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HP to buy EDS for US$13.9 billion

The HP outsourcing business will be folded into the EDS business unit

HP (NYSE: HPQ) said Tuesday morning that it has signed a deal to acquire IT outsourcer EDS (NYSE: EDS) for US$13.9 billion, or US$25.00 per share.

The deal has been approved by both companies’ boards of directors, and is expected to close in the second half of this year.

HP said it will more than double its services revenue.

It plans to fold its outsourcing business into a new unit to be called “EDS — an HP company,” which will be based in Plano, Texas, where EDS has its headquarters.

“This is about us putting our outsourcing business into EDS,” said HP Chairman and CEO Mark Hurd, in a conference call with analysts.

The EDS division will be led by EDS chairman, president and CEO Ronald A. Rittenmeyer, who will report directly to Hurd.

That will take control of some of HP’s services activities away from Ann Livermore, executive vice-president of HP’s Technology Solutions Group (TSG). Services, including outsourcing, contribute almost half of that group’s revenue: the other half comes from storage, servers and software. Livermore “has got a big job,” said Hurd, adding that much of HP’s services activity will remain with TSG.

Rittenmeyer’s appointment raised at least one analyst’s eyebrows.

“It’s interesting that he has been put into this spot, as there were questions about how he was going since taking over as CEO at EDS,” said Gartner analyst Ben Pring.

The deal will greatly expand HP’s IT services business and catapult it to the number two spot close behind IBM, whose Global Technology Services division has long been a strong profit generator for the company.

“I see [the acquisition] as an attempt by HP to really go head to head with IBM in a much more meaningful way, especially in technology services and IT outsourcing,” Dana Stifler, research director with AMR Research, said Monday, while the two companies were still in talks.

The worldwide market for IT services was worth US$748 billion in 2007, an increase of 10.5 per cent from the year before, according to recent figures from Gartner. IBM led the market with about US$54 billion in revenue, followed by EDS with US$22 billion. HP was in fifth place with revenue of US$17 billion, behind Accenture and Fujitsu.

Buying a services business in a faltering economy is a good investment, because that’s when customers are keenest to cut their costs by outsourcing, said Hurd.

“Services is countercyclical, the tougher things get, the better services does,” he said.

Rittenmeyer said that EDS has a “strong pipeline” of contracts ahead of it.

There is little overlap in the channels by which the two companies reach customers, said Hurd, since HP’s services business primarily targets small and medium-size businesses. Nevertheless, Hurd sees other areas where the companies can realize “significant synergies” and reduce operational costs.

Buying EDS will grow HP’s services business and allow it to offer a wider range of services to attract large business customers. EDS is strong in infrastructure management services and also custom application services, where it helps companies to design, integrate and manage applications.

EDS is less strong in providing services for packaged applications, however, and the acquisition will not give HP a big lift in the type of business consulting services delivered to line managers and business executives either, Stiffler said Monday.

HP has been keen to expand its services business for years, and EDS is not its first attempt to do so. In 2000 HP dropped plans to acquire PricewaterhouseCoopers Consulting, which was ultimately scooped up by IBM two years later, for US$3.5 billion.

HP’s services business generated only 16 per cent of its total 2007 revenue of US$104.3 billion, while IBM makes more than half of its annual revenue from services. The company increased its revenue estimate for fiscal year 2008 on Tuesday morning, saying it now expects revenue of between US$114.2 billion and US$114.4 billion, up from a previous estimate of US$113.5 billion to US$114 billion.

Buying EDS will give HP the muscle it needs to become a serious threat to IBM’s services business, said Kathryn Hale, research vice president at Gartner, also speaking before the companies confirmed the deal. HP has the resources and the wherewithal to acquire EDS and improve its business results, she added.

EDS reported revenue of SU$22.1 billion for its fiscal year 2007, which was up only a fraction from 2006. Net income was US$716 million, up from US$470 million.

EDS and its subsidiaries employ about 139,500 people worldwide, around 45,000 of them overseas. EDS aims to boost the number of overseas workers to around 55,000, said Rittenmeyer. HP ended its 2007 fiscal year with about 172,000 workers.