A valuation gap across the Atlantic

Mark Fontecchio

by Brenon Daly

Europe’s underdeveloped venture industry, combined with its slowing economic activity overall, is turning the Continent into a bargain market for tech M&A. Over the past half-decade, Western European acquirers have consistently paid roughly one turn lower than their North American counterparts. The valuation discrepancy on the two sides of the Atlantic is even slightly more pronounced when it comes to VC-backed startups.

According to 451 Research’s M&A KnowledgeBase, Western European buyers have paid a median valuation of 1.9x trailing sales in their tech deals across all sectors since the start of 2014. During that same time, our data shows North American acquirers paid 2.9x trailing sales overall. (To be clear, we are looking at buyers headquartered in the respective regions, regardless of the target’s location. Just to give some sense of scale, over the past half-decade, acquirers in America and Canada have announced nearly three times as many tech transactions as their European cousins.)

In both regions, the broad market multiples have been led higher by the valuations for VC-funded companies. The M&A KnowledgeBase shows European buyers have paid a median of 4x trailing sales for venture-backed startups since 2014, while North American acquirers have been even more generous, paying 5.3x trailing sales.

That’s a fairly substantial premium for any startup, and it’s one that is paid far more often by North American buyers. In fully one of every five tech deals, a North American company picks up a VC-backed startup, which is almost twice the rate of European acquirers. With more plentiful funding, which can fuel faster growth rates, bigger paydays are being found on this side of the Atlantic. When it comes to tech M&A, risk capital can be rewarding.

LinkedIn set to move marketing services beyond its walls with Drawbridge

Mark Fontecchio

by Scott Denne

LinkedIn looks to be setting itself up for a second attempt to influence marketing spending beyond its own platform with its latest acquisition. The immensity of its audience profiles should have helped the company build a B2B advertising powerhouse, yet its influence has been barely felt beyond its own website and app. Five years ago, it tried to build out an ad network business but came up short. With the purchase of identity-resolution specialist Drawbridge, it appears set to try again, but differently.

The professional social network already has a substantial marketing business – it was selling roughly $700m annually in ads on its site when it was acquired by Microsoft in 2016. Reaching for Drawbridge should enable the company to find ways to leverage its data beyond its own site. The target developed technology that matches anonymous consumer profiles with devices, helping advertisers target the same audience across multiple devices – desktop, mobile and smart TVs. Such a technology would have little value in selling ads on LinkedIn itself as people must log in to the site to reach the content.

Still, LinkedIn is not likely to use Drawbridge to sell ads beyond its own properties. It tried that with the 2014 purchaseof B2B ad network Bizo, which it shut down less than two years later. Also, Drawbridge had started life as a programmatic ad network before selling its media sales business to Gimbal last year. More likely, LinkedIn will look to use the new assets to develop reporting and analytics capabilities for B2B marketers, as well as augment its ad-targeting data. Such a service would leverage both companies’ strengths in audience identity without saddling them with a low-margin ad business that both buyer and seller have already shunned.

According to 451 Research’s M&A KnowledgeBase, Drawbridge’s exit follows many of its peers in cross-device identity matching. The space has seen a wide disparity of prices. At the high end, ad network Tapad sold to Telenor for $360m. Most recently, Adbrain sold for scraps to The Trade Desk and Oracle picked up Crosswise in a seven-figure deal before that company hit $2m in annual revenue. While terms of Drawbridge’s sale weren’t disclosed, it likely falls between those extremes. Drawbridge had built a larger data business than any of its competitors, generating about $15-20m annually, and had raised roughly $60m from its venture investors.

Payments are getting pricey

Mark Fontecchio

by Scott Denne

Amid a wave of consolidation, payment providers are commanding a premium. Long-standing companies in that market are fending off a laundry list of changes, driving larger deals and a willingness to pay up. In less than a week, two acquisitions have printed with revenue multiples that are more than a full turn above where a typical payments vendor trades.

The expansion of digital wallets and P2P payment networks, advancements in integrating payments into software, mobile point-of-sale apps, and the continuing march of digital commerce (and mobile commerce within that) are all reshaping the payments industry. For example, global digital commerce is expected to crest above $6 trillion by 2022, more than double last year’s total, according to 451 Research’s Global Digital Commerce Forecast. Many players in the industry are combining to cope.

