Despite the jumpstart, the tech IPO market still sputtering

Contact: Brenon Daly

Though undoubtedly well-intentioned, the Jumpstart Our Business Startups (JOBS) Act has nonetheless turned out to be a bit of a misnomer. When it was originally signed into law in April 2012, the JOBS Act was heralded as a way to remove some of the perceived obstacles that kept young companies from pursuing an IPO. Over the past half-decade, however, the law has come up way short in jumpstarting the tech IPO market.

Undeterred by that, the authors of the JOBS Act have expanded the law, opening the way for all companies — rather than just the ones that met the original ’emerging growth’ criteria — to go public while limiting the amount of information they disclose. The change goes into effect today.

However, we can only imagine that the expanded JOBS Act will have as negligible impact on the tech IPO market as the original law had. That’s generally the case when bureaucrats introduce regulation to solve a market-based problem, and that goes double for when regulators focus on the wrong problem in the market. To be clear, the lingering problems in the tech IPO market are due to a breakdown of the fundamental components of any market: supply and demand. (See our recent full report on the tech IPO market.)

Crucially, the JOBS Act only really addresses the ‘supply’ portion of the equation by, ostensibly, making it easier for companies to go public. But once companies make it to the NYSE or Nasdaq, they soon discover the real problem: Wall Street doesn’t particularly want them. Sure, tech vendors such as MuleSoft and Okta have both put up strong offerings so far in 2017. But we would argue that startups that can raise a quarter-billion dollars from private-market investors hardly need help raising capital through a public offering. (Indeed, both Okta and MuleSoft raised more as private companies than they did in their upwardly revised public offerings.)

Without increased demand from investors for newly issued equity from the hundreds of tech startups that have the financial profile to go public, the tech IPO market will continue to sputter. Paperwork from Washington DC won’t change that.

What’s missing in the tech M&A market?

Contact: Brenon Daly

When big acquirers step out of a market, they can leave behind a big hole. In the case of the current tech M&A market, it’s a multibillion-dollar hole. We noted in our full report on the just-closed second quarter that the value of tech and telecom acquisitions dropped 30% from Q1 to Q2, hitting a four-year low for quarterly spending of just $55bn in the April-June period, according to 451 Research’s M&A KnowledgeBase. The main reason for the recent slump in spending is the disappearance of many of the tech industry’s biggest buyers.

At the start of this year, many well-known acquirers — the ones that often serve as bellwethers for the tech industry — were actively inking significant deals. Intel, Cisco and Hewlett Packard Enterprise all announced acquisitions valued at more than $1bn in Q1. Since then, however, most of the busiest tech giants have shifted their M&A machines into neutral. In their place, two groups of buyers have emerged: old-line telcos and private equity (PE) firms.

Yet these newly assertive acquirers haven’t come close to closing the gap, in terms of M&A spending, left by the missing corporate shoppers. (That’s not for lack of effort among the financial buyers. PE firms announced a record level of tech transactions in Q2, eclipsing the number of deals done by US-listed corporate acquirers for the first time in history, according to the M&A KnowledgeBase. Our Q2 report has more details on activity and forecasts for the buyout shops.)

As one indication of what went missing when big-name corporate acquirers took an early summer hiatus from big-dollar deals, consider this: Only one of the five largest transactions announced in the first half of 2017 printed in Q2. That shift in strategy and spending by corporate buyers dramatically crimped deal flow at the top end of the tech M&A market. According to the M&A KnowledgeBase, the average value of the 20 largest tech transactions announced in the first three months of 2017 stood at $2.9bn. That’s 70% higher than the average of $1.7bn for the 20 largest deals announced in the just-completed Q2.

Hard times for software M&A

Contact: Brenon Daly

Software M&A has fallen on hard times. Spending on application software deals has dipped to its lowest level in recent years, with the value of purchases so far in 2017 dropping to less than half the amount in the comparable period of each of the past three years, according to 451 Research’s M&A KnowledgeBase. The reason? The bellwethers aren’t buying big.

Salesforce has only done one small acquisition so far this year, after a 2016 shopping spree that saw it ink 12 deals at a cost of $3.2bn, according to an SEC filing. Similarly, Oracle’s largest print in 2017 is less than one-tenth the size of last year’s $9.5bn consolidation of NetSuite, which stands as the largest-ever SaaS transaction. (Subscribers to the M&A KnowledgeBase can see our proprietary estimate on terms of Oracle’s big print this year, its reach for advertising analytics startup Moat.) SAP has been entirely out of the market in 2017.

Since large vendors are also typically large acquirers, their absence has left application software a dramatically diminished sector of the overall tech M&A market. Application software accounts for just $7.7bn of the $132bn in announced deal value so far in 2017, according to the M&A KnowledgeBase. On an absolute basis, that’s the lowest level for the opening half of any year since the recent recession.

