Here comes the Sun . . . but why?

Yesterday I spent a good chunk of time talking to two of my Hoover’s colleagues — Josh Lower, who has covered Sun Microsystems throughout this decade, and Seth Shafer, who has done the same for Oracle.

Unless you spent the day sequestered in jury duty or something, you’ll know we were talking about Oracle’s proposed acquisition of Sun, which has been all over the business headlines.

Several parts of the deal’s logic seem clear:

• Oracle adds Java and Solaris to its software stable. Check.
• Databases! Get yer databases here! Check.
• Oracle has been great at integrating big acquisitions, as another colleague, Jeff Dorsch, pointed out earlier. Check.
• This moves Oracle beyond “mere” competition with SAP, and puts it right in the data-center wheelhouse of Hewlett-Packard and IBM. Check.

The lingering question for all three of us:

What makes Oracle so sure it can integrate Sun’s hardware units into its own software business?

All of us have been watching the tech sector long enough to understand that “Larry Ellison’s ego” could be a sufficient answer to this question. Still, that would be a pretty scary answer, considering the size of the acquisition.

Seth raised the point that Oracle could come out looking pretty good regardless of what happens with Sun’s hardware units. If they never fit, Oracle can blame the economy — or say that the Sun units were in worse shape than anyone realized, or that Oracle realized they could get more value out of them by selling them to other hardware companies. But if the integration does work, then Ellison looks like a wizard for pulling off something that no one else even imagined.

Or maybe there’s a reason no one else ever imagined it.

Your thoughts?

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Photo by cat’s_101, used under a Creative Commons license.

Ah, tit for tat! Microsoft‘s bid for Yahoo got a wee bit nastier between Saturday and today. On Saturday, Microsoft chief Steve Ballmer sent a letter to Yahoo’s board, chastising it for failing to take Microsoft’s bid seriously. Ballmer said that Microsoft wants the deal to be amicable, but that if Yahoo’s board didn’t take action within three weeks, Microsoft might go to the mattresses cut its bid and appeal to shareholders directly — i.e. would start a proxy war fight.

And then this morning, Yahoo answered back with a big, round “Nuh-uh!” (No word yet if Microsoft plans to answer back with “Uh-huh!”)

N.B. that there’s almost nothing that a business journalist likes quite so much as a nasty proxy fight. (Do you remember the great Bill Cosby line when Fat Albert says, “Ooh, I love to see Herman get a beating?” It’s like that.) So I’m not entirely unbiased here; it would provide me with months of entertainment for this thing to drag out.

Google Sits Back and Grins

It would also provide a certain elephant in the room with even more time to build on its breathtaking lead in the online search market. So if I’m Google, I’d also like to see a nasty proxy fight.

If I’m a shareholder in either Microsoft or Yahoo (or both — there are lots of overlapping holdings), not so much. Proxy battles are expensive in time, money, goodwill, and general taking- one’s- eye- off- the- ball costs. But then, I never thought this whole idea was a great one to begin with. Microsoft can afford it, although they could also afford to buy, say, Tuscany. True, owning Yahoo would give them a little traction in the search market, although still not raising their share as high as 20%. But the integration costs — in time and effort more than money — seem prohibitive.

Yahoo should have snapped at the deal from the beginning. Its own rosy projections aside, it’s not clear that (a) it has any real answer for Google in the marketplace, or (b) it could ever command a similar premium from any other suitor. But it’s hard emotionally to see your company slip from the lofty heights of Internet pioneerhood; despite Yahoo’s assertion this morning that it’s open to further talks, the prospect of being purchased by the Leviathan of Redmond can’t be an especially happy one.

The best, most detailed take I’ve seen on the situation this morning is from Dow Jones:

• Yahoo Responds To Microsoft Letter; Still Open To Deal

Stay tuned . . .

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Previous BIZ thoughts on this topic:

• The Illogic of a Microsoft-Yahoo deal.

