How the pandemic has impacted M&A in the channel
Prior to COVID-19 outbreak the tech sector was seeing unprecedented levels of consolidation and it appeared to be a seller’s market. Eight months on, CRN investigates how M&A activity has been impacted by the pandemic and whether it is a buyer or seller’s market now.
To paraphrase Benjamin Franklin, in this world nothing can be said to be certain except death, taxes, and, it would appear, M&A in the tech industry.
Consolidation in every section of the channel has been rampant in the last number of years, but - as with everything else in the world - it came to a screeching halt at the onset of the coronavirus outbreak in March and remained quiet throughout the first lockdown.
However, the industry appears to be making up for lost time with the number of deals being agreed upon in the last couple of months, including Ricoh snapping up MTI, Proact acquiring Cetus Solutions, Computacenter reeling in Pivotal and BT Services France and former Annodata boss Andrew Harman taking a majority share in education specialist Academia.
Neel Arampatta, senior analyst at M&A watcher Megabuyte, said that there has not been any discernible change in the market pre and post-COVID breakout and that the resilience shown by IT firms through the challenges thrown up by the pandemic has likely boosted the perceived value of the sector to potential buyers.
"There's no playbook for the pandemic and so everyone was going in with very conservative estimates, but actually, the overall trading perspective for MSP has been very resilient, particularly from a cash perspective," he explained.
"And within that, you see some strong verticals, like public sector, continuing to spend money left, right and centre. That has then fuelled a very positive attitude towards M&A. Private equity (PE) was very active on M&A before the crisis and after that little break earlier in the year happened, they just jumped straight back onto the train.
"From a valuation perspective, the interesting thing is that a lot of those deals were done with similar valuations to what was agreed pre-COVID. I think there was a worry that this might be the correction in valuations that people have been waiting for but because of how resilient trading has been, valuations haven't changed fundamentally."
Andrew Harman's investment in Academia marked his return to the channel after he sold Annodata to Kyocera in 2016. He told CRN that M&A will be a central part of growing the Apple reseller to a £300m-revenue business and that the pandemic is making business owners consider either selling up or looking for outside investment to grow, citing his own experience with Academia.
"With what's happened with COVID, I think a lot more business owners are realising what's important to them going forward," he said.
"People are interested in either selling their business or maybe just realising what their ambitions are. When I was talking to the people at Academia, it was quite clear that they wanted extra investment, they wanted some support and they were happy to bring me into the business because they thought I could add value in terms of my experience."
Capital Gains Tax concerns
In early September it was reported that the government was considering tax hikes, including reforming capital gains tax so that it is paid at the same rate as income tax. Though nothing has been made official by the government, the proposition of a higher capital gains tax has instigated some companies to seek out buyers, according to tech provider Restore.
In a trading update last month, the company said that concerns about capital gains tax were a "significant factor" in the increasing number of companies approaching it to sell.
Harman has also experienced more people approaching him to sell citing the proposed hike as a reason for getting out of the business.
"Certainly in the conversations that I'm having, people are being a bit more open and honest in terms of why they're wanting to get out," he explained.
"Sometimes it can be that they just fancy a change but others are saying it's because the tax laws are going to change and they want to take advantage of the current lower rates.
"That's given us more interest and more people coming out and talking to us because we are open for business. It's got to be the right business for us and right for them, but I think the motivation of the tax rules is certainly bringing more interest."
However, Pradip Somaia, partner at M&A boutique and advisory firm Regent Assay, disagreed that capital gains tax is a motivator for selling up, saying that the reasons people are selling now are the same as before any pandemic or proposed capital gains tax reform: they want to leave the business or believe they need help in order to grow it to the next level.
"A couple of years ago they reduced the entrepreneur's relief for individual shareholders to sell their businesses and that gave everybody a shock, but quite honestly, it doesn't stop people from selling a business," he stated.
"[Do changes in] entrepreneur's relief or a capital gains tax give them a second thought? Not really, frankly. I don't think people are holding off or rushing things because of that - they'll rush things because strategically it makes sense for the company."
Buyer or seller's market?
Prior to the pandemic, it could be argued that it was a seller's market judging by the amount of consolidation at every level of the tech industry and the significant interest from PE houses.
But as nervous business owners mull over an ongoing crisis and lockdowns, as well as a potential tax hike at some point in the near future, have the tables turned in favour of buyers?
"It's difficult to say, it depends on the market," said Megabuyte's Arampatta.
"There are obviously different aspects to consider; if you are a good business, you'll probably find a buyer whether it's good times or bad times. If you've got good technical skills, you've got the right capabilities or you've got the right geography that people want, you probably won't struggle to find a buyer in this market, given what's going on with cloud and managed services and recurring revenues.
"Where it has maybe changed is for those businesses that would have maybe got away with it pre-COVID just because we were in an unprecedented time of positive trading and it seemed like everyone was doing well.
"For those businesses now, I think they are exposed more now at a time where the picture isn't so clear isn't quite so sparkling. People are definitely on the hunt but aren't just going to spend willy nilly - there's definitely a flight to quality at the moment."
Speaking as part of a panel for CRN's MSP Transform event on Friday (register here to view), Somaia and fellow panel member Mickey Patel, partner at August Equity, agreed that multiples at the moment are very much dependent on the quality of the business concerned.
"Multiples is a very interesting phenomenon," said Somaia.
"What happens is that multiples to a certain extent remain the same. Again, it depends on the quality and the attractiveness of the business and whether it's the buyer or seller that is in command of multiples coming through.
"What does differ is, as things go up and down, companies may not be generating the kind of revenues or even profitability [that they used to] or they may have revenues coming in but in order to make sure that they succeed they drop those prices and the margins may suffer. For example, if you have multiples of eight times EBITDA, if the EBITDA's actual value drops then the overall value of the firm drops.
"On that basis that the multiples have remained almost steady, you're looking at between eight to 10 times EBITDA multiples and one and a half to three times price to sales multiples. It depends, but that's an overall picture of the technology, media and telecom sector."
Arampatta, Harman and Somaia all agreed that there will still be plenty of consolidation in the channel over the coming months and years as tech firms have proven their value to interested buyers.
Remote working has also enabled deals to continue to be made throughout any further lockdowns, said Somaia, who managed to close a deal while sick in bed with the coronavirus.
"We used to see about 300 deals a month going on in Europe and I feel that that's the average that will continue," he said.
"I am quite optimistic that deals are going up and will continue to go up and go back to what the norms were."