Cisco Systems may be suffering from a slowing economy, but the networking gear maker sees a potential upside in the market malaise: Its a good time to go shopping.
As smaller companies see their stock prices dwindle and valuations fall, the price tags of potential acquisitions are declining.
And Cisco (NasdaqGS:CSCO - News) executives say theyre ready to act.
"We believe very strongly that the best companies run a consistent (mergers and acquisitions) strategy through the economic cycles -- both the good times and the bad times," said Ned Hooper, who heads Ciscos corporate business development group and its consumer and small business unit.
Observers says this isnt just a phenomenon for Cisco, but also for its big technology cousins IBM (NYSE:IBM - News), Oracle (NasdaqGS:ORCL - News) and Hewlett-Packard (NYSE:HPQ - News).
With strong balance sheets and billions of dollars in cash, they have the upper hand as acquirers during an economic downturn, even if their own stock prices are depressed. Thats a change from early in the decade, when the tech wreck slowdown made acquisitions tougher to justify, analysts say.
"Its a buyers market," said Brenon Daly, an analyst at the 451 Group. "The larger technology companies have a vast product portfolio, and this is an ideal time for them to fill in the product map."
Just look at Microsofts (NasdaqGS:MSFT - News) overtures for Yahoo (NasdaqGS:YHOO - News). Its recent offering price of $31 per share represented a 60% premium on Yahoos stock price at the time. But as recently as October, Yahoo was trading at more than 33.
With more than $21 billion in cash on its balance sheet, Microsoft is offering cash along with its shares.
"Now that (Yahoos) valuation is much less -- it makes it easier from a Microsoft standpoint," said David Garrity, an analyst at Dinosaur Securities.
Last month, Oracle said it would pay $8.5 billion for middleware software maker BEA Systems (NasdaqGS:BEAS - News).
Private Equity Decline
Valuations of companies have been falling along with the markets. The Nasdaq is off about 14% this year amid fears of a recession.
Another factor is a decline in private equity deals, which dominated business headlines a year ago. The credit crunch has made it more difficult for the buyout firms to get cheap money to purchase other companies. That means investors cant count on an outside firm to make a generous offer to take a public company private -- a trend that once padded stock prices.
"A lot of private equity players are finding themselves sidelined in the mergers and acquisitions business," said Charles Ruck, a lawyer at Latham & Watkins who specializes in corporate law, including mergers. "One result is the high valuations are starting to come down."
Daniel Tiemann, who leads the transaction services practice for consultant KPMG, says private equity deals dried up in the summer of last year, though smaller deals of $1 billion or less are still getting done.
Last year, spending on technology mergers and acquisitions hit $476 billion, up from $455 billion in 2006 and $374 billion in 2005, Daly says.
Though he expects another solid year in 2008, Daly sees an overall decline because of the new softness in private equity spending.
Another issue making acquisitions more likely: a slowdown in initial public offerings, a popular tool for private companies looking to cash out. The number of IPOs priced this year, as of Feb. 20, is down 47% from the year-earlier period, says Renaissance Capital.
"You have a fair number of venture capital investors who are (interested) in achieving an exit," Garrity said. "The sale of a company is always a viable way to go."
Big tech companies, meanwhile, have cash. IBM has just over $10 billion. Cisco generated an average of $700 million a month in cash flow during its last quarter.
Daly says tech firms have been beefing up their financial strength after the tech wreck.
Plenty Of Cash On Hand
"The acquirers -- the Dells, the Ciscos, the IBMs, Oracles -- theyre all using cash," Daly said. "When its cash off your balance sheet, youre a lot more disciplined."
He says that it was tough for the bigger players to make acquisitions after the bust because their own sales were suffering: "It was such a sharp and sudden downturn."
Its hard for anyone to predict how long or severe the current economic downturn will be. But strong balance sheets mean the big companies are stronger this time around.
Still, potential takeover targets might still believe theyre worth what they were a year ago -- rather than what their stock price says theyre worth today.
"Say you have a company that nine months ago was (valued) at five times revenue," said Steve Kaplan, a professor at the University of Chicago Graduate School of Business. "Today, its trading at three, four times revenue."
Ciscos Hooper sees opportunities ahead.
"Some of the best deals get done during the difficult times," Hooper said. "Its the market leaders that have the ability to act, and valuations are very rational."
Hooper made his comments on Feb. 6, following an analyst call that confirmed investor fears that Cisco was facing a tougher economic environment. The companys guidance fell below expectations for the current quarter after a poor January.
During the call, Cisco CEO John Chambers echoed Hoopers thesis.
"One of the huge advantages we have is clearly our cash position and our strength," said Chambers, "and we will be active both in repurchase and active as appropriate in terms of investment internally and externally on the opportunities."
Cisco has long been an aggressive acquirer. It paid $6.9 billion for set-top box maker Scientific-Atlanta in 2005 and $3.2 billion last year for software maker WebEx.
Ari Bensinger, an analyst at Standard & Poors, says the company could beef up its video capabilities. "Ciscos advantage is that its financial profile is one of the best in the industry," Bensinger said.
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