M&A's New Currency

In the access space, there's currently enough merger and acquisition talk to choke a horse. [Ed. note: That's a lot, in case you're wondering.]

First, there's word in the venture capitalist community that Nortel Networks Corp. (NYSE/Toronto: NT) has been on the hunt for smaller companies. "Nortel has been knocking on doors," says one VC, who asserts that a company in his portfolio was approached.

At least two sources – one close to Nortel, and one at an access vendor – have put Calix Networks Inc. and Nortel working on something. Others in the access space say that it could be something as benign as Calix working through Nortel's developer's program in hopes of winning some access business at Sprint Corp. (NYSE: FON) or Verizon Communications Inc. (NYSE: VZ), two carriers that are embracing packet voice networks, buying Nortel gear, and looking to expand their access networks in a way that incorporates VOIP (see Nortel Soars on Verizon VOIP Deal).

But why would Nortel care to get back into M&A, given how destructive a force it was for them between 2000 through 2002?

"The value of their currency – their stock price – is going up, and their customers are driving them to add more pieces to their overall solutions," our VC source says. "They're buying for different reasons now than they did back then."

Not only has Nortel's stock price improved – it rocketed up $1.24 (18.84%) to $7.82 today – but its cash position is as good as it has been in years. In its earnings call last night, the company boasted of having $4 billion in cash and investments, up from $3.6 billion at the end of the third quarter of 2003 (see Nortel Scores in Q4).

And, of course, it's always possible that Nortel, which abandoned the access space when it sold its DLC business to Zhone Technologies Inc. (Nasdaq: ZHNE) (see Zhone Acquires Nortel's Access Gear), may be looking to re-enter, but with newer technology.

Calix won't confirm or deny the speculation, though it has been putting a bow on its business lately (see Calix Boasts Market Leadership and Calix Ships to 100th Customer). "From the beginning, we've tested our equipment against anything we have to connect to," says Kevin Walsh, Calix's VP of marketing.

Even more than Calix, Catena Networks Inc. is cropping up often in M&A chatter.

Rumors have the company attracting attention from at least two suitors – Ciena Corp. (Nasdaq: CIEN) and Tellabs Inc. (Nasdaq: TLAB; Frankfurt: BTLA). Both potential buyers have this in common – their core market is slow-moving, has been so for years, and likely won't see the kind of growth that the access market will experience in the next three to five years.

Tellabs, an early Advanced Fibre Communications Inc. (AFC) (Nasdaq: AFCI) investor, made overtures to AFC a while back (see Tellabs Angling for Access – and AFC). Nothing came of that possible pairing, but it does show that the company, despite needing a CEO, is anxious to get into the access space. And Catena, though still lacking some big system sales, is looking okay on paper.

Catena, in fact, says it has 260 employees, has raised $192 million to date (with its last round coming in January 2002), and hauled in $52 million in revenues in 2003. A source close to the company, who asked not to be named, says that Catena, too, is expecting to bring in about $100 million in revenues in 2004.

The company has also been known to be in partnership talks with various vendors, which is just the kind of activity that always throws fuel on M&A speculation.

Catena declined to comment on the speculation.

And what of Ciena? Ciena has made the M&A rumor more than once or twice. It has been said to be sniffing at Catena for a while now (see Ciena May Be Eyeing Catena), after making investments in Laurel Networks Inc. and Luminous Networks Inc. late last year (see Ciena Links Up With Luminous).

The upshot of all this is that the potential growth of the access network seems to have some vendors airing out their wallets a bit. They may be ready to spend soon, if pushed by a customer or the opportunity to buy their way into an account, a la AFC and Marconi Corp. plc's (Nasdaq: MRCIY; London: MONI) North American access business (see Access Acquisition Boosts AFC).

"Anybody with a big enough wallet can place an offer down that a senior management team could not ignore," says a top executive at one access equipment company.

— Phil Harvey, Senior Editor, Light Reading

douggreen 12/5/2012 | 2:30:51 AM
re: M&A's New Currency Geoff,

Cisco in fact bought 3 LAN switch companies (including Grand Junction). At least part of the reason that they bought Kalpana was defensive. IBM had an outstanding offer in stock that Cisco countered in cash. Most of us who knew the situation believed it to be almost totally defensive.

In fact, aquisitions are often a mixture of offensive (to get the product) and defensive (to keep competitors from getting them).

A third reason for aquisitions is product drag (e.g. selling more routers because you have LAN switches, etc.).

A fourth... getting into new markets. Part of Cisco's reasons for buying Cerent was to get the product and revenue, but it also got them entry into the regulated side of the carriers.

