We’ve been studying Constellation Software and vertical market software acquisition platforms for over 8 years. The company acquires mission critical software companies for ~5-7x EBIT and has decades of operational experience and data to drive superior returns. CSI has compounded FCF at over 25% for 23 years.

Our research on Constellation Software has aimed to understand how it operates the assets, how smaller CSI replicas can scale and compete, and the long-term VMS M&A runway. This is a roundup of some of our CSI research with details on how we covered each topic:

  1. Constellation Software: A Competitive Analysis: why and how there are over 30 CSI replicas and how it may impact CSI organic growth and ROIIC
  2. Constellation Software: Operating KPIs: the 5 internal KPIs CSI uses to measure subsidiary operating performance. 
  3. Halma, Danaher, CSU & Serial Acquirer Org Structures: comparison of serial acquirer org structures and why CSI is unique. 
  4. Topicus, Transdigm and Value-Based Pricing: how Topicus vs TDG deploy value-based pricing 
  5. Constellation Software: Altera Acquisition Analysis: evaluation of how CSI can add value with large acquisitions and potential customer churn issues at Altera 
  6. Constellation Software Company Learning Journey: a curation of all our work on CSI including M&A, organic growth, org structure, runway, and culture. 
  7. Topicus vs TSS: Culture and Organic Growth: how TOI drives organic growth and why it is unique vs TSS / CSI
  8. Investor Dialogue: Valuing Constellation Software & Lumine Spin: how to value Lumine and other CSI spins 
  10. Vitec Software: History, Culture, & Operating Strategy: how Vitec organizes its subsidiaries vs CSI and differences in operating strategy 
  11. M&A Accounting: Constellation Software, Vitec, Lifco, Lagercrantz, & Teqnion: how different acquirers account for goodwill and intangibles and impact on the balance sheet and income statement

Last year, we studied the VMS acquirer landscape and found over 34 CSI replicas, many founded and run by Former CSI executives. We spoke to various competitors to understand strategic differences and the potential impact on CSI organic growth and ROIIC:

In Practise Research, VMS Competitive Landscape

One interesting comment was that CSIS incremental acquisition is declining in quality given the increase in competition willing to pay higher prices for growing VMS: 

‘The next 700 companies Constellation acquires will be materially lower quality than the previous 700’. - Former CSI M&A Director and Current Managing Director at private VMS Consolidator

This risk came up from multiple executives: 

“Another risk is the quality of software businesses Constellation buys, which has declined on average since I was there. That doesn't show itself in the first few years; it shows up much later. These are businesses with antiquated legacy software with a handful of customers, which is like buying an annuity stream or a mine which gets mined dry over time. The risk there is their organic growth rates are not great. If that turns negative at some point, it will be a challenge to manage.” - Constellation Software Competitive Risks

We explore the impact of increased competition and many more topics in this piece:

IP Research: Constellation Software Competitive Risks

While CSIs reported filings break revenue into license, PS, hardware, and maintenance revenue, its reported costs are bucketed mainly into staff costs, which accounts for 70% of total expenses. This isn't how CSI operates its subsidiaries; it carefully looks to assign all cost items to a corresponding revenue line. CSI splits every dollar of cost into 5 buckets: Professional Services (PS), Maintenance, Sales, R&D, and G&A. This standardizes the P&L of every opco to better compare performance across the group:

CSI own 900+ software businesses which gives them an amazing bank of data to work out what good or rubbish looks like and can share best practices. They know who is the best at professional services so they can teach the rest of the group. Such a spread allows them to have core KPIs for software businesses in all sectors. They can look through the same lens to measure the efficiencies of professional services and support teams, and cost of R&D, G&A and sales and marketing. They can tag every individual and pound spent or made into those five buckets, and know professional services revenue should be this ratio of professional services spend. That's what it should be, which means they can immediately spot weak spots in target businesses. - Former M&A Executive at CSI 

This research breaks down each KPI and explains how each cost line item relates to a revenue $1. 

