Tech: The Return of Risk-Taking
The surge in deal activity is a sign of broader change: Risk-taking is making a comeback in the tech industry. The first three weeks of September saw $19.3 billion in technology mergers and acquisitions, up from $2.5 billion in August and $11 billion last September, according to Thomson Financial. Meanwhile, more companies are filing for initial public offerings, including such closely watched startups as Watertown (Mass.) battery maker A123 Systems. Venture capital investments are perking up, too. The micro-blogging service Twitter has raised a round of funding that gives the nearly revenue-free startup a valuation of $1 billion, according to several reports.
All this activity is being driven by a central idea: The worst of the recession is over, and it's time to prepare for better times. Economists and other experts say many corporations put off technology investments during the downturn and are likely to step up spending to generate the productivity gains vital to the bottom line. Mark M. Zandi, chief economist of Moody's Economy.com (MCO), predicts that tech spending in the U.S. will increase 4% in 2010 and 10% in 2011, after dropping 10% this year. "I think we are at a turning point for tech," he says.
If that's true, it bodes well for the overall economy. Zandi says that so many other important sectors of the economy, including finance and real estate, remain troubled that technology is one of the few industries that can bolster the U.S. recovery. In addition, since consumer spending is likely to remain weak, economic growth will hinge on business investment and exports, two areas driven by technology.
There are almost certainly more deals to come, say bankers, tech executives, and investors. Many tech companies have strong balance sheets and the cash flow to finance acquisitions. Credit markets are improving, which should lubricate the deal flow. Most important, buyers and sellers are finding it easier to agree on price. Earlier this year, with their stock prices at long-term lows, companies were reluctant to sell. Today buyers want to strike before asset prices run up any more. "Now that valuations have come back a bit, the value perceptions of buyers and sellers are a little more aligned," says eBay President and CEO John Donahoe.
Dell's deal for tech services provider Perot Systems on Sept. 21 is one example of the shift in psychology. Dell executives say they began talking to Perot Systems Chairman Ross Perot Jr. about a deal in 2007, but Dell also held discussions with other tech services providers, and many were holding out for better prices. Negotiations with Perot heated up over the summer as the stock market surged. Ultimately, Dell paid a 68% premium for Perot, and it will still be able to pay the entire $3.9 billion purchase price in cash thanks to its flush balance sheet.
CHECKBOOK AT THE READYChairman and CEO Michael S. Dell said the price was justified and Perot will help fuel Dell's growth and strengthen its competitive position. In the meantime, Dell is considering additional deals and keeping its checkbook handy. "There's more we can do in service, there's more we can do in hardware, and there's more we can do in software," said Brian Gladden, Dell's chief financial officer.
Bankers and analysts point to other tech segments that look ripe for mergers and acquisitions. Especially hot, says Scott Kessler, an equity analyst at Standard & Poor's, are semiconductor equipment makers and software companies that deliver products over the Web, including Taleo and SuccessFactors. He adds that small to midsize software companies such as Tibco Software (TIBX) and Sybase (SY) could also be targets. Amity Millhiser, partner and practice leader of PricewaterhouseCoopers' Silicon Valley transaction services group, says would-be buyers are on the hunt. "Tech companies are really jumping in [to look for deals]," says Millhiser. "There's a lot of pent-up demand."
Sebastian Thomas, head of U.S. technology research for RCM Capital Management, which manages $13 billion in assets, says developments such as cloud computing will likely push giants such as Cisco (CSCO) or EMC (EMC) to shop for storage, networking, and systems management technology. Brocade Communications Systems (BRCD), 3PAR (PAR), BMC Software (BMC), Riverbed Technology (RVBD), and Blue Coat Systems (BCSI) could all attract suitors, says Thomas.
Newfound optimism is beginning to spill over into other segments of the economy. There have been nine consecutive weeks in which companies have filed the paperwork for IPOs, the longest streak in a year. Among the companies with upcoming offerings are hotel enterprises, retailers, makers of consumer goods, and a pork processor looking to raise $2 billion. Overall, mergers and acquisitions are down about 40% from a year ago, but a few pockets of growth are emerging. This month, deal volume is up from a year earlier in the consumer staples, real estate, telecom, health-care, and media and entertainment industries. Says Zandi: "Slowly but surely confidence will build across the economy."