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IBM Offers to Acquire Pricewaterhouse Unit

July 31, 2002|ALEX PHAM and P.J. HUFFSTUTTER | TIMES STAFF WRITERS

In a bid to dominate the lucrative technology service business, IBM Corp. announced Tuesday plans to buy the consulting arm of PricewaterhouseCoopers for $3.5 billion in cash and stock.

PwC Consulting would join IBM's Global Services unit, which has surpassed Big Blue's storied computer hardware division as its most lucrative venture.

The acquisition also would cement IBM's position as the world's largest technology services company, with annual revenue of $40 billion. By comparison, its next-largest competitor, Electronic Data Systems Corp., posted $21.5 billion in sales last year.

Although most corporations have little need for new hardware, demand has mushroomed for experts who understand Web sites, software integration, data storage and servers, the computers that run heavy applications. Buying the Pricewaterhouse unit also gives the company management consultants, broadening its services beyond those of most competitors.

The deal is expected to close by the end of September, pending approval from federal regulators.

IBM Chief Executive Samuel Palmisano said in a statement that the company offered to pay $2.7 billion in cash, $400 million in stock and a $400-million convertible note. The deal would reduce the Armonk, N.Y.-based firm's earnings by almost 30 cents below the $1.40 a share that most Wall Street analysts had expected the computer maker to earn in its fourth quarter.

Although a tough economy has cut into IBM's services growth, sales continued to grow from $33 billion in 2001 to an estimated $35 billion this year, said John Connolly, general manager of IBM's Strategy Group in Cambridge, Mass.

"IBM is not insulated from any of the market conditions, and the market has not been as robust as in previous years," Connolly said. "But there is still a significant amount of spending, and our goal is to capture as much of that spending as we can."

The offer comes amid a major transformation within the accounting world in the wake of Arthur Andersen's conviction of obstruction of justice. PricewaterhouseCoopers and rival auditors are separating their consulting units to eliminate perceived conflicts of interest after the collapse of Enron Corp. Investors and lawmakers allege that Arthur Andersen was lax in overseeing Enron's books because Andersen didn't want to jeopardize its consulting fees.

PricewaterhouseCoopers had planned to shed PwC Consulting through an initial public offering, with hopes of raising as much as $9 billion. But the stock market plummeted, and the value of a PwC IPO followed.

"The market is what the market is," said Doug Elix, head of IBM's Global Services group. "This is a good price for a great deal with many synergies."

The auditing arm of PricewaterhouseCoopers is IBM's auditor.

If the deal goes through, IBM would add the estimated $4.9 billion in revenue that PwC Consulting is expected to draw for its fiscal 2002, IBM's Connolly said.

Both groups boast a lineup of major clients. PwC, which is privately held, handles services for Raytheon Co. and Toyota Motor Corp. IBM's client list includes Walt Disney Co. and Gillette Co. Still, IBM will have its work cut out for it, trying to meld PricewaterhouseCoopers' 30,000 workers with its own services staff of 150,000, cautioned analysts, who also predicted that IBM would slim down the newly combined staff. Company executives said such plans have not yet been made.

"The history for most of these mergers has been abysmal," said Rob Enderle, analyst with research firm Giga Information Group. "There's no assurance that the merger will succeed."

IBM wasn't the only tech company hungry to pick up PwC Consulting's business. Hewlett-Packard Co., the largest U.S. computer company after IBM, made an $18-billion bid in 2000 to buy the management-consulting arm.

HP Chief Executive Carly Fiorina insisted the deal would drastically increase HP's profit growth by offering more services to potential buyers of computer systems. The deal fell through after major shareholders fought against it and HP's stock price dropped, prompting the company to abandon the plans. HP this year again considered buying PwC but demurred.

"Over the last couple of months, HP has had the opportunity to buy PwC and chose not to," said Rebeca Robboy, a spokeswoman for the Palo Alto company.

Robboy said Hewlett-Packard balked at the difficulty of integrating PwC with its own consulting and services business. HP, the third-largest technology services provider, annually pulls in $15 billion in revenue from its services unit, which employs 65,000.

At the time of the initial talks in 2000, HP investors were concerned that a merger would result in an exodus of talent stemming from a potential culture clash. They feared that a hot job market allowed consultants to easily locate other employment.

Now, though, workers have less flexibility, a factor that will work in IBM's favor.

"The economy's changed a lot," Enderle said. "People are looking for any port in a storm. So IBM looks pretty good."

IBM shares rose 61 cents to $71.79 during regular trading on the New York Stock Exchange. They slipped to $70.55 in after-hours trading once the deal was announced.

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