IBM, Cognos, and the End of Best-of-Breed

The software giant's $5 billion acquisition of Cognos shows how difficult it is becoming for midsize software companies to survive on their own

by Steve Hamm (Business Week in New York)

One of the hottest segments of the tech industry, business intelligence software, is less and less a separate category of products as one major player after another gets scooped up by larger companies. The latest move was IBM's (IBM) announcement on Nov. 12 that it will buy Cognos (COGN) of Ottawa, Canada, for $5 billion. This followed SAP's (SAP) deal to buy Business Objects (BOBJ) last month for $7 billion, and Oracle's (ORCL) acquisition of Hyperion Solutions for $3.3 billion in April.

The software industry, once populated by hundreds of so-called best-of-breed companies, is now dominated by a handful of giants, including Microsoft (MSFT), IBM, SAP, and Oracle, with vast portfolios of products. It's very difficult for midsize companies to compete against the giants because large corporations prefer to buy their technology from a few strategic suppliers rather than a lot of smaller companies. Two other independents, BEA Systems (BEAS) and Sybase (SY), are seen as likely takeover targets. "In some sectors it’s really hard to find the independent, best-of-breed companies anymore, says analyst Paul Hamerman of market researcher Forrester Research (FORR). "Longer term, the industry will regenerate itself, and new ideas will incubate,”.

For IBM, the Cognos acquisition is a continuation of a "growth through mergers-and-acquisitions" effort it launched in February, 2006. Since then, IBM has bought 23 software companies as part of its Information on Demand strategy, which combines software and services to help corporations get the most out of all the data they gather about customers and their own business operations. "Customers want better and deeper integration (of their software programs), higher performance, and more real-time analysis of data," says Steve Mills, senior vice-president and group executive of IBM Software Group.

Good News For Shares
Cognos is a good match for IBM because the two companies have been working together closely for more than 15 years and their technology is compatible. Both have standardized the Java programming language, and Cognos has integrated its executive dashboard and business data analysis programs with IBM's DB2 database and its WebSphere technology for weaving together complex run-the-business applications. Mills says IBM will quickly merge Cognos into its existing operations and sell its products through IBM's software salesforce, which is more than 10,000 strong.

Cognos has long been one of the top companies in the business intelligence arena. The company reported net income of $115.7 million in fiscal 2007 on an 11.6% increase in sales, to $979.3 million. Its stock closed Nov. 9 at $53 per share, so IBM's offer of $58 per share represents a modest 9.5% premium. Cognos' shares rose more than 8% on the news, to more than $57 each. IBM's stock fell, dropping 5% to about $100 a share.

What's Around the Corner?
There are now only a handful of strong best-of-breed business intelligence software companies. They include SAS Institute, which is private, and Teradata (TDC), which spun out from NCR (NCR) last year and is publicly traded.

But, in the software industry, there's always something disruptive coming. In this case, it's QlikTech, a company started in Sweden that now has its headquarters in Radnor, Pa. It has radically different technology from the rest. It loads all of the data to be analyzed into a computer's memory chips so query results can be seen nearly instantly. Its tools are much less expensive than those of Cognos and Business Objects, and are designed to be used by many people within a company, not just executives or business analysts. "We make a big part of (the larger company's) current offerings obsolete," claims QlikTech chairman Mans Hultman.

Asked about QlikTech's claims, IBM's Mills acknowledged that its technology is attractive to customers, but says Cognos and IBM together offer a much broader and deeper array of capabilities. Will QlikTech be one of the next business intelligence companies on the auction block? Given the way this industry is consolidating, don't bet against it.