Cisco Systems Inc. (NASDAQ: CSCO) – market cap as of 09/02/2017: $158.55bn

AppDynamics – private company

Introduction

On January 24, 2017, Cisco Systems Inc. announced that it entered into an agreement to acquire the private software company AppDynamics Inc. in a transaction that is valued at c. $3.7bn. According to the firm’s press release, the deal will be exclusively financed with cash reserves and diverse forms of equity awards.

Chuck Robbins (Cisco’s CEO) anticipates that by integrating AppDynamics into Cisco’s Internet of Things and Applications Business unit, the Company will be able to improve the quality and flexibility of its existing products. This should help the U.S giant improving revenues, which have lately been suffering as the computing industry shifts away from expensive fixed hardware. The deal is expected to close in April 2017.

About Cisco Systems Inc.

Cisco Systems Inc. was founded in 1984 by two Stanford University computer scientists. Nowadays, the American technology company connects unstructured data and develops complex networks through a variety of products and services. These include next-generation networks, data centres and technical support services.

Different subsidiaries (e.g. OpenDNS) and 71.880 employees help Cisco to provide customized support to clients in more than 165 countries across the globe.

Lately, Cisco’s strategy has been focused on developing “software-centric solutions that deliver recurring revenue”. Thus, the firm recently acquired a variety of companies in order to enlarge its spectrum of cloud-based services and data analytics.

Cisco generated $48.7bn of total revenue in the fiscal year of 2016, which represents a 3% increase compared to the previous year. Furthermore, Cisco Systems spent $6.3 billion in research and development and holds roughly 19.000 patents.

About AppDynamics Inc.

AppDynamics Inc. (formerly known as Singularity Technologies Inc.) is a private application performance management and IT operations analytics firm, which helps companies to foresee, manage and solve technological challenges in real time. After being founded in 2008, AppDynamics has exponentially grown with the support of numerous venture capitals such as Greylock, Lightspeed and Kleiner Perkins. Overall, AppDynamics collected $5.5 million of Series A funding.

The company has 1.186 employees and it operates in EMEA, the Americas and the Asia Pacific region. High profile customers and effective management allowed AppDynamics to achieve an annual growth of c. 50% in 2016 and to rank #9 on the Forbes Cloud 100 list.

AppDynamics had initially planned an Initial Public Offering to be completed in 2017. The IPO valued the firm at c. $1.8bn and could have raised up to $200 million. The equivalent share price would have ranged between $12 and $14.

AppDynamics revenues were $158.4m at the end of the first 3 quarters of 2016, an increase of 54% with respect to the same period of the previous year.

Deal Structure

Cisco Systems Inc. agreed to acquire software maker AppDynamics Inc. for $3.7bn, just before the start-up was supposed to launch its IPO at a valuation of about $1.8bn.

The network equipment maker will pay almost double the start-up’s last private valuation. Indeed, Cisco agreed to offer about $26 per share, well above the company’s IPO price range of 12-14 US dollar per share. The higher price reflects AppDynamics good performance in terms of revenues growth as well as efficiency benefits that Cisco expects to gain by applying AppDynamics’ capabilities to its business. The acquisition will be paid mostly with cash plus further equity awards. This way, the company will put at good use a part of its astonishing cash pile (currently amounting to c. $71bn).

The agreement values AppDynamics at about 18x the company’s revenue over the past 12 months, which is higher than Facebook’s comparable multiple (14x). David Wadhwani, AppDynamics CEO, will continue to run the Company, which will become a new unit of Cisco’s Internet of Things and Applications business after the deal closes.

The sale will also offer an outright exit to the investors in the California based Company. Indeed, the buyout gives existing shareholders – many of which are PE investors – a defined return. Had the company gone public, investors would be left selling down the stake over a longer period of time.

Deal Rationale

In order to fully understand the rationale behind this agreement, it is necessary to have a basic understanding of the environment in which the deal is taking place. Technological innovation as well as the need to manage a large amount of data is blending together IT and business administration. We all agree that data is useless if we cannot use it to make decisions, don’t we? It is exactly in this framework that Cisco and AppDynamics make sense together.

Starting from AppDynamics’ perspective, the deal will allow the 8-year-old company to get access to Cisco’s huge network which the firm has developed throughout many years of activity. Moreover, Cisco’s generous proposal was good news for AppDynamics shareholders, coming right before an IPO that would have led to a valuation of c. $1.8bn – almost half of the value arising from this agreement.

Moving to Cisco’s point of view, the acquisition has been pursued mostly for one reason: efficiency.

As the firm has grown into a mature company with an impressive number of clients, the issues related with managing traffic have become more compelling. The adoption of some of the solutions that AppDynamics may offer – especially AppDynamics’ Application Performance Management (APM) solution – would help overcoming such operational issues. Indeed, AppDynamics’ end-to-end visibility and accessibility will provide network operators with the data to make more informed decisions. Furthermore, Cisco sees this as a strategic acquisition, aiming at enhancing its young software subscription business as well as creating a leveraging effect through which all the capabilities of AppDynamics will be better exploited by the new entity.

Market Reaction

At the end of the trading day on January 24, Cisco shares were up 1.09% at $30.60. On February 10th, Cisco is trading at $31.50 – 3.8% above the open price on the day the announcement was made. The overall positive performance since then may reflect the market moderate trust in the merits of the deal.

Advisors

Barclays, JP Morgan, Morgan Stanley, Goldman Sachs and Qatalyst Partners LLP are advising AppDynamics.

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