In something of a surprise move, Assystem Technologies (AT) recently announced its intention to acquire Germany-headquartered but LSE-listed SQS. AT is offering 825 pence per share, valuing SQS at £281m, and has secured (on an irrevocable basis) 31.4% of the shares of SQS from founders, executive management, and board members. This is a generous offer - 56% over SQS’ share price on December 14, 2017, and 31.5% over SQS’s highest ever share price - and demonstrates AT’s eagerness to acquire SQS and its appetite to become a “digital transformation” leader.

SQS Is Close to Completing its Portfolio Transition

SQS is the largest software testing pure-play globally - in H1 2017, it had revenues of €160m and an adjusted EBIT margin of 7.5%.

SQS is at an inflection point where Managed Services, its revenue engine over the past decade, is gradually slowing down, in line with the market, and impacted also by a few contract terminations. Meanwhile, SQS has been reducing its level of staff augmentation work: this transition is almost over. With the rise of digital testing and DevOps/continuous testing, SQS is also shifting its service portfolio to what it calls Management Consultancy, which includes both specialized testing services (non-functional testing, and other technical services such as continuous testing) and program/project services.

In pursuit of this, SQS has been looking at inorganic growth, firstly acquiring Thinksoft Global, which doubled its presence in India (to currently ~1.8k), and expanded its presence in Italy, and the U.S., while keeping its net debt under control (€32m in H1 2017).

Assystem Technologies Has Passed Recently Under PE Ownership

AT is a different type of specialist: it provides engineering and R&D (ER&D) services to the automotive and aerospace sector, in France, primarily, and Germany. AT was born in September 2017 from a 61% acquisition by French PE fund Ardian of engineering group Assystem units. Ardian recruited the former CFO of Altran, the largest ER&D vendor globally, to become AT’s CEO.

AT mostly provides two main types of engineering services: embedded system development, and mechanical engineering. The company also offers specialty services such as plastic engineering and PMO. The company had 2016 revenues of €578m, and a headcount of 10k. It has been in high growth mode in 2017 thanks to a buoyant automotive ER&D market in France; also in aerospace, from a successful transition from services around product design and engineering, to process manufacturing engineering, primarily with client Airbus, helping the client on ramping up its manufacturing of aircrafts.

At the time of the acquisition, Ardian mentioned its plan to scale up AT quickly and reach €1bn in revenues, expanding in the key German ER&D services market. With this announcement just four months later, the goal will be achieved, and AT will have a significant presence in the DACH region, U.K., and U.S.

IoT as an Immediate Priority

One of the big questions with this acquisition relates to industrial synergies: the activities of SQS and Assystem Technologies have little in common, although SQS does have some presence in embedded software testing.

We talked with SQS’ executive management, which will also be part of the senior management of the enlarged group. The immediate priorities for the enlarged group are to focus on:

• IoT services, with IoT sitting at the intersection of software (SQS’ core capabilities), and ER&D (AT’s)
• Cross-selling their respective capabilities into each other’s client base: IoT will be very relevant as it is pervasive and has expanded from manufacturing to other sectors, including insurance and the usage-based insurance use case.

In the short-term, SQS and AT will continue to operate as independent companies.

So, what will this mean for SQS? It will continue its M&A strategy of tuck-in geographical expansions, with Management Consultancy the primary focus; it also wants to continue expanding in the U.S., already its largest international geography.

In the longer-term, SQS intends to expand its service portfolio towards software design, in the context of agile projects, where demand for bundled software development and testing has been rising. This will significantly impact the positioning of SQS, which is known for its QA capabilities.

Another long-term priority for SQS is to support AT’s adoption of offshoring. While AT has some nearshoring in Romania servicing the French automotive sector, the company wants to accelerate its transition towards offshore. The experience of SQS will help, with its 1.8k personnel in India, and its ability to drive high margins on offshored projects.

Does this Make the Combination of AT and SQS a Global Digital Transformation Leader?

Not quite: the businesses of the two firms remain very different. Nevertheless, we are reassured that there are more synergies than we had initially thought. We will be monitoring their expansion in IoT testing services with interest.