Author: Brenon Daly

In the IPOs of New Relic and Hortonworks, it’s the grownup vs. the startup

Brenon Daly

Contact: Brenon Daly

Although both New Relic and Hortonworks revealed their IPO paperwork on the same day, that’s pretty much all the similarities we could find between the two enterprise technology companies. The two candidates have wildly different delivery models, operating margins, customer counts and even maturity of business models. That’s not to say they both can’t find a home on Wall Street, but only one of them is likely to dwell in a ritzy neighborhood. (451 Research subscribers: look for our full reports on both the New Relic and Hortonworks offerings later today.)

Of the two offerings, New Relic looks to be the standout. The application performance management vendor is growing quickly, but maybe more importantly, it is starting to show some leverage in its business model. This stands in sharp contrast to some of the other unprofitable IPO candidates that talk distantly about the company hitting some magical ‘inflection point’ when the red ink turns black.

New Relic is already demonstrating greater efficiency in its model, which will undoubtedly appeal to Wall Street. Consider this: In the first six months of the company’s current fiscal year, its operating loss basically stayed the same even as revenue soared 84%. More specifically, New Relic actually lost less money in its most recent quarter, which wrapped in September, than it did in the same quarter a year earlier. It trimmed its quarterly loss even as the company added more than $10m, or 78%, to its top line.

In contrast, Hortonworks is still forming its business, without much – if any – regard to optimizing it. The three-year-old Hadoop distributor is a classic startup, with many of the concerns that come with early-stage businesses: customer concentration, heavy upfront spending and precariously thin margins. (Hortonworks’ professional services business, which actually runs at a negative gross margin, has been a serious drag on the company’s overall gross margin. Through the first three quarters of the year, Hortonworks has been running at just a 34% gross margin, less than half the 81% gross margin posted by New Relic.)

When we net out all the differences between New Relic and Hortonworks, we see a vast gulf between the two IPO candidates at the bottom line. Sure, both still run in the red, but New Relic is only a light red, while Hortonworks is hemorrhaging a blood red. To put some specific numbers on that metaphor: At its current rate, New Relic loses about 40 cents for every $1 it brings in as revenue. In contrast, Hortonworks loses a staggering $2.60 for every $1 it brings in as revenue.

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Webinar: Tech M&A outlook

Brenon Daly

Contact: Brenon Daly

Last spring, respondents to the M&A Leaders’ Survey from 451 Research and Morrison & Foerster accurately predicted a dramatic surge in tech M&A activity. So what do they see coming now?

We’ll take a lively and thought-provoking look at the results from our latest survey in a special webinar on Wednesday, November 5 at 1:00pm EST. To register for the webinar, simply click here.

Among the key findings we’ll be discussing:

  • Nearly half of the respondents expect overall tech acquisition activity, which has been running at a record rate in 2014, to accelerate through the next half-year.
  • The percentage of survey respondents who say the tech M&A market is likely to be busier from now through next spring is three times higher than the 16% forecasting a decline in acquisition activity.
  • The outlook for private company M&A valuations has never been more bearish. A record 34% of respondents project that sale prices for startups will head lower from now through next April, compared with 26% who anticipate prices ticking higher.

Again, the webinar will be held on Wednesday at 1:00pm EST. Registration is complimentary and can be found here.

For more real-time information on tech M&A, follow us on Twitter @451TechMnA.

NetApp carves SteelStore out of Riverbed

Brenon Daly

Contact: Brenon Daly

NetApp’s first acquisition in more than a year and a half comes with a bit of a twist. The storage giant is only a few months removed from a period in which hedge fund Elliott Management was stirring for changes at the company. Having largely settled with the activist investor, NetApp has now picked up a division carved out from Riverbed Technology, which is currently being targeted by Elliott.

Terms call for NetApp to pay $80m for Riverbed’s SteelStore cloud storage gateway. The size of the business, which was formerly known as Whitewater, wasn’t disclosed. However, our understanding is that it was generating less than $10m in sales. Only 26 employees are going over to NetApp as part of the deal.

SteelStore was part of Riverbed’s broader portfolio expansion, an effort that hasn’t really paid off for the company. Some 70% of Riverbed’s revenue still comes from its core WAN optimization unit. The slowdown in that business is one of the main drags on Riverbed, which recently forecasted that sales in the current quarter may be flat.

However, according to our understanding of the transaction, it wasn’t driven by Riverbed, which is currently exploring ‘strategic alternatives,’ looking to jettison a non-core business. Instead, we gather that NetApp went after the division. Neither side used a financial adviser.

That dynamic may help explain the relatively rich valuation of the deal. (Though we would note that both EMC and Microsoft also paid princely multiples in their purchases of cloud storage gateways.) Also, price-to-sales multiples tend to get exaggerated by companies posting only tiny revenue.

