Bigger and Better
This article originally appeared in Outsource Magazine Issue #26 Winter 2011
Kiran Paruchuru and Ralf Abele, Robert W. Baird & Co., examine 2011’s drivers of merger and acquisition activity triggered by the growth and diversification in the OCC and BPO sectors – and whether this trend is set to continue into 2012…
The outsourced customer care (OCC) and business process outsourcing (BPO) sectors have generated significant merger and acquisition (M&A) activity in 2011, and this trend should continue based on the underlying dynamics of these sectors.
The large and fragmented nature of the OCC and BPO sectors results in substantial consolidation potential. For example, the top ten players in the worldwide OCC market account for only about 25 per cent of total sector revenue, in line with market shares within the US and Europe. Most of the thousands of global participants lack the capital, resources, and technology necessary to remain competitive as corporate customers demand more sophisticated capabilities and broader service offerings. Many such firms are attractive acquisition candidates for larger, more diversified entities.
With opportunities remaining for acquirers to create value, M&A transactions in the OCC and BPO sectors are fueled by the strategic push for scale, service offering diversification, and cross-border / global capabilities, along with renewed private equity activity.
Scale and scope
Outsourcing companies continue to make acquisitions that enhance scale and scope in response to the pervasive trend of vendor consolidation among larger clients. Service providers with sufficient capabilities as well as strong execution frequently are rewarded with additional business from multinational customers seeking to prune their vendor lists. For corporate clients, targeted benefits from limiting the number of service providers include lower costs, reduced complexity, fewer points of contact, standardised service, consolidated billing, and detailed reporting and analysis.
For outsourcing firms that have become larger through acquisitions, scale advantages include:
- greater purchasing power
- leverage on overhead
- capacity to reinvest in the business
- recruiting and retention of talent
- access to growth capital
- ability to service larger, multi-site contracts.
OCC and BPO providers can achieve scale economies in areas such as facilities, telecommunications costs, and recruiting / training. Scale advantages typically translate to operating leverage on infrastructure, thereby reinforcing the strong competitive position of leading players. An acquisition typically increases the key measure of agent utilisation, particularly with offshore locations. Superior resources enable selected providers to make adequate people and technology investments, which are essential to maintaining customer satisfaction and promoting client retention. Buyers with large, established businesses have greater ability to reduce costs for acquired firms via the integration process. Bigger firms also are more able to weather economic downturns and the loss of individual clients.
Adding scale and scope through acquisitions puts service providers in better position to win larger client contracts. To compete for and service major accounts, firms must have broad services offerings available to address various customer requirements. In addition, providers need to feature around-the-clock customer service, sufficient financial resources, the latest technology, and strong reputations. To handle the most lucrative opportunities, companies must provide a wide range of services across end markets to clients located throughout the world. M&A transactions can be the most effective means of enhancing capabilities as needed to secure the biggest pieces of business.
In an example of a recent M&A transaction driven by scale economies, One Equity Partners, the private equity arm of JPMorgan Chase and majority owner of NCO Group (NCO), acquired APAC Customer Services (APAC) in October with the intent to merge APAC with NCO. This deal combined two of the largest players in the BPO and OCC sectors, adding more than $300 million in annual business to NCO’s $1.6 billion revenue base. The benefits of greatly enhanced scale and scope supported a premium valuation relative to the historical sector buyout range. This transaction also illustrates two of the other themes outlined below: service-offering diversification and the re-emergence of private equity participants.
Acquisitions that help build a comprehensive set of services enable companies to gain relevance with existing and potential customers. A more extensive offering aligns with client preferences for partnering with a few service providers that can address many functions. Acquisitions can complement existing capabilities, add new services necessary to penetrate current customers further, and allow entry into additional categories. Acquisitions of complementary businesses often are an appealing alternative to internal growth due to the significant time and resources required to establish a viable new business line.
Adding customers and services through M&A allows companies to leverage the existing customer base through cross-selling, resulting in incremental revenue opportunities for the buyer and the target. Providers with large client lists have a crucial edge in securing new and replacement business, as current customers are attractive prospects for cross-selling acquired services. Firms with a broadened scope of services have multiple ways to expand relationships with clients, facilitating growth opportunities.
In May, leading BPO firm ExlService Holdings purchased Outsource Partners, a global provider of outsourced finance and accounting solutions. The acquisition strengthened ExlService’s finance and accounting offering, extended its geographic presence in the US, Europe, and Asia, and reduced client concentration. Management plans to focus on cross-selling the services of both companies into each other’s client bases.
M&A also can effectively diversify an outsourcing company’s exposure to services, end markets, and geographies. The evolution of these sectors has witnessed many outsourcing providers adding multiple services in an effort to broaden a narrow scope. Acquisitions reduce customer and end market concentration levels among providers, which frequently are highly dependent on a limited number of large companies and industry verticals. Sector participants also seek to diversify geographic risk while addressing client demand for services in more geographic regions.
