Divorcing the deal-maker: Hewlett-Packard falls out of love with Carly

She was the high-profile, glamorous face of the computer giant. But behind the scenes, a hard-won battle to bring off a controversial $19bn merger helped cause her downfall. Keith Rodgers reports from San Francisco on the Fiorina legacy and where it may lead

Three years after she forced through the $19bn (£10bn) merger with Compaq by the narrowest of margins, Carly Fiorina, chairman and chief executive officer of Hewlett-Packard, finally felt the backlash this week.

Three years after she forced through the $19bn (£10bn) merger with Compaq by the narrowest of margins, Carly Fiorina, chairman and chief executive officer of Hewlett-Packard, finally felt the backlash this week.

Never fully able to bring the sceptics round, and weakened by operational problems and an inconsistent financial performance, one of the world's most prominent businesswomen was given her marching orders on Wednesday. As a result, HP's consumer and enterprise IT businesses may be one step closer to being broken up. In her five-and-a-half-year stewardship, Fiorina has transformed this Silicon Valley giant - but the jury's still very much out on the legacy she leaves.

As HP's chief financial officer, Robert Wayman, temporarily steps into her shoes and the board begins its search for a replacement, it's clear that her successor will have his or her work cut out. At a strategic level, the company is mired in a cut-throat battle for dominance of the low-margin PC business, while its enterprise hardware, software and services operations also face several distinct challenges. As always, it's the printer business, long the jewel in the HP crown, that continues to drive the company's financial success.

That picture could have been very different if Fiorina had succeeded in her first major takeover attempt shortly after she joined HP, when she sought to acquire the consulting business of PricewaterhouseCoopers. Had the PwC merger worked, it would have given HP a significant boost in the higher-margin services sector to take on the likes of IBM. When the deal fell through in the wake of the dot-com bust, however, Fiorina turned her attention to a very different kind of business, Compaq's PC and lower-end servers.

As soon as it was announced, the deal attracted divided opinion. HP's shareholders, along with many analysts, questioned the wisdom of a move that resulted in the company getting a bigger share of a business primarily characterised by ever-shrinking margins. For HP shareholders, the deal represented a gamble: unless the merger created real value in the PC and server business, they would in effect be handing over a large chunk of the lucrative printer business to Compaq shareholders and getting nothing back in return.

After a highly divisive campaign Ms Fiorina won the day with the slimmest of margins - just 51.4 per cent of votes in favour of the merger and 48.6 per cent against - and not surprisingly, those strong reservations continued to hound the company after the event. And for good reason. Although she succeeded in stripping out huge amounts of cost following the merger, she did not manage to secure dominance of the PC market. According to the technology research firm Gartner, HP and Compaq together shipped 21.6 million PC units in 2002 compared with Dell's 20.1 million. Last year, however, HP managed 27.6 million to Dell's 31 million. Meanwhile, IBM's announcement in December that it would sell its PC business to a Chinese vendor, Lenovo, has raised a further question mark over when HP would do better to follow IBM's strategy of focusing on more profitable activities.

Amid all this, Fiorina sealed her fate by failing to deliver operationally. Although she has been credited with successfully integrating the two businesses post-merger, HP missed its forecasts several times from 2000 onwards, getting hammered particularly hard last summer when a botched software implementation compounded problems in its enterprise storage and servers division. The board first pressed Fiorina to give up some of her operational responsibility. When she refused, she was ousted. A new boss will be expected to have stronger hands-on operational skills - or at least be better at delegating.

The board also insists that it has no plans to change corporate strategy or to unravel the Compaq merger. That would be a huge admission of failure, of course, and a difficult call for a management team that helped Fiorina drive the Compaq deal through in the first place. But HP's statements haven't dampened speculation about the possibility of fundamental changes to the company further down the line. That could include a spin-off of its profitable printer business, which accounted for around 30 per cent of its $79.9bn revenue in 2004, or the disposal of its PC arm, which generated a similar amount of sales last year. As Goldman Sachs commented in a research note: "A new CEO does at least increase the possibility of breaking up the company."

It's also possible that any steps HP takes to improve execution in the short term could ultimately make a spin-off easier. Under Ms Fiorina, HP had taken a "holistic" approach to its different business streams, arguing that successful IT is about integrating different parts of a broad portfolio. In the non-consumer part of its business, that's reflected in HP's strategy for the "Adaptive Enterprise", a vision of a flexible technology infrastructure that changes as business needs evolve, and draws on the different components of the HP enterprise portfolio. The problem is that many of the technology components are still on the drawing board, and today's concerns are a little more prosaic: the company has to shift storage boxes, servers, software and services. The vision of one supplier meeting a broad range of IT requirements looks good on paper, but in practice it needs a vendor to excel in each of its major lines of business. And HP doesn't do that - by a long way.

