Financial Watch : Amdocs Buys Solect for 1 Billion in Stock

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In the past year or so, several high-profile billing vendors have been snapped up. These deals in many cases have involved buyers that were themselves billing vendors. For instance, in January 1999, Lucent announced it was acquiring Kenan Systems; in June Convergys announced it was acquiring Technology Applications Inc. (TAI), and ADC announced its acquisition of Saville. Prior to that, Amdocs acquired ITDS, which itself had purchased Computer Science Corp’s Intelicom group at the end of 1997.

The latest deal, announced at the end of February, involved Amdocs and Solect Technology Group. The price tag: a hefty $1 billion in stock. After the deal closes, Solect will operate as a division of Amdocs, with offices remaining in Toronto. The deal gives Amdocs the coveted IP experience it has been looking for to go along with its existing strength in wireline and wireless billing and will give Amdocs a shot at a number of the large ISP billing deals that are said to be coming on the market in the near term.

“We had a goal to be the dominant player in the IP billing market, and Solect brings to the table several key elements,” says Dov Baharav, CFO of Amdocs. “They have the best product in the IP sector; they have the market presence, with over 60 installations, including customers like British Telecom, Ameritech, and GTE; and they have excellent partner relations with companies like Nokia, Ericsson, Alcatel and Pricewaterhouse.”

The announcement comes on the heels of Amdocs’ IP strategy announcement in January. The company said then that it would expand its Ensemble architecture to include support for IP services. The Solect acquisition appears to mean Amdocs is abandoning its IP enhancements for Ensemble, but Baharav says that’s not the case.

“Buying Solect is an additional step in executing the IP strategy we announced in January,” he says. “Given Solect’s installed base, we found it would be better to use Solect’s IAF Horizon for standalone ISPs rather than using Amdocs’ product. And we would take advantage of Horizon’s strength and combine it with Ensemble for the converging segment and for large ISPs.”

Baharav adds that in emerging ISP installations, he expects Amdocs to immediately begin deploying Solect’s IAF Horizon as a standalone application. He also foresees Horizon being used for front-end applications, such as provisioning, service creation and mediation in some of Amdocs’ large carrier customers, while Amdocs’ architecture would be used on the back end.

Eventually, Amdocs plans to make available an IP module that existing Ensemble customers could purchase and add to their current deployment.

This significant move in its IP strategy was a smart one for Amdocs, albeit at a price, according to Doug Ashton, managing director at Jefferies & Company. “Just as investors demand that almost every company have an Internet strategy, they are also demanding that every biller have an IP strategy,” he says. “For some companies, especially those with strong valuations, buying may be a better strategy than building. In IP, the fact is Amdocs was not there in any significant way. With large billing deals in the ISP sector, this was the only way in on a time-to-market basis. They are in a stronger position now, and this would include the prospective AOL billing business as well.”

BREAKING THE BANK

While Amdocs does have its work cut out for it when it comes to ensuring that Solect’s Horizon and its own Ensemble are able to play well together, a lot of attention has focused on the financial aspect of the deal. Many Internet companies and other high-tech companies have been acquired for a lot more than $1 billion in the past few years, but this particular case raised more than a few eyebrows.

In January, just a month before Solect was acquired, it received about $35 million in its third round of venture financing. This influx of cash, and its intention to eventually go public, could have made Solect’s stock nearly as hot as Portal Software’s IPO in 1999. Yet instead of staying that course and pursuing success as a publicly traded company, it decided to take Amdocs’ offer. Ashton, says the price paid was a little more than 3 times higher than Solect’s private value mark to market.

“The challenge was to convince an enthusiastic and successful company that merging with Amdocs was the best avenue for them,” Baharav says. “It’s a better deal for them and for us, and together we can create something that neither of us can create on our own.” He also says that the $1 billion price tag was a fair one reached after extensive analysis and consultation with bankers and experts.

“If I were in Solect’s shoes, I would have done the same thing,” Ashton says. “They got a significant valuation on insignificant revenues, and now they are with a company that can bring them back to a more even position with industry leader, Portal Software. It is similar to the Lucent-Kenan deal, where the company may have been looking for the best partner for the long-term rather than the best in terms of valuation. For technology purists like those at Solect, this represents a good, balanced exit strategy.”

On the flipside, Ashton adds that for a company like Amdocs, “There are only a couple of significant players in the IP billing world from which to choose and each and every one would come at a high price,” he says. “Now they [Amdocs] have what we would call a prized possession. This further limits the ability of other companies to get into the market through a buy-in strategy,” he says. Ashton adds that sometimes it’s better for a company to buy another not only for what it can bring into the fold but to prevent that other company from falling into someone else’s hands. He says this is a concept that continues to escape the attention of many companies.

In addition to the obvious addition of IP billing product and expertise, Amdocs also gets Solect’s customer base, as well as its service contracts. “Amdocs doesn’t use integrators, so when they acquire a company with mostly licenses revenue, and the services revenue goes to a Pricewaterhouse or Arthur Andersen, they’ll get those contracts. And in billing, the integration and implementation deals are a pretty sizable chunk,” Ashton says. “They are doing this with ITDS, which has turned in to a significant deal for the company. ITDS was a target whose value was always higher than investors were willing to give it, and the market let it fall into the wrong hands. That deal was the impetus to the significant move that Amdocs’ shares have made. It was a more accretive deal than they let on, enhancing their product portfolio and providing a recurring revenue stream to a model so heavily dependent on a services approach.”

Solect gives Amdocs the ability to offer a host of products and services from one company, says Michael Turits, senior analyst of equity research at Prudential Securities Telecom Software and Services. “If you can hire one company with robust services, global support, a high degree of customization and IP credibility, it’s very compelling,” he says. He adds that demand for the IP billing segment should never be underestimated. “It’s not a niche market when you’re talking about a $500 million segment today,” he says.

