Sun Rises on StorageTek

It's a big day here in the Denver metro area. Tape-drive pioneer StorageTek (NYSE: STK  ) , a longtime resident of the Boulder suburb of Louisville, agreed this morning to be bought by Sun Microsystems (Nasdaq: SUNW  ) in an all-cash deal worth $4.1 billion, or $37 per share. That's an 18% premium over Wednesday's close of $31.23 per stub.

And the lemming crowd, seeing that premium, jumped into this morning's fray with the enthusiasm of Cosmo Kramer juiced up on a triple espresso. StorageTek shares were up more than 16% as I wrote this morning.

Interestingly, there's not nearly as much enthusiasm for Sun's issues -- the stock was trading lower by more than 3%. That could be because StorageTek is no fast mover. Indeed, besides IBM (NYSE: IBM  ) and Hewlett-Packard (NYSE: HPQ  ) , StorageTek is one of the few firms that traces its history to before the Watergate scandal that is so much in the news this week. And its age has begun to show in its financial results. For example, year-over-year revenue declined in two of the last four quarters.

That's because its core business -- tape backup systems -- has slowly become less and less relevant in recent years. It's picked up some recently, but researchers Gartner (NYSE: IT  ) and IDC both peg growth of the market for tape backup at 4% annually, slower than the overall storage market.

Sun has positioned the StorageTek deal as a way to round out its storage offerings and enhance its status as a total network infrastructure supplier. The strategy absolutely makes sense. It would just make more sense if Sun were acquiring newer disk-based technology of the variety offered by EMC (NYSE: EMC  ) and Network Appliance (Nasdaq: NTAP  ) . It's not that StorageTek doesn't have this stuff; it just isn't the leader. Not by a long shot.

That should tell you that this deal has almost nothing to do with storage, and everything to do with time. That's what StorageTek buys Sun: time. Sure, tape is a mature business, but you'd have to hang out on street corners in the middle of the night to find anything more profitable. It's also a massive cash generator; StorageTek created $306 million in free cash flow over the trailing 12 months. Sun? It did less than a third of that at $86 million (net of one-time gains on the settlement of ongoing litigation with Microsoft). That's minuscule for a business that has booked more than $11 billion in revenue over the past year.

The brutal truth is that Sun faces an uphill battle to regain its standing as a top provider of networking infrastructure. Most think it won't happen, and they may be right. But by tripling its potential cash flow, Sun today gave itself a better chance than investors have seen in years.

For related Foolishness:

Fool contributor Tim Beyers had a venti decaf latte while writing this story at his local Starbucks. Ah, WiFi. What's your take? Share your thoughts with other Fools at the Sun Microsystems discussion board. Tim didn't own shares in any of the companies mentioned in this story at the time of publication. You can find out what's in his portfolio by checking Tim's Fool profile, which is here. The Motley Fool has a disclosure policy.


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