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In EMC Talks, HP Was Interested Most in VMware

The software company is a juicy part of the larger federation.

During HP’s most recent quarterly earnings call, Hewlett-Packard CFO Cathie Lesjak let slip a tantalizing detail. Asked why the company had throttled back its pace of share buybacks during the quarter, she responded cryptically: “During the quarter, we were limited in our ability to purchase shares due to material non-public information.”

That statement essentially telegraphed that HP management was in talks over some kind deal — either an acquisition, merger or sale — big enough to rise to the level of “material” and affect the price of its shares.

We now know — as reported by the Wall Street Journal — that HP was talking seriously to storage and IT giant EMC about a potential merger of equals. The talks, which lasted months, started before EMC came under an activist shareholder campaign led by Elliott Management to break the company up.

HP’s primary motivation in engaging in the talks, people familiar with the situation tell Re/code, was EMC’s 80 percent ownership stake in VMware, the software company whose virtualization products power many of the world’s corporate data centers.

The deal envisioned would have been an all-stock transaction that would have created a combined company worth about $130 billion. HP’s CEO Meg Whitman, still in the middle of a turnaround of that company since taking over three years ago, would have been CEO of the combined company. The talks were considered serious, and involved the two top executives of the company — Whitman and EMC CEO Joe Tucci.

The talks came to halt because HP and EMC couldn’t agree on a price. EMC wanted what has been described as a “significant premium,” while HP wanted to value EMC at or near its market valuation. A deal with a premium was considered unlikely to win approval of HP shareholders. The talks have concluded and are unlikely to restart, these people said.

As part of HP, VMware would have significantly bulked up HP’s offerings to sell companies technology to build out their data centers. HP is already the world’s largest vendor of server computers. VMware’s virtualization software is used primarily to make one server act like many, and as such is a cornerstone technology of cloud computing.

HP has sought to go after business with companies building cloud services by selling them hardware and networking technology. VMware’s software would in theory create — when combined with HP’s hardware, services and networking business — a formidable portfolio that would give it a leg up in the constantly shifting world marketplace of corporate IT.

VMware is a tentpole of EMC’s so-called “federation” structure, and brought in about $5.2 billion or more than one-fifth of EMC’s $23.2 billion in sales last year. The other parts are EMC’s main storage business, which reported about $16 billion in revenue; RSA security, which had a little less than $1 billion; and Pivotal, which had about $300 million in sales.

VMware is a little different from the others in that a portion of its shares trade publicly on the New York Stock Exchange. (Cisco Systems also owns about five percent.) And a hypothetical stock deal for all of EMC is the only way that HP could contemplate taking it over: Its current market cap is about $40 billion and HP has only about $15 billion in cash. Elliott Management has argued that VMware would be worth more to EMC shareholders spun out from the federation, though a spinout would make it a prime takeover target by larger companies with more cash, like Microsoft and Cisco Systems.

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