The 451 Group: Open Source M&A to Pick Up

As the final days of 2008 drew to a close and predictions about open source in 2009 began to spread around the web, I predicted that this year will bring many more mergers and acquisitions among commercial open source companies. I based this primarily on extremely low valuations. So far I haven't been proven right, but researchers at The 451 Group are backing the concept up. Interestingly, two of the public open source companies that I mentioned as possible acquisition targets--Red Hat and Sun--are seen as potential acquirers in The 451 Group report. Here are some thoughts on their report and some notable data from them.

The 451 Group had already predicted that mergers and acquisitions on the open source front would increase in 2008, but that prediction was slightly off as seen in their chart of deal volume by year here:

 "In fact, 28 M&A deals were recorded by The 451 Commercial Adoption of Open Source (CAOS) research service in 2008, compared to 34 in 2007," says their report. "The slowdown is not surprising given the 40% reduction in M&A activity in the industry as a whole in 2008."

Exactly. Even as valuations plummeted last year, M&A activity fell (and so did venture capital funding in the fourth quarter, although not for the whole year, as seen here). There were simply fewer deals done, although the $1 billion acquisition of MySQL by Sun artificially inflated the dollar volume for all deals. I agree with The 451 Group's reasoning that the pace for M&A will pick up this year. Here's the heart of the matter:

"The 451 Group's assessment of overall M&A potential in 2009 noted that 'transformative deals' are the least-likely transactions to get inked this year and that there is expected to be an acceleration of 'bolt-on' acquisitions, which are typically low-risk deals that allow companies to sell technology developed by a startup into their existing customer base. Therefore, open source software vendors are likely to be attractive targets, especially if the prediction that current economic conditions will increase the adoption of open source proves to be correct."

Venture capital funding for commercial open source companies was down sharply in the fourth quarter, and that means that some firms have to start wondering how they'll weather the economic downturn without the assistance of a parent. That could lead to acquisitions this year for private open source companies. And, I've made the point before that the valuations on public open source companies such as Novell, Sun, and even Red Hat remain not far from the amount of cash these companies have. Ted Tso has some scary thoughts on how acquisition of the public open source companies might play out, involving patent trolls and more.

"Some open source vendors are going to struggle to find further funding in 2009, and may seek M&A opportunities instead," concludes The 451 Group. Bank on it.