Stick with what you know

Contact: Ben Kolada, Thejeswi Venkatesh

Some moves just don’t pan out as planned, such as basketball legend Michael Jordan playing baseball or actor Joaquin Phoenix attempting to become a rapper. While those moves may have dented personal pride, when companies make failed moves, it hits their bottom line. Videoconferencing giant Polycom is experiencing that pain today. The company announced on Friday that it is divesting its enterprise wireless communications assets for just $110m to Sun Capital Partners, or about half the price that it paid for the business five years ago.

Polycom entered the wireless communications market in 2007 when it paid $220m for then publicly traded SpectraLink – it’s largest-ever acquisition (today’s divestiture also includes the assets of Kirk Telecom, which SpectraLink acquired for $61m in 2005). While we had doubts, Polycom argued that its rationale for the deal was sound. Polycom thought it would be able to boost revenue by leveraging the two companies’ complementary sales channels as well as by merging their server-side software products into a single platform.

Polycom, however, wasn’t able to generate the revenue that it expected from the acquired assets. The SpectraLink and Kirk Telecom assets dwindled within their newfound parent, falling from $144m in revenue in 2006 to about half that, $94m, in 2011.

Not to pick on Polycom, but its SpectraLink divestiture is just the most recent reminder of the risks involved in attempting game-changing acquisitions. Companies use M&A to enter new markets all the time, and often fail. HP shuttered its Palm Inc business just one year after paying $1.4bn for the company. And in 2010, Yahoo divested its Zimbra collaboration assets for $100m, or less than one-third of the $350m that it paid for the company in 2007. Cisco attempted to move into the consumer video segment when it paid $590m for Pure Digital Technologies, maker of the Flip video camera, but shut down that division two years later.

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In leap year, tech M&A falls

Contact: Ben Kolada

The extra business day in February did little to prop up tech M&A volume, as the number of deals announced last month dropped to one of the lowest levels seen in the past year. The 257 tech acquisitions we recorded in February was one-third less than January’s total and 17% less than the trailing 12-month average. Although it’s impossible to predict the volume and value of tech acquisitions, one explanation is the somewhat seasonality of the business. In eight of the past 10 years, we saw a rise in sequential January deal volume followed by a dip in February volume.

Even total spending came in below the annual average. While the total amount spent on tech acquisitions in February ($10bn) was more than double what we recorded in January, it was still about half the average of the trailing 12 months. However, February wasn’t a complete wash. On a positive note, many of the largest technology companies were active in M&A last month: Akamai picked up small front-end optimization startup Blaze Software, Apple bought Chomp, Cisco acquired Lightwire, its largest deal since Starent Networks in 2009, F5 Networks reached for Traffix Systems and Quest Software scooped up BlueFolder. Further, we recorded four billion-dollar transactions in February, compared with none the previous month.

Still, the sharp downturn in volume marks a stark contrast to what’s been happening in the equity markets. Last month, we wrote that behavior in the stock markets is one of the main influencers on big-ticket M&A, and that big-ticket deals set the tone for overall dealmaking. But while the Nasdaq composite index continued its steady rise, reaching its highest point since the stock market crashed in the early 2000s, tech M&A volume in February moved in the opposite direction.

Cloud deals arising from the fog

Contact: Ben Kolada

Going into the last day of the 9th Cloud Computing Expo, held in Santa Clara, California, we get the feeling that conference attendees will see an M&A shakeout within the next few years. To a degree, this dealmaking has already begun, with a small handful of exhibitors already having been scooped up, including a couple of firms that were acquired just last month. Meanwhile, the remaining vendors, most of whom are young startups, are scrapping to define and prove themselves for what they hope will someday be their own fruitful exits.

The cloud computing market is real and growing. My 451 Market Monitor colleagues, who have the tedious task of sizing the cloud market, estimate global cloud revenue (excluding SaaS) at $9.8 billion for 2011, with nearly 40% revenue growth expected in 2012. Many players in this sector have already taken note of its potential and acquirers’ interest, resulting in an increase in both deal sizes and deal volume for cloud vendors. According to The 451 M&A KnowledgeBase, so far this year a record 465 transactions claimed some aspect of cloud. That’s nearly double what we saw in the same period last year. (To be honest, many of these acquired companies are about as cloudy as snake oil, but there are real cloud deals being done. Platform Computing and Gluster, which both announced their sales last month, sold for an estimated combined deal value just shy of $450m.)

However, in terms of revenue, most of the cloud startups we spoke with haven’t yet really proven themselves commercially. But as these firms transition their focus from product development to marketing and sales, their growth will attract more and more suitors. And double-digit revenue isn’t exactly a requirement for a successful exit, as both the recent CloudSwitch and takeouts proved. Though we understand that none of these companies are looking to sell just yet, we wouldn’t be surprised if cloud-enablement providers such as OnApp, Abiquo and Nimbula are picked off one by one within the next few years. And we were reminded yet again that open source networking and routing vendor Vyatta could someday see a real offer from Dell, though the IT giant would likely face a competing bid from Cisco.

