HP Takes $13.9bn Gamble on EDS for Services Challenge

(PresseBox) ( London/Munich, )
Hewlett-Packard and EDS have agreed a $13.9bn merger that would be the most significant M&A in the IT services sector this decade. PAC believes that EDS is a good fit in some regards, but the combined company will be far from the finished article. A protracted takeover would be damaging to both vendors but both companies are very corporate minded and highly standardized - a definite advantage for the integration phase.

Hewlett-Packard has given a firm answer to those doubting its long-term commitment to IT services by announcing a blockbusting $13.9bn takeover deal for EDS, the sector's second-largest player.

Pierre Audoin Consultants believes that EDS will give HP the scale it needs to challenge IBM Global Services for tier-one infrastructure services deals, and that the Texan outsourcing company has made some smart strategic moves in the last year to drive future growth, which make the $25 per share offer look like a reasonable deal for HP.

Having spent the last five years transforming EDS and HP Services through extensive restructuring and refocusing, the two management teams will be hoping for a smooth ride from investors and a relatively painless integration process so they can focus on driving top line growth. And they can ill-afford any major distractions in the face of strong competition from a resurgent IBM Global Services, Accenture and India's ambitious offshore delivery specialists.

The two companies have a good vertical fit, with HP Services strong in manufacturing and telecoms, and EDS in government and financial services. However, both suppliers' strongest suit remains infrastructure services. So far they have relatively limited capabilities in higher-growth, higher-margin areas such as applications services and consulting, in comparison with players such as Accenture. But EDS has renewed its efforts in the last 12 months, through initiatives such as ramping up its relationship with SAP, creating a testing division and using the Indian Mphasis operation to drive applications project sales.

There were promising signs for EDS in the first quarter of this year when it enjoyed a 66% surge in contract signings to $5.6bn with clients including energy giant Shell, the Government of Singapore, and KarstadtQuelle (Arcandor) in Germany. A significant part of this total came from applications services.

Both companies have struggled to build on early progress in the business process outsourcing space, and this is an area where the two sides may benefit from increased scale. Aside from EDS' strong healthcare BPO business in the US, the two companies can pool their resources around the nascent HR and finance and accounting outsourcing markets - particularly in the latter, where HP has some interesting deals with clients such as Procter & Gamble.

Since the majority of both EDS' and HP's services revenue comes from North America, the takeover does not fill the gaps that both companies have left in Europe so far.

A merged HP and EDS would rank as the second largest player in the Western European IT services market with combined 2007 services revenue of €11.5bn, according to rankings from PAC. This would give it a market share of 7.5%, which puts it firmly on the shoulder of the region's leader, IBM Global Services, which claimed a 9.1% share last year.

HP/EDS is getting even closer to IBM and T-Systems as leading IT services suppliers in Germany with an estimated combined €2.4bn in 2007, according to PAC figures.
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