Emerging Trend – Potential for IT Service Providers to Obtain PE / VC Funding
Date: Tuesday , April 05, 2011
According to Gartner, global IT Service spending in 2010 was approximately $800 billion but there seem to be very few, if any, PE / VC firms that invest into IT Service providers. The focus of any PE / VC company is to ensure a huge upside for its investors and the only way to ensure the same is to invest into an IT product company that would become the next “blockbuster” product. The tremendous success of a winning product ensures that there is a huge non-linear / exponential growth to both the top-line and bottom-line, critical to driving huge valuations.
IT Service providers are very dependent on strong hiring and training engine to drive the growth of the company, as the revenue growth is tightly coupled to the staff strength. Acquiring & retaining quality staff is a huge challenge that most of the IT majors have been trying to overcome. This lends unpredictability to the growth of the service provider - a major deterrent to obtaining investments from PE / VC firms. Other important factors that drive valuations are differentiated service line, offshore and onshore mix, growth model, and more.
With global enterprises looking to reduce the Total Cost of Ownership of their IT assets, they are seeking alternatives to existing IT strategies. As a result, we are seeing an increasing interest in adoption of SaaS, Cloud Computing and Open Source technologies that are likely to increase the role of the IT Service providers. Gartner, in their report, ‘Gartner Predicts 2011’, highlighted that by 2015, tools and automation will eliminate 25 percent of labour hours associated with IT services. Clearly, the successful IT Service providers of tomorrow would be the ones that provide value to their clients using a mix of pure play services with accelerators that reduce the time to adopt / deploy new solutions.
Another challenge for small and mid-sized IT Service providers is the “plateau” effect. Very few IT Services companies have been able to cross the chasm to becoming a great “big” provider of niche services. The challenges faced by the promoters vary across: lack of professional management, constant worry on working capital, lack of access to a group of advisors who could be the sounding board with skin in the game geographical spread size of company to provide confidence to major enterprises to entrust key projects.
We, at Basil, see a tremendous potential in providing growth capital to IT Service providers that have a very focussed and niche offering with a proven business model that has a potential to scale. Our experience with this model has convinced us that gone are the days when one could create huge organisations providing generic IT Services (this would have been relevant in the 80s and 90s). The need of the hour for CIOs is a partner that is best fit and solves a very specific problem for them — someone who they could trust completely to solve the problem at the earliest, as opposed to eventually. Open Source, Cloud & RIM, Identity & Access Management, Enterprise Mobility, Integrated Customer Interaction Management are some of the niche areas where we see tremendous opportunity for IT Service providers to compete on a level-playing field with the IT majors.
Our advice to promoters seeking investment would be to ensure you have a differentiated, niche offering with accelerators to provide value to your clients. Prior to aligning with a PE / VC, ensure you interact with the partners in the fund and their past investments to understand their value-add across Strategy, Sales & Marketing, Finance & Administration and HR & Recruitment.