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IBM-Red Hat merger timing, fairness in question

Six months after IBM revealed plans to acquire Red Hat, some IT industry experts have reason to believe approvals will take longer than the companies have suggested.

Red Hat posted 2019 year-end financial results this week that exceeded analyst expectations, but the company said nothing about its pending $34 billion purchase by IBM as industry experts question the value to Linux users and whether the deal will actually close in the second half of this year.

While major roadblocks to the IBM-Red Hat merger have yet to become public, its sheer size has some industry observers in speculation mode.

"If this deal doesn't go through, it wouldn't be a problem for anyone except IBM," said Dana Gardner, principal analyst at Interarbor Solutions LLC in Gilford, N.H. "People are quite happy with an independent Red Hat overseeing the development of an important product like Linux along with a cloud software infrastructure stack."

For the most part, IT pros weren't excited about the deal because of what IBM brings to Red Hat, but what Red Hat brings to IBM, Gardner said. This is reflected in the "staggering" $34 billion IBM paid for Red Hat, he added.

Meanwhile, Red Hat's fourth quarter revenue jumped 14% to $879 million, with the full 2019 fiscal year total at $3.4 billion, a 15% rise. Fourth-quarter profits were $139 million, compared to a loss of $12 million one year prior. Full-year net income was $434 million, up from $262 million the year before.

Red Hat did not hold a conference call to discuss its results, in part presumably to avoid answering questions about the status of the IBM deal. The company also did not provide financial outlook projections for 2020. This is not surprising, given the constraints both companies are under to avoid statements that could impact their stock prices while the deal remains under review.

Red Hat's earnings follow published reports that U.S. authorities charged with probing the deal have made a second inquiry for information.

IBM and Red Hat previously said they expect the deal, which was announced in October, to close in the second half of this year. Red Hat shareholders overwhelmingly approved the merger in January.

"We continue to work together with IBM to receive the necessary transaction approvals," a Red Hat spokesperson said Monday via email.

The Antitrust Division of the U.S. Department of Justice did not respond to a request for comment.

Hybrid cloud presents opportunity, possible hindrance for IBM-Red Hat deal

Some analysts speculated the reported second inquiry made by DOJ had to do with IBM partnering with Red Hat to dominate the hybrid cloud market. In a keynote speech at IBM's Think conference in February, IBM CEO Ginni Rometty said she expected that strategically important market would grow to be worth $1 trillion.

Whoever gains control over the hybrid market will have more to do with economics than technology, something that always draws the attention of the DOJ. If IBM can approach a large Red Hat user organization and undercut all of the other public cloud providers, for instance, that is something even larger companies will find hard to pass up.

"Whoever establishes the de facto standard for hybrid clouds will be hugely influential," Gardner said. "They will have an extreme ability to leverage things when it comes to price."

Approval of the IBM-Red Hat merger could come later than predicted if the second inquiry by the DOJ involves deep investigation into new claims by competitors or users, IT industry experts said.

If anyone thought this was going to get done in 90 days or six months, they are nuts.
Frank DzubeckPresident, Communications Network Architects

"If anyone thought this was going to get done in 90 days or six months, they are nuts," said Frank Dzubeck, president of Communications Network Architects, a consultancy in Washington, D.C. "There's a better bet it will take a year."

Any deal of this magnitude would draw the attention of the DOJ, Dzubeck said. With the Trump administration in power -- an administration whose trade deals and proposed trade deals have been heavily scrutinized -- approval could be a lengthier process.

"They can't rubber-stamp anything now," Dzubeck said. "Every move they make has someone coming out to take a shot at them, especially when 800-pound gorillas are involved."

A research report issued late last month by Manalo LLP, a London-based firm that provides research to investors around mergers and acquisitions, concluded that from an antitrust point of view, the proposed deal "has presented a degree of complexity due to the parties' long-standing vertical relationships." It contended that IBM and Red Hat act more as partners than competitors and collaborate closely on Linux.

The report noted that investigators could "probe whether IBM has enough incentive to shift or shape" their vertical relationship in a way that later on could prove anticompetitive. One possibility could be IBM holding up delivery to competitors of key software offerings or crippling compatibility with competitors' products.

"This parallels Apple's situation where they own a platform (the App Store) but are competing against companies selling apps on that same platform," Dzubeck said. "Some see this as a heavy conflict of interests."

Linux users, enterprises mum on IBM-Red Hat merger

Earlier this month, the D.C.-based nonprofit lobbying group Knowledge Ecology International (KEI) issued a letter that decried the pending merger as detrimental to modern computing.

"At present, Red Hat controls the most important Linux distribution for Internet and cloud servers," KEI director James Love said in the letter. "If IBM acquires Red Hat, the trust in Red Hat will be eroded, and IBM will have powerful incentives to influence Red Hat's software development efforts towards providing special functionality and benefits to IBM and the IBM cloud services, and even to degrade the functionality of services to companies that compete directly with IBM, or fail to buy services from IBM."

KEI hasn't been joined by a broader chorus of critics, in particular ones with a more direct stake in the cloud computing market.

If those groups and other constituencies, such as Red Hat customers themselves, have no quarrel with IBM's move, the deal will get approved that much more easily, Love said in an interview.

"It really depends on some of the better-known groups in the software developer community," he said.

The most prominent among those would arguably be The Linux Foundation, which employs Linux creator Linus Torvalds and has broad participation and funding from tech industry players both large and small.

The Linux Foundation spokesperson Emily Olin declined to take a stance on the IBM-Red Hat merger. "As a member-based nonprofit, we have to remain vendor-neutral," she said.

The IBM-Red Hat deal is hardly a compelling issue for most enterprise IT shops as many are committed to Windows Server.

"There has been zero discussion within our company or the end users' companies we work on site with regarding Linux," said one solutions architect with a large service provider that implements mission-critical projects.

There is precedent for community opposition halting, or at least slowing down, major tech deals over open source software-related concerns. MySQL database co-creator Michael "Monty" Widenius mounted a heated campaign against Oracle's 2009 acquisition of Sun Microsystems, arguing that the open source database's prospects under Oracle ownership would be at risk.

The European Commission launched an investigation into the deal in September 2009, but concluded in January 2010 that it posed no significant anticompetitive threats. Questions about the future of Sun SPARC and Solaris technologies under Oracle remain in question.

MySQL has remained under development by Oracle and Widenius has built a company around MariaDB, which is rooted in a fork of the MySQL codebase.

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