3Com Tastes the Bain

3Com Corp. (Nasdaq: COMS) says it's gotten a fair price in the $2.2 billion acquisition proposed by Bain Capital , even though that price is awfully close to the on-paper valuation of the H3C Technologies Co. Ltd. joint venture.

The deal, announced this morning and expected to close by the first calendar quarter of 2008, has Bain acquiring 3Com for cash, with Huawei Technologies Co. Ltd. chipping in as a partner. Huawei would end up with a minority stake in 3Com; exactly how much will be revealed in SEC filings in a few weeks, 3Com officials told analysts via a conference call this morning. (See Huawei, Bain Buy 3Com.)

Interestingly, Bain had been among the bidders for Huawei's stake in H3C last year. (See Suitors Eyeing 3Com/Huawei JV .)

Once a pillar of Silicon Valley, 3Com's star has faded in recent years. Analyst Mark Sue of RBC Capital Markets described the deal almost as putting 3Com out of its misery, noting in a report published this morning that the sale "may be viewed mostly as a relief than any promising long-term turnaround."

Given its missteps during the past 10 years, 3Com "may end up being the business school case study of what not to do," Sue wrote.

3Com shares shot upward immediately this morning as the Wall Street Journal leaked word of the deal. Late this afternoon, 3Com was trading up $1.28 (34.8%) at $4.96 per share. (See 3Com: It's Done.)

But the price raised a few question marks, considering 3Com paid $882 million to buy out Huawei's 49 percent share of H3C. (See 3Com Takes the H3C Plunge.) That implied a $1.8 billion value for H3C, which has grown to represent about half of 3Com's revenues.

3Com executives insist that Bain's was the best of multiple offers put to the company. The $882 million price, reached through an auction process, was what made sense at the time, CFO Jay Zager told analysts on a conference call this morning.

"As we looked at the offers presented us and the strategic options today, the board determined, with management's support, that this particular transaction at this point in time made sense for us," he said. "We didn't go back and reassess how the company was put together."

The figures reconcile better when you consider H3C's value has changed. In 3Com's fourth quarter, which ended June 1, H3C's sales were $176 million, down 10 percent from the previous quarter. Sales in the first quarter, which ended August 31, fell again, to $154 million.

"The way I interpreted the answer to the question is that a year ago, when they negotiated the price [for 49 percent of H3C], the outlook was much stronger than it is now, at least in the near term," says Manuel Recarey, an analyst with Kaufman Bros. LP .

H3C gets most of its sales from China and some from Huawei, which is one of the venture's OEM partners. The venture hasn't made much of a blip in enterprise routers, but it's gotten a noteworthy market share in enterprise switching.

In terms of revenues, H3C ranks third in Ethernet switches, with a 4.8 percent market share, according to Ray Mota of Synergy Research Group Inc. . In fixed enterprise switches (as opposed to modular ones), H3C's revenues rank second with 15.5 percent share. Cisco Systems Inc. (Nasdaq: CSCO) leads in each category, of course.

But where H3C really shines is in the Europe, Middle East, and Africa (EMEA) sector. There, it's actually managed to top Cisco and claim the No. 1 spot in terms of revenues at 22.8 percent market share.

Still, H3C is no Cisco. It's not even a Hewlett-Packard Co. (NYSE: HPQ), which ranks second in many enterprise Ethernet categories.

"They still have a lot of work in front of them to become a significant player in the data networking space. There are too many players in this market, and some consolidation would be helpful to create a company that's big enough to compete against Cisco," Recarey says. "Especially in the U.S. and Western Europe, H3C has a lot to do."

The second most interesting facet of 3Com is arguably TippingPoint Technologies Inc. 's line of security products. TippingPoint was slated for a spinoff earlier this year, and 3Com executives said today they will continue working to divorce TippingPoint's operations from 3Com. (See 3Com to IPO TippingPoint.) Whether TippingPoint goes public, as originally planned, would be up to the new owners.

— Craig Matsumoto, West Coast Editor, Light Reading