INSIGHT-How a desperate HP suspended disbelief for Autonomy deal

Poornima Gupta and Nadia Damouni and Paul Sandle
Reuters Middle East

* Apotheker was in a hurry to make a transformative deal

* Approached at least 3 other companies over deals-source

* HP ignored warning signs as it did due diligence-sources

* Autonomy founder rejects HP accounting fraud allegations


Apotheker, the former Hewlett-Packard CEO, a July 2011

meeting with Autonomy founder Mike Lynch at a chic seaside

resort in France was pivotal to his effort to remake a storied

technology giant.

In the nine months since taking the helm at HP, Apotheker

had tried furiously to find a way to move the lumbering company

away from its low-margin computer hardware business and into the

lucrative corporate software and services arena. Apotheker was

looking for a big, transformative acquisition, two people

familiar with the situation said, and after overtures to several

companies went nowhere, he set his sights on Autonomy.

After two months of negotiations on what was known at HP as

"Project Tesla," Apotheker sat down with Lynch at a hotel in

Deauville on the Normandy coast - and shook hands on what would

become an $11.1 billion deal.

The Autonomy takeover was indeed a bombshell - but not in

the way that Apotheker had hoped. When it was announced in

August 2011, HP's stock plummeted amid withering criticism of

the price tag. Within weeks, Apotheker was out of a job. Within

months, Lynch and his new masters at HP were at war.

Inside a year, Lynch had been forced out and HP was

investigating allegations of major accounting irregularities at

Autonomy. That culminated in HP saying last week it was writing

off more than three-quarters of the value of Autonomy, and

telling U.S. and UK regulators about alleged accounting fraud.

The implosion of the Autonomy deal has raised questions

about how HP and its army of lawyers, accountants and investment

bankers could have overlooked warning signs and gone ahead with

the acquisition.

Reuters spoke with close to a dozen people directly

connected with the deal or the accounting investigation. The

picture that emerges is of a company so desperate to plot a new

course that it may have been far too accepting of Autonomy's

published and audited accounts.

It has also cast a shadow over Lynch, widely regarded as a

brilliant but difficult executive; he left HP in May and has

flatly rejected the company's claims of accounting shenanigans

or that HP had been deliberately deceived.


Apotheker's appointment as CEO of HP in November 2010 was

greeted even at the time with head-scratching - and criticism. A

veteran of the German corporate software maker SAP, he

had no obvious qualifications to run HP - a company with sales

several times SAP's - especially given his lack of experience in

the computer hardware business.

But the U.S. company was reeling from a series of boardroom

imbroglios that culminated in the firing of then-CEO Mark Hurd

in a sexual harassment scandal in August 2010.

Apotheker went on the acquisition trail almost immediately,

even though previous HP takeovers like Compaq and Palm had not

worked out well. He was given the mandate of moving HP in a new

direction - software seemed logical given the decline in HP's

traditional computer business - and felt the need for a

transformative acquisition to do that, according to one of the


He "knocked on a number of doors," according to another of

the sources, looking as far and wide as the telecom software

companies Comverse Technology and Amdocs , and

corporate software maker Tibco Software.

It's not clear how far talks with those three progressed.

According to one of the sources, HP backed off from Comverse

because the company was not current with its published accounts

and because of previously disclosed involvement in an options

accounting scandal. HP could not agree on a price with Tibco,

and Amdocs rebuffed it, saying the time wasn't right for a deal.

Spokespeople for Amdocs and Comverse declined to comment.

Tibco did not respond to requests for comment.

Apotheker then set his sights on Autonomy. It was a pioneer

in the up-and-coming field of "big data" - software that can

separate the wheat from the chaff in huge mountains of corporate

data - and could serve as a centerpiece for the new strategy.

This time, Apotheker was determined not to miss out.

He was "not being able to really have anybody dance with him

at the right price," said the source with direct knowledge of

the deal. "What happened is he talked to Autonomy and they got

into a dialogue and he told the board that we have to do

something," this person said. "It was out of frustration and

desperation to a large degree."

HP began looking at Autonomy in earnest around May last

year, bringing in investment bank Barclays as adviser. Boutique

investment bank Perella Weinberg Partners had already been hired

to look at ways of restructuring HP's businesses.

In early July of 2011 the board met to do a two-day review

of the rationale behind the acquisition. During that process,

the board set guidelines for the deal, including the price, and

agreed on a process to do due diligence, two people familiar

with the process said. It voted to enter into negotiations at

the end of the two days.


Throughout the process, Apotheker remained in direct contact

and consulted with HP Chairman Ray Lane, the person said, adding

that Lane - a former top executive at software giant Oracle

- encouraged management to proceed with the deal.

By the end of July, Apotheker and Lynch - who were

previously acquainted because HP was an Autonomy customer -

narrowed down financial terms at the hotel in Deauville, though

didn't finalize the price.

Also present was then HP chief strategy officer Shane

Robison, who has been credited by HP with being the main

architect of many of HP's larger deals, including another

troubled acquisition - its purchase of technology services firm

EDS. Robison was pushed out of HP shortly after Apotheker left

last year.

