Category: M&A

Will not mixing blue and red yield green?

Mark Fontecchio

by Brenon Daly

IBM has wrapped up the single most significant reshaping of its 108-year history. Now comes the hard part.

After more than eight months of review by regulatory officials around the globe, Big Blue officially owns Red Hat. The $33bn deal stands as the largest software acquisition in history – almost twice the size of the second-largest deal in the space, according to 451 Research‘s M&A KnowledgeBase. Corporate deal-makers that we surveyed in December 2018 voted IBM-Red Hat the most significant acquisition of 2018, a year that featured an unprecedented 100-plus tech transactions valued at more than $1bn.

Beyond the sheer scale of the blockbuster deal, the combination promises an outsized impact on IT departments as it pairs IBM’s extensive commercial relationships with many of the largest companies with Red Hat’s close association with many of the most popular technology trends. Most notably, Red Hat – a company that generates some $3bn in sales and is still growing at a solid mid-teens percentage pace – has developed key pieces of open source software for cloud computing (Red Hat Enterprise Linux), OpenStack and containers (OpenShift).

Now that it owns Red Hat, IBM faces a tricky balancing act in getting the hoped-for returns from the massive combination. (Like most large-cap tech acquirers, Big Blue has a decidedly mixed record in M&A. It is in the process of unwinding many of its purchases of business applications, while another relevant acquisition – IBM’s billion-dollar-plus purchase of SoftLayer – has underdelivered.) IBM’s challenges with Red Hat are even sharper than its other acquired proprietary software vendors because Red Hat, an open source software stalwart, had vast technology partnerships, including some with vendors that compete directly with IBM.

Conscious of that, IBM has pledged to preserve Red Hat’s historic neutrality in the cloud wars. (Don’t look for any ‘blue-washing’ of Red Hat now that the deal is closed.) The degree to which IBM follows through on running Red Hat as a stand-alone platform for the increasingly hybrid-cloud world will go a long way toward determining the returns on the deal.

Big Blue should know that the odds are only a slightly in favor of it pulling that off, at least in the view of the one group that matters more than any others: customers. In a novel survey shortly after the deal was announced last fall, 451 Research’s Voice of the Enterprise spoke to several hundred IT executives to get their perspectives on IBM’s plan to purchase Red Hat. The headline finding had a plurality of respondents (40%) indicating they are ‘neutral’ on the deal. Of the remaining portion of IT folks, however, only a handful of respondents said they were more bullish (31%) than bearish (29%) on IBM-Red Hat.

PE, not just VC, joins the IPO parade

Mark Fontecchio

by Brenon Daly

The tech IPO parade continues, but with a twist. Rather than having its journey to Wall Street backed by truckloads of venture dollars, the first enterprise-focused company in the second half of 2019 to put in its S-1 is coming from a buyout portfolio. Dynatrace is a private equity-backed spinoff, not a VC-backed startup.

The planned offering by Dynatrace would be the latest move in a rather unconventional journey to the public market by the application performance monitoring (APM) vendor. Founded far from Silicon Valley, Dynatrace got its start in the sleepy Austrian town of Linz in 2005, taking in only $22m in funding before exiting to Compuware in July 2011 for $256m, or 10x invested capital.

Compuware itself was taken private by buyout firm Thoma Bravo three years later for $2.5bn, which, at the time, represented Thoma’s largest single transaction. Shortly after, Thoma spun off Dynatrace from its one-time parent and consolidated its new stand-alone APM holding (Dynatrace) with an existing one (Keynote Systems, which Thoma took private for $395m in June 2013).

After all that addition and subtraction, Dynatrace now looks to debut on Wall Street. That’s a trick that rival AppDynamics wasn’t able to pull off because Cisco Systems snapped the venture-backed company out of registration. Assuming Dynatrace does make it public, it would mark the first IPO in the fast-growing sector since New Relic went public in December 2014. (New Relic currently sports a $5bn+ market cap.)

But it certainly won’t be the last. Dynatrace’s sometime rival Datadog, which has raised $148m in venture backing, is thought to be eyeing an IPO of its own. (Subscribers to the Premium edition of the 451 Research M&A KnowledgeBase can see our full profile of Datadog, including our proprietary estimates for revenue for the past two years.) Meanwhile, subscribers to 451 Research’s Market Insight service can look for our full report on Dynatrace’s proposed offering on our site later today.

PE slows its roll

Mark Fontecchio

by Brenon Daly

Buyout shops aren’t buying like they have been. After seven consecutive years of increasing the number of tech acquisitions they announce annually, private equity (PE) firms are on pace for a slight decline in 2019. The slowdown comes as the formidable buyers also start to scale back their purchases, shopping much more in the midmarket than in the billion-dollar range.