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Sprint‘s stock has been taken to the cleaners because the company’s new CEO, Daniel Hesse, has taken the bold step of giving his honest — brutal — assessment of the company’s current and likely future performance. Two quick observations:

1. While it makes sense that investors would head for the exits after Hesse announced the company’s $29.5 billion loss, no one should act surprised about this performance. Sprint has been ailing for a long time now, as reflected in the musical chairs among its top executives and . . . well, take your pick of symptoms: the company has been stinking it up for a while.
2. It seems clear that the culprit for all of this is Sprint’s 2005 acquistion of Nextel. Again, no one should act surprised, since it’s well established that most mergers fail.

The lack of surprise didn’t keep analysts from coming up with artful ways to express the fresh dose of grief that Hesse laid down yesterday. I particularly like this paragraph from the New York Times story on the earnings announcement:

“No one expected Sprint’s results to be anything other than poor today, which makes the fact that they have managed to miss on virtually every metric a performance of some heroism,” wrote Craig E. Moffett, a senior analyst at Sanford C. Bernstein & Company. Further, he wrote, “the near-term contrarian argument of a turnaround — or, better, a strategic acquisition — remains highly speculative.”

So why do companies pursue deals like this? Well, have you ever made a move in life that left you holding your breath and hoping it would work out? “It’ll work out,” you tell yourself, “It’s just got to!”

Wouldn’t it be great if shareholders could count on better judgment than that from every high-powered executive? Unfortunately, they can’t, as this Knowledge@Wharton piece on failed mergers makes clear:

Wharton management professor Harbir Singh, who has done extensive research on mergers, says that the crucial distinguishing factor between success and failure in a merger is a sense of objectivity on the part of executives — a “realistic outlook” that needs to be maintained from the initial transaction through the entire integration process. The danger, it seems, is when executives “fall in love” with the idea of the acquisition, wanting it to work no matter what the cost.

Even executives are human: they see the potential upside of the deal — both for their company and for themselves — and their desire for things to work out overwhelms their better judgment.

Three Harvard researchers have come up with a list of “Nine Steps to Prevent Merger Failure,” from “no guiding principles” to “poor stakeholder outreach” to “cultural disconnect.” At least a few of these have affected the Sprint-Nextel combination, as the latest wave of reports on the company’s poor fortunes makes clear. What’s so sad (or enraging, if your an investor in the company) is that company management didn’t do more about them sooner.

Now for the bigger question — a theoretical one for you and me, but the make-or-break question for Hesse and his lieutenants: Can the patient be saved?

So far I’ve only alluded briefly to Microsoft‘s proposed takeover of Yahoo, figuring mainly that there was plenty of talk already going around. But a couple of friends have asked for my take, so here it goes, in short format:

• Microsoft can’t compete with Google on Google’s turf, and neither can Yahoo. Google commands a majority — and still growing — chunk of the world’s search traffic, and there’s no reason to expect that the combined Microsoft-Yahoo would have any better traction against it.
• If MicroHoo did enjoy any competitive advantages against Google — Microsoft’s deep pockets fueling Yahoo-led innovation, for example — we could guess that it would take the combined companies a long time to deploy these advantages. The reason: Neither Microsoft nor Yahoo has a great track record in delivering innovative products to market in bang-bang time. Why would the combined entity, which no doubt would be facing the usual internal frictions that accompany megamergers, do any better? And the time lost to friction inside MicroHoo would be more time for Google to make hay.
• Overall, a Microsoft-Yahoo tieup looks to me like a lite version of the Alcatel-Lucent tieup: two ineffective also-rans teaming up to become . . . a bigger also-ran. In this analogy, Google = Cisco, i.e. the suave bully who keeps taking your lunch money, but in a friendly way.
• From the perspective of Yahoo’s owner/managers, they either need to get religion about changing their ways for the better, or they need to take Microsoft’s money and run.

For more, let me recommend this short take by George Colony, and this long, detailed one by Dave Livingston.

