Dec. 20 (Bloomberg) -- Ericsson AB, the world's largest maker of wireless-network equipment, agreed to buy Redback Networks Inc. for $2.1 billion, taking on Cisco Systems Inc. in the market for Internet routers.

The cash offer of $25 per Redback share is 18 percent more than the closing price of $21.17 yesterday. San Jose, California-based Redback will keep its management team and become a unit of Stockholm-based Ericsson, the U.S. company said in a statement.

Ericsson gains customers including Verizon Communications Inc. and AT&T Inc. as demand increases for broadband networks that carry voice, data and video. Cisco equipment directs two- thirds of the world's Internet traffic.

``The router business was an obvious gap in their offering,'' said Joergen Vrenning, a Stockholm-based fund manager at Catella Capital, which oversees $3 billion including Ericsson shares. ``It is now a pretty big player in this field too. If anyone is able to bring these products to the market, it's Ericsson.''

The acquisition follows Alcatel's takeover of Lucent Technologies Inc. last month, which created the biggest maker of telecommunications gear. Nokia Oyj and Siemens AG are also combining their network units in a venture to take on Ericsson.

Shares of Redback rose $4.49, or 21 percent, to $25.66, closing above the offer price on the Nasdaq Stock Market. They've jumped 83 percent this year. Ericsson shares rose 0.35 krona, or 1.3 percent, to 27.9 kronor in Stockholm, bringing the gain this year to 2.2 percent.

Converging Networks

In October 2005, Ericsson agreed to buy Marconi Corp. assets for 1.2 billion pounds ($2.1 billion), its biggest purchase ever, to add fixed-line networks to its product lineup.

Ericsson has focused on buying makers of fixed-line network equipment as phone companies want to offer consumers so-called triple-play packages, which bundle phone, Internet and television into one subscription, with some even adding mobile services. Phone companies are also moving to Internet Protocol networks, which are cheaper to operate than traditional copper wires.

Ericsson, known mainly for its wireless products, is bolstering its fixed-line business to compete with Alcatel- Lucent, Nortel Networks Corp. and Nokia Siemens Networks.

The deal, expected to close before March, will add to earnings in 2008 after a ``slightly'' dilutive effect on profit next year, Ericsson Chief Executive Officer Carl-Henric Svanberg said in an interview following a press meeting in Stockholm.

``This is an acquisition of competence and people,'' Svanberg, 54, said at the press meeting. ``It will send a strong signal that we mean business in this field.''

High Premium, High Growth

``At first glance it seems that the premium applied to Redback's value is quite high but the market has to assess this as a premium being paid for high growth prospects,'' said Mark Bieberich, a Yankee Group analyst based in Washington.

When Alcatel offered to buy Lucent in a stock swap, the bid was 1.3 percent lower than Lucent's share price before the offer. Ericsson's purchase of Marconi's equipment-making units and international network services division, which generated about 75 percent of the U.K. company's sales, cost 1.2 billion pounds, compared with Marconi's market value of 731 million pounds.

``Next year will be the year of consolidation'' for equipment makers, Cisco Chief Executive Officer John Chambers said this month on the sidelines of the International Telecommunication Union's Telecom World Conference in Hong Kong. ``We're going to be more aggressive in all categories, so it won't be a fundamental change in our M&A strategy.''

Rising Earnings

Ericsson in October reported its first profit increase this year after record earnings at the mobile-phone venture with Sony Corp. Net income climbed 17 percent to 6.23 billion kronor from 5.31 billion kronor a year earlier.

The cost of a credit-default swap based on 10 million euros ($13.2 million) of Ericsson debt rose to 33,111 euros today from 31,938 euros yesterday, the most since Nov. 1, according to data compiled by Bloomberg.

The contracts are financial instruments based on corporate bonds and loans that are used to speculate on a company's ability to repay debt. An increase indicates deteriorating credit quality.

Redback Turnaround

Redback CEO Kevin DeNuccio, a former Cisco executive, pulled the company out of bankruptcy in January 2004. Redback sales are growing faster than larger rivals Cisco and Juniper Networks Inc. Sales have surged as customers such as AT&T and Verizon upgrade their networks.

Shares of Redback have jumped 69 percent since DeNuccio said on Dec. 7 that the company is taking sales from San Jose- based Cisco and from Juniper, based in Sunnyvale, California.

The deal came together in the past few weeks after talks that lasted several years, DeNuccio said in an interview.

Joining Ericsson ``gives us incredible power to bring the triple play together,'' DeNuccio, 47, said. No jobs will be lost because ``we need to keep everybody we've got and we've got to grow.''

Third-quarter revenue at Redback jumped 95 percent to $70.9 million. Sales at Cisco, whose equipment directs two-thirds of the world's Internet traffic, increased 25 percent in the quarter ended in October. Revenue at Juniper, which is second to Cisco, rose 5 percent.

Very Powerful

Cisco leads the market for so-called edge routers, Redback's main business, with 57 percent of sales in the third quarter and picked up share for the third straight period, according to researcher Dell'Oro Group. Juniper has lost market share for a year and is second with 16 percent. Redback had 7 percent, in line with the previous period, Dell'Oro said.

``Everyone needs something to compete with Cisco,'' said Mark Mowrey, an analyst at Al Frank Asset Management in Laguna Beach, California. ``Redback allows Ericsson to deal with something that was lacking in their router line.''

Redback is helping build 12 of the top 20 networks in the world.

``With Redback's product, the demand in the marketplace and Ericsson's position, the combination is very powerful,'' said Ragu Gurumurthy, a principal at Deloitte Consulting LLP in New York, who works with phone and networking companies.

Citigroup Inc. and SEB Enskilda are Ericsson's financial advisers in the transaction. UBS AG is advising Redback.

Ericsson was founded in 1876 when Lars Magnus Ericsson opened a repair shop for telegraph equipment. The company slashed more than half of its workforce between the end of 2000 and mid-2004 as phone companies reined in spending.

To contact the reporter on this story: Ari Levy in San Francisco at alevy5@bloomberg.net.

Last Updated: December 20, 2006 16:14 EST