Gamma Communications: half technology, half telecoms business.
Introduction
Gamma is a leading B2B communications provider operating in the UK and Europe. It was established in 2001 through the acquisition of the network assets of Atlantic Telecom and began trading as a provider of voice telephony in 2002. The group’s early investment in next generation telephony services positioned them well for the transition away from traditional public switched telephone networks (PSTN) networks that was taking place.
Over the years the group has added capabilities, both through internal development and acquisitions, enabling it to provide the full range of communication solutions required by companies.
It sells three primary types of products:
Cloud based communication solutions: these include unified communication solutions (UCaaS) which enable customers to combine multiple types of communication under one product and customer experience/contact centre tools (CCaaS).
Voice enablement: the group provides the technology, and access to the network infrastructure that enables other companies to voice enable their products.
Connectivity: broadband, ethernet and mobile.
Why the opportunity exists
I think there are several reasons behind the recent share price underperformance, some of which are unrelated to the fundamentals of the business.
Main market move – Gamma moved from the AIM to London’s main market on the 2nd of May. This has had an effect on the share price as AIM focussed funds were forced to sell.
General UK malaise – the general weakness affecting the UK market is also likely to be a factor behind the weak share price performance.
Delays to PSTN switch off – I will go into more detail on this later, but the delay in switching off the fixed, copper line, phone system in the UK is preventing UK businesses from having to make the switch to cloud based solutions.
Weakness in the German market – Gamma has invested significantly in its German operations, but the well-publicised macroeconomic issues facing the German economy could be dampening investor’s optimism.
Recent trading update – the recent trading update contained a reference to the softening of the UK market. This caused the share price to drop by 12% in a single day and was the point at which I decided to buy.
Investment Summary
Increasing communication requirements – Changes in working patterns and advances in technology are driving increasingly complex communication requirements. Where once, chat features would have been seen as sufficient, there is now demand for voice, video, and integration between internal and external communication. This complexity is driving growth for Gamma, with more advanced solutions providing significantly higher ARPU. This trend should continue with increasing normalisation of hybrid working and further advances in communication technology.
German market opportunity – The German communications market is the largest in Europe but has the lowest penetration of cloud-based communication. Gamma sees this market as being similar to the UK a decade ago, but with significantly larger potential size. Whilst a weak macro backdrop and other more unique hurdles are stymying growth at the moment, I would expect these factors to begin to ease, with Gamma in a strong position to capture the potential upside.
PSTN switch off – Whilst delays to switching off the fixed copper telephone system are one of the factors behind the recent share price weakness, they also still present an opportunity for investors. Originally scheduled for December 2025, the date has now been set for January 2027, with all businesses required to move to digital solutions by then. I expect Gamma to capture a significant percentage of transitioning users; driven by the relevancy of its solutions to small businesses and its network of channel partners capturing share in this area of the market.
Unique relationship with large technology companies – Gamma has a unique relationship with the large technology companies, including Microsoft, Cisco and Amazon. By providing the services that they have no interest in providing, including number routing, and by allowing access to their network infrastructure, they are able to occupy a niche that is insulated from their competitive effects. In addition, Gamma’s network of channel partners gives the large tech companies deep access into local markets, in turn providing these end users with access to the latest technology.
Network carrier capability – Gamma has its own network, operating a hybrid model where they own their own core infrastructure, but partner with other providers for access to their fibre. This is attractive for Gamma as it provides them with the control required to offer quality of service within cloud communications, whilst enabling them to maintain a capital-light business model. Strict Ofcom regulations, which prevent price gouging by fibre operators, ensure that Gamma has access to this infrastructure at a fair price.
Strong network of channel partners – Gamma is a channel first business, meaning it sells the majority of its products and services through its partnership program. This is a significant competitive advantage for the group as it provides them with deep access to local markets, something that it would be unable to compete with directly. Gamma’s larger competitors have ceded control of this route to market through under-investment, and its smaller competitors lack the scale and breadth of offerings to compete.
