Sun Needs IBM Not Visa Versa; Deal Talk Stumbles

News reports today are saying that talks between Sun Microsystems (JAVA) and IBM (IBM) have broken down, supposedly not over price. According to the Wall Street Journal, talks broke down when the Sun board rejected the formal acquisition offer from IBM and sent notice that they had terminated the exclusivity of talks only with IBM. Apparently the Sun board is split over whether to do the deal with the company’s Chief Executive wanting to do the deal, but the company’s co-founder and chairman Scott McNealy is opposed.

Sun MicrosystemsWhile price is certainly a concern of both parties, it seems that there is a difference of opinion on how hard IBM would be willing to push were the deal to face regulatory challenges. IBM states that they are fully committed to the deal, but Sun believes there was too much wiggle room for IBM to drop the deal if needed. This may be a very valid concern for Sun that they do not want to be left without a dance partner if the deal does face push back, but Sun needs to be very careful about how they play the situation. Should they turn negotiations into a confrontation, they may find themselves a stand alone business with no one interested in buying them.

Sun’s decline has been well documented and they began shopping themselves around last winter. Sun management needs to think long and hard before it leaves a deal on the table that would pay a 100% premium to the pre acquisition price. Perhaps IBM rival Hewlett-Packard (HPQ) could be interested but there has been nothing more than rumor to support that. After all, IBM was the only company that stepped to the plate when Sun began shopping itself around.

“Sun down 25% but up more than 100% year to date. There’s been a lot of talk on the street that if it’s not going to be IBM, who is going to buy Sun Microsystems? It is the number one target in the tech industry right now.” Fox Business Network 4/6/2009.

Not surprisingly, Sun stock tanked 22.5% on Monday. After having an Undervalued stance on Sun for more than a year, we are reaffirming our Fairly Valued valuation on post merger announcement price levels. Fundamentally, Sun has been able to grow revenues steadily over the past few years but the company swung to a loss last summer. The fact remains, that Sun Micro needs IBM far more than IBM needs Sun. At this point the talks are “fluid” but it seems that IBM has all of the power in this situation. We do not know exactly what has been going on in negotiations but Sun management should tread carefully because there will be a lot of angry shareholders should the deal eventually die.

Sun Micro Needs IBM Not Visa Versa

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