McAfee is acquired by Intel. Does the deal make more sense to Intel or McAfee?

This week the technology world is jolted by the news of Intel acquisition of security software maker McAfee. It has been a while since Intel made a headline grabbing news, especially in M&A. Therefore, being the technology analyst me, I decided to share my thoughts on this latest acquisition by Intel.

First, let's begin by spitting out the merits of the deal. Intel has been itching to grab market share in the mobile chip market, the latest with the launch of Atom processor 2 years ago. However, the battle has been an uphill climb with ferocious competition especially with competitors adopting the ARM technology. Therefore, Intel decided to spend $884 million last year to buy Wind River Systems because it makes software that goes into lots of products. Intel keeps Wind River separate while looking for opportunities to leverage its silicon chips to customers.

And this week, Intel decided to splurge $7.68 billion on McAfee, a 60% premium on the share price right before the news. Intel touted that it needs to venture into "security", which is a growing business because of the threat of mobile devices being maliciously attacked by hackers. Intel believes that integrating security features into its chips will make them more appealing and differentiates the company from the others. Thus, this will be their strategy to win more market share, especially in the mobile market. Again, Intel maintained that McAfee would not be consolidated into its operations but separately run by its present CEO under Intel.

Unfortunately, the merits of the deal end here. Instead, there are lots of unanswered questions of how this deal could actually help Intel in the long run. Below I list out the reasons why the deal is wrought of ambiguities and uncertainties:

Valuation
A 60% premium on McAfee share price is unjustifiable because Intel paid 3.29 times McAfee’s revenue, compared with a five year median of 2.07 times revenue. According to Bloomberg analytics, there have been 171 acquisitions in the Internet security business with an average premium of 22.3% in the last 5 years. This isn't the 90s, therefore its cash hoard should be prudently managed. The company has spent billions in 2000 to acquire businesses that largely haven't panned out as promised, resulted in a sale of its business to Marvell for $600 million. It should return its cash hoard to shareholders if attractive investments could not be found. Instead, spending $7.7 billion on another technology outfit with the purpose of finding revenue and margin growth smacks of risks. McAfee shareholders are the obvious benefactors from this deal.

Where is the synergy?
In any M&A deal, management and analysts look for revenue and cost synergies. In this case, Intel management does not intend to bundle McAfee's software with its chips. I don't see where the revenue synergy is. Moreover, McAfee's operations are separately maintained by Intel with no plans for layoffs. Therefore, there is no cost synergy. With no synergies, investors would not be able to see the benefits of the deal in the first few years. After the announcement, Intel's market cap lost $3.6 billion, almost half of the acquisition value. This is a testament of Intel investors' worry about the benefits of this deal.

Low power is the holy grail, not security
Intel seems to have forgotten the key to grab more market share in mobile market is to produce chips that consume less power than others. ARM technology is clearly winning in this niche market. Therefore, Intel touting the benefits of security inside silicon is tantamount to a big gamble because it has not identified what sorts of hacker attacks might affect mobile devices. The embed of security into chips does not resolve chip power consumption issue as well. In other words, there is no guarantee of success in the market with the introduction of more security features in mobile.