Netgear, Inc.

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Netgear, Inc.

4500 Great American Parkway
Santa Clara, California 95054
U.S.A.
Telephone: (408) 907-8000
Fax: (408) 907-8097
Web site: http://www.netgear.com

Public Company
Incorporated: 1996
Employees: 269
Sales: $449.6 million (2005)
Stock Exchanges: NASDAQ
Ticker Symbol: NTGR
NAIC: 334119 Other Computer Peripheral Equipment Manufacturing; 517910 Other Telecommunications

NETGEAR, Inc. (Netgear) designs networking products for small businesses and home users, specializing in developing wireless devices that create local area networks known as Wi-Fi, or wireless-fidelity. The company's products enable users to share Internet access, peripherals, files, digital multimedia content, and applications among multiple personal computers. Netgear designs its products by using hardware and software sold by other companies and instructing third-party manufacturers based in Taiwan how to construct the devices. The company sells its products through retailers, distributors, and broadband service providers. Netgear stresses new product introductions as the key to its success, striving to release 12 new products every three months. Wireless products account for more than half of the company's sales. International sales account for 56 percent of the company's annual revenue.

ORIGINS

Netgear owes its existence to Patrick Lo, a proponent of computer networking who sensed a market need and capitalized on his vision. Lo, named Ernst & Young Entrepreneur of the Year in 2006, was not, in the strict definition of the word, an entrepreneur. Instead of going it alone and assuming the financial risk of his venture, he turned to his employer for support, a way of transforming his vision into a business that made his achievements no less impressive. Lo studied electrical engineering at Brown University, leaving the Providence, Rhode Island, school with an undergraduate degree that landed him a job at Hewlett-Packard Company, a leading manufacturer of computers and test equipment. Lo joined Hewlett-Packard in 1983, beginning a 12-year stay at the company that saw him assume various responsibilities, including holding management positions in software sales, technical support, sales support and marketing, and network product management. He left in 1995, bound for Billerica, Massachusetts-based Bay Networks, Inc., where he would convince his new employers to back his bid to launch Netgear.

Around the time Lo switched employers, his family provided the inspiration for the business idea he would present to Bay Networks executives. After dinner in the Lo household, each family member rushed to one of the three computers in the home, racing to claim rights to the single dial-up connection to the Internet. "The invention of the browser just made everybody want to connect," Lo recalled in a September 15, 2003 interview with Investor's Business Daily. "I thought there must be a better way," he added. Convinced that other households with multiple computers faced the same dilemma, Lo saw a market for networking products that would enable small business owners and consumers to connect multiple computers to a single Internet account. The company he joined, Bay Networks, provided networking equipment to large corporations, competing against the best known networking giant, Cisco Systems, Inc., but Lo's proposal marked a more profound departure from Bay Networks' business than appeared at first blush. It required far smaller, vastly less expensive equipment for a market that did not exist. Further, if the products even sold, the profit margins promised to be far less attractive than the sizable percentages earned by selling sophisticated networking systems to large corporations.

Lo joined Bay Networks in August 1995 and quickly set about convincing management that a foray into what was termed as the Small Office/Home Office (SOHO) market was worth the investment. "We had to pitch everybody in the company that it was a good idea," Lo remembered, referring to his partnership with fellow Bay Networks employee Mark Merrill, in his interview with Investor's Business Daily. "We told them we were going to take the technology they were selling to big corporations and make it available cheaply and make it easy to install in home networks. Some people laughed at that, but there were enough people there to share the vision." Lo's power of persuasion led to the formation of Netgear in January 1996, a business that was set up as a wholly owned subsidiary of Bay Networks. Lo explained the reasoning behind Netgear's structuring as a subsidiary rather than as another Bay Networks product line in his interview with Investor's Business Daily : "Bay Networks had been busy fighting Cisco. They wanted the 50 percent, 60 percent margins, but the consumer market was going to produce 20 percent, 30 percent margins. We set up as a subsidiary so we could have separate books and be valued accordingly."

PRODUCT LAUNCH IN 1996

One of the earliest references to Netgear in the business press appeared in mid-1996. In its June 3, 1996 issue, PC Week noted that Santa Clara, California-based Netgear recently had launched a SOHO product line in Japan. The product line, which was slated for release in the United States and Germany in the summer of 1996, featured ten products: five 10BaseT hubs, two Fast Ethernet hubs, two Fast Ethernet switches, and an ISDN router with a terminal adaptor. At the high end of the price range for the products was one of the Fast Ethernet hubs, which retailed for $1,650.

Netgear helped shape the home networking market when it commenced sales in 1996, but being an industry pioneer did little to earn the company an advantage over rivals. One of the primary concerns from Lo's vantage point in 1996 was whether a market for home networking equipment existed at all. Lo's convictions would be confirmed, particularly after high-speed, broadband Internet connections became more prevalent and wireless technology penetrated the consumer market. As the market developed, however, concerns about demand were replaced with new concerns.

The market for the type of equipment designed by Netgear became a commodity-like business characterized by volume sales and slim profit margins, a market populated not by Fast Ethernet hubs that sold for $1,650 but by devices that retailed for far less. "The sweet spot for consumer products is $99, while for small office products it's $299," Lo said in a December 30, 2004 interview with Investor's Business Daily. As the market matured, Lo found himself competing for volume sales against a host of competitors, including the giants of the corporate networking market who jumped into the consumer networking market with massive financial resources at their disposal.