With today’s announcement that Global Payments will use $21.2bn of its stock to buy TSYS, there has now been $82bn in purchases of payment providers this year. Put another way, $4 of every $10 spent on a tech target this year has gone to a payments company, according to 451 Research‘s M&A KnowledgeBase. While this year’s total is a high point, the trend has been building for some time. Each of the two previous years also saw more than $10bn spent on payment targets, something that’s only happened in one other year since 2008.

To get its hands on its rival TSYS, Global Payments valued the business at 6.1x trailing revenue, well above the median 4x for payment companies across the entire decade, according to the M&A KnowledgeBase. Nuvei paid a similar multiple when it handed over $890m for SafeCharge last week to move into European markets. Those transactions helped propel the median multiple for payment deals up to 5.7x for 2019, according to our data. As the number of potential targets with scale shrinks, payments are looking pricey.

China’s M&A trade imbalance

Mark Fontecchio
by Brenon Daly

The economic protectionism and national isolationism that has brought the world’s two largest economies in conflict has cost both the US and China billions of dollars. Yet the wounds in the ongoing trade war aren’t evenly distributed. So far in the early days of the conflict, China has suffered more damage since it started with more to lose.

That imbalance – and the accompanying vulnerability – shows up in broader macroeconomic implications for the two countries. As my colleague Josh Levine recently noted, China’s exports to the US account for 3.5% of their GDP, while only a scant 0.6% of the US GDP is generated by exports to China.

The disparity also plays out in M&A activity, which is also a form of ‘trade,’ after all. As 451 Research’s M&A KnowledgeBase shows, the ledger there is rather imbalanced: Since 2002, China-based acquirers have spent three times more on US tech vendors than the other way around. In that period, China has done more shopping in the US than anywhere else, with American tech firms accounting for one of every six deals announced by a Chinese buyer. (For the record, a majority (60%) of tech transactions by Chinese companies involve a target also based in China.)

More notably, Chinese firms have announced billion-dollar purchases of key tech assets from such prominent US vendors as Uber, IBM and Lexmark. In contrast, there hasn’t been any comparable deal flow in reverse. China’s ‘Great Firewall’ has blocked a lot of business expansion – including acquisitions – by US tech companies in the world’s most-populous country.

The contentious relationship between China and the country that had been its largest supplier of tech targets is just the latest complication in the country’s nascent effort to emerge as an M&A powerhouse. Currency restrictions imposed by Beijing diminished their ability to pay for deals, while the recent domestic economic slowdown has made Chinese companies think twice about taking on any acquisitions. And even if the deals do get done, in the current highly politicized environment, there’s no guarantee now that regulators will sign off on it.

For all those reasons and more, China-based tech vendors have stopped shopping. They are currently averaging just one acquisition a month, according to the M&A KnowledgeBase. That’s just one-quarter the rate at which they were purchasing tech providers in the past half-decade. Assuming that pace holds, our numbers show that Chinese buyers will announce the fewest tech transactions in 2019 since 2003.

Retailers check out machine learning

Mark Fontecchio

by Scott Denne

The retail industry has adopted machine learning at a faster rate than other verticals, which has led to an uptick of M&A. Home improvement retailer Lowe’s is the latest to make a deal with the purchase of Boomerang Commerce’s retail analytics technology assets. Although this transaction extends that trend, the acquirer departs from its peers in buying machine learning for applications beyond customer engagement.

Like many industries, retail has not yet moved past the early stages of adopting machine learning, although it’s further up the curve. According to 451 Research’s Voice of the Enterprise: Artificial Intelligence & Machine Learning, Adoption and Use Cases, 49% of companies in retail are running, at a minimum, a machine learning proof of concept, compared with just 40% across all verticals. Retailers and the tech firms that sell to them have acquired nine machine learning providers since the start of the year, just one fewer than all of last year, according to 451 Research’s M&A KnowledgeBase.

