Technology Sector M&A improving

The technology sector has weathered the financial crisis better than most. Although M&A activity was significantly down in 2009 with global deal volume and value falling by 48% and 60% respectively, 2010 has seen a strong start.

The global recovery is being driven by large deals from the US, however in the UK with private equity making a comeback and corporates looking to deliver bottom line returns and growth from acquisitions, PWC expect transactions in the mid-market technology sector to perform well over the next year.

The UK FTSE Software and Computer Services (SCS) Index ended 2009 up by 64% compared with rises in the FTSE 100 and NASDAQ of 22% and 44% respectively. This is now the strongest yearly performance for the technology sector since the dotcom boom.

It appears that we are now in a test period for M&A, where more quality assets are coming to market than have been seen in 18 months. Successful completions will not only depend on a continued improvement in financing liquidity and confidence, but also on an alignment in value perception and price expectations between vendors and acquirers.

Technology businesses have managed to maintain profits throughout the difficult period, but achieving bottom line growth has not been so easy. As such, acquisitions are likely to be an integral part of most corporate growth strategies.

So which sectors are likely to see strong merger and acquisition activity in the next 12 months?

Financial technology gets back on track
The economic crisis has caused problems for FinTech vendors. However, a number of positive market drivers have since spurred recovery within the sector, including the significant increase in financial regulation with a need for heightened compliance and risk management solutions, and the volume of financial data being processed.

The focus by institutions on reducing costs and improving efficiency, which can be achieved, in part, by expanding and upgrading IT systems, has benefited financial technology providers.

Software-as-a-Service (SaaS) moves into the mainstream
Whether hosted in the cloud or managed within a customer's IT infrastructure, the SaaS model is gaining significant momentum as organisations see the benefits of moving large-scale software expenses from capital budget to operating budget. It is still relatively early days in the SaaS evolution, but it is certainly driving increased M&A activity and premium valuations. The number of genuine SaaS delivery models with any scale remain limited. Those that have started to gain critical mass are increasingly attractive targets. K3, which provides enterprise resource planning solutions to the supply chain industry, announced in March that it has agreed terms to acquire the entire issued share capital of DigiMIS Limited, the provider of cloud computing services, for an initial consideration of £0.803m, payable in a mix of cash, loan notes and shares. Further consideration of up to £1.325m is to be paid through an earn-out arrangement linked to DigiMIS's performance in the two years to March 2012. Net assets of the business were recorded as being only £180,000 at Companies House.

Consolidation and the battle for market share is becoming more commonplace in the sector: Hardware players are making an increasingly aggressive push into services and HP are making an aggressive play into the market dominated by Cisco. Whilst we can expect some more strategic moves from the larger corporates, this will undoubtedly have an impact across the market.

Mobile access to the internet is continuing to grow in importance both from a consumer and corporate perspective. From a corporate and public sector end-user point of view, successfully enabling mobile workers can deliver significant and much needed operational efficiencies, so further M&A activity will result as providers look to meet this demand.

Healthcare Software and IT Services (SITS)
M&A has remained buoyant and this looks like it will continue with good opportunities for consolidation across health and social care solutions. Healthcare IT is drawing attention following the review of public sector spending in the UK. Although the government has said it will cancel some IT projects, it is likely that there will be increased spending in IT services in healthcare as these projects are seen as making long-term savings.

Security Solutions
Security solutions and the encrypted transmission of data are of increasing importance following high profile data leaks and the sheer volume of sensitive data.
The most high profile acquisition has been the McAfee purchase of MX Logic in a deal worth over £100 million. The move sees McAfee's entrance into the SaaS-based messaging security market. SaaS provides the perfect mechanism for the delivery of security software with a number of vendors now providing a fully hosted, highly scalable online platform.

Software and IT services (SITS) businesses are an attractive proposition
SITS companies have expanded rapidly over the past three years. The ability to drive tangible cost synergies, and the attraction of ongoing maintenance and support revenues makes the acquisition of a SITS business an attractive proposition.

Ongoing revenues from an acquisition is the main driving force in many deals at the moment, as investors are nervous about the need to constantly win business to maintain income. A recent software and IT deals was Advanced Computer Software acquisition of Surrey-based software firm Cerrus Ltd for £0.37m in cash. The deal included Cerrus' Saturn software suite, which is designed for community care and support management services.

Last year, global deal values and volumes were driven largely by intra-regional transactions in the US and Asia. However in the UK, private equity showed it could still pull off some very large deals with the €1.9 billion public-to-private leveraged buyout of the UK set-top box software-maker NDS Group by Permira, in conjunction with News Corporation.

Despite the favourable exchange rate for US to UK deals last year, US bidders secured relatively few UK targets, the largest being the €267 million acquisition of the social gaming company Playfish by Electronic Arts and the €140 million acquisition of the hardware distributor Abacus Group by Avnet. During 2010, the exchange rate has been even more favourable but US technology businesses have not been successful in making any major acquisitions so far this year.

In conclusion, the M&A market in the technology sector is improving as liquidity returns to the market. Vendors are gradually realising that valuations are unlikely to return to the very high levels seen at the height of the M&A cycle in 2007. Private equity and strategic buyers have become increasingly aware of this and are waiting for the right opportunity to strike as sellers become more realistic. Private equity firms will be looking for exits particularly in the second half of 2010, as they look to generate returns for their investing partners and raise further funds.

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