What SAP Is Actually Getting For $5.8 Billion

By James Brumley | May 17, 2010 AAA

While the general consensus is that software giant SAP AG (NYSE:SAP) paid too much, or will pay to much, for its acquisition of semi-rival Sybase Inc, (NYSE:SY), very few journalists have actually defined the idea of "too much," other than the fact that SY shares are 56% more expensive than they were prior to the announcement.

Even fewer journalists have looked at any of the numbers beyond the $5.8 billion SAP is paying to bring Sybase into the fold. So, before you draw any conclusions about SAP's acquisition, can we at least take a look at what it's getting for its $5.8 billion smackers? Maybe the 56% premium is still a bargain.

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It's All Relative
How much is $5.8 billion to SAP AG? Not a lot in the grand scheme of things. The company does about 11 billion euros in revenue per year, and earned about 1.78 billion euros in 2009 - and that was an off year. As of the end of last quarter, SAP was sitting on about 3 billion euros worth of cash or cash equivalents.

And what about Sybase? The company's been pulling fairly reliable annual revenues of about $1.1 billion, and turning that into yearly income of anywhere from $130 million to more than $160 million.

That may well be why so many investors are balking; it's a $5.8 billion outlay for a company that's only apt to boost the bottom line by, let's be generous and say $200 million for starters? The acquisition's P/E ratio using those numbers rolls in at a fairly pricey 29 versus the stock's (SY's) approximate P/E of 21.4 prior to Wednesday's jump.

However, there are two things that the acquisition's opponents may be forgetting.

Cash
Sybase is sitting on some cash and near-cash holdings of its own - about $1.3 billion as of the end of last quarter. Since SAP is buying all the assets of Sybase as well (and will get that cash put back in the coffer), the actual price tag of the purchase is more along the lines of $4.2 billion. That brings the enterprise's P/E level down to a more palatable 26, give or take, based on 2009's numbers. It's 24.4, using Reuters' income estimates for 2010. Either way, it's cheaper.

Par for the Course
Even at an earnings multiple of 24.4, some current SAP owners may grumble, citing that 56% premium over Tuesday's last price. Fair enough. However, such premiums aren't unusual in the business, and the recent instances have worked out fine.

Take Oracle (NASDAQ: ORCL), for instance. It paid a 30% premium for Phase-Forward (NASDAQ:PFWD) last month.

Also too much? Maybe, or maybe not. Prior to Oracle's acquisition announcement, PFWD was trading at about 22 times 2010's expected earnings. After the price jump to $16.80, Oracle ended up paying a projected P/E of about 28.5, which in the same ballpark as SAP's purchase of Sybase. Yet, the Oracle decision caught much less criticism.

Bottom Line
Two points need to be made of the negative reaction to the premium SAP will be paying.

The first is - as the number crunching above indicates - the SY price tag really isn't all that unusual, even if Sybase ends up earning something closer to 2009's numbers than its expected 2010 earnings. The flurry of questions and jeers may be largely the result of the market's implosion after the Oracle news, but before the SAP news. Investors may just be overly sensitive to premiums at this time, and in this case, they may not have even bothered thinking bout anything other than the price premium.

The second point is that in most cases, and particularly with technology, growth is generally more important than valuation. Yet, valuation seemed to be the stumbling block here. So, before jumping to any conclusions, investors should understand that Sybase was expected to grow earnings by 43% this year, and by 9% next year.

Between the typical "tech acquisition" valuation and the forecasted growth, the "they paid too much" arguments don't hold a lot of water. (For related reading, take a look at The Wonderful World Of Mergers.)

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