The upside & downside of the HP/EDS deal

I suppose it’s better late than never.

That’s my initial reaction to news that Hewlett-Packard Co.’s plans to purchase IT services giant Electronic Data Systems (EDS) Corp.

It’s the major acquisition that HP probably should have made in 2001 when instead it opted to buy Compaq Computer Corp. – a deal, that at the time, left more than a few industry observers scratching their heads. In Compaq, HP grabbed more of what it already had in the way of desktop, notebook and server equipment. Granted that the Compaq deal also brought some services talent, but it was largely commodity support services. At upwards of $20 billion HP paid a big price to effectively remove a competitor and fatten low-margin “break/fix” capabilities. The aftermath of the Compaq deal was a long and tumultuous period of pain as jobs were lost and cultures clashed. It took years to smooth out the wrinkles.

I was definitely among those at the time who argued that if HP was inclined to spend all that money it should buy something not already owned, in order to broaden the portfolio to pursue new types of business opportunities. The recent EDS deal is the kind of acquisition that seven years ago would have made a lot of sense and been seen as aggressive and dynamic.

However, it’s better late than never.

So let’s consider what’s positive about this move.

Through EDS, HP can finally lay claim to being a true one-stop shop and a leader in IT outsourcing. Services enhance business opportunity and, if done right, outsourcing drives significant pull-through product sales. With such a significant services arm HP is in a position to move even more of its equipment, especially within the enterprise base of customers.

Through services, IT vendors have an opportunity to demonstrate technical expertise and achieve trusted advisor status among customers. No doubt HP’s perception as a strong technology company will be even further enhanced.

Services such as outsourcing succeed largely on the basis of having forged a great customer relationship and that provides a clear path to upsell and enriched engagements.

While services revenues don’t grow by leaps and bounds, outsourcing is nonetheless a large and established multi-billion dollar business that grows steadily each year.

It’s also a recurring and sustainable revenue stream that has on more than one occasion carried a company like IBM Corp. through lean times.

Conceivably, HP’s regional services partners will benefit, too. HP looks to that community to provide augmenting and specialized services and with the large outsourcing engagements of EDS more help will be needed.

Here’s the downside.

Outsourcing may have lost a bit of its lustre. It is a mature and captive market, where deals appear when existing contracts expire. Outsourcers battle hard for incumbent customers and it’s a highly competitive. Lower pricing pressure is constant, so efficiency in service delivery is essential. There’s extremely limited net new business in the market, particularly among large multi-national customers.

But the untapped goldmine is downmarket in delivering services that appeal to medium- and small-sized companies. None have yet unlocked the secret to success here and HP’s strategy in outsourcing services should focus on how to spur new business growth in non-traditional spaces.

Assuming the deal goes through, HP will enter another tumultuous period of re-organization, right-sizing and revised business focus. A big deal is always tough to swallow and it takes time to digest. But at the end of the day, there’s the potential here for HP to achieve more compelling value and move well beyond selling mere products.

So while an acquisition like this would have been a much more timely and astute move seven or eight years ago, there are still enough good reasons to do the deal today.

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Jim Love, Chief Content Officer, IT World Canada

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