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Sun + IBM: Economics Making the Impossible Possible

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IBM is rumored to be about to buy Sun for around $7 billion. Back when I worked at IBM, we had a running pool for anyone who was hired from Sun on how long they would last before they quit. The running average at that time was about nine months. Things have changed a lot since then -- for the better at IBM, not so much at Sun -- but the firms are still very different. The most similarity may be found on the software side, and it is here that the most value for this proposed merger will likely be found. The fact that IBM can even try to do this showcases how far the firm has come and how much more agile it is now.

 

For much of the late 80's and early 90's, Sun pounded on IBM, often making fun of the larger and then lumbering company. I'm sure, for some of the IBM old timers, the change in fortune that came with this decade favoring IBM is only topped by the possibility that someone from IBM can tell Scott McNealy, "You're fired." Back then, IBM buying Sun seemed impossible. My, how times have changed.

 

Sun and IBM on Similar Paths but Only One Executed

 

As I wrote earlier, IBM is a vastly changed company from the one we grew to know last century. Then, it was more like HP is today: mostly hardware with a large, though largely second class, software entity. By second class, I mean hardware ruled, and even though software generated vastly more profit for its revenue, in IBM it was a second-class citizen.

 

This decade, software is the power in IBM, and services, which was always one of IBM's greatest competitive advantages, remains one of IBM's strongest elements. IBM, as a result, is more like Microsoft + Services today than it is like HP. As a result, it seems nearly invulnerable to the current market conditions, standing almost alone, so far, in terms of being able to weather the current difficult financial storm.

 

For much of the 90s, Sun seemed to be in search of a strategy and could only focus on Microsoft (which wasn't even a primary competitor to the largely hardware-focused Sun). This century, it seemed to be investing in separating the company into software and hardware components. Unfortunately, while Jonathan Schwartz, Sun's CEO, was long on vision, he was short on execution. While Sam Palmisano was completing IBM's transition to a company focused on software and services, and Mark Hurd at HP was doubling down on hardware, Sun stalled and got caught in the middle. Getting caught in the middle clearly wasn't a good thing, and Sun has been on death watch for some time now. Several years back, I pointed out that Sun was positioning for acquisition. That day may have finally come.

 

Why Would IBM Want Sun?

 

The next big battle for IBM is "the cloud." The companies it will run hardest against aren't just HP and hardware vendors, but Microsoft, Cisco and possibly even Google. It needs Internet technology. Sun, with Java and related developers, has a key part of that. On the hardware side, there is undoubtedly some IP that IBM might like and that both the Server Unit and IBM Microelectronics could use, but I expect IBM would simply transition Sun's roadmap into IBM's very quickly.

 

The other key part is the Sun customer base which, because of Sun's hardware focus, is probably not generating very much at the moment (Sun is heavily used in the troubled financial industry), but this base is where IBM services and software could move more freely. While they may not be buying much hardware, they are looking for ways to dramatically cut costs, and IBM's software and service offerings are pointed tightly at this opportunity. More important, these remaining customers have shown themselves to be incredibly loyal. If IBM can embrace them, and IBM does this better than most, they will be just as golden for IBM as they have been for Sun. Loyal customers are the most valuable in any market and very hard to acquire, outside of buying the company to which they are loyal.

Other Buyers?

 

Four other parties could be interested in Sun.

 

HP, which would rather IBM not get the customer base that now belongs to Sun, would likely have the most difficult time justifying the acquisition because much of the value is in software, and that currently is counter-strategic to HP in that much of that is positioned against Microsoft (a close HP partner).

 

Microsoft has the resources and probably is even more interested in keeping Sun out of IBM's hands, but doing an acquisition like this would be difficult to get through regulatory approval and it clearly doesn't want the hardware.

 

Lenovo would really like to have the channel and market presence that Sun still has in the world. It wants to develop a server business and this would be one of the fastest ways. However, it hasn't been able to move quickly enough on opportunities like this in the past and appeared to be at least a year off from being ready to take on something of this size.

 

HP and Microsoft: A joint acquisition between HP and Microsoft could be very interesting, but nasty to execute. In this case, Microsoft would block IBM and access to the IP, while HP would get the products and customer base. If the separation were done right, regulatory approval is much more likely than with a Microsoft solo bid.

 

Doing the Merger

 

This merger, regardless of who does it, will have the problem of acquiring an employee base that has been pounded through sequential layoffs over the years and likely has no great confidence in management, any management, as a result. On the other hand, if many of these folks could have found other jobs, they would have. The areas to keep are those that are customer facing, or anyone tied directly to the technology that the acquiring company wants. Everyone else is at risk and likely will both know that very quickly and not be particularly happy about it. The merger will need to be executed incredibly quickly, otherwise employee problems could escalate to unacceptable levels and damage the acquiring company. Given the arms' length issues surrounding making the legal parts of this merger come about, doing a merger like this fast enough is problematic.

 

Wrapping Up: Final Thoughts and Recommendations

 

This showcases Sam Palmisano's excellent execution as much as anything. The fact that IBM can even think of doing this and was able to move on the opportunity so quickly showcases the changes he has brought about and the improvements he has made.

 

Sun customers: You have two choices. Either freeze your Sun (hardware) purchase projects until this settles or renegotiate them, taking into account the very real risk that this same hardware will become much less expensive after the acquisition until any inventory is used up. Support shouldn't be an issue -- it's avoiding the impression that had you waited you could have either negotiated a better deal or should have bought a different vendor's product. This is a time when folks tend to be a bit unforgiving of seemingly bad financial decisions, so cover your backside, as this class of hardware isn't cheap.

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