Overview:
The COVID-19 pandemic has had its impact on businesses across the board and IT services companies are no exception. While most IT companies reported contraction or, at best, muted growth in the first two quarters of FY 2020-21, they have reported a strong sequential revenue growth and a robust deal pipeline coupled with stellar operating margins in Q3 FY 2020-21.
In this fortnightly, we discuss about what is driving this growth and its impact on M&A in the IT services space.
Growth drivers:
The pandemic has made even the laggards, with respect to technology adoption, realize that cloud migration is an imperative in order to run business applications via the internet and increase the resilience of their operating models in adverse situations such as the current one. The increasing remote working trend, despite the relaxation of social distancing norms, further prompts corporations to accelerate their move to the cloud.
This is evidenced by the fact that IT services companies have been landing large cloud transformation deals across geographies and verticals, except for the travel & hospitality vertical which is yet to see pre-COVID level demands.
Cybersecurity and customer analytics are the other IT offerings that are seeing robust demand owing to the increased cyber crime due to the increased use of cloud-based infrastructure and software and the changed consumer behaviour that has been brought about by the pandemic, respectively.
Demand-supply imbalance:
The increased demand for IT services has been beyond the estimates of the management of IT services companies. This has led to a surge in demand of IT professionals as IT companies look to hire human resources in big numbers to be able to take on the market demand.
The demand has reached a point where there is a short supply of skilled resources and IT companies, especially mid-sized, are struggling to find human resources for projects in their pipelines.
Impact on IT services M&A:
As IT services companies scout for talent to meet the heightened demand for their service offerings, consolidation in this space will intensify in the near-term.
Cloud infrastructure, cloud-based enterprise software implementation, full-stack application development, and data analytics are the skills most in demand as a result of the big digital transformation projects that are up for grabs in the market.
As a result, we anticipate the M&A activity in the IT services space to be capabilities driven more than it being driven by the need to acquire marquee clients or to expand into new markets. Consequently, we believe that strategic buyers will be willing to pay a premium valuation for sizable IT assets with end-to-end digital transformation capabilities.