Gateway Country Storesor whether to adopt a modiIied
business model that balances the contributions oI both traditional and electronic stores.
SITUATIONAL ANALYSIS
External Analysis
Market Analysis
Personal computers are the largest sector oI the computer hardware industry. The personal computer market
experienced an average growth in worldwide PC shipments oI more than 20 percent between 1991 and 1995 due to
increased aIIordability and better perIormance. Then, aIter a 26 percent sales increase in 1995, annual growth
trended downward to approximately 13 percent in 1998. In 1999, worldwide shipments increased 23 percent due in
part to Internet-driven demand and customer interest in upgrades.
PC manuIacturers have sought to oIIset declining gross proIit margins due to lowered system prices by broadening
their revenue stream beyond PCs, commonly called 'beyond-the-box revenues. These oIIerings including warranty
service, product integration and installation services, Internet access, customer Iinancing, consulting and training,
and other products and services. These added services, historically, have generated gross margins two to three times
higher than PC gross margins.
Because the PC industry generates a commodity-like product, it is expected that barriers to entry and exit would be
low, potential entrants would be low, and the threat oI substitute products would be high. Essentially, the PC market
is designed to incorporate the elements oI perIect competition, but has been guided by two or three leading Iirms
that have diIIerentiated themselves via value-added products and services. However, the elements oI industry-
achieved economies oI scale, low start-up costs, and a buyer-controlled market make exit and entry into the market
Ieasible Ior manuIacturers and distributors. Further, research indicates that market positioning aIIects the pricing
and proIitability oI PC manuIacturers. In general, business clients tend to purchase higher-end PCs (in terms oI
pricing), which generate higher gross margins than those sold to individual consumers, who tend to purchase on a
lower price point.
PC manuIacturers recognize that their Iundamental production-distribution business model also represents a
potential source oI diIIerentiation and competitive advantage. Among industry leaders there are two main
production and distribution business models: 'build-to-stock/reseller, and 'build-to-order/sell direct. The 'build-
to-stock/reseller model involves the mass production oI PCs Ior sale to and through a network oI resellers to
businesses and consumers. Resellers include value-added resellers, distributors, and retailers. Value added resellers

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(VARS) specialize in selling to a particular market segment and oIIer specialized services, such as complete PC
hardware and soItware systems or special expertise in an application area.
The 'build-to-order/sell direct model involves the customized production oI PCs to customer speciIications and
direct shipment to the buyer. The computer is not produced until the order has been placed. This pull marketing
representation is a more economically eIIicient production and distribution model Ior PCs because it reduces idle
inventory at the distribution centers. 'Build-to-order/sell direct also reduces the need to clear out overstock oI less
demanded equipment. Furthermore, selling direct eliminates retailer selling and general and administrative
expenses, which increases PC prices. This style oI purchasing is particularly appealing to more tech-savvy
consumers who are knowledgeable oI price diIIerences among brands.
As more people gain access to the Internet, growth prospects oI Internet sales oI personal computers and technical
products are expected to increase. Additionally, as technologically-innovative improvements are introduced to
computers and media accessories, PC users will have a desire to capture such innovations that can satisIy their
leisure, personal, and business needs. Key success Iactors in the PC industry align with those in other industries oI
perIect competition and commodity products. They include (1) maintaining competitive pricing, (2) aspiring to be
the low cost producer, (3) and diIIerentiating the value proposition oI products and services.
Customer Analysis.
Personal computers and 'beyond-the-box products oIIer a wide variety oI styles, Ieatures, and custom
conIigurations. However, the customer base is segmented into only two broad categoriesconsumers and
businesses. Retail stores and the Internet account Ior the majority oI sales in the United States and around the world.
Business customersincluding small, medium, and large companies, educational institutions, and government
entitiesbuy more PCs than consumers (households and individuals). In 1999, worldwide business computer
purchases accounted Ior 70 percent oI total PC shipments, Ialling only slightly Irom 1998 to 2000 and remaining at
over 62 oI total shipments. Similarly, in the United States, 66 percent oI total PC shipments were to business
clients, Ialling only slightly to 60 by 2000 and expected to increase again in 2001 to 64. In 1998, the non-U.S.
market had 73 percent oI their shipments allocated to business customers and only 27 percent to individual
consumers, rising closer to the other market averages by 2000 with 63 oI shipments allocated to businesses and
37 to consumers (see details in Exhibit 1).
Higher consumer shipments in the United States are due to Americans generally having more disposable incomes, as
disposable income levels across all markets generally motivate PC purchases. The variety oI system conIigurations,
'beyond-the-box options, and accessories oIIered by PC manuIacturers address unmet needs oI consumers on a
timely, technologically-innovated platIorm.
Environmental Analysis
PCs represent the largest sector oI the computer hardware industry in terms oI both units sold and revenue. OI all
the PC hardware revenues, desktop computers represent approximately 61 percent, notebooks and portable PCs
account Ior 28 percent, and PC servers are about 11 percent. The U.S. is the largest single geographical PC market,
representing 35 to 40 percent oI worldwide PC unit volume.
The U.S. PC industry posted moderate unit volume gains Ior the year 2000. The U.S. had a 10 percent gain in unit
sales in 2000, compared with a sales growth oI 14.5 worldwide. The PC industry was hurt by a sluggish Iourth
quarter in 2000, when worldwide PC shipments increased just 10 percent and U.S. shipments increased only 6.4

