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JUNE 9, 2004
By Jay Greene The Message in Microsoft's SAP Quest The U.S. software king is so hungry for growth that it's now willing to consider megadeals. Watch out, rivals -- and partners Usually, the bombshells that explode during trials reverberate loudest for those in the courtroom. But the biggest revelation on the first day of the Justice Dept.'s bid to block Oracle's (ORCL ) $7.7 billion takeover attempt of PeopleSoft (PSFT ) was one that vibrated between Redmond, Wash., and Walldorf, Germany. In advance of information becoming public during the trial, Microsoft (MSFT ) and SAP (SAP ) disclosed that they had entered into merger talks, only to abandon them "a few months ago." It was an eye-popping disclosure, largely because it seems to strongly contradict Microsoft's public statements about its business strategy. The Colossus of Redmond has been adamant that it had no plans to start selling server-application software to large companies -- SAP's main business. Questions first began to swirl when Microsoft spent $2.5 billion to acquire Great Plains Software in 2001 and Navision in 2002, two companies that make business applications for small and midsize companies. Industry observers wondered if Microsoft would push into the high-end corporate market for business applications, competing with SAP, among others. But Microsoft execs repeatedly said they were focused on selling downmarket, which isn't SAP's primary domain. CHANGE OF HEART. What's more, Microsoft CEO Steven Ballmer has stated that small acquisitions are the ones that appeal most to the software giant -- easily digestible companies that Redmond can quickly assimilate. Two years ago, in response to a question at Microsoft's annual analyst day about acquisitions, Ballmer replied: "We love buying little 10-, 20-, 30-person companies that may or may not be public, usually aren't, usually private deals with great talent that we can relocate." That hardly sounds like SAP. So why the change of heart? Microsoft declined to discuss the deal beyond a perfunctory statement acknowledging the talks and their demise. But the reason is abundantly clear -- Microsoft is desperate for new growth. Not so much last quarter, when revenue climbed 17%. And things seem O.K. in the current quarter, when analysts expect sales to rise 12%. But they're likely to slow considerably in the fiscal year that starts July 1. Analysts are projecting Microsoft's annual revenue will increase just 6% in fiscal 2005. With its PC software businesses maturing, Microsoft is keen to find new markets to add revenue (see BW Cover Story, 4/19/04, "Microsoft's Midlife Crisis"). And SAP would have provided a unique opportunity. The German software maker isn't just the leader in the business-applications market. From Microsoft's perspective, SAP would have also presented a better way to sell the rest of Redmond's high-end software. ONE-STOP SHOP. After all, corporate customers that buy SAP's supply-chain or customer-relationship-management software also need server operating systems to run those programs, databases to manage the information, and developer tools to modify the software to fit their needs. A Microsoft-SAP combination would have made that one-stop shopping, giving Ballmer & Co. the opportunity to hawk their Windows server operating system, SQL Server database software, and Visual Studio development program. A fantasy? Perhaps. Interestingly, after the companies acknowledged the failed talks on June 8, SAP CEO Henning Kagermann said the possibility that antitrust authorities in either the U.S. or the European Union would seek to block the deal never entered the discussions. "We didn't go that far," Kagermann told reporters at the D2: All Things Digital conference in Carlsbad, Calif., sponsored by The Wall Street Journal. Kagermann noted that while each company is dominant within its piece of the software market, very little overlap in products exists between them. SAP OR NOTHING? Oracle CEO Larry Ellison, also appearing at the conference, scoffed at the idea that SAP and Microsoft could have held even the most casual of talks without considering antitrust issues. "It is inconceivable that the No. 1 software company could buy the No. 3 software company and the regulators would not take notice," Ellison said. Asked how Oracle's world would look if a Microsoft-SAP merger had occurred, Ellison joked that the proposed acquisition was "part of a Microsoft plan to buy all of its customers." But he also was obviously frustrated by the notion that the two companies would even consider a merger at a time when the U.S. government was moving aggressively to block Oracle's purchase of the much smaller PeopleSoft. In its suit, Ellison said, the government has "defined the market for consumer software as consisting exclusively of SAP, Oracle, and PeopleSoft." Now that the discussions with SAP are over, don't expect Microsoft to start hunting for other big companies or high-end applications vendors. SAP's size offered Microsoft a huge platform to sell its products. None of SAP's rivals have anything close. And buying one of them would clearly alienate SAP, putting Microsoft in direct competition with an important partner. "There's only one, and that's SAP," says Goldman Sachs analyst Rick Sherlund. "But if you don't get SAP, you don't go for anybody." DEEP POCKETS, LONG ARMS. In the end, Microsoft says it walked away from the deal because of "the complexity of the potential transaction and subsequent integration." No wonder. Maybe the biggest challenge would have been mixing the product lines. While SAP is a huge Microsoft partner, it also plays in the rival Unix operating system world. It's unclear what Microsoft would have done with those Unix products, but it has never been one to offer much support to operating systems other than Windows. Sherlund believes Microsoft would have had to keep selling products that work on Unix, because losing those SAP customers would have made the acquisition too expensive for Microsoft. If this nondeal has any lesson, it's that Microsoft will look anywhere for new growth opportunities. And having more than $56 billion in cash on hand means plenty of opportunities will come knocking at Microsoft's door. Redmond may ultimately walk away if a deal gets too complex or doesn't otherwise make sense -- but the news of the SAP talks should put Microsoft's partners and competitors alike on notice that no software market is beyond its reach.  With Stephen H. Wildstrom at the D2 conference Greene is a correspondent in BusinessWeek's Seattle bureau Edited by Douglas Harbrecht
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