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Changing Work And Education Trends Will Deepen The Divide Between Winners And Losers In U.S. Software, But Long-Term Fundamentals Remain Strong

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COVID-19 Impact: Key Takeaways From Our Articles

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Changing Work And Education Trends Will Deepen The Divide Between Winners And Losers In U.S. Software, But Long-Term Fundamentals Remain Strong

Software Will Fare Better Than The Broader Tech Sector In 2020 And 2021, But The Impact Will Vary Among Subsectors

The COVID-19 pandemic, the subsequent economic downturn, and changing work and education patterns are imposing wide-ranging changes across the technology industry--and the software subsector is no exception. Although we believe software will be more resilient to a prolonged economic downturn than the rest of the sector due to an increasingly subscription-focused revenue model, the impact on individual firms will vary widely. We expect that the events of this year will bolster the already substantial competitive advantage enjoyed by firms able to support clients' digital transformations through SaaS (software as service) offerings as opposed to those wedded to legacy architectures, lengthy onsite sales and implementation cycles, and on-premise applications.

Connectivity, security, and education software providers should be the best positioned to capitalize on the changes in education and the workplace. We expect that:

  • Firms that are able to provide connectivity and communications technology will benefit from increasing spending on infrastructure to support working from home, a trend that we believe will persist past the immediate COVID-19 impact.
  • Security software will grow in importance, particularly applications that can protect a greater variety of remote work environments and cloud-based applications, such as identity and access management and CASB (cloud access security broker) providers.
  • There will be strong growth opportunities for firms that support remote education as more educational institutions rely on remote learning to reduce infection risk.

By contrast, we expect that firms that are highly focused on sectors that have been affected by COVID-19--including retail, hospitality, and oil and gas--will underperform, even if they have highly cloud-dependent models. In addition, high exposure to the small and midsize business (SMB) sector will be a significant risk factor, as these firms have disproportionately borne the brunt of the slowdown so far. Nevertheless, cloud-native providers that are suffering mainly due to end-market exposure should face mostly short-term pain until the broader economy recovers. By contrast, legacy vendors could simply face an acceleration of their ongoing long-term decline, even if they have a relatively insulated customer base.

Connectivity Providers Will Benefit From Persistent Remote Working

Most companies now rely on an array of communication and collaboration tools as part of employees' daily workflows. These include email, messaging, video and audio conferencing, and IP and private branch exchange (PBX) voice calls. These services are increasingly bundled on unified communication platforms like Microsoft Teams. Given SMB's relatively modest IT infrastructures and asset bases, we have found that they have generally been faster to adopt cloud-based communication platforms. They do so to benefit from a more scalable and flexible deployment model with faster upgrade cycles and typically lower upfront ownership costs. However, the work-from-home dynamic since March has materially boosted the rate of cloud adoption among large enterprises, which have been pushed to migrate to ensure that collaboration and productivity are not hampered by lack of access to on-premise IT infrastructure.

Because we expect remote working and employee mobility to remain prevalent even after the pandemic, we believe that demand for cloud-based video and audio conferencing and collaboration tools will remain robust in the long run. This fares well for rated companies with strong cloud offerings in this market like Microsoft (Skype and Teams), LogMeIn (GoToMeeting), Intermedia Holdings (Unite and AnyMeeting), and Avaya (Avaya Cloud Office, through its recent partnership with RingCentral). Cisco and Webex will also benefit.

Table 1

Remote Connectivity Providers
Issuer Long-term credit rating/outlook Business summary Connectivity products

Microsoft Corp.

AAA/Stable Global technology provider Microsoft develops, licenses, and supports a wide range of software products, services, and devices. The company's hardware product portfolio includes PCs, tablets, and gaming and entertainment consoles. Microsoft has three business segments: Productivity and Business Processes, Intelligent Cloud, and More Personal Computing. Skype, Teams

Cisco Systems Inc.

AA-/Stable Cisco designs and sells a broad range of technologies across networking, security, collaboration, applications, and the cloud. Its Applications segment provides collaboration offerings (unified communications, Cisco TelePresence, and conferencing) as well as internet of things (IoT) and analytics software. Cisco TelePresence, Webex

Avaya Inc.

