What's going on?
IBM said late on Sunday that it would buy open-source software company Red Hat for $34 billion – the biggest tech deal of 2018, and IBM’s largest purchase in its 107-year history (tweet this).
What does this mean?
Red Hat doesn’t sell software – it gives it away for free and then makes money supporting its users. Buying Red Hat allows IBM to broaden its offering in tech’s hottest growth area, cloud computing – and so better compete with cloud giants Amazon and Microsoft.
IBM’s had some hard years of late. It’s seen by many as a bit of a dinosaur, slow and unwieldy – its 366,000 employees are more than the population of Iceland. Even flagship projects like Watson (an artificial intelligence system) are criticized as being behind the times. For Big Blue, Red Hat represents a more versatile future in a fast-growing industry.
Why should I care?
For markets: Good news for Red Hat’s shareholders, not so much for IBM’s.
IBM is paying a 63% premium to Red Hat’s share price on Friday, which means a nice payday for Red Hat’s investors – but it’s a different story for IBM’s. The company’s shares fell 3% on Monday, on top of another 5% decline following iffy results earlier this month. IBM will have to rack up a fair amount of debt to help pay for the pricey Red Hat deal (potentially risky when interest rates are only going up), and it’ll also suspend its long-running share buyback program for two years, perhaps to investors’ dismay.
The bigger picture: IBM has a mixed history with acquisitions…
IBM has a bit of a track record of buying hot companies and fumbling them, Yahoo-style. But the logic of this deal appears sound, with Red Hat’s software and cloud strengths complimenting IBM’s existing infrastructure, technology, and services (IBM also grew its own cloud revenue 20% last quarter). It’s effectively betting the farm on this purchase, however – spending nearly a third of its net worth on Red Hat.