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percent. PC sales in the Iirst quarter oI 2001 continued the decline Irom the Iourth quarter oI 2000, and 2001
shipments are predicted to be 11 percent in the U.S. market, slightly below 2000 levels.
Additionally, the average system price Ior PCs decreased substantially between 1998 and 2000, Ialling Irom $1,877
in 1998 to $1,709 in 1999 (down 9 percent), and Iinally down to $1,609 in 2000 (down 9.5 percent). However, the
largest price decline has been in desktops, where the average price Iell 12 percent in 1999, 7 percent in 2000, and an
expected 9.6 percent in 2001. As disposable incomes increase in the United States, PC purchases are expected to
increase. Likewise, technological innovations steer the value-added options available to satisIy the needs oI
individual consumers and business clients.
Competitor Analysis
Compaq, Dell, Hewlett-Packard and IBM are the Iour big competitors. These companies represent 38 percent PC
shipment worldwide and 51.3 percent in U.S. market in 2000, while Gateway only account Ior 3.8 percent and 8.7
percent, respectively (see market share in details in Exhibit 2). Compaq is the biggest competitor in the worldwide
market and Dell is the largest competitor in the U.S. market.
PC manuIacturers compete on the basis oI price, technology availability, perIormance, quality, reliability, service
and support. It is important to Iind innovative ways to diIIerentiate their products and their total oIIerings. In recent
years, PC manuIacturers increasingly emphasize on beyond-the-box oIIerings and adjusting their Iundamental
production-distribution business model. Each oI the large manuIacturers tends to Iocus on one oI the two major
models. Compaq, Hewlett-Packard and IBM employ the 'build-to-stock/reseller business model. Dell and
Gateway use the 'build-to-order/sell direct business model.
Gateway and Dell both pioneered the 'build-to-order/sell direct model and have incorporated this model since
1980s. Dell began to distribute its PCs through retailers such as Wal-Mart, Staples, Sam`s Club and Best Buy stores
in 16 states in 1990 through 1993. Start Irom 1995, however, they both recognized the potential oI oIIering
customers the ability to custom conIigure, order and pay Ior a PC via the Internet a s an integral part oI their
business model in 1995. They are virtually identical in terms oI their sales and operating income as recently as 1996
(see the comparison in Exhibit 3.
Gateway and Dell began to diIIerentiate themselves Irom 1997. Gateway broad its sell-direct initiative by adding
company-owned and operated Gateway Country Store to its telephone and Internet sales practice and became the
only PC manuIacturer to do so. Dell put greater emphasis on its direct-sales, build-to-order business model during
the same time period. There were signiIicant diIIerences between their sales and operating incomes since then (see
Exhibit 3). As oI 2000, Dell`s net revenue is $25,265 million, almost 5 times as that in 1996. The operating income
oI Dell in 2000 is $2,300 million, account Ior 9.1 oI its net sales and the dollar amount oI operating income is
more than 6 times as that in 1996. On the other hand, Gateway`s net revenue in 2000 is only $9601 million, and the
operating income is only $509 million, which account Ior 5.3 oI the net revenue (see details in Exhibit 4).
Compare to 1996, Dell`s operating income increases 511, while Gateway`s only increase 42.
PC manuIacturers compete on the basis oI price, technology availability, perIormance, quality, reliability, service,
and support. Barriers to entry in the computer sales market are high due to high initial capital investment in the
computer sales market. There is already a glut in the market with well established companies such as industry
leaders, Compaq and Dell. For many the PC is now considered a commodity, making it more challenging to oIIer a
diIIerentiated product. Hence, a potential new entrant into the market would need something distinctive to set their
company apart and weather the initial investment.

