Tech Mergers and Acquisitions Coming Back

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While economists and investors fret over rising unemployment and fears of a double-dip recession, investment bankers and corporate lawyers are practically giddy over a recent surge in mergers and acquisitions activity in the tech sector, replete with limos, late dinners and potentially fat fees.

A recent wave of deals, such as Cisco's decision to buy Tandberg, Xerox's plan to acquire Affiliated Computer Services, Dell's pending purchase of Perot Systems and Adobe Systems Inc.'s acquisition of Omniture have given analysts and investment bankers optimism that a nearly two-year drought in M&A activity is finally over, with tech leading the way out.

Small investors, pension funds and investment bankers are now scouring the sector, wondering which name might be taken out next. Even venture-capital and private-equity players are making their way to the edge of the M&A diving board, ready to spring back into the deal waters.

"We've certainly seen a noticeable uptick in M&A activity in the last six months and that's accelerated in the last few weeks," says Thomas Ivey, a partner at Skadden, Arps, Slate, Meagher & Flom LLP.

IPO activity is also on the upswing. "Since July 4, we have been mandated on five technology IPOs and are competing for two more," says John Moriarty, a managing director and head of technology investment banking at Robert W. Baird & Co. "A year ago, there were none."

Industry analysts say decisions by several big-name tech companies to plunk down billions of dollars on deals in recent weeks is a sign that senior executives believe the economy has bottomed and that buying now is better than buying later. "It's clearly a sign of renewed optimism" in the market and sector, says Peter Bell, general partner at Highland Capital Partners, a venture-capital firm in Boston.

Moriarty expects the deal spigot to accelerate in the next year. "Companies are focused on growing in 2010 and 2011," he says. "Many are afraid that if they don't buy now it will get more expensive [later]."

Make no mistake, this is not a replay of the late 1990s, when frenzied private-equity players and venture capitalists tripped over each other in a mad dash to snap up the next best tech company — and paid outrageous prices for starry-eyed growth forecasts. Today's deals involve strategic buyers, who are seeking out companies with solid track records and real customers. "People are focused on buying proven businesses and technologies as opposed to ideas and dreams," says Moriarty.

The bar is also higher for new IPOs. "Back in the '90s, people were able to go out with just a business plan, raise money in an IPO and then spin the company off to somebody without ever even renting office space," says Marc Pado, U.S. market strategist at Cantor Fitzgerald. Those quick-buck days are long gone as venture capitalists and others are now prepared to hang on to an investment for up to eight years.

What inspires current deals is an almost desperate need for growth. Many computer giants are struggling with declining sales and profit margins as consumers and businesses hang on to their PC systems and laptops longer, and view software upgrades as a luxury. Also, companies are being forced to slash prices on computers and related equipment to compete with cheaper products being produced in low-cost economies like China.

As a result, tech companies are eager to expand into new product lines and markets to generate growth. One such area is information-technology services. Basically, IT-services companies offer everything from integrating computer systems to IT consulting to overseeing back-office processes that handle accounting and health-care plans.

By bringing an IT-services firm in-house a tech company also answers customer demand for one-stop shopping — tech companies that will not only sell products but can also streamline the customers' business processes and manage their tech systems. "A lot of organizations want to go to one vendor to get everything, so if something breaks there's one [firm to call]," says Troy Jensen, a managing director at Piper Jaffray.

Hewlett-Packard kicked off the IT-services trend with last year's $13.9 billion acquisition of Electronic Data Systems Corp. But the trend heated up last month when Dell unveiled a $3.9 billion plan to buy Perot Systems and Xerox made a $6.4 billion bid for Affiliated Computer Services.

Other names being mentioned as possible takeover candidates in the tech services sector include Computer Sciences Corp., Informatica Corp., Cognizant Technology Solutions Corp., Concur Technologies Inc., Teradata Corp., CGI Group Inc. in Montreal, Unisys Corp. and a few firms in Mumbai such as WNS Holdings Ltd. and Patni Computer Systems Ltd. Many of the firms have seen their stocks hit 52-week highs in the past month on takeover speculation.

Some technology companies are also doing deals to diversify into adjacent businesses to gain market share. Adobe's acquisition of Omniture will expand Adobe into Web analytics, where demand has been growing for programs that monitor website traffic and improve online advertising. Oracle's $7.4 billion purchase of Sun Microsystems expands the software company into the computer hardware market and Cisco's recent $3 billion bid for Tandberg will boost the company's presence in the growing videoconferencing market.

Jensen predicts data-management firms, such as CommVault Systems Inc., 3PAR Inc. and Compellent Technologies Inc., could also be attractive takeover candidates.

Today's deals don't come cheap. Xerox's bid for Affiliated Computer Services, for example, represented a 33% premium on ACS's closing price on the previous trading day while Adobe's $1.8 billion acquisition of Omniture represented a 45% premium on Omniture's average closing price in the month leading up to the offer.

Moving into new businesses is no slam dunk. "There is always a risk when a company acquires a business that's outside their core competency," says Ivey. For example, when eBay gobbled up Skype, its plan to tap into Skype's massive customer base failed, and it's now selling Skype.

"If you're going after new markets, new products, new technologies, there's clearly a risk," concurs Bell. "But without risk, there's very little reward."