All of these factors make it hard to judge the success of some aquisitions because success can be measured on many fronts. However, one can certainly find a lot of obvious failures, as some have pointed out on this board.
whyiswhy 12/5/2012 | 2:31:00 AM
re: M&A's New Currency Sorry and gald at the same time to see from your posts that you "still believe" in virtuous business principles. But the truth is that in many, many M&A cases, the "real" reason is as I stated: inside dealing.

This explains why the acquistion rarely works out. There is no incentive post-merger that compares to the "shower" everyone involved gives themselves within 90-180 days of the closing of the deal. Why bother making it work longer term that that?

Look at all of KK's acquistions at JDS...how many are still there? How relatively rich is JDSU? How relatively rich is KK?

I would say KK is doing 1000% better relative to when he started at JDSU than JDSU is from when he started.


gbennett 12/5/2012 | 2:31:06 AM
re: M&A's New Currency Comrades,
On a slightly different point...why do we think that so many acquiring companies tend to make so little of their acquisitions after they've done the deals? Jeez, I mean they've spent a fortune on this company, you'd think they'd want to make the best of it.

I have a half a dozen examples I can recount from internal experience, but I'd prefer not to name names :-) By the way, one of you asked whether acquiring companies use any kind of internal index to measure the wisdom of their acquisition decision. My guess is they don't. Executives hate to be reminded of the magnitude of their mistakes :-)

gbennett 12/5/2012 | 2:31:06 AM
re: M&A's New Currency Comrades,
Some very interesting comments from you on this thread. Maybe I can summarise by re-stating some of the points...

- Acquisitions donG«÷t just happen for the obvious reasons G«Ű technological or commercial G«£time to marketG«•. There are G«£strategicG«• and G«£accountingG«• reasons.

- Strategic reasons may include shedding "bad feelings" from previous efforts in this space.
- Accounting reasons seem to be a symptom of the VC expectation. In other words, the acquiring company needs to retain the highest level of profitability, and can't afford to endanger this by too many internal development projects - even if these projects would have been cheaper in the long run. Accounting rules like "pooling of interest" and the ability to write off goodwill are contributary factors.

- Acquisitions can be made for defensive reasons. Perhaps a company needs to "take out" a young upstart before it becomes too much of a problem.

One conclusion I would draw is that there is a serious problem with the internal development framework in western companies. If internal politics can scupper an otherwise well-thought-out project, this is a problem. If lack of willingness to invest in internal projects is overshadowed by an almost reckless need to "do a deal" for an acquisition, then this is a problem. If, as one of you has suggested, it is difficult to motivate an internal team to think out of their existing box (both literally and metaphorically) then this too is a problem.

I also wonder if there isn't something of the macho mentality about acquisitions. With our modern veneer of civilisation, maybe this kind of activity is the equivalent of the old "rape and pillage" of the Dark Ages? I definitely remember remarks a couple of years ago that Juniper "couldn't possibly be all that successful as they haven't acquired anybody". There was me thinking Juniper was as successful as it was precisely because it hadn't wasted its time and (shareholders') money acquiring anybody. Judging by the strutting that typically follows an acquisition, I definitely think there's something to this idea.

As we start to see some recovery in the markets, it looks like we're also beginning to un-learn the lessons we all said we'd never forget about the past couple of years - you know, the ones about sensible P/E ratios and stuff. If companies are gearing up for acquisition fever once again then I suspect we'll also see a return to nonsensical acquisition bids.

uno04 12/5/2012 | 2:31:09 AM
re: M&A's New Currency >>So why would anyone ever acquire a products or technology vs organic development.

It has come to the point where in-house development (whether there is man power or not) is not appealing to the board and the management. The baord and the management would rather let good and hardworking people go and do a buyout than develop anything new inhouse. Also, even if the M&A has proven to be a total failure, the business cycle is so long, it gets forgotten and there is no accountability at all.

Can anyone tell me any of the following M&A have brought anything to the buyer:

But for the stock holders, do any of the people who made the decision got affected?
PO 12/5/2012 | 2:31:09 AM
re: M&A's New Currency I still don't have better data on Cisco's stable, but they seem to still be carrying $4B of Goodwill on their balance sheet: under FASB 142 this should be their best valuation of acquired assets (over direct value). Unfortunately, since Cisco was always so fond of the Pooling of Interests method of accounting, it's all but impossible to make any useful interpretation of this fact.

What defines a successful acquisition? I'm more familiar with Nortel's kicks at the can than I am with Cisco's, so I'll discuss them instead.

It has been generally agreed that Nortel's acquisition of the OPTera product has been highly successful by most any measure. But there has been more debate about whether the prior in-house development could have been as good or even better.

