Low valuations to drive M&A in small & medium IT segment

Written by Rachana Khanzode | Mumbai, Aug 31 | Updated: Sep 2 2008, 04:11am hrs
With the fall in valuations of small and medium IT and enabled services companies owing to the stock market correction, investment bankers expect further consolidation within small and medium business (SMB) sector through mergers and acquisitions (M&As). The move is also triggered by a need to build up a critical mass and healthy balance sheets in the SMB space to garner sizeable deals from large clients.

Experts see the recent MindTreeAztecsoft deal a harbinger of more such deals in this space. In May this year, MindTree, an IT and R&D services company, said it agreed to buy a majority stake of 32.57% in Aztecsoft from its largest shareholder e4e Holdings for Rs 80 per share. The deal valued Aztecsoft at $90 million.

Motilal Oswal director-investment banking Raj Chatterjee said, The SMBs in India are now opening up to be acquired and especially by another SMB, as a defence measure.

He added the segment will see more such deals happening in India now as the valuations for the SMBs have fallen by almost 50% from what they were two years back. The overall BSE Sensex dropped by 28.26% from 20,000.71 on January 01, 2008 to 14,564.53 as on August 29, 2008. The market capitalisation for SMB IT and enabled services companies fell by 34.24 % for the same period, from Rs 51,627.57 crore in January this year to Rs 33,949.92 crore in August.

Industry sources point out that it is increasingly becoming difficult for the SMBs to sustain, as healthy balance sheets are becoming an important requirement to get contracts from large clients. A senior investment banker said healthy balance sheets have always been an important criterion, and large clients want to make sure that these companies have healthy backups. Its not that easy for SMBs to grow as fast as they did, say, two years back, and this triggers consolidation, he said. A source from an advisory firm said SMBs cannot depend on IT budgets of just one or two large clients.

They need to have a few large clients to sustain, especially since IT budgets of some of the clients will be increasingly fluctuating or getting delayed, the source said.