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Internal Analysis
PerIormance Analysis
Gateway, Inc. was Iounded in 1985 as a computer-parts distributor. However, by 2000, the Iirm had evolved into
the second largest custom manuIacturer and direct marketer oI personal computers (PCs), Ialling just behind Dell
Computer Company and securing more than 20 percent oI total market share in the United States consumer PC
market. In 2000, Gateway, Inc. reported an operating income oI $511 million on net sales oI $9.6 billion and 5.1
million units, up Irom 4.7 million units shipped in 1999. Further, the company has shipped over 21.6 million PCs
over the Iirm`s liIetime through 2000.
In 1993, Gateway, Inc. made its Iirst expansion into an international market by entering Europe via a production,
sales, and service Iacility constructed in Ireland. By 2000, the newly coined segment, 'Gateway Europe, had
operations and physical locations in most Western European countries. In 1995, the company expanded to the Asia
PaciIic region and within Iive years 'Gateway Asia PaciIic had a manuIacturing operation in Malaysia, with sales
and support Iacilities in Singapore, Malaysia, Australia, New Zealand, and Japan. In 1999, Gateway entered the
Canadian market with product, service, and support options Ior buyers; and, in 1999 and 2000, international sales
comprised 14 percent oI total company sale.
Determinants oI Strategic Options
Gateway develops, manuIactures, markets, and supports a broad line oI desktops, laptops, servers, and workstations.
Gateway incorporates the 'beyond-the-box services and Iocuses on delivering value to customers. In 2000, such
'beyond-the-box services comprised approximately 20 percent oI total sales, up Irom 9 percent oI company sales in
1999. This increased emphasis on 'beyond-the-box products and services provides insight on components oI the
Iirm`s Iuture business strategy.
Historically, Gateway`s distribution strategy, including speciIic channels and the mix oI channels, has distinguished
the Iirm Irom competitors. The company sells its products and services to PC customers, primarily, through three
complementary distribution channels, which include telephone sales, companv website, and Gatewav Countrv
stores. Telephone sales marked the original sales and distribution method Ior Gateway, Inc. In 1995, the Iirm
entered the World Wide Web community by developing a web site that consumers could use to gain product
inIormation. Then, in April 1996, Gateway became the Iirst major PC manuIacturer to provide the technology Ior
consumers to customize, order, and pay Ior a personal computer via an e-commerce portal. And, by 2000, Gateway
Country Stores accounted Ior approximately $8 million oI annual Gateway sales.
Immediately Iollowing entrance into the e-commerce market, Gateway opened two Gateway Country Store
locations in the United States, Iollowed by additional 'brick and mortar locations in France and Germany in 1994
and later in Japan, the United Kingdom, Sweden, and Australia. By the end oI 2000, ten stores were operational in
Canada, with 327 in the United States and approximately 360 worldwide. Company data estimated that in 1999, 75
percent oI the U.S. population was located within a 30-minute driving commute Irom a Gateway Country Store.
This statistic increased to 85 percent by 2000. Exhibit 5 illustrates the unit growth oI Gateway Country Stores Irom
1996 to 2000. Essentially, the Country Store concept distinguishes Gateway because it incorporates and emphasizes
information dissemination, product demonstration and servicing, customer relationship building, and training bv
Gatewav personnel in a familiar setting. Gateway Country Stores typically occupy 4,000 to 8,000 square Ieet and
are typically staIIed with up to 15 company-trained personnel, technical specialists, and customer service
representatives.

