The broad-based Business Services market encompasses a variety of sub-sectors including, Correctional and Security Services, Staffing and Recruiting, CRM/BPO, Consulting, Facility Management, Market Research and Information Services. We believe the market for outsourced business services should continue to grow for the foreseeable future due to the low penetration rates of outsourcing within all of the sub-sectors as well as the compelling value proposition of better service at a lower cost for companies and governments.
Within the Correctional and Security Services sub-sector, we are bullish on the outlook for the privatized corrections industry given the trend of strong demand coupled with tight supply. This is a classic supply-demand imbalance that we feel shall remain in place for the foreseeable future given the long lead times to add capacity, the significant upfront capital investment required to build beds, the current fiscal problems on the state level and the years of under-investment by the government (state and federal) in the country’s prison infrastructure. In our view, the large and well capitalized operators are in a unique position to gain share given their ability to strategically add capacity in this environment.
Our goal is to identify companies that provide a compelling investment case for our clients. We recommend a stock specific approach to investing in the Business Services sector with a focus on improving or existing secular trends, predictable/ visible business models that generate substantial cash flow, improving growth rates, strong management teams and/or an attractive valuation.
Communication Components
The global appetite for broadband connectivity is driving demand for a new class of networking and communications systems that will enable the broad deployment of inexpensive “triple play” services (voice, video and data). Additionally, consumers continue to exert increasing influence on the capital investment decisions of the broadband service providers as demand increases for the ability to upload and share experiences and opinions on the Internet as well as download and enjoy rich content. In turn, OEMs are becoming more reliant on component suppliers to provide leading-edge solutions needed to deliver this new class of devices.
Our coverage focuses on the leading chip suppliers to the wireless, wire line, cable and optical communication infrastructure markets. Our goal is to identify investment opportunities in companies that are entering growth cycle(s) either because of new product introductions or expanding market opportunities, and that have the capability to be leaders in their respective markets. We also search for companies that are successfully transitioning or evolving their operating models but that have been overlooked or otherwise not rewarded by the market. Through our channel contacts and unique understanding of the communications “food chain” we provide timely, accurate data points and proprietary conclusions that help our clients develop a clear picture of the environment surrounding the communications industry in general and individual stocks in particular.
Education & Business Services
At more than Trillion$, education spending in the globally is second only to healthcare as a percentage of GDP in the world. As with the healthcare industry many years ago, private providers at all levels are gaining share at the expense of publicly-funded institutions through greater ingenuity, innovation, and efficiency. The size and scale of the market itself means that very small paradigm shifts can create enormous market opportunities. Our coverage focuses on companies serving the childcare, elementary, secondary, post-secondary, and corporate training education markets.
Growth drivers for the sector include the movement towards a knowledge-based economy in which worker knowledge, whether general or specific, is increasingly important as a basis for economic competition between individuals, between firms, and between countries. As a result, products and services that supplement, or help correct for, failing schools, that satisfy demand for post-secondary education in critical sectors, or that help corporations to more efficiently and effectively transfer knowledge to their employees, are all poised to continue to grow.
Rapid economic growth is transforming India, China, Brazil and Russia from a rural-agrarian economy into an urban knowledge-based economy where skilled and educated labor is of utmost importance. Furthermore, BRIC countries education system over the past half decade has begun to open in a way that has made for-profit education a robust growth industry. These transformations, in combination with its vast population, make India one of the largest and most attractive for-profit education markets in the world.
For our institutional clients, we look for both public and private equity investment opportunities in education businesses that are addressing a large and growing market with a clear and differentiated value proposition, a lever gable business model, and a management team that has market experience, functional expertise, a straightforward communication style, and a strong shareholder-focused orientation.
Telecom and Information Technology
More than a billion people connected to the Internet over the past decade and more than that will connect over the next. While in the past relatively simple applications such as email and web access dramatically changed the way we communicate, the Internet is poised to become a catalyst for even greater change. More sophisticated Internet applications such as IPTV, voice over IP, streaming media, Web 2.0, mobile data and software as a service and are but a few of the technologies that promise to change our lives.
However, the next generation of Internet applications will require a broad upgrade to Internet infrastructure and several factors have set the stage for that to take place. The service provider community has entered a new era in which different types of carriers, such as telecomm, cable, wireless and Internet-based service providers are competing for the first time. The carrier community has also experienced massive consolidation, and many of the survivors are poised to make aggressive investments in Internet technologies that will improve efficiencies and enable new services. With penetration rates exceeding 50% in many countries, broadband access has become mainstream, empowering consumers to adopt new bandwidth intensive applications. Applications such as networked video are growing at an accelerating rate and carriers are struggling to keep up with bandwidth requirements. Furthermore, upcoming applications such as IPTV will place far greater demands on networks for bandwidth and content management.
Enterprise organizations are also entering a broad upgrade cycle as networked applications become ever more critical to their success. Data center consolidation, adoption of voice over IP and wireless LAN, and compliance with new regulatory requirements, are but a few of the factors compelling organizations to upgrade their networks. In addition, new distributed applications require network upgrades in order to manage traffic in an optimized manner as does the delivery of key applications to remote offices.
The Internet’s growth and the adoption of richer applications are also fueling explosive growth in demand for data services companies such as collocation service providers and content distribution network (CDN) providers. As organizations increasingly perform their business over the Internet, they are seeking greater reliability, traffic management and peering access that only service providers can deliver.
The evolution of the Internet and recent developments in computing technologies are reshaping the economic model for IT outsourcing. Managed services in general, and cloud computing in particular, leverage the robust communications capabilities of the Internet and the efficiencies of sharing centralized resources with the result that many entrepreneurs are now embracing IT outsourcing. We see that trend accelerating.
Network Security is also inextricably linked to the evolution of the Internet, as users will not adopt new Internet-based applications (particularly outsourced solutions) that they do not trust. This has spawned the need for robust security. Organizations need security infrastructure that can evolve rapidly and support new layers of technology to keep pace with cyber threats. Some of the more brazen intruders have evolved into highly trained teams with global networks and financial resources with the result that the threats have become more sophisticated, voluminous and damaging. In response, investing in network security is a top priority across public and private sectors and the commitment to security is growing.
Enterprise Software is undergoing a steady transformation in favor of Software-as-a-Service (SaaS) or On-Demand vendors due to nearly ubiquitous global access to wired and wireless data networks. A true new paradigm in technology, the SaaS space offers some of the fastest organic growth rates in the market today and a population of public players that is steadily expanding.
In a world moving to demand real-time access to information, independent of end-user device preferences, SaaS is not in our view a passing trend, but an inevitable architectural evolution that should virtually supplant the traditional on-premise software model over time. Offering customers lower upfront costs and requiring limited IT support, the value proposition of SaaS solutions is better in most cases than traditional licensed applications while also increasing vendor accountability for performance and utility.
For investors, software market share gains by SaaS vendors should result in both strong and sustained growth trends supported by largely recurring core revenue models, and an ability to generate meaningful free cash flows long-term predicated upon the high gross margins and minimal capital requirements that have long highlighted the software sector. In combination, we believe these factors poise the SaaS sector to outperform the both the broader market and the technology sector over the long-term.
We are bullish on the space as a whole, but will focus primarily on companies which we view as having the strongest quantifiable value-add for their clients, either via cost reduction or revenue enhancing capabilities. We believe this approach will offer both strong upsides via growth as well as greater defensibility in challenging environments via higher customer win and retention rates.
