HP-EDS: A Deal that Has Paid Off... So Far

by: Alpha Author

I have written much about the perils and pitfalls of acquisitions (see Why M&A Deals Go Bad, Acquisitions: A Great Shareholder Ripoff?, or DaimlerChrysler Post Mortem). So in the interest of fairness I thought I would share a story of a deal that seems to have provided value to the acquirer.

In an article that appeared in today’s New York Times, Ashlee Vance details how HP (NYSE:HPQ) was able to derive value from its acquisition of EDS (NASDAQ:EDS) (see HP’s Bet Seems a Winner). Consistent with what I’ve mentioned in previous posts, it is in the integration phase where deals are either won or lost, …and HP seems to have been able to generate both cost saving and revenue enhancement synergies through this deal.

Ashlee writes:

After Hewlett-Packard bought the computer services company last August for $13.9 billion, it immediately began hacking the work force. Led by a master cost-cutter, Mark V. Hurd, H.P. laid off 25,000 E.D.S. workers, and cut the salaries of some by more than 20 percent. Mr. Hurd even stripped the E.D.S. brass of their plush offices and corralled them into 6-by-6-foot cubicles.

The bloodletting pains Mort Meyerson, who served alongside Mr. Perot at E.D.S. and Perot Systems for many years. “It’s sad to see this happen because of the decades of work the men and women of E.D.S. put into the company,” he said. “But that’s what happens in business.”

H.P. executives concede that the company’s aggressive pruning comes with costs…But they say that tough actions were needed to bring E.D.S. in line with competitors like I.B.M. (NYSE:IBM), Infosys (NASDAQ:INFY) and Wipro Technologies (NYSE:WIT).

But HP has been able to derive value from EDS not simply through cost cutting. They have also benefited from revenue enhancements (cross-selling HP hardware to current, and future, EDS clients).

Historically, E.D.S. promoted computing gear from H.P. rivals like Sun Microsystems (JAVA), Xerox (NYSE:XRX) and Cisco Systems (NASDAQ:CSCO). But Mr. Eazor says that more of H.P.’s own hardware is slated to go into deals that are currently up for bid.

Even though the equity markets did not applaud the deal at first, it looks like market participants might have gotten this one wrong.

When H.P. announced its intent to buy E.D.S. in May 2008, H.P.’s share price sank…By common business yardsticks, the Hurd touch on E.D.S. appears to have worked better than investors and analysts had expected.

Last quarter, H.P.’s operating profit margin on services hit 13.8 percent, the highest in a decade.

HP even seems ready to declare the integration a success.

On Wednesday, H.P. will take another big step toward full integration of E.D.S., extinguishing the 47-year-old company’s name. The new name, H.P. Enterprise Services, reflects the union of the services operations at the two companies.

Ashlee even goes so far as to suggest that HP’s success moving into a complementary goods market (the services business) may have motivated Dell’s (NASDAQ:DELL) acquisition of Perot Systems (NYSE:PER).

…the acquisition has paid off big for H.P. — so well, in fact, that an important rival has decided to strike a similar deal. Dell announced Monday that it was paying $3.9 billion for Perot Systems, the Texas computer services company started by H. Ross Perot after he left E.D.S.

And there you have it. Not all deals destroy value…

Disclosure: No positions