Acquisitions of technologies and products that aim to improve customer experience through new offerings, recommendations or analytics have accounted for nearly all of that deal flow this year. McDonald’s, for example, nabbed Dynamic Yield for personalization technology, while Walmart picked up Aspectiva to make product recommendations from customer reviews.

Those rationales align with retailer priorities in our machine learning survey, where 45% of retailers said ‘customer engagement’ was among their current use cases for machine learning. And although the rationale for Lowe’s purchase – pricing optimization and demand prediction – hasn’t driven as many transactions, it’s not far behind in the survey, as 37% highlighted that application.

A quick double for Fastly

Mark Fontecchio

by Brenon Daly

Even as other VC-backed unicorns have stumbled recently in ‘down round’ IPOs, Fastly more than doubled its private-market valuation as it came public Friday. The CDN startup priced its offering at the top end of the expected range and then surged some 50% in aftermarket trading.

Fastly’s strong debut continued the recent bull run of enterprise tech IPOs, a sharp contrast to several high-profile consumer tech offerings that have sunk underwater. It also sets up a rather rich valuation for the company compared with its primary rival, which went public two decades ago.

With its newly issued shares changing hands on the NYSE at about $24 each, Fastly is valued at more than $2bn. That’s a significant step up in value from its final venture funding, which came last summer. Although a bit deep in the alphabet, the series F round had Fastly’s investors paying slightly more than $10 per share.

The company posted $145m in sales in 2018 and is likely to bump that up to roughly $200m this year, assuming it holds its current high-30% growth rate. That means Wall Street is valuing it at a mid-teens price-to-sales multiple, on a trailing basis. Or another way to look at it: on a relative basis, Fastly is worth three times more than CDN industry stalwart Akamai, which trades at almost 5x trailing sales.

PE’s customer experience play

Mark Fontecchio

by Scott Denne

As budgets for customer relationship management (CRM) software hit a four-year high, private equity firms (PE) are pouring into the space, picking up new platforms and inking bolt-on deals. The number of acquisitions by sponsors is heading toward a record as customers spend more in the face of complex customer experience challenges, our data shows.

Across sales, marketing and customer service, businesses are grappling with finicky customers. In 451 Research’s VoCUL: Digital Transformation survey, 75% of respondents said they are dealing with rising expectations among customers in recent years and 78% said their customer experience processes have increased in complexity. As a result, they’re spending more on software. In a separate survey last summer, 15% of respondents said they would increase their spending on CRM software – the highest reading since August 2014.

Last year, PE shops and their portfolio companies bought a record 45 customer experience and CRM software vendors, spanning subcategories such as marketing automation, contact center and social media analytics. According to 451 Research’s M&A KnowledgeBase, those buyers are set to surpass that level with 24 so far in 2019. Many of the transactions are aimed at addressing a larger market through bolt-on deals. SugarCRM, for example, printed its second acquisition of the year with today’s purchase of marketing automation specialist SalesFusion. Prior to its sale to Accel-KKR last year, SugarCRM hadn’t bought a company since 2016, our records show. In another deal this week, Insight Venture Partners’ Campaign Monitor printed its third transaction of the year with the acquisition of Vuture.

Back to business

Mark Fontecchio

by Brenon Daly

After a brief but unprofitable dalliance with a popular consumer tech name, Wall Street is getting back to business. CDN startup Fastly is set to debut later this week, while business communications provider Slack and endpoint security specialist CrowdStrike have lined up expected offerings next month. All of those IPOs – which are built on more durable businesses than ride-sharing, for instance – should help put Uber‘s underwater offering in the rearview mirror.

Wall Street tends to run on a ‘what have you done for me lately?’ business. Uber’s offering didn’t do much for investors, except cost money to those who bought shares at the open. Of course, a week is a ridiculously short period to judge a company that will likely be public for years. But for now, with Uber shares still in the red, investors will shift their attention to where they can make money.

In IPOs, it’s been the offerings from tech vendors that sell to other companies that have generated returns. PagerDutystock is currently changing hands at twice where it priced its offering last month. Zoom Video Communications has also seen its shares double from their offer price, on a much larger scale. The firm has created an astonishing $19bn in market value.

