Fusion-io’s ‘flash-y’ and jumpy M&A currency

Contact: Brenon Daly

In the same breath that it announced quarterly results for the first time, Fusion-io also announced its first-ever acquisition. The flash storage specialist reached for IO Turbine, a caching software startup that had only emerged from stealth mode earlier this summer. Our storage analyst, Henry Baltazar, points out that although IO Turbine was only just getting started, its software had been bundled with Fusion-io’s PCIe flash cards. Fusion-io says the pairing boosts performance, and should open up new markets in virtualized environments.

Fusion-io will use both cash and stock to cover the $95m price of its inaugural purchase. The exact makeup of the consideration wasn’t released, but it’s basically one-third cash and two-thirds equity. That breakdown is noteworthy, given that Fusion-io – with some $220m in cash, thanks to its IPO two months ago – could have easily just used greenbacks to pay for IO Turbine.

Instead, the startup felt comfortable enough to take the majority of its payment in Fusion-io shares, which have been noticeably volatile since their June debut. Consider this: During last Thursday’s rough ride for the overall market, Fusion-io was particularly jumpy ahead of its earnings announcement. Shares opened at $28 each, dropped as much as 14% in the first hour of trading, actually popped above the opening trading price at midway through the session, and then slid almost uninterruptedly to close at the low of the day.

Granted, the trading last Thursday for individual equities was overshadowed by the historic 500-point drop in the Dow Jones Industrial Average that day. But we would note that the Dow was in the red from the opening bell, while Fusion-io actually rallied into the green at one point before sliding. Given those sorts of swings, it might not be a bad idea for the new holders of Fusion-io shares to look into a hedging plan for their holdings.

A management ‘buy-under’ at Silicon Storage Technology?

Contact: Brenon Daly

In the third-quarter earnings report for Silicon Storage Technology at the end of October, chief executive Bing Yeh went out of his way to tout the vastly improving outlook for the flash memory vendor. Yeh noted that end-market demand had recovered and pricing had firmed up in what had been a pretty tough market. Third-quarter sales picked up sequentially and the company actually posted black numbers after three straight quarters of losses. The rebound was expected to continue in the fourth quarter, with a profit forecast for the period, as well.

And yet, the price that Yeh and his buyout partners at Prophet Equity bid for SST last week is actually lower than the vendor’s share price on the day Yeh made his comments about the rosy outlook for the company he heads. In fact, over the past two months, shares of SST have only traded below the proposed sale price of $2.10 in 11 of the 46 trading days. Looked at another way, the proposed management buyout (MBO) of SST represents a ‘take-under’ (rather than a takeover) when compared to the closing price in three out of four sessions since early September.

By their very nature, MBOs are fraught with conflict. In cases like SST, where executives plan to roll over their stakes in the company, the executives are effectively both buyers and sellers of the firm. (According to SST’s proxy, Yeh holds roughly 11% of all shares, making him the single-largest owner of the vendor.) The conflict emerges when we look at the basic economic self-interest on both sides of the transaction: The owners of SST (including Yeh) want to get as high a price as possible in the sale of their business, while the buyers (including Yeh) want to pay as low a price as possible to purchase the business.

Beyond the mismatch of motivation in MBOs, there’s also the thorny issue that executives almost certainly have insights on their business that aren’t available to other owners. We would guess that Yeh, who helped found SST 20 years ago and also serves as the chairman of the company’s board, probably knows more about the firm’s business and its prospects than anyone else on the planet.

At least one other insider at SST, however, didn’t share the support of the below-market MBO. Board member Bryant Riley, the founder of the Southern California investment firm B. Riley & Co., voted against the proposed buyout and then resigned from the board. (It’s worth noting that Riley got his seat in May 2008 only after agreeing to stop pestering the company about ‘strategic alternatives.’) Most SST investors – at least those who don’t stand to have a stake in the privately held company – have also voted against the deal. Shares have traded above the offer price since the bid was revealed November 12.

How do you say ‘please come back’ in Korean?

-Contact Thomas Rasmussen

When SanDisk released its dismal earnings this week, dismayed shareholders hastily headed for the hills. The exodus caused SanDisk’s stock to plunge 25%. In the fourth quarter of 2008, the flash memory giant lost $1.6bn, pushing its total loss for the year to $2bn. This red ink from operations was exacerbated by the company’s $1bn of acquisition-related write-downs stemming from its $1.5bn acquisition of msystems in July 2006. In the days following the dire news, SanDisk has been trading at a valuation of around $2.2bn. That’s a far cry from the $5.6bn that Samsung offered for SanDisk in September.

To put the decline in perspective, SanDisk’s three largest outside shareholders – Clearbridge Advisors, Capital International Asset Management and Capital Guardian Trust, which collectively own more than 15% of SanDisk (as of September 30) – suffered a paper loss of more than $700m since the day Samsung walked away from the proposed deal. Given this, we wouldn’t be surprised if shareholder ire forced SanDisk to reconsider its strategic options this year. On its earnings call this past Monday, the company reiterated that its board is indeed open to deal with any interested parties, which begs the inevitable question: Who might be willing buyers?

With private equity largely stymied and longtime partner Toshiba repeatedly stating that it’s not interested in a deal, Samsung is still the most logical fit. It has the cash, has shown a willingness to pay a solid premium, and would integrate well with SanDisk’s overall portfolio of products. In addition to its valuable intellectual property assets (which would eliminate those ugly royalty fees) and flash and solid-state drive lineup, SanDisk would instantly give Samsung the second-largest share of the music player market, behind only Apple. Perhaps it’s time for SanDisk CEO Eli Harari to brush up on his Korean, or at least learn how to say ‘please come back’ in that language.