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In 1999, Gateway Iormally introduced its Gateway Business Solution centers, which were located within Gateway
Country Stores and provided specialized training to small business and home oIIice customers. Immediately
Iollowing the inception oI Business Solution centers, Gateway also added approximately 300 dedicated business
sales representatives across the Country Store locations to address the technology needs oI both small and medium-
sized business customers. By 2000, the U.S. Country Stores accounted Ior approximately 6,000 classroom seats
across locations that oIIered training on general PC usage, popular third-party soItware, Internet usage, and
networking services.
To align with its Iocus on the complementary mix oI distribution channel, Gateway announced an alliance with
OIIiceMax in February 2000. OIIiceMax, which is a major oIIice products retailer in the United States, agreed to
replace its existing computer department with a Gateway 'store-within-a-store that would occupy approximately
400 square Ieet near the store entrance and be staIIed with Gateway customer service representatives. Under this
alliance, Gateway would make an initial investment oI $50 million in OIIiceMax convertible preIerred stock and pay
OIIiceMax rent income and costs associated with leasehold improvements necessary to align with the Gateway
Country Store model. By the end oI 2000, Gateway had 463 stores in OIIiceMax locations, and Iirm`s Iocus is to be
present in 1,000 OIIiceMax stores by the end oI the Iirst quarter in 2001
To simpliIy its business, Gateway began reducing the number oI components used to build Gateway PCs, which
reduced product variations Irom 2 million to 1,000. Further, while Gateway continued to oIIer 'beyond-the-box
products and services, it also committed its Iocus on selling 'one computer, one customer at a time. Finally, in the
third quarter oI 2001, management elected to discontinue company-owned manuIacturing, sales, and service
operations outside North America. This strategic eIIort is expected to reduce Gateway`s labor Iorce by 3,500
employees (approximately 18 oI total employees), and technical and support services Ior customers outside oI
North America will be contracted through third-party suppliers.
ALTERNATIVE ANALYSIS
Gateway is the third largest PC manuIacturer in the U.S. and the sixth largest in the world, which lends credibility to
their current business model. Gateway has used a simple strategy oI direct sales oI PCs built to customers` orders.
Two key advantages oI direct sales is that expensive inventory does not build up in the channel and lose value
beIore it can be sold and new products can be introduced without having to clear out the old inventory in the
channel. Also the Gateway model establishes a direct relationship with the end customer, which provides
inIormation about customer preIerences and concerns, unlike the indirect vendors whose channel partners generally
do not disclose even the customer`s identity. Finally, customers oIten pay Ior the Iinal product via the internet or
telephone beIore the vendor pays suppliers Ior the parts that go into the PC, so that Gateway operates on a negative
cash conversion.
An important aspect oI the current Gateway model is that it emphasizes relationship selling. By using dedicated
sales employees this also enables Gateway to enhance the company`s image. Gateway`s direct approach allows
consumers to gain more experience and conIidence in selecting PCs. II a customer Ieels comIortable selecting a
computer at the Gateway store with the assistance oI a knowledge sales person, they are likely to become a repeat
buyer within the store, or they may even have built enough conIidence to purchase online Irom home.
Conclusively, the current model has consistently generated positive proIits, a trend that will likely continue as the
number oI small businesses and home-oIIices increase. However, historically, the bulk oI Gateway sales have been
Irom individual consumers, which does not align with the growing global market. Seemingly, this aspect oI the
model limits Gateway`s market to reach the value needs oI a speciIic market segment, and Gateway`s consumer