That’s the excellent question that Jeff Bailey explores in this New York Times story:

In the Math of Mergers, Airlines Fail

. . . [C]ountless corporate mergers — in manufacturing, media and financial services, among other fields — have made the leap of faith that the sum would be worth more than the parts. But studies generally show that more than half of such combinations fail to create value.

What special magic, then, might occur to make two big airlines worth so much more together?

Essentially two theories are at work, each a chestnut of the merger-and-acquisition game, and neither of them a sure thing.

The first is simply to cut costs of the combined companies and hope to hang on to all the customers and revenue. . . .

The second theory used to justify airline mergers is that combining would increase revenue because a bigger route system would help take market share from competitors. That makes sense, until other carriers also combine.

Bailey’s points are worth keeping in mind as we await the outcome of Delta‘s talks with Northwest and UAL. Maybe a Delta merger would work out, but Bailey’s right to point out the risks. The talk about synergies always has a certain appeal (remember the hype around Time Warner’s tie-up with AOL?) but the reality usually pales by comparison (as the Time Warner/AOL deal also shows).

Countrywide has slid steadily toward the toilet over the past few months, notwithstanding the $2 billion infusion Bank of America gave it a few months back. Now BofA chief Ken Lewis is doubling down on his Countrywide bet — “doubling down” is the metaphor I’ve seen everywhere in the news stories on the deal — and the big (monster, ginormous) question remains:

Will the healthy part of Countrywide’s mortgage-servicing business — which Bank of America is buying at a steep discount — outweigh the gigantic subprime mortgage liabilities on its balance sheet?

My guess: no. But BofA will still come out more or less okay, since it’s frikkin’ huge and can absorb the hit.

But that doesn’t mean that Lewis was right to double down on a bad bet.

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For more, see this article (and video) from Mark DeCambre of TheStreet.com:

• BofA to Buy Countrywide for $4B

Our previous coverage on Countrywide:

• Mortgage problems are Countrywide.
• Countrywide prompts a heretical thought about CEO compensation.
• An appeal to Countrywide insiders: care to weigh in?
• Angelo Mozilo’s stock sales seem craven, but are they improper?
• Countrywide’s conniving ways?

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A quick observation in line with my earlier comments on the nature of the IPO market: It’s worth remembering that there are (at least) two levels of a “market” for merger & acquisition activity:

1. The overall market for M&A. At times this runs sky-high, as it did for tech companies during the boom that ended in 2000, and as it did over the past couple of years for private equity firms doing buyouts. It’s obvious, yet still worth noting, that this broader market is highly sensitive to macroeconomic conditions; witness the current drying-up of liquidity — or just deal-making aggression — among the financial houses.
2. The specific market for a particular asset. Ingersoll-Rand is ponying up quite a chunk of money ($10 billion) for Trane because it believes that adding Trane’s product lines to its own with (a) make it more dominant in the worldwide HVAC industry; (b) insulate it further from the cyclicality of its other businesses; and (c) allow it to operate the Ingersoll-plus-Trane HVAC businesses at a cost savings. The point isn’t how the overall M&A market looks, but how appealing Trane-in-particular is to Ingersoll-Rand-in-particular.

Maybe this is all obvious stuff, but I find that even the obvious bears repeating, especially in light of the business media’s tendency to over-identify trends in the marketplace. Yes, of course there are macro trends, but the presence of them doesn’t necessarily affect the likelihood of a particular deal.

You may have noticed that I have an analytical crush on Warren Buffett. It arises from the conviction that many investors and executives would be much better served if they copied Bufffett: stop trying to build a better mousetrap and instead make it your business to better understand — and put to use — the current mousetraps at your disposal. Put it another way: nobody ever got rich betting against Warren Buffett.

Now Buffett’s company, Berkshire Hathaway, is buying up most of The Marmon Group, which makes boring, profitable things (mining equipment, industrial materials, Wells Lamont gloves) that will fit in nicely alongside the other boring, profitable things already in the Berkshire portfolio (Acme Bricks, Geico insurance, etc.). More details from the Associated Press:

Berkshire Hathaway Inc., based in Omaha, Neb., said it plans to acquire the remaining 40 percent of Marmon over the next five to six years depending on future earnings of Marmon, according to a statement released Tuesday by both companies.

