Merger Mania Among the VARBusiness 500

Paul Shain could probably drive the 150-mile route from Wisconsin's capital to the Chicago suburbs blindfolded. Last spring, he was CEO of Berbee Information Networks (VARBusiness No. 102), a Madison, Wis.-based VAR with about $390 million in sales and a staff of roughly 800. Fast forward a year: Shain is now senior vice president of a Fortune 500 company that has sales of $6.8 billion, employs a small army of 4,300 and requires no introduction in the IT channel. That's because CDW (No. 13), a Vernon Hills, Ill.-based direct marketer, bought Berbee last fall, sending shockwaves through the channel. As one of the principals involved in the post-acquisition integration of the two companies, Shain now finds himself spending a lot of time on the road between the two.

CDW's $175 million acquisition of Berbee is just one example of the frenzied consolidation that swept through the channel last year. In fact, CDW, itself, earlier this month said it had agreed to be acquired by private equity firm Madison Dearborn Partners for $7.3 billion in cash. M&As continued to increase in 2006, with a new merger occurring, on the average, more than once a week. And that's just the larger deals that caught the public eye; scores of smaller VARs quietly joined forces in hopes of bolstering their businesses.

The CDW-Berbee deal, however, stands out as one of the most memorable mergers of 2006, as it illustrates a significant shift in the landscape of the channel, with a direct marketer encroaching on the territory of traditional value-added resellers. The deal left many VARs wondering about their futures.

In fact, the desire to control its own destiny was one of the main catalysts that spurred Berbee to go shopping for a buyer in the first place, Shain says.

"We saw that the channel was an evolving marketplace, and we looked into the future and thought about what business model was going to thrive. We felt that we had a piece but not the entire solution set for customers," Shain says. "We were experiencing very rapid growth on the project end of the equation, but increasingly we saw our customers placing value on the efficiencies of the supply chains of organizations like CDW."

It's that change in buying behavior--companies looking to buy hardware, software and services from a single IT solution provider that can speak to business strategies as easily as technologies--that's a major force behind channel consolidation.

"Historically, the key to success for a VAR was excellence in a technical skill, but in the future the key will be excellence in business management," says Ryan Morris, analyst at the Institute for Partner EducationDevelopment. (IPED is part of the CMP Channel Group, which publishes VARBusiness.) "That change is driven by the buying behavior of end users and the increasingly competitive climate among solution providers. In order to thrive, a solution provider must be excellent at managing a business, building an organization, driving a P&L model, recruiting and motivating talented people, implementing effective demand-generation campaigns and improving sales effectiveness--all in addition to the 'ante up' stakes of technical skills."

While Berbee gained the stability of a large, established parent company in CDW, the direct marketer, in turn, made deeper inroads in the lucrative IT services market--in particular, the highly coveted managed service space.

In fact, strong services capabilities was a consistent attribute among VARs acquired in 2006 and will continue to be an enticing characteristic of acquisition targets in the coming year.

CDW SVP Paul Shain: "[Berbee] saw customers placing value on the efficiencies of the supply chains of organizations like CDW."

"Two [things] make a solution provider an attractive acquisition target: first, having an established service practice with effective processes--either project services or managed services," Morris says. "Second is having an effective sales operation that has demand-generation capabilities."

That demand for services expertise drew companies of all sizes and shapes into the VAR shopping spree last year. (Because so many of the companies involved in M&As were privately held, ascertaining the value of those deals was untenable.)

Telcos, for example, were among the companies shopping for VARs last year as a way to expand into managed services. In September, AT&T (No. 61) shelled out $300 million for ASP USinternetworking, which specialized in providing management and outsourcing services for business software from Oracle, Microsoft, IBM and Ariba.

Companies with existing managed service contracts that provide long-term annuity revenue will continue to be a hot commodity this year, Morris says. "These companies are less abundant and, therefore, somewhat harder to find," he says. "But when a strong managed service provider emerges, it's highly sought after by larger solution providers."

NEXT: Additional qualities on buyers' wish lists.

Solution providers with experience selling services to the government were also in high demand, thanks to increased federal IT spending. Among the most high-profile deals, General Dynamics (Advanced Information Systems, No. 8) threw down $2.1 billion in cash for government IT services provider Anteon. Solution providers with high-level security clearances were coveted as well. Government contractor CACI International (No. 42) closed its acquisition of Information Systems Support, which had about 1,000 employees, 70 percent of whom hold Secret clearances or higher.

Hardware vendors also sought out and acquired VARs, further blurring the lines between VAR and vendor.

In the printing and imaging market, for example, Canon scooped up Uinta Business Systems for an undisclosed sum in 2006, and Xerox grabbed headlines this year when it announced that it would plunk down $1.5 billion for mega-VAR Global Imaging Systems (No. 135), a company Xerox had originally intended to woo as a solution provider partner but later decided to bring in-house instead.

The deal brought Xerox an instant salesforce with expertise in selling document imaging solutions and services, which may have been a more cost-efficient route for the copier king than training thousands of VARs on selling print managed services, analysts say. Meanwhile, Xerox contends that it's still committed to driving sales through resellers, but the deal raised questions about the future of the printing and imaging channel and whether it will eventually be owned by IT VARs, copier dealers, printer vendors or copier vendors.

Storage vendors, too, wanted to be in on the M&A party. EMC snatched up Internosis and Interlink, two solution providers that offer services around Microsoft software. Such capabilities were key for EMC as it looked to expand from a storage hardware provider to a one-stop shop for storing, managing, accessing and securing data throughout the enterprise.

Presidio's Rudy Casasola: "Scale and size do matter."

Many midsize and large VARs were driven to acquire smaller VARs mainly because of the latter's expertise in certain vendor products.

"It all comes down to engineering and pooling all those engineering resources. It's difficult to manage all the certification requirements manufacturers like Cisco put on the channel," says Rudy Casasola, divisional president of Presidio Networked Solutions (No. 72), which went on a major shopping spree of its own this year. (For more, read "VARBusiness 500 Power Movers.") "For example, Cisco has the new master certification, and it's a huge undertaking. A lot of the specializations have to be held by multiple engineers, and you have to have a 24/7 call center and a managed service offering. As a smaller VAR, it's very difficult to meet those requirements, but together [with another company] you can fold your resources and accomplish certifications in a short period of time, with minimal business disruption. Scale and size do matter."

Also, many smaller solution providers are finding themselves facing the cost barriers of moving into more lucrative areas of the market such as managed and hosted services.

"What's happened with vendors is that they overpopulate the channel, then find they have 80 percent of their revenue coming from 20 percent of their partners," says Joel Schleicher, chairman and CEO of Presidio. "So they try to shrink the channel to make it easier to manage, but they find it's more effective to have a consistent delivery model. One concern the vendor has with advanced technologies is if partners can properly deploy them."

That raises the question of whether or not there will be a place for smaller VARs in the channel of the future. While there's disagreement on the role of smaller players, the general consensus is that there will always be a place for them.

"I see a handful of national players, with small VARs continuing to provide tuck-in around certain geographies where local presence is important," Shain says. "It'll be a much smaller channel, but much more coordinated than ever before."

Meanwhile, there's plenty of sorting and sifting to be done. Fusing businesses is a task that requires tact and common sense, and "partner or perish" appears to be the pervading theme.

As for Shain, he expects to put a lot more miles on his car.