Of the trio of enterprise-focused tech startups that are slated to come public soon, not one of them has figured out how to make money. But their losses are a fraction of the $3-4bn operating loss that Uber has posted in each of the past three years. When it comes to enterprise tech IPOs, companies don’t have to be profitable to be profitable bets for investors.

PE’s pricey paper

Brenon Daly

by Brenon Daly

Deals in which one private equity (PE) firm sells a company to another PE outfit are sometimes referred to as ‘paper trades.’ These transactions have become increasingly popular in recent years as yet another way for buyout shops to put their record levels of cash to work. By our count, secondary transactions currently account for almost one out of every five deals that PE firms announce, roughly triple their share at the start of the decade.

However, there’s a price for that popularity: the paper is getting a lot more expensive. PE firms paid an average of 4.5x trailing sales for tech vendors owned by fellow buyout shops since the start of 2018, according to 451 Research’s M&A KnowledgeBase. That’s 50% higher than the average PE-to-PE valuation from 2010-17.

There are a lot of reasons for the increase, not least of which is that overall valuations for the broader tech M&A market have been ticking higher, too. But that doesn’t fully explain it.

The M&A KnowledgeBase shows that the average multiple for tech deals since January 1, 2018 with buyout firms on both sides is nearly a full turn higher than the average multiple paid by PE shops to tech providers in that same period. Recent secondaries that secured price-to-sales multiples in the high single digits include Mailgun, Quickbase and the significant minority stake of Kaseya, according to our understanding.

So why do paper trades go off at a premium? Part of it is explained by the view that companies in a PE portfolio have largely been cleaned up, operationally. They are something of a ‘known quantity,’ which takes at least some of the risk out of the purchase.

From there, it’s just a short step for the new buyout owners to one of their favored activities: optimizing the businesses for cash flow. That financial focus, which is undeniably supported by the broad economic growth and continued increases in tech spending, has contributed to the current cycle of ‘pay big now, find a bigger buyer later.’ But if the economy turns, PE firms may well find that high-priced secondaries are one of the first types of deals to disappear, leaving them holding some very expensive paper.

Uber’s Immature Public Offering

Mark Fontecchio

by Brenon Daly

Being mature has never been a requirement for a tech vendor to go public. But that doesn’t mean a company should be childish, either. And yet, as Uber’s trip to Wall Street shows, a consumer tech startup can still get away with treating professional investors a bit like spoiled kids treat their parents: they don’t want anyone telling them what to do, even if they haven’t quite figured out what they will be when they grow up.

Uber, of course, is the extreme example of an indulged startup. Throughout much of its 10-year history, the company basically did what it wanted, expanding its services in some cases without concern about existing rules or practices. (There’s tech disruption and then there’s legal disregard. Too often, Uber claimed the former while practicing the latter, a point the company itself made in the now-obligatory ‘Letter from our CEO’ portion of its prospectus.) It could get away with that because it had billions of dollars of outsiders’ money to fall back on.

Now, after having piled up almost $8bn in accumulated deficit, Uber needs more money. Guided and supported by no fewer than 29 underwriters, the vendor will undoubtedly find new investors when it offers up shares to the public on Friday morning. The prevailing pricing in the IPO will likely see Uber pull in about $9bn, while the overall business will collect a valuation in the neighborhood of $90bn. Very much in character, Uber is going public like it ran a good portion of its business: on its own terms.

The arrogance that characterized Uber’s early days has certainly diminished quite a bit, but there’s still an unmistakable sense of adolescent self-assuredness at the company. As part of its self-described ‘bold mission,’ Uber sizes the current markets it serves not in the billions of dollars, but in the trillions. It amplifies that alluring vision by pointing out that it is only just starting with those opportunities, holding less than 1% share of any market in which it operates.

Uber continues that language of promise throughout the prospectus. While that vision sold early on – allowing the vendor to raise more funding than any other privately held US tech startup – the valuation inflation hasn’t left a lot of upside for it on Wall Street. (Or any at all, if it follows in the tire tracks of rival Lyft.) Private-market investors may have coddled Uber financially, but its pending IPO could serve as a tough-but-needed lesson in the painful process of growing up.