Although the channel has witnessed a glut of mega-deals this year, one of the industry’s most aggressive consolidators has sugges-ted that the market is over-heating by threatening not to play merger and acquisition (M&A) ball.
Communications integrator Azzurri, which has gobbled up 16 firms since its inception in 2000, has hinted it may temporarily put its shopping spree on hold.
The Newbury-based firm expects to grow turnover to nearly £150m for the year to June, largely thanks to the contribution of its biggest ever acquisition – Sirocom, the virtual network operator it bought in November.
But although Azzurri is shooting for turnover of £170m next year, chief executive Martin St Quinton told CRN that rising valuations have forced the firm to shift its focus to organic growth.
“When [private equity firm] PPM Capital acquired us a year ago the plan was to make fewer but bigger acquisitions,” he explained.
“We’re in talks with firms that have £50m to £100m turnover, but the problem is acquisition prices are extremely high and we’re not going to get sucked into paying silly prices.
“We’ve traditionally bought businesses at six to eight times profits. We would rather grow organically than pay 10 to 12 times a company’s earnings, so this year we’re focusing very much on our organic growth.”
With PPM keen to secure a healthy return on its £182.5m investment, St Quinton insisted Azzurri will not stand still over the coming year if the right target does not present itself.
The integrator expects the lion’s share of growth to stem from Azzurri One, the multi-year managed communications service it launched for top-end customers in February.
Already used by more than 30 UK enterprises, the service is designed to encompass a company’s entire communications needs, from voice, mobile and LAN/WAN infrastructure to maintenance and consulting services.
Joe Doyle, head of marketing at Azzurri, said: “The feedback we got from IT directors was that they were having to fight fires, rather than dealing with the strategic advancement of their company. Customers that size have 120 vendors to manage.
“Azzurri One consolidates all that; it is one contract with one service level agreement and one helpdesk. And rather than a huge capital outlay, the customer pays over three years on a monthly basis.”
Though almost every integrator is moving deeper into managed services and from point products to end-to-end solutions, St Quinton claimed Azzurri One puts the VAR a step ahead of the competition.
“No-one else can provide this,” he claimed. “It’s really a question of persuading a customer that this is what they want and if they want it, only we can provide it.”
St Quinton added he expected Azzurri One – which he described as Azzurri’s “main route to market” – to double its customer base to 60 and revenues to £40m by this time next year.
For a man whose reputation for M&A roll-ups helped him gain the title of Ernst & Young’s Technology Entrepreneur of the Year in 2004, St Quinton’s sudden reluctance to acquire may shock many onlookers.
But Azzurri is not the only large integrator assuming a more cautious stance in the face of rising valuations.
Terry Burt, chief executive of 2e2, which bought rival Compel in March in one of the largest deals this year, said: “Valuations are at a long-term high and a lot of average companies are asking for good money because they are selling at the top of the market.
“You have to shop around as the leverage multiples are going up – in the past banks may have lent three or four times earnings and now its five, six or even s even times earnings. Azzurri is a very good acquirer and I’d hope we are too, so we’re being very selective. We were very selective with Compel and the deal suited us well.”
Paul Renucci, managing director of VAR Affiniti, said: “There are still businesses out there that are additive in capabilities. As with any shopping you have to be very careful and there are some big companies that have gone for more than their worth.”
Azzurri’s decision to take a breather has also been mooted as a sensible option by analysts.
Keith Humphreys, managing consultant at analyst house EuroLAN, said: “Azzurri’s strategy is spot on. It’s a good time to consolidate and build on what it already has.
“Its strategy of branching into managed services is exactly right and the Sirocom acquisition got it into managed services in a more strategic way. It will take a bit of re-organisation now, so it is a good time to get aligned to the new internal structure.”
However, some rivals insist that Azzurri has made a rod for its own back by paying over the odds for previous acquisitions.
The boss of one large VAR, who wished to remain anonymous, said: “Martin is now reaping what he’s sown. Companies have seen what Azzurri has paid in the past and are saying: ‘why don’t we just stick another naught on it?’
