Would a Hikvision / Pelco Deal Make Sense?

Author: John Honovich, Published on Feb 05, 2013

A persistent industry rumor says Hikvision and Pelco are in talks to do a merger / acquisition. Who knows the truth. Even if there are some talks, that does not mean anything will come of it.

In this note, we examine if it would make sense. It might happen, it might not but if it did, would it be a good deal and for whom?

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Comments (12)

No, this deal wouldn't make any sense. Hikvision had a strong engineering culture in its early days, but due to its tremendous growth in the past 5 years, much of the original core engineering team has moved on to senior management duties. Much of the engineering staff are young (a couple of years out of college) and inexperienced. This has turned the company into big management mess with too many products with poor quality with little or no competitive advantages.

The lower cost of production used to be a competitive advantage for Hikvision, but those days are long gone. The real cost of doing business in US is sales and marketing, and Hikvision is slowly learning that lesson as well. Since Pelco source much of their product from Korea and the rest of Asia already, the merger will create no real cost savings for the combined entity. If Hikvision believes they any advantages in products then they are seriously delusional. What you will end up having is a company that has serious management problems in product design and planning marrying a company that saw its sales momentum and reputation going down in the past few years. Nevermind the cultural rifts that is sure to follow.

I wonder which investment banker is having fun at this exercise.

I am sure the bankers are licking their chops at this one - "The synergies are just fantastic! A must do deal" :)

I suspect the talks will fall apart during due dilligence, review of financials and structure, especially if it involves any stock Hikvision. (There is too much ambiguity about financial reporting on companies listed on the Shenzhen exchange.) Without knowing Pelco's growth rate, a multiple is hard to obtain; however, if the Pelco brand has 20% YoY, predicatble growth, the sale should be at a ghier multiple, but then you would ask with Schneider would give up Pelco. And if the "Undisclosed Manufacturer" is correct about their products, then the acquistion by Hikvission along with a better product management cutlre from Pelco seems to make some sense.

If talks are taking place, I supect either:

1) Hikvision is probably trying to gather product and services roadmaps, and business operations to help deveop their global strategy.

2) Hikvision is concerned about ustainable growth in China and may be willing to pay a steep premium for instant international presnece and subsequent growth.

Without much analysis and due diligence, just my uneducated two cents.

I doubt this will be a stock deal even though using Hikvision's stock is attractive; due to the complex ownership structure of Hikvision. It is still majority controlled by a so-call research institute (think Chinese military). Besides, Hikvision has enough cash and future cash flow to make this an all cash deal.

The motivation on Hikvision's part is clear. They are accustomed to grow at a high double digit if not triple digit growth rate, their experience in US thus far has been disappointing if not embarrassing based on the investments they have made thus far. They know they have a cultural gap in terms of product planning and roll out. To solve this problem, they have been looking at smaller US based manufacturers to acquire so to help them establish a product development team that is more suited for the US market place.

Certainly the Hikvision board doesn't have the patience to wait for another decade for the Hikvision name to be accepted in the US. Lastly, due to recent transition in the Chinese central government, some of the high profile "Safe City" deals might be facing some trouble. I am talking about the $800M Chongqing deal. The former governor of Chongqing who gave the blessing for this deal is sitting in jail awaiting trail for corruption and potentially murder (his wife was convicted of murder). Should the Chongqing deal gets shelved, Hikvision stock will get hammered and the management will have less leeway to do any major deals in the foreseeable future.

The senior management at Hikvision has made no bones about building Hikvision into a $10-20B revenue company in the next decade. In an increasing saturated marketplace that is China, it will be a tall order simply based on organic growth.

It was only just a few years ago that the Pelco name is revered in China, with some security companies cloning the Pelco name in their own corporate identity. So yeah, bagging Pelco will go a long way towards boosting egos in China.

Chris, no way that Pelco has anywhere close to 20% YoY growth. I'd bet it's closer to 0 overall as they trade analog sales for digital ones and try to fight off incursions for newer entrants (from Axis to Arecont, Avigilon, Exacq, Milestone, etc.).

I think Schnieder would be nuts to take anything but all cash but who knows? :)

Btw, good point about Chongqing. I didn't put Bo Xilai, Chongging and this deal together.

It would be similar to Lenovo purchasing IBM's consumer PC business (Thinkpad). Look where Lenovo is now, well known in the US, and one of the top companies growing every year despite the slowdown.

That's a good analogy for a happy ending. I don't know enough about Lenovo/IBM to comment on the comparison.

Look at it this way - what Pelco problem would Hikvision help solve? The big issues I see are that their core cameras and recorders lag newer entrant rivals. Would Hikvision solve that? It wouldn't seem so given Hikvision has similar product deficiencies.

Listen, if Hikvision has so much cash, just buy Axis :)

Hikvision will have some more dough soon. Hik is making a strong move towards the low end OEM business as a separate division that will not try not to mix with their current distribution channels. Offering low end IP kits in the 1MP and 3MP range for their budget 4ch and 8ch dvr models. These systems are only being offered to OEM low budget partners as they seem to want to expand their market with that customer base. This is a quick way to pad your numbers with high volume kits at bottom rock prices.

Frankie, good feedback, thanks! That's going to be a lot of kits to get to the next billion :(

LOL @John. You would be surprised at how quickly these systems move and the bulk quantity in which they ship. Not all money is made on the big ticket items. I think McDonalds does pretty good with their 59 cent cheesburgers :)

I have been surprised. For instance, when Lorex got acquired, they disclosed that they sell 500,000+ cameras per year, which is kind of amazing. On the other hand, those 500,000 cameras only resulted in $75 million in revenue. At that pace, Hikvision is going to need to sell millions of those kits to make a dent in its overall revenue.

I don't doubt Hikvision can compete here. Dahua is already showing a huge latent demand for low cost IP kits. I am just saying, when you already do $1.2 billion in revenue based off mega deals, meaningfully increasing that with hundred dollar kits is going to be hard work :)

Lorex is good example but they also catered to the retail market. I believe HIK is trying to approach the OEM distribution channels within the industry. This should leave the markup on their products considerably higher than going direct to retail chains as Lorex did. Their numbers should also be higher because of their global distribution capabilities especially in the South/Central American market. I may be wrong and time will tell. One aspect to this approach, is the possibility to increase revenue by introducing your brand to companies that currently do not use them and instead use other mid to higher end products from other brands. The problem will be when companies that are purchasing your lower end OEM products now begin to ask for your higher end products that HIK currently sells through another channel. What do you do then? Sell to them or refer them to you current channel partner? I do agree that this may be a small pile of cash in comparison but boy wouldn't we all take that little stack:0

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