Sun shares plummet on reports of IBM withdrawal

Shares of Sun Microsystems suffered a staggering jolt Monday, following reports that the hardware maker rejected IBM's formal bid over the weekend and Big Blue has withdrawn its offer.

Sun's stock plummeted nearly 23 percent to $6.68 a share in premarket trading, following reports in The New York Times and The Wall Street Journal that the company rejected a formal buyout bid of $9.40 a share or less, and terminated an exclusive negotiating agreement, prompting IBM to withdraw its offer.

Sun's shares closed at $8.49 a share during the regular trading session on Friday.

The storage and server maker's stock, while significantly down, has not yet touched the $4.97 a share level it was trading at before reports of the merger talks first surfaced in mid-March.

Sun is expected to face further shareholder pressure, in light of the reported breakdown in talks, Toni Sacconaghi, an analyst with Sanford C. Bernstein, stated in a research report Monday morning.

Sacconaghi noted that Sun's shares averaged $4.47 a share in the three months prior to reports of the merger talks, meaning that IBM's offer of $9.40 a share was a 110 percent premium.

He further stated:

Given the size of the premium and the fact that Sun's board has presided over a decline in the company's stock price over the last eight years from over $250/share to less than $5 prior to the acquisition talks being leaked, we believe that (Sun) is likely to face significant shareholder unrest, similar to what occurred when Yahoo declined Microsoft's offer. We expect Sun to issue a public statement detailing its rationale.

In the Yahoo-Microsoft merger talks last year, Yahoo, which had been trading in the high teens before the offer, rejected Microsoft's $33 a share buyout offer. That brought the wrath of one of Yahoo's large investors, Carl Icahn, who launched a proxy fight to attempt to unseat Yahoo's board of directors with his own slate. The two parties eventually reached a settlement, with Icahn and two of his representatives receiving seats on Yahoo's board.

Potential backlash from failed Sun-IBM negotiations could distract Sun's management and board by forcing them to justify their rejection rather than focusing on their struggling business, Sacconaghi noted.

The emergence of IBM-Sun buyout talks during the last two week of March, the end of Sun's fiscal third quarter, could end up affecting Sun's earnings because up to 40 percent of Sun's revenue is generated in the last two weeks of a quarter, Sacconaghi stated.

He also noted that customers are likely to have lingering concerns about Sun's future. And the prospects of Sun finding another buyer do not look bright, Sacconaghi said, adding these comments about the company, which trades under the stock ticker "JAVA":

While press reports suggest that the fall-out in discussions may be attributable to brinkmanship, we do think that a collapse in the talks has considerably weakened Sun's hand, as we see no other likely suitors, and a considerably higher potential for weakened (fiscal year third quarter) results.

According to press reports and our contacts, JAVA approached most logical buyers several months ago, with IBM being the most interested. While we believe that HP makes the most sense given its cost focus, physical proximity to JAVA (leading to more facile facilities consolidation), and more complementary product lines (HP is not as strong as IBM in Unix), the company appears fully focused on its acquisition of EDS, and a coincident deal to acquire Sun may prove to be overly distracting. JAVA's higher end server product portfolio would be very complementary to Dell, but we believe that an acquisition would be too pricey and represent too hearty an integration challenge for Dell.

While Sun's shares tanked on reports that merger talks with IBM have broken down, shares of IBM were down just 1.88 percent to $100.30 a share in premarket trading Monday.