Fiorina reinforced this integrated vision a matter of weeks before she was ousted when she combined HP's printer and PC arms. Although there are synergies between those different product sets, the business models differ. PCs are a low-margin, commodity business where supply-chain efficiency is everything. Printers are also low-margin, but the return comes from the consumables - even as hardware margins continue to fall, HP could pretty much afford to give away the product simply to milk the ongoing revenues that come from ink supplies.

In the short term, the solution to HP's current troubles may be to downplay the integration story. Martin Reynolds, vice-president of Gartner, says that the best course of action for HP is to separate the business units more distinctly, and give each business leader clear revenue, cost and market-share goals.

As well as reverting to separate printer, PC and enterprise divisions, for example, Mr Reynolds recommends splitting off HP's strategic service offerings from their more operational counterparts. With a more transparent set of operations, it will be easier to assess ongoing performance and returns.

With a new, hands-on chief executive on board, HP will have a limited amount of time to deliver better operational efficiencies in these areas before pressure grows to consider more radical options.

TERMINATED AT HP - BUT WILL GOVERNOR ARNIE HELP HER TO FIND A NEW CAREER?

Given that Carly Fiorina was brought in to provide new direction and leadership to Hewlett-Packard, it was inevitable that there was going to be conflict. But when she took the helm in the summer of 1999, few could have foreseen just how bitter - and how public - some of her battles were going to be.

The HP she joined was clearly in need of a shake-up. Strong in printing and imaging and in the Unix server market, the company held only third place in the PC rankings and lagged its rivals in smaller servers and IT services.

Fiorina joined HP with a 20-year track record at AT&T and related businesses and a high profile in the booming technology sector. At AT&T she had directed the spin-off of the company's telephone equipment business to form Lucent Technologies, propelling her to prominence in an industry in which women leaders were still a rarity.

To the technology-led culture of HP, Fiorina brought a polished public persona and a somewhat abrasive management style. As the first woman to lead a Fortune 100 company, she was guaranteed a place in the media spotlight. But it was her business decisions, not her sex, that were to earn her notoriety.

Fiorina didn't waste time trying to stamp her mark as HP's chief executive. Although her plans to acquire PricewaterhouseCoopers' consulting business were thwarted, it was the merger with Compaq that came to define her tenure at HP. Opposition to the deal was deep-rooted and ultimately centred on the dissident director Walter Hewlett, son of the company's co-founder, who started a long and bitter battle to stymie the deal in the autumn of 2001. Neither side pulled its punches. In January 2002, for example, HP dismissed Mr Hewlett as a "musician and academic"; he responded by arguing that the company would appoint a new chief executive if the merger failed, and when they did so, they wouldn't want someone "learning on the job".

Fiorina saw the dissidents off, but questions started to emerge about her management style. Her ability to retain top talent came into question. High-profile departures on her watch included the former Compaq boss Michael Capellas, who lasted as president of the merged entity only until November 2002. Ironically, his willingness to take that position had been a key weapon in HP's pro-merger campaign. One executive who has made it through is Vyomesh Joshi, who runs the newly combined printer and PC business and is now touted as a possible candidate for the top slot.

Late last year Fiorina could see the writing on the wall. According to reports in BusinessWeek, she held meetings with senior executives of other firms in the industry, including John Chambers of Cisco and Paul Otellini of Intel, to try to sort out a "graceful exit" from HP. The approaches came to nothing.

Within HP, pressure was mounting to replace her. Tom Perkins, a tough-talking venture capitalist who was a force in the decision to bring Fiorina into HP, was brought back on to the group's board and appears to have been one of the key movers in forcing her out. In the end, a meeting was convened at the Hyatt Hotal near Chicago's O'Hare airport. The coup de grâce was delivered by Patricia Dunn, a non-executive director whose day job is deputy chairman of the fund manager Barclays Global Investors. Dunn is taking over as chairman while a new chief executive is found.

Amid the speculation about her next move, Fiorina's polished appearances on the broader public stage and her appointment to the transition team of Arnold Schwarzenegger when the Hollywood action hero took over as governor of California have prompted suggestions about a political career.

Industry-watchers point out that good business people don't always manage to repeat their success in the US political arena, but the likes of Michael Bloomberg, founder of the Bloomberg news service and mayor of New York, indicate that the move is possible. What's certain is that Fiorina won't be in a hurry. With a $21m compensation package, she can afford the luxury of looking around.