Economic realities set in for boutiques

Brenon Daly

Contact: Brenon Daly

Already this month, we’ve tallied deals advised by boutique banks including Revolution Partners, Pagemill Partners, GCA Savvian and others. The firms are all part of an increasingly crowded low end of the tech M&A market, which we covered more fully in a special report on boutique banks. Consider this fact: Each year, more than 100 distinct firms advise on at least one transaction closed. (We track that information in The 451 M&A KnowledgeBase and use it in our annual league table rankings.)

Despite the increasing number of boutiques, their share of the market continues to decline, at least when looked at on the basis of percentage of overall M&A spending. In 2009, spending on transactions advised by boutiques fell to just 6% of overall tech M&A – down from about 10% of advised spending in both 2007 and 2008. That cutthroat competition has left more than a few small advisory shops desperately trying to keep their doors open.

We wouldn’t at all be surprised if some of the boutiques started to wind up their practices later this year, with some partners moving on to other firms while other partners get out of the business altogether. In some ways, a thinning of the ranks is overdue, at least according to the industry itself (bankers can be so cold-blooded). In each of our past two annual surveys of tech investment bankers, by far the more likely change they predicted for the overall banking landscape was the shutdown of boutique banks. In late 2008, roughly four out of five tech bankers told us that a number of boutiques were likely to close their doors in 2009, while last December, more than two out of three bankers said the same thing about this year.

Advisory market share*

Firm classification 2007 2008 2009
Boutique 9% 11% 6%
Bulge boutique 9% 6% 11%
Full-service midmarket 15% 14% 9%
Bulge bracket 67% 69% 74%

Source: The 451 M&A KnowledgeBase

*Based on disclosed and estimated deal values, as percentage of overall annual M&A spending

Fat cat bankers? More like alley cat bankers

Brenon Daly

Contact: Brenon Daly, Adam Phipps

If the recent upheaval in the tech advisory practices at bulge-bracket banks was primarily caused by exotic financial instruments that nobody could really understand or even value, the shakeup looming for boutique banks has its roots in something much more fundamental: supply and demand. Essentially, there is an ever-shrinking number of tech M&A mandates available for an ever-growing number of firms.

With all the scrapping and discounting in the low end of the market, many boutiques are finding that getting a print these days is a costly bit of business. So what happened that turned the boutique bankers’ once-profitable and vibrant practice into a market where they’re all tripping over each other to pitch and then trying to undercut each other on price? We’ll look at that question – and the implications of the answer – in a special report on boutique banks in tonight’s Daily 451.

Shrinking mandates

Year Number of sell-side transactions*
2010 300 (annualized number, based on Jan. 1-Aug. 15 activity)
2009 296
2008 397
2007 464

*US-based technology companies, excluding telcos, that used advisers

Source: The 451 M&A KnowledgeBase

A deal in sight for ArchSight?

Brenon Daly

Contact: Brenon Daly

If nothing else, the long Labor Day weekend gave us all a chance to catch our breath following a week of some of the most frenetic dealmaking we’ve seen in some time. We had bidding wars, doubleheader deals and even a billion-dollar chip transaction. But in some ways, the loudest buzz in the tech M&A market came from a deal that didn’t happen: ArcSight still stands on its own.

The ESIM vendor was supposedly in play, at least according to a thinly sourced and almost woefully vague recent article in The Wall Street Journal. Not to pick apart the piece, but listing a half-dozen of the largest tech companies as ‘potential bidders’ misses a great deal of context. For instance, we noted two and a half years ago that Hewlett-Packard was rumored to have offered about $600m for ArcSight the summer before it went public. ArcSight is now worth twice HP’s rumored bid, and roughly four times the amount the market valued it at when it came onto the Nasdaq in February 2008, just before the IPO window pretty much slammed shut. (For the record, Morgan Stanley led the ArcSight offering.)

That stellar aftermarket performance raises another interesting point about ArcSight: despite the fact that its shares have quadrupled during a time when the Nasdaq has essentially flat-lined, the company has never done a secondary offering. It has just 37 million shares outstanding. That strikes us a narrow base for a firm with $200m in sales and a market valuation of more than $1bn. But maybe the company figures it shouldn’t bother selling shares at current market prices if it stands to get a substantial takeout premium on top of that. For our part, we wouldn’t at all be surprised to see ArcSight get a second exit.