An agile business with an entrepreneurial mindset – Gamma is a much more operationally simple business than its large telecom competitors. Focused only on B2B communications, rather than its competitors who generally have consumer arms, it is able to concentrate specifically on this market. Combined with its entrepreneurial mindset, Gamma can take advantage of these changing market dynamics, either through internal investment or acquisitions, and remain ahead of its competitors.
Increasing complexity of communication requirements
Changes in working patterns and advances in technology are creating the need for more complex communications solutions. This provides an area of growth for Gamma, who are able to up-sell their current customers on more complete solutions which in turn have a higher ARPU.
Gamma sells products aimed across the entire business landscape; from its PhoneLine+ product, aimed at micro businesses, to its Smart Agent product, aimed at Enterprise customers. As the size of the business increases, so too does the complexity of its communication requirements. For this reason, this trend is particularly prevalent in the Enterprise and SME segments.
The increase in hybrid or at home working that has taken place, particularly since the pandemic, has changed the communication requirements for companies. In 1981, just 1.5% of employees worked from home. By 2019 this number had climbed to 4.7%, before growing exponentially during the pandemic to 46.6%, and now settling around 13%. Hybrid working has also become more commonplace, increasing from below 10% in January 2021 to nearly 30% in October 2024.
This change in working patterns has had a significant effect on internal communication requirements within businesses. Where once it would have been possible to turn around and talk to a colleague, employees are now dependant on technology to bridge this gap. Face-to-face meetings have increasingly moved to video and features such as chat have become widespread. Microsoft Teams, the most popular business communication platform, has seen its user numbers jump from 2mn in 2017 to 320mn in 2024.
Within customer facing businesses, the challenge of remote working becomes even more acute. The complexity of external communication; allocating calls, dealing with customer enquiries, and ensuring effective outcomes become significantly harder when performed remotely. Against the backdrop of higher customer enquiry volumes and greater expectation around the quality of service, it is easy to see why getting this right is essential for companies. These challenges require the use of more advanced solutions and are helping to drive the greater complexity requirements Gamma is seeing.
Advances in technology and changes in customer expectations are also helping to drive the growing complexity of requirements. Within internal communications, or UCaaS, access to features such as video, chat and calling through one product are now seen as standard. There is also now demand for additional features, with integrations from 3rd party services such as WhatsApp becoming increasingly popular.
For external communication, or what Gamma refers to as CCaaS, customers interacting with a business now expect an omnichannel experience. This requires that businesses unify diverse channels, such as Instagram and direct messaging, to ensure they can deliver a consistent customer experience. Within CCaaS, advances in technology are helping to drive greater efficiencies and improved quality of service, pushing them towards more complex solutions.
There is also a trend taking place towards integration of both UCaaS and CCaaS solutions. The benefits of this can be significant improvements in productivity, with agents able to connect to in-house experts without switching to different systems. The integration of these solutions, however, is complex and requires significant expertise in this area.
As part of the trend towards more complex communication solutions, Gamma also expects customers currently using their SIP product to voice-enable a hardware PBX to transition to a cloud-based solution. The wholesale ARPU from a SIP customer is around £1.25 per user, this can double if they migrate to a Teams solution and increase further if they use one of Gamma’s own offerings. This trend is taking longer than expected to materialise because hardware PBX systems remain more feature rich than their cloud-based alternatives. Once this changes, we should expect to see an acceleration in this trend.
The effects of greater complexity on ARPU becomes even more noticeable as we move further up the technology stack. The list price for Horizon, for example, is £7.95, this increases to around £23.95 for an Enterprise grade Webex solution. Whilst Gamma doesn’t list the ARPUs for each of these products individually, they are significantly higher than the current revenue from a single SIP customer.
One final point worth mentioning is that as the level of complexity grows, Gamma increasingly sees its challenge as the knitting together of different solutions. For this reason, they are now coming into competition with the large systems integrators and even working with them at times. I think this growing complexity is an advantage for Gamma who have always specialised in simplifying solutions for their channel partners and end customers.