As we noted in our full report on tech M&A in Q2, we recorded an uncharacteristic drop in the number of announced deals in the April-June period by buyout shops, which had been the sole ‘growth market’ in tech M&A recently. PE firms have doubled their number of tech transactions in the past five years, but in Q2, they posted a second consecutive year-over-year quarterly decline in deal volume, according to 451 Research’s M&A KnowledgeBase.

To be sure, we don’t want to overstate the slight decline in PE activity. Based on midyear projections, between direct investments and bolt-on acquisitions by portfolio companies, deal volume for financial acquirers looks likely to drop about 6% in 2019, compared with 2018. Buyout shops still account for about one of every three tech acquisitions, our data indicates.

Within that slight decline in the number of prints, however, is a much more significant shift in where they are looking. PE firms are moving down-market in 2019, no longer looking to bag elephants. (Our Q2 report examines this trend in much more detail, as well as compares acquisition activity by financial buyers with their strategic rivals.)

Assuming the first-half pace holds, buyout shops are on pace to ink one-third fewer billion-dollar deals in 2019 than they did in 2018. So far this year, the M&A KnowledgeBase has recorded just 11 purchases by financial acquirers valued at more than $1bn. That’s the fewest big prints for PE firms in the first half of any year since 2015, when PE held just a mid-teens percentage share of the tech M&A market, or merely half its current level.

Machine learning curve

Mark Fontecchio

by Scott Denne

As the first half of the year comes to a close, the accelerating pace of machine learning (ML) M&A continues. But what’s changing is the rationale behind many of those acquisitions. Buyers are less interested in picking up ML teams and tech to build broad capabilities. Instead, they’re gravitating toward targets that have specific expertise or technologies to fill product gaps.

Each year since 2013, when 19 companies developing ML technologies or products were acquired, the number of such deals has risen by about 50% annually. According to 451 Research’s M&A KnowledgeBase, 124 vendors developing ML technology have been purchased so far in 2019, compared with 159 in all of 2018, on pace for a 55% rise. Yet buying machine learning for machine learning’s sake has declined.

Take the example of Salesforce. By our count, it acquired nine ML providers between 2014 and 2016 as it built Einstein, a platform to incorporate ML across its software portfolio. It has grown more selective since, nabbing just two such companies in the two and a half years that followed. Similarly, from 2014 to 2016, IBM purchased eight ML vendors to bolster its Watson brand, although none since.

More commonly, acquirers are turning to ML to solve particular problems. In marketing and advertising tech, for example, there have been a streak of acquisitions of firms that use ML to track audiences across multiple marketing channels. LinkedIn snared Drawbridge to improve its ability to match mobile and web users to a single profile and AdRoll reached for X-ID to do the same as audiences move between mobile web and mobile apps.

Most recently, LiveRamp paid $150m for Data Plus Math to build audience profiles across different video-streaming devices (laptops, mobile, connected TV, etc.) That deal, which brought a team of 25 to LiveRamp, demonstrates that buyers, although they may be more discriminating about the technology, are still paying a premium for ML providers. According to the M&A KnowledgeBase, machine learning targets (many of which are pre-revenue or early-revenue businesses) often fetch $1-2m per employee, compared with about $500,000 for a typical tech transaction.

A summer holiday for tech M&A

Mark Fontecchio

by Brenon Daly

The summer holiday came early to the tech M&A market. Dealmakers around the globe announced nearly 15% fewer tech and telecom acquisitions in Q2 than in recent quarters, according to 451 Research’s M&A KnowledgeBase. And they didn’t spend much on the deals that they did get done. Our data shows the aggregate value of tech transactions announced in the April-June period slumped to the lowest quarterly level in a year and a half.

Altogether, the M&A KnowledgeBase shows Q2 spending of $113bn on just 815 tech deals. The slump in Q2 activity comes as strategic acquirers continue their extended hiatus in the market they once dominated. (According to our research, the number of tech transactions announced by corporate buyers has dropped almost uninterruptedly since mid-2015.) In the first six months of this year, for instance, tech bellwethers such as Oracle and IBM, which had averaged roughly one acquisition per month in their M&A heyday, have each put up just one print.

But now, add to that an uncharacteristic slowdown in Q2 tech deals by the other main buying group, private equity (PE) firms, which had been the sole ‘growth market’ in tech M&A recently. Buyout shops have doubled their number of tech acquisitions in the past five years, but in Q2, they posted a second consecutive quarterly decline in deal volume. Spending fell even sharper, with the value of PE deals in Q2 coming in at just half the level of the year-ago quarter.

451 Research will publish a full report early next week on Q2 M&A activity, including a look at prevailing pricing, active markets and the significant changes in how and where PE firms are shopping in tech.