Cisco adds Inlet to its video puzzle

Contact: Ben Kolada, Jim Davis

Cisco recently announced that it is acquiring video encoding provider Inlet Technologies for $95m in cash. The deal is the latest addition to Cisco’s ongoing strategy of helping service providers such as Telstra build content delivery networks that can serve video to TVs, PCs and mobile devices for pay TV services.

Cisco has picked up a lot of video-related technology over the years. Despite its networking expertise, video is a notoriously difficult beast to tame, and even more so when dealing with video over less-predictable public IP networks. Cisco bought V-Bits in 1999 for $129m to add video-processing gear to its repertoire, but stopped production in 2002. In 2000, Cisco spent $369m to acquire PixStream for its video headend gear for IPTV systems, but then closed the operation four months later when the stock market bubble burst.

When it got serious about gaining expertise in video, Cisco spent $6.9bn in 2005 on Scientific-Atlanta, a major equipment supplier to the cable industry. In 2006 Cisco acquired UB Video, a Canadian firm focused on developing MPEG-4 AVC software for use in encoding and decoding equipment. Later that year it also bought video-on-demand (VOD) software specialist Arroyo Video, whose products formed the basis of VOD servers sold to cable and IPTV providers. In acquiring Inlet, Cisco picks up an established player in the market for video encoding equipment used to ready video for delivery over multiple delivery mechanisms. Inlet’s encoding systems have two strengths: one is that they are powerful enough to do high-quality live streaming over IP networks, the other is that the gear is built for adaptive bit-rate streaming, which is becoming a favored method for delivering video to mobile devices.

Inlet reportedly recorded $7.6m in revenue in 2009 and claims to have doubled sales last year. Assuming that the company closed 2010 with $15m in revenue, Cisco’s $95m offer would value Inlet at 6.3 times trailing sales. While that multiple is more than twice as high as the average for all tech transactions, it’s actually slightly less than similarly sized video encoding competitor On2 Technologies received from Google last year. On2’s investors balked at Google’s original $106m offer, which valued the target at 6.1x sales, but later settled for a revised bid of $132m, or 7.5 times sales. (Click here for my colleague Jim Davis’ full report on the Inlet transaction.)

Talk is cheap, but BMC isn’t

Contact: Brenon Daly

All the talk around an acquisition of BMC may be just that – talk. We have a hard time believing some of the rumored buyers for the IT management vendor. That skepticism was shared by a few bankers who we spoke with about the rumor. In fact, they reminded us that the most recent M&A buzz around BMC had the company as a buyer, not a seller. Several sources have indicated that BMC was an early bidder for security provider ArcSight, but dropped out quickly when the price got a bit rich.

Nonetheless, M&A speculation pushed BMC shares Thursday to their highest level in a decade. Currently, the company garners a market cap of $7.6bn. Fittingly for a 30-year-old firm, BMC sits on a pile of cash. It has some $1.4bn in its treasury, although a bit of debt lowers its net cash position to about $1.1bn. The company recently indicated that it would generate in the neighborhood of $700m in cash from operations in the current fiscal year, which ends in March. Sales for the fiscal year are expected to come in at $2bn.

With an enterprise value of roughly $6.2bn, BMC currently trades at more than 3 times projected sales and almost 9x projected cash flow. Even without a take-out premium, those are fairly rich multiples for a company that grows just 2% per year. A premium could take BMC’s equity value to around $10bn.

Obviously, there are only a few companies that could write that a check that big and if we were to short-list them we would probably put Oracle and Cisco Systems on there – but for different reasons. The $1bn of maintenance revenue that flows steadily to BMC each year would undoubtedly catch Oracle’s eye. But buying $1bn of annual maintenance revenue for, say, $8bn (on a net cost basis) doesn’t look like the kind of bargain Oracle typically strikes.

And while Cisco has partnered with BMC for the management within its Unified Computing System, it’s not clear to us that Cisco actually needs to own BMC to further its interest in outfitting datacenters. To our mind, Cisco should just put the money it would spend on BMC toward the company that it should really buy: EMC.

What’s up with the Bay Area?

Contact: Ben Kolada

Bay Area buyers have roared back to life in 2010. Compared to the same period a year ago, Bay Area buyers’ deal volume has increased 46%, while at the national level M&A has risen only 21%. Year-to-date, Bay Area-based acquirers announced 230 transactions, 19% of all technology deals undertaken by US-based companies. Further, these companies represent 19% of the total declared deal amount, including four of the 18 billion dollar-plus transactions made by US-based buyers. In the same period last year, Bay Area acquirers did only 162 deals.

