The path to digital transformation
As described above, the increased adoption of cloud services was clearly established pre-pandemic, but recent events have only accelerated companies’ digital transformation plans. In the second quarter of 2020, organisations worldwide have spent US$34.6 billion on cloud services, up roughly 11% from the previous quarter.[2] Satya Nadella, CEO of Microsoft, stated recently “We’ve seen two years’ worth of digital transformation in two months.”[3] With the majority of the global workforce now operating remotely, and some businesses looking at this on a more permanent basis, digital transformation looks set to continue at an accelerated pace.
Additionally, this digital transformation trend has come with challenges that have stimulated deal activity in the cloud services ecosystem. White collar industries are facing IT complexity, security risk, and operational efficiency challenges – all of which come with myriad providers and consultants to support them. Many businesses have also taken the opportunity to completely modernise their internal technology infrastructure with scalable cloud infrastructure – adding more deal opportunities to the cloud services space overall.
Cloud managed services – growth and consolidation
The global managed services market is forecast to reach more than US$200 billion in size by the end of 2020 and over the next few years, revenue is set to grow to more than US$300 billion.[4] These statistics show that managed service providers continue to be of critical importance for businesses to manage their IT infrastructures – a trend we believe is set to continue as cloud adoption and increasing automation in IT environments continue.
The sector has proven to be highly resilient during the Covid-19 pandemic due to the critical nature of hosting and managing services for companies working remotely. We have talked to CEOs of providers across multiple geographies, and there is a consistent picture emerging: while many providers have seen headwinds around new customer wins, existing customers have often expanded their service offerings, driven by moving more workloads into the cloud and supporting working from home.
As such, companies who provide an integrated and virtual managed service offering are leading the market, by addressing skill gaps their customers are experiencing in cutting edge cloud technologies, and by leveraging technology to automate service delivery. Historically, the operational management of a company’s IT infrastructure (e.g., servers, storage, network, power and physical security) was the core role for managed service providers. Now we see a shift to cloud computing that has meant that MSPs need a hybrid cloud strategy to support their customers’ IT requirements beyond traditional service offerings, driving revenue growth. To capture an increasing share of their customer base, value can be created by expanding the service offering into areas such as network connectivity, unified communications and cybersecurity. This is either done organically or more often, through highly synergetic bolt-on acquisitions.
We believe this value creation opportunity has attracted, and continues to attract, strong investment from private equity. In a sector where strong benefits of scale exist and attractive synergies can be unlocked through combinations, we believe there will be increased M&A activity over the next 18 months. This will likely take place both within domestic markets and across borders, particularly between the UK and US. Unlike many other sectors within technology and software, there are few pure-play strategic consolidators here, creating a unique opportunity for private equity to provide the capital to facilitate these combinations and create tomorrow’s winners.
We also believe larger IT integrators and consulting businesses will be increasingly looking to acquire hosting and managed services capabilities across a certain stack, to offer their customers multi-cloud strategies. NTT’s acquisition of Capside, a European Microsoft's Azure Expert service provider based in Spain in 2019[5], and more recently, the acquisition of New Signature by Cognizant in July, illustrates this point - the acquisition expands Cognizant’s hyper scale cloud advisory services, and will help it build up a dedicated business, centred on Microsoft cloud solutions.[6]
Investment is stacking up
Though the cloud services industry is heavily dominated by the large cloud service providers (AWS, Microsoft, Google, Salesforce and IBM), we have seen increasing investment into cloud management technology ‘stacks’, as enterprise IT software vendors look to acquisitions as a key tactic in their race to address the cloud opportunity. Representative transactions include:
- NetApp’s acquisition of Spot.io;[7]
- IBM’s acquisition of Red Hat;[8]
- VMware’s acquisition of Saltstack and Cloudhealth;[9] and
- Splunk’s acquisition of SignalFX.[10]
In addition to large ‘transformative’ deals such as those mentioned above, we have also seen a significant number of bolt-on transactions that address more specific functionality requirements around cloud management. As enterprise adoption of cloud services continues to accelerate, we expect to see cloud related acquisition activity by enterprise IT vendors expand.
Conclusion
We believe cloud computing provides the critical infrastructure for many of today’s business software and consumer apps – its adoption is interwoven into almost any type of digital service consumed today. The sector has attracted billions of dollars of investment and will continue to do so. The recent pandemic is only accelerating digital transformation plans for all types of organisations all over the world, moving an ever-increasing amount of workloads into the cloud, whether public, private or hybrid.
As such, themes that were already clear in the space have been magnified, creating an attractive environment for further investment and corporate activity. Benefits of scale and access to synergies will likely drive further consolidation of the sector, particularly for PE-backed assets, and provide their PE-owners with an attractive route to liquidity. Therefore, in the coming year we expect to see continued high deal volume with multiples reflecting a target’s growth profile, capex light vs heavy business model and market positioning.
[1] ‘Cloud startups ride wave of pandemic-fueled investments’, The Wall Street Journal, September 20, 2020
[2] Angus Loten, “Cloud spending hits record amid economic fallout from Covid-19,” Wall Street Journal, August 3, 2020.
[3] Jared Spataro, “2 years of digital transformation in 2 months,” Microsoft, April 30, 2020.
[4] Statista, Managed services market size forecast worldwide 2019-2025, June 2020
[5] Capside, NTT Com Managed Services, wholly owned subsidiary of NTT Communications, Completes 100% Acquisition of CAPSiDE, May 2019
[6] The Economic Times, Cognizant acquires Microsoft cloud partner company New Signature, July 2020
[7] Blocks and Files, ‘NetApp acquires Spot, a ‘game-changing’ cloud compute broker’, June 2020,
[8] Red Hat, IBM Closes Landmark Acquisition of Red Hat for $34 Billion; Defines Open, Hybrid Cloud Future, July 2019
[9] VMware blogs, VMware Completes SaltStack Acquisition to Bolster Software Configuration Management and Infrastructure Automation, October, 2020
[10] Tech Crunch, ‘Splunk acquires cloud monitoring service SignalFx for $1.05B’, August 2019