Dual tracks: A singular path to infosec riches

Mark Fontecchio

by Brenon Daly

Fittingly enough, there are two main types of ‘dual tracks.’ In most cases, dual track refers to a company simultaneously pursuing both the two exits available to startups, M&A and IPO. By keeping one foot on both roads to an exit, an in-demand startup can cultivate new sources of capital on Wall Street while, at the same time, pressuring any acquirer to effectively outbid the public market. Assuming the laws of economics hold, when supply remains constant, any additional demand invariably boosts pricing.

There is also a smaller-scale version of that process, which happens at a level below Wall Street. In a ‘dual track lite,’ a startup also explores an outright sale and a capital raise at the same time. But in this case, the funding comes once again from private-market sources, such as VCs, rather than the public market.

Of course, to be able to effectively – and profitably – dual-track, a startup needs strong interest from the demand side, from both potential backers and potential buyers. And right now, no other segment of the enterprise IT market has more dollars available from both investors and acquirers than the information security (infosec) market.

When it comes to M&A, the 451 Research M&A KnowledgeBase shows acquirers pay two to three times higher valuations in infosec deals than they do in the overall broad market. (Since 2017, our data shows the prevailing multiple in infosec transaction at nearly 6x trailing sales.) And for those security startups pursuing the other track (funding), there is an unprecedented amount of money available from VCs. In just the past month, for instance, we’ve seen big-money fundings for infosec startups, including:

$120m for SentinelOne. (Subscribers to the premium of 451 Research’s M&A KnowledgeBase can see our proprietary estimates for SentinelOne revenue from 2016-19.)

$100m for Auth0. (Subscribers to the premium of 451 Research’s M&A KnowledgeBase can see our proprietary estimates for Auth0 revenue from 2016-18.)

$100m for Vectra Networks. (Subscribers to the premium of 451 Research’s M&A KnowledgeBase can see our proprietary estimates for Vectra revenue from 2016-19.)

But this flood of VC money has skewed the dual track, highlighting just how inflated funding valuations have gotten recently. Consider the two different outcomes, separated by less than three years, for a pair of rival firms. At the end of May, Dashlane raised $110m. We would note that’s exactly the same amount of money that rival password manager LastPass got when it sold the whole company to LogMeIn in October 2015. All in, Dashlane’s funding valuation was roughly 5x richer than the terminal value of LastPass, according to our understanding.

PE firms paying SaaSy valuations

Mark Fontecchio

by Michael Hill

A years-long increase in SaaS acquisitions by private equity (PE) firms is flattening out. Yet sponsors are spending far more than in the past for those targets – typically paying more for SaaS vendors than strategic acquirers do – as businesses shift more of their budgets toward hosted software offerings.

According to 451 Research’s M&A KnowledgeBase, PE shops have bought roughly the same number of SaaS targets as this time last year, following several years of increasing the volume of those deals 25% or more each year. Despite that, sponsors have spent more than $20bn on SaaS acquisitions so far in 2019, compared with $24.7bn for the entirety of 2018. Much of the jump stems from Hellman & Friedman’s $11bn take-private of Ultimate Software. Still, even without that transaction, PE firms have spent nearly three times as much on SaaS purchases this year as they did during the same period last year.

And 2019’s larger deals are coming at a premium. So far, the median trailing revenue multiple for a SaaS target in a sale to a buyout shop or PE portfolio company stands at 4.9x, a turn higher than any full year this decade. Our data also shows that 2019 marks the first year that PE firms have paid higher multiples than strategic buyers, whose acquisitions of SaaS vendors carry a 4.5x median multiple this year.

The increase in valuations comes as businesses are pushing more of their IT budgets into SaaS. According to our most recent Voice of the Enterprise: Cloud, Hosting and Managed Services, Budgets & Outlook – Quarterly Advisory Report, 67% of respondents expect to increase their spending on SaaS this year. What’s more, 38% expect SaaS to be their largest area of spending growth among cloud and hosted services.

Another cycle of data analytics consolidation

Mark Fontecchio
by Scott Denne

The ability to properly analyze data has become a core element of how organizations are evolving their operations. As such, we’ve seen two multibillion-dollar analytics software deals in a week – Google’s $2.6bn acquisition of Looker and Salesforce’s $15.1bn purchase of Tableau. Not only did those transactions bring back a key feature of 2018’s M&A market – big-name companies printing big-ticket deals at scorching valuations, as we noted yesterday – they also reflect the central role that data and analytics are expected to play in a modern enterprise.

