Hewlett-Packard is in advanced talks to acquire IT services company Electronic Data Systems (EDS) in a deal that would give HP more competitive muscle against worldwide services market leader IBM.

The price tag for EDS could be around US$13 billion, according to a [report] in the Wall Street Journal published on Monday.

Both companies issued statements on Monday confirming that they are in "advanced discussions" about a merger. They said they would not comment further until a deal is reached or the discussions end, and they each cautioned that there is no guarantee that they will come to an agreement.

The deal would strengthen competitive position of HP against IBM, whose Global Technology Services division has long been a strong profit generator for the company.

At a round table meeting held this morning by ICT vendor group Intellect, EDS UK country manager Sean Finnan said the local technology economy remains robust. “The amount of prospects is as strong as it has been for a long time,” he said.

"I see it as an attempt by HP to really go head to head with IBM in a much more meaningful way, especially in technology services and IT outsourcing, said Dana Stiffler, research director with AMR Research.

Even after the merger, however, the combined companies' global services revenue would fall about $10 billion short of that of IBM, based on their figures reported for 2007, she said.

Shares in EDS surged almost 28 per cent on the news to close at $24.13 on the New York Stock Exchange. HP shares, also on the NYSE, declined by 4.7 per cent to close at $46.83, although they recovered a fraction in after-hours trading.

The market at stake was worth $748 billion in 2007, up 10.5 per cent from 2006, according to figures from Gartner. IBM led the market last year with about $54 billion in revenue, compared to second-place EDS with $22 billion. IBM also grew faster than EDS last year, increasing its revenue by 12.2 per cent year-over-year, compared with 3.4 per cent for EDS. That was a reversal from 2006, when EDS had bigger growth than IBM.

HP took in $17 billion in services revenue last year, putting it in fifth place behind Accenture and Fujitsu. The HP business grew by 8.1 per cent and accounted for 16 per cent of its total revenue for 2007, most of which came from its printer and PC businesses.

The deal would strengthen the services capability of HP in some areas but not others. EDS would give HP a boost in custom application and infrastructure management services, but less so in managing packaged applications from the likes or Oracle and SAP, Stiffler said.

“We’ll see more specialisation,” Finnan said. “For example, the need for specialist financial services skills, which is already very high, will be amplified.”

Services analyst Richard Holway quipped: “I’ve been forecasting that a tier-one player will take over another tier-one player for 15 years and now it’s finally proven that I was right. For larger companies, consolidating is clearly the right thing to do.”

Satyen Patel, executive vice chairman of Bangalore-based outsourcing firm Cambridge Solutions, said the capture of EDS by HP was necessary to compete on scale with IBM, which had been “incredibly aggressive” in its pursuit of outsourcing deals recently.

"Another thing it wouldn't give HP is a strong business consulting presence, a go-to-market capability where you address operational executives and line of business people as much as the CIO," she said.

EDS may well be open to an acquisition though, according to Stiffler. "I think aligning themselves to HP makes them potentially a more future-focused and viable competitor than they are as a standalone company," she said.

There is a challenge for both companies. "Both HP and EDS grew up in a traditional world prior to India emerging as a global delivery center," Stiffler said, noting that Indian companies such as Wipro are focused on providing low-cost application development services.

It's a fairly bold move by HP, said Kathryn Hale, research vice president at Gartner. ""That is just amazing. It sounds more than just speculation."

Only HP, which earns $17 billion in revenue in 2007, has the wherewithal to acquire EDS, which is second in outsourcing revenue at $22 billion, Hale said. That would make it the second-largest services company in the world, bringing it closer to IBM, which earned $54 billion in services last year.

HP services focus mainly on product support and the EDS acquisition could give HP the professional services revenue it would need to be considered a serious threat to IBM, Hale said. HP will also be able to use the EDS global network to expand its services presence, Hale said.

EDS has been struggling recently and HP acquisition would make a difference to both companies, Hale said. In its most recent earnings conference call, EDS talked about layoffs.

Related stories:

Sky raises EDS legal costs to £21m