B/Stable Avaya is a leading provider of unified communications and contact center solutions and related services to global enterprises. Its portfolio includes software, hardware, professional and support services, and cloud services. Unified communications solutions help companies increase employee productivity, improve customer service, and reduce costs by integrating multiple forms of communications, including telephony, e-mail, instant messaging, and video. Avaya Cloud Office

Intermedia Holdings Inc.

B/Stable Intermedia Holdings Inc. provides UCaaS and cloud-based business productivity software to mainly U.S.-based SMBs. These solutions include email, voice and unified communications, file sharing and backup, web and video conferencing, instant messaging, identity and access management, security, archiving, and mobility. Unite, AnyMeeting

LogMeIn Inc.

B-/Positive LogMeIn Inc. provides cloud-based solutions for unified communications and collaboration, identity and access management, and customer engagement and support. GoToMeeting

Security Is Increasingly Critical As The Network Edge Expands

Security and data protection software companies with strong cloud and remote device security offerings are also likely to benefit from the migration of more workloads to public cloud environments to support remote working. The increasing share of work performed away from the corporate office, and instead through cloud-based applications, exposes firms to new and more complicated data security risks. Companies with modern offerings that support this transition should be well-positioned to grow through 2020 and beyond.

There are a wide range of security and data protection solutions that are relevant in cloud environments. These include identity access management, data governance, data backup and archiving, endpoint security across mobile devices, and network security and monitoring. We expect issuers with comprehensive and integrated solutions across public cloud, private cloud, and on-premise solutions will especially benefit from large enterprise migrations. Many customers in end-markets such as financial services will likely want to keep some workloads on-site or in private cloud environments. This is because they might need to maintain greater control over security and operations for mission-critical, sensitivity, or regulatory reasons. While this is a fragmented market, companies that stand to benefit include Ping Identity, Barracuda, InfoBlox, and Imperva. Traditional legacy enterprise security providers with substantial exposure to on-premise endpoints such as McAfee and Symantec Enterprise (now part of Broadcom) will struggle to grow, in our view.

Given the highly fragmented and startup-rich security software landscape, we expect a high level of acquisitions in the coming years. This will come from both broader communications and cloud providers seeking to build out their own native security offerings as well as legacy security incumbents targeting faster-growing areas to enhance their product portfolios.

Table 2

Security Providers
Company Long-term rating/outlook Business summary

Ping Identity Holding Corp.

B+/Stable Ping Identity provides enterprise cloud IAM security to large institutions across industries such as financial services, retail, and health care. It does so via a scalable, unified platform for users to access cloud, mobile, and on-premises applications securely. The company's products aim to reduce reliance on passwords, centralize access control, enforce data access policy, and protect sensitive identity data.

McAfee LLC

B/Stable Founded in 1987, McAfee provides both consumer and enterprise security software. A modest majority (about 51%) of McAfee's revenue comes from enterprise customers. Across consumer and enterprise, core endpoint protection software contributes a significant portion of revenue; intrusion detection, event management, and web security products account for most of the remaining revenue.

Barracuda Networks Inc.

B-/Stable Barracuda Networks Inc. provides security, networking, and storage products based on network appliances and cloud services. The company's security products include products for protection against email, web surfing, web hackers, and instant messaging threats such as spam, spyware, trojans, and viruses. The company's networking and storage products include web filtering, load balancing, application delivery controllers, message archiving, NG firewalls, backup services, and data protection.

Delta Holdco LLC (doing business as Infoblox Inc.)

B-/Stable Infoblox provides network automation solutions, with products focused on DDI and domain name services (DNS) security. The company's DDI technology, which consists of DNS, dynamic host configuration protocol (DHCP), and internet protocol address management (IPAM) allows for the efficient administration of networks by automating many of the critical processes needed to maintain network uptime. The DNS security product protects DNS infrastructure from cyberattacks.

Imperva Inc.

B-/Stable Imperva provides application and database security solutions that protect business-critical data in the cloud and on premises worldwide. Imperva's offerings protect customers' online applications and websites from security threats, with a focus on those that exploit weaknesses in application code.

Education Spending On IT Will Grow To Support Remote Learning

The K-12 education sector has lagged many other sectors in technology adoption. While we had expected K-12 schools would become more tech-enabled over time as they pushed for efficiencies and as teachers became increasingly comfortable operating with technology, COVID-19-related school closures and the shift toward remote learning have accelerated this trend. Edtech firms that provide remote learning or learning management systems (LMS)--such as Blackboard, Renaissance, and Weld North Education--have observed that their existing customer bases' usage increase significantly when shelter-in-place restrictions are in effect. Some firms are allowing existing customers to expand usage to additional students and products for free to build goodwill, which they hope will lead to new contracts when school budgets are more certain.

