Hewlett-Packard to Buy Mercury Interactive for $4.5B

SAN FRANCISCO – Hewlett-Packard Co. (HPQ) agreed on Tuesday to buy Mercury Interactive Corp. for about $4.5 billion in stock, or $52 per share, in a bid to expand the computer maker's business software operations.

The deal, which sent shares of the No. 2 personal computer maker down 4 percent, should help boost sales of HP's OpenView systems management software, which makes it easier for far-flung businesses to monitor the hardware, software and networks running throughout their organizations.

The purchase of the former star Israeli technology company also puts HP in closer competition with other major systems management software providers, including IBM's (IBM) Tivoli unit, CA Inc.'s (CA) UniCenter and BMC Software (BMC).

The move by HP is part of its strategy to develop what it has called "the data center of the future" and Mercury will aid in that effort, analysts said. It's also the biggest acquisition by HP since its controversial $19 billion purchase of Compaq in May 2002.

"This should strengthen HP's position in enterprise computing," said Moors & Cabot analyst Cindy Shaw, noting that she had been somewhat skeptical of HP's ability to deliver on the data center of the future.

Since last year, a number of top Mercury executives have left the company amid a regulatory probe into its stock option granting practices. The financial scandal drove Mercury, once a top performing stock, to delist from the Nasdaq market.

HP is paying a premium of about a third for Mercury shares in the $4.5 billion deal, which is net of Mercury's existing cash and debt, and ranks as one of the largest prices ever paid to acquire a company with Israeli roots.

It ranks alongside Lucent's $4.5 billion 2000 deal to buy network gear maker Chromatis and Warren Buffet's May purchase of Iscar, a maker of metal-working equipment, in a deal that values Iscar at about $5 billion, according to Dealogic.

It also marks the first major deal for Mark Hurd since he took over as chief executive more than a year ago, though he said it did not signal a change of strategy for the company.

HP has long aimed to become a diversified supplier of not just computers and printers, but also software and services for businesses.

"It absolutely fits with the strategy that Mark has laid out," Shaw said.

In a media conference call, Hurd said the premium to Mercury's closing share price reflected the strength of the software maker's business.

"I would not think you should expect multiple multibillion acquisitions coming from HP," Hurd said. "You can certainly find low premiums for distressed properties," he added. "This premium reflects the value of this property."

Mountain View, California-based Mercury is among about 80 companies under investigation by federal prosecutors and securities regulators over stock option grants. In November, Mercury replaced its chief executive and named a new chief financial officer over the issue.

HP executives said on an investor call they have considered the potential liabilities and could take a reserve as a precaution. Hurd said that any risks were limited.

"We are comfortable where we are in this process," Hurd said. "We believe the issues to be limited and we are comfortable the issues will be resolved."

The deal will nearly double HP's software business to more than $2 billion in annual revenue and deliver growth rates of 10 percent to 15 percent by 2008, the company said. It is expected to close in the fourth quarter of calendar year 2006.

HP has made a string of smaller software acquisitions in the past few years, which have held back profitability. The software business, which had revenue of $330 million in HP's second fiscal quarter, has returned to a slim operating profit in the last three quarters following a string of operating losses.

Palo Alto, California-based HP expects the deal to dilute fiscal 2007 earnings, before acquisition-related charges and other one-time items, by 4 cents a share, but add 2 cents per share to operating earnings from fiscal 2008.

HP shares fell to $30.10 in after-hours trade from a close of $31.33 on the New York Stock Exchange. Mercury shares closed at $39 on Tuesday before the deal was announced. The stock is listed on the thinly traded "pink sheets."