Veritas Software, already a favorite stock among storage sector investors, will no doubt curry more favor on Wall Street when it moves to close the stock purchase of Seagate Software’s Network and Storage Management Group (NSMG) business. By minimizing the R&D charge (Veritas will write-off just 10% of the deal’s value up front, or approximately $200m based on current share price) it hopes to avoid the watchful eye of the Securities and Exchange commission (SEC).
In the wake of SEC investigations in which mergers and acquisitions by Network Associates, Motorola and Yahoo! are all being scrutinized because they involve the writing off of large sums under the blanket term ‘in process R&D,’ Veritas has chosen to write-off the remaining cost of the NMSG unit over years rather than quarters. We’ve been conservative and made a smaller initial charge so everyone will yawn and look right past it, says Mark Leslie, Veritas’ CEO.
By minimizing the impact this acquisition has on earning statements, Veritas hopes to become the poster child of the M&A world, although it will not be the first company to reconsider the value of R&D write-offs. Nortel Networks has reduced the charge it will take for the acquisitions it has made in the last year which include Bay Networks, Broadband Networks, Aptis Communications and Cambrian Systems. Nortel reduced the charge, which was principally associated with the Bay acquisition to $850m. Nortel’s fourth quarter results prove what a dramatic effect the inclusion a large R&D write-off can have on the top line. Without the charge, Nortel actually showed a $477m profit for the fourth quarter 1998, with the charge and some further costs the company plunged into the red showing a $341m loss in the quarter.
In the light of Nortel’s numbers analysts are still mulling the effects the subsequent $1.8bn write-off will have on the company’s top line. Veritas’ share price initially dropped 42% on October 6, the day the deal was announced because Wall Street was unhappy at the huge goodwill write-off the company planned to incur. Since then Veritas stock has recovered to $79.50 on January 29 presumably reflecting the fact The Street feels more comfortable with Veritas reporting two sets of numbers; one with amortization costs included and one without. The company will write off $112.5m over four years. However, this amortization may not show up at all in earnings estimate, if a rule goes through permitting First Call to report earnings as if they don’t have acquisition charges attached to them.
In the light of Nortel’s numbers analysts are still mulling the effects the subsequent $1.8bn write-off will have on the company’s top and bottom line. These charges, primarily in amortization of goodwill and other intangible assets, will be written off over four years in $112.5m chunks. This amortization may not show up at all in earnings estimate, however, if a rule goes through permitting First Call to report earnings as if they don’t have acquisition charges attached to them.
Once the deal closes, which is now likely to be in the second half of March, Veritas believes it can deliver on its vision to deliver a heterogeneous NT and Unix storage system, with the former Seagate Back-up Exec product playing a leading role. The company is banking on enterprise customers sharing this vision. We want to be the Willy Sutton of enterprise computing. That’s where the money is, says Leslie, likening his company to the infamous bank robber who, when asked to explain why he robbed banks, answered Because that’s where they keep the money.
He anticipates that the market for NT enterprise storage management software will grow to equal that of Unix within three years. Last year Unix storage software revenues were 50% larger than NT. Veritas believes it will capitalize on this shift by offering products to manage data from both environments. By the second half of this year it is promising to deliver a storage product that will enable files to be written and read in a mixed Unix and NT environment. Currently, Veritas Volume Manager and File System allow users only to write to disk.
As part of this strategy, within the next 6 months Veritas will house under Global Data Manager NetBackUp, the Unix back-up software that came with its 1997 acquisition of OpenVision, and the Seagate NT equivalent, Back-up Exec. In theory, therefore, back-ups can be run as a single application and no attention needs to be paid to where the data is stored.
Although Backup Exec was the product lure which made Veritas buy the business (90% of NSMG’s revenues came from client-back up software), the unit’s distribution channel was also equally highly prized. It enables the company to seal deals of point products particularly in the NT space, rather like Computer Associates has done with the former Cheyenne channel. The company now has a two tier distribution channel, with 15,000 resellers and a host of much vaunted OEMs including Microsoft, HP, Sun and more recently Dell (see earlier M&A Impact report for further details). We are building a distribution juggernaut, boasts Leslie.
As if to demonstrate progress so far, NSMG business is showing healthy growth with revenues up 31% on the September quarter to $58.9m. Veritas’ own business is also experiencing an enviable growth rate. In its fourth quarter figures, announced last week, the company reported fourth-quarter net income up 74.8% at $21.5m on revenue up 87.7% at $67.1m. For the year, net income rose 127% to $51.6m on revenue up 74.1% at $210.9m. Results for the quarter and the year-ago include income tax benefits of $367,000 and $2.3m, respectively.
Of course there are issues to be dealt with in the near term, particularly in regard to the 11 or so other products that came as part of the NSMG business. These products derive from Seagate Software’s own multitudinous acquisitions including Palindrome, NetLabs, Network Computing, Frye Computer, Creative Integration Technologies, OnDemand Software and Calypso Software. There could also be some potential sales force challenges when the NSMG sales force is bought into play. Veritas plans to segregate the NSMG sales force from their opposite numbers at Veritas, so that each can concentrate on selling the products they know best. But it is hard to see just how the company will deliver on its cross- selling product strategy if the respective teams are not in a position to pick up product knowledge from their peers.
