Once is happenstance, twice is coincidence and three times is a certainty,” goes the saying.
There have been three large deals in mid-tier information technology (IT) services space in the past seven months and at least some analysts are certain it is a sign of consolidation.
Analysts at Emkay Global Financial Services Ltd wrote in a recent note to clients, “(These deals) certainly confirm there is an ongoing consolidation in the offshore IT services space as companies grapple with the challenge to build scale and depth in (their) focus verticals/geographies in an evolving demand environment.”
In end-April, Cap Gemini SA bought iGate Corp. for around $4 billion to increase its offshoring scale and capabilities, as well as grow in the US market.
Last month, Apax Partners bought a 23.3% stake in Zensar Technologies Ltd from Electra Partners, with the former being enthused about the company’s growing digital capabilities.
Earlier this month, Virtusa Corp. said it will buy a stake of up to 75% in Polaris Financial Technology Ltd to gain scale in banking and financial services. This spurt in deal activity comes about 18-24 months after Baring Asia Private Equity Fund bought a majority stake in Hexaware Technologies Ltd.
Should investors expect deal activity in the mid-cap space to remain high and expect exits at reasonably high valuations?
Cap Gemini, for instance, paid a rich valuation of over 17 times earnings before interest, taxes, depreciation and amortization. Polaris’ investors, too, exited at handsome valuations.
Be that as it may, making investments based on such expectations are fraught with risks. For instance, some years ago, a number of investors at Mphasis Ltd had anticipated a buyout by parent company Hewlett Packard Co. (H-P). It hasn’t materialized. On the contrary, the company’s shares have underperformed peers, as business from H-P has continued to decline.
In any case, even if more mid-cap IT companies end up getting acquired, valuations will largely depend on what the target company brings to the table.
As such, there’s no substitute for backing fundamentally sound firms, and those that are making progress on digital capabilities, where client spend is growing disproportionately.