Western Digital Agrees to Buy Hitachi Unit for $4.3 Billion

Western Digital Agrees to Buy Hitachi Unit for $4.3 Billion

Western Digital Corp. (WDC), the largest maker of computer hard-disk drives, jumped the most in more than two years after it struck a deal to buy a rival unit of Hitachi Ltd. (6501) for about $4.3 billion in cash and stock.

The combination of two major players in the hard-disk drive market will allow them to reduce costs as waning demand for such storage products shrinks the industry. The deal is likely to improve margins in the business and make it more profitable, said Matt Bryson, an analyst at Avian Securities LLC in Boston.

“Historically, consolidation has been a good thing for the industry,” said Bryson, who rates shares of Western Digital “positive.” “It allows for better visibility into supply and demand because you have fewer suppliers.”

Western Digital rose $4.67, or 16 percent, to $34.68 at 4 p.m. in New York Stock Exchange composite trading, the biggest gain since Jan. 6, 2009. The shares have climbed 2.3 percent this year. Hitachi rose 1 percent to 505 yen in Tokyo trading.

Seagate Technology Plc (STX), the second-largest maker of hard- disk drives, also jumped $1.12, or 9 percent, to $13.56 on the Nasdaq Stock Market, the biggest surge since October. Seagate will profit as computer makers, which use the disk drives to store electronic information, move some business from the combined Western Digital to diversify their storage suppliers, said Bryson.

Western Digital will pay $3.5 billion in cash and give Hitachi 25 million of its shares, the companies said in a statement. Hitachi will own about 10 percent of Irvine, California-based Western Digital after the deal is completed and will gain two seats on the company’s board.

An Industry Must
The deal will combine the largest and third-largest makers of hard-disk drives, as measured by IHS ISuppli. Demand for the products is falling amid rising popularity of tablet computers, which use other types of storage. If completed, the deal would be the largest for a storage-device company in at least five years, according to Bloomberg data.

“The industry isn’t a growth industry,” said Aaron Rakers, an analyst for Stifel Nicolaus & Co. in St. Louis, who recommends buying Western Digital shares. “Consolidation isn’t a technology move, it’s oftentimes a must for the industry.”

Last year, Western Digital tried to buy Seagate, and the offer was refused on concern the deal would have faced antitrust obstacles, two people familiar with the matter said in December. Seagate, based in Dublin, also spurned an offer from TPG Capital. Western Digital buying the Hitachi unit will step up competition for Seagate’s enterprise customers, Rakers said.

Cost Savings
Cost savings from the combination will help Western Digital boost its gross margin by a percentage point to between 19 percent and 24 percent of sales within six months of completion, when excluding acquisition-related expenses, Chief Financial Officer Wolfgang Nickl said on a conference call.

The purchase may escape antitrust scrutiny because the companies have different strengths, Avian’s Bryson said.

The Seagate deal would have given Western Digital control of more than 60 percent of the market for hard drives sold for enterprises and for those in desktop computers, he said. The Hitachi acquisition will give Western Digital less control of those markets, he said.

Seagate’s Gains
Seagate can also remain competitive without making an acquisition of its own, Bryson said. The company has unused manufacturing capacity, and it may benefit from the deal between its two rivals because computer makers such as Hewlett-Packard Co. and Dell Inc. aim to keep their suppliers diverse, he said.

With two major drive makers combining, manufacturers will look to Seagate as an alternative source, Bryson said.

“There is a strong likelihood that the Dells and HPs of the world will shift some allocation to other suppliers,” said Bryson, who rates Seagate “positive” and doesn’t own the shares.

Hard-disk drive shipments will probably drop about 4 percent this quarter from the fourth quarter amid competition from smaller and faster storage products, according to IHS ISuppli. Samsung Electronics Co. and Toshiba Corp. are the biggest makers of so-called flash memory that is displacing hard-disk drives in netbooks and tablets.

Western Digital shipped 52.2 million drives in the last quarter of 2010 to Seagate’s 48.9 million, according to IHS ISuppli. Hitachi took share from Seagate in the quarter, coming in third place with 30.3 million units shipped, the El Segundo, California-based researcher said.

Deal Multiple

Hitachi, based in Tokyo, is redefining itself as a provider of power plants, trains and other infrastructure following four years of losses. The company had considered breaking off the hard-drive business in an initial public offering last year. The unit had sales of $4.8 billion in the year ending in March 2010, accounting for about five percent of total revenue.

The deal price is equals to about 90 percent of the unit’s annual sales. That compares to a median price of 95 percent paid for other companies in the industry, according to Bloomberg data tracking the last five years.

Western Digital’s “strength is different from Hitachi,” Hitachi President Hiroaki Nakanishi said in a press conference. Hitachi will bring a stronger lineup for enterprise customers, he said.

The transaction will also make Hitachi the largest shareholder of Western Digital, according to Nakanishi. The Japanese company will reinvest money from the sale into its remaining businesses, he said.

The Hitachi unit’s chief executive officer, Steve Milligan, will become president of the combined companies, reporting to Western Digital CEO John Coyne. Milligan joined Hitachi from Western Digital in 2007. Western Digital and Hitachi said they expect to complete the deal in the third quarter.

Debt-Rating Impact

Western Digital said it plans to raise about $2.5 billion of debt to help fund the purchase. The company had about $231 million of long-term debt at the end of last year. The extra debt may cause the company’s credit rating to be cut by two levels, according to Bloomberg’s company credit model.

The deal will be Western Digital’s biggest, according to Bloomberg data. The company had $3.1 billion in cash and cash equivalents as of the end of last year, equivalent to nearly half of its market capitalization.

Bank of America Corp. advised Western Digital on the deal and Goldman Sachs Group Inc. worked for Hitachi, the companies said in the statement.

source: bloomberg.com