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Security market consolidation: is the next merger of east and west?

Security market consolidation: is the next merger of east and west?
Mergers and acquisitions (M&A) activity in the last two years has significantly changed the competitive landscape of the physical security market. Will Chinese manufacturers be the next to “buy” their way in into Europe and North America? a&s International reached out to several market analysts to hear their thoughts about possible future M&As.
According to an upcoming annual report from Memoori Business Intelligence, Allan McHale, Director of Memoori quoted, “Our records on M&A activity in the physical security industry show that it has been a rollercoaster ride for the last 15 years with two cycles of peaks and troughs. This year [2015] with deals increasing to US$5.7 billion we have started another upward climb. The main driver this year has been strategic buys and divestments from within the industry. The growth this year of 32 percent is the result of two billion-dollar deals: the first being Canon’s purchase of Axis Communications for $2.8 billion and the merger of Kaba Holdings and Dorma Holdings. Two major acquisitions of this size rarely happen in consecutive years so we expect that 2016 will see a fall in the value of deals but we expect that the volume of deals will increase.”

The benefits of mergers and acquisitions (M&A) include access to new markets, larger market share, delivering better products and service offering, and utilizing expertise in R&D.

“M&A activity in the video surveillance market has been driven by a number of key trends. Firstly, price pressure and product commoditization have squeezed margins making it harder for vendors to turn a profit. Furthermore, the previously fast-growing network video surveillance market has slowed making revenue growth harder, especially as Chinese vendors gain share at the expense of Western suppliers,” explained Niall Jenkins, Research Manager of Video Surveillance, Security Services, and Smart Home at IHS Technology. “Consequently, non-core business units are not as attractive to the parent company and can be divested.”

Recent examples of such divestments are Nice Systems and Diebold. Nice sold off its physical security business unit to Battery Ventures, a US-based private equity fund (the company is now operating under the name Qognify). Diebold sold its North America Electronic Security Business to Securitas, one the world’s largest security services companies.

Reasons for M&As
M&As are good strategic moves for companies looking to gain
access to distribution channels in other parts of the world.
Looking at the M&A scene, it is interesting to try and discern the reasons for the spike in M&A activity. “The reasons for acquisition have been mixed and there’s no one reason that binds them all together other than they are following their stated strategic objectives. Over the last two years we’ve seen acquisitions driven by access to new distribution channels and customers, whilst others have been motivated by a shift in strategic thinking. Securitas buying Diebold is in line with their corporate strategy to expand its technology capability and is similar to that of G4S. At the same time this allows Diebold to focus on strengthening and growing its position in software solutions which has itself been built through acquisition,” explained Steven Webb, VP of Aerospace, Defense, and Security at Frost and Sullivan.

  Whereas the selling side wishes to focus on its core business competencies, the buying side often wishes to expand its offering from products to a total solution. “The most successful companies in recent years have been those selling solutions. Where three years ago the industry was looking at ‘best of breed’ and integrated systems from multiple vendors, the market data suggests single vendor solutions are the flavor of the month. Single product companies are therefore ripe for merger and acquisition activity to build solution-focused companies,” explained Jenkins.

Deals such as the Dorma-Kaba merger, Tyco’s acquisition of Exacq Technologies, and Panasonic’s acquisition of Video Insight are examples of the potential solutions newly formed companies have to offer instead of just products. In the future this could also be an option for an integrated Canon-Axis-Milestone. However, at the moment each company has stated that they will remain separate.
Betting on Dahua or Hikvision?
All of the analysts pointed to the impact of Chinese manufacturers. “It is worth noting that organic growth from a couple of Chinese vendors has had more impact on the consolidation of the video surveillance market than all of merger and acquisition activity in recent years combined,” said Jenkins.

And this is true. It is impossible to ignore the impact of Chinese manufacturers on the physical security industry. Apart from pushing prices down, the two biggest Chinese manufacturers, Dahua Technology and Hikvision Digital Technology, are now actively pursuing opportunities outside of China, most notably in the U.S. where both have been active in setting up and expanding their operations.

Frost and Sullivan too believe that APAC-based firms are likely to be involved in acquisitions.

“The U.S. and Europe are significant markets and acquisition is one of the quickest and effective routes to customers, giving access to competitive and sometimes exclusive distribution channels. It remains quite possible that Canon’s acquisition of Axis to gain access to channels and markets is followed by further examples of US and European organizations being bought by APAC-based technology organizations,” said Webb.

Memoori’s McHale points directly at Dahua and Hikvision as the most probable acquirers in future M&As. “The good news is that in the last two years acquisition activity in the mid-market, mainly populated by specialist focused security companies, has significantly increased and this has created consolidation that has for the most part strengthened the industry. For the future we expect to see more cross boarder acquisitions with the Chinese companies Hikvision and Dahua featuring strongly to strengthen their IP technology and back-up services in the western world.”

M&As might be a good solution for these Chinese giants not just to gain access to the market but also to gain better positioning in the west. Hikvision and Dahua are perceived as reliable low-cost solutions, acquiring a western company will allow them to gain not just market share but also reputation.

If we look into the US market as an example, an interesting case study might be Lenovo acquiring the IBM PC business in 2005. Lenovo managed to retain most of the IBM executive management which assured corporate clients that despite the acquisition, business is “running as usual.” Ten years after the deal, Lenovo is the number 1 PC vendor in the world.

Choosing the right M&A partner at the right time might be beneficial for one of the Chinese giants. However, despite sounding straightforward, this is no easy feat. It will require great work in overcoming cultural barriers (both company culture and national culture) as well as unique security related issues.

In 2008, the US government stopped Chinese telecom giant Huawei from acquiring US-based 3Com. The reason was Huawei’s connections to the Chinese military and 3Com’s involvement in manufacturing anti-hacking equipment for the US military. An acquisition of a company involved in physical security projects and protecting critical national infrastructure might also face similar governmental opposition.
What’s to Come
Next year might not see such mega-deals as before, however M&A activity is predicted to continue. “Acquisitions in the security industry will be led by a mix of industry stakeholders. Private equity, manufacturers, and service providers will continue to target organizations that help them meet their objectives, whether it’s maximizing investments, gaining access to new distribution channels, or expanding their product portfolios. Frost and Sullivan expects further consolidation as there are still many mid-size technology vendors. Cyber start-ups will continue to emerge whilst the relatively low technology entry barriers in other parts of the security industry will also encourage new entrants,” said Webb.

In addition, the recent M&As might even spur new companies. M&As often involve layoffs of personnel as companies integrate their operations and downsize staff. Some of these individuals might choose entrepreneurship and start their own companies in the security field. This “fall-out” might give the security industry the innovation boost it has been lacking in the past few years.

There are many challenges in finding the right acquisition target or negotiating the M&A, however the challenge that lies ahead in the post-acquisition integration is more severe. Many obstacles lie ahead of the merging companies: overcoming cultural differences stemming from different management styles in different countries and different company cultures; ensuring retention of desired staff and management; and most important integrating the products, technology, operations and business systems. Will these M&As be successful? Only time will tell.
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