And to be clear, virtually all of the cloud storage gateway startups are generating tiny sales. In a recent study of IT professionals at midsized and large enterprises conducted by TheInfoPro, a service of 451 Research service, only 4% of participating companies had deployed cloud storage gateways – a figure that was essentially unchanged from a similar TIP study in 2013. (See our full report .) With the cloud storage market still very much in its early stages, we would argue that a gateway startup is more at home in a storage vendor like NetApp than in a networking provider like Riverbed.

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Survey: no slowdown in record tech M&A pace

Brenon Daly

Contact: Brenon Daly

Even as tech M&A spending sprints along at a record clip in 2014, half of the respondents to the just-completed M&A Leaders’ Survey from 451 Research and Morrison & Foerster expect the pace to accelerate through the next six months. The 48% of survey respondents who say the tech M&A market is likely to be busier from now through next April is three times higher than the percentage forecasting a decline in activity. (451 Research subscribers: See our full report on the M&A Leaders’ Survey.)

Although the bullish forecast in our mid-October survey dropped from the high-water mark of 72% in our April 2014 survey, it essentially matches the level from surveys over the previous two years. For context, however, it’s also important to note that this outlook – with five out of six respondents indicating that dealmaking will either hold steady or pick up – is coming at a record time for tech M&A. Spending on tech transactions around the globe so far in 2014 is higher than the spending during the same period of 2012 and 2013 combined, according to The 451 M&A KnowledgeBase. (451 Research subscribers: See our full report on Q3 M&A and IPO activity.)

Survey respondents were less bullish in their outlook for private company M&A valuations. A record 34% of respondents predicted that sale prices for startups would head lower from now through next April, three times the percentage that said that in our survey just a half-year ago. We would attribute at least part of the deterioration to the fact that there were certainly bigger – and much higher-profile – sales of startups in the early part of 2014. Overall, according to the KnowledgeBase, the first half of 2014 has seen eight of the 10 largest deals announced so far this year, led by the largest-ever VC exit, WhatsApp’s sale to Facebook in February for $19bn.

M&A spending outlook for the next six months

Survey date Increase Stay the same Decrease
October 2014 48% 36% 16%
April 2014 72% 24% 4%
October 2013 50% 43% 7%
April 2013 54% 27% 19%
October 2012 49% 34% 17%
April 2012 59% 33% 8%

Source: M&A Leaders’ Survey from 451 Research / Morrison & Foerster

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After staying out of the M&A market, Qualys is ready to deal

Brenon Daly

Contact: Brenon Daly

Having built a $1bn market capitalization largely on the back of its core vulnerability management (VM) technology, Qualys is now looking to further expand into new markets. And to get there, the company is considering M&A for the first time in its 15-year history.

Qualys, which opens its annual user conference today, has already organically added new offerings to its VM, including Web application security and compliance monitoring. However, that expansion has only come in the past several years. Further, those products currently generate less than 20% of total revenue at the company. Overall, Qualys has moved slowly, hanging a ‘beta’ tag on products for extended periods. (The need to expand its portfolio was something we highlighted during the company’s IPO two years ago.)

Yet when Qualys does make new offerings available, they tend to be well received. At the end of Q2, some 44% of its more than 6,500 customers had purchased more than one product from the company. That’s up from 30% at the end of 2013 and just 20% at the end of 2012. Cross-selling has been one of the main reasons Qualys has been able to accelerate growth in 2014 compared with last year.

Any acquisition by Qualys, which has about $100m in cash, would likely be small. Also, the technology would have to be multi-tenant. (The company’s revenue is entirely annual subscriptions: no licenses and, unlike most other SaaS vendors, no professional services.)

What technology might Qualys be looking to pick up? Mobility represents an obvious market, as a way to help secure the ‘extended enterprise.’ Other areas that Qualys has been developing but could use a boost via M&A include SIEM and compliance automation.

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Small ball M&A paying off for salesforce.com

Brenon Daly

Contact: Brenon Daly

When it comes to M&A at salesforce.com, starting small has yielded higher returns than going big. The SaaS giant has returned to the ‘buy and build’ strategy with its latest step into a new market with Analytics Cloud. The data visualization offering, which was unveiled this week at Dreamforce, was underpinned by the acquisition of EdgeSpring back in June 2013.

The $134m price notwithstanding, EdgeSpring stands as a small deal for salesforce.com. (We profiled EdgeSpring shortly after it emerged from stealth and a half-year before it was acquired. At the time, it claimed more than 10 paying customers and about 30 employees.)

