Revisiting Autonomy’s Iron Mountain deal

Right, some much needed revisionism on Autonomy’s plan to acquire Iron Mountain’s digital archiving, eDiscovery and online back-up and recovery businesses for $380m.

This deal received a warm welcome in the City of London with Autonomy CEO Mike Lynch proclaiming it would make the UK software company the world’s biggest cloud platform with 25 petabytes of data.

Processing customer data in the cloud continues to be a strategic part of Autonomy’s information governance business. We look forward to extending regulatory compliance, legal discovery and analytics to a host of new customers as well as enabling the intelligent collection and processing of non-regulatory data from distributed servers, PCs and especially tens of millions of mobile devices. This will afford the opportunity to bring to these customers the power of IDOL’s meaning-based technology.”

Indeed, shares in Autonomy have ticked higher since the deal was announced on May 16.

Now, Dr Lynch claims the deal will be 15 per cent accretive to earnings in 2012, a figure which Paul Morland at Peel Hunt finds difficult to swallow.

We also note that 15% accretion would require around $80m of extra operating profit, and it is difficult to see how this can be achieved from just $135m of sales that were in decline at the point of acquisition. We have seen some commentators suggesting that higher gross margins will provide much of the accretion, but some of this benefit may come from not having to pay away OEM royalties to Autonomy. So at the group level, the benefit to Autonomy may not be as great as many have calculated.

And that’s not the only gripe Morland has with the deal:

We find it strange that, despite spending $10m this year to achieve $40m of cost savings, none of the benefits will be felt in 2011. This appears to be consistent with our theory that 2011 forecasts were going to be hard to achieve and the acquisition fills a hole.

Surely not.

But then again one does have to ask why Autonomy is buying such a high price for a business which is seemingly in decline.

According to Iron Mountain’s Q1 earnings release, it expected its digital service line to generate $190m of sales and $20m-25m of EBITDA in 2011. However, Autonomy expects revenues from the acquisition of just $130m to $140m and, apparently, no profits at all in the first six months of ownership. We also note a recent presentation on the Iron Mountain website showing that the business contributed $231m to sales in 2010. This suggests that Autonomy is buying a business in decline (sales fell 6% in Q1) that is not currently profitable for 3x sales.

Perhaps it’s strategic.

It’s certainly curious.

Related link:
Head in the clouds at Autonomy – FT Alphaville