There's a cottage industry in connecting the dots of prior mergers and acquisitions (M&A) transactions and figuring out who might be next. When SAP (NYSE:SAP) paid $3.5 billion for SuccessFactors and Oracle (Nasdaq:ORCL) paid $1.9 billion for Taleo, it didn't take a leap of inspiration to connect the dots and posit that Kenexa (NYSE:KNXA) could be next to go or that IBM (NYSE:IBM) was the likeliest buyer on the board. With Kenexa's stock showing a lot of strength recently, Monday's announcement that IBM will acquire the company in a $1.3 billion all-cash deal is not really the most surprising announcement of recent weeks.
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The Deal IBM Is Offering
Assuming that the deal goes through, IBM will acquire Kenexa for $1.3 billion in cash or $46 per share. That gives investors a 42% or so premium to Friday's close and the highest price the shares have ever seen. IBM isn't breaking the bank on this one either. With $363 million as the current sell-side guess for 2012 revenue (and analyst estimates recently heading up), IBM is paying only about three and a half times forward revenue - well below the eight time and five time premiums that SuccessFactors and Taleo received from their respective buyers. That said, while Kenexa's growth is hardly pokey (up 25% in the last quarter), it is meaningfully lower than that of SuccessFactors and Taleo when they were acquired and the forward growth expectations are likewise more modest.
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What IBM Is Getting
With this deal, IBM better rounds out its offerings in the human capital management space and also perhaps signals that the company is more willing to go toe-to-toe with SAP and Oracle in the applications space - a bit of a move away from its tradition in infrastructure, but more like a continuation of a trend than a real change in strategy.
IBM is buying the largest independent recruiting software/process outsourcing provider left on the board. Kenexa offers a solid breadth of products and services, focused around recruiting, onboarding and performance management, and has seen some solid customer wins lately including Ford (NYSE:F). Although SuccessFactors and Taleo are arguably stronger players in the HCM space today, I wouldn't underestimate IBM's ability to improve and grow this business - Big Blue seldom gets the credit it ought to for how it manages its acquisitions after the deals close.
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Kenexa was arguably the last best option on the board in HR software, though I do not mean that as a slight to Cornerstone OnDemand (Nasdaq:CSOD) or Silkroad. Likewise, there are other companies like Callidus (Nasdaq:CALD) and Ultimate Software (Nasdaq:ULTI) active in many of the same market segments as Taleo, SuccessFactors and Kenexa. The question is whether there are still motivated buyers actively on the prowl. I suppose Microsoft (Nasdaq:MSFT), Hewlett-Packard (NYSE:HPQ) and Dell (Nasdaq:DELL) could all have some level of interest, but it would be somewhat out of character for Microsoft and HP arguably needs to get its Autonomy acquisition working before going back for more. I'd never say never when it comes to more M&A in the applications space, but the list of probable strategic buyers is running a bit thin now.
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The Bottom Line
I don't know that Kenexa shareholders will be overjoyed with the deal, but it's a solid move for IBM. The company is not paying much to fill a gap in its offerings and there is solid long-term growth potential. As the multiples in this deal suggest, though, sometimes it really is best to the pick of the litter when big companies go shopping.
At the time of writing, Stephen D. Simpson did not own shares in any of the companies mentioned in this article.