Altron`s enormous value unlocking

Altron`s enormous value unlocking

The Allied Electronics Corporation (Altron) has been significantly reconfigured over the past five years, initially focussing on a reset of cost structures and the disposal of manufacturing-intensive businesses. The strategic focus was then shifted to information and communication technology (ICT) related businesses.

The recent unbundling of their UK ICT-services company, Bytes Technology Group (Bytes UK), highlighted that the inherent value of this asset was underappreciated by the market, given the low Altron share price. Substantial value has been created for Altron shareholders by this turnaround, and the separation and unbundling of Bytes UK.

Corporate history
Bytes UK was founded in Epsom, south of London, in 1982. It made its way into the Altron stable via USKO, a business listed on the JSE in the late 1990s. Altron acquired a 20% stake in USKO in 1999 before buying out and delisting the company a few years later.

USKO and Altron had similar journeys: poor capital allocation, unsustainable debt levels and underperforming businesses that resulted in stressed operations. The injection of new management teams enabled the businesses to refocus and extract the value inherent within.

Acquired for R145 million in 1998, Bytes UK was notably one of USKO’s more successful acquisitions. Having subsequently bolstered the original Bytes UK business with a relatively small acquisition in 2011 (Security Partnerships), followed by a larger transaction of around R650 million in 2017 (Phoenix Software), Bytes UK was unbundled from Altron and listed separately on the London and Johannesburg Stock Exchanges in December 2020. It now has a market capitalisation in excess of R17 billion.

Unlocking value
The unbundling of Bytes UK was structured so that Altron shareholders directly retained approximately 60% of the original stake, with roughly 20% thereof sold for cash in the listing and distributed to Altron shareholders. The balance was sold down by Altron to pay for taxes that arose from the transaction and to reduce debt. In addition, a portion was allocated to Bytes UK management to replace a pre-existing incentive scheme. Altron shareholders were given the option to sell their entire stake on listing.

The intention of the unbundling was to unlock value for shareholders by improving the visibility of the earnings and cash generating ability of Bytes UK, and gain exposure to a broader potential shareholder base. As a separately listed entity, the company has renewed focus and energy along with greater flexibility to use Bytes UK’s scrip for talent retention and corporate actions. The share price of Bytes UK has substantially rerated as a separate entity, massively benefitting Altron shareholders.

Implementing workplace IT solutions
The workplace is rapidly evolving, with distributed teams, new business models and complex security issues resulting in evolving software requirements. Bytes UK is a value-added reseller (VAR) working with corporate customers to identify and attend to their developing software needs. Through a deep understanding of the technologies available to aid businesses transition accordingly and improve productivity, Bytes UK sells the appropriate software licenses to clients. Its primary focus is on cloud1 and security products, including providing advice regarding updates or optimisations to existing software and helping to manage licence compliance and renewals.

In addition, managed service offerings are provided, such as the scalable extension of an in-house IT team to augment internal expertise and offer support to staff. This can also include assistance with technical projects (for example designing, implementing, supporting and managing a data centre solution) and the procuring of necessary software and hardware. Some of this work is outsourced to preferred service partners under Bytes’ brands.

Bytes UK’s client base is evenly split between the private and public sector (including municipalities, charities, healthcare and law enforcement), with public sector work typically being lower margin but longer term in nature and less impacted by economic contractions.

The UK IT market is highly price competitive and fragmented, with no single UK VAR having greater than a 7% market share. Bytes UK is the 10th largest UK VAR and managed service provider. Although it has a broad geographical presence in the UK, public sector exposure is largely concentrated in the North, while private sector business is conducted mainly in the South. Generating revenues in the region of £400 million per annum, the company enjoys a reasonable market share, with room for growth.

VARs earn rebates from vendors based on numerous factors including the volume and growth rates of sales and their technical prowess and service levels (accreditations and certifications held). Generally, a VAR receives better commercial terms from a vendor through the attainment of higher levels of accreditation. Bytes UK has received numerous awards from vendor partners.

While best known for their expertise in Microsoft solutions, the company’s offerings extend well beyond this, as can be seen by their partnerships with over 100 global vendors including Adobe, Amazon Web Services, Dell and HP. Microsoft is, however, their largest vendor, accounting for 52% of sales – generating more than $1 billion of revenue for Microsoft annually.

1The practise of using external processing, software and data storage resources.

Why would IT users and vendors use VARs?
Approximately two thirds of IT spend in the UK is directed through distributors or resellers. Bytes UK is vendor neutral and therefore able to recommend the most appropriate IT offering from multiple providers based on a customer’s specific needs – acting as a single touchpoint for multiple IT solutions. Typically, customers do not have the in-house capabilities to source and manage all their IT requirements. VARs are frequently able to offer more competitive pricing than a customer can attain directly from a vendor, given the preferential commercial terms VARs receive. The quality of technical expertise and guidance that Bytes UK can offer, coupled with the calibre of their personnel, is critical to the success of the business. To date, the company has successfully maintained a stable workforce, retaining and growing skills from within. The chart below highlights the strong correlation between staff tenure and profit generation.

From a vendor’s perspective, Bytes UK can:
• provide access to a broad customer base;
• offer a large sales contingent to promote products;
• mitigate the credit risk of dealing with many smaller customers;
• provide ongoing training and advice on new products to customers; and
• source valuable customer feedback for future vendor product development.

Forging a strong growth path
Bytes UK has a long track record of delivering robust financial performance (charted below). As sales staff improve their understanding of the customer and progressively gain their trust, they are better able to identify additional, higher value solutions well suited to the customer’s needs, resulting in increased IT spend.

The growing digitisation of operations is a structural driver that underpins Bytes UK’s continued growth. As companies seek to communicate more effectively (internally and with customers), streamline business processes and grow operations, increased IT spend on software solutions is invariably a consequence.

Bytes UK is well positioned to capitalise on the shift of workloads and services to the cloud, and the increasing threat of cyber security breaches. The need to support mass home working resulting from the COVID-19 pandemic, has accelerated the demand for cloud services. The shift to cloud is particularly beneficial for Bytes UK as it increases the proportion of profits generated from annuity-type revenue streams. Although sales teams are actively incentivised to boost the proportion of cloud sales, they also focus on cutting through the hype, helping customers identify which aspects of their business should be migrated to the cloud (and in what order) and practical uses of the available applications.

Cloud vendors have complicated usage-based pricing models, which can result in customers unknowingly breaching the terms of their licences or receiving an unexpectedly high bill at month-end due to usage exceeding expectations. As such, Bytes UK has developed an innovative system to easily monitor live consumption, helping customers minimise costs. Prominent customers include IKEA and Diageo.

Currently, the business has minimal presence in the IT hardware sales market. To mitigate the risk of competitors supplying hardware to customers and then cross-selling other products once becoming the hardware supplier of choice, Bytes UK are gradually expanding their hardware offering.

As outlined above, it is clear that Bytes UK is well positioned to capitalise on a number of opportunities that will deliver solid earnings growth. Our clients have substantially benefited from our holding in Altron over the past five years and we were supportive of the recent unbundling.

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