To keep competitors at bay, Lo kept a tight control on inventory and costs and focused on new product introductions to win the business of consumers and small business accounts. Netgear, which in later years introduced a dozen new products every three months, used off-the-shelf hardware and software from companies such as Marvell, Broadcom, and Atheros Communications and contracted with Taiwanese firms to manufacture the products. "They do the grunt work of designing circuit boards," Lo explained in his December 30, 2004 interview with Investor's Business Daily. "We do the system integration, make sure the whole thing works, [and] write and define which components to use."

COMPANY PERSPECTIVES

NETGEAR has been a worldwide provider of technologically advanced, branded networking products since 1996. Our mission is to be the preferred customer-driven provider of innovative networking solutions for small businesses and homes.

As Netgear grew along with the market it helped to create, control over the company changed hands. In August 1998, Bay Networks sold the company to Nortel Networks Corp., a Canadian firm that ranked as one of the largest makers of telecommunication equipment in the world. Netgear, with Lo continuing to serve as its chief executive officer, became a wholly owned subsidiary of Nortel, remaining as such until 2000, when Nortel announced it was spinning off the subsidiary. Netgear, at the time of the spinoff, received $15 million in equity financing from Pequot Capital Management Inc., and began to make plans for an initial public offering (IPO) of stock.

The company by this point sold a full range of networking equipment, offering a product line that Lo hoped would attract investors as well as customers. Netgear sold firewall-equipped network routers designed to snap into place behind dial-up modems. For customers who had high-speed Internet connections, which were becoming increasingly more commonplace, Netgear sold digital subscriber line (DSL) and cable modems, which could be used with the company's hubs and network cards to link multiple computers to the home or office network. Netgear's telephone-line networking products were capable of building 10-megabits-per-second links using existing telephone wiring and jacks. Although the product line was strong, enabling the company to generate $176 million in revenue for the year, the timing of the proposed $130 million IPO could not have been worse. The collapse of the Internet sector dashed Lo's plan for going public, forcing him to withdraw his bid officially in February 2001 and to wait for market conditions to improve.

INITIAL PUBLIC OFFERING OF STOCK IN 2003

When Lo revisited the idea of ushering Netgear through an IPO, his decision created a stir of anticipation not only in the networking community but within the investment community as well. Lo decided to file with the Securities and Exchange Commission (SEC) for an IPO in April 2003, an occasion of note in the aftermath of the events that forced him to scuttle plans for an IPO in late 2000. During the first four months of 2000, 158 companies converted to public ownership, a figure that dropped to 24 for the January-to-April period in 2002, and fell to four during the four months leading up to Lo's announcement.

Lo's decision to push forward with an IPO in April 2003 was made during the slowest period of IPO activity since 1975, making Netgear's public debut a bellwether of investor reaction as the market recovered from the dotcom debacle at the turn of the century. Netgear offered itself to investors with a wide range of networking gear, both wireless and wired by that point, including routers, switches, hubs, adapters, print servers, and access points, completing its IPO at the end of July for $14 per share. The offering raised $98 million, eliciting bids from 18 underwriters—the same investment bankers who shied away from Netgear's IPO three years earlier—and thrust Lo's company into the public spotlight.

As the company embarked on a new era of existence, it faced a slew of competitors. "Walk into a retailer, or go online to Walmart.com or Amazon.com," Business Week noted in its May 12, 2003 issue, "and you will surely find Netgear products, but they in no way enjoy favorable placement among a bunch of other brands, including Belkin, D-Link Systems, Linksys, Microsoft, U.S. Robotics, and more." Exacerbating matters, Cisco had entered the market by purchasing Linksys one month before Lo filed for the IPO, vowing to use its estimated $9.5 billion in cash and short-term investments to make sure Linksys maintained its lead in the consumer market.

KEY DATES

1996:: Netgear is formed as a subsidiary of Bay Networks, Inc.
1998:: Nortel Networks acquires Netgear.
2000:: After being spun off from Nortel Networks, Netgear prepares for an initial public offering of stock but later cancels the offering.
2003:: Netgear completes its initial public offering of stock.
2006:: Netgear founder, Patrick Lo, is named Ernst & Young Entrepreneur of the Year; annual revenue nears $500 million.

As Netgear pressed ahead as a publicly traded company, the battle for market share promised to occupy its attention in the coming years. The company ranked third in the market, trailing industry leader Linksys and runner-up D-Link Systems. Netgear derived more than half its sales from wireless products midway through the decade, benefiting from the popularity of wireless networking, or Wi-Fi, in the consumer market. Financially, the company was hitting its stride, recording encouraging gains in net income and revenue. After years of sustaining substantial losses, the company posted profits for four consecutive years between 2002 and 2005, enjoining an increase from 2002's total of $8.1 million to the $33.6 million recorded in 2005. Revenues shot upward during the period as well, jumping from $237.3 million to $449.6 million. A fiercely competitive battle loomed in the years ahead, particularly from Cisco-backed Linksys. With vast financial resources at its disposal, Cisco-Linksys, L.L.C., could sacrifice profits for the sake of increasing market share, presenting Netgear with a formidable foe as it fought to hold on to its number three market position.