On Aug. 28, I read about the acquisition of Petalogix, which offered an embedded Linux platform for FPGA, by Xilinx Inc. (Nasdaq: XLNX). It reminded me of all the embedded operating system acquisitions made by chip companies, hardware companies, and larger tool companies in the last decade. I wonder if the trend will continue and how many embedded processor companies aspire to owning and controlling their own OS.
Companies pondering this strategy must weigh the benefits of being able to control both the hardware and the OS (the Apple model) versus leveraging external partners for the OS (the Microsoft/Intel model or an open-source model). Companies contemplating an acquisition must consider factors such as the cost of supporting and maintaining a target OS internally, the cost of acquiring and integrating the target company, and other potential uses of cash and resources.
These factors are weighed against the additional revenue to be gained by offering a better, more tightly integrated, and more directly supported product. Sometimes buyers make a strategic decision to enter a market and pay a higher multiple for the target company. Other times a buyer sees an opportunity to obtain an OS company for a reasonable multiple. Whatever the internal reasons for such acquisitions, there have been a lot of them since the 1990s.
Most of the time, real-time operating system (RTOS) companies are acquired to integrate the OS into the tools platform of the acquirer. Back in the late 1990s, I was selling TI's DSPs like the TMS320C548 and TMS320C32. Remember those? In 1998, Texas Instruments Inc. (NYSE: TXN) acquired Spectron Microsystems of Santa Barbara, Calif., bringing the DSP/BIOS and SPOX embedded OS in-house. TI also acquired Go DSP of Toronto in 1997, bringing in the Code Composer developer platform. TI created an excellent development platform by integrating those tools into a powerful OS and IDE platform. TI gave away the OS and sold the IDE for a nominal price. This gave customers a great development platform for a low price, which accelerated time to market, meaning more DSP chip sales.
Other strategic examples include the 2002 Mentor Graphics Corp. acquisition of Accelerated Technology and its Nucleus OS platform, which was integrated into the Mentor software development platform. As recently as 2008, we saw Nokia Corp. (NYSE: NOK) buy the remaining interest in Symbian, even though shortly thereafter, Nokia made the 180-degree decision to drop the OS and move to Microsoft.
Companies also frequently make acquisitions to eliminate competition. In 1999, Wind River Systems Inc. acquired Integrated Systems, which sold the very popular pSOS embedded OS. Wind River quickly killed pSOS, eliminating the key competitor to VxWorks before embedded Linux became prevalent.
In 2009 and 2010, there were several strategic blockbuster acquisitions. Intel acquired Wind River, Cavium Networks acquired MontaVista, and Research in Motion acquired QNX. The following table shows some of the key embedded OS acquisitions in the past decade or so, including the transaction value.
Will this consolidation continue? If so, who is next? A variety of high-quality independent embedded OS companies still exist, such as Green Hills (Integrity), LynuxWorks (Linux), TimeSys (Linux), ENEA (OSE), ExpressLogic (ThreadX), and of course Microsoft (Windows). Wikipedia has a good list of real-time OS solutions here. It wouldn't surprise me to see several of these companies acquired in the coming years.
There are in fact thousands of OS nowadays. For smart phones market there are only a few due to the complexity. Certain markets such as automotive also have their own RTOS with special requirements. I believe there are always room to grow for the OS market.
Actually if you look at valuation multiples of acquisitions, they have dropped quite a bit in the last two years as the economic recovery has stagnated. This is across all the high-tech sectors that I track (meaning sellers of companies), ranging from semiconductors to engineering design services, security software, software development tools, and of course operating systems software. I track the multiples in about a dozen of these segements on a quarterly basis. Anyone who wants to be put on our newsletter list just email me. blorenz@mcleanllc.com.
Specifically, if you look at just Operating Systems Software acquisitions (as sellers), you get:
Year EV/Revenue
2010 9.49 (61 deals)
2011 1.59 (50 deals)
1Q12 0.92 (13 deals)
2Q12 2.33 (18 deals)
While this is a disturbing trend for any owner of a company hoping to sell, as long as our government can keep us out of recession in 2013 by avoiding the fiscal cliff, I think valuations will recover next year, although maybe not back to 2010 levels right away.
(Note, EV/Revenue means Enterprise Value / Revenue multiple. Basically it means that the company sold at X times trailing annual revenue.)
Brent, It is possible for M&A activities to revive in the markets you addressed. One potential roadblock is the high valuation many public companies now have on the equity markets. Sales aren't sky high but companies are so loaded with cash and have such high productivity that valuations have been on an upward swing. Could this hurt mergers and acquisition potentials in the OS market?
Bringing in an embedded OS company can be particularly thorny for the company making the acquisition. There's much higher due diligence required than in most acquisitions, since the OS technology is generally outside the acquiring company's core expertise.
When IBM developed one of the first PC's, they outsourced the OS to a start-up called Microsoft. Apple's early integration of graphics into their hardware allowed them to surpass MS by many benchmarks, but the case could be made that OS and h/w managed by separate entities worked out better for the computing industry.
@nimantha.d, what do you mean by competing with big names? I would say this ISV guys are a very minor startups or just 2 or 3 geeks who have been sitting in the dark rooms of their houses tinkering with OS embedded applications until some venture capitalists snapped them up.
This is not surprising, OS embedded market would set to grow higher. There are lot of reasons to boost this sector in very near future. Am wondering Mentor Graphics not featured among the list of OS embedded firms.
My heart says Yes to this becasue they have the capability but the only issue is that do they have the correct plus enough resources to compete with the big names as their competitors ? This is where the difference might lye.
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