Intel bets its chips on McAfee

Intel
Corp. agreed to buy security-software specialist McAfee
Inc. for $7.68 billion, a surprise transaction designed to jump-start the chip
giant’s uphill effort to move its technology beyond computers.

The deal, the largest in Intel’s 42-year history, sent
off shock waves on Wall Street and in Silicon Valley because of a lofty 60%
premium and worries that Intel is moving far beyond its expertise in designing
computer chips.

Some industry observers said Intel could face concerns
that the combination could hurt McAfee’s competitors in antivirus software. The
move comes just two weeks after Intel settled an antitrust probe by U.S.
regulators over the company’s dealings with computer makers.

But Intel executives argued growing security dangers require new measures,
describing the acquisition as an essential step to design chips and other
hardware that can protect systems better than software alone.

While antivirus software from McAfee, Symantec
Corp. and others have slowed the spread of such rogue programs, computer
systems run by companies and government agencies face thousands of attacks
every day.

Meanwhile, products such as smartphones and
Internet-connected TVs have been slow to adopt comparable security measures—and
potential weaknesses could multiply as Internet connections are added to new
devices, including home appliances, office equipment and industrial machines.

Intel and McAfee executives said the conventional
approach of installing and updating new software safeguards on all those
devices simply won’t work.

“We believe security will be most effective when
enabled in hardware,” Intel Chief Executive Paul Otellini
said in a conference call.

The pact is another sign of consolidation that is
reshaping the technology landscape. Cash-rich tech giants are using
acquisitions to push into faster-growing markets, in some cases moving out of
their strongholds to create new combinations of hardware and software.

Software giant Oracle
Corp., for example, this year purchased Sun Microsystems in a deal that enabled
the company to bundle servers and software for corporate customers. Hewlett-Packard
Co. recently purchased Palm, a move that puts the world’s largest PC maker into
the smartphone sector.

Intel, based near McAfee in Santa Clara, Calif., supplies
more than 80% of the microprocessors that serve as calculating engines in PCs
and server systems. Though that business is healthy right now, the company has
long acknowledged that, without diversifying, it can’t grow any faster than
that market.

McAfee, founded in 1987 and best known for its antivirus
software, struggled through a series of accounting problems and top management
changes. Its operations have improved under David DeWalt, who took over as CEO
in 2007 and has recently acquired some mobile security providers.

In 2009, Symantec was No. 1 in antivirus software with
41.7% of the market, while McAfee was No. 2 at 21.9%, according to Infonetics
Research.

McAfee has nearly $2 billion in annual revenue—some of
which flows from subscriptions that consumers and businesses pay for security
updates and services.

Intel has no plans to build McAfee’s antivirus software
or other products into Intel chips, Intel executives said. Rather, they plan to
draw on the expertise of McAfee’s engineers to design features that can be built
into microprocessors that could be exploited by both McAfee and competitors
like Symantec, they said.

Intel is paying $48 in cash for each McAfee share. McAfee stock jumped 57%
after the deal was announced Thursday, to $47.01, at 4 p.m. on the New York
Stock Exchange. Intel’s shares fell 3.5% to $18.90, off 69 cents, on Nasdaq.

During the Internet bubble, Intel spent more than $10
billion on acquisitions to broaden its business. Most of them failed to pan
out, leading the company to craft a strategy tailored to finding other places
to sell the same x86 chip technology it developed for PCs. Doing that, however,
led the company to a realization that software would be essential to enhancing
the appeal of its chips.

Last year, Intel paid $884 million for Wind River
Systems, which makes software that goes into cellphones, cars, jet fighters and
other products. In prior deals Intel folded acquisitions into the company, but
Wind River has been kept separate with its own management.

One reason is that the bulk of Wind’s revenue comes from
software that runs on chips other than Intel’s, so consolidating the operations
could trigger fears Intel would stop supporting them.

The success of that strategy shaped Intel’s move to buy
McAfee, said Renee James, an Intel senior vice president who spearheaded both
deals. McAfee also will be run separately; Mr. Otellini said it has received
commitments from McAfee management to stay on in their current jobs for
“multiple years.” Mr. DeWalt said he was excited about remaining on
in his job.

Any move that would appear to shut out McAfee rivals from
offering their products for PCs could attract scrutiny from antitrust
regulators, who would otherwise likely clear the deal because Intel and McAfee
don’t compete directly, antitrust lawyers said.

Symantec CEO Enrique Salem said he believes it is more
likely that Intel will now develop security circuitry that can benefit all
software vendors than give unfair advantages to McAfee. “As of right now,
I don’t see that as a big concern,” he said.

Marc Rotenberg, executive director of the Electronic
Privacy Information Center, said his group will be watching carefully to ensure
that Intel doesn’t do anything with its chips that could betray users’ privacy,
such as linking their identities to particular devices in a way that could be
seen by others.

Intel in 2000 dropped a plan that would have included a
unique electronic identifier on its chips, after Mr. Rotenberg’s group and
others complained it smacked of “Big Brother Inside,” a mocking
reference to Intel’s well-known marketing slogan.

Intel and McAfee had been collaborating for about 18
months on a prior alliance, aimed at developing McAfee software that exploits
features that have already been added to Intel chips—including a technology
that protects data on a laptop in the event that it is stolen. Talks about an
acquisition sprang from that discussion, Ms. James said, as the companies
concluded that deeper collaboration could pay off.

Rick Whittington, an analyst at research firm TechIndicators,
argued that Intel’s purchase is compelling because the company’s advances in
manufacturing technology are quickly expanding the number of transistors on a
chip from hundreds of millions to billions. Using some of that processing power
on security and other specialized functions should aid hardware buyers, he
said.

But others said the hefty premium represented by the $48
a share Intel is paying for McAfee wasn’t easy to justify, in part since Intel
doesn’t plan to boost profits by cutting staff at the software company.

“Is there a lot of downside? Probably not,”
said Stacy Rasgon, an analyst at Sanford C. Bernstein. “But is there
enough revenue upside to justify the premium?”

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