EMC-Legato Merger Not a Huge Shock

In fact, when Gartner analyst Ray Paguet heard about yesterday's announcement, he had a fairly simple response: "Well, finally."

In an early morning Tuesday call, EMC executives announced it is purchasing Legato Systems -- the No. 3 player in the backup and recovery space -- in a stock deal valued at $1.3 billion.

This agreement effectively makes EMC the No. 3 player in backup and recovery, but, as executives from both companies emphasized, there were other compelling reasons for EMC to merge with Legato.

During the call, EMC CEO Joseph Tucci said he usually has three criteria for going after a company in an acquistion: strong technology, a strong customer base and a sold distribution practice.

"With Legato, we have hit all three," he said. "EMC will get the benefits of Legato's best practices and receive a healthy dose of new software DNA."

The merger, which is expected to close in the fourth quarter, will turn Legato into a separate, independent division of EMC with David Wright, Legato's current chairman and CEO, serving as an EMC executive vice president. Legato has 450 software engineers, who will be brought into EMC's research and development team, a customer base of about 31,000 and 400 active partners. It also has 1,500 employees, who include 500 direct-customer salespeople.

Legato's sales force and distribution base, however, will continue to operate as an independent entity from EMC's overall direct sales force. About 25 percent of Legato's revenue is derived from direct sales, while the other 75 percent is generated through the channel.

Based on Legato's historical revenue, EMC expects to add another 2 percent to its software license revenue. From the second quarter of 2002 to the first quarter in 2003, Legato reported software license revenue at $138 million and services revenue at $148 million.

Paquet, a vice president at Gartner, says the Legato merger gives EMC more credibility when trying to close software deals. The Hopkinton, Mass.-based company has been known as a hard-driving hardware company with a strictly direct sales force. But, more recently, the company has been trying to put an equal focus on software technology while establishing a friendly relationship in the partner community.

During the past year, Legato has closed deals with more than 50 large customers. "You need software salespeople to handle and close deals that are that big," Paquet says. "If you are buying multimillion-dollar software licenses, are you gong to go to a hardware company for that?"

Analysts say one of the primary reasons EMC focused on Legato as a purchase is because the company has a fully baked channel program. Cambridge Computing Services, a Legato VAR, confirmed the company has been gearing up for this by beefing up its expertise of Legato's Xtender software products -- the kinds of tools needed to play in the relatively new market called life-cycle data management.

"We saw the handwriting on the wall," says Jacob Farmer, CTO at Cambridge Computing. "We didn't know when it was going to happen, but for a while now we have been living life as if it were inevitable."

EMC intends to make software a formidable revenue-generator for the company; software and services are expected to make up more than 50 percent of the business, with software taking the bulk at 30 percent. At the end of the first quarter, EMC reported that services made up 22 percent of revenue and software made up 23 percent.

"Software is definitely my highest priority," said Tucci, in a recent interview with CMP Media, VARBusiness' parent company. "Where we are hunting is in software."

Legato's products include NetWorker and DiskXtender for data protection; AppPanel and Co-StandbyServer AAdvanced for high availability; and ApplicationXtender and EmailXtender for data access. EmailXtender is a product people point at to illustrate that Legato has been investing in a relatively young space. Hierarchical Storage Management and accessible archiving are considered fairly young markets in the open-systems space, but one that is expected to grow in the coming years.

At least 79 percent of Legato's business is generated through information protection, while 20 percent comes from high availability and the EmailXtender tools. Five percent comes from archiving tools. Legato expects sales of its high availability and e-mail product to grow to 25 percent.