Business & Money Trail:

HNC SOFTWARE ACQUIRED BY FAIR ISAAC FOR $3/4 BILLION
by Ed Rosenfeld

The biggest payout ever for a Neural Network Company San Diego, CA-based HNC Software was acquired late last month by San Rafael, CA-based Fair, Isaac. It was the highest price ever paid for a neural network company. The transaction was in a formula that provides 0.346 Fair, Isaac shares for every HNC share. On the day the sale was announced, the 29th of April, the value of the deal was at $810 million. Fluctuations in share prices moved the value downward in the following week and thereafter by more than $100 million.

Founded in 1986, by Robert Hecht-Nielsen and Todd Guttschow, HNC Software (formerly Hecht-Nielsen Neurocomputer Corporation) was part of the early wave of neural network-based start-up companies to emerge in the mid-1980s. During the company's formative years, it pursued a number of business plans, all focusing on leveraging neural net technologies. One that met with early success was being a provider of tools for experimenting with and creating neural networking architectures.

A true turning point for HNC was when Hecht-Nielsen and his colleagues hired Robert North as the chief executive to lead the company. North had been HechtNielsen' s manager at TRW before the start-up was formed. North narrowed the company's focus, settling the pursuit of contract work for the federal government, especially in defense areas as well as a commercial push into serving the financial community. This latter was eventually focused on marketing a solution for credit card fraud.

Though HNC had the inferior product offering in the field from a technical and performance perspective, the company had superior marketing skills and far superior customer relationships. The result was the first fully successful company providing products and services based around neural nets technologies. Eventually, HNC employed over 1,000 workers (it had 1,270 at the time the merger was announced), acquired many companies using its own equity shares as currency and, in 1998, was selected as a member of the Standard & Poors smallcap 600.

The newly merged company will do business under the Fair, Isaac name and Fair, Isaac's CEO, Tom Grudnowski will continue in the title for the merged company. Two directors from HNC will join the seven other members of the Fair, Isaac board of directors. HNC stockholders will own about 35% of the merged company.

The companies see their combination as a way of combining expertise in analytics and credit scoring (FIC) and decision management technology and fraud detection (HNCS) for customer acquisition and relationship management strategies. The merged company sees its role as one where it will help companies acquire customers, build customer loyalty, reduce losses, and optimize the value of customer relationships. The merged company will serve what it sees as core markets, including financial services, retail, telecommunications, insurance, government and healthcare.

The companies issued statements that indicated that they expected to see the combination of FIC's credit scoring technologies and the fraud-detection systems of HNCS and other resources to result in $35 million reduction in costs and boost earnings some 10%, immediately. They thought the combination would be accomplished by the third quarter of 2002. Reuters reported that FIC has customers like AT&T, JP Morgan Chase, Sears and Wal-Mart. HNC customers, especially in financial services, banking and insurance, use HNC systems that: predicts patterns of human behavior from databases that track transaction histories. The Associated Press reported that HNC was in discussions with a company that installs information systems for airlines to use HNC's fraud detection technologies to develop a system useful in identifying high risk passengers.

Stephens and Solomon Smith Barney acted as financial advisors to FIC. Credit Suisse First Boston acted as financial advisor to HNC. The AP quoted Stephen analyst Brad Eichler: This is a deal that needed to be done. It's going to be a pretty potent combination. Another view came from Robert Tholemeier, an analyst at Wells Fargo who downgraded HNCS from strong buy to underperform after hearing of the merger. I expect to see trouble in 12 months from now, he said.

People from both companies as well as analysts pointed to the potential to sell HNC fraud detection and customer data modeling to the many customers that now buy credit scoring systems like Fair, Isaac's prime product, FICO scores, now a standard when it comes to measuring a customers risk to default on a mortgage loan.