For edtech firms with end-markets in higher education, we view the trends more on a case-by-case basis. We anticipate that firms that provide student information systems (SIS) and financial and human resources products like integrated Enterprise Resource Planning (ERP) software (Sophia L.P. and Astra Acquisition Corp.) will experience little negative impact from COVID-19 over the next year due to the entrenched nature of the products and high switching costs.

We see more risk for edtech firms with revenue models that have campus or transactional-based revenue models. One clear example is Transact Holdings Inc., a firm that provides software that facilitates on-campus payments for university students. We downgraded Transact to 'CCC+' in April due to our expectation that disruption to higher education would lead to significant revenue declines and liquidity challenges. Less dramatically affected firms include LI Group Holdings (doing business as Liaison), which provides centralized application services for graduate students. This company is significantly dependent on student applications volume for revenue. Campuses closures, remote learning, and increased cash hoarding by consumers during these uncertain economic times could result in declining student applications. In addition, travel restrictions or changes in immigration policies could further pressure the application volume for U.S. colleges and universities.

Table 3

Edtech Providers
Issuer Long-term rating/outlook Business summary

LI Group Holdings Inc. (doing business as Liaison)

B/Stable LI Group Holdings Inc. provides application service and admissions management solutions for higher education. The products include CAS and UniCAS, admissions management solutions (Enrollment Marketing Platform--EMP, Admissions, Analytics, Time2Track, SlideRoom, and Coursework Entry), and professional services. Liaison partners with over 31,000 programs and processes 2.5 million applications each year.

Astra Acquisition Corp.

B-/Stable Astra, the combination of Campus Management and Edcentric, provides an interoperable platform that delivers a series of solutions and services for the core business of an institution's operations, including student information system (SIS), constituent relationship management (CRM), enterprise resource planning (ERP), student enrollment, institutional effectiveness planning and accreditation, course evaluation, analytics, student engagement, skill development, advancement, and workforce analytics.

Blackboard Inc.

B-/Stable Blackboard primarily sells learning management systems (LMS) to higher education institutions globally and K-12 schools and districts in North America. The company is a leading provider in the LMS market, with a sizable market share and about $500 million of annual revenue spanning the higher education, K-12, and corporate markets.

Sophia L.P. (doing business as Ellucian)

B-/Stable Sophia's offerings include its core student information systems (SIS), financial and human resources products as integrated Enterprise Resource Planning (ERP) software. Its suite of ERP software modules includes record and solutions systems for student and school administration, analytics, alumni and community engagement, and fundraising as well as other consulting and hosting services.

Weld North Education LLC

B-/Stable Weld North provides solutions to school districts primarily focused on assisting K-12 students that have fallen behind their peers, helping students with English language and literacy (about 20%), supplemental math solutions, homeschool software, and other solutions (such as matching students and teachers for virtual instruction).

Transact Holdings Inc.

CCC+/Negative Transact is an integrated payment and software solutions provider for the higher education industry. It provides software and hardware to facilitate open and closed loop transactions as well as campus security and processes payments made by students.

Firms Heavily Exposed To Troubled Industries And Aging Legacy Technologies Will Experience The Greatest Negative Impact

We expect firms with offerings that are closely tied to legacy platforms, on-premise architecture, and are reliant on perpetual license revenue models to suffer most from the downturn, particularly as license sales are likely to lag as customers delay spending on projects non-essential to shifting the workforce remote. We also view firms focused on these older platforms and delivery methods to be most likely to suffer a long-term impact from a COVID downturn, even as the broader software industry recovers, as the growth in cloud spending is an acceleration of an ongoing trend unlikely to reverse. Many of the negative rating actions we have taken so far in the software space include firms that have significant exposure to legacy technologies, such as Rocket Software and ASG Technologies Group Inc. Legacy companies with negatives outlooks include Starfish Holdco and Veritas Holdings.

