International Business Machines Corp’s (IBM) purchase of Red Hat Inc is a US$33 billion bid aimed at catapulting the company into the ranks of the top cloud-software competitors.
The cash deal, IBM’s biggest-ever by far, boosts the 107-year-old computer-services giant’s credentials overnight in the fast-growing and lucrative cloud market and gives it much-needed potential for real revenue growth.
The company once synonymous with mainframe computing has been slow to adopt cloud-related technologies and has had to play catch-up to market leaders Amazon.com Inc and Microsoft Corp in offering computing and other software and services over the Internet.
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“The acquisition of Red Hat is a game-changer. It changes everything about the cloud market,” IBM chairman and chief executive officer Ginni Rometty said in a statement on Sunday.
IBM has seen revenue decline by almost one-quarter since Rometty, 61, took the CEO role in 2012. While some of that has been from divestitures, most is from declining sales in existing hardware, software and services offerings, as the company has struggled to compete with younger technology firms.
Rometty has been trying to steer IBM toward more modern businesses, such as the cloud, artificial intelligence and security software with inconsistent results.
In its third-quarter earnings report, IBM disappointed investors, who were seeking more progress in those areas after six years of declining sales that had only recently started to show gains. Still, the improvements had been coming largely from IBM’s legacy mainframe business, rather than its so-called strategic imperatives. Cloud revenue grew 10 percent in the period to US$4.5 billion, but that was slower than the 20 percent expansion in the second quarter.
The Red Hat deal could signal to investors that IBM was not as well positioned in cloud as it had been claiming, Citigroup Research analyst Jim Suva said.
“We expect investor skepticism around the deal given IBM’s messaging that it is well under way in its transformation,” Suva said.
Investors have grown impatient. The stock is down 19 percent this year and 31 percent over the past five years, giving IBM a market value of US$114 billion.
The Red Hat deal represents an admission by Rometty that in-house growth was not going to be enough to keep IBM from falling permanently behind in a market that is growing in importance and size.
Acquiring Red Hat makes IBM “a credible player in cloud now,” Bloomberg Intelligence analyst Anurag Rana said. “This gives them an asset that looks forward and not backwards.”
IBM is to pay US$190 per share in cash for Raleigh, North Carolina-based Red Hat, according to a statement from the companies on Sunday, confirming an earlier Bloomberg News report.
That was a 63 percent premium over Red Hat’s closing price of US$116.68 per share on Friday.
Rometty said IBM “paid a very fair price.”
“This is a premium company. If you look underneath, this is strong revenue growth, strong profit, strong free-cash flow,” she said.
Revenue at Red Hat, which sells software and services based on the open-source Linux operating system, is expected to top US$3 billion for the first time this year as the company’s Red Hat Enterprise Linux product attracts business from large customers.
Last quarter the company reported a record 11 contracts valued at more than US$5 million each and 73 over US$1 million, according to a note from JMP Securities analyst Greg McDowell.
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