Fri, January 27, 2023

IBM Shares Slide on Cloud Merger

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IBM Corp’s $34 billion deal to acquire Red Hat Inc. drove shares in the small but fast growing software maker 50 percent higher on Monday, reflecting the huge premium IBM is paying to ward off any potential challenger bids.

At $175, the shares of Red Hat were still trading around $15 short of the $190 price agreed by the two companies in Sunday’s announcement, and analysts said that that pointed to some remaining nerves among investors over the chances of the deal closing.

The breakup fee of the deal, which would fall as the largest on record in the tech sector, has yet to be announced and a high fee would also deter Red Hat from entertaining other buyers.

IBM’s stock was down about 5 percent on news of the deal, a sign that investors were worried that, at 10 times 2019 projected sales, it had overpaid for the deal.

The company’s Chief Executive Officer Ginni Rometty said in an interview that was aired early on Monday that she felt the deal was done at the right price.

“This is a very fair price… (Red Hat CEO Jim Whitehurst) has built a great company, and unlike others, high growth, high profit, and cash and so this is why I think really those are important things for our investors,” said Rometty.

One brokerage, called Stifel, raised the prospect of a competing offer from one of the other major players in cloud computing for whom the deal represents the emergence of a more substantial rival.

“Google, Amazon, and Microsoft (and potentially Oracle)have the strategic motivations and financial resources to consummate such a transaction and would not be surprised if we were to see one of them make a competing bid,” analysts from Stifel said.

Rometty said on Sunday that the increasing use of cloud services from multiple providers was the driving force behind the deal along with the rise of the so-called hybrid cloud, in which companies run some of their software in their won data centers and other elements of it in data centers run by IBM, Amazon Web Services, or Google Cloud, among others.

Red Hat has been pouring money heavily in tech tools such as so-called “containers,” which make it easier for businesses to split up their computing work among a mix of data centers.

“They want choice and we are going to give it to them,” Rometty said. “Multi-cloud is a fact of life.”

In buying Red Hat, IBM will have assembled a cloud that includes physical servers, its own operating system, and applications like human resources software.

However, the combined entity will also sell software that runs on its customers own hardware and other clouds. That will put it in direct competition with firms like Microsoft, which sports a similar mix of software and cloud services.

“We are going to both compete and partner with those other clouds,” said Rometty. “The thing about IBM is, we’ve been around long enough to know this is a multi-cloud world.”

Jim Whitehurst, the CEO of Red Hat, said the use of multiple clouds has been an advantage for Red Hat.

Cloud providers such as Amazon usually offer a house-made version of the Linux operating system for free or at little cost. However, that version of Linux is available only on Amazon, and if the business wants to run the software on another cloud they would have to ensure it works with a different version of Linux there.

Red Hat offers the standard version  of Linux that runs on commonly available clouds as well as business’s own data  centers, and Whitehurst said Red Hat customers were increasingly running its operating system on public clouds.

“We are growing faster on the public clouds than the public clouds are growing,” said Whitehurst in an interview. “Yeah, you pay us a little extra versus s free cloud offering, but you get the benefit of a standard operating environment”

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