In this case, much of what was bought was a new name in the marketplace: none of the acrimony attached to Nortel products carried over to the acquisition, yet the full weight of Nortel's capability to support a product was available. Had they passed on the company, their internal product would have had to compete for the same sort of positive messaging which startups tend to generate. And they would have left a strong competitor standing against them in the marketplace.

And then there's the internal politics, where the proven people from a previous product rarely know what it really needed on a new product: those who know are rarely followed until it's too late. An acquisition is also free of that sort of history.

Nortel had made some other reasonably good acquisitions, such as Shasta and (more controversially) Bay Networks. The former probably could not have been developed in-house; without the latter Nortel would not be where it is today.

For an introduction to FASB 142, see ...
whyiswhy 12/5/2012 | 2:31:09 AM
re: M&A's New Currency Good point about M&A in general, but misses the real attraction.

Incremental R&D expenditures and incremental progress (or the lack thereof) are very hard to keep selling to Wall Street. Not at all sexy. Very risky, takes too long, depends on engineers (egad! geeks!) and/or production (tisk tisk - the poorish-boorish...).

It is much easier to spin and flip an M&A deal, with insiders (the investment bankers and the execs involved) all cooperating to screw JQ Public.

Just like VC's, but add one or two orders of magnitude to the deal size.


rbkoontz 12/5/2012 | 2:31:10 AM
re: M&A's New Currency It is painfully obvious to me, having been intimately involved in several acquisitions, that they fail to meet business objectives over 95% of the time. The biggest factors seem to be cultural incompatibility and failure to execute post-deal with reduced financial incentives.

So why would anyone ever acquire a products or technology vs organic development. The biggest attraction here comes down to accounting. Public companies often cannot sacrifice profitability for prolonged periods to sustain large numbers of organic development projects. The executive decision makers of public companies are under quarter by quarter pressure and risk their jobs to take any different stance. The attraction to use stock-holder dillution to bring a product to market vs. sustained internal investment (and quarterly financial losses) is clear. This factor is highly responsibible for the existence of the venture capital industry.
dljvjbsl 12/5/2012 | 2:31:16 AM
re: M&A's New Currency
Could Cisco have developed a better 10/100 switch internally, in not much more time than was needed to complete these acquisitions?

My experience with internal development is that it is very difficult to get an existing team to do anything genuinely new. My experience is that they always end up failing because they try to relate what they are doing to what they have done before. After all they were very successful previously and see no reason why they should risk that by doing either new things or things in a different way. Job security and status issues all argue against the new project.

I have seen at least three internal development project founder because they were taken over by the existing culture within the company. The one that I saw succeed succeeded because the principals, from the start, saw it as a subversive ad hoc project that needed to protect itself from the existing culture. It was run in competition with a conventional project that had been officially sanctioned. The ad hoc project succeeded because it accepted that there was a need for change and that effective ideas could found in unexpected places. It was not kept secret but actively sought out the support of senior executives.

Remarkably the efforts of the sanctioned project helped the ad hoc project succeed. The comparison between the proposals aided the ad hoc project by showing that the sanctioned project's rehashed ideas were tired and did not fit either the technological and customer context of the day. No minor fiddling of the existing design could fix its limitations. A new way of doing things was required and the ad hoc project showed this possibility.

The books on innovation that I have read seem to echo this. They emphasize how new innovative developments must be protected within an organization. They recommend external development either in a separate location within the same company or within a new company. Even with this, the protection of a powerful executive patron is required. Acquisitions would seem to fall within this second category.

In any event doing something new is a very difficult task to bring about in a large company. Cisco's success in doing this is remarkable.
optoslob 12/5/2012 | 2:31:17 AM
re: M&A's New Currency Cisco's market Cap is $181B enought said, the market has voted!!


PO 12/5/2012 | 2:31:18 AM
re: M&A's New Currency Good questions, Geoff. A few comments, with possibly more to come (unless others get facts out sooner than I can research them).

Your examples certainly suggest that the bigger the acquisition the less likely it will be demonstrably successful. I'm quite sure, though, that many of the smaller acquisitions (by Cisco and by others) have been more clearly successful. Unfortunately, even these are tough to find good data on.

Then there's the question of alternatives. You point out the possibility for the acquiring party (or 'surviving' entity for the Merger of Equals approach which was favored for accounting reasons) doing an in-house development instead. And you acknowledge the commensurate product risks. But sometimes it's about the benefits to the acquired party: channel to market, cash influx, etc. I don't have any data here yet either, but we should be able to hypothesize on some of the stories.

