Rise in M&A Activity in Professional Services

Increased activity in Professional Services M&A

It has been a busy few months for M&A activity with some high-profile transactions announced in the professional services sector, namely Partners Group’s acquisition of Version 1 and KPMG’s acquisition of KMCS. Professional services have historically been a challenging area for M&A as acquirers have been hesitant to invest significantly in companies whose IP, reputation, relationships and skills are vested in people who walk out the door every evening. However, M&A activity in professional services has surged in recent years driven by a number of factors, including:

• Companies looking to acquire strategic capabilities to keep up with trends e.g. digital transformation, ESG consulting etc.;
• Companies expanding into new service verticals or geographies;
• Difficulty for firms in attracting staff to grow organically and seeing an acquisition as a way to acquire talent to service existing and new clients;
• To reduce reliance on legacy revenue streams such as audit and tax;
• Private equity interest in the sector increasing; and
• Resilience of these types of businesses during Covid.

The “Big Four”

The “Big Four” accountancy firms have been extremely active in recent years, and each have made concerted steps to diversify revenue streams and broaden their service offerings, thus reducing the dependency on the traditional service suite of audit, tax, and advisory services.

• Deloitte has made several acquisitions relating to its consulting arm. In 2020, Deloitte acquired DNM, an international consultancy company, providing solutions in the areas of cloud, managed services, and analytics. In 2021, Deloitte acquired Belfast-based data and digital transformation business, Etain. The business provides custom software and digital transformation services and now forms part of Deloitte’s consulting business. These businesses are likely to have an element of lucrative recurring revenue and given Deloitte’s appointment of Harry Goddard, the previous head of its Consultancy practice and a non-accountant, as CEO of Deloitte Ireland we are likely to see further expansion in this area.
• EY acquired Client Solutions earlier this year. Client Solutions provides software development and IT consultancy services to large enterprises. In 2018, EY acquired DKM Economic Consultants to expand its government, infrastructure, and economic advisory services in Ireland.
• PwC bolstered its regulatory compliance offering with the acquisition of KYC-Pro, a regtech solutions provider. It is estimated that European banks spend more than €1bn annually on their KYC management.
• KPMG’s M&A focus has been to improve its offering to the planning and construction industry with two acquisitions. In 2020, KPMG acquired Future Analytics which provides services to the state, semi-state, private sector, and European Commission in the areas of planning and economic consultancy. Early this year, KPMG acquired KMCS, a construction and cost consultancy services company.

Professional Services & Private Equity

Private equity firms targeted professional services firms in growing verticals and industries such as digital transformations and fund administration. Two noteworthy PE deals in the professional services industry include:

• Partners Group’s recent announcement that it intends to acquire a majority share in Version 1. It is reported that the deal values Version 1 at over €800m, 18 times forecast EBITDA for FY22. Version 1 was founded by Justin Keating and reportedly received investment of c. €90m from Volpi in 2017, valuing the business at a reported c. €192m at the time.  Volpi has played a key part in the growth journey of Version 1. The business has tripled in size over the last five years following Volpi Capital’s backing.
• London-based private equity firm, Synova acquired a majority stake in  Doran + Minehane (D+M), a Munster-based accounting services specialist to the global hedge funds industry. D+M  was formed in 2007 with offices in Limerick City and Bantry, County Cork providing financial reporting services – primarily IFRS reporting to investment funds. Today the Company’s client base includes some of the largest investment managers and fund administrators globally and they have offices in Ireland, Singapore, the Netherlands, the UK and the Cayman Islands.

Valuation Multiples

Professional services firms generally transact at mid to high single-digit EBITDA multiples. But as can be seen with the Version 1 deal, which is reported to be at an 18x EBITDA valuation, multiples do vary in the industry. So, what drives the valuation of these companies:

1. Scale pays! The larger the firm the more attractive it is to acquirers as the same level of work is required to complete a large transaction as a small transaction. A larger company is also likely to have more diversified revenue streams which reduces the risk to acquirers.
2. Growing vertical: Changing trends and new technologies drive demand for certain professional services to enable companies to adapt. One such trend is the digital transformation to the cloud that most large companies are undertaking. Companies such as Version 1, Accenture and the Big Four consultancy departments have been extremely busy delivering these projects for their clients.
3. Value of the Platform vs. Individuals: Some professional service firms such as corporate finance and PR firms rely on a small number of high-profile employees with strong reputations to drive new business. Firms that have developed processes and corporate IP to deliver projects for clients generally demand a premium as there is less risk of the business deteriorating if key employees leave.
4. Synergies: Potential cost and revenue synergies available to the acquirer are likely to impact valuation. For example, the “Big Four” have significant reach to companies in all sectors of the economy and can leverage the network to drive additional business for newly acquired capabilities. Examples of cost synergies would include integrating back office functions such as HR and finance or rebranding the newly acquired company to the branding of the acquirer and save on marketing costs.
5. Nature of revenue: Repeat and recurring revenue is more valuable than one-off revenue as it allows companies to compound growth over the years. For example, a professional services firm that looks after a company’s annual compliance returns can expect to complete this work every year vs. an architect who designs a building one year would have to win another project to replace this revenue the following year.
6. Revenue concentration: Companies with a high dependency on a small number of clients for the majority of their revenue are riskier than companies with a diverse revenue base across a number of industries.

Outlook

As outlined above there is a clear strategic rationale for M&A in the professional services industry. Companies can mitigate some of the risks of acquiring businesses by incorporating deferred consideration into a transaction or incentivising employees with share options or equity rollover. However, for M&A to be successful there has to be cultural alignment as the people will always be the essence of professional services firms.

Disclaimer: This article was written by Conor Michigan of Renatus, in partnership with the Business Plus Magazine.

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