Growing German market opportunity
Gamma believes that the German cloud communications market is at the same point as the UK market 10 years ago, but that its larger overall size means it presents an even greater opportunity.
The German market is the largest business communications market in Europe but has the lowest penetration of cloud-based communication solutions. Germany has garnered a reputation for slow uptake of new technology, with rates of mobile and broadband adoption behind that of other European countries. According to Cavell, the German market presents a potential for 25 million cloud communication users, yet currently only 4.75mn (as of Jan 25) have made the switch, a penetration rate of just 19.1%.
There are several reasons for this including a cautious and risk-averse business mindset, poor broadband infrastructure, a fragmented vendor landscape, and a mistrust of cloud-based solutions. The current macroeconomic struggles that Germany is experiencing, caused by high energy prices, overexposure to China and excessive regulation, have also affected businesses’ confidence and their desire to invest in new technologies.
There are signs that some of these headwinds are beginning to ease. The risk-averse business mindset is unlikely to change, but as the capability of cloud-based solutions outstrips traditional on-site PBX systems and become more commonplace, business leaders will be forced to take notice. The realisation that businesses will need to digitise to remain competitive should also drive uptake, with Germany pushing its ‘Digital Strategy 2025’.
Germany’s poor broadband infrastructure is beginning to improve, with 2bn euros invested in expanding the fibre optic network in 2022, and another 1.2bn allocated for 2025. Growing consolidation within the German communications market is also helping to improve the quality of solutions available to businesses.
The German market’s preference for on-premise solutions over cloud-based is driven by the former being seen as more secure. Gamma has approached this unique challenge by acquiring Starface, which allows customers to take a hardware-based solution that can then be easily transferred to the cloud later on. Cloud solutions have lower initial revenues because of the lack of hardware, but higher lifetime values.
Finally looking at the macroeconomic issues facing Germany, there are signs that these are beginning to ease. Goldman Sachs has predicted that the economy will expand by 0.3% in 2025, although this was before the introduction of tariffs and the destabilising effects these have had. Either way it would be sensible to expect further disruption in the short-term, but hopefully an easing of pressures in the long-term.
Another strong driver for cloud-based communication in Germany is the change in working patterns. Just like the UK, hybrid working has become more commonplace, with 24.5% of employees reporting working from home at least part of the time. A survey of European company leaders by Cavell, reports that hybrid working is one of the top 3 factors in moving to more advanced, cloud-based solutions.
Perhaps uniquely, in Germany the levels of cloud penetration are highest in micro businesses, where penetration rates are above 25%. The greatest opportunity, however, lies in the ‘Mittelstand’, Germany’s mid-market segment. This is made up of 3.1 million small and medium sized enterprises, 99.4% of all German firms. These businesses are heavily reliant on on-premise and hybrid solutions but there is evidence that there is increasing appetite for more advanced, cloud-based solutions.
In terms of the size of the opportunity, forecasts by Cavill suggest that the number of users could reach 10.4mn by the end of 2028. Gamma admits that this is probably somewhat optimistic, but even if the number of users only reaches 8mn by 2028, it would still give the market a CAGR of just shy of 11%. Gamma currently has 311,000 cloud PBX seats in Germany, giving it a market share of just shy of 6%.
Source: Gamma FY24 Results Presentation
The final point I want to touch on in terms of Gamma’s German opportunity relates to scale. Gamma believes that their recent acquisition of Starface gives them scale in the market for the first time. Scale is important for cloud communication providers for several reasons. Firstly, in terms of economies of scale, larger providers are able to spread their network infrastructure spending across a larger number of seats. Secondly, providers with greater amounts of infrastructure can generally offer better service levels. Finally, given the risk-averse business mindset we touched on above, businesses in Germany are likely to prefer a supplier with a track record of successful implementation.
“…scale matters. So why have we been so excited about the fact we've now got scale in Germany? Because all of the businesses, KPN, and Enreach, who are doing well in the Netherlands, they've got scale” – Andrew Belshaw, CEO
For these reasons, I think Gamma is well placed to take advantage of the growth in this market. That said, the German market has stringent compliance and data security regulations, so it is likely to present its own range of challenges.
