While news around legacy on-prem telco providers has largely centered around Avaya and its recent bankruptcy filing, Mitel surprised the industry late last month by announcing it has definitively agreed to acquire rival ShoreTel for approximately $430 million.
The impetus for the unexpected move? Mitel’s announcement cites its “cloud” strategy as a primary driver for the deal. The goal in rolling up two “tels” into a single company, it seems, is to accelerate a move to the cloud for two organizations with deep roots in on-premises telephony. While both companies appear on the Gartner Magic Quadrant for UCaaS, they have played very different roles – Mitel being named a “Visionary” and ShoreTel as a “Niche Player” in 2016. In fact, Mitel breaks out its cloud product revenue, which in 2016 totaled only six percent of revenue (or $60.9M). Shoretel, however, only discloses “hosted and related services” which represent 35 percent of its business. This acquisition is a strong move by Mitel to indicate that the company is striving towards the “Leader” quadrant.
But regardless of the reported numbers, the real story is in the companies’ respective valuations. Wall Street generally rewards a premium for true SaaS businesses like Fuze, where it’s not uncommon for valuations to peak at 10x annual revenues. Slack for example now enjoys an astounding $5B market capitalization on an estimated $200M in annual revenue. Shoretel and Mitel on the other hand are currently valued at about 1x revenue, which lags even moderately fast-growing traditional software companies that fall in the 3x to 5x range. This stark contrast could hint that the acquisition may be what Mitel believes it needs to jump start valuation figures.
Finances aside, any time a merger of two legacy products gets announced, it usually takes years to rationalize the various product lines, merge technologies, and sort out sales and business strategies. Not to mention the process often inhibits growth and innovation due to the distractions and resource drain. The “tels” may be in for a steeper climb into the cloud than they realize.
Despite the initial news, this deal is an example of legacy communications companies realizing the growing demand of the cloud in an increasingly dominant SaaS world. The developers behind the new “tels’ suite of hosted, hybrid, and virtualized products will need to keep this in mind as they look toward long term success. And business strategies need to evolve to incent cloud sales, ready the business for a subscription model, and scale hosting operation. Whether this cloud strategy will pay dividends, remains to be seen.