Q4 2011 - IT Services M&A Update and 2012 Outlook

There were just under 600 M&A transactions in the IT Services sector announced for 2011, up from 443 in 2010.  Q4 2011 noted 148 transactions announced, slightly down from 161 the previous quarter.

Consulting deal volume jumped 38% in 2011, with median deal size more than doubling to $59.7 million. The median revenue multiple for the period fell, however, weighed down by a number of deals during Q1, including as CSK Corporation’s acquisition by Sumitomo (0.3x) and RWD Technologies’ acquisition by GP Strategies (0.4x). The subsector’s largest transactions included Charterhouse Capital’s $950 million investment for 65% of Environmental Resources Management at 2.0x revenue, as well as Genpact’s $550 million acquisition of Headstrong for 2.5x revenue.

Systems integration deals rose year-over-year, but median deal size dipped to a low of $10.2 million. The median revenue multiple stayed flat at 0.8x and the median EBITDA multiple slipped to 7.4x, although there were few data points for comparison. The majority of deals in this subsector are valued well below $100 million, a sign that consolidation of smaller innovators by larger players continues to dominate. The largest systems integration deals of the year included the acquisition of Value Team S.p.A by NTT Data Corporation for $364.5 million, as well as Ness Technologies’ acquisition by Citi Venture Capital for $341.8 million.  Stefanini IT Group (Brazil) acquired U.S. based Code X, Inc. (CXI) in Q1 2011 for an undisclosed amount. Generation Equity Advisors advised on this transaction.

The number of deals in the offshore outsourcing sector ticked up 37% year-over-year, the median deal size of $93.5 million exploded for the second year in a row, boosted by the $1.2 billion investment in Patni Computer by iGATE. Even excluding the Patni transaction, median deal size grew to $50 million in 2011 versus $20 million in 2010.

Government services is the only sub-sector that reported lower deal volume. Announced deals slipped 28% while median deal size fell 49%. These declines reflect increased scrutiny of spending and overall uncertainty surrounding the federal budget. Multiples remained relatively unchanged, however, and the median revenue multiple ticked slightly higher in 2011 to 1.3x while the median EBITDA multiple of 12.1x in 2011 was boosted by deals including Paradigm’s acquisition by CACI International for $61 million and 29.5x EBITDA, Ares Management’s acquisition of GTEC for nearly $315 million and 16.4x EBITDA, SRA International’s sale to Cerberus Capital for 12.1x, and High Performance Technologies sale to Dynamics Research for 12.0x EBITDA.

IT staffing deal activity decreased slightly in 2011, but median deal size grew more than 93% year-over-year, to $89.0 million. The IT staffing sectors median revenue multiple for 2011 was flat at 0.3x and its median EBITDA multiple was higher at 9.5x.  The largest transaction in the subsector was SFN Group’s acquisition by Randstad Holdings for $760 million. Other interesting deals in the space included the acquisition of Staffmark by Recruit in October for $295 million; Staffmark was one of the few IT staffing firms to have filed for an IPO (estimated $125 million) earlier in 2011.

2012 M&A Outlook

We expect M&A activity to remain steady for 2012 and possibly uptick further if the lending environment eases globally.  While Europe is in economic turmoil, the U.S. is stabilizing.  Emerging markets such as Brazil, Argentina and China are all on the upswing and in growth mode.  We expect some financial buyers (private equity) to remain on the sidelines while strategic buyers (companies) will acquire to capture growth.

Buyout firms accounted for around 16 percent of company takeovers in 2011.

As for IT Services firms, large acquirers have strong balance sheets and the ability to make both sizable and small, tuck-in acquisitions to complement organic growth. More diversified services firms will continue to support higher public market valuations (e.g. Accenture, CGI, IBM) which should drive aggressive M&A strategies in 2012.

Volatile equity markets slowed mounting U.S. M&A deal activity in the third and fourth quarters, following growing deal momentum in the first two quarters of 2011.  In light of concerns over Europe and a pullback in financing, U.S. merger and acquisition activity in the second half of 2011 was driven by well-prepared dealmakers focused on executing acquisitive growth strategies and availability of businesses with strong fundamentals– a key trend expected to continue into 2012, according to PwC's Year-End U.S. M&A Outlook.

Sellers now are looking for both speed and certainty in a deal, and also pursuing various alternative options and scenarios as they proceed as a way of maximizing the asset’s value. With sellers in the driver's seat, buyers must remain poised and ready when deal negotiations continue for a prolonged timeframe. Overall, the M&A markets are on track to stabilize further and increase overall over the next few years.

Epam Systems Inc, an IT services provider with operations in Russia, is aiming to move ahead with its planned U.S. initial public offering in the first quarter of 2011, according to Reuters.

Epam filed with U.S. regulators in June to raise up to $100 million in an initial public offering of its common stock. The company did not reveal how many shares it planned to sell or their expected price, but said at the time it would use the proceeds for acquisitions and general corporate purposes.

Both Glasshouse Technologies and Fusionstorm cancelled their IPO’s for 2012.

For the full report, you can download (free) at: www.techmediamergers.com

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