PSTN switch off in the UK
The Public Switched Telephone Network, or PSTN, is the traditional analogue phone system in the UK. Reliant on copper lines running underground, it has increasingly proven itself to be unsuitable for the demands of modern communication. For this reason, BT made the decision to switch off the network and transfer everyone to digital solutions.
I mentioned the delays to the PSTN switch off as one of the reasons behind the lower share price. This is because the switch off was originally planned to take place in December 2025. However, owing to concerns over the challenge of migrating to an entirely new system, the switch was delayed until January 2027. Given there has been talk of this taking place for some time, the latest delay may have been the final nail in the coffin for investors.
The benefit of this for cloud-based communication providers such as Gamma are clear. There is no option to continue using the legacy infrastructure, meaning thousands of businesses will have to migrate to newer technology.
Gamma sees the greatest opportunity in the micro-business segment. These users are the most reliant on the current ISDN lines and have some of the lowest levels of penetration for cloud-based solutions. Working in a micro business myself, I know how much inertia there is towards switching to new technologies. The PSTN switch off therefore creates a rare scenario that accelerates the migration to cloud solutions that would otherwise have taken many years.
The level of opportunity this creates, particularly within the micro business landscape, will be varied. There will be some at the bottom end who simply want to voice enable a hardware PBX, and there will be some who want to take advantage of the opportunity to significantly expand the scope of their communication solutions. This will create a diverse range of opportunities for Gamma in terms of ARPU.
Other services, such as lifts, alarms, and payment processing systems, are also reliant on the old copper PSTN lines. Given the essential nature of these services, customers will need to be aware of the other areas that may be affected in the switch off. Gamma has developed its own IoT solution which it believes will be an effective solution to these problems and could allow it to take share of a much larger market than it currently has.
One concern I do have relating to the switch off is whether Gamma will be able to capture those customers who are switching. Just under half of UK PSTN users are BT customers, and whilst the exact percentage of business customers using BT is not disclosed, it is likely to represent a significant amount. This makes them ideal targets for direct sales efforts from BT, with most small businesses unaware of the availability of other solutions. Having handled this transition for a small company myself, we were approached by our supplier (Virgin) directly and ended up taking a voice enabled MS Teams solution through them. If Gamma is able to capture a significant number of these customers, the stickiness of telephony and the inertia that customers exhibit towards it, means they will gain access to a consistent and enduring source of revenue.
Unique relationship with large technology companies
Partnerships between large technology companies and telecom companies are common in the cloud communications market. Vodafone work closely with RingCentral, Virgin partner with 8x8, and BT provides voice enablement of MS Teams. Gamma itself works with several of these technology companies including Microsoft, Cisco, Ericsson-LG and Amazon.
These partnerships exist because service providers such as Gamma occupy the bottom end of the technology stack required for UCaaS and CCaaS communication. Looking at UCaaS as an example, Microsoft produces its collaboration platform, Teams, but then requires a provider like Gamma to voice enable the platform. Gamma says that these large tech companies have made it clear they have no intention to provide these services themselves.
There are several reasons why this area of the market is, and will remain, unattractive for the large tech companies. Firstly, they fall outside the core competencies of these businesses. Running a telecoms business requires specific technology and knowledge of number provisioning and routing, something that a Microsoft or Amazon doesn’t have. Secondly, there are complex regulatory burdens within each country. Thirdly, running a hosted PBX or SIP service requires significant investment in network grade infrastructure, something which most tech providers would be unwilling to invest in. Finally, these services are lower margin and highly competitive, in contrast to the high-margin, recurring software revenue generated by the large tech companies.
Gamma occupies a unique position between the large technology companies, such as Microsoft and Cisco, and its large network of channel partners. This creates a powerful feedback loop where large technology companies want to work with Gamma because of the scale of their distribution reach, and channel partners want to work with them because they have access to the large technology companies.