Certainly, there were bigger targets for a move into the analytics market by salesforce.com, which will do more than $5bn in revenue this fiscal year and says it has a ‘clear line of sight’ to $10bn in sales. For instance, both Qlik Technologies and Tableau Software offer their data visualization software on salesforce.com’s AppExchange. With hundreds of millions of dollars in revenue, either of those vendors would have established salesforce.com as a significant player in the data analytics market as well as moving the company closer to its goal of doubling revenue in the coming years.

However, in that regard, a purchase of either Qlik or Tableau would be comparable with salesforce.com’s reach for ExactTarget in June 2013, which serves as the basis for its Marketing Cloud. The deal was uncharacteristically large, with salesforce.com spending more on the marketing automation provider than it has in all 32 of its other acquisitions combined. More significantly, salesforce.com has struggled a bit with ExactTarget, both operationally (platform integration and cross-selling opportunities) and financially (margin deterioration).

In contrast to that big spending, salesforce.com dropped only about one one-hundredth of the price of ExactTarget on InStranet in August 2008 ($2.5bn vs. $32m). The purchase of InStranet helped establish Service Cloud, which is now the company’s second-largest business behind its core Customer Records Management offering. And salesforce.com says the customer service segment is much larger than the market for its sales software.

Those divergent deals are something to keep in mind when salesforce.com buys its way into a new market. If we had to guess, we would expect the company to next make a play for online retailing (maybe call it Commerce Cloud?). If that’s the case, we might suggest that it look past the big oaks like Demandware and focus on the seedlings that can then grow up in the salesforce.com ecosystem.

For more real-time information on tech M&A, follow us on Twitter @451TechMnA.

After Alibaba, the IPO market begins long slide lower

Brenon Daly

Contact: Brenon Daly

The record-setting offering by Alibaba in mid-September stands as the clear peak for IPOs in 2014. The only question is how sharp the decline will be for the rest of the year.

So far, the slope hasn’t been that steep. CyberArk followed quickly on the heels of the offering by the Chinese e-commerce company, with the online identity management vendor nearly doubling on debut and holding up solidly in the aftermarket. That was followed a week later by online home furnishings retailer Wayfair pricing above its expected range and soaring onto the NYSE at a valuation of more than $3bn. And then last week, marketing automation provider HubSpot surged onto the public market, trading at about 10x trailing sales. (Subscribers: See our report on the HubSpot IPO).

After this batch of IPOs, however, the drop-off accelerates. Currently in the pipeline are companies that are looking like they will be tough sells on Wall Street, including the deeply unprofitable GoDaddy, the profligate Box and the old-line consolidator Good Technology. (We would note that both Box and Good Technology seem to have acknowledged that they may not be pulling in any money from Wall Street any time soon, and have retreated to raising from late-stage investors again.)

Looking at the calendar, it’s unlikely that many other companies are aiming to hustle and get in their IPO paperwork and go public before the end of the year. That’s particularly true as the equity markets hit a rough patch. Both the Nasdaq and the S&P 500 dropped about 4% just last week, the sharpest weekly decline in more than two years. Volatility also ticked up substantially. Put that all together, and it’s looking like a long slide to close 2014 for new offerings.

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For Symantec, the spinoff is just the start

Brenon Daly

Contact: Brenon Daly

After a decade of uneasy – and ultimately unfulfilling – marriage, Symantec has finally served divorce papers to its ill-matched partner, Veritas. In going solo, Big Yellow will return to its roots as a stand-alone information security company while spinning off the smaller information management (IM) business at some point before the end of next year.

The separation means that Symantec’s long-suffering shareholders will continue to own Veritas, which cost them a record $13.5bn worth of stock nearly a decade ago. (Since the acquisition closed in mid-2005, Symantec stock has returned just 10%, while the Nasdaq has doubled during that period.) Or more accurately, we should say Symantec shareholders will continue to own the lower-valued IM division until it can finally be sold.

There’s little doubt, in our view, that the spinoff is an interim step. It allows the unit to put up a few quarters of stand-alone performance, perhaps even get some growth back in the IM business. But even as it stands, the division generates more than a half-billion dollars of operating income each year. A buyout shop could certainly make the leverage work on a business like that, particularly once it was ‘optimized.’ (Overall, Symantec spends some 36% of revenue on sales and marketing, even as its sales flatline.)

While the IM business is ultimately likely to land in a private equity portfolio, we would note that we heard an intriguing rumor as Symantec was working through this process. The rumor essentially had Symantec trading its IM unit to EMC for its security division, RSA.

On paper, the swap makes sense, allowing each of the tech giants to focus on their core businesses. According to our understanding, however, talks didn’t get too far along because of the valuation (the Veritas business is about twice as big as RSA) and because of the tax hit that the companies would take due to the asset swap. (As it is, the spinoff of Veritas is tax-free to Symantec shareholders.) And now, of course, EMC is under pressure to undertake a corporate restructuring of its own.

