Introduction:
International Business Machines (IBM) had been trading range bound for 5 months from mid-April through mid-September, trading between roughly $140 and $145. Prior to its Q3 earnings, IBM had finally broken out to $154 with a subsequent implosion after its earnings release that fell short of expectations coupled with its announcement that it will be acquiring Red Hat (RHT) for $34 billion. IBM’s stock is now at a 52-week low after the company missed revenue targets, notably a drop in Cognitive Solutions and server weakness implying that its revived nascent growth earlier this year will be subdued moving forward. IBM’s stock has been decimated and now trades at ~$115 per share or down over 30% from its 52- week high of $171. IBM has had a long turn in restoring growth after posting 20+ consecutive quarters of declining revenue however IBM had posted back-to-back quarters of revenue growth as of late. This growth has come on heels of its long-term imperatives beginning to bear fruit in emerging high value segments that has fundamentally changed its business mix while evolving its offerings to align with new age information technology demands. The Red Hat acquisition will ostensibly augment its transition away from its dependency on legacy businesses to the future of cloud, artificial intelligence and analytics. As IBM transitions to quarterly revenue growth, in the backdrop of its evolution to emerging high value segments (i.e. blockchain) and bringing the Red Hat portfolio into the fold, the company presents a compelling investment opportunity considering its suppressed valuation and dividend yield of over 5%. In addition to the evolving business mix in strategic imperatives, IBM offers a great dividend, share buyback program while continuously acquiring companies to drive the business into the future.
Red Hat Acquisition Comes To Fruition
Breaking news came out on Sunday the 28th of October that IBM was acquiring Red Hat (RHT) for $190 per share for a total enterprise value of $34 billion (Figure 1).
“The acquisition of Red Hat is a game-changer. It changes everything about the cloud market. IBM will become the world’s #1 hybrid cloud provider, offering companies the only open cloud solution that will unlock the full value of the cloud for their businesses.”
“Most companies today are only 20% along their cloud journey, renting compute power to cut costs. The next 80% is about unlocking real business value and driving growth. This is the next chapter of the cloud. It requires shifting business applications to hybrid cloud, extracting more data and optimizing every part of the business, from supply chains to sales.”
– Ginni Rometty, IBM CEO
IBM says it remains committed to Red Hat’s open governance, open source contributions, participation in the open source community and development model, and fostering its widespread developer ecosystem. Most notably, IBM says the acquisition will accelerate IBM’s revenue growth, gross margin and free cash flow within 12 months of closing. This growth accelerator is a much needed boost to the company’s stagnant growth over the past few years and will drive IBM further into the future of the cloud and where businesses are mitigating to from an enterprise perspective.
Figure 1 – IBM and Red Hat merger
Red Hat Acquisition Granularity
The leadership teams from IBM and Red Hat briefed investors on the acquisition, synergies and time frame of the deal. Red Hat is the world’s leading provider of open-cloud solution and the emerging leader in the platform for hybrid-cloud and multi-cloud. IBM is attempting to reset the cloud landscape via its acquisition of Red Hat and in the process will become the undisputed number one leader in hybrid-cloud which is an emerging $1 trillion market.