More tellingly, however, application software’s ‘market share’ has fallen to only about a nickel of every dollar that tech acquirers across the globe have handed out so far this year. Our M&A KnowledgeBase indicates that the 6% of total tech M&A spending in 2017 for application software is just half its share over the previous five years.

Don’t bet against Bezos

Contact: Brenon Daly

A day after Amazon’s Jeff Bezos put out an open-ended tweet to the world asking where he should donate his money, we now know at least one early recipient of his philanthropy: Whole Foods Market. OK, the $13.7bn acquisition of the grocer isn’t exactly charity, but nor is it an example of a hardened dollars-and-cents M&A strategy.

Instead, it might be most accurate to think of the Amazon-Whole Foods pairing as a blend of giving and buying, a deal that’s being attempted by one of the few CEOs who could possibly get away with spending billions of dollars of shareholder money to effectively take his company backward in time. For lack of a better term, think of Bezos’ move as a ‘patronage purchase.’

Whole Foods, which was being stung by a gadfly hedge fund, needed a buyer for the 430-store chain. (From our side, we were half expecting the grocery chain’s CEO, John Mackey, to try a Kickstarter-funded management buyout.) Amazon — or more accurately, Bezos — is convinced that the world’s largest online retailer needs a brick-and-mortar presence.

Undoubtedly, there’s a certain logic to building up the distribution network for physical goods, which account for the bulk of Amazon’s revenue. However, those sales aren’t particularly attractive, at least economically. To put some numbers on that, consider the operations for Whole Foods, a real-world business that Amazon is buying, compared with AWS, a cloud business that Amazon has built. Conveniently, both businesses generated roughly the same amount of revenue in the most recent quarter, $3.7bn. Leave aside the fact that AWS grew 43% while Whole Foods flatlined and just look at the operating margin: Whole Foods posted just $171m of operating income, only one-fifth the $890m that AWS generated.

Conventional corporate strategy would typically encourage a company to allocate resources to the business with the highest return (AWS), rather than spending billions of dollars to buy its way into a low-growth, low-margin adjacent market. But then, Bezos has never been conventional.

Historians will remember that Bezos pushed ahead with a $1.25bn convertible note offering for Amazon in 1999. At the time, the deal — the largest-ever convertible by a tech vendor — flew in the face of conventional corporate finance, giving those investors bearish on the money-burning company even more reason to mock ‘Amazon dot bomb.’ However, given that those notes converted at a price of $156 each, compared with the current market price for Amazon shares of nearly $1,000 each, it’s fair to say that Bezos has created a certain amount of goodwill on Wall Street. (Investors gave him the benefit of the doubt on the Whole Foods pickup, nudging Amazon shares slightly higher after the announcement.)

Similarly, by all accounts, Bezos’ purchase of the existentially threatened The Washington Post in 2013 has brought renewed growth to that stalwart newspaper. And while that $250m acquisition was done from Bezos’ own pocket (rather than Amazon’s treasury), it actually lines up fairly closely with the proposed reach for Whole Foods. Both groceries and newspapers represent once-thriving industries that have been decimated by a combination of technology and shifting consumer consumption patterns. In contrast, Amazon has built a half-trillion-dollar market cap on both of those trends, making it hard to bet against Bezos.

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

The one and only exit for infosec’s unicorns

Contact: Brenon Daly

In just the past month, four different information security (infosec) startups have all pulled in single rounds of funding that typically would have only been available from an IPO. In addition to filling company coffers, however, the roughly $100m slug of capital raised by each of the quartet — CrowdStrike, Tanium, Netskope and Illumio — may also influence company strategy, at least when it comes time to seek an exit. Rather than pursue a sale of the business, which is the most likely outcome for any startup, these infosec unicorns will likely eye the door that leads to Wall Street.

In other words, when it comes to the two exit options available to these security startups, they should be modeling themselves more on Okta than on AppDynamics. The reason? Of the 17 sales of VC-backed vendors valued at more than $1bn since January 1, 2014, not a single startup has come from the infosec market, according to 451 Research’s M&A KnowledgeBase. Mandiant came close to a 10-digit exit in its early 2014 sale to FireEye, but the announced value of that deal stands at $989m. (Of course, FireEye paid for the vast majority of that in stock, which lost half of its value within four months of the transaction and has never regained its early-2014 level.)

Infosec is conspicuous by its absence among the big-ticket purchases of venture-backed companies. Virtually every other major tech sector has realized some unicorn exit, including mobility (WhatsApp, AirWatch), e-commerce (, storage (Cleversafe), the Internet of Things (Jasper Technologies) and cloud (Virtustream). The largest sale of a VC-backed infosec firm over the past three and a half years, according to the M&A KnowledgeBase, is Trustwave’s $810m sale to Singtel in April 2015. (Although Trustwave did raise venture money, notably from FTV Capital, it hardly fits the classic definition of a startup. Instead, it is more accurately viewed as a rollup, having consolidated 16 other businesses since its founding in 1995.)