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In HubSpot IPO, it’s the company and the company it keeps

Brenon Daly

by Brenon Daly

Wall Street typically doesn’t have the chance to learn too much about the companies that come public before the actual IPO. Certainly, the debutants don’t come with the track record of businesses that have lived in institutional investor portfolios for quarters on end. To alleviate some of that uncertainty, which is corrosive to any investment, a key selling point for some IPOs isn’t so much the company, but the company that it keeps.

Consider the case of HubSpot. (Subscribers: See our earlier preview of the HubSpot IPO .) The marketing automation (MA) vendor hit the NYSE on Thursday, creating more than $900m of market value. (The company priced its 5.75-million-share offering at an above-range $25 each, with shares ticking to $30 after the IPO.) HubSpot’s initial valuation works out to roughly 10 times trailing revenue, which is among the richest valuations for MA providers. In fact, it almost exactly matches the current trading valuation for MA high-flier Marketo.

While HubSpot is lumped in with Marketo, the two companies aren’t direct head-to-head rivals. They hawk their wares to very different customers, with HubSpot focusing solidly on the midmarket while Marketo targets bigger businesses. That shows up clearly in the fact that HubSpot has more than three times as many customers as Marketo, but generates roughly one-quarter the revenue of the larger – and faster-growing – MA vendor. (HubSpot has more than 11,600 customers, while Marketo has 3,300 or so.)

Undoubtedly, HubSpot is enjoying a bit of a boost by getting compared with an upmarket vendor. It wouldn’t find such bullishness if it went the opposite way, selling its marketing suite to small businesses. The public market proxy for that market is Constant Contact, which has had a choppy run on Wall Street and trades at a sharp discount to either Marketo or HubSpot.

Constant Contact sells to very small businesses. Nearly two-thirds of its roughly 600,000 customers have less than 25 employees. Still, it has built a sizeable business selling to corner stores, freelancers and other small operations. (Constant Contact will put up more revenue this year than Marketo and HubSpot combined.) What the marketing platform supplier hasn’t done so successfully is market its story to Wall Street. Constant Contact trades at about 3x trailing sales, just one-third the valuation of upmarket vendors HubSpot and Marketo.

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Can tech companies wearing sensible shoes be nimble?

Brenon Daly

Contact: Brenon Daly

As the tech giants get more and more gray hair on their heads, they all seem to desperately want to be young again. How else to explain the impetuous plan by the sensible shoe-wearing Hewlett-Packard to separate its enterprise and consumer businesses, with the stated goal of making the two independent companies more ‘nimble?’ Do the architects of the plan somehow think that cutting in half a 75-year-old company will create two businesses in their late 30s?

Remember, too, that about three years ago, HP initially dismissed a similar (but smaller-scale) plan to spin off just its PC business. At the time, executives said HP was ‘better together,’ citing low supply costs, improved distribution and easier cross-selling from the broad HP portfolio.

So why the change of heart that will result in a messy disentanglement taking about a year to implement, costing billions of dollars and resulting in as many as 10,000 additional job cuts? We suspect the fact that HP sales are now 10% lower than when it dismissed that spinoff plan may have something to do with it. (As we noted earlier, HP is basically splitting itself into two companies roughly the size of Dell, which itself had a massive and contested change in corporate structure last year as it sought a ‘fresh start’ through a $24bn leveraged buyout (LBO).)

In addition to HP – Silicon Valley’s original startup – a number of other tech industry standard-bearers have found (or likely will find) themselves under pressure to radically overhaul their corporate structure in pursuit of growth. Some of these have already been targeted by activist hedge funds, while others are still on a watch-list:

  • CA Technologies: Revenue is declining at the 38-year-old company, but it still throws off a ton of cash, trading at less than 10 times EBITDA. Its size and financial profile make it a textbook LBO candidate.
  • EMC: Already under pressure by an activist shareholder to ‘de-federate’ its business, EMC has staunchly resisted calls for change with a variation on the ‘better together’ theme. (But then, so did eBay until recently.) With VMware, it owns one of the most valuable pieces of the IT vendor landscape.
  • Symantec: After a decade of trying to marry enterprise storage and security, a corporate divorce seems likely at some point. (The three CEOs the company has had in the past two years have all kicked around such a separation.) Meanwhile, the topline is flat and Symantec trades at a discount to the overall tech market at just 2.5 times sales.
  • Citrix Systems: In business for a quarter-century, Citrix rode the wave of client-server software to a multibillion-dollar market value. However, despite numerous acquisitions and focus, it has yet to fully capitalize on the next wave of software delivery, SaaS. That business currently generates about 25% of total revenue at Citrix but is only slightly outpacing overall growth, despite industry trends. Citrix stock has been flat for the past four years, while the Nasdaq has nearly doubled during that period.

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