We have mentioned Microsoft Teams several times already, the reason being that it is by far the most widely used UCaaS platform. User numbers have increased from 2 million in 2017, to 320 million in 2024. It is also a good indication of the value that Gamma brings to a company like Microsoft. Gamma have been working with Microsoft for over 20 years and was one of the first companies chosen to provide direct routing on MS Teams. Since then, they have moved towards operator connect for Teams and are now the 4th largest provider globally.
Looking at the number of Gamma voice enabled Teams users, the number has grown from 124,000 in FY21, to 481,000 in FY24, a CAGR of just short of 57%. Given that the research firm Cavell expects Teams to have a 41% share of the market by 2028, this creates a significant opportunity for Gamma to share in the explosive growth of another solution.
Gamma will also often build technology that integrates with solutions from other providers. This can be technology that ‘sits’ on top of another solution such as Horizon with Webex, leveraging the different strengths of the two offerings. It can also be technology that enables them to perform tasks such as calling. We have already looked at voice enabling for Teams, but Gamma provides the same solutions for Webex (Cisco).
“Cisco is deepening our relationship with Gamma, delivering cutting-edge AI-powered Webex collaboration solutions.” DP Venkatesh, Chief Growth Officer at Cisco Collaboration
This niche is an attractive segment of the market simply because it is also unattractive. Gamma takes a small percentage of the revenue generated from these products to perform a service that these companies do not wish to perform. In addition, I believe that their preferred status with the largest and most successful tech companies is a result of their uniquely deep partnership network and their adaptability in working with new technologies, both of which I will explore in more detail below.
Network carrier capability
One of Gamma’s key competitive advantages is the fact that they operate their own core network. This means that they own aspects of the core infrastructure such as voice switches and SBCs, but rely on third parties such as CityFibre and Openreach to provide access to the fibre network. This hybrid model allows them to remain capital light whilst maintaining a degree of control over their network performance.
Most importantly, however, owning their own core network enables Gamma to deliver quality cloud communications. Whilst in other areas of cloud computing, location and proximity may be of little additional value, in cloud communications the quality of voice and video calling is dependent on the effectiveness of the network. By operating the switches and routing themselves, Gamma can prioritise communication traffic and reduce packet-loss and jitters. Proximity between customers and network nodes also reduces latency, creating better audio and video experiences.
“In other words, the best-in-class cloud communications providers sometimes have to think, and act, like classic phone companies. This means building their own networks rather than relying solely on Internet capacity the way too many cloud operators do.” Jeff Slater, Senior Director at RingCentral
Security, something which is becoming increasingly important for clients of cloud communication, is another factor that is enhanced by operating your own network. Carriers are able to control access to the network, manage factors such as segmentation, operate their own firewalls, and provide round the clock monitoring of network traffic. The ability for Gamma to control this process end to end gives them an advantage in this area.
Gamma itself has won contracts simply because they operate their own network. They have also seen competitors lose contracts because they don’t, with one example of a company whose solution simply didn’t work in the pilot stage. Whilst this is an extreme example, the reliance of modern businesses on remaining connected, means they are likely to choose a provider who can guarantee connectivity. This becomes especially important when we throw cloud communications into the mix, with businesses reliant on network access for the entirety of their communications. Gamma has introduced several fail-safes, such as different routing options, that enable them to achieve 99.999% availability.
“Gamma is a carrier. We have a network in the UK. We have a network in the Netherlands, and Spain, and in Germany as well, which means we can do voice enablement, which means if we are selling a communications platform, we can provide numbering on that platform. We can carry the calls. I've got an example of where we won some work this year on the back of that capability.” Andrew Belshaw, CEO
I think that Gamma’s hybrid model, where they own their own core network but lease the fibre, gives them the best of both worlds. Openreach (BT Group) is the dominant fibre operator but is governed by strict Ofcom regulations over how much they can charge. Typically, they must offer the same prices to all ISPs, including their own retail arm, and are therefore unable to generate monopoly profits. One the other side, owning their own core network allows Gamma to maintain a higher QoS than certain other competitors. The importance of this is also likely to grow as security is seen as a greater area of focus in the future.
