Another view on IT services buyouts
I wrote today about the buyout boom in the IT services sector. link. Investment banker Ken Marlin, the founder of tech and media-oriented advisor Marlin & Associates, offered a long and thoughtful analysis that frames the issues in a cogent way. I am sharing his email in full:
"Not all service companies have become great take over candidates. Mostly it’s the ones that have become “technology enabled” - those that leverage technology to fuel growth and not just people - especially those that have crackled the code of “recurring revenue”.
"A few years ago, when economists talked about “service companies” they were mostly talking about restaurants or auto repair facilities or lawyers, or accountants. These firms have at least two common attributes: one is that they are somewhat people-intensive. That is, in order for them to double revenue, they must come close to doubling the number of people involved in delivering the service. A second attribute is that they rely on “one-off” sales. Each time they provide a service, the client has to make a new purchase decision.
"In recent years, we have seen the rise of technology-based service companies. These include companies that sell on-line information (think AOL, Yahoo and Google) or who sell software-as-a-service (SAS) – which is a field rapidly being embraced by virtually all software vendors. That includes traditional licenese and maintenance software vendors such as IBM, Oracle, SAP, and, yes, even Microsoft, as well as newer ones such as Salesforce.com. These firms sell access to their software via the web, on a subscription basis that produces recurring revenue.
"The new digital service economy operates with very different economics than more traditional service firms. To double revenue, they may have to double the amount of computer power or storage capacity--but their people costs grow at a much slower rate. And they sell recurring subscriptions, which makes their future revenues much more certain and predictable. Combine these new attributes with the fact that the cost of computer power and storage keep declining on a per-unit basis, and you have a whole new dynamic. Modern technology-enabled service firms have become cash-generating machines. That’s why they are such desirable take over candidates. That’s why banks are so willing to lend to help fund these transactions."
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