So, what’s up with the Bay Area? Our data suggests that 15 big serial acquirers accounted for most of the increase. In fact, the number of Bay Area buyers acquiring three or more companies increased five-fold in 2010, compared to a 50% increase at the national level. After waiting on the sidelines in 2009, these companies have resumed M&A activity in full force. As a group, they bought 52 more companies in year-to-date 2010 than they bought in 2009. (An interesting note, Internet content providers were the preferred targets across the board, representing 22% of acquired companies at both the Bay Area and national levels.)

M&A activity by Bay Area buyers

Acquirer 2010 deal volume, year-to-date 2009 year-ago period
Google 15 0
Oracle 7 5
Playdom 6 0
Apple 4 0
Facebook 4 0
Symantec 4 1
Synopsys 4 1
Trimble Navigation 4 5
Cisco Systems 3 3
Hewlett-Packard 3 2
TIBCO Software 3 0
Twitter 3 0
VMware [EMC] 3 0
Yahoo 3 0
Zynga 3 0
Totals 69 17

Source: The 451 M&A KnowledgeBase, 451 Group research

Google is the poster child for Bay Area M&A. Year-to-date, the company has been involved in 15 transactions – the most since it inked the same amount of deals in full-year 2007. However, the search giant is noticeably absent from the 2009 ranking. Even though Mountain View, California-based Google had $8.6bn in cash at the end of 2008, the vendor took nearly a year-long break from M&A activity. Google’s M&A drought began after it acquired TNC in September 2008 and ended 11 months later, when it announced its first purchase of a public company – On2 Technologies – in August 2009.

Nordic freeze-out for Cisco

Contact: Brenon Daly

With a fat treasury and well-drilled deal team, Cisco Systems typically storms through acquisitions. Over the past five years, the networking giant has announced some 50 purchases, including more than a few that combined big money and quick moves. (For instance, several sources have indicated that Cisco snatched WebEx Communications away from IBM in just a week, after Big Blue had the online conferencing company all but locked up.) But it appears that something in Cisco’s M&A methods has been lost in translation in its reach across the Atlantic for Norway’s Tandberg.

A little over a month ago, Cisco announced plans to hand over $3bn in cash for Tandberg, as a way to bolster its videoconferencing lineup. Although Tandberg’s board of directors backed the offer, a fair number of shareholders have balked at what they see as Cisco’s low-ball bid. Critics point to the fact that Cisco’s all-cash offer values Tandberg just 11% higher than the company’s closing stock price the day before the announcement. (We noted recently that the premium was just half the amount that Cisco is paying for Starent Networks, which was announced a week after Tandberg.)

Further complicating Cisco’s play for Tandberg is the fact that 90% of shareholders at the Norwegian company have to agree to the deal. Already, holders of about one-quarter of Tandberg equity have said they won’t support Cisco’s proposed purchase – at least not at its current valuation. We suspect that Cisco may well end up having to reach a bit deeper to land Tandberg. (The company gave itself more time on Monday, bumping back the expiration of its tender offer for Tandberg until November 18.) And as the standoff drags on, other vendors are closing their own videoconferencing deals. On Wednesday, Logitech said it will spend $405m in cash for LifeSize Communications. Logitech’s bid values LifeSize at slightly more than 4x trailing sales, which is not out of line with Cisco’s bid for Tandberg of 3.6x trailing sales.

It wouldn’t be surprising to see Cisco top its existing offer for what’s undoubtedly a valuable asset. Tandberg would give Cisco a solid mid-level videoconferencing offering, slotting nicely between its high-end Telepresence product and the low-level Web conferencing and collaboration offering it got when it picked up WebEx. In terms of markets, adding Tandberg would significantly expand Cisco’s reach in Europe, particularly with government customers. And as a bonus, securing Tandberg would prevent the target from landing with rival Hewlett-Packard, which has its own videoconferencing wares. (Although HP actually beat Cisco to market with its Halo product, it has little to show for its early advantage.) We doubt that would happen, but wouldn’t it be a kicker if HP pulled a Cisco on Cisco, quickly firing off a topping bid and walking away with Tandberg?

Will Adobe-Omniture marriage prompt online video M&A?

-Contact Thomas Rasmussen, Jim Davis

When Adobe Systems and Omniture announced the details and rationale behind their $1.8bn tie-up in mid-September, some interesting items emerged. Highlighted was the obvious benefit from a combination of Adobe’s popular Flash video platform and Omniture’s analytics capabilities. As the Web analytics market has become more saturated, Omniture has recently been expanding into higher-margin niches such as online video analytics. Combining online video content management with analytics is an area in which some early startups have carved out a profitable niche over the past few years as video has finally started to move to the Web.