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

Xactly exits

Contact: Brenon Daly

Two years after coming public, Xactly is headed private in a $564m buyout by Vista Equity Partners. The deal values shares of the sales compensation management vendor at nearly their highest-ever level, roughly twice the price at which Xactly sold them during its IPO. According to terms, Vista will pay $15.65 for each share of Xactly.

Xactly’s exit from Wall Street comes after a decidedly mixed run as a small-cap company. For the first year after its IPO, the stock struggled to gain much attention from investors. Shares lingered around their offer price, underperforming the market and, more notably, lagging the performance of direct rival Callidus Software. However, in the past year, as Xactly has posted solid mid-20% revenue growth, it gained some favor back on Wall Street. In the end, Vista is paying slightly more than 5x trailing sales for Xactly.

The valuation Vista is paying for Xactly offers an illuminating contrast to Callidus, which has pursued a much different strategy than Xactly. Although both companies got their start offering software to help businesses manage sales incentives, the much-older and much-larger Callidus has used a series of small acquisitions to expand into other areas of enterprise software, notably applications for various aspects of human resources and marketing automation. According to 451 Research’s M&A KnowledgeBase, Callidus has done seven small purchases since the start of 2014. For its part, Xactly has only bought one company in its history, the 2009 consolidation of rival Centive that essentially kept it in its existing market.

Although Xactly is getting a solid valuation in the proposed take-private, it’s worth noting that Callidus – at least partly due to its steady use of M&A – enjoys a premium to its younger rival with a narrower product portfolio. Even without any acquisition premium, Callidus trades at about 7x trailing sales. Callidus is roughly twice as big as Xactly, but has a market value that’s three times larger.

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

Will the ‘Appian way’ lead more startups to Wall Street?

Contact: Brenon Daly

With Appian’s debut on the Nasdaq earlier this week, the tech IPO market has hit an early summer vacation. Right now, there are no tech companies on file, at least not publicly. So with no offerings (officially) to look ahead to, it’s worth taking a look back on what we’ve already seen from recent new listings.

The first impression is that there aren’t very many of them. By our count, just five enterprise tech vendors have made it public so far this year. Further, the pace for the remainder of 2017 isn’t expected to accelerate. Respondents to a recent survey from 451 Research and law firm Morrison & Foerster predicted just 15 tech IPOs this year. (451 Research subscribers can see our full report on the current IPO market, as well as a few of the firms that we think could be in Wall Street’s ‘class of 2017.’)

But to even hit that number of IPOs, we might suggest that Wall Street look to more companies like Appian rather than the other four tech vendors that also made it public this year. (See our full report on Appian’s offering.) What we mean by that is Appian is far more representative of the broader startup universe than high-profile unicorns such as Okta, Alteryx, MuleSoft or Cloudera. Certainly, more startups can relate to Appian’s capital structure than any of the other recent debutants. Appian raised just $48m as a private company, compared with $163m for Alteryx, $220m for Okta, $259m for MuleSoft and more than $1bn for Cloudera. In fact, all four of the unicorn IPOs raised more in a single round of private-market funding than Appian did in total VC funding.

Not having done an IPO-sized funding in the private market meant that Appian could come public with a more modest raise. (It took in just $75m, compared with this year’s previous IPOs that raised, on average, $190m for the four unicorns.) And, probably most importantly, the Appian offering showed that these types of IPOs can work, both for issuers and investors. (Appian created about $900m of market value, and saw its shares finish the first day of trading up about 25%.) So when it comes to IPOs for the second half of this year, the ‘Appian way’ could help a lot more startups make it to Wall Street.

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

The dried-up startup exit

Contact: Brenon Daly

The quintessential Silicon Valley deal is drying up. Sales of VC-backed tech startups, which once provided a steady flow of money to entrepreneurs and their backers, are down sharply so far this year, compared with recent years. And while the impact of the narrowing of that exit will be primarily felt along Sand Hill Road, the cause of the slump traces back to Wall Street.

So far this year, just 235 VC-backed tech companies have sold, according to 451 Research’s M&A KnowledgeBase. That paltry level represents the fewest startups sold in the first five and a half months of any year since 2010, even as the overall tech M&A market has broadened and increased the current number of total tech transactions by nearly 15% since the start of the current decade. Year to date, M&A volume for VC-backed vendors is running 13% lower than the average number of deals over the past five years, according to the M&A KnowledgeBase.

The sharp decline in exits comes as the ranks of the startups are swelling, with thousands of businesses receiving venture investment each year. So if the slowdown isn’t coming from the supply side, that leaves only the demand side. And indeed, we can narrow the cause of the recent slump to one particular set of startup buyers: US public companies.