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Iocus does not allow Ior them to successIully compete in the corporate business market, which accounts Ior over 60
percent oI worldwide shipments. (See Exhibit 1).
A second alternative is to maintain the existing electronic portal, proceed with the OIIiceMax expansion plan
proposed Ior Iourth quarter 2001, and to close all Gateway Country Store locations. Obvious advantages are that
Gateway signiIicantly reduces the operating expenses associated with a company-owned, Iree-standing store
(utilities, insurance and maintenance). Additionally, Gateway does not have to Iund a continuous, costly media
campaign once they establish brand association with OIIiceMax's print and television media. A Iurther option with
this alternative is that Gateway could choose to staII OIIiceMax locations with either Gateway employees or
independent contractors (i.e., OIIiceMax employees or other sales representatives). In the partnership environment,
Gateway can achieve low production and coordination costs by maintaining an employee base. However, because
Gateway diIIerentiates itselI on limited product oIIerings and committed aIter-the-sale service, a staII oI
independent contractors could Ieasibly align with the Iirm's strategic objectives. And, while maintaining employees
or independent contractors will require SG&A expenses to continue, Gateway should be able to limit such costs by
staIIing Iewer representatives at the OIIiceMax locations (i.e., three or Iour as opposed to IiIteen). OI course,
proceeding with partnership expansion will still cost the Iirm $50 million in committed leasehold improvements, but
this is minimal compared to the SG&A costs oI operating 327 stores at an average SG&A expense oI $1.5 to $2
million dollars annually (327 X $1.5MM $490.5 million annually). Accordingly, under Alternative II, Gateway
would maintain an Internet site that would allow customers to order services and products online.
A Iinal alternative is to maintain the existing electronic portal, proceed with the OIIiceMax expansion plan proposed
Ior Iourth quarter 2001, and to close select Gateway Country Store locations. The advantages and disadvantages oI
this alternative are the same as outlined in Alternative II, with the exception that Alternative III gives recognition to
the signiIicant portion oI sales generated by the Country Store locations, which was approximately 27 oI total
sales in 2000, see Exhibit 6.
RECOMMENDATION
It is recommended that Gateway Incorporated can achieve a successIul 'bricks and clicks production and
distribution mix by selecting Alternative III. Additionally, since 'beyond-the-box products generate proIit margins
two to three times greater than PCs alone, Gateway should not completely abandon this proIitable market, which
accounted Ior 20 oI total sales in 2000. However, to oIIset the costs oI maintaining traditional 'bricks and mortar
locations, Gateway should consider outsourcing the production oI 'beyond-the-box products and services with
companies that have Iocused expertise in these areas (i.e., local and regional Internet Service Providers,
manuIacturers oI computer accessories).




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Exhibit 1: Distribution of PC Unit Shipments by Geographic Market and Customer Segment for
1998-2001.
Percentage of PC Shipment by Year
Geographic
Market
Customer
Segment 1998 1999 2000 2001
U.S. Consumer 34 39 40 36
Business 66 61 60 64
100 100 100 100
Non-U.S. Consumer 27 32 37 35
Business 73 68 63 65
100 100 100 100
Consumer 30 35 38 36 World Wide
(U.S. Non-U.S.) Business 70 65 62 64
100 100 100 100







