In the latest installment of this series, Continuum Managed Services chief Michael George discusses several industry trends and market pressures that will likely lead to significant M&A activity in the IT channel during 2017 and beyond.
The managed IT services market is arguably undergoing its most dramatic changes since its inception nearly 20 years ago.
The need for businesses across all industries to be digitally connected—particularly in the SMB market—is rapidly increasing, and the onset of cloud computing, a widening skills gap in the IT labor force and unrelenting cybersecurity threats are forcing service providers to re-examine their core competencies and find new means of optimizing service delivery and scaling profitably.
This article is the third in a series that explores how these new market dynamics are impacting managed services providers (MSPs) and IT solution providers (ITSPs).
In this installment, we explore several industry trends and market pressures that will likely lead to significant merger and acquisition (M&A) activity in the IT channel in 2017 and beyond.
This will be remembered as the year of acquisition in the managed services market. There are a number of market dynamics to support this idea: more than $6 billion of institutional capital was invested in the last two years, a growing number of well-funded roll-ups, corporations and office equipment dealers are acquiring their way into the managed IT services category, and pure-play MSPs are increasingly looking to acquire (or be acquired by) other providers to increase the scope and scale of their operations.
What’s more, cloud computing and “as-a-service” offerings are creating convergence between traditionally-disparate technologies, systems and vendors. Providers today are trying to own as much of the network and technology infrastructure as they possibly can, and many are buying their way towards that through targeted M&A activity.
These dynamics create tremendous opportunity for MSPs who possess certain sets of characteristics, and a great challenge for those who don’t. To better-understand this trend, we can look to both consumer and enterprise markets where similar progressions have already taken place.
Technology Consumerization & Consolidation
Remember the TomTom GPS? Or the first MP3 players? How about the PalmPilot PDA? These products were each revolutionary in their own right—the GPS put navigation technology into our cars and eliminated the need to rely on traditional maps or printed directions from providers like MapQuest, the MP3 player made music more portable than ever before, and the PDA brought data and information directly to our fingertips.
While each of these devices changed the way consumers thought about portable technology, the fact remained that they were completely disconnected from one another with little to no integration. Users were forced to bounce back and forth between devices depending on what features or functionality they needed, and the fact that each had its own unique operating system, user interface and price tag only further complicated things.
Fast forward to 2007—the iPhone is born, bundling cellular technology, GPS, MP3, PDA and a number of other functions into a single pocket-sized device. While other vendors were focused on adding the latest bells and whistles to their standalone solutions, Apple changed the game by looking at what the market wanted—even if they didn’t know it—unifying the entire stack and simplifying the use of each of these technologies while leveraging integration.
Following a very similar pattern, we’ve seen significant acquisition activity in the enterprise space throughout the last several decades as large-scale hardware, software and solution providers like IBM and Oracle look to achieve at the corporate level what the iPhone accomplished for consumers.
IBM has made more than 160 acquisitions since 2000 alone, ranging from database services to cloud management, cybersecurity, big data, networking solutions, and much more—aiming to be the single vendor that enterprises can look to for virtually all of their technology and infrastructure management needs. For MSPs evaluating solution providers and vendors, be sure to seek out the acquirer—not a company that’s likely to be acquired and therefore won’t be able to control it’s own destiny.
Defining Success for the Modern MSP
In the managed IT services market, we’re beginning to see this activity take place for many of the same reasons. IT providers and service organizations are looking to support the entire stack, not just individual parts or components, and SMB customers are looking for one single vendor to provide unified billing, support and services. It’s this trend that is leading the market to such significant M&A activity, and it’s also forcing providers to re-define what success looks like in this new age of service delivery.
To put it simply, size is starting to matter in this industry—and the profile of what a successful MSP looks like is changing. To continue scaling and thriving in this new era of cloud computing, cybersecurity, Internet of Things and always-on access to data and information, a successful MSP should have the following: $5m in recurring revenue, double digit growth (ideally at 20%, net of churn) and the capacity to grow and expand outside of traditional markets and personal networks.
Achieving these benchmarks organically can be a slow and difficult process, yet without them MSPs may find it difficult to maintain the economics, personnel and operational maturity required to meet the increasingly complex needs of the SMB market. The market now demands a new breadth and depth of skills and expertise, increased efficiency and intelligence both from tools and human resources, and greater stratification of service delivery. Rather than attempt to build this entirely in-house, an acquisition can enable an MSP to rapidly gain new customers while achieving value in each of these areas to set themselves up for long-term growth and stability.
Looking at specific acquisition targets and goals, there are three key areas of expansion MSPs should look to improve when considering M&A activity:
Vertical and Geographic Expansion: At a minimum, MSPs should be focusing on one of these two growth paths—and in an ideal setting, providers will be focused on both. Specializing in niche verticals or markets with unique requirements is a great way to differentiate from other providers, and acquisition activity can enable MSPs to provide even deeper expertise and capabilities in complex markets. Geographically, the ability to expand beyond one’s local market can also dramatically increase the size of a potential customer base.
A Demonstrable Ability to Sell: MSPs today must possess a commercial capacity to sell, which requires a strong sales and marketing engine with deliberate hiring and a programmatic approach to expansion. The successful MSP should not be focused on selling technology; they should concentrate on selling comprehensive solutions and services. MSPs should also maintain a low concentration in their business—for instance, a provider is much better off as a $6m company with 50 customers each worth $10k per month, rather than having only 12 customers generating $.5m each. Acquisition activity can enable service providers to obtain this type of capacity.
A Well-Established Business Model: In short, MSPs require a two-year plan that can be followed during and after an acquisition is complete. This ensures that each business is adequately prepared for the merger activity, and that an effective plan is in place to ensure systems are integrated, resources are properly utilized and the organization is equipped to achieve desired levels of growth and profitability. Without a proper plan in place, businesses may fall victim to uneven growth, culture or ego-driven clashes or other pitfalls.
The New Era of M&A
The demand for unified, single-source providers who can offer one-stop shopping for technology support and services is greater than ever before, and the SMB market is following in the footsteps of similar activity we’ve already seen at enterprise and consumer levels. To keep pace with these changes and develop a plan for long-term growth and stability, MSPs are increasingly looking to potential merger and acquisition activity.
Whether buying or selling, it’s critical that service providers properly prepare for an acquisition. There are a number of exercises and research that must be completed during this process—including each MSPs’ defining of their brand and value proposition, preparation for integration of systems, people and lines of business, and research and due diligence to ensure both organizations are financially and operationally prepared for the acquisition.
When done correctly, the growth potential and opportunity associated with these deals can be significant—and as technology convergence and consolidation become even more prevalent in the MSP & SMB markets, we can expect to see continued increases in M&A activity in the coming years.
Michael George is CEO of Continuum Managed Services.