Social gaming grows up

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Contact: Jarrett Streebin

Having already seen massive consolidation within the social games development industry, a related area is beginning to be consolidated: virtual goods. A subset of the social gaming industry, virtual goods are one way that developers make money from popular games. Google recently expanded into this market by buying Jambool. Although it’s the first purchase by a major player, there are bound to be more deals.

This isn’t Google’s first play in payments processing. The search giant stayed in-house back in 2006 when it rolled out Google Checkout. The only problem was that it was already years too late to unseat PayPal’s market dominance. Now, Google knows better than to get ‘PayPal-ed’ in the virtual goods market. With Jambool, Google obtains a social payments processor for social media games known as Social Gold. Although a relatively small player within the market, it has one of the most secure back ends in the business, with a Level 1 PCI security rating. This, along with the fact that it has support for a number of international currencies, makes it a very scalable service. Since Slide Inc, the social games developer recently acquired by Google, isn’t large enough on its own to warrant the purchase, it’s likely that Google will continue to expand the Social Gold offerings to meet outside demand. Additionally, Google may have more social gaming offerings coming that could use the product.

The virtual goods industry has been on shaky footing lately. Ever since Facebook announced Facebook Credits, which threatens to make all virtual goods companies obsolete on that platform, many of the companies have been scrambling to diversify away from the social media giant. As of yet, Facebook hasn’t made its Credits mandatory, so there’s still room for other players. But with RockYou, Playdom and Zynga all having signed exclusivity deals, it’s likely that we’ll soon see Facebook Credits used across the board.

One company that has diversified beyond Facebook is PlaySpan, which has a broad range of products that cover many areas of virtual goods monetization. The Santa Clara, California-based startup just received another $18m in funding, on top of approximately $20m. The firm could very well become the PayPal for virtual goods. If it does succeed in that, we wouldn’t at all be surprised to see PlaySpan also get picked up by eBay, which acquired PayPal in 2002. (We’ll have more in an upcoming Sector IQ on virtual goods.)

Wall Street job pays off for Salary.com

Brenon Daly

Contact: Brenon Daly

Strictly from the view of the corporate treasurer’s office, Salary.com got paid while on Wall Street. The compensation management vendor went public at a valuation that – in rather short order – would never again be available to the company. The outsized chunk of money that it raised in its early 2007 IPO, which came right before the window for new offerings slammed shut, has helped fund its money-burning operations since then.

In its mid-February 2007 IPO, Salary.com sold 5.7 million shares at $10.50 each. Of that amount, 4.9 million came from the company, meaning it raised some $51m. (That relatively fat offering came despite the company only recording $23m in revenue in the year leading up to its IPO.) In the year after the debut, the stock basically traded at or slightly above the offer price. But in early February 2008, it broke issue and would never again change hands in the double digits. Kenexa bid $4.09 for each share of Salary.com.

The fact that Salary.com is getting taken off the Nasdaq at less than half the price that it came on the exchange underscores just how much Wall Street has backed away from risk. And, unfortunately for Salary.com – a tiny company that’s put up only red numbers – that has meant investors backing away from it. To get a sense of just how small Salary.com is, consider this fact: each year, the company generates about $40m in sales, roughly the amount that its acquirer, Kenexa, generates each quarter. And we can’t overlook the fact that its unprofitable operations had burned down its stash of cash to about $8m, compared to more than $20m last year.

So all things considered, the planned sale of Salary.com is not such a bad outcome for the vendor. It gets valued at about 1.6 times trailing sales, roughly matching the multiple in some other recent human capital management (HCM) deals. (For instance, we understand that ADP paid about $110m for Workscape earlier this summer, a transaction that valued the HCM vendor at about 1.8x trailing sales.) In any case, if Salary.com hadn’t gotten a Wall Street windfall in the form of an IPO, we’re fairly certain that the company would have had a much rougher go of it during the Credit Crisis, and probably wouldn’t even have fetched the $80m that it got in its sale to Kenexa, or any other buyer.

A bidding war (of sorts) between the virtualization vendors

Brenon Daly

Contact: Brenon Daly

The tech industry has another bidding war. No, we’re not talking about the parrying over 3PAR or even the private equity shops slugging it out over Phoenix Technologies, a company that had largely been consigned to the corporate ash heap. Instead, we’re talking about the latest M&A moves by the virtuosos of virtualization, Citrix Systems and VMware.

Citrix opened the bidding with one deal earlier this week, putting its chips on virtualization management startup VMLogix. One day later, VMware matched the bid of one acquisition and then raised it another one. In a rare twin billing, VMware said it would be taking home both performance analytics startup Integrien as well as identity and access management vendor TriCipher. VMware’s two deals in a single day (do we call the amalgamated company ‘Trintegrien’?) brings its total number of acquisitions so far this year to five, after just one in all of last year. For its part, Citrix had been out of the market entirely since November 2008 before announcing the VMLogix purchase.

