Succumbing to Amazonian Cloud Rivals, Rackspace Goes Private

Apollo Agrees to Buy Rackspace in $4.3 Billion Deal
  • Apollo agrees to buy cloud-services provider for $4.3 billion
  • Financial muscle, scale of Amazon, Microsoft, Google too much

Low online prices and convenience offered by Amazon.com Inc. usually hammers rival retailers. Now it’s happening in the world of corporate IT services.

Apollo Global Management LLC is buying Rackspace Hosting Inc. for $4.3 billion after the cloud-services company failed to keep pace with cheaper and broader offerings from Amazon, and other large technology companies like Microsoft Corp. and Google.

The New York-based private equity firm agreed to pay $32 a share in cash for Rackspace, according to a statement Friday.

For Rackspace, the deal marks the end of its public struggle against bigger cloud rivals that offered lower-cost computing power, storage and other IT services over the internet, crimping its ability to compete. Rackspace recently started helping companies shift their IT operations to data centers run by Amazon and Microsoft, but it wasn’t enough to make up for declines in its traditional businesses. Becoming a private company will give Rackspace time and space to complete the transition to a services business.

Rackspace is “gaining traction, but they’re very small,” said Joshua Yatskowitz, a Bloomberg Intelligence analyst. “Bringing it out of the public eye can make that transition a lot easier.”

Rackspace went public in 2008 and was a high-flying growth company for several years, benefiting from the early shift by companies to running work software on rented computer servers over the internet, rather than their own on-premise data centers.

But the rise of Amazon Web Services, the online retailer’s cloud business, helped end that run in 2013. Early that year, AWS cut prices for its cloud offerings seven times. Rackspace’s results and forecasts missed analysts’ estimates and its shares plunged as AWS gained market share.

In 2014, the company hired Morgan Stanley to seek strategic options that could have included teaming up with bigger technology companies. That decision came amid fresh price cuts. Google, which was also trying to catch up with AWS, slashed prices on some of its cloud-computing services by up to 85 percent in March 2014. Amazon followed with more price cuts the next day, triggering a price war that continues today.

Rackspace and other smaller players struggled to match those prices because they didn’t have as much scale. Amazon, Google and Microsoft run their own huge web businesses that require hundreds of thousands of computer servers, along with networking gear and other equipment packed into energy-sucking data centers around the world. Buying and building such infrastructure in high volume gives these web giants price advantages with vendors, which they pass on to cloud customers.

Google’s parent, Alphabet Inc., Amazon and Microsoft have combined cash holdings of more than $200 billion compared to Rackspace’s less than $1 billion. Google spends billions of dollars a year upgrading and maintaining data centers and building new ones. Without that ability, Rackspace had to start advising companies on how to move and run their data and software in the data centers of other leading cloud providers. It struck deals with Microsoft and Amazon, but that didn’t make up for losses elsewhere.

"Rackspace’s public cloud services have been losing market share to the hyperscale providers," Yatskowitz said. "The company has said current customers haven’t been churning, but it is seeing a smaller portion of new workloads, which have increasingly gone to the hyperscale players."

Apollo’s acquisition represents a 38 percent premium to Rackspace’s closing price on Aug. 3, before a Wall Street Journal report about the potential sale boosted the shares. The stock has risen about 30 percent since the news about a potential sale. The company has lost about 60 percent of its market value since its shares peaked above $80 in early 2013.

“This transaction will provide Rackspace with more flexibility to manage the business for long-term growth and enhance our product offerings,” Graham Weston, chairman and co-founder of Rackspace, said in the statement.

As part of the deal, funds managed by Searchlight Capital Partners will make an equity investment in the San Antonio-based company.

Last year, Apollo acquired Presidio Inc., an information-technology consulting company. The private-equity firm also has taken a number of companies private this year, including home-security company ADT Corp., which at $12 billion was the biggest private equity-backed acquisition announced this year. 

Apollo’s advisers for the deal are Citigroup Inc., Deutsche Bank AG, Barclays Plc and RBC Capital Markets. Paul, Weiss, Rifkind, Wharton & Garrison LLP acted as legal adviser. Goldman Sachs Group Inc. acted as Rackspace’s financial adviser. The company’s legal adviser was Wilson Sonsini Goodrich & Rosati. The deal is expected to be completed in the fourth quarter.

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