For the first half of the current decade, according to the M&A KnowledgeBase, NYSE- and Nasdaq-listed vendors accounted for more than 40% of the purchases of VC-backed companies. In some years, that approached nearly half of the transactions. So far this year, the tech industry’s big fish have gobbled up the minnows in only slightly more than one-third of the deals. If the classic startup-sells-to-tech-giant transaction isn’t playing out as often as it once did, that’s primarily because many of the tech industry’s one-time biggest buyers have themselves been bought.

Some behemoths have been consolidated by fellow behemoths, with the net effect that the combined entity – perhaps still struggling with integrating a business that does hundreds of millions of dollars, or even billions of dollars, of revenue – doesn’t have the capacity to do anywhere near as many deals as the two stand-alone companies did. Consider the relative M&A rates for Dell and EMC on both sides of that blockbuster pairing. In other cases, tech giants have gone private, with buyout shops that tend to focus on financially optimizing existing businesses, rather than trying to bump up revenue growth through potentially costly acquisitions of shiny new startups. For instance, BMC has done only three purchases since its leveraged buyout four years ago, down from an average of four acquisitions in each of the three years leading up to its take-private.

Source: 451 Research’s M&A KnowledgeBase

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

Tech’s ‘usual suspects’ are back in the market for startups

Contact: Brenon Daly

After a prolonged period of restructuring and refocusing their own businesses, tech bellwethers are once again in the market for startups. Many of the industry’s biggest names are putting their record levels of cash and record-priced equity to work as they return to paying significant valuations for largely unproven companies. This year’s return of the recently rejuvenated ‘usual suspects’ of tech M&A comes after a few years when the big names were somewhat overshadowed by unconventional buyers rolling the dice on technology vendors.

For instance, the list for 451 Research’s M&A KnowledgeBase of who has printed significant acquisitions of VC-backed companies this year includes Cisco, CA Technologies and Hewlett Packard Enterprise. In 2017, there aren’t buyers like General Motors, as there was in 2016, or Delivery Hero, as there was in 2015. To generalize broadly, we might suggest that the driver in the startup M&A market has swung from fear to greed. What we mean by that is several of the 2015-16 big VC exits appear to be motivated by fear, specifically – as kids these days say – fear of missing out. The threat of being disrupted by technology appears to have driven earlier transactions such as Unilever’s $1bn purchase of Dollar Shave Club last July and old-line Ritchie Bros. Auctioneers’ $759m pickup of online platform provider IronPlanet last August.

This year’s resurgence of the well-known tech giants, which have both the means and the need to acquire faster-growing startups, has helped boost the number of significant VC exits in 2017 to almost as many transactions as the same period of the two previous years combined. According to the M&A KnowledgeBase, buyers so far this year have announced six deals valued at more than $500m. (That total includes transactions for which 451 Research has a proprietary estimate of the unannounced terms.) For comparison, the same period in 2016 and 2015 produced a total of just seven VC exits valued at more than a half-billion dollars.

Probably no group is happier to see renewed demand from these tried-and-true acquirers of startups than the main supplier of startups, Silicon Valley. VCs overwhelmingly rely on sales of their portfolio companies to generate returns and, thus, keep their firms in business. The acceleration in the pace of big deals for startups is helping to offset a rather lackluster IPO market, which offers the other exit for their portfolio companies. Not that many startups are taking that exit, as we detailed in our special report on the fertile, but barren, tech IPO landscape.

Tech M&A goes from fitful to faltering

Contact: Brenon Daly

If tech M&A was stumbling in the first three months of the year, it face-planted in April. Spending on tech deals announced around the globe in the just-completed month slumped to just $12.9bn, the lowest monthly total since the start of 2015, according to 451 Research’s M&A KnowledgeBase. The paltry value of April’s tech transactions works out to just half the average amount spent in each of opening three months of this year.

Spending last month came in light largely because dealmakers didn’t buy big, announcing just three transactions valued at more than $1bn, according to the M&A KnowledgeBase. That’s less than half the monthly average of eight ‘three-comma’ deals over the past 12 months. And even the big prints that did get done in April were relatively small. Last month’s largest transaction (the $2.3bn KKR-led acquisition of Hitachi Kokusai Electric) barely squeaked into the top 10 of the biggest deals of 2017, landing at number eight on our M&A KnowledgeBase list.

Acquirers didn’t just put off big-ticket purchases in April – in many cases they didn’t buy at all. According to the M&A KnowledgeBase, deal volume in April sank to its lowest monthly level in three years. Tech shoppers announced just 258 transactions last month. April’s weak deal volume and spending put overall 2017 M&A activity well behind recent years. In fact, through the first four months of this year, both measures are lining up fairly closely with the pre-boom year of 2013.