Of the three deals, the one that caught our eye was VMware’s pickup of Integrien. That might have been due to the astronomical multiple the startup garnered. We understand that the company, which was only running at about $2m in revenue, went for about $100m. Of course, looking at this transaction on a revenue multiple largely misses the point. Instead, as my colleague Dennis Callaghan notes in his report on the deal, the move makes VMware a legitimate contender in the IT performance management market and could hurt opportunities for other IT performance management vendors looking to sell into the vast VMware installed base.

The acquisition came just one day after Integrien released a special version of its flagship predictive root cause analysis software for VMware environments, so the two sides clearly knew each other. In fact, we gather that the two sides knew each other so well they negotiated directly, without an outside adviser. The VMware team was led on the Integrien deal by Alex Wang. Meanwhile, on the day’s other transaction, America’s Growth Capital advised TriCipher, while Jason Hurst, who recently joined VMware after a long stint as a software banker at Citigroup, led the buyside effort.

Google picks on the pipeline

Brenon Daly

Contact: Brenon Daly

As if the IPO process wasn’t already hard enough, candidates looking to go public have found a new obstacle: Google. For the second time in less than a year, the search giant has swung its considerable market heft against a would-be public company – likely trimming hundreds of millions of dollars in market cap from the IPO aspirants. That from a company with the informal motto of ‘Don’t be evil.’

Most recently, Google introduced Google Voice, an add-on to its Gmail offering that allows for free calls to anywhere in North America. If that sounds vaguely familiar, it’s because Skype has been in that business for about seven years now. On the back of that product, Skype filed its paperwork with the SEC earlier this month to go public, less than a year after being carved out of eBay. In the first half of 2010, Skype reported $406m in revenue, according to its S-1 filing.

And it isn’t like Google just stumbled on the idea of Google Voice as a ‘Skype killer,’ or however it thinks of the offering. From our vantage point, Google has set a deliberate course of M&A to acquire bits of useful technology and engineers for a VoIP offering. The company reached for Global IP Solutions in May after picking up On2 Technologies last year, a deal that required Google to top its initial bid. So Google clearly wanted to be in this market, and was willing to buy its way into it.

This bit of sharp-elbowed competition comes after Google made an even more drastic entrance last November into the turn-by-turn navigation market. Just two days before TeleNav, one of the largest mobile navigation vendors, put in its IPO paperwork, Google announced that it would be offering turn-by-turn directions. Although the service would be available on only a very limited number of devices, Google’s price was hard to beat. (It was free.) Granted, TeleNav has run into trouble (no pun intended) of a different sort since it listed on the Nasdaq. But the company seemed almost destined for difficulties after being born under a bad moon, thanks to Google.

Winners and losers in data warehousing

Ben Kolada2 Comments

Contact: Ben Kolada

Just a month after Greenplum was swallowed by EMC for an estimated $400m, fellow data-warehousing startup Kickfire was sold for probably one one-hundreth of that amount to Teradata. Why did the two data-warehousing vendors – both venture-backed, Silicon Valley startups targeting the same market – see divergent outcomes? The answer to that multimillion-dollar question lies in each company’s targeted markets.

The scrap sale of Kickfire was the end result of a misguided approach by the Santa Clara, California-based startup to the low end of the data-warehousing market. Basically, Kickfire was trying to sell appliances through an expensive direct-sale model. However, the economics of a high-cost business model for a low-cost product only work on big sales. Kickfire never got anywhere close to that, collecting only about a dozen customers in its four years of business. (We would contrast Kickfire’s business model with that of its closest competitor, Infobright. That company, which sells a software-only product through an indirect channel, has more than doubled the number of customers over the past year to 120.)

As Kickfire was struggling to sell to small businesses, 30 miles up the road in San Mateo, California, Greenplum was ripening nicely by selling to enterprises. The company’s high-revenue customer accounts helped it quickly grow total sales to just shy of $30m at the time of its sale to EMC. (That works out to an eye-popping valuation of 14 times trailing sales – a multiple that’s twice as high as any valuation the data-warehousing sector has seen in major acquisitions.) Part of the reason it garnered such a high price is that Greenplum counted some 140 customers at the time of its sale.