Strong network of channel partners
The majority of Gamma’s sales are made ‘indirectly’, meaning that they don’t interact directly with the end user. Instead, they sell through channel partners, with the majority of small and medium sized businesses being served through this route. In the UK the majority of channel partners are resellers, who are themselves regulated telecoms providers, and own the contract with the end user. In Europe the majority of channel partners are dealers, where Gamma owns the contract, but they take a commission.
This network of channel partners creates a deep distribution reach in each of the countries that Gamma operates in. This access to thousands of small businesses is what makes Gamma so attractive to the large technology companies, who have no interest in managing a similar network themselves. On the flip side, Gamma’s scale and access to larger businesses, is something that small local providers are unable to compete with.
Reselling cloud telephony and broadband is ubiquitous within the industry, with all of Gamma’s main competitors including BT, Virgin Media, and Vodaphone O2 all offering some kind of partnership program. Because the majority of SMEs prefer to work with smaller resellers, who are able to better understand their specific needs, it makes more sense for companies such as Gamma to outsource this area of the market.
This dynamic means there is as much focus on what matters to the channel partner as the end user. Whilst quality of service and the availability of features therefore remain important, this brings a host of other factors into the mix. Reseller margins are one of these, especially as it is often challenging for partners to earn good returns on hosted telephony/UCaas contracts given the level of competition. The nature of partnership programs is another important factor, dictating how resellers actually sell the services to customers; options include referral schemes (one-off commission), partnerships (one-off/recurring commission), and white-label solutions (resellers own the contract). The final factor that a lot of resellers focus on is how easy it is for them to work with these providers, in particular the level of support that they have access to.
“Customers don't [care] what you're selling. They care about the service. If you hire a builder to put up an extension, does it matter if they use DeWalt or Milwaukee tools? Just sell the service you provide, and that also gives you room to swap it out of you don't like it.” MSP Business Owner
Unlike a number of its competitors, Gamma is a channel first business. This is an important factor in an industry where resellers are sometimes undercut by larger competitors. Their success is built around being flexible and easy to work with. They offer a number of different partnership models, from simple referrals to large wholesale contracts, making it easy for resellers of all sizes to work with them. Gamma’s white-label solution also provides a billing platform for partners to use, further simplifying the process for them.
“Gamma don't sell directly to end clients, so there's never any question over competition. I have seen BT undercut their partners before.” MSP Business Owner
One of the benefits of channel first providers, and a reason they are preferred by resellers, is they invest much more heavily in their channels. Gamma has recently implemented a new service where partners can outsource all of the customer engagement to them. This allows resellers to move much more quickly into new technologies and scale in the market much faster. They have also invested heavily in their channel partner platform, allowing partners to easily customise offerings for their customers on the platform. Gamma also runs what it calls the Gamma Academy, training channel partners in the latest technology.
The breadth of Gamma’s offering and the relationships with the large technology companies is another driver of channel success. Their portfolio includes technology and services from companies such as BT, Microsoft, Cisco and Amazon, ensuring that channel partners always have access to the latest technology. As part of this, one of Gamma’s key strengths is its ability to knit together and simplify these different offerings, making it simple for channel partners to package and resell these solutions to customers.
“The Gamma suite was pretty complete. All in one for voice, internet, mobile, etc. Pricing model good for MSPs - especially if you don't have a VOIO engineer on staff.” MSP Business Owner
In summary, Gamma’s channel first focus and investment in its partnership program has enabled it to build a strong network of channel partners. This is a significant differentiator between Gamma and its competitors, who generally prefer to sell directly to their customers at higher margins. Building a channel first business requires significant investment; educating partners on new technologies and ensuring they are easily provisioned to end-users. For this reason, Gamma has taken ownership of an area of the market that its larger competitors have no interest in, and where smaller competitors lack the scale to compete.
An agile business with an entrepreneurial mindset
I don’t tend to focus much on culture, perhaps to my detriment, because it is undoubtedly an important part of any successful business. In this case, however, I think culture plays a really important role in the success of Gamma.
