September Update from the IT M&A Frontlines
BY CRISTIAN ANASTASIU
Many IT Services and generally IT firms have been only somewhat impacted by the recent crisis, especially when compared to other industries or to the IT industry in previous recessions, like the Dotcom bust of 2001 or the financial crisis of 2008. This time, IT has played an important role helping businesses and individuals adapt to the new normal.
A vast majority of the lower middle market IT companies, many with PPP help, have a particularly good year and some business owners are talking about a record year.
It is good to see, in retrospect, that many of the optimistic predictions made in April this year came through.
Regarding Mergers & Acquisitions, the fundamentals did not change:
· There continues to be a lot of Private Equity dry powder on the sidelines waiting to be put to work
· The need for strategic buyers to grow and diversify through acquisitions both with services offerings and geographically is more compelling now than it was in January
· Customers and vendors prefer to deal with few, end to end solutions providers that can better address complexity and weather a crisis
· Many owners, in particular baby boomers, are or will soon be ready to exit, knowing that they survived this crisis OK but unsure what another crisis would mean to their companies’ valuation.
While overall the number of transactions has been lower in the last 6 months, all indications are that valuations have remained high. Most IT companies have performed well, and owners see no reason to offer a discount. Those who had declined revenues or profitability expect a rebound in the short to mid-term and see no reason to rush and sell now.
By and large transactions that closed in recent months are highly strategic. We closed two successful transactions in July, and recently larger Systems Integrators like AHEAD, ConvergeOne and CORE BTS, to name a few, have announced acquisitions. Almost daily we are seeing MSP related deals close.
In addition to the need for diversification and to add recurring services revenue, a few other trends will impact IT M&A in terms of valuation and number of completed transactions:
· Cybersecurity and to some extent Microsoft technologies are in high demand and companies in this space continue to have historically high valuations
· Paradoxically, the migration to the cloud is slowing down or the growth is more nuanced. The old battle between the centralized – decentralized approach is starting to tilt more towards decentralization, as IT departments see the need to have more control
· As a result, more complex, hybrid cloud environments will emerge that will require more AppDev capabilities. This will lead to channel companies making acquisitions in this space to fill in a skill they have not had historically.
· While not all hardware and software manufacturers have announced lower revenues, Cisco’s recent decline will impact some of its partners who are dependent on product resale.
Other recent surveys and announcements paint an optimistic image of what to expect in IT Services M&A in the next 6 – 12 months.
· We are seeing an increased number of tech companies prepare and announce their IPO, including Palantir, Asana, Unity, Snowflake, Sumo Logic, JFrog, etc.
· A very recent Baker Tilly M&A survey conducted among corporate and PE dealmakers, shows that 48% of those surveyed say the level of private equity activity will increase over the next 12 months.
While it only covers a slice of the market (PE backed deals across all industries), GF Data’s report is consistent with our experience working the market and talking with a relatively large number of advisors and business owners in the IT Services segment: fewer deals, but steady valuations. Also, the total debt ratio used in transactions dropped from prior periods.
Depending on the impact the crisis had on your business and your market, the ideal buyer – or seller, or transaction structure could be different from what you thought just a few months ago. Each situation is unique, and one size fits all strategies and advice will not work. If you were planning an M&A event in the next 6 to 18 months you should revisit your plans – it might make sense to delay or accelerate them.
When preparing an exit and setting a goal, is it: a) to fetch a certain dollar amount when selling or b) to sell at a certain point in time? Oftentimes, especially if valuation expectations are not realistic, both goals cannot be achieved concurrently, so a choice must be made. Factors to consider when updating the plan are the 12 – 18 months forecast, growth rates, drop in profitability and path to recovery, revenue mix, potential cross selling opportunities, etc.
Without a doubt, the ongoing pandemic and the upcoming elections add to the uncertainty and contribute to a slow-down in IT M&A, but we do not expect deals in the IT lower middle market, especially transactions below $15 – 20 million, to be negatively impacted for too long.
Read the LinkedIn Post Here: SEPTEMBER UPDATE FROM THE IT M&A FRONTLINES