Why an IBM purchase of Sun would make sense
This was originally posted at ZDNet's Between the Lines. Also, see update at bottom.
IBM is reportedly in talks to buy Sun Microsystems for $6.5 billion and the deal is long overdue. The companies mesh on the open-source software front, Sun is struggling, and IBM can consolidate some server market share.
First, the headlines. The Wall Street Journal is reporting that IBM could acquire Sun as early as this week. IBM would pay all cash for Sun. The Journal also reported that Sun has approached a number of large companies about an acquisition; a move that throws cold water on CEO Jonathan Schwartz's everything-is-fine video.
Sun CEO Jonathan Schwartz
(Credit: Stephen Shankland/CNET)Behind the scenes here, we've frequently had chats about how IBM would take out Sun. The only real debate was whether Big Blue would acquire Sun in parts or as one sum. The working assumption was that Sun would be broken up and sold in parts, but the IBM deal also works nicely. Here's why the deal makes some sense:
IBM can acquire server and storage share. Sun still has a lot of hardware on the market in key verticals such as finance and telecommunications. The problem is that Sun is reliant on U.S. sales and that's not a fun place to be right now. With Cisco Systems entering the server market, the profit margins could be squeezed--especially if the server essentially becomes a storage and networking box too. By acquiring Sun, IBM gets more scale so it can endure the margin squeeze. That same argument holds for storage hardware too.
There are issues to be worked out on the hardware side though. IBM has refrained from commodity servers and Sun plays in that space. Meanwhile, servers run on different chips--Sun has Sparc and IBM has the Power architecture.
The time is now. IBM is a software and services company, but it needs hardware, which would be roughly a third of revenue with Sun, to sell its other offerings. Hardware is often the entry point for IBM's software and services. With a stronger hardware business it can fend off HP in the marketplace.
Sun is a powerhouse in Unix, which is still a key platform, but isn't exactly gaining in the market these days. IBM could acquire Sun and establish two key beachheads: Linux and Unix. The former will ultimately take over for the latter in the data center. IBM can play both and sell you the services to migrate while it's at it. Bonus for Big Blue: Sun would enable it to pressure HP's Unix-based businesses too.
One problem: IBM sells AIX Unix servers. Sun sells Solaris (hat tip to a reader pointing that out).
Sun has to do something. Sun is a company that has to transition a legacy hardware business to one modeled more on open-source software and services. That's a wrenching change that may not work out. An exit ramp makes sense right now. Besides, Sun was reportedly turned down by Hewlett-Packard and Dell was mum.
This is about HP--NOT Cisco. The initial headlines will paint IBM's move as a reaction to Cisco's entry into the data center. The reality is HP is the target. HP acquired EDS to directly take on IBM. IBM is returning the favor by squeezing HP on hardware.
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Open-source software. Sun's future is offering an open-source stack of software led by MySQL at its core. IBM is all about open source. The two together make a lot of sense and IBM could pull MySQL, Lotus, OpenSolaris, and other parts together in a nice stack. In addition, Sun's open-source software needs distribution--it recently did a deal with HP. IBM has distribution galore.
One problem: There's a lot of software overlap here. In databases, IBM has DB2 and Sun has MySQL.
Java. Java is arguably Sun's best asset, but the platform was never monetized. Perhaps IBM will have better luck.
Cloud computing. Sun has some interesting ideas on cloud computing and its plans could work. Sun has also made targeted cloud-computing acquisitions. Meanwhile, Sun has a cloud-computing press conference Wednesday morning, a shindig that will be dominated by IBM talk now. A few folks seemed to buy that Sun-as-cloud-player marketing, but it really looks like a relabeling to me. IBM could absorb Sun's plans in its big cloud services offering.
It's about consolidating the data center. Data center managers will want fewer throats to choke and Cisco isn't going to make life easier. Sun can allow IBM to consolidate a data center rival and bring things back to equilibrium now that Cisco has entered the market.
What could go wrong? A few items. For starters, there are regulatory concerns. Who knows whether the Obama administration would approve this deal. IBM would have roughly 42 percent of the server market with Sun, according to IDC. HP, however, would be second with 29.5 percent. With Dell a strong No. 3 with 11.6 percent share the IBM-Sun deal should pass scrutiny. But it is a wild card.
Here's a look at the server market share standings:
And then there's culture. If you want to know the big cultural difference, look no farther than Schwartz's ponytail vs. IBM's typical look. IBM is all business and Sun is sort of business with a lot of Silicon Valley shtick. That said Sun's workers may find themselves relieved by the IBM deal. Sun's upcoming struggles are fairly obvious and IBM looks like a great option for those who choose to look ahead.