Exhibit 2: PC Manufacture Shipment and Market Share Data: 1999-2000.
Worldwide Shipments
1999 2000
Manufacturer Shipments Market Share Shipments Market Share
Year-to-
Year
Growth
Compaq 15,870 13.49 17,203 12.77 8.40
Dell 11,459 9.74 14,536 10.79 26.85
Hewlett-Packard 7,600 6.46 10,237 7.60 34.70
IBM 9,331 7.93 9,162 6.80 -1.81
Gateway 4,745 4.03 5,110 3.79 7.69
Others 68,621 58.34 78,490 58.25 14.38
Total Market 117,626 100.00 134,738 100.00 14.55

U.S. Shipments
1999 2000
Manufacturer Shipments Market Share Shipments Market Share
Year-to-
Year
Growth
Dell 7,493 16.69 9,433 19.12 25.89
Compaq 7,222 16.09 7,599 15.40 5.22
Gateway 4,002 8.92 4,271 8.66 6.72
Hewlett-Packard 3,955 8.81 5,642 11.43 42.65
IBM 3,274 7.29 2,677 5.43 -18.23
Others 18,937 42.19 19,723 39.97 4.15
Total Market 44,883 100.00 49,345 100.00 9.94




Exhibit 3: Comparison of Corporation Operating Results between Gateway and Dell: Fiscal
Year 1994-2000.
Gateway 1994 1995 1996 1997 1998 1999 2000

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Net Sales (million) $2,701 $3,676 $5,035 $6,494 $7,468 $8,965 $9,601
As oI net sales:
Net Sales 100 100 100 100 100 100 100
Costs oI Goods Sold 86.8 83.5 81.4 82.9 79.3 79.5 78.6
Gross ProIit 13.2 16.5 18.6 17.1 20.7 20.5 21.4
S, G & A 8.0 9.7 11.5 12.5 14.1 13.8 16.1
Operating Income 5.2 6.8 7.1 4.6 6.6 6.7 5.3
Operating Income in $ $140 $250 $357 $299 $493 $601 $509

Dell 1994 1995 1996 1997 1998 1999 2000
Net Sales (million) $2,873 $3,475 $5,296 $7,759 $12,327 $18,243 $25,265
As oI net sales:
Net Sales 100 100 100 100 100 100 100
Costs oI Goods Sold 84.9 78.8 79.8 78.5 77.9 78.5 79.3
Gross ProIit 15.1 21.2 20.2 21.5 22.1 21.5 20.7
S, G & A 14.7 12.2 11.3 10.6 9.8 9.8 9.4
R&D 1.7 1.9 1.8 1.6 1.6 1.5 2.2
Operating Income -1.3 7.1 7.1 9.3 10.7 10.2 9.1
Operating Income in $ ($37) $247 $376 $722 $1,319 $1,861 $2,299




Exhibit 4: Comparison of Operating Income As Percentage of Net Sales Between Gateway
and Dell: Fiscal Year: 1994-2000.
5.2%
4.6%
6.6% 6.7%
10.7%
10.2%
6.8%
7.1%
5.3%
7.1%
7.1%
-1.3%
9.3%
9.1%
-2.0%
0.0%
2.0%
4.0%
6.0%
8.0%
10.0%
12.0%
1994 1995 1996 1997 1998 1999 2000
Gateway Dell

Exhibit 5: Unit Growth of Gateway Country Stores.

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2
37
327
242
144
0 50 100 150 200 250 300 350
1996
1997
1998
1999
2000



Exhibit 6: 2000 Gateway Revenue Sources
Contribution
Total Sales $9,601 100.00
Gateway Country Stores $2,616 27.25
"Beyond-the-box" products & Services $1,920 20.00
Telephone & Online resources $6,241 65.00
International Sales $1,344 14.00
Consumer Sales $5,377 56.00
** Note that some revenue sources overlap (i.e., telephone & online resources may account Ior some portion oI "beyond-the-
box" products and services.