by Luis Miguel Ochoa Comments (8)

Business & Professional Services Investment Banking: Can You Outsource Yourself?

Back when offshore outsourcing was first making waves, many people started asking the same question:

“So, when will they outsource investment banking analysts and associates? How hard could it be to hire someone else to make pitch books?”

Many banks outsourced portions of the role (see: “Knowledge Process Outsourcing” roles in India as one example), but it turned out to be quite difficult to hire companies halfway across the world to do everything.

Still, you can always fantasize.

One way to do that is to work in professional services investment banking.

And yes, that’s exactly what it sounds like: you advise other services companies, including outsourcing firms, HR organizations, finance / administration companies, and more.

In this interview, we cover industry analysis, valuation, model and pitch book examples, and the most important question of all: why would you ever think about joining this group?

How to Make an Entrance (Hint: Have someone else do it for you)

Q: What brought you to business services investment banking in the first place?

A: I actually didn’t apply – a friend of mine who covers the sector sent my resume to his staffer and included a paragraph about what I could do for them.

I met with some members of the team informally, and then I was invited back for an in-person interview that lasted about 20 minutes.

Q: So was business services coverage your first choice? It seems kind of strange.

A:  Far from it! My group is sometimes known as business services, and other times it’s known as “professional services.”

The distinction is nuance, with business services being the outsourcing firms and professional services being more the consulting / legal focused type of operation.

I actually didn’t have a sector interest at the time, so I just wanted to join a broad coverage group such as industrials or natural resources that had a track record for large and interesting deals.

Anyone can say “we’re the best,” but you can check out the Bloomberg function MA <GO> and create your own league table based on sector coverage.

It turns out that business services also fell into that category of “broad coverage groups,” so it fit in quite well with what I was looking for.

In, Out, and Around the Business Services Group

Q: What falls under your area of expertise?

A: Many people think it’s just about outsourcing – after all, sometimes even parts of my job are outsourced (at least at a large bank).

The truth is that it’s much broader than that, and there’s a lot of overlap with consumer retail (e.g., companies that provide tax and legal services to retailers), technology (e.g., companies like Accenture that provide data services and consulting), and even industrials (e.g., companies that focus on environment and facilities management services).

So depending on the bank, business services can fall under one of those verticals – or even be a separate group.

My coverage encompasses:

Business Process Outsourcing (BPO): These companies take over functions of other companies.

One example is Copal Amba for investment banking – they deliver comparables analyses or precedent transaction lists to my group, which saves us a lot of time.

Sometimes, these BPO companies manage even entire divisions of other companies. Current and former examples include Cognizant, Syntel, and Unisys.

Human Capital: This area includes headhunters, job lists, and employment support organizations (current and former companies in this space include: Manpower, Korn Ferry, Michael Page, Towers Watson, and Kforce).

Finance and Administration: Examples include payroll processors, office suppliers, and accounting, legal, and consulting firms (current and former companies in this space include: Automatic Data Processing, Experian, FTI Consulting, and Navigant).

Services: This last segment is even broader and includes lots of other sub-segments:

  • Environmental & Facilities: These companies provide custodial services, geographical clean-up, and even building management (current and former companies in this space include: ABM Industries, Casella Waste Systems, and Tetra Tech).
  • Industrial: These companies are typically involved in the equipment rental area (current and former companies include: Hertz Equipment Rental, United Rentals, and H&E Equipment Services).
  • Commercial: These companies focus on printing, document management/destruction, and sometimes even document storage (current and former companies in this space include: Iron Mountain, Cintas, and RR Donnelley).
  • Education and Training: You’ll find educational institutions here, including for-profit publicly-traded institutions (current and former companies in this space include: Franklin Covey and Devry).

Sector Drivers and Company Analysis

Q: What do you look at when delivering a sector update?

A: Since this area is so broad, you begin with a look at “high-level indicators”:

The point of many “business services” is to help companies reduce fixed costs and achieve flexibility in deploying resources – so sometimes negative economic news can actually be positive for certain companies in this sector.