Update 7:04 a.m. PDT: Pondering the valuation: As of its most recent quarter, Sun had $2.6 billion in cash, equivalents, and short-term marketable debt securities. So the rest of the business is worth $4 billion roughly. One working theory is that IBM would potentially buy Sun and sell the hardware business to Fujitsu, a close partner of Sun. IBM could license Solaris, since it would own the code, to Fujitsu. Assuming IBM does sell some hardware assets to Fujitsu for $1 billion or so, the Sun acquisition doesn't look so large.
Meanwhile, analysts are mixed on the deal. UBS analyst Maynard Um says in a research note:
Our Sun thesis has been that there is a potential restructuring story given relative inefficiencies. We do think IBM would be in a position to take out cost more quickly, however, we expect Sun revs to continue to be pressured in FY09 & FY10 given its reliance on high end servers and limited ability to monetize its software. And while IBM is certainly financially capable of purchasing Sun, we would note that a $6.5bn acquisition would be large even by IBM's standards, and would also be a deviation from IBM's current strategy of tuck-in acquisitions.
Meanwhile, Sun shares had a predictable response to the news, soaring approximately 72 percent in premarket trading.
Larry Dignan is editor in chief of ZDNet and editorial director of CNET's TechRepublic. He has covered the technology and financial-services industries since 1995. 
Buying Sun for $6.5b is not realistic when they have annual revenues of $13b. Most companies sell for a multiplier of revenue. A 3x multiplier would mean that $30+B could be required in cash or equity to buy Sun. A 0.5 multiplier when the company has cash on hand of about $3b, half the proposed buy-out price? I don't think so.
How many investors who bought Sun for more than $10/share will take this loss rather than holding on for the next wave?
By the way, what's IBM's cash/debit position?
On the other hand, stories like this make for great short selling ....
Yes companies sell for a multiple of revenue. It's also true they sell for their percieved value (which as it happens is normally a multiple of revenue).
Sun's stock is down. Sun though is a viable company. Stock price doesn't always reflect a companys real worth. Merely the latest trend resulting from trading.
MySQL is important, too, in its own way. But Oracle platforms are clearly in the center of IBM's target markets. Here is a way they could participate without competing head to head with Oracle versus their DB2 (at least initially).
And, there goes the JAVAOS (IBM's OS/2 + Sun's Java) being an 800lb Gorilla in the "Cloud" Space!
This deal will impact NetApp since IBM OEMs their products and will not make sense to do that anymore after the merger ....
This deal will impact Redhat too, since IBM would make more money selling Solaris than Linux on X86...
I see no major problems in AIX and Solaris integration, the future will be definitely be Solaris, and AIX customers need not to worry about migration since Solaris will have AIX Branded Zones to run their apps without any change... They could even brand the Power version as SolaiX :-)
This is a good deal for IBM if it goes through... The price is quite low, 0.5 times revenue, however another bidder could show up... or the deal might fall, it's not like IBM did not tried to purchase sun before ...
To begin with all this -- What is IBM lacking (to some extent) which its competition has a upper hand on ?
Hardware and OS(platform). Now please don't say that IBM is a hardware company and AIX is just brilliant.
We all know this, and the author also pointed out -- IBM is a software and services company.
With Sun, IBM will gain into its SMB clients and that's where IBM can sell its software and services.
Internal in IBM, this deal might cause strife between a SOLIX and a LINUX group, and they might do a balancing act on this.
SUN has been a shame on the name of opensource and Java. They just have it and don't do much productive. IBM can change that. IBM is a big player in moving Opensource and transforming it as a business, real business.
The deal will impact many -- RedHat, NetApp, Oracle, ... to name few.
And then there will be layoff's and we will see some golden parachute's tooo :) Funny none of this is mentioned anywhere.
- by JCPayne March 18, 2009 10:53 AM PDT
- Dell's stock is like $09.00 a share... . Apple's is like $101.00 a share right now... Apple buyout dell!!!! Then grab Yahoo and voilla instantly you'd be in the search engine business too and can compete against Microsoft in almost everyway.
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- by idfubar March 22, 2009 3:36 PM PDT
- Pooling-of-interest acquisitions have been banned in the US since 2001... Nice dream though - maybe you can convince Apple to dilute common shareholder equity by issuing some shares or by taking on a massive amount of debt?
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