Turits also says that although some customers will be drawn to Portal Software’s model of off-the-shelf software, many others are going to want Amdocs’ model of customization.

THE COMPETITION This deal may have surprised some industry watchers, but it appears Amdocs’ major competitors aren’t quite as floored by the news. Convergys, which itself invested in IP technology by purchasing TAI last summer, isn’t surprised by the move. “I don’t think it was a shock,” says Randy Mysliviec, senior vice president of marketing at Convergys. “Companies in the billing space, and primarily wireless billing, can’t ignore the growth of IP. We think the IP space is pertinent to wireless business, and we were delighted to pick up TAI when we did, because it’s given us the advantage of 8 to 9 months of integration of our product line.” TAI’s IP billing capabilities can now be found in Convergys’ Catalys product.

Mysliviec says the addition of IP expertise and technology is important, but so is integrating that into an existing business model. This is something Convergys has had the better part of a year to smooth out, and something Amdocs is now facing.

“Most of the IP billers that are in the market today serve pretty small-scale ISPs for the most part,” he says. “This is very different from the wireless clients and large carriers we serve today, which have several million subscribers, and for whom reliability and quality of service issues are critical,” he says. “The technology needs to address that, which typically IP billers don’t do. But, they do possess general expertise on how to build in a packet-based rather than circuit-based world,” Mysliviec adds.

Portal Software, a direct competitor to Solect in the IP billing space, also is taking the news in stride. “About a year ago I told everybody that the acquisition of Kenan Systems by Lucent was the best thing to ever happen to Portal; I think this [Amdocs’ acquisition of Solect] is probably No. 2,” says John Little, CEO of Portal Software. “To paraphrase Winston Churchill, never in the course of human history has somebody paid so much for so little.” His comments were made at a press and analyst event during the company’s user conference in San Jose, Calif., the same day that Amdocs’ acquisition of Solect was announced.

Although a combined Amdocs-Solect can offer not only IP billing, but Amdocs’ strength in wireless and wireline billing, Little says that his IP billing company has no desire to get into traditional voice.

“It’s a dull, boring, flat market,” Little says. “Why throw resources into a market that’s not growing?” He points out that while Portal has no intention of getting into traditional voice, it is actively pursuing voice over IP.

Dave Labuda, Portal’s vice president of engineering and CTO, says that Amdocs will have an architectural challenge because both companies’ products have very different designs. “I think in some sense the more interesting challenge is that Amdocs has technology that doesn’t work with the Internet,” he says. “By buying Solect, they are getting a non-real-time architecture that’s not going to solve their problems.”

Jefferies’ Ashton says that real time is a function of more than just the billing system and has to do with mediation and other elements and systems as well as a given service provider’s approach to billing and OSS. “To me, real time is just not what people make it out to be; it will become increasingly important, and Solect is technically as good as anyone they deal with,” he says. But he also supports Portal’s statement in that the price paid was quite high.

He also says that it’s not likely that other billing vendors will follow suit with big acquisitions of their own. “Portal isn’t going to look at what Amdocs just did and say that since they look more like us, we have to look more like them by buying another company,” Ashton says. “They won’t buy someone at the low end of the circuit-switched world. It’s not smart and they are not stupid, and in the end they know that if the IP market evolves outside of the IP market and becomes as big as projected, they will get more than their share. Moreover, it is not appropriate for other vendors to simply suggest that they are now worth an inflated amount. Solect, along with a few select others are the only ones that can now say they are worth more than they probably were before the deal,” he adds.

No doubt other IP and non-IP billers alike will be keeping a close watch on how smoothly Amdocs can bring Solect under its roof and what market share that may translate to in the future.

FUTURE CHALLENGES

Guiding Solect into the Amdocs environment will be a challenge, but if it happens as planned the combined company will be at or near the top of its game.

Although Amdocs is headquartered in Israel and Solect is based in Toronto, few in the industry see this as an issue. “Amdocs is a geographically diverse company so this is just more of the same, although you can never count on the integration of any two companies before it’s over,” Ashton says.

Amdocs’ Baharav points out that more than half of Amdocs’ employees already are based outside of Israel in such places as England, Germany and North America. So having Solect’s employees in Canada will not be anything out of the ordinary. “I would say that the culture of the company is a multinational one, and Amdocs is able to operate everywhere seamlessly,” he says.

The purchase of Solect makes Amdocs a more well-rounded company, and Ashton says he doesn’t see any holes in the current strategic position of the company, outside of any work they would attempt to do in video. “They bought good technology and a good customer base, but they bought a small company,” he says. “They can only make Solect so valuable in the near term—Solect is expected to generate $35 million in business this year, and Amdocs is not going to scale them to $100 million this year or next—but they are in a good position to get some large business that would have gone elsewhere.”

Ashton says that on the billing side, Amdocs has made smart moves by not worrying about the low end of the market and instead focusing on big-ticket deals. He says that if there’s anything that has kept them out of some of these large contracts, it’s the lack of IP. “Now, they have equal to or better than almost everyone in the billing market,” he says.

Ashton also says Amdocs should be looking at buying non-billing OSS companies, such as those focusing on mediation. Baharav says that while the company does plan to use Solect’s Horizon for certain installations as the front end, including mediation, the company is also working closely with IP mediation vendors Xacct and Narus. “We can use either Solect, Xacct or Narus, according to the particular case,” he says, “and this seems to be a sufficient solution for us.”

It will likely be several months before the Amdocs-Solect acquisition shakes out in the market, so it’s probably too soon to tell how effective the combined company will be. But on paper, Amdocs is looking like the company to beat in the billing market.

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