After all, reduced economic activity may put pressure on companies’ finances and lead them to outsource instead of performing specific tasks in-house.

Q: That was pretty broad… can you be more specific?

A: I had a feeling you’d say that.

Here are the drivers for the 4 major [business services] areas:

Business Process Outsourcing:

  • Regulatory Changes: According to Cognizant (NASD: CTSH), regulatory changes open up sources of revenue. For example, a company could step in to help address new capital requirements or risk management processes.
  • Incremental Sales & Marketing: Sometimes mature or “maturing” companies look for revenue growth via sales & marketing improvements – so they may turn to third parties with a specialty in product distribution, customer relationships, and so on.

Human Capital:

  • Economic Activity: According to Manpower (NYSE: MAN), overall economic growth is the biggest driver… but it’s also about “workforce flexibility,” or how easy it is for employees to move around. If labor mobility is lower, there’s less opportunity for HR services firms.
  • Client Mix: Again, from Manpower: “Employment services firms with a large network of offices compete most effectively for [large or institutional] businesses which generally have agreed-upon pricing or mark-up on services performed. Client relationships with small and medium-size businesses tend to rely less upon longer-term contracts, and the competitors for this business are primarily locally-owned businesses.”

Finance and Administration:

  • Economic Activity: According to Automatic Data Processing (NYSE: ADP) “clients may react to worsening conditions by reducing their spending on payroll and other outsourcing services, or renegotiating their contracts.”
  • The Health of Credit Markets: Impacts access to debt financing; poor credit markets reduce a company’s ability to meet its liquidity needs.

Industrial Services: You find a lot of equipment rental companies here. With firms that specialize in heavy equipment (click here for a calendar), demand is tied to housing starts or even the demand for precious metals and commodities.

For vehicles that involve more of a Class C license (civilian vehicles), expect to see demand change seasonally (people rent cars more often during vacation time).

Commercial Services: For companies focused on document storage and security, revenue drivers include:

  • Regulatory Requirements: Some institutions, including the Securities and Exchange Commission and FINRA, require a certain level of document maintenance.
  • The litigation environment, which refers to the probability of getting involved in a lawsuit. You’ll need the paperwork, and sometimes the original documents, in order to build a strong defense for your case.
  • According to Iron Mountain (NYSE: IRM), longer sales cycles can also have a big impact on revenue generation. Longer cycles result in keeping track of receivables and payables for longer periods.
  • Capital Expenditures: Pay special attention to growth capital expenditures because they will create more documents and more of a need for storage. Maintenance of existing equipment and factories results in fewer documents.
  • Customer Retention: It’s a lot easier to sell more to existing customers than it is to find new ones. And once a company stores some documents, chances are it will need to store more documents for the same customer over time.
  • Real Estate Prices: A company such as Iron Mountain that relies on physical storage space for customer deployments will be sensitive to rent, security, and insurance requirements related to that physical presence.

Environmental Services: These firms, including facility managers, work on the basis of contracts.

  • Contract Composition and Length of Term: Key contract types include “fixed price” (agreed upon fee per square foot), “cost plus” (reimburse wages, insurance, and add in a profit margin), and “tag” (supplemental services such as snow removal or construction cleanup). According to ABM Industries (NYSE: ABM): “Profit margins on contracts tend to be inversely proportional to the size of the contract, as large-scale contracts tend to be more competitively priced than small or stand-alone agreements.”

Q: And how do those trends translate into key financial and operating metrics?

A: Since these are all services companies, labor and operational costs are extremely important – some services lend themselves to higher profit margins than others.

Pricing and contract types, such as the ones discussed above, also influence a company’s value, as do the quality of its service and differentiators vs. the competition.

Many companies in this sector embed a large portion of their Depreciation into the SG&A expense, so you’ll have to factor that into any analysis; it’s not like an industrials or consumer company where it’s broken out separately or more embedded in COGS.

Outsourcing the Pitch Book… and the Fairness Opinion?

