BARRON'S
August 5th, 2002
Does H-P Have EMC in its sights?
By MARK VEVERKA
It's high time for Las Vegas odds-makers to start handicapping technology mergers and acquisitions. With all of that loose change left over from the stock-option orgies of the bubble days, certainly techsters would be willing to lay down a few bets to see what IBM might snap up next. Or, they might be inclined to play an under-over on, say, the year-end cost-savings number from Hewlett-Packard's buyout of Compaq Computer. Why not? Now that it has been revealed that Russian mobsters are putting the fix on such allegedly pure sporting contests as the Olympic Games, who is a tech-savvy high-roller to trust?
After all, one of our favorite and most apt descriptions of the Internet-intoxicated stock market, proffered by venture capitalist Len Baker, was one of a "free-floating craps game." So, let's make gambling on tech legitimate, especially as companies begin to roll the dice on mergers, buyouts and takeovers.
After more than a year of anticipation, the consolidation season may finally be upon us as valuations -- which are still fundamentally rich -- have dramatically plummeted to levels where deals are looking much more attractive.
IBM's announcement last week that it is buying PricewaterhouseCoopers' Consulting for $3.5 billion looks flat-out cheap, compared with the $18 billion PwC was asking for its consulting unit nearly two years ago. With the IPO window narrowly open and PwC's clients fleeing in droves because the firm was also their auditor, multiple pressures were brought to bear on PwC Consulting, making the opportunity perfectly ripe for IBM's picking. (More on that later.)
And, as more companies struggle to make their quarterly numbers and Darwinian forces begin to intensify, we expect to see more marriages as the fittest companies attempt to position themselves for that day when tech-spending returns. One of the boldest handicappers is Andrew Neff, an enterprise hardware analyst with Bear Stearns in New York, who suggests there are decent odds that H-P could buy sputtering storage giant EMC.
"While this might be reaching, an acquisition of EMC by H-P could make sense from both an offensive and defensive perspective," Neff asserts.
Neff contends that such a deal would give H-P a high-end storage line it could call its own (it currently partners with Hitachi for those needs), which would also complement the well-respected storage line that H-P inherited from Compaq. As a defensive maneuver, an H-P/EMC combination could disrupt EMC's fledgling relationship with H-P's archrival, Dell Computer, says Neff. Arguing that such a deal is not far-fetched, he adds: "H-P would rather take EMC than give it up to Dell."
"We know that the two companies are talking to each other," which is more than what they were doing after their reseller partnership imploded in 1999, Neff points out. For several years, until the acrimonious split, H-P sold EMC storage hardware to its huge customer base.
Neff's speculation is fueled by a little-noticed joint announcement on July 17 by EMC and H-P that they would exchange application programming interfaces -- software platforms on which storage management systems sit. The exchange creates an open standard so the companies' products can work with one another.
"All I know is that they are a divorced couple, and they are having drinks together," Neff says. "A year ago, they only had harsh words for each other."
Another reason Hewlett-Packard might run back into the arms of EMC is that its current partner, Hitachi, is two-timing H-P with Sun Microsystems, another Hewlett rival. But, of course, like all reconciliations of this magnitude, an H-P/EMC combination is fraught with pitfalls and complications. The most obvious is that H-P is in no position to take on another major acquisition so soon after its merger with Compaq.
In addition, Dell resells EMC storage products and has struck a deal to start buying components from EMC about a year from now. Once this begins, it will be much more difficult to dislodge EMC from Dell. "It would be a lot messier a year from now than in six months," says Neff, arguing that timing would be an incentive for H-P to do a deal, even if it was still in the throes of its integration with Compaq.
Another wrinkle is that EMC appears to be forging ahead with its plan to shift from being largely a hardware maker to becoming a major developer of storage software, which generates higher margins. The Hopkinton, Mass.-based storage company reportedly is in talks to acquire San Diego-based Prisa Networks, a nascent maker of storage management software. It would be EMC's eighth acquisition since the beginning of 2000.
Prisa's software would help improve management of the lower and middle-tier storage systems that EMC sells through its partnership with Dell. Thus, again, if this deal were to materialize, it would make EMC and Dell get cozier.
For his part, hardware analyst Toni Sacconaghi of Sanford Bernstein debunks an H-P buyout of EMC, largely because he thinks the price would be too rich. EMC has a stock-market value of about $16 billion, and Sacconaghi figures that H-P would have to pay a takeover premium of about $4 billion, raising the price to $20 billion or so. That would be nearly half of H-P's own $41.97 billion valuation.
"It would be expensive and enormously dilutive because EMC hasn't been making money," Sacconaghi says. "I'm not sure why you would want to do that deal. I struggle with that notion." Also, mainly because of the price, Sacconaghi dismisses speculation that IBM will acquire EMC.
Upshot: An H-P buyout of EMC is probably a long shot. But so was an H-P merger with Compaq, which Neff recommended in a January 2001 research note. The deal was hatched nine months later. Time to place all bets |