To our knowledge, CSI is the only company to have scaled the number of acquisitions without materially increasing the median acquisition size. Mark Leonard was organising CSI for scale back in 2017:

"When I look at the current generation of Portfolio Managers, I see some that have the potential to be exceptional managers and capital deployers. While that bodes well for continued growth, there aren’t enough of them to get us the ten-fold growth that we’ve had in the last eleven years. To generate that sort of growth, we need more Portfolio Managers and they need to be as competent as our current Operating Group Managers. That’s a tall order. It will require an intense training and coaching effort with our existing Portfolio Managers, possibly some outside hires into Portfolio Manager roles, and the acceleration of some existing BU Managers into Player/Coach and Portfolio Manager roles." - Mark Leonard, 2017 

Since this comment, CSI has scaled from 40 to over 130 transactions per year. This research explores how acquirers are organised to scale and compares CSI to leading industrial acquirers such as Halma and Danaher. 

Scaling small acquisitions is the hardest task to solve for serial acquirers. It’s a human and organisational problem rather than a business model or financial problem. Although it seems like CSU has found a solution, it’s hard to understand exactly how. From the outside looking in, it’s unclear how each Operating Group is organised. We couldn’t find an org chart and nor a detailed perspective description of how each Operating Group is organised. This is likely for a reason; Leonard is organising CSU to filter the Group’s FCF to the best capital allocators across all BU’s. And this likely requires a more fluid structure than a company like Danaher. - IP Research

We also explore how different underlying assets enable greater scalability in this model:

one limitation could be the type of underlying companies Halma acquires. For example, Halma owns a gas detection business selling portable monitors to oil and gas customers and a cardiovascular business ambulatory blood pressure monitors. The range of expertise and knowledge of technical products, customers, and end markets makes it very difficult for opcos to stay ahead of the curve without an experienced opco CEO with full P&L ownership. It’s also difficult for CEO's up the chain, the Divisional CEO and the Sector CEO, to fully understand each potential acquisition. On the other hand, Vertical Market Software businesses are not only higher quality companies, but also seem easier to manage and understand. This lends itself to a higher velocity of acquisitions. - IP Research

Value-based pricing is as it sounds: price products based on the value you provide, not the cost of the product. Our interview with a Former Managing Director at TSS explores how VMS founders perpetually underprice their products and the concept of value-based pricing:

A lot of software companies, in their contract, in small print, say okay, we can change the price at the indexation rate. Indexation is maybe 1% or 2%. But they are building newer software, with more added value and that added value is actually worth money to the customer. If you do not charge them for that added value, for the new functionality into the ERP system, then you are actually giving them a present. I truly believe that most of the VMS companies are underpriced. - Former Director at TSS

We also compare the value-based pricing strategies between CSI and TransDigm:

A common critique of CSI is that it is a ‘graveyard’ for software companies and lacks organic growth. Over the last 15 years, CSU organic revenue growth has averaged ~1% per year yet FCF per share has compounded at >20% CAGR. Maintenance organic revenue CAGR is higher at ~5% per year. 

In various interviews, we explore the philosophical and operational approach to organic growth at Topicus vs TSS. We explore the differences in the culture of the two entities and how this changed post-merger. We focus on how the tools to drive maintenance organic growth and how to measure R&D effectiveness:

The point is that if you start something new, a new business line, you first have to build it. So you have a sort of lead time. You start investing, and then it takes, I don't know, let's say three quarters to build a serious system, and then, I mean, that's okay. The IRR sort of survives that, but then you get a period of, I don't know, three, four, five years that you have to build up market share. And that is important. Those sorts of costs were sort of absorbed by Topicus. I don't know how, but we managed. And each year we said, the growth is not going as fast as we hoped, but there are still signs that we are okay. And then after five years, usually, things turned out to be okay. But if you do this IRR calculation, all the revenue that you make in year six doesn't matter as much. - Former Managing Director at Topicus

This dialogue with 5 professional investors, including current and former CSI shareholders, explores CSI spins and how to value Lumine:

If you look at WideOrbit, at Lumine, that looks quite different from a lot of acquisitions that I have seen Constellation do. You look at the headline EV, in that deal, but you look at what is really implied, in terms of the dilution when Lumine trades at twice what the guys have marked it at. It’s a pretty punchy multiple for what is a low-growth business, with reasonably high margins already. Maybe they can get a lot more but it’s just quite different to what they have done, historically. It will be a very interesting case study. - IP Investor Dialogue

And other interviews on the differences in Lumine assets vs TOI and CSI:

All of our existing CSI work is curated into a company learning journey which covers the following:

Constellation Software Company Learning Journey

On May 2nd 2022, CSI made its largest acquisition ever, acquiring Allscripts’ Hospital EHR business for $725m. The transaction was financed with ~50/50 debt and equity, making Allscripts the second LBO conducted internally at CSI after Acceo in 2018. 

As we’ve previously discussed, increased competition and the law of large numbers is pushing CSI into acquiring larger assets. In 2023 YTD, CSI has deployed a record $1.9bn into acquisitions, with $1.4bn into assets with an enterprise value over ~$200m. This includes Orbis Blue for $700m, Wide Orbit for $500m, and ~$200m for Empower.

We’ve spent 6+ hours interviewing Former Allscripts and Altera executives to understand drivers of Altera’s Y1 performance and the long-run opportunity in larger acquisitions. This research summarises our learnings:

We’ve also covered Vitec, a Swedish VMS acquirer, to understand how it organises and operates its companies differently to CSI. We explore why Vitec pays a premium to CSI, how it drives organic growth, and the mix of decentralised vs centralised responsibilities. 

Shareholders probably expect them to look at both the cost side and how to grow the profit. They have also taken a more active role in developing the companies. The main reason for this is that the companies they're buying started developing their systems between, let's say, 15 and 25 years ago. A lot has happened in software development over the past five years, and for a small company, keeping up with these changes is a significant investment. - Former Director at Vitec Software Group

Here is a Vitec acquisition case study:

And various interviews on Roper and its VMS M&A strategy. 

We also cover Visma, a ~$2.5bn revenue private vertical market software acquirer based in the Nordics. The company was founded in 1996 and has made nearly 200 acquisitions focused mainly on faster growing niche SME SaaS companies.

Visma completed 32 acquisitions in 2023 and over 40 in 2022. The business has a very different operating philosophy compared to Constellation Software. It buys different assets and deploys a very different operational strategy post-acquisition.

This interview with a Former Director and Board Member of Visma explores how the company has scaled, how and where it centralizes resources, and the M&A policy. There are interesting parallels to draw compared to CSU. For example, Visma has experimented with internal consulting businesses and now an AI development team that aims to serve portfolio companies. Decentralisation lives on a spectrum. Almost all acquirers centralise some services. How and when services are centralised is a topic of exploration for us across the top acquirers this quarter.

Finally, we explore the M&A accounting practices of CSI compared to other software and industrial acquirers.

Purchase Price Accounting (PPA) can provide a small but fairly accurate lens into management’s principles. Such accounting policies typically fly under the radar as companies direct investors to EPS or EBITA. PPA can set apart conservative and aggressive companies; those with an eye to massage EPS versus those with rigor. It can also help explain a company’s operational philosophy; the synergies and value-add the parent believes it can add post-acquisition. We share our learnings from multiple conversations about acquisition accounting with public company CFO’s of software and industrial serial acquirers over the last month. We discuss the methodologies of companies such as Lifco, Teqnion, Lagercrantz and software acquirers such as Constellation, Vitec, and Visma. - IP Research
IP Research
IP Research
IP Research Analysis
March 20, 2024

M&A Accounting: Constellation Software, Vitec, Lifco, Lagercrantz, & Teqnion

IP Research
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Further Research Questions we’re exploring

  • How CSI approaches organic growth 
  • How CSI uses First Chicago method to model M&A
  • Vitec organic growth strategies and R&D spend allocation 
  • CSI M&A Case Study: post-acquisition operational changes