Often, this is lumped into the general category of "strategic acquisitions", or may be pursued as a partnership (if control issues can be worked out).

Finally, there is the question of the currency being used. Often, the acquisition is not being done with the company's cash, but with the shareholders' equity: although the shares are being diluted the shareholders hold a stake in what should be a larger company. (And which, according to the intentions governing accounting of "Goodwill", is greater than just the sum of its parts.) So the question is not whether the profits can be used to pay for the acquisition but rather whether the profits of the combined company are "better" (ROI, ROE, P/E, whatever is popular) than the profits of the acquiring company alone.

Perhaps someone else will contribute examples before I find any actual samples ...
routethus 12/5/2012 | 2:31:20 AM
re: M&A's New Currency Geoff,

Your comments (regardless of what you actually believe) seem to infer that acquisitions are mostly/always offensive rather than defensive ;-)

searcher72 12/5/2012 | 2:31:21 AM
re: M&A's New Currency Do companies like Cisco perform audits to determine the value or how successful an acquisition is or has been to the company either revenue, profit, market share, ease of integration into the larger company and ability (in some cases) to continue to ship product. Possibly come up with a scale that allows them to rate one acquisition against another and each business unit's ability to maintain or lose efficiency after an acquisition. Maybe if you had an index like this you could determine which acquisitions were worth it.

The reason I am asking is that during the acquisition fever it doesn't appear that anyone really took the time to stand back and ask the question that gbennett raises and yet they continued to acquire.

gbennett 12/5/2012 | 2:31:23 AM
re: M&A's New Currency Comrades,
Open question to you all.

My feeling is that this breaks down into two threads - Carrier and Manufacturer.

Don't know much about carrier acquisitions, so I'll only comment on manufacturers.

I'm having a hard time recalling a successful acquisition. I certainly haven't experienced any from the inside (in nearly 20 years of working in this business).

Cisco is generally cited as having the best ROI for acquisitions. But I'd like to challenge this opinion by choosing what I think are the three most successful moves Cisco has made in this area.

Early 90s: Kalpana (10/94, $240M)) and Crescendo (9/93, $89M). These two acquisitions catapulted Cisco into the LAN switch market, created what became the Catalyst product family, and eventually led to the majority of Cisco revenues coming from switches, not routers. There's no doubting that these acquisitions were vastly cash-positive for Cisco.

But was it better to acquire than to develop internally? As I remember Crescendo was an FDDI switch, a small part of the total LAN switch market back then, and would be out-paced by Fast Ethernet as a backbone technology. My guess is that Cisco could have developed a multi-purpose, FDDI/Fast Ethernet switch internally, and with an IOS that looked the same as its routers. Catalyst IOS still looks different ten years later!

Ditto for Kalpana. A good switch, and the market leader at the time. But the Kalpana was a cut-through Ethernet switch, a design that dows not lend itself to speed changes. Since Fast Ethernet was just about to hit the market big time, was this the right architecture to use? Could Cisco have developed a better 10/100 switch internally, in not much more time than was needed to complete these acquisitions?

Maybe not. Synoptics (acquired by Wellfleet in 1994) proved that it's possible to get an Ethernet switch design wrong more than once. Maybe it was better for Cisco to take on a sub-optimal, but working product, than to shoot for perfection with the risk of missing entirely?

End of the 90s: Cerent (8/99, $7B). Acquired at the height of the bubble. Cisco are unlikely to recover the acquisition cost of Cerent in revenues, never mind profits. But here we can argue that the acquisition was "strategic" - launching Cisco into the carrier space (just as this market was about to plunge into recession, of course).

Clearly the Cerent platform hit the sweetspot in DS-3 interconnect market. But would Cisco have been better off developing a more general purpose optical switch in-house? In hindsight we can categorically answer no, because a market would not have appeared for such a product for several years. but in that case we'd have to conclude that the Cerent acquisition was also a bad move, wouldn't we?

And remember, these are the best examples of acquisitions I can come up with. I'd be very interested to hear opinions on this topic.

corvisalum 12/5/2012 | 2:31:58 AM
re: M&A's New Currency LR:

Now that you have erased BMax, can you do the same for KPSmells - his postings are pure scam and lead readers to a website which is completely irrelevant.

truelight 12/5/2012 | 2:32:01 AM
re: M&A's New Currency
KPSmells -get lost ps\osting here.

Forget Rollostar they are run by Vinay Kumar - Indian. Your name and details are likely going to end somehwhere you do not to be plus all your compnaies information and products. This is just a front for a scam to sell other services.

