The $34 Billion Open-Source Bet: IBM Buys Red Hat

The bet is the story, and the story is the price: $34 billion, the sum that IBM agreed to pay for Red Hat, the announcement that came on October 28, the largest software acquisition in history, the biggest deal the company has ever done. IBM said it would pay $190 a share in cash, a premium of about 63 percent over the last closing price, a price that stunned the market and rewarded the faithful shareholders. The $34 billion bet is the October 2018 story, and the story is the lesson: the old giant that buys the new model, the open source that became the strategy, the hybrid cloud that everyone must now chase.

The bet is the subject of this article: why IBM paid so much, what Red Hat brings, and what the deal teaches about open source and transformation.

1. The Announcement

The announcement is the event, and the event is the surprise: the press release that came on October 28, the Sunday news that broke the record, the boards that approved in the days before, the deal that nobody had predicted at that size. The announcement is the price: $190 a share in cash, the premium of about 63 percent, the offer that the Red Hat board accepted, the money that the shareholders will see. The announcement is the plan: the shareholders who must vote, the regulators who must look, the close that IBM expects in the second half of 2019.

The announcement is also the timing: the quarter when the cloud wars are hottest, the moment when the old guard must answer, the message that IBM is not done. The announcement is the statement: the words that Ginni Rometty used about the hybrid cloud, the framing that this is a charge, not a retreat, the signal that the transformation is being bought. The announcement is the October 2018 fact: the biggest software acquisition in history, the bet that is now public, the work that is just beginning. The announcement was the start, and the start was the price.

2. The Numbers

The numbers are the scale, and the scale is the record: $34 billion in cash, $190 a share, the premium of 63 percent, the largest software acquisition ever, the biggest deal in IBM's 107 years, the price that dwarfs the $26 billion that Microsoft paid for LinkedIn. The numbers are the comparison: the $2.9 billion in revenue that Red Hat reported for its last fiscal year, the growth of about twenty percent, the price that works out to more than ten times the annual sales. The numbers are the arithmetic: the deal that will be paid with the cash on hand and the new debt, the balance sheet that will carry the load, the returns that must follow.

The numbers are also the judgment: the price that only makes sense if the cloud bet pays, the premium that says the future is worth the present, the valuation that the software world has never seen. The numbers are the October 2018 lesson: the worth that the market now puts on the open source, the price that the strategy must justify, the arithmetic that the analysts will argue for years. The numbers were the shock, and the shock was the signal.

3. The Company

The company is the asset, and the asset is the model: Red Hat, founded in 1993 in Raleigh, the company that took Linux and made it enterprise, the subscription business that sells the support and the software, the open source that is actually a revenue engine. The company is the story: the operating system that runs the servers of the world, the free code that became a $2.9 billion business, the customers who pay for the certainty, the model that proved the doubters wrong. The company is the position: the number one name in enterprise Linux, the OpenShift platform for the containers, the Kubernetes expertise that the cloud world wants.

The company is also the fit: the open source that IBM needs, the credibility that cannot be bought elsewhere, the community that comes with the code, the engineers who must stay or leave, the culture that must survive the giant. The company is the October 2018 lesson: the vendor that built a business on free software, the proof that the model works, the prize that the giants now fight for. The company was the prize, and the prize was the proof.

4. The Strategy

The strategy is the hybrid, and the hybrid is the claim: the cloud that is not only the public cloud, the workloads that stay in the data centers, the mix that every big company actually runs, the market that the giants have partly ignored. The strategy is the bet: the Linux that runs everywhere, the containers that move the workloads, the OpenShift that manages the clusters, the platform that IBM will sell to its enterprise customers. The strategy is the answer: the public clouds are not the whole future, the private data centers will remain, the open source is the way to reach them.

The strategy is also the admission: the cloud that IBM missed, the catch-up that must be bought, the hardware that is fading, the services that are squeezed, the transformation that needs a new engine. The strategy is the 2018 lesson: the hybrid cloud is where the next billions will be won, the open source is the neutral ground, the platform matters more than the servers. The strategy was the reason, and the reason was the price.

5. The Pivot

The pivot is the history, and the history is the burden: the company that defined the computing age, the mainframes and the PCs and the services empire, the hardware giant that watched the cloud pass it by. The pivot is the record: the revenue that has fallen for years, the layoffs that came in waves, the Watson bet that has not yet paid, the stock that lagged the market, the pressure that Rometty carries. The pivot is the answer: the deal that says the future is software, the cloud that will be rebuilt, the open source that will carry the revenue.

The pivot is also the risk: the acquisitions that do not fix the culture, the billions that must be earned back, the integration that will take years, the customers who must be persuaded, the transformation that has no guarantee. The pivot is the 2018 lesson: the legacy giants that must buy their futures, the reinvention that comes at a price, the courage that the board showed, the bet that will define the decade. The pivot was the need, and the need was the deal.

6. The Deal

The deal is the shape, and the shape is the cash: the $190 a share in cash, the financing that mixes the cash on hand and the new debt, the balance sheet that will change. The deal is the premium: the 63 percent above the market, the price that the shareholders could not refuse, the signal that Red Hat was not for sale at a discount, the cost of the conviction. The deal is the record: the largest software acquisition in history, the biggest deal in the company's long life, the number that will be quoted for years.

The deal is also the approval: the shareholders who will vote, the regulators in the United States and Europe, the close that is expected in the second half of 2019, the months of the uncertainty, the risk that something slips. The deal is the 2018 lesson: the premium that strategy demands, the cash that the giants hold, the acquisition as the fastest way to change, the price of the future. The deal was the structure, and the structure was the statement.

7. The Risks

The risks are the other side, and the other side is the long: the integration of the two cultures, the open source community that watches the giant, the developers who may drift away, the customers who wonder about the independence. The risks are the numbers: the $34 billion that must earn its return, the debt that must be serviced, the revenue growth that must accelerate, the cloud wars that will not pause. The risks are the questions: the competitors who will use the deal against IBM, the rivals who court the same customers, the execution that will decide.

The risks are also the context: the acquisitions that fail more often than they succeed, the premiums that destroy value, the history that is littered with the giants' mistakes, the hope that this one is different. The risks are the 2018 lesson: the deal that is the beginning, not the end, the work that follows the announcement, the transformation that is earned in the years, not announced in the press release. The risks were the weight, and the weight was real.

8. The Lesson

The lesson is the open source, and the open source is the business: the free software that became a $34 billion prize, the code that the world runs on, the model that sells the support and the platform, the proof that the sharing and the selling can coexist. The lesson is the 2018 meaning: the biggest software acquisition in history is a bet on Linux and the containers, the hybrid cloud that every enterprise will need, the open source that is no longer the alternative but the center. The lesson is the practice: the companies that must know their strategic assets, the platforms that are worth the premium, the transformation that must be bought when it cannot be built.

The lesson is also the caution: the premium that must be earned, the culture that must be kept, the community that must be trusted, the integration that will test the giant. The $34 billion bet is the October 2018 story, and the story is the lesson: the old giants that buy the new world, the open source that became the strategy, the hybrid cloud that is the next battlefield, the deal that will be studied for years. The bet was made, and the work began.

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