At the meeting, Apotheker presented HP's view about putting

the companies together - with Robison chipping in when needed,

one source said. Robison, who has not spoken publicly about

Autonomy's accounting issues, did not respond to requests for

comment sent to representatives at Fusion-io and Altera Corp,

companies where he is a board member.

For some weeks, both sides went back and forth on the

price, with Robison playing a pivotal role in pitching the deal

internally, and getting it finalized. Inside HP, it was seen as

Apotheker's and Robison's deal, the sources said.

In the end, uber-dealmaker Frank Quattrone, whose Qatalyst

Partners was representing Autonomy, proved instrumental in

securing for its shareholders the lofty price tag, according to

another source familiar with the negotiations.

While the price haggling was going on, a large due diligence

team numbering in the hundreds, including internal HP staff from

all relevant departments like finance, poured over Autonomy's

books, examined contracts, and interviewed Autonomy's top

executives, sources said. External experts involved in the

process included accounting firm KPMG, law firms and bankers.

Due diligence was seen being straightforward as Autonomy had

been filing its accounts publicly and they had been audited. One

source said the month-long process was extensive and meticulous

but nothing special.


During this time, HP posed a litany of questions to Lynch

and Autonomy Chief Financial Officer Sushovan Hussain about

accounting rumors surrounding the company, one of the sources

knowledgeable with the deal said. But Autonomy executives

provided explanations for all of them, this person said.

HP would not elaborate on the specific issues it raised. But

questions about Autonomy's books had surfaced as early as 2009,

when renowned short seller Jim Chanos identified Autonomy's

shares as a shorting opportunity based on concerns such as how

reported margins of around 50 percent did not seem to translate

proportionately into cash flow.

His other concern was how it could report double-digit

growth in software license revenue while rivals battled

shrinking sales, according to a source familiar with his views.

Asked on CNBC last week about whether the board had

discussed with Apotheker the speculation about Autonomy's books,

HP's current CEO Meg Whitman said: "Not when I was on the board.

What I do know is that after we announced the acquisition there

were a number of blogs that came to the fore about potential

issues at Autonomy. The former management team ran that to

ground and came up with the conclusion that there was nothing


HP officials now say they were deceived.

Apotheker said last week he was "stunned and disappointed"

to learn of Autonomy's alleged accounting issues. He declined to

be interviewed for this story through a spokesperson.

As the deal was being considered, HP CFO Cathie Lesjak did

raise questions about HP's ability to pay such a high price and

whether it could integrate Autonomy well, sources said.

Lane said the board approved the deal based on the

recommendation of management. "That recommendation was based on

misleading audited financial statements and misrepresentations

made by Autonomy's executives," he said in an email. "In

hindsight, we shouldn't have done the Autonomy deal at such a

high price. We were lied to and as a result, we got it wrong."

By the time the deal was agreed, though, Apotheker was

already running out of time. He had wanted to sell HP's personal

computer business but was unable to complete a deal. He

announced a strategic review of the division - to the horror of

many employees and the consternation of some of its customers.

That misstep, along with series of missed financial

targets, led to Apotheker's firing in September 2011 - before

the Autonomy deal had even closed. Board member Whitman - who

had voted in favor of buying Autonomy - then took over as CEO.

The acquisition still went ahead - and quickly went south.


The clash between HP's polite, slow-moving bureaucracy and

Autonomy's in-your-face sales culture could not have been

starker. Lynch also chafed at his new, subordinate position,

according to the sources. He routinely shut HP management out of

key decisions and - true to his company's name - resisted full

integration with HP. He complained constantly about red tape.

After he was forced out in May of this year, Lynch returned

to HP in June to discuss severance. But he found himself on the

receiving end of a barrage of questions about Autonomy's

accounting, sources briefed on the investigation told Reuters.

HP General Counsel John Schultz quizzed Lynch specifically

on a range of accounting items, including at least three sales

deals from a couple of years before, one of the sources said.

Lynch's reply to most questions was that Deloitte, its auditor,

signed off on various items, or he could not remember specifics.

"If there were no problems, he could have explained it," one

of the sources said. "He simply refused to have the


But Lynch was caught unaware: Hence he did not have

information about those deals at hand, said a source familiar

with his version of events. Lynch's spokeswoman said that the

allegations HP made last week "were not put to him in June."

The legal struggle has only just begun. HP has handed

documents over to the U.S. Securities and Exchange Commission

and the UK Serious Fraud Office, and the U.S. Department of

Justice is also involved, a source told Reuters last week.

HP also on Tuesday threatened legal action against parties

involved, though stopped short of naming targets. HP has

challenged Lynch to answer questions under penalty of perjury.

"He ran this company like a small private company, he was

involved in all facets of the company, he was extremely hands

on," said a source close to the matter who knew the former

Autonomy CEO. "For Lynch not to know about this, if it is truly

happening, would be far-fetched."

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