Equinix / Telecity: clear connection

Who put the "inter" in internet? It is not a rhetorical question. Interconnection companies operate the data centres that connect one network to another (say, Comcast to Verizon). This allows the seamless exchange of data across the interwebs, to use a non-technical term. Interconnection is hot right now: companies are growing fast and commanding rich valuations and the sector is undergoing a fiercely competitive round of consolidation.

Equinix, one of the biggest global interconnection companies, has now jumped in the ring by bidding £11.45 per share for Telecity, a UK-based rival. Equinix is already bigger (in terms of sales) and faster-growing than Telecity, but its bid could break up Telecity's planned merger with a third company, Interxion, which would have created a formidable European rival. Equinix's previous acquisitions have been advantageous, such as its 2009 purchase of Switch and Data, which helped expand its data centre footprint overnight. Still, Equinix shareholders seem underwhelmed by its Telecity play. It is expensive, valuing the smaller rival at $4bn, or 14 times this year's expected earnings before interest, tax, depreciation and amortisation. But the deal would be accretive to shareholders of Equinix in 2016, even if there were no cost savings, according to Evercore.

The board of Telecity has two options: accept the deal, or reject it and proceed with the Interxion merger. The Equinix offer is 55 per cent cash so it offers the certainty of immediate reward and upside if the acquisition is a success. If the board goes with option two, acquiring Interxion in an all-stock deal, the value creation occurs further in the future. Oppenheimer calculates that Telecity-Interxion would be valued at $6bn and trade at 11.5 times 2015 earnings; whereas Telecity-Equinix would be worth $23bn, nearly 15 times earnings. The latter seems a safer bet for Telecity. As consolidation makes these companies even more interconnected, bigger may be better.

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