August 8, 2006 9:37 AM PDT

Brocade to buy McData

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Brocade Communications Systems announced Tuesday that it plans to buy switch maker McData in a stock deal valued at $713 million.

Brocade's planned acquisition marks further consolidation in the storage area networking (SAN) market, and it comes as McData faces overall weakness in demand for some of its high-end enterprise products.

Brocade will pay three-quarters of a share of its common stock for each share of McData's A and B common stock. The deal is valued at $4.61 a share, a 62 percent premium over McData's closing price on Monday.

Last year, Brocade unveiled its Tapestry product line, which is designed to improve customers' management of information stored in their data centers. Brocade has traditionally focused on the low-end market for storage area networks, while McData concentrated on high-end SAN switches.

Merger discussions between the two companies began earlier this year, as Brocade looked to achieve short-term gains through the cost savings and efficiencies of running a combined SAN company, said Tom Buiocchi, Brocade's vice president of marketing.

In the long term, Brocade is seeking to reinvest those cost savings into its research and development department, to quickly address data center management problems, Buiocchi said.

"One of the biggest opportunities we have identified is file area networks," Buiocchi said, citing the central management of Microsoft Excel spreadsheets to PowerPoint presentations as one example.

Brocade will likely migrate to a single platform eventually, but the shape it will take is too early to tell, Buiocchi said. He noted that the integration team for the combined company cannot do any work until the deal closes.

Last year, Brocade and McData unveiled the first generation of their interoperability products, and that work will continue postmerger, Buiocchi added.

Brocade, headquartered in San Jose, Calif., also announced its preliminary third-quarter results, which point to higher revenue and earnings than the company had forecast.

McData, however, has not been as fortunate. The Broomfield, Colo.-based company issued a warning Tuesday, indicating its preliminary second-quarter earnings and revenues will be less than forecast.

"During the second quarter we experienced weakness in (Europe, Middle East and Africa), as well as certain regions within North America," John Kelley, McData's chief executive, said in a statement. "Additionally, overall enterprise demand was down with some of our high-end products."

News of the McData acquisition sent Brocade's stock tumbling 17 percent, to $5.07 a share, in early trading on Tuesday.

"Investors are probably reacting to the price Brocade is paying for McData," said Sam Wilson, an analyst at JMP Securities.

He noted the deal nonetheless makes sense and will bring Brocade a huge base of customers in the high end of the SAN market.

Over the next year or two, the transaction is expected to lead to cost savings and better operating results, as well as improved profit margins, for Brocade, Wilson added.

The acquisition, which is expected to close as early as the first quarter, comes as storage makers undergo consolidation. Earlier this year, Iomega acquired managed services company CSCI, while last year, storage giant EMC announced plans to acquire Rainfinity.

Brocade's pending acquisition of McData marks another turn of events for the high-end SAN fibre switch maker. In 2001, McData span off from EMC in a successful initial public offering. But McData has since faced increasing challenges because the Fibre Channel standard on which it relies for data transfer in storage area networks is seeing steep competition from iSCSI, an Internet Protocol-based standard for linking data storage devices.

CNET's Stephen Shankland contributed to this report.

See more CNET content tagged:
McDATA Corp., Brocade Communications Systems Inc., storage area networking, consolidation, cost savings


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