InterNap’s time as a takeover target could be running out

Ben Kolada

Contact: Ben Kolada

If its past is any prediction of its future, hosting services provider InterNap Network Services could soon lose its position as the industry’s next takeover target. The Atlanta-based firm, which is set to release its second-quarter results, has seen flat sales for the past three years. This is in stark contrast to the hosting industry at large, which has historically grown in the double digits. Meanwhile, other firms are emerging as more desirable targets, pushing InterNap to the back of the buyout line.

Our colleagues at Tier1 Research have written that InterNap was a favored takeover target. However, the firm appears to have since lost its luster. Investors are becoming increasingly frustrated with its poor performance, particularly after first-quarter total revenue declined 6% year over year. And shareholders once again fear the worst – in the past month, shares of InterNap have lost more than one-tenth of their value.

As InterNap is lying stagnant, other firms are posting enviable growth rates, making them much more attractive acquisition candidates. We understand that privately held SoftLayer is gearing toward the public markets, though it could certainly be scooped up before filing its paperwork. SoftLayer surpassed InterNap’s revenue last year, and is projecting bottom-line growth of about 20% this year, to just shy of $350m. InterXion has been cited as a potential target, as well. The company is also enjoying double-digit growth rates, and would provide a large platform for any telco looking to expand its European hosting footprint.

We would note, however, that both InterXion and SoftLayer are considerably pricier properties. While InterNap currently sports a market cap of about $330m, InterXion is valued at nearly $1bn. And we estimate that SoftLayer, on its own, cost GI Partners some $450m. However, when including the other legs of the SoftLayer platform – Everyones Internet and The Planet – the full price to the buyout shop could exceed $600m. But InterXion’s and SoftLayer’s price tags won’t necessarily stand in the way of their sales. We would never have guessed that CenturyLink would have been able to afford Savvis, especially so soon after closing its $22bn Qwest purchase.

ACI looks to crash S1’s wedding

Brenon Daly

Contact: Brenon Daly

Just a month after announcing its largest-ever acquisition, S1 Corp has found itself unexpectedly (and perhaps unwelcomely) on the other end of a potential transaction. The payments software maker agreed in late June to acquire Fundtech in a stock swap valued at $326m. On Tuesday, ACI Worldwide sought to play the spoiler in that planned marriage, pitching an unsolicited offer to S1 that it says holds ‘significant upside’ compared to the proposed Fundtech deal.

ACI is offering $9.50 in cash and stock for each share of S1, for total consideration of $540m. The bear hug represents a premium of 33% over S1’s previous closing price and the highest price for the stock since late 2004. ACI says it has the financing lined up and could close the deal by the end of the year. Although S1 hasn’t responded to ACI’s proposal, its stock traded in line with the offer, changing hands on Tuesday afternoon at about $9.35.

In some ways, the current interest in S1 is about a half-decade overdue. We speculated in September 2006 that the company was likely on its way out. At that time, S1 was busy unwinding some misguided deals that it had inked years earlier as part of a larger ‘strategic review.’ (The divestitures came at a time when activist hedge fund Ramius Capital was the company’s largest shareholder.) Had it made its move then, ACI could have picked up the company on the cheap: S1 was trading at half the level of ACI’s current bid.

Verint reaches for Vovici

Brenon Daly

Contact: Brenon Daly

Once pretty much a company that only offered call recording, Verint has expanded its business over the past two decades through a series of acquisitions. Most recently, it reached for Vovici, adding the startup’s online surveys offering to its voice-of-the-customer portfolio. Vovici will be slotted into Verint’s Workforce Optimization (WFO) unit, which accounts for more than half of the company’s overall revenue.

However, we don’t expect that Vovici will substantially boost the top line at the WFO division. That business runs at about a rate of $100m per quarter, while we understand that the Herndon, Virginia-based startup was generating somewhere less than $15m in revenue. Verint is paying $57m in cash, with a possible earnout of up to $20m if certain undisclosed milestones are hit. That makes it Verint’s largest acquisition since the $1.1bn purchase of Witness Systems in early 2007.

Dual track, but singular outcomes

Brenon Daly

Contact: Brenon Daly

For the third time in just two months, a tech company that had planned to go public has instead ended up inside a company that’s already public. The latest dual-track sale came Wednesday when Force10 Networks opted to accept a bid from Dell rather than see through its IPO plan. The networking gear vendor had filed its prospectus in March 2010.

The deal follows one month after would-be debutant Apache Design Solutions sold to ANSYS and two months after SiGe Semiconductor went to Skyworks Solutions. Those three transactions probably only generated about $1.2bn in liquidity, including Force10’s reported price of roughly $700m. (As a side note, we might point out that Deutsche Bank Securities was a book runner on all three proposed IPOs.)

