How Will IBM’s Red Hat Acquisition Impact Its Valuation?

by Trefis Team
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On Oct 28, 2018, IBM (NYSE:IBM) announced the acquisition of Red Hat (NYSE:RHT) for a total consideration of $34 billion or $190 per share. Per IBM’s statement, the board of directors of both companies have approved the deal. Subject to regulatory approvals, the transaction is likely to close in the second half of 2019. The deal offers significant potential synergy benefits, which could ultimately drive IBM’s fair value to increase over the medium term to over $160 versus the current levels of below $120.

Our interactive dashboard A Look At IBM’s Valuation Post The Red Hat Acquisition outlines our expectations for the merger. You can modify any of the key drivers to visualize the impact of changes on its valuation.

While IBM’s offer is one of the biggest in the history of the tech space, Red Hat does present a compelling opportunity for IBM. IBM does not have a big presence in the operating system market, where Red Hat is a distant number 2 behind Microsoft. Meanwhile, the middleware business has been slowing down for IBM, and this deal could provide a boost there. Further, for Red Hat, IBM’s larger sales channel could accelerate its revenue growth.

The strategic rationale – including the growth potential offered by Red Hat to IBM – does have compelling logic, despite the relatively steep price tag. Red Hat’s own growth slowing down is likely to have also helped further nudge the deal towards closure. Post deal closure, Red Hat will become a part of IBM’s Hybrid Cloud business, though it is expected to remain largely independent.

While IBM stands to benefit from this deal, with FCF accretion within 12 months, rising interest rates could potentially increase the risks and costs associated with funding this transaction. On balance, we believe that the deal could upend the entire cloud market and lead to meaningful appreciation for IBM in the coming years.

Do not agree with our forecast? Create your own price forecast for the IBM by changing the base inputs (blue dots) on our interactive dashboard.

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