INTERNATIONAL – IBM said on Sunday it had agreed to acquire US software company Red Hat Inc for $34 billion (R493 bn), including debt, as it seeks to diversify its technology hardware and consulting business into higher-margin products and services.
The transaction is by far IBM’s biggest acquisition. It underscores IBM Chief Executive Ginni Rometty’s efforts to expand the company’s subscription-based software offerings, as it faces slowing software sales and waning demand for mainframe servers.
IBM, which has a market capitalization of $114 billion, will pay $190 per share in cash for Red Hat, a 63 percent premium to Friday’s closing share price.
Founded in 1993, Red Hat specializes in Linux operating systems, the most popular type of open-source software, which was developed as an alternative to proprietary software made by Microsoft.
Headquartered in Raleigh, North Carolina, Red Hat charges fees to its corporate customers for custom features, maintenance and technical support, offering IBM a lucrative source of subscription revenue.
Red Hat is one of the very few companies in the cloud computing sector that has both revenue growth and free cash flow, Rometty, who has been IBM’s Chief Executive since 2012, said in an interview with Reuters.
“This acquisition we are clearly doing for growth synergies. This is not about cost synergies at all,” Rometty said in the interview.
The acquisition illustrates how older technology companies are turning to dealmaking to gain scale and fend off competition, especially in cloud computing, where customers using enterprise software are seeking to save money by consolidating their vendor relationships.
IBM is hoping the deal will help it catch up with Amazon.com, Alphabet and Microsoft in the rapidly growing cloud business.
IBM shares have lost almost a third of their value in the past five years, while Red Hat shares are up 170 percent over the same period.
“This deal represents the culmination of IBM’s existing partnership with Red Hat, and, in our view, allows IBM to gain a highly strategic asset to advance its hybrid cloud initiatives,” Barclays analysts wrote in a research note.
They added that for the deal to work, it was important for IBM to uphold Red Hat’s neutrality when it came to operating platforms and maintain Red Hat’s open-source and multi-cloud position in the market.
The deal between IBM and Red Hat is expected to close in the second half of 2019. IBM said it planned to suspend its share repurchase program in 2020 and 2021 to help pay for the deal.
IBM said Red Hat would continue to be led by Red Hat Chief Executive Jim Whitehurst and Red Hat’s current management team. It intends to maintain Red Hat’s headquarters, facilities, brands and practices.
Lazard Ltd offered financial advice to IBM, alongside Goldman Sachs Group Inc and JPMorgan Chase & Co, which also provided financing for the deal. Paul, Weiss, Rifkind, Wharton & Garrison LLP provided legal advice to IBM.
Guggenheim Partners LLC and Morgan Stanley were financial advisers to Red Hat, while Skadden, Arps, Slate, Meagher & Flom LLP offered legal advice to the company on the deal.
“Knowing first-hand how important open, hybrid cloud technologies are to helping businesses unlock value, we see the power of bringing these two companies together, and are honoured to advise IBM and commit financing for this transaction,” JPMorgan CEO Jamie Dimon said in a statement.