Our surveys of IT professionals and managers show that improved analytics is a key reason for businesses to undergo digital transformation. According to451 Research’s Voice of the Enterprise: Digital Pulse, 43% of respondents that are executing or planning a digital transformation said ‘data-driven business intelligence and analytics’ is a primary purpose for that larger initiative. That central role of analytics helps explain why Google and Salesforce are looking to data visualization and analysis to build deeper relationships (and larger contracts) with customers.

For a similar surge in analytics software M&A, look back to 2007, the year IBM, Oracle and SAP each picked off the top three BI software vendors (Cognos, Hyperion and Business Objects, respectively). Yet Tableau’s acquisition, which stands as the largest-ever purchase of a business application provider, according to 451 Research’s M&A KnowledgeBase, dwarfs all those previous deals, the largest of which (Business Objects) was $6.8bn. And on valuation, Tableau commanded 12.2x (subscribers to the M&A KnowledgeBase can access our estimates of Looker’sforward and trailing multiples), while those earlier transactions fell shy of 5x.

We’ll be hosting an in-depth discussion of the importance of data to the future of business and its impact on valuations at our Cycle of Innovation Summit on Thursday morning in London. Those wishing to attend can request an invitationhere.

A pair of 2018 software deals in 2019

Mark Fontecchio

by Brenon Daly

When Google and Salesforce announced their recent blockbuster software acquisitions, we had to check the date of the deals. The two high-multiple purchases of analytics vendors didn’t look like anything that’s been printed in 2019. Instead, the pair of transactions looked like something of a 2018 vintage.

Both Google-Looker and Salesforce-Tableau share all of the hallmarks of the significant deals that pushed software M&A to record levels last year: Deep-pocketed, brand-name software giants top an already high valuation for a company in a key segment of the emerging tech landscape. Consider the transactions fitting that description that 451 Research‘s M&A KnowledgeBase had already recorded at this point in 2018:

Microsoft’s seminal $7.5bn acquisition of DevOps kingpin GitHub.

Adobe’s $1.7bn purchase of e-commerce software provider Magento Commerce.

Salesforce’s $6.6bn reach for integration specialist MuleSoft, which had been the cloud company’s largest transaction until Tableau.

SAP’s $2.4bn pickup of CallidusCloud, a SaaS sales compensation management vendor.

All of those transactions went off at double-digit multiples, as did the Salesforce-Tableau and Google-Looker pairings. (Clients of the M&A KnowledgeBase can see our full estimates for both the trailing and forward valuation that the search giant paid in its largest deal in more than five years.)

Rather than the expansive (and expensive) software transactions of 2018, corporate acquirers so far this year have looked to consolidate much more mature markets. For instance, the M&A KnowledgeBase already lists three semiconductor acquisitions valued at more than $1bn in 2019, along with a similar number of massive deals in the electronic payments industry. Compared with those down-to-earth moves, the cloud plays of Google and Salesforce seem to belong to a different era of dealmaking.

A single unicorn sighting

Mark Fontecchio

by Brenon Daly

The total number of VC-backed startups hitting the exit so far this year has surged to a three-year high. But most of those deals are at the lower end of the market, according to 451 Research’s M&A KnowledgeBase. Actual unicorn sightings are extremely rare.

In fact, the M&A KnowledgeBase lists just one sale of a venture-backed company for more than $1bn so far in 2019. For comparison, last year the venture industry averaged one unicorn-sized exit every single month. The shift from last year’s ‘fewer – but bigger – deals’ for VCs to this year’s ‘more deals, but far fewer big ones’ could dry up billions of dollars of liquidity for venture firms.

Even excluding last year’s stampede of unicorns, our data shows that the previous half-decade (2013-17) averaged slightly more than four big $1bn+ exits each year for VC portfolio companies. Right now, 2019 is on track for half that number. And yet, the current number of VC-backed startups that have achieved billion-dollar valautions stands at a record high, roughly 10 times more startups than when Aileen Lee initially coined the term ‘unicorn’ in 2013.

Why haven’t venture-backed startups been realizing the same big paydays in 2019 as they have in recent years? Part of the answer is that the IPO market has been more welcoming than in years past, supplying exits this year to some of the most valuable private companies, including Uber, Lyft and Pinterest. (Don’t forget that three of the $1bn+ exits for VCs last year came when startups were snatched out of IPO registration.)

While dual-tracking may be slightly influencing the supply side of the M&A equation for venture startups, we would suggest that a significant shift in the other side (demand) is the main reason for this year’s drop-off. Simply put: The conventional buyers – the tech industry’s well-known names that tend to pay top dollar when they reach into VC portfolios – just aren’t doing deals like they once did.

To illustrate, the M&A KnowledgeBase indicates that SAP, Cisco and Microsoft all inked $1bn+ acquisitions of startups last year, paying roughly 20x in those transactions. So far in 2019, however, that big-cap trio has printed only small tuck-ins.