EMC's Content Play
EMC is buying Documentum and paying a big premium, relative
to what other application companies are going for. There's a reason
for their willingness to pay up. But what does this valuation say
about the value of other applications?
Introduction
EMC will pay $1.5 billion net for Documentum, a company with $200+
million in revenue. It seems like a lot for software whose basic
job is running an electronic filing cabinet.
To see what I mean, compare this acquisition with PSFT's acquisition
of JDEC. The price was roughly the same, but the revenues of the
acquired company were more than 3 times as great. Or compare with
SSA GT's acquisition of Baan, whose revenues were slightly greater
than Documentum's. The purchase price of Baan? About $125 million,
or 1/10 the price of Documentum.
The value of an application company is ultimately tied to its ability
to create value for its customers. Do these prices mean that electronic
filing cabinets can unlock more value for purchaser and provider
than can systems that track operations and provide a factual basis
for decision-making? Right now, I think that's exactly right.
Why Buy Documentum
To see why I say this, let's start with what EMC sees in Documentum,
a question that has bothered several regular readers. "Why
should a hardware company get mixed up with a software company,"
they ask?
They're puzzled about this because they're suffering from a misconception
about EMC. EMC is a storage company, and effective storage requires
both hardware and software. As a storage company, EMC has been in
the software business for a long time.
EMC is acquiring Documentum because it is trying to create and
dominate a market for what you might call intermediate storage.
This is storage that does not give the immediate access via the
operating system that you get from the disk drive on your computer,
but instead provides good enough access. It's "intermediate"
because it gives more access than you might have to files that have
been archived on a tape and taken entirely off line.
Anyone who has filled up a disk drive with e-mail messages (not
you, surely, but definitely me) has run into the need for intermediate
storage. On the one hand, we don't want to buy another disk drive
for e-mail. On the other hand, if we archive the e-mail, it's effectively
gone. We want to put it somewhere else, but be able to call up that
e-mail from Herman three years ago that suddenly turns out to be
important.
Managers of ERP systems or web sites or e-mail servers have this
problem in spades, and so does any company whose operations are
regulated extensively.
EMC is offering the market a whole suite of hardware/software solutions
that let you stop keeping all that data online (and paying EMC megadollars
for the tera-storage), but still keep it reasonably accessible.
The solutions will cost customers quite a bit less, kilodollars
or tens of kilodollars, not megadollars.
EMC already has a product that addresses part of this
problem, called Centera, which
allows you to get access to what it calls fixed (presumably, archived)
content. The recent purchase of Legato and the new purchase
of Documentum extend this capability.
The whole suite, they say, will let you do (oh, no, another TLA)
Information Lifecycle Management. Essentially ILM is a layer on
top of your information assets that makes access to them independent
of any ties to a storage device, application, or server.
OK, it's a vision. I can't say that this vision makes me go Wahoo!
But then again, my only storage problem is e-mail. EMC feels that
there are other people for whom the problem is much more pressing,
and I'm sure they're right.
If EMC's literature is any guide, the first
target will be health care and pharmaceuticals.
To this group, EMC is saying, "We'll take care of all your information,
from patient records to compliance records, archived or
on line, with a single
system."
According to people who have done the math, there is
enough money in these areas to justify the purchase of Documentum,
even at the premium EMC paid.
Those of you who are familiar with recent application
purchases in these areas might be inclined to doubt. But
you should remember
that there is a colossal amount of spending on IT in pharmaceuticals
and health care these days even though the amount going
into applications is not astounding. A fair amount goes to
highly industry-specific applications, like applications that
support medical testing or applications that provide
expert monitoring of patient care. From
EMC's point of view, all of this spending creates
a need, now or in the future, for intermediate storage.
The Implications
Granting that there is a need (in health care)
and money, there is still the question of value.
Successful ILM
provides at most better access to
unstructured documents, such as patient records,
or medical testing documents. Why would hospital
administrators (or anyone else) want to put
so much money simply into keeping track of
text? Wouldn't they be better off keeping
track of material and money (which is what
transaction systems do)?
The answer, apparently, is no. In this
industry and in many others right ow,
rational people are saying
a) we'd like to
unlock the value of our computer systems and
b) the best way we can do that is to organize
our unstructured text more effectively.
To some extent, this is not a commentary on
transaction systems, per se. This year,
there has been a general turn toward infrastructure
spending, with spending for storage being one of
the top items. You can defer spending on transaction
systems, but every year, there is more e-mail, more
records, more text, more data, so every year, you
need more storage, more processing power for your
systems, better DBs, etc.
In a time when there is great pressure to
save on IT costs, a simple, but innovative
answer to this ever more pressing problem
has to grab people's attention.
What is startling though, is how much
pent-up demand for this EMC thinks there is.
