Security Industry Posts the Biggest Monthly Acquisition Spend on Record

The value of transactions this month is the highest ever recorded for a single month during the last three years, with two purchases each being more than a billion dollars. Acquisition transactions in September were 25 percent up on the same period in 2009, which incidentally was the highest number recorded in that year. Consolidation activity for the first nine months of this year far exceeds the same period in 2009 and 2010 looks like setting a new record; for most of the majors including Honeywell Security, Schneider, Siemens Building Technologies, Johnson Controls, Bosch Security Systems and UTC Fire & Security have yet to seal a deal this year.

We expect that the pace of consolidation experienced in the third quarter will continue into the last quarter of 2010. UTC have made it publicly known that they intend to grow through acquisition and it is now almost a year since their mega purchase of GE's Fire & Security Division. It is strongest in fire detection and prevention, so maybe it's time to balance the business with a big security buy. We think its preference will be for an installer integrator, rather than product manufacturer.

They may follow the lead of Siemens and buy a company focused in providing holistic solutions in a particular vertical market. This month Siemens purchased Republic Intelligent Transportation Services (Republic ITS), headquartered in Novato, California. Republic ITS will become part of the Complete Transportation business of the Mobility Division of Siemens Industry, and be closely aligned with its Intelligent Traffic Solutions business. With the completion of this purchase, Siemens is making a commitment to strengthen its position in the transportation solutions, service and maintenance business. While at the same time provide an opportunity to grow its security systems business. However the rumor that first surfaced about 18 months ago, that Siemens was looking for a buyer for its security products business has resurfaced. It is interesting to note that it has not acquired any security companies for more than two years.

The sale of L-1 Identity Solutions to Safran and BAE is the big story this month. Safran acquired L-1's biometric and enterprise-access businesses and BAE their intelligence services group. L-1 have been on our acquisition target list for some time and not surprisingly this company only formed in 2006 went for a tidy sum. L-1 probably needed a little more time to fully digest the many acquisitions made in its short life but revenues fell in the first half of 2010 and debt was mounting up.

Nevertheless Safran have been happy to pay a large premium more than double its expected 2010 EBITDA. The last annual public accounts showed a debt of US$470 million against only $645 in annual revenues and a negative profit margin. The most recent 10-K tax filing does look better, but L-1 is highly regarded with a significant share of this growing business. This acquisition is not going to have much impact on the commercial market, for this sector so far this year, accounted for only 3.5 percent of current sales.

This acquisition will strengthen Safran's presence in the identification sector of security business particularly the US homeland security market. Safran have been very active buyers of US security companies over the last two years. It has acquired Motorola's Biometric Division and taken an 81-percent share in GE Homeland Protection for $580 million. The combined activities of Morpho and L-1 would have generated 2009 pro forma sales to US customers of more than $700 million with around 2,200 employees in the U.S. The new group is going to be a very formidable competitor that will take the long-term view on growing this business.

Yet another major deal in biometrics and identification management systems this month is 3M's announcement of an agreement to buy Cogent, a maker of biometrics products, for $943 million.

Cogent supplies finger, palm, face and iris biometric systems for governments, law-enforcement agencies and commercial enterprises. It is known for selling its solutions to US and foreign government agencies and law-enforcement agencies. Cogent looks like a healthy company, except that its performance has significantly declined in the first half of this year compared with 2009. It delivered $7.7 million in net income on $49.8 million in revenues for the first six months of 2010, for a 15.5-percent net margin, on revenues down 20 percent on the same period last year.

In 2009, 54 percent of Cogent sales came from the DHS and that fell to 25 percent in 2010. Assuming that the final buying price was only $430 million and that this year it produced revenues of $100 million, then it will have paid a 4.3 exit sales multiple. This is a hefty premium for a company that has one client, accounting for more than 50 percent of its sales.

3M has a solid reputation for being a well-managed company that knows its business well and it must believe that Cogent is an excellent fit within their security operation. It already has a very significant safety and security business with revenues around $3 billion a year and they've got $3 billion in cash so why not spend it on a business area currently having revenues of more than $ 6 billion and growing at 22-percent CAGR? It is now more than 2 weeks since this offer was tendered at $10.5 per share, so the market is betting that a better offer may come.

But the biggest single deal this month is the Hewlett-Packard buy of security software company ArcSight for $1.5 billion. Our first reaction to this acquisition was that it had little to do with the physical electronic security business. However this company's Enterprise Security Manager is to IT systems what physical security information management (PSIM) systems are to sensors, access control, digital surveillance, mass notifications systems and more. ArcSight has exhibited at a number of security exhibitions this year showing Enterprise Security Manager's capabilities in using data about physical events. As Steve Titch, Editor of Security Squared, pointed out in a recent editorial, ArcSight understands that cybersecurity and fraud prevention tactics are more effective when they're tied to data about real-world events: who is in the building, what's happening with that sensor, what is the surveillance device seeing and does all of that data mesh with activities ESM's logging in the cyberworld. If that philosophy persists when ArcSight is digested by HP, what we'd have then is a major IT vendor with an IT / SIEM colored perspective about how physical event data affects cybersecurity measures. It will therefore be interesting to watch what HP makes of this deal.

These three major acquisitions tell us more about how the future shape of our market will develop. HP/ArcSight and their IT competitors could ultimately influence and or be major buyers of physical electronic security systems. Last month Memoori discussed the influence of IP and the network in the security business and showed that the IT enterprise and communications channel was being courted by both security manufacturers and their clients to get involved in providing holistic solutions. This, together with Cisco and IBM's activity in the market, confirm this trend. We expect this to extend to more acquisitions of security companies by IT and communications companies in the future.

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