IT services firms find gold in dot-com shakeout

IT services firms find gold in dot-com shakeout

The declines in technology stocks on the Nasdaq stock market, and the overall waning of investor confidence in information technology companies, is turning into a windfall for some IT services companies that see a way of acquiring smaller, ailing companies at basement prices.

Although it has grown its business organically until now, US-based systems integrator Tanning Technology is planning acquisitions to take advantage of the low valuations of a large number of IT services companies. "Many companies - both dot-coms and services companies - are going to go out of business because of the thirst for capital to fuel their growth," Tanning's chairman of the board, president, and chief executive officer Larry Tanning said.

US-based Compaq Computer is also counting on acquisitions to help expand its Global Services business. "One year ago, the valuations of the various companies we might have looked at were too high for us to be serious about an acquisition," said Jeffrey Lynn, vice president and general manager of Compaq Global Services.

Some analysts see consolidation ahead in the services business.

"Some of the larger companies are acquiring smaller companies just to get the people - because it is tough getting good people these days - or, in some cases, [for] the client base as well," said Ed Yourdon, chairman of US-based research and consultancy firm Cutter Consortium.

"Some of the smaller consultancy firms are struggling for business," he added. "A lot of them were frustrated that they didn't manage to get on to this tidal wave of everybody getting rich a year or two ago, and so they might be willing to sell just because they are tired, or because they see that they just don't have the resources to expand their niche."

Most of the deals are likely to be in cash however rather than stock. "The people being acquired may be less willing to be acquired for stock than they were before when the market was high," added Yourdon. "The depressed stock prices cut both ways. If you're a company that is doing acquisitions using your own stock, and your stock is also depressed, then it is not too easy. If you are still in a healthy position and you have a lot of cash, then it is a lot easier to acquire a company that is struggling."

Although Tanning's stock price took a beating on the Nasdaq, it is a debt-free company with about $80 million in cash. It is well positioned as a systems integrator that helps large global customers integrate their businesses with the Internet. "I think the time is ripe for us to be proactive for the right acquisitions, whether it is to expand geographies, vertical markets, or horizontal market skills," Tanning said. "We have run our company on a cash-positive managed basis, so that we have plenty of capital to fuel our growth, our acquisitions."

Compaq's acquisitions are designed to help expand its services revenue. "Right now services is about 17 per cent of Compaq's total revenue, and our chairman has asked us to increase that to about 30 per cent . . . as quickly as we possibly can," Lynn said. " We will do it both through natural growth of the services business and through acquisitions."

Besides acquisitions that will improve Compaq's reach in regions including Europe and North America, Compaq also hopes to buy companies for skills that fit with its services strategy, such as in the area of 3G (third-generation) mobile deployment, according to Lynn. In some instances, Compaq may also retain the brands of companies it acquires, he added.

Indian services companies are also looking for easy pickings overseas. The majority earn most of their revenue from the US and European markets. "The valuations today are far more attractive than they were a couple of years ago," said Byanna Ramaswamy, president and managing director of Bangalore-based consulting and software services company Sonata Software. "We are looking at acquiring in the US and Europe both services companies and companies that have products whose implementation requires a great deal of customisation. In either case, the main objective is market access."

Sonata announced in December last year that it was investing $2 million for a 26 per cent stake in US-based e-business systems integrator SpinAway, with the option to enhance its stake at a later stage. "When we did the valuation of SpinAway, it was far more realistic than at the peak of the stock market boom," Ramaswamy said.

Apprehensions about recession in the US economy and slower growth in IT spending in the US may, however, put the brakes on acquisitions. "[The acquisitions] will be tempered at least in the US by the kind of defensive postures that a lot of these IT firms have right now," Yourdon said. " They want to see which way the economy is going, and when the IT market place is going to start buying stuff again. There is no point in buying a company if its products or services are not being purchased."

In addition, growth by acquisition in the services business is fraught with risks, according to Ashok Trivedi, co-chairman and president of iGate Capital, a holding company for a number of e-services companies. "We have made a number of acquisitions but, in a people-oriented business like services, the one thing you have to ensure is that you are able to carry the people with you," Trivedi said. "You may expect to get access to customers through an acquisition but as the services business is very relationship-based, if you lose the manager handling the account you may lose the customer too."

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