We have looked already at how the increasing availability of technology is driving customers towards more advanced communication solutions. Keeping up with the pace of these advances is challenging for companies, who have the option of developing their own solutions, or acquiring other businesses with those capabilities.
The cloud communications market moves so quickly that the ability to spot trends early and capitalise on them is a significant competitive advantage. In comparison to its larger incumbent competitors, Gamma’s size and entrepreneurial mindset allows it to make decisions much more quickly. In addition, its focus on the B2B market, rather than its competitors who generally have consumer arms, means their focus is entirely on trends within that market.
This agility can be seen in the number of acquisitions Gamma has made in recent years compared to the other large telecoms companies, such as BT, Virgin, and Vodaphone. If we look at some of Gamma’s recent acquisitions, BrightCloud allowed them to expand their Cisco CX offering, Satisnet enabled them to take advantage of the growing interest in security solutions, and Smart Agent gave them a foothold on Amazon Connect. The company has also used acquisitions to gain a foothold in new markets, with acquisitions of HFO, Placetel, and Starface enabling them to achieve scale in Germany.
Their agility also enables them to develop propositions internally to capitalise on market trends. Their Designed Service Suite was introduced to enable channel partners to increase their share of wallet from Teams customer. By offering complementary services such as analytics, call recording and handsets, Gamma enables its channel partners to upsell end users and generate higher ARPU for themselves. One of the companies Gamma acquired, Epsilon, developed a solution called Fusion IoT; originally intended to address a need for smart metering in the German market. Gamma, seeing the potential in other markets, has been able to repackage this solution and offer it to channel partners in the UK.
Finally, this agility is one of the key factors in Gamma’s success with larger businesses. The ability to knit together different solutions and be adaptive to the requirement of individual companies has enabled it to win larger, more complex contracts.
In summary, this agility enables Gamma to capitalise on trends taking place within the cloud communications space. Given the pace of change in this market, this is essential in allowing them to stay abreast of the latest technology and ensure they remain competitive and relevant to potential customers. Combined with the scale and carrier capability that their incumbent competitors also have, and this becomes a significant point of differentiation for the group.
Risks
Changes to regulations governing the use of Openreach’s fibre – I see this one as unlikely to change given the number of providers that are reliant on it and the need for Ofcom to create a competitive landscape for both customers and businesses.
Movement away from at-home working – Changes to at-home working would reduce the need and complexity requirements of communication solutions. There has already been some movement back towards office-based working, but I expect a degree of hybrid working to remain and with it the demand for more advanced communication solutions.
A large technology provider choosing to move down the technology stack and into direct competition with Gamma – as discussed, this is unlikely given the level of investment at the local level that would be required in order to offer the same services that Gamma does. That said, the fast-changing landscape has put Gamma into direct competition with the systems integrators, so there is no guarantee over what the competitive landscape will look like in the future.
Valuation
I think this business represents a really attractive asymmetric risk/reward opportunity. As usual I have modelled the business under three different scenarios, ranging from low level revenue growth of between 2-3% for the bear scenario and reaching double digit organic growth in the bull scenario. Required re-investment and subsequent ROIC matches the scenario, with the bear case experiencing a contraction in ROIC with higher required reinvestment and the bull case experiencing the opposite.
The current share price offers the opportunity of a 6.2% FCF yield on my bear case FY25 free cash flow estimate. Given that this makes some very conservative assumptions regarding business performance, I think the current price reflects an attractive opportunity. The recurring nature of the business also means that I think the downside risk is relatively well protected (famous last words), with the potential for significant upside in the medium to long term.
The below chart shows the fair values for each of the scenarios, weighted based on my estimates of them taking place. As you can see, this offers a reasonable margin of safety, but not as much as I would like in an ideal world. I bought a position in this a little while back at a slightly lower price, so I think I will wait for a share price decline before adding further.
Catalysts
PSTN switch off and subsequent user migration to cloud solutions.
Growth in the German business.
If the share price does increase, we should also see increased buying from larger institutional buyers.