Why Insight's curious acquisition of PCM might make sense

Tom Wright analyses the key facts and figures behind the deal that will see Insight snap up its US counterpart

Insight CEO Ken Lamneck has opened up about the firm's shock acquisition of US counterpart PCM, with gaining a route into the mid-market picked out as one of the key drivers for the deal.

Insight announced its intention to buy PCM yesterday, in a deal valuing the reseller at $581m (£457m).

The move goes against the grain for Insight, with its recent M&A strategy focusing on acquiring skills and services capabilities as it looks to rely less on traditional hardware sales.

PCM fits more into the traditional reseller space, deriving 75 per cent of its revenue from hardware sales, 15 per cent from software and 10 per cent from services.

The combined business is expected to hit sales of $9bn annually, with a gross margin higher than those currently generated by Insight alone.

On a call with investors, Lamneck (pictured) said that PCM's customer base will allow Insight to sell its previously enterprise-focused solutions to smaller customers.

"Strategically we have been very focused on how we build our mid-market play, from an account point of view, as we have been skewed towards the enterprise," he said. "That's an area that PCM brings a lot of value; about $1.6bn of its business is in mid-market and corporate clients.

"They will help us enable and grow our business, which is to take the engine we have built and extend that to a much broader base of clients, which is really important to us as we move into these solution areas.

"It does bring $224m in services revenue to us, at an added gross margin and the scale play makes sense for us."

On the earnings call, Insight said that PCM derived 37 per cent of sales from the US mid-market in 2018, 12 per cent from the public sector, and 39 per cent from corporate accounts. The remaining 12 per cent came from the UK and Canada.

Over the last four years PCM has grown at a compound annual growth rate of 16 per cent for gross profit, with net sales growing at a rate of 12 per cent over the same period.

The acquisition will also bolster Insight's position in Canada, boosting sales by around 70 per cent.

Lamneck said that Insight will become the number three player in Canada, up from a "sub-10" position, and will also gain Cisco Gold accreditation.

Insight's CFO Glynis Bryan revealed that there was no auction for PCM, explaining that dialogue had been happening between the two businesses for a number of years.

She also said that Insight was the frontrunner to acquire PCM "because of the relationship between the two CEOs".

Side by side

Insight is considerably larger than PCM, with annual sales of $7bn compared with $2.2bn.

Insight highlighted the fact that PCM's gross margins are slightly higher, at 15 per cent compared with Insight's 14 per cent.

However, when it comes to net margin, PCM is at one per cent, with Insight at over two per cent.

In comparison, UK reseller giant Softcat has a net margin of five per cent, according to our most recent Top VARs report, with Computacenter at 2.8 per cent and CDW at four per cent.

Insight's £500m UK business also dwarfs the recently set up PCM UK operation, with Lamneck saying that he expects $60m to be added to Insight's EMEA business annually as a result of the operation.

The chief exec also said that Insight expects to boost its profit margins through cost synergies, primarily associated with back-end operations. He added that moving PCM onto Insight's SAP systems will bring significant cost savings, with Insight ultimately expecting to save $70m annually.

Insight said that some of these savings will be realised through real estate, but did not go into any detail.

Analysis

Insight's EMEA boss Wolfgang Ebermann recently scoffed at the idea of acquiring a traditional reseller when speaking to CRN, questioning how long the likes of Softcat and Computacenter will continue to see success.

He went so far as to say that Insight should now be considered an ISV because of the money it has poured into software development, despite the fact a huge chunk of its revenue still comes through traditional models.

Its last annual report shows that hardware made up 60 per cent of its sales, software 26 per cent and services 14 per cent.

It is worth highlighting, however, that Ebermann only leads Insight's EMEA operation, and we would not be surprised if he moved for another services-led European business in the near future.

The move for PCM, however, surprised many in the channel.

Stuart Fenton, CEO of QuantiQ and a former Insight boss, told CRN that the acquisition is a strange one, given Insight's recent strategy.

"This one has got me scratching my head," he said. "I'm struggling to see why they would do it, other than for scale, and I would imagine there is quite a bit of crossover but the technical capabilities of PCM are relatively minor.

"It seems to be a departure from the strategy that Insight has been following."

When discussing the rationale put forward by Lamneck on the call with investors, Fenton said there is a touch of irony in Insight now looking to bolster its presence outside the enterprise space.

"Insight had a very strong mid-market business in the US 10 years ago and largely let it waste away in favour of its larger clients and public sector business, with the exception of in Canada," he said.

"It's a market that they largely had great share in through the mid-2000s but they made the decision to move away from it and it was one that I didn't like.

"During my tenure it was a decision that I didn't agree with and I welcome the fact that they are returning to the mid-market. But it's a terribly expensive way of doing it."

PCM has itself been struggling through its own transformation, with mixed results.

The firm announced a drop in sales in its last reported quarter, down two per cent to $534m. However, gross profit rose 20 basis points.

Earlier in the year PCM CEO Frank Khulusi had hinted that the reseller could look to expand into mainland Europe, partially as a result of Brexit.

The chief exec also hinted that he is not happy with the growth in its UK operation, stating publicly that Brexit disruption is not an acceptable excuse for any setbacks.

Analysts have given the acquisition mixed reviews, with Adam Tindle of US investment firm Raymond James calling it an "unwelcomed departure from [Insight's] playbook", referring to its recent track record of acquiring for skills rather than scale.

He also highlighted that the acquisition value represents around 30 per cent of Insight's enterprise value.

Tindle, however, pointed out that Insight has done a good job integrating the $258m acquisition of Datalink, but said the PCM deal is more risky because PCM has narrower margins and more vendor crossover with Insight itself.

He also said that Insight could be hit with costs greater than the $25m it expects to spend on integrating PCM, citing a potential ERP transition and the "recent slowdown in growth for PCM to a single-digit outlook".

CRN contacted Insight after the acquisition was announced, but was told it is not currently doing interviews with the press.