Most Ambitious Software Deal in 2022: Broadcom Swallows VMware for $60B
Any $60B acquisition is big news. The magnitude of the news increases when the acquirer (Broadcom) is a semiconductor (hardware) vendor, and the acquisition target an enterprise software infrastructure company with approximately 500,000 current customers (VMware). Broadcom pays a mere 4.5 times revenue for VMware. Funnily enough, this is almost the same factor Broadcom paid for CA Technologies in 2018.
I created a data-driven dashboard that provides a continuously refreshed overview of the public discussions around this transaction.
Twitter Quick Poll
When I first heard the news on May 24, 2022, I created a Twitter poll to ask about the expected impact of the acquisition on VMware customers. Now the results are in.
The Strategic Opportunity
Broadcom can now leverage its silicon to boost VMware’s edge and machine learning strategy. Delivering consistent developer services, applications, and machine learning capabilities to the edge will soon become a major differentiator for software companies. Broadcom makes the chips that could extend and enhance edge capabilities, operating cost, and performance of VMware’s Tanzu Application Platform (TAP).
From a strategic perspective, this makes sense, however, executing on this plan of enhancing the VMware application platform through Broadcom silicon is everything but trivial.
Let’s Not Forget: Cloud Native = Mostly Open Source
At the same time, it will be crucial for VMware to be able to continue on its open source path to grow its cloud native credibility.
Broadcom: 20,000 Employees vs. VMware: 34,000 Employees
When the acquiree has 70% more staff than the acquirer, integration is not an option. This means that Broadcom plans to have VMware continue to operate independently, similar to the relationship between IBM and Red Hat. This needs to be clearly communicated to address customer concerns and prevent staff loss.
My Take
VMware is currently in a phase where it needs to be able to add cloud native talent to its payroll to accelerate the development of its application platform in order to improve its positioning in a highly competitive market place. Broadcom needs to proactively address any concerns around limiting VMware’s cloud native velocity through restricting the acquisition of talent.
Broadcom: $28B Annual Revenue vs. VMware: $13B Annual Revenue
Broadcom grew its revenue by 15% YoY to $28B in January, 2022, while VMware grew by 9% (YoY). Broadcom’s post tax income ($6.7B) lies at 24% of annual revenue, while VMware’s margin is approximately 14%. In a nutshell, Broadcom grows faster and generates better margins compared to its acquisition target.
My Take
Broadcom needs to resist the temptation of quickly increasing VMware’s margins, as VMware is currently in “startup mode” to transform into a vendor for cloud native application platforms. To successfully complete this strategy, the company will need to increase its spending for a few more years.
AWS and Azure YoY Revenue Growth > 40% vs. VMware YoY Growth of 9%
While this may not be a fair comparison the revenue gap between AWS and Azure on the one side and VMware on the other continues to widen. At a combined run rate of $92B (AWS: $71B, Azure: $21B), both AWS and Azure are getting away from VMware, despite VMware’s efforts of establishing a multi-cloud portfolio.
My Take
VMware needs to continue its hybrid multi-cloud strategy aimed at enhancing developer, operators, and security efficiency through providing consistent and persona-specific interfaces. This can eventually lead to significantly faster growth.
VMware Subscription Business Growth Rate: 24% YoY
The 24% annual growth in subscription business is a big number for VMware and one that Broadcom must have been impressed by. Approximately 25% of VMware’s $13B in annual revenue now consists of subscriptions. Accelerating this growth further with the help of the new Tanzu portfolio will be key to success for VMware, acquisition or not.
My Take
Converting the “other 75%” of revenue into subscription business is a daunting task for VMware. While cloud native customers are used to subscription billing, many VMware infrastructure customers will need significant convincing and incentivizing to make this leap. However, this conversion process is critical for VMware’s success.
25% of Broadcom’s Revenue Originates from Infrastructure Software
Software revenue from Symantec, CA, and Brocade makes up approximately 25% of overall Broadcom revenue. The acquisition of VMware would increase this share to approximately 50%. But most importantly, VMware has spent the last 5 years pushing its portfolio up the stack, turning into a vendor of cloud native software development, operations, and security platforms. Turning VMware’s approximately 500,000 customers into “digital transformation customers” leveraging the company’s Tanzu portfolio to modernize their current application portfolio currently is VMware’s biggest challenge, and will be for years to come. Broadcom needs to do everything in its power to accelerate this process.
My Take
Broadcom is not a cloud native application company or even a vendor of application platforms. This means that the company will be struggling with exactly the same transition VMware has been going through over the previous years, where convincing software developers of the upsides of its platform takes center stage. This is very difficult for any large vendor concerned with its ability to retain its current infrastructure-centric customer base while gaining traction in the cloud native area.
Conclusion
We all knew that VMware was “for sale” and that the company’s current financials and strategic positioning in the marketplace were a tricky pill to swallow for any potential suitor. I do not question Broadcom’s awareness of these challenges, but I strongly believe that this is one of the most ambitious acquisitions in enterprise software I have ever observed.
