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Overture Advisors, LLC Technology M&A Update (YTD as of June 25, 2010) Technology M&A Dealmaking - Back on the Right Track Following increased M&A activity in the first quarter of 2010, the technology sector is expected to see significant deal growth throughout the remainder of the year. Deal volume is continuing to thrive despite a slight decline in the overall value of the market. Small strategic deals in pursuit of disruptive technology have been a feature of the market. A number of venture backed companies have been acquired by industry minors looking to diversify their portfolio and bring innovative products to a wider customer base. Deal flow should remain strong as macroeconomic conditions continue to improve. Provided companies can identify and acquire targets with solid underlying characteristics, 2010 should mark the recovery of deal growth in the technology sector. Quarterly M&A Deal Analysis Q1 2009 - Q2 2010
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Although the number of deals has increased over Q1 2009 by 34%, the lack of larger deals has resulted in a decreased total Enterprise value. Increased deal volume contributed to the overall increase in Median deal size. Middle market experienced the greatest uptick in market deal volume, with a nearly 25% increase over the prior year. M&A recovery has not been consistent across all industry sectors. Software was the underlying focus of tech M&A in Q1 2010. Application software, infrastructure software and SaaS were the industry's leaders, although as seen, deal flow was distributed across all primary technology industry sectors. The market is now dominated by focuses on cost controls and efficiency. Positioning, deal size, recurring revenues and track record will be key drivers moving forward. Financial buyers have been slow to come back to the market, with private equity firms representing only 4% of the Q1 transactions. However, this activity is expected to rise as macroeconomic conditions continue to improve and corporate projects are becoming more reliable. A number of recent positive indicators have emerged throughout the latter half of 2009 and first quarter of 2010.
In the last quarter of 2009, 13 megadeals were announced at improved multiples of Total Enterprise Value/Revenues (TEV/Revenue). For instance, serial acquirer Cisco took over Tanberg in Norway (4.1X), followed by Starent Networks (8.7X) and Scansafe (6.1X) while HP acquired 3Com (2.1X). M&A activity also increased in mid-market deals as public markets valuation continued to improve followed by valuations. Compuware acquired Gomez (5.5X), while IBM took over Lombardi Software (5.7X) and Guardium (6.1X). Microsoft was also active with 2 acquisitions during the last quarter at TEV/Revenue multiples ranging from 4.5X to 6.0X. While many of these transactions can be classified as defensive, as buyers were either seeking to consolidate market share or to add high margin revenues to alleviate their own business infrastructure costs, the beginning of 2010 has shown the return of strategic deals where buyers look to fill in missing components of their current product offerings or business models.
Although the number of deals has increased over Q1 2009 by 34%, the lack of larger deals has resulted in a decreased total Enterprise value. Increased deal volume contributed to the overall increase in Median deal size.
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Middle market experienced the greatest uptick in market deal volume, with a nearly 25% increase over the prior year. M&A recovery has not been consistent across all industry sectors. Software was the underlying focus of tech M&A in Q1 2010. Application software, infrastructure software and SaaS were the industry's leaders, although as seen, deal flow was distributed across all primary technology industry sectors. The market is now dominated by focuses on cost controls and efficiency. Positioning, deal size, recurring revenues and track record will be key drivers moving forward. Technology M&A Activity
Source: Capital IQ and 451 Group Financial buyers have been slow to come back to the market, with private equity firms representing only 4% of the Q1 transactions. However, this activity is expected to rise as macroeconomic conditions continue to improve and corporate projects are becoming more reliable. A number of recent positive indicators have emerged throughout the latter half of 2009 and first quarter of 2010. In the last quarter of 2009, 13 megadeals were announced at improved multiples of Total Enterprise Value/Revenues (TEV/Revenue). For instance, serial acquirer Cisco took over Tanberg in Norway (4.1X), followed by Starent Networks (8.7X) and Scansafe (6.1X) while HP acquired 3Com (2.1X). M&A activity also increased in mid-market deals as public markets valuation continued to improve followed by valuations. Compuware acquired Gomez (5.5X), while IBM took over Lombardi Software (5.7X) and Guardium (6.1X). Microsoft was also active with 2 acquisitions during the last quarter at TEV/Revenue multiples ranging from 4.5X to 6.0X. While many of these transactions can be classified as defensive, as buyers were either seeking to consolidate market share or to add high margin revenues to alleviate their own business infrastructure costs, the beginning of 2010 has shown the return of strategic deals where buyers look to fill in missing components of their current product offerings or business models. New York · Washington D.C. · Toronto · Atlanta · Chicago · Dallas · Silicon Valley www.OvertureAdvisors.com |
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Can M&A activity be sustained throughout the remainder of the year and into 2011? As we have experienced the beginnings of increased activity over the past quarter, we foresee a strong recovery across all technology M&A sectors. Acquisition candidates have likely weathered the extreme conditions of the past 18-24 months, and in general have stronger fundamentals. The cost of capital has decreased, IPO activity has improved, many Venture Capital and Private Equity firms have come back to the table and large IT firms are currently holding large cash positions. The moves by all players will be emulated by smaller companies who see the value in growth via M&A, not just organically. Notwithstanding the economic news from Europe, and other corrective behavior on Wall Street, we believe the recovery is sustainable. Technology Public Valuation
Underlying Deal DriversLargely driven by consolidation forces, the technology M&A sector is expected to strengthen in 2010. The primary deal drivers of deal flow remain relatively consistent- a need for incremental revenue and expanded reach in maturing technology segments. Current deal flow has seen heavier weightings on fundamentals than in the past, with a higher comparative weighting on profitability versus growth revenues. Since the market leaders are using M&A as a key growth tool, companies of all sizes are compelled to consider it as well. Smart companies are staying true to their core competencies and assessing whether to buy or build products to fuel growth. 1. Synergistic Partnerships Many organizations know that they cannot achieve their business goals alone. We have seen an increased interest in the combination or partnering of companies in order to accelerate the overall growth of their businesses. Board of Directors want results. As such, management is more accountable than ever to report improved results, or reorganize/recombine their company to provide sufficient return to investors. While partnership programs have become the norm across the industry, only an acquisition can secure the Intellectual Property, distribution channels, market New York · Washington D.C. · Toronto · Atlanta · Chicago · Dallas · Silicon Valley www.OvertureAdvisors.com |
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presence, access to capital and increased revenue base that are required to compete. Underlying macroeconomic factors, current corporate market conditions and available financing are also each positively driving technology M&A deal volume. 2. Macroeconomic Factors  After experiencing a sharp climb in unemployment rates, the national rate has begun to decline. According to the Bureau of Labor Statistics, unemployment fell to 9.7% in Q1 2010. New jobs have been driven primarily by available temporary work, the healthcare sector, the federal government and a slight increase has been experienced within the manufacturing sector.