As this trio of enterprise-focused startups finds itself snapped out of the IPO pipeline, consumer-oriented companies continue to receive a warm welcome on Wall Street. Consider this: Zillow, which went public earlier this week, now trades at about 20 times trailing revenue. In contrast, Force10, SiGe and Apache Design garnered much more modest valuations ranging roughly from 2-6x trailing revenue in their sales.

Riverbed buys Zeus, but shares go to Hades

Brenon Daly

Contact: Brenon Daly

Announcing the largest deal in its history, Riverbed Technology said it will hand over $110m in cash for Zeus Technology in an effort to broaden its application performance portfolio. Zeus, which sells software for load balancing and traffic management, generated about $12m in revenue over the last year and is expected to contribute some $20m in sales for the coming year. That means Riverbed is paying nearly 10 times trailing sales for Zeus, and that’s not including a potential $30m earnout for the UK-based startup. (Fellow UK-based firm Arma Partners advised Zeus on the sale.)

In addition to being a rather richly valued purchase, the acquisition of Zeus also effectively doubles the amount that Riverbed has spent, collectively, on M&A in its history. The deal will likely bring Riverbed more deeply into competition with the main application delivery control vendors, including F5 and Citrix.

From our perspective, we might note that it’s a good thing Zeus is taking its payment in cash. Why? Riverbed stock lost nearly a quarter of its value on Wednesday. (The WAN traffic optimization provider reported a bit of softness in sales in Europe for the second quarter.) The decline erased all of Riverbed’s gains for 2011, but the stock is still twice the level it was at this time last year.

Intel buys Fulcrum to further datacenter product push

Contact: Thejeswi Venkatesh, Ben Kolada

In a move that further boosts its 10-Gigabit Ethernet push, Intel has announced that it will acquire Fulcrum Microsystems, a fabless semiconductor company that developed the fully integrated FocalPoint family of 10Gb and 40Gb Ethernet switch chips. The acquisition advances Intel’s desire to transform itself into a comprehensive datacenter provider that offers computing, storage and networking building blocks.

Terms of the deal were not disclosed, though we estimate that Fulcrum generated about $13m in revenue in the 12 months before its sale. For a comparable transaction, we could look to Broadcom’s November 2009 acquisition of Dune Networks for about 3 times trailing sales, or twice the median for all semiconductor design deals announced so far this year. However, given Fulcrum’s strategic importance to Intel, we wouldn’t be surprised if its valuation is not only higher than the median, but also surpasses Dune’s. We would also note that Intel already had an insider’s view into Fulcrum – its venture investment arm, Intel Capital, provided mezzanine financing to Fulcrum in 2010.

Connecting thousands of nodes at maximum bandwidth is the holy grail of datacenter networking. Fulcrum’s FocalPoint portfolio provides high-performance, low-latency network switches to support evolving cloud architectures and the growth of converged networks in the enterprise. Intel’s earlier foray on this front was with InfiniBand, which it supported for many years before finally being squeezed out by faster, ultra-low-latency architectures like AMD’s HyperTransport consortium on the one end and on the other end by cheaper but slightly slower 10GigE. Intel has been supportive of 10Gb architecture and this acquisition further enhances that strategy. More importantly, 10GigE makes more sense for Intel if it is looking for a common single interconnect architecture for datacenters, since all applications run on it anyway.

Mirror moves at CA and Compuware

Contact: Brenon Daly, Dennis Callaghan

Both Compuware and CA Technologies recently announced deals for application development and the related field of performance monitoring in which the transactions themselves shared more than a few similarities. The two acquisitions saw the old-line companies, with their corporate roots in the mainframe era, paying nearly double-digit multiples for startups that have been doubling sales each year. Further, each buyer was adding the acquired technology to an existing management platform that has largely been shaped by earlier M&A.

In the first transaction, CA Technologies announced that it will hand over $330m in cash for ITKO, which adds testing capabilities to CA’s management portfolio as well as makes the company more of a player in ‘devops’ as cloud adoption blurs the roles between development and operations in IT departments. The following week, Compuware paid $256m in cash for dynaTrace Software to bolster its business transaction management offering, particularly in the area of pre-deployment performance monitoring, which goes hand-in-hand with testing. The two deals mean that the companies will be competing hard against each other in distributed systems performance testing and monitoring, especially around Java applications.

For the targets in the purchases, though ITKO and dynaTrace were focused on slightly different markets, the two startups had a number of traits in common. Both were founded far from Silicon Valley and went on to be parsimonious fundraisers, each drawing in only about $20m. (In other words, an exit price that was 10 times greater than the money that went into the company.) Both startups had more than 100 employees and were tracking to top $50m in sales next year. And finally, both startups went with boutiques to advise them on the sales, with ITKO tapping Qatalyst Partners and dynaTrace working with Pacific Crest Securities.