Other data-warehousing vendors have also experienced the highs of the enterprise market. Netezza and Teradata both made it to the public markets. (Although we heard a rumor that Netezza was almost erased from the market. Word is that EMC first talked to Netezza, even floating a bid earlier this year that basically would have valued Netezza at its current price on the NYSE. Needless to say, talks didn’t go too far between the two Boston-area companies.) And of course, DATAllegro was scooped up by Microsoft for an estimated 7x trailing sales.

With all of this consolidation playing out, we expect that much of the attention in the data-warehousing space is now turning to Aster Data Systems. The fast-growing vendor, which is based in San Carlos, California, has raised $27m in venture backing. If Aster Data gets snapped up in a trade sale (like many of its rivals have), we wouldn’t be surprised to see Dell as the buyer. The two companies are currently partners, and Dell has shown an increasing interest in big data following its continued attempts to buy 3PAR.

A hoarse auctioneer for 3PAR?

Brenon Daly

Contact: Brenon Daly

The back-and-forth bidding for 3PAR moved higher again Friday, as the counteroffer to the counteroffer pushed the value of the high-end data storage vendor to $2bn. In the latest move, Hewlett-Packard lobbed a bid of $30 for each share of 3PAR, topping its offer from Thursday of $27 per share that had been matched by Dell. If 3PAR opts for HP’s bid, Dell has three days to come back with an offer of its own, according to terms. Dell, which opened the process 10 days ago with a bid of $18 per share, has already matched two efforts by HP to derail the deal.

As is pretty much always the case when would-be buyers with deep pockets go against each other, the price of the target company moves higher. (It’s fundamental supply-and-demand economics, after all.) Yet in the case of 3PAR, we’re not talking bids that are sweetened with a teaspoon or two of sugar – we’re talking cups of the stuff. (To recap the investment banks that are helping to advise their clients on how much sugar to dole out: Qatalyst Partners is banking 3PAR, while Credit Suisse Securities is banking Dell and JP Morgan Securities is banking HP.)

The latest offer values 3PAR at basically $830m higher than the opening takeout valuation, which was already the highest the storage company had ever seen. (In fact, Wall Street valued 3PAR at less than $800m before all this bidding started. Shares had basically bounced around $10 each for most of the year.) HP’s offer gives 3PAR an equity valuation of $2bn, two-thirds higher than Dell’s initial bid that gave it a $1.25bn equity valuation. For those wondering about the ‘price discipline’ at the two suitors, we would note that the going rate for 3PAR is now 10 times trailing sales.

A clear return and ‘cloudy’ outlook for Tripwire’s only deal

Brenon Daly

Contact: Brenon Daly

Exactly a year ago, Tripwire made its first and only acquisition in its 14-year history, picking up the assets of Activeworx. The tiny startup added log management technology to Tripwire, an IT configuration and compliance vendor. The deal itself, which only set Tripwire back about $3m, was a fittingly quiet purchase of a company that had lived a pretty quiet life. On Thursday, Tripwire took that technology to the cloud.

Although Tripwire actually closed its pickup of Activeworx last August, it only began talking about its log management offering, which is based on the acquisition, earlier this year. It also only began selling its log management offering earlier this year. As it was rolling out the offering, we noted that the log management market looked awfully crowded. But so far, Tripwire appears to be getting a solid return on its Activeworx buy. From a standing start, Tripwire’s Log Center business has generated about $2m of license sales in the first two quarters of 2010. (And to be clear, that’s GAAP revenue, as listed in the company’s latest amendment to its S-1 filed with the SEC, not some loosey-goosey figure that has been rounded way up.)

Granted, the Log Center contribution is still a small slice of the $18m in total licenses it has sold over the same period, and an even smaller portion of the $40m it tallied as total first-half 2010 revenue. But for a new product introduction, that’s a strong start out of the gate. And today, Tripwire announced a partnership with Terremark through which the datacenter provider will now be offering Log Center to its clients. The on-demand compliance and security arrangement between the two companies marks the first cloud offering from Tripwire.

Having its inaugural acquisition already producing revenue at a strong clip, we suspect that Tripwire will look to return to the market. The only question in our mind is what corporate structure Tripwire will have when it goes shopping again. Will it remain a privately held company, or will it see through its IPO filing and join the ranks of the Nasdaq-listed companies? Or will it – as we have speculated in the past – get snapped up by a larger vendor? From what we’re hearing now, however, a Tripwire trade sale is looking less likely than earlier in the summer. From our perspective, two of the companies that would head any list of likely buyers for Tripwire (McAfee and Hewlett-Packard) have their own M&A events to sort through right now.