Marmon is owned by trusts for the benefits of the Pritzker family of Chicago, the family that developed the Hyatt Hotel chain. [...]

Brothers Jay and Robert Pritzker acquired Marmon in 1953 when it was a small manufacturing operation in Ohio, according to the release. In 2002, Jay’s son Tom Pritzker took over as chairman.

“Our transaction was done just the way Jay would have liked it to be done — no consultants or studies,” Buffett said in the statement. “I am pleased that over the next five to six years, we will be partnering and working … in continuing to build Marmon.”

At this point, Buffett must know more about deal-making — or at least company-buying — than 99.99% of all the consultants now drawing breath. He’s had practice.

The Marmon purchase is the sort of deal it’s easy to do when you keep the odd $50 billion in cash sitting around. I have no doubt it will make lots more money, the boring way, for Berkshire in the years to come.

More details in these stories:

–Buffett defends investment in Marmon

Warren Buffett, the billionaire investor, said on Wednesday that his $4.5bn investment in Marmon Holdings, the manufacturing and services group, “could move the needle” at his investment company, Berkshire Hathaway.

He said the industrial conglomerate would account for about 10 per cent of Berkshire’s non-insurance revenues and would also increase the number of employees by about 10 per cent. . . .

Mr Buffett’s description of the deal resembled a frenzied bout of last-minute Christmas shopping. “I first heard about this two weeks ago,” he said. “As Santa was coming down the chimney yesterday we finished the deal.” . . .

[The metaphor is clever enough, but the style of the deal should come as no surprise: Buffett and his lieutenants have so thoroughly honed their decision-making processes that they routinely make large acquisitions in under a week.]

The choice of an industrial company like Marmon is a surprise. Most of the speculation on Mr Buffett’s next move had focused on the troubled financial services sector.

[To me, this says nothing about Buffett's decision, and everything about the danger of trusting the guesses of outside observers. Buffett always looks for the best deal available in industries he understands. Marmon fits that profile. Next week, it may indeed be a financial services company that fits that profile as well.]

–Pritzkers turn page in saga of breakup

If the dissolution of the Pritzker empire were a book, the latest chapter — the sale of industrial conglomerate Marmon Holdings Inc. to investor Warren Buffett’s Berkshire Hathaway Inc. — could provide tantalizing clues to how the crown jewel, the Hyatt hotel chain, might be sold.

While the billionaire family has been grooming Global Hyatt Corp. into an entity that could be taken public, observers now say a private deal may be just as likely.

The Berkshire Hathaway deal, along with earlier transactions, brings the breakup of the Pritzker fortune to nearly the halfway point, easing some of the pressure on family business leader Thomas Pritzker to do a major Hyatt deal right away. The Pritzker family has agreed to split up its fortune among 11 adult cousins by 2011, a decision reached after internal rifts.

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That’s the takeaway message from the WSJ Energy Roundup item quoted below, which discusses Lafarge‘s $12.9 billion deal to buy the cement operations of Orascom Construction Industries.

For a while I covered the Egyptian beat for Hoover’s, and became fascinated with the Sawiris family that controls Orascom. (Naguib Sawiris, who runs Orascom Telecom, is particularly interesting.) I’m also intrigued by any deal that merges environmental-green benefits with dollar-green ones. That appears to be the case with this deal, since Orascom’s cement ops run more efficiently than Lafarge’s European plants.

Green Cement in Egypt

. . . Why the rush to clean up? Cement makers aren’t any more altruistic than the next guy. But it takes a lot of energy to fire up kilns to 2,000 degrees Centigrade, and energy accounts for between one-quarter and one-third of the industry’s costs. To stay competitive, cement makers have to trim energy consumption and make their plants as clean as possible.