Do not be fooled by this type of company.

whyiswhy 12/5/2012 | 2:32:14 AM
re: M&A's New Currency "Calix - .... Russo has the pedal to the metal to generate bookings and revenues while sacrificing long term strategy. He is putting lipstick on this pig and hoping someone will write a check big enough to satisfy his ego. Prediction: sold to Ciena for $150M after Ciena walks out on Catena at the alter - see below."

Calix (and the rest): All their customers know their investors are on the verge of throwing in the towel, but they can be used as an irritant for the major players to keep prices low. Always at the altar, never getting married. As long as the investors pony up, the Tier 1 boys will whisper sweet nothings, and buy as little as they can.

Any large aquirer is a competitor and has to believe for any of these guys going into Chpt 11 they get rid of an irritant and take over any business anyway, so why pay much of anything at all?

BobbyMax 12/5/2012 | 2:32:23 AM
re: M&A's New Currency Merger and Acquisitions seldom work regardless of the motivation the motivation. The mass acquisition of companies was "pioneered" by Cisco in an effort to raise its stock prices abnormally high. The reasons behind merger and acquisitions often remain in the background and the full facts are seldom known.

It is too dangerous to acquitre VC funded companies as one is expected to pay much more than they are worth. Many prominent companies such as Lucent, Nortel,Cypress, Nokia, Alcatel, Siemens, Ciena and Motorola have tremendously suffered by their excessive acquision activitties
fudbuster 12/5/2012 | 2:32:25 AM
re: M&A's New Currency Most Wanted, with all due respect, this is nothing but pure unadulterated FUD.
rbkoontz 12/5/2012 | 2:32:46 AM
re: M&A's New Currency LR, let's shed some light on the skeletons in these start-up closets:

Calix - yes, working their way through Nortel partner program for Sprint. They are a strong acquisition candidate for someone and best of the bunch - based on limited success with the IOCs. But their product is no where near ready for large account quality according to several major carrier lab trials. Biggest acquisition concerns include retention of the mgt team - same ones who bailed Cerent shortly after the acquisition, and employees who have endured 4 years of sheer hell and looking for a pay day and exit. Likely they have good reason to bail as all the tier 1 account lab trials indicate the product is no where near reliable enough to make it. And engineers love to clean up bad code you know... Russo has the pedal to the metal to generate bookings and revenues while sacrificing long term strategy. He is putting lipstick on this pig and hoping someone will write a check big enough to satisfy his ego. Prediction: sold to Ciena for $150M after Ciena walks out on Catena at the alter - see below.

Catena - great little SLC 5 retrofit card, but the new system BLC product is no where near ready or competitive - even 3 years after it was launched. Catena has zero significant customers for their system product for a reason. Prediction: Ciena takes them to the alter and bails after product diligence. Remaining SLC 5 line card biz sold to Adtran for $50M.

Occam - getting lots of attention from IOCs these days for great slidewear and trials. No they have to deliver and scale to carrier sized networks and traffic loads. Only a real lab trial by a big customer will whether they are for real of memorex. Prediction: Can't get revenues above $5M/qtr and are taken out by a public ethernet vendor who knows too little about the access network to see their limited capability - my guess is Extreme or Foundry or Riverstone - for $75M.

Zhone - nothing but a telecom junk yard dog here. 4 years and $500M have netted no measurable customer wins for new system BLC products (sorry, CLECs don't count any more Mory). Prediction: with $15M cash left, they burn through the remainder and fail to convince the VCs to fund Mory's failure any further. Chapter 11 baby. In a bizarre twist, Mory buys his own assets back for $200,000 , eliminates those pesky shareholders and starts it all over again.

Allied Telesyn - Group of enterprise data guys trying to build a carrier product. Their addressable domestic market is capped with the smallest, most experimental IOCs. Telesyn Japan takes 12 months to find the limits of the product and team before shutting it down.

Entrisphere - Great slidewear but no product (even announced!) yet. Horribly trailing their competition above in development. Even Fujitsu geniuses can figure this out. Prediction: gets a highly dillutive round in late '04 dependent on revenue milestones, but can't achieve and shut down in early '05.

sevenbrooks 12/5/2012 | 2:32:49 AM
re: M&A's New Currency Its a joke, Nortel owned part of Arris....

OpticOm 12/5/2012 | 2:32:51 AM
re: M&A's New Currency What for?
That's a dead company anyhow...
FISH 12/5/2012 | 2:32:52 AM
re: M&A's New Currency Nortel should buy ARRIS !
particle_man 12/5/2012 | 2:32:52 AM
re: M&A's New Currency That would be good advice if there were any way to examine executive ratings on rolostar. If you guys are going to spam the LR message boards, you should at least know what your product does.
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