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June 08, 2007
M&A advisor questions whether Avaya buyout will pay off
I thought that TPG and Silver Lake's $8.2 billion buyout of corporate phone-maker Avaya made a lot of sense. Sure, the company is in a tough business and faces competition from all sides, but buyout firms are supposed to be good at mananging those challenges. Telecom deal advisor Paul Bowen, founder of Bowen Advisors, in Cohasset, Mass., is more skeptical. He sent me a long email questioning the wisdom of the deal. Thanks, Paul. I'm passing along the full text of his analysis. What do other people think?
"When the deal dust settles, the interesting question will be how will Avaya's new ownership expect to compete more successfully? My strong belief is that the company will struggle. This future uncertainty has nothing to do with Avaya and everything do with industry dynamics.
"What are these industry dynamics of which I speak? Enterprise telephony is rapidly shifting away from Time Division Multiplexing (TDM)-based Private Branch Exchanges (PBX) to hosted IPCentrex solutions and PBXs. Whether it's BroadSoft with its hosted IPCentrex solutions, Asterisk with their low-end Internet Protocol (IP) PBX or the ever present IP-focused behemoth Cisco, competitors are attacking Avaya's core business from all sides.
"At the high end of the market, as defined by size of the corporate customer, one can only conclude that the Private Branch Exchange (PBX) business lacks global scale. Nortel and Lucent (Avaya) historically have had leading market share but struggled to translate that share into new geographies. Siemens has never held a meaningful presence in a foreign market with the exception of its headquarters in Germany. Alcatel has at best been a number four market share player. While Cisco has arguably exhibited the best execution over the last five years, a closer look reveals that the CallManager strategy has much more to do with selling packet-based routers and switches than it does with selling PBXs and IP phones. Cisco's sheer size and raw profitability has allowed this strategy to work in an era of declining revenues and weakening of traditional PBX players.
"The high end of the PBX market has five years of declining revenues before ultimate capitulation. The capitulation will primarily come at the hands of a hosted service provided by traditional service providers (e.g., Verizon). Enterprise IP connectivity and the power of Voice over Internet Protocol (VoIP) allows service providers to finally provide differentiated services that are simply too powerful and have low price points for corporations to resist. In the middle of the market, from 400 seats to 10,000 seats, desktop telephony, provided by the likes of Microsoft, BEA, Oracle and now Google (a.k.a., the data or internet players), stands to revolutionize your "telephone experience" no less radically then e-mail revolutionized corporate communications.
"At the low end, generally defined as "key systems" or sub-400 seat accounts, the transformation is no less radical. The Asterisk open source movement is well beyond a fad and is now capturing significant portions of the market. Yes, open source, the same concept that has fueled Linux use in corporate operating systems, has also found its way into corporate telephone systems. It works. It's cheap. And it improves nearly every day. Avaya acquired Nimcat Networks to compete in this market, but has not seen the industry share they expected.
"Truth be told, Avaya has done an admirable job protecting its installed corporate and call center customer base while transitioning from analog to digital; TDM to IP; Primary-Rate Interface (PRI) to Session Initiation Protocol (SIP). The current management team deserves credit because they have generally delivered for their large corporate customers and, in so doing, generated nearly a 25 percent premium for Avaya shareholders.
"Now fast forward to the likely scenario we will encounter under Silver Lake and TPG ownership over the next five years. Enterprise telephony has reached an inflection point that will leave the business looking nothing like it has over the last 100 years. The question to ask: has Avaya's leadership already figured this out?
"In summary, one can only conclude that the corporate chieftains at Avaya knew exactly what they were doing when they agreed to sell to private equity buyers. The potential corporate acquirers, knew precisely what they were doing when they allowed private equity buyers to acquire Avaya. Which begs the second question that reporters and bloggers have not been asking; did the private equity buyers at Silver Lake and TPG have any idea of what they were getting into when they acquired Avaya?"
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