Source: Bureau of Labor Statistics
After the Real GDP experienced declines for four consecutive quarters beginning in Q3 2008, data from the Bureau of Economic Analysis shows a rebound in both Q3 and Q4 2009. Recovery can be partially attributed to increased private investment and increased exports. Experts expect this trend to continue as money supply is at historic highs. National GDP growth has been in part driven by corporate profit increases. According to the Bureau of Economic Analysis, corporate profits increased by $108.7 billion to $1.5 trillion in Q4 2009 when compared to the prior year's period. As capital is becoming more available, businesses have turned once again to expansion.
While macroeconomic indicators point to a new growth cycle, other factors have contributed to the positive trend experienced within the tech M&A market.
Relative to other industries, the technology sector experienced fewer market declines, as it is less affected by the debt markets. On average, technology companies tend to exhibit stronger balance sheets, as they often operate on higher gross margins and less debt.
A benefit experienced by the tech sector is that technology is frequently viewed as an operating expense, not a capital expenditure. Companies are seeking product and solution additions for
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4. Access to financing also drives M&A activity Let's consider some possible parallels between previous credit crises and the crisis of today. In the late 1990s and early 2000s, the M&A cycle was largely driven by the TMT boom. Large Telecom, Media and Tech (TMT) companies had access to cheap equity financing which they used to buy one another. The largest deals during this period included Vodafone purchasing Mannesmann ($172bn) and AOL purchasing Time Warner ($112bn). By contrast, the most recent M&A cycle was driven by the availability of cheap debt which was used by large companies and private equity firms to purchase smaller companies. This had the effect of de-equitizing the global equity market. Cheap debt was used to retire expensive equity and listed stock markets began to shrink. The aforementioned trends are expected to continue as companies continue to remain focused on efficiency and cost structure. Technology M&A Risks to Buyers and SellersFinancial risks exist for both buyers and sellers. The major risk in any transaction often occurs post transaction, when the lack of thorough upfront research and due diligence fails to reveal flaws at the strategy, technical, human and financial levels. Further, the lack of a post acquisition integration program too often leaves acquired companies and their management without a clear mandate or career path. This is especially true when a smaller, more entrepreneurial company is acquired by a more established company. Mitigation often takes the form of mutual accountability, typically as an earnout for the acquired company. Acquirers are mitigating technology risks by only buying more mature businesses with proven technologies and intellectual property, properly protected with patents and trademarks. It is absolutely essential that any potential deal begins with a thorough understanding of the possible risks and that both buyer and seller teams neutralize their emotions to instead concentrate on levels of human and technical fit, return on investment and the end game, which is the creation of an entity that is enhanced and more competitive in the marketplace. The time and resources required to put a deal together is much higher than in the past. The net must be cast much wider for buyers and sellers, and the traps are more prevalent. As we are 14 months into a recovery, a growing risk in the M&A sector is inaction; missing windows of opportunity as valuations slowly rise along with price, or when a competitor acquires the firm you targeted. As the competition makes strategic moves, it becomes more imperative for others to make countermoves. Despite risks associated with M&A activity to both buyers and sellers, opportunities exist to capitalize within the technology sector. New York · Washington D.C. · Toronto · Atlanta · Chicago · Dallas · Silicon Valley www.OvertureAdvisors.com |
Opportunities for Conducting M&A in the Technology Sector
The M&A market experienced significant declines as the economy was hit hard in 2009. As typical M&A cycles trend for 5-6 years, and considering we are already 14 months into the recovery, strong opportunities exist within the marketplace for investors. Technology is often the first thing placed on hold at the beginning of a recession, and the first thing to improve as the economy begins to improve.
Opportunities to experience increases in valuations and to reap the rewards of strategic plays exist. Possible M&A candidates should include organizations that exhibit strong balance sheets, positive earnings momentum and some current M&A risk.
The likely acquirers will be organizations that hoarded cash in 2009 that have been mandated to put funds to better use. For companies looking to make smaller company acquisitions, cheap debt is currently viewed as the most viable financing option for technology M&A deals. As we look to the future activity of tech M&A, factors such as economic stability, the availability of debt, the volume of buyers and sellers and price will determine deal volume. Now more than ever, companies looking to secure the right opportunities need to hire intermediaries to bring buyers and sellers together successfully. Overture Advisors, LLC (www.OvertureAdvisors.com) is an Independent Investment Banking Firm focused on Information Technology companies.
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