Precisely. Over the years, companies across many industries have become accustomed to the idea of a certain amount of waste in their operations as being inevitable. That works for a while, but only until a new wave of technology — or of new market entrants with different ideas — upsets the apple cart. Then you have to get leaner and make your operations (or your products) more efficient.

We’ve seen this in industry after industry, whether it’s cars (American makers responding to fuel-efficient imports) or lighting (consumers realize they can get much more cost-effective lighting using technologies besides Edison’s bulb) or mutual funds (Vanguard undercuts the rest by keeping such a low fee structure).

More and more we’ll be seeing this in heavy industry, as manufacturers come to embrace the mandate that has driven the semiconductor business for decades: eliminate more waste every year, or else get out of the business.

A couple of weeks ago The New Yorker ran one of its patented character profiles* on Sam Zell, the real estate tycoon who is in the process of buying Tribune Company.

Rough Rider
Where will Sam Zell take the struggling Tribune Company?
by Connie Bruck

Having read the piece, I’m having second thoughts about my own reflexive dismissal of the deal. Yes, the newspaper business is heading further into the toilet by the week. But dang, Zell sure knows how to make money.

He also makes many a meal out of his flamboyant personality, to the point that you could think of him as a Richard Branson of real estate. But this penchant for iconoclasm has also helped Zell to excel in the business world.

Annotated excerpts follow.

Zell has made much of his fortune by identifying opportunity where others see only trouble. He says that he is constantly trying to “shut out the noise” of conventional wisdom, because, although it may not always be wrong, it is rarely profitable.

The more I experience, the more aware I am that many top performers are willing to be outliers in many things. For Zell, this includes being rude of speech (he would call it “direct”) and flashy of dress. The Richard Bransons and Andres Segovias and Isaac Newtons of the world are perfectly willing to act very differently from the rest of us, whether that means an unusual social life or bizarre-but-savvy business deals.

The [Tribune] deal epitomizes what Zell always seeks: potential for great profit, acceptable risk, and an ingenious tax advantage. . . .

[Former Zell lieutenant Randy] Michaels told Zell that he thought they could buy the [radio] station for the value of its license, or less. “He said, ‘Listen, business is easy. If you’ve got a low downside and a big upside, you go do it. If you’ve got a big downside and a small upside, you run away. The only time you have any work to do is when you have a big downside and a big upside. So why would you put a book together for something like this?’ “

Calculating upside and downside potential seems straightforward enough, and it’s the stock in trade for deal makers from Warren Buffett on down the line. But just consider how little attention was paid, over the past several years, to the downside risks of subprime mortgages by many players in the financial industry. It wasn’t until late, late in the game that many of them twigged to the amount of downside risk embedded in these deals. Zell seems to be smarter than that.

Zell told me, “I’ve had offers on every single asset in the portfolio. Chuck Schumer” — the New York senator — “calls me, because he’s hustling for some people who want to buy Newsday. Baltimore people are calling, Allentown’s calling, Florida’s calling, and, in L.A., David Geffen and Eli Broad. So all I can tell you is that for a dead industry with no future there are an awful lot of schmucks who want to take it away from me!”

Plenty of media analysts think that Zell is entering a dying business by buying Tribune. But as Bruck points out in this article, Zell sees Tribune as an integrated media company that also owns newspapers, rather than primarily as a newspaper company. So even though the circulation and advertising woes of the Chicago Tribune, the L.A. Times, and so on are pretty dire, Zell still has reason to think he may come out ahead. In fact, assuming the deal receives FCC approval and goes through, Zell may do to Tribune Company what Blackstone has already done after its purchase early this year of Zell’s mammoth Equity Office Properties real estate firm — that is, Zell may immediately parcel out key assets of Tribune to those “schmucks” trying to buy them.

Whatever the case, I came away from reading this article with a much better appreciation for Zell’s ability to make a deal work. I still think the newspaper industry is a bad bet, but it won’t surprise me at all if Zell is able to make money from his purchase of Tribune.

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More on the Tribune Company here.

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* I confess: the article’s length was one reason why it’s taken me this long to read it.