We also see risk for companies heavily focused on industry verticals such as hospitality, events, retail, or energy. There is also risk forcompanies with high exposures to SMBs, though this risk exposure is more idiosyncratic. Although since the pandemic, we have downgraded several of these firms or revised the outlooks to negative, we see greater potential for them to recover with the general economy over time. Companies in this category include retail-focused providers Blackhawk Network Holdings and Aspen Jersey Holdco, oil and gas ERP provider QBS Parent Inc., and SMB-focused Eclipse Midco and Datto Inc.

Although so far COVID-19-related rating actions in the software sector have been limited compared to hardware issuers, extremely aggressive financial policy and heavy financial sponsor involvement in the software industry leave many firms with limited ability to weather a downturn, regardless of their business model and end-market exposures.

Table 4

Negative Rating Actions On U.S. Software Companies (Jan. 1 - Aug. 24, 2020)
Date Company To From Notes Business description
Default
5/5/2020

Evergreen Skills Lux S.ar.l.

D CCC-/Negative Default Learning management systems
Downgrade and negative outlook/CreditWatch
3/20/2020

SuperMoose Newco Inc.

CCC+/Negative B-/Negative Downgrade with negative outlook Public safety and public administration software
3/26/2020

Cvent Inc.

CCC+/CWDev B-/Stable Downgrade with CreditWatch developing Event planning software
6/19/2020

Oracle Corp.

A/Negative A+/Negative Downgrade with negative outlook Application software
Downgrade with stable outlook
4/6/2020

Blackhawk Network Holdings Inc.

B-/Stable B/Stable Downgrade with stable outlook Gift and prepaid card payment network
4/6/2020

BY Crown Parent LLC

B-/Stable B/Stable Downgrade with stable outlook Supply chain management software
4/28/2020

Rocket Software Inc.

B-/Stable B/Negative Downgrade with stable outlook IT infrastructure software--mainframe/legacy
5/27/2020

ASG Technologies Group Inc.

B-/Stable B/Stable Downgrade with stable outlook IT infrastructure software--mainframe
Outlook revision to negative or CreditWatch negative
3/25/2020

QBS Parent Inc.

B-/Negative B-/Stable Outlook revised to negative Oil and gas industry-focused ERP
3/30/2020

Vmware Inc.

BBB-/Negative BBB-/Stable Outlook revised to negative Infrastructure software
3/30/2020

Project Silverback Holding Corp.(doing business as Sparta Systems Inc.)

B-/Negative B-/Stable Outlook revised to negative Quality management software--medical and pharmaceutical
4/6/2020

Solera Parent Holding LLC

B-/Negative B-/Stable Outlook revised to negative Automobile insurance claims software
4/9/2020

Aspen Jersey Topco LLC

B-/Negative B-/Stable Outlook revised to negative Retail merchandising and point-of-sale software
4/14/2020

Eclipse Midco Inc.

B-/Negative B-/Stable Outlook revised to negative SMB-focused ERP software
4/16/2020

Starfish Holdco LLC

B-/Negative B-/Stable Outlook revised to negative Data management software
4/20/2020

Procera I LP

B-/Negative B-/Stable Outlook revised to negative Network intelligence software
4/21/2020

Veritas Holdings Ltd.

B-/Negative B-/Stable Outlook revised to negative Data management and backup software
5/1/2020

Datto Inc.

B/Negative B/Stable Outlook revised to negative Data management and backup software

COVID-19 Will Accelerate Ongoing Trends And Sharpen Contrasts, But Software Broadly Will Continue To Grow

The software industry continues to transition to cloud-delivered subscription based business models, and the impact of increasing remote work and education has only accelerated that transition. We expect the divergence in performance between cloud-native and legacy software providers to accelerate beyond what we had expected going into 2020, and companies with compelling connectivity, security, and education-related offerings will see a growing opportunity set. Although providers with oversize exposure to industry verticals hit hard by pandemic effects will likely see near-term pain, we generally expect them to recover as long as they can adapt to the new enterprise IT architecture and deliver and support their products remotely. While most of investment-grade software companies have ample balance-sheet strength to weather this transition, increasing leverage at sponsor-owned firms will give companies poorly prepared for the post-COVID world little room to adapt.

This report does not constitute a rating action.

Primary Credit Analyst:James W Thomas, New York + (212) 438-0181;
james.w.thomas@spglobal.com
Secondary Contacts:Ejikeme Okonkwo, CFA, New York + 1 (212) 438 1706;
Ejikeme.Okonkwo@spglobal.com
Mia Tang, New York + 212 438 0438;
huimin.tang@spglobal.com

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