Q: Do you have any examples of pitch books or fairness opinions?

A: Yes. Here you go:

Emdeon: Revenue and Payment Cycle Management

Aramark: Food and Support Services + Uniform and Career Apparel

NCO Group: Outsourced Customer Relationship Management and Information Technology

Laureate Education: Training

United Rentals / RSC Holdings: Industrial Services

Q: Can you summarize valuation in the sector? Or would you like to outsource that one?

A: Honestly, valuation here is not much different from other sectors: you still see the standard multiples (EV / EBITDA, EV / EBIT, P / E, and so on) in comparable company analysis and precedent transactions; running an intrinsic valuation via discounted cash flow based on Unlevered Free Cash Flow is quite common as well.

In a few of those documents above, you’ll see references to Unlevered Net Income (which just excludes interest), but that’s more about the bank’s preferences rather than something inherent to the industry. Mechanically, you can calculate this figure as EBIT x (1-tax rate).

Overall, business services firms are as close to “standard companies” as you can get, since they all generate revenue through the sale of services.

Where to Go After Getting Outsourced

Q: Where can our readers learn more about this area?

A: Several investment banks make their sector reports and commentary available.

For a start, check out the reports issued by Capstone Partners and Childs Advisory Partners.

Q: Where do coverage bankers go to after working in this group?

A: Because the area is so broad, I see a lot of colleagues going into the industry (usually on the tech or media side of things) and even moving to startup-type companies.

Many of these “business services” have not evolved in a very, very long time (think: HR), so many tech startups are taking aim at the sector and looking to disrupt existing players.

Of course, there are also plenty of PE firms and hedge funds that also invest in this sector, so that’s always a possibility as well. But for whatever reason, I’ve seen more bankers “move into industry” here compared with other groups.

Q: Any last words?

A: As long as we’re talking about outsourcing… would you mind hitting the ‘Like’ button for this article? Thanks!

Q: Will do… thanks for your time.

A: Glad I could help.

About the Author

Luis Miguel Ochoa has facilitated a variety of strategic initiatives from corporate acquisitions to new market development. He earned his B.A. in economics from Stanford University where he was a member of the varsity fencing team.

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  1. Is working for a Business Process Outsourcing (BPO) Services Group (i.e. RR Donnelley) (along with Investment Banking/Financial Modeling training) enough experience to get into Equity Research, Investment Banking/M&A, Private Equity, or any front-office Wall Street positions, etc….?

    What is the exit-opportunities/long-term career path for Business Process Outsourcing (BPO) Services Group?

    1. Sorry, don’t know enough about the industry to say anything specific.

  2. How do you search for those pitchbooks on EDGAR?

    1. You can either do a Google search for the deal name and “Fairness Opinion” and find it like that, or look up the acquirer or target company and find filings from around the date it was announced. For example:

      Or you can look up the company and comb through its filings, though that is slower unless you find the exact right one:

      And it’s confusing because sometimes the presentations and Fairness Opinions show up in different places.

  3. Hi Brian.
    If you are already in investment banking or private equity, is there ever a reason to do an MBA? Is one ever required?
    If people do an MBA, at what stage do they do one in Investment banking or Private equity?

    Because I have heard that you dont need MBA to move from Investment banking to private equity?

    1. It’s only required if your firm expects you to have it (which is increasingly rare) or if you want to take a break and they are willing to pay for it or otherwise incentivize you to do it (which is also increasingly rare). You would come back as an Associate in IB or post-MBA Associate in PE.

      1. Thanks for the reply.
        Last question, I will finish my masters from a non target university in September . I then plan to take a year off working in an engineering firm until next September.

        After this I will do another masters from a strong target and then apply for graduate role in investment banking.

        Could taking this path hinder me in anyway against other applicants?
        Could taking a year of hurt me?

        1. Yes, both could hurt you because other candidates will have had internship experience in the meantime. You can still do that and get in, but you need to get some type of off-cycle or summer internship before or during the Master’s program to have a good shot.

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