“However, Martin is right to say some valuations are a joke. The Calyx management buyout valued the firm at €104m – 12 times Earnings before Interest, Tax Depreciation and Amortisation (EBITDA).”
Although the benign debt market has played its part, the surge of private equity (PE), in the channel is arguably the main factor behind the recent hike in valuations.
St Quinton explained: “PE is driving up prices relentlessly. PE houses are raising a lot of money and have to spend it somehow.
“The other reason is our industry has become quite fashionable again, so all investors are keen to get a foothold in the market.”
Voice and data specialist Calyx, corporate reseller Kelway and Oracle specialist Quantix are just three examples of fast-growing outfits that have taken on PE backing over the past year.
“I could see the voice and data channel being dominated by private equity,” said St Quinton. “It would surprise me if both Redstone and Affiniti did not end up being owned by PE in the near future.”
However, Renucci at Affiniti hit back: “We are more public now than ever with the recent disposal of Hull City Council’s 30 per cent holding [in parent Kingston Communications]. It’s about how you run the business and how much value you create. The ownership is secondary.”
With the national debate over the impact of PE on UK business still raging, is there a danger that PE could inflict greater harm than just inflating channel valuations?
St Quinton is convinced otherwise: “We started with a blank sheet in 2000 and PE provided the funding for all our acquisitions and growth. We’ve generated a lot of employment along the way and stimulated the UK economy.
“In fact, if a government select committee wants an example of how PE creates wealth, it need look no further than the voice and data sector.”
However, speculation surfaced this spring that Azzurri was failing to deliver on ambitious growth targets set by PPM.
But St Quinton, who said revenues for the year to June will surpass PPM’s expectations, denied that PE houses are any more ruthless than public investors.
“PE is intense, but it’s not as intense as being public, when firms have to announce results each quarter,” he reasoned. “Institutional investors are a lot more brutal – if a firm misses two consecutive quarters running it may even have to sack the whole board.”
Azzurri’s turnover for its fiscal year, which finished last week, is expected to fall just short of £150m, with EBITDA earnings expected to swell from £14.8m to £16.5m on an annual comparison.
This places it squarely in a select pack of integrators chasing BT for supremacy in the voice and data space.
St Quinton said: “All of our competitors are quite different. Phoenix operates an indirect model by acting as an outsourced provider to the big international integrators. 2e2 operates more in the IT solutions space. Affiniti is similar to us, but we don’t see it that often.
“Our biggest competitor is actu-ally BT, with whom we have a friend and foe relationship.”
Doyle added: “There’s not one firm we come up against because we have a breadth of portfolio that encompasses so many products and verticals.”
As well as being crowned BT Partner of the Year three years running, Azzurri holds top-level Platinum status with both Mitel and Avaya.
However, the integrator’s second-tier Silver status with Cisco is viewed as an anomaly by many onlookers in the industry.
Humphreys at EuroLAN said: “Azzurri should concentrate on becoming a Cisco Gold partner because not having it leaves it in the middle of nowhere.”
With about 30 UK Cisco Gold partners to choose from, there is no shortage of potential acquisition targets available. However, St Quinton is adamant that Azzurri will not acquire merely to strengthen its vendor portfolio.
“We’re not looking for any new products as we’re happy with our current portfolio,” he said.
“We’re not looking for anyone who will introduce us to a specific new area such as storage or security. Typically, they would be similar to what we currently do – voice and data integration.”
St Quinton added that there are 40 to 50 UK firms generating revenues of £50m to £100m that fit this profile, including the internal voice and data arms of end-users and international subsidiaries.
Contingency plans follow Carillion's demise earlier this year
Oliver Tuszik says partners can boost subscription sales by taking a customer experience-led approach
Firm says enterprise business has performed 'weaker than originally expected'
Top executives from nine VARs, including Computacenter, Bell Integration, XMA, ANS and Epaton, weigh in on which server, storage and networking technologies will be red hot next year