After CenturyLink-Savvis, telco consolidation will target the midmarket

Ben Kolada

Contact: Ben Kolada

CenturyLink’s Savvis acquisition, which closes today, is the largest telco-hosting deal on record, though we expect that it will be followed by a rise in smaller telco-hosting pairings. As the number of large hosting targets, which typically serve enterprises, continues to shrink, we anticipate that telcos that were unable to get their hands on prized enterprise properties will still look to enter this industry by consolidating the fragmented small and midsized hosting market.

Based on the most notable telco-hosting deals to date, Verizon’s Terremark buy and CenturyLink’s reach for Savvis, enterprises appear to be the primary market for large telcos looking to sell cloud services. However, we are noticing emerging interest from telcos looking to serve SMBs. Last month we saw Madrid-based telco Telefónica spend a reported $110m for cloud hoster acens Technologies, which serves more than 100,000 SMB customers throughout Spain. On a much smaller scale, in February local competitive carrier CornerStone Telephone announced that it was picking up consumer and SMB-focused Web hoster ActiveHost for an undisclosed amount.

We’ve written before that the greatest opportunity for telco-hoster combinations may actually be for regional and smaller telcos to buy smaller hosters. The hosting market is still fragmented, particularly among smaller providers, and many of these firms are experiencing capital constraints that are preventing expansion. Regional and local telcos will be able to take advantage of this fragmentation and acquire small complementary hosting providers without spending too much money, since smaller providers tend to garner smaller valuations, typically between 6-8 times last-quarter annualized EBITDA. However, if telco-hosting consolidation grows at this level, the acquired properties will most likely be colocation-focused, since most small hosting providers founded their business on colocation services.

EA gets serious about casual gaming

Contact: Brian Satterfield

In an expensive nod to the ever-increasing importance of online social media and mobile gaming, Electronic Arts has reached deep into its pockets to purchase Seattle-based PopCap Games for $750m. The transaction, which could end up costing EA as much as $1.3bn if the full earnout is hit, stands out as not only the priciest acquisition in EA’s history, but also the largest-ever deal in the online videogame sector.

This isn’t the first time that EA, best known for its console titles, has had to pay big to bring its gaming portfolio up to date. In 2005, the company entered the mobile sector with the $680m acquisition of Jamdat Mobile, then took out social gaming vendor Playfish for $300m in late 2009. However, the diversification has been slow. Sales of console-based games still accounted for 70% of EA’s total revenue in the just completed fiscal year. Overall revenue at the company was flat and EA guided for only slight growth in the current fiscal year.

In contrast, sales at social gaming upstart Zynga more than quadrupled last year. It’s all but certain that when Zynga, which filed its IPO paperwork earlier this month, hits the market, it will be valued higher than EA’s current market cap of just less than $8bn.

With the acquisition of PopCap games, EA now boasts six of 2010’s top 10 revenue-grossing iOS games and roughly 10 million daily average players on Facebook. But EA still has a long way to go if it hopes to grab a larger slice of Zynga’s daily average user base on Facebook, which currently numbers about 53 million.

Unify buys a new identity

Brenon Daly

Contact: Brenon Daly

It’s fairly rare for an acquiring company to take on the name of the target it has purchased, and it’s even more uncommon for the buyer to then dive headlong into the business it just picked up. And yet, that’s exactly what’s happening at Unify Corp, an old-line vendor now known as Daegis. (See our full report on the transition.) The name trade comes almost exactly a year after Unify spent some $38m in cash and stock to acquire its new namesake, Daegis. That was more, collectively, than Unify had spent on all of its other deals.

Before it added Daegis, Unify had been known for its software application development and migration tools. The 30-year-old company realized that there probably wasn’t much value to be created by being a fairly staid performer in a fairly staid market, so it went shopping. In 2009, Unify bought a small archiving and records compliance provider, AXS-One. It followed that up a year later with the much more significant purchase of Daegis, which got the company squarely in the e-discovery market. That business is now providing virtually all of the growth for Unify/Daegis.

While the new focus on the e-discovery space is a reasonable – and potentially profitable – move for Unify/Daegis, the transition does bring a fair amount of risk. The vendor already had to bump back the release of the product that was supposed to combine Unify’s archiving technology with Daegis’ e-discovery capabilities. Further, it recently scrapped any financial guidance as it sorts through its changes in business model. So far, Wall Street hasn’t really voted on the renamed and refocused company. Shares in Daegis, which also have the new symbol DAEG, are largely unchanged over the past month.