Our annual report on the physical security business has charted merges and acquisitions (M&A) activity since 2008. Over the last few months, we have published several articles analyzing the various outcomes that COVID-19 has caused the business during the first quarter of 2020. In particular, we have looked at areas of the business that, by 2021, could come back to strong growth. In this article, we will examine the status of M&A in 2019 and the changes that can be expected in 2020/2021 as a result of the problems caused by COVID-19.
M&A data collected by Memoori over the last 18 years shows that the physical security industry has gone through four cycles of growth and decline in the value of activity, sometimes exaggerated by a number of billion dollar deals in one year and occasionally deals carried out by businesses outside the physical security industry, such as defense, IT communications and private equity firms. The average annual value of M&A deals in the industry over the last 13 years is $6.7 billion, with the largest share being contributed by the video surveillance segment of the market.
In 2019, the value of M&A fell to $2.9 billion, a reduction of approximately 12% on the 2018 value, while analysis of the trends over the last 18 years showed that M&A measured by value has fallen significantly to levels not previously seen since between 2000 and 2003.
Competition has heightened and profit margins have fallen in some sectors of the physical security business in the last three years, but overall it has performed well when compared with industry in general. There remains plenty of scope for consolidation and the potential for business growth is high over the next five years despite the potentially short-term major problem of COVID-19.
The structure of the industry is still very fragmented with hundreds of small companies finding it increasingly difficult to compete and it looks inevitable that the general trend line of value and volume of mergers and acquisitions will regain its momentum over the next five years but at a more modest growth by value of deals.
Over the last 18 years there has been a general upward trend in consolidation within the industry, which equates to a modest compound annual growth rate (CAGR) of 5%. However, more recently there has been a lack of buyers from outside the business, particularly the defense and IT industries, while private equity retained a modest interest in the physical security industry in 2019.
At the end of 2019, we had forecast a rise in the value of M&A activity and we believe that through 2020 and the first six months of 2021, the consequences of COVID-19 will give rise to a higher volume of acquisitions and a slightly higher value than we forecast in 2019.
It seems inevitable that COVID-19 will weaken the financial status of most companies, particularly small- to medium-sized ones which only account for 13.5% of the value of the physical security business but 90% by number. M&A offers a lifeline and theoretically a better future for these companies. Many small and medium size companies could seek out opportunities to merge or be acquired
Companies in the more attractive segments of the business such as Access Control-as-a-Service (ACaaS)/ Video Surveillance-as-a-Service (VSaaS) and AI video analytics will be sought after, not just by buyers from within the physical security industry, but also from outside the business, including private wquity companies.
The major western companies in the business have not used M&A as part of their business strategy in the last two years. Maybe COVID-19 will cause them to review it again and seek out opportunities causing a new cycle of investment.
Jim McHale is Managing Director of Stockholm-based market research firm Memoori.