The 3PAR saga finally came to a close on Sep. 2 with Dell Inc. (DELL) beaten by Hewlett-Packard Co. (HPQ) in an 18-day bidding war. The final price tag of 3PAR is at $33 a share, or $2.35 billion, almost twice Dell’s initial offer at $18 a share last month.
So, does this acquisition make sense for HP?
Building from Scratch?
There is considerable cost to build technology from scratch. By the time you factor in the cost of hiring the people with the requisite skill set, build a cohesive R&D program, patent obstacles, and the most important factor of all—time, it is well worth it to acquire the technology at any price below $40 a share.
Time is Money
In evaluating the 3PAR acquisition one must factor in the cost of being able to sell products, consulting expertise, bundled product solutions to customers ASAP versus building the technology in house, dragging out another acquisition, or failing to make a decisive bid which closes the deal.
And most important of all their time and resources resulted in a deal, unlike all the wasted time and money associated with a failed acquisition like the Exelon attempted acquisition of NRG, which dragged on for over 6 months, and they ended up still raising the original bid, only to be turned down as asset prices increased in value in the Utilities sector.
In evaluating the worth of 3PAR to HP, HP recognizes that with the increased sales channels which HP can provide through their already existing partnerships, that 3PAR will be able to generate extraordinary growth well beyond the 52% current growth of 3PAR revenues.
Expect this number to be well over 100%, and exponentially growing over the next 3 years. How do you put a price on a deal difference maker, HP will now bundle this technology into their total product solution when bidding upon new contracts, and this new technology will enable HP to outcompete other bids, and bring in new business revenue because they can now offer companies a one stop solution to their enterprise needs.
Zero – Sum Gain
There is a certain value gained from blocking a direct competitor from getting a technology that they wanted which they feel could help them better compete against your firm. Sure, Dell can go buy some other storage company, but it still will not be cheap since all the prices for these companies have increased as the market has revalued the entire sector due to market forces.
Furthermore, this is the storage firm that Dell wanted--3PAR--was their first choice. And there is a reason they tried so hard to continue the fight even though they were up against a larger balance sheet.
In short, 3PAR created value for Dell as an acquisition, and they modeled some of the same sales and portfolio synergies that HP did, which raised the value of 3PAR far above the originally undervalued market price.
High End Data Storage Technology - A Mispriced Sector
The bottom line is the market mispriced the entire sector, as the technological landscape was changing, the strategic importance of storage was also dynamically changing, and the market was slow to realize this fact.
The burgeoning growth in cloud computing puts a premium on strategically focused flexible storage technology, and market prices were behind the curve in this sector, similarly to how the changing growth dynamics of the emerging market economies such as China and India, put a premium on raw materials and commodities.
It is always smart to buy firms in a deflationary market. The acquiring firm gets real value from their purchase by buying when asset prices, especially for equities are dirt cheap right now. Compare this to buying at the top of the tech boom where asset prices for technology companies were sky high in terms of price to earnings multiples, and this leads to boards overvaluing the takeout price even further.
So, the cost of an acquisition at any price given the low multiple base is quite attractive in a deflationary environment. For example, when the Bond Bubble bursts, and all this capital comes flooding into equities, and equities multiples expand, it is quite possible that 3PAR would be trading at $20 a share as opposed to $10 a share, so the initial starting point would be much higher in an inflationary market environment.
Inflationary Cycle Ahead
It is quite apparent that the next cycle is going to be exemplified by an abundance of inflation in all asset prices, but especially so in equities and in high demand areas like technology, energy, food, and raw materials. In short, the value of the US Dollar is going to depreciate, and any assets are going to appreciate in value.
So a firm that spends 2 Billion today in a deflationary environment, will not be able to get the same value for that 2 Billion in two years in the midst of an inflationary environment. The last thing a firm should be doing is holding onto cash in a deflationary environment. Instead a firm should be buying all the assets they can before the next cycle of inflation occurs. A firm gets more bang for their buck today, all prices are only going up in the future.
Market Share Gains
The 3PAR acquisition enables HP to take full aim at both IBM and EMC and now puts them on much better footing to compete in the lucrative High End External Data Storage Market. HP currently ranks the third in that segment with 11% market share, behind EMC with 25% market share, and IBM with 14%.
Expect HP to start taking market share from IBM, EMC and NetApp in the 4th quarter of this year, and be fully established as the number two player, and breathing down the neck of EMC by the 4th quarter of 2011. This is the type of growth in taking market share in important high margin categories from competitors that is often underappreciated in evaluating the effective cost of the acquisition that is strategic in nature.
On Final Analysis
The recent acquisition of 3PAR on behalf of HP makes both strategic and financial sense upon analyzing the underlying economic and philosophic factors that are relevant in this case. The real value is that the acquired technology is already marketable and in demand, and you have to expect to pay a premium for acquiring said technology.
Your biggest fear as an acquirer should be an acquisition with no other suitors. Yes, you might get a lower price, but ask yourself why you’re the only bidder? Is the company that you are acquiring strategically relevant to your competitors? Well, in the case of 3PAR we already know the answer to that question.
Disclosure: No Positions
Dian L. Chu, Sep. 5, 2010