Certain target verticals, such as telecommunications, are becoming more mature, while basic services such as appointment scheduling, order taking, and first-level technical support are becoming commoditised. As a result, firms are using M&A to expand into emerging, high-growth target verticals such as healthcare, retail, and financial services, and to add complex level-two and -three technical support with the objective of increasing margins and improving the risk-return profile. Examples of acquired OCC and BPO capabilities that feature attractive growth opportunities and higher margins include marketing, mortgage-related services, document imaging, billing, translation and transcription services, and customer loyalty program operations.
As an example of services portfolio expansion via acquisition, Accenture purchased mortgage-processing firm Zenta in November. The transaction facilitated the launch of Accenture Credit Services, a new unit that will provide consulting, process re-engineering, system integration, and BPO services to the residential mortgage, commercial real estate, leasing, and automotive financing industries.
Cross-border M&A activity allows providers to establish the broad global footprint needed to secure national and multinational accounts. Many participants have combined a mix of onshore, nearshore, and offshore facilities, along with at-home service delivery capabilities, in order to provide continuous coverage to clients around the world. Global expansion has driven acquisition activity, as companies looking to add foreign locations often find acquiring existing, local firms more efficient than building new facilities. In addition, certain customers prefer service providers with local knowledge and presence to meet regulatory mandates, specialised needs, or service requirements.
Acquisitions can be necessary for providers seeking to satisfy multiple language requirements. For example, US corporations with international operations commonly mandate their OCC providers to be present in Europe, in particular in Germany. M&A can address barriers to entry into Germany, Europe’s second-largest OCC market, such as the German language (which is difficult to offshore) and the need to provide customer care through facilities in Germany to allow for regular client visits. Latin America and Eastern Europe are increasingly popular as delivery locations given their large domestic markets and language capabilities, which are beneficial in serving US and Western European customers.
OCC providers often expand geographically in order to minimise economic and political risk in any single market and to enter emerging markets that offer above-average growth and/or lower operating costs. M&A can be the most cost-effective means of achieving these objectives. Numerous offshore acquisitions have been made by US and European companies looking to establish or expand operations in low-cost markets such as India and the Philippines.
In April, BPO firm Affiliated Computer Services acquired Unamic/HCN, the largest privately-owned OCC provider in the Benelux countries. ACS highlighted the transaction as expanding its global capabilities by adding market expertise in Western Europe, Turkey, and Suriname and language proficiency in Dutch, French, Flemish, and Turkish.
Private equity activity
Private equity investors have recently shown renewed interest in the OCC and BPO sectors after a period of limited interest in these sectors. Financial sponsor M&A activity has picked up in the US as well as in Europe, which has witnessed a number of private equity-backed acquisitions in Switzerland, the Netherlands, Germany, and Austria. Private equity firms remain attracted by consolidation opportunities in a fragmented space as well as business models featuring global scope, long-term customer relationships with recurring revenue, and strong secular growth potential amid the ongoing increases in outsourcing. In addition, financial investors are drawn to the scalability of emerging technology-enabled service models with significant growth prospects. Some sponsors have targeted a platform for consolidation, while others have domain expertise and positive investment experiences in these sectors, leading to add-on deals for existing holdings. Financial sponsors may focus on building scale in a particular niche or service format, an approach that facilitates an eventual exit to a buyer looking to meet a certain need.
Key variables currently are conducive to private equity M&A activity. Despite a series of global shocks, the credit markets remain generally accessible for M&A financings, and reasonable terms are available to high-quality borrowers. Private equity firms remain well funded, with record levels of committed capital supporting increased equity contributions to buyouts.
Private equity firms have strong impetus to achieve liquidity events for existing holdings, including stranded assets that have not cleared previously. Due to the substantial number of sponsor-owned companies in these sectors, private equity firms often stimulate M&A by seeking an exit for a portfolio company. Exit opportunities can come via other private equity firms, active public and private company consolidators, and other strategic acquirers. For example, diversified services company Serco Group acquired OCC and BPO firm Intelenet Global Services from financial investors Barclays, Blackstone, and Housing Development Finance Corporation in July, with the intent of integrating Intelenet into Serco’s Indian outsourcing unit.
Acquisition activity in the OCC and BPO sectors should remain prevalent in 2012 and beyond based on the substantial benefits of acquisitions to both strategic and financial purchasers.
Disclosure: The authors wish to clarify that this is not a complete analysis of every material fact regarding any company, industry or security. The opinions expressed here reflect their judgment at this date and are subject to change. The information has been obtained from sources they consider to be reliable, but they cannot guarantee the accuracy.
About the Authors
Kiran Paruchuru is a director in the Business Services Investment Banking team at Robert W. Baird & Co., with particular focus on the BPO/outsourced customer care arena.
Ralf Abele is a director in the Business Services Investment Banking team at Robert W. Baird & Co., with extensive global and European corporate finance experience.