In effect, they are counting on IT people to
look at their total spend and say, the best
innovation for next year is not a new e-commerce
system or CRM system. It's ILM. EMC thinks there
are so many people saying this that it justifies
buying rather than building software solutions, and
it justifies a substantial premium for those solutions.
In effect, then, there is a statement being made about the value
of applications. EMC, at least, has read the mood of the IT community
and said, "They're more willing to spend money on filing cabinets
than on strategic applications."
If this is the mood, makers of applications would do well to pay
attention.
Valuation of Software Companies
There is one further question raised by the EMC purchase, which
I'd like to take a quick look at. The question is this: how are
these decisions about purchase price being made?
We are in the middle of a consolidation in the software applications
industry. A whole lot of software that was built during the dot-bomb
and before is now relatively worthless, and a large number of people,
from Symphony to PeopleSoft and SSA GT to EMC are trying to pick
up the assets.
Clearly, it is a free-for-all.
Assessments of value vary widely.
When JDEC goes for more than 10 times what Baan went for,
when Baan had one-third of JDE's revenues, roughly
equivalent software, and a much happier customer
base, one or both purchase decisions
are not based on "objective" criteria.
Instead, they are based on what individual buyers think they
can do with the moribund asset they are picking up.
In the case of JDE, PeopleSoft thought it could do a lot
with the property; in the case of Baan (PeopleSoft had
the opportunity and passed), they did not.
The free-for-all does remind me of the dot-com era, precisely because
people's beliefs
about what they can do with a company vary so widely.
Clearly, people are using many different criteria when
deciding on a purchase price. It also reminds me of the
dot-com era because it flies so flagrantly in the face of
history. Most software acquisitions fail. But still there are
buyers.
When making these decisions, the buyers seem now to be driven by
at least three factors that are very soft, that is, very difficult
to evaluate objectively.
One such factor is the buyer's ability to
manage acquisitions. Here, EMC, which made
a fortune on the Data General acquisition under
the management of Bob Dutkowsky before he
became JDEC's CEO, clearly had some confidence
in its track record. They
buy a lot of companies and make money from them.
SSA GT feels the same confidence, though, some
of this is based on confidence in their ability
to drive a hard bargain and not pay too much.
PSFT, too, feels that its prior experience with
multiple acquisitions will prevent it from
going wrong with JDEC, though it acknowledges
that this last acquisition is quite different
from the former.
Another factor is a gut-level decision
about whether the acquirer opens up entirely
new markets for the acquiree's products, or vice versa.
With EMC, as noted above, this factor is probably what
justified
the quite substantial premium.
Clearly, PSFT also believes that it could cross-sell into the installed
bases. Much of my continued negative attitude toward the acquisition
is due to the fact that I disagree with that estimation. (The two
companies make fundamentally similar software that used to compete;
there are only a few (in the tens so far) cross-sell opportunities
and no entirely new markets.)
It seems to me that there are actually more cross-sell opportunities
in SSA GT's purchase of Baan. There are more Baan products that
are easily detachable, and several of them have a natural outlet
in the SSA customer base. But in that deal, neither buyer nor seller
thought this justified much of a premium.
A thirdl factor is the fact that all three buyers count on significant
benefit from eliminating some of the duplicate costs of running
a global organization. The buyer will or has closed buildings, combined
computer centers, shared language expertise, and so on.
It is striking how differently this benefit is being evaluated.
Facts are most clearly available from SSA GT, where $75 million
or so had to be allocated to things like buying out leases, and
the net gain was $25 million/year or so, some of this garnered simply
by getting out of abusive contracts. With PSFT/JDEC, an unknown
amount was allocated for the expenses associated with this, so it's
hard to tell, but the announced gains seem significantly more. By
contrast, EMC, with its strong global presence, has the most to
gain from this, but it is not clear whether it's an important factor
for them.
Conclusion
Even these three factors clearly don't fully explain the wide differences
in premium that were paid in these deals. (They also don't help
us predict who will succeed and who will fail.)
So what does explain the differences? Well, in what seems
to be the beginning of a small
land rush, I think one might do well to remember what
factors drive decisions in other land rushes.
One is clearly a difference in acquisition styles. Some
companies try to go after the best possible properties and
are willing to pay a premium for them.
EMC and PSFT are doing
this.
Others grab properties that are, shall we say,
well past their first blush, and buy them at very low
prices. This is what SSA GT is doing and what
Symphony is doing.
Personally, I would always do the first, but my own
experience in this area and some rudimentary spreadsheet
work suggests that the second is more likely to make
money.
More deals, of course, there will be; once
of consolidation starts, other people jump in, trying
to grab something before all the bargains are gone. I
don't recommend being one of them. If a real wave
of consolidation starts,
the people making the most money will
be the sellers of these properties, who, before
this wave happened, may have felt that they had
no exit strategy whatsoever. They are looking
at what happened to Documentum and breathing a
big sigh of relief.
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