However, if the newly bulked-up Adobe truly moves into the space – as we suspect the company will – it will undoubtedly present an enormous challenge to an industry previously dominated by a few well-funded startups. As a consequence of other larger players wanting to get a piece of the booming sector and startups being more inclined to strengthen their position, we believe consolidation in the market is inevitable. With that as our premise, who might be buying, and who are the potential prime targets?

Among a slew of startups in the space, the two primary ones we think could be in play in this scenario are market leaders Move Networks and Brightcove. The two have each taken in roughly $90m in venture capital. It is worth noting that both Microsoft and Cisco are strategic investors in Move Networks, and we think the company would make a great fit for either one since both have a strong focus on video moving forward. Meanwhile, both IAC/InterActive and AOL are strategic investors in competitor Brightcove. While we don’t think AOL is in a position to make an acquisition like this now, we would not put it past IAC. Google with its more consumer-oriented YouTube makes a logical acquirer as well, particularly as a way to add a business-friendly enterprise offering.

And finally, we might put forward rich content delivery networks (CDNs) such as Akamai and Limelight Networks. These vendors have been buying their way into premium verticals recently to escape the rapid commoditization of their core business and would be wise to consider acquiring into the space. From the estimated $40m or so in revenue that we understand Brightcove brings in, a large part of that comes from reselling bandwidth through CDNs.

Should Cisco dial up eBay’s Skype?

Contact: Thomas Rasmussen

In eBay’s recent report on second-quarter results, the online auction house announced a somewhat disappointing performance in its two core businesses, Payments and Marketplaces, but did see strong results from a surprising source: Skype. The VoIP service increased year-over-year revenue by 25%, while overall sales declined as the legacy Marketplaces revenue sank 14%. Skype revenue hit $170m in the quarter, bringing sales for the division over the past year to $587m. The service is closing in on a half-billion users, finishing June with 481 million users. All in all, that’s a solid performance for a unit largely considered the bastard child of the Silicon Valley auction giant.

However, that certainly isn’t enough to keep Skype inside eBay. The acquisition, which eBay has admitted overpaying for and has written down a huge chunk of the $3.2bn cost, remains largely irrelevant and immaterial to its core e-commerce business. The service has never been integrated into auctions – much less adopted by buyers and sellers – at a level anywhere close to what was planned when eBay picked up Skype four years ago. It stands as the company’s largest-ever purchase and a stark reminder of an ill-conceived deal by the earlier leadership of Meg Whitman. Current CEO John Donahoe has been clear that eBay is returning to its roots, and Skype won’t be a part of that.

So where will Skype go? We see the VoIP vendor on a dual track. It could well get spun off in an IPO. (Provided, of course, that the catastrophe at Vonage hasn’t poisoned the market for VoIP companies.) Or, Skype could look for an acquirer, although we wonder how deep the pool could be for potential buyers that could write a $2bn or so check for it. But we do have one possible interested party: Cisco. Granted, this is a proposal from left field and we’re not suggesting that talks between the companies are going on or anything. However, there is some indication that such a pairing might not be too farfetched. Cisco has increasingly been bulking up its consumer division and its strategy around the media-enabled home is finally starting to come to fruition. Video plays a big part of those plans, and the firm has been talking about expanding its TelePresence offering from the enterprise to the home. An acquisition of Skype with its enormous and growing user base and proven technology on desktops and mobile devices would do just that, and would fit well with its M&A strategy of picking up market adjacencies.

Citrix sits out

Since announcing its landmark acquisition of XenSource a little more than a year ago, Citrix has largely taken itself out of the M&A market. And don’t expect that to change anytime soon. CFO David Henshall told the Deutsche Bank Technology Conference earlier this week that the company ‘has its hands full’ with working out its virtualization strategy, which it grandly refers to as a datacenter-to-desktop offering. (That strategy largely reflects the fact that VMware, with an estimated 85% of the server virtualization market, isn’t as vulnerable as Citrix initially thought, at least around ESX.)

While Citrix has inked three deals since XenSource, the acquisitions have been quiet technology purchases. For instance, in January Citrix snagged a product line from FullArmor, a self-funded business process orchestration tool vendor, and in May it added Sepago, a 30-person company that only launched a product a year ago after a few years as a consulting shop.

Instead of spending on M&A, Citrix’s Henshall indicated that the company will continue to put much of the cash it generates ($75-100m each quarter) toward buybacks. If nothing else, Citrix has been getting a relative bargain in the buyback. After two straight earnings warnings earlier this summer, shares sank to their lowest level in almost three years. Around that same time, perhaps not coincidentally, rumors began to surface that Cisco or IBM might be shopping Citrix. If Citrix does get acquired, we still think the deal will flow through Redmond, with Microsoft to reach for its longtime partner to shore up its own virtualization offering.

Citrix deal flow

Year Deal volume Deal value
2008 2 Not disclosed
2007 5 $500m
2006 3 $117m
2005 2 $338m

Source: The 451 M&A KnowledgeBase