Nortel purchase of Bay Networks a $9.1 billion love-fest

Northern Telecom (Nortel) has ended weeks of speculation today by announcing that it is buying Bay Networks for $US9.1 billion in a pairing that top executives at the two companies described in rapturous terms. 'We found we had to control our enthusiasm. It was almost a Woodstock-type experience,' said Dave House, Bay chairman, chief executive officer (CEO) and president, of the discussions between the two companies that preceded yesterday's announcement.

Northern Telecom (Nortel) has ended weeks of speculation today by announcing that it is buying Bay Networks for $US9.1 billion in a pairing that top executives at the two companies described in rapturous terms.

"We found we had to control our enthusiasm. It was almost a Woodstock-type experience," said Dave House, Bay chairman, chief executive officer (CEO) and president, of the discussions between the two companies that preceded today's announcement.

Besides likening the talks to the 1969 Woodstock rock concert and love-fest, during a teleconference today the executives played off of each other's comments as if they had been a team for years.

House and John Roth, Nortel president and CEO, had each been searching for a pairing that would strengthen their respective companies and push them into the IP (Internet telephony) market where 30 to 40% annual growth is accelerating. The companies also found they had a complementary set of customers with very little overlap, according to House.

If the deal gains approval from Bay shareholders and regulators, it will be the largest transaction to date in data network systems and the merged company will be the first to supply worldwide IP integrated networks offering voice and data, Roth said. Nortel has wanted to move into that market, but Roth said he knew that he had to be able to provide a more reliable network to users and Bay will supply the equipment to reach that goal.

Bay shareholders will get a fixed exchange ratio of 0.60 of one Nortel common share for each share of Bay common stock. Nortel expects to issue about 134 million common shares as part of the deal. Using last Friday's closing price of Nortel shares, Bay shareholders will receive $38.21 per share.

Nortel will integrate its Enterprise Data Networks business into Bay's operations. Roth will be CEO and a director of the merged corporation. House will be president of Nortel and serve on the board of directors.

There will be no layoffs, Roth pledged. The merger with Nortel would create a company with combined 1997 calendar year sales of $17.7 billion. The merged company would operate worldwide with 80,000 employees.

When House took over at Bay nearly two years ago, he said he was not going to sell the company, but "business changes very quickly, particularly when you're living in the Internet," he said today. "In the year and a half I've been here, it's been like a decade in dog years or Internet years" with particularly significant changes in the last six months with other partnerships designed to help companies invade the IP market.

The merger is expected to intensify Bay's competition with Cisco Systems, the networking giant and major provider of IP routers and equipment in the enterprise and service provider segments. On its own, Bay has not been a potent force against Cisco in those markets. In recent weeks as merger rumors swirled, analysts and industry observers have noted that if Bay were to align with a major telephone company, the competitive picture would significantly change.

The deal will have little effect on existing partnerships and agreements that both companies have with other firms. For instance, Bay is working with Ericsson on products lines to support the MPLS (Multiprotocol Label Switching) standard and that work will continue, House said. Likewise, Nortel will continue work with Cabletron Systems on its "Power Network" partnership, Roth said.

But how those agreements will shake out for Nortel remains open to question, said Jay Pultz, an analyst with GartnerGroup in Stamford, Connecticut.

"It really makes you wonder what the future is of the Nortel relationships with those companies," he said.

However, GartnerGroup has been predicting such alignments in the IP market. The market research firm has identified four basic camps: besides Nortel in the leadership position are Cisco, Lucent and the combination of 3Com, Newbridge and Siemens.

Major telecom providers and networking companies are likely to continue consolidating and today's merger announcement represents a major step in that regard, Pultz said.

The move "is a lot like a Lucent strategy" of taking "more of a bulletproof, highly reliable technology" and porting that technology from the carrier side of the market into the enterprise, he said.

And while the merger holds promise, there still is the potentially messy issue of making it happen.

"Nortel has got to execute flawlessly here. This is a fast-moving market. They can't waste any time," Pultz said, adding that flawless execution "is hard to do with a merger this large."

Nortel faces dual difficulties as it moves more definitely into the IP market.

"Nortel has got to keep their eye both on the market and also on integrating Bay internally," Pultz said. "You can't lose site of what's happening in the marketplace."

Nortel, in Mississauga, Ontario, can be reached at http://www.nortel.com/. Bay, in Santa Clara, California, can be reached at http://www.baynetworks.com/

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