Capstone Headwaters Saas & Cloud Coverage Report
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ENTERPRISE SAAS AND CLOUD Q1 2020 CONTRIBUTORS HIGHLIGHTS David Michaels Strong LTM M&A activity with a record 2,156 deals totaling nearly $180 billion Managing Director (858) 926-5950 IPO activity was quiet with just one notable IPO in the quarter [email protected] M&A revenue multiple of 4.0x for private targets and 4.1x for public targets are down from 2018 and 2019 levels Teak Murphy Enterprise SaaS & Cloud 170 stock prices were down 17.6%, underperforming the NASDAQ’s Director 14.2% drop, as COVID-19 crushed the market (310) 746-5006 [email protected] M&A activity hit record levels in Q1’20 with 657 deals for the quarter driven by huge January and February deal volume while March activity was only slightly hampered by COVID-19 impact While public valuations have rebounded from lows relatively quickly it remains to be seen whether a double dip might come Capstone Headwaters expects M&A activity will remain depressed for Q2 and Q3 until the economy has stabilized and is not likely to return to pre-Covid levels until late 2021 or early 2022 www.capstoneheadwaters.com KEY TAKEAWAYS M&A ACTIVITY & MULTIPLES PUBLIC COMPANY VALUATION & OPERATING METRICS CAPSTONE HEADWATERS SOFTWARE TEAM ENTERPRISE SAAS AND CLOUD: M&A AND VALUATION UPDATE | Q1 2020 KEY TAKEAWAYS TRANSACTION ACTIVITY MEDIAN VALUATION MULTIPLES MEDIAN PUBLIC COMPANY METRICS Strong LTM M&A activity with a record M&A revenue multiple of 4.0x for private Stock prices fell 17.6%, underperforming 2,156 deals totaling over $180 billion as targets and 4.1x for public targets are the NASDAQ’s 14.2% drop as COVID-19 January and February were very active down from 2018 and 2019 levels impacted nearly all company values while the COVID-19 slowdown only Public company median multiples Median revenue growth of 20.8% moderately impacted March deal activity dropped to 5.4x revenue and 21.3x represents a slowdown, with further IPO activity was slow with just one EBITDA as COVID-19 shut down the slowdown expected from the economy notable deal for the quarter and we are economy and investors fled shut down impacting most of Q2’20 not expecting increased activity in the Median EBITDA margin of 13.3% is near term due to COVID-19 market approaching highs though likely will be disruption impacted for the rest of the year M&A OUTLOOK NOTABLE Q1’20 M&A TRANSACTIONS MOST ACTIVE BUYERS Q2’20 M&A activity will be down sharply Buyer Target Segment EV as strategics focus inward and private Communication & $4.6B equity focuses on portfolio triage while Collaboration awaiting stabilization of the debt markets Vertical Market $4.0B We expect Q3’20 to remain depressed as Cloud & IT $3.9B debt markets will be slow to come back Infrastructure and deals that hit pause during the Marketing & $2.8B shutdown will be more likely to get closed Advertising in Q4 Human Resources $2.2B Our discussions with buyers indicate a Vertical Market $2.0B mixed bag for strategic appetite while private equity is open for business, Cloud Computing, $1.4B though typically with tightened criteria Storage & Delivery Cloud & IT and lack of debt impacting valuations $1.0B Infrastructure Many sellers chose to sit out until the Vertical Market $580M markets recover but we are starting to see signs of interest return ERP, Supply Chain & $540M Commerce 2 ENTERPRISE SAAS AND CLOUD: M&A AND VALUATION UPDATE | Q1 2020 THE GREAT RECESSION – SOFTWARE M&A IMPACT M&A Software deal activity impact began in Q3’08 when Lehman went under and markets plunged » Transaction volume fell over 30% in just two quarters and was down more than 40% over four quarters as the stock market continued to slide Software M&A volume rebounded quickly after hitting its low in Q2’09 » Deal volume increased nearly 45% over the subsequent three quarters as GDP growth turned positive again » However, it took nearly three years to fully rebound to prior deal activity levels Fed bails out Lehman Brothers Fed bailouts Dow off more Unemployment Bear Stearns bankruptcy; accelerate; Selloff than 50% from reaches 10%; GDP Markets plunge continues 2007 peak growth returns 500 450 400 350 300 250 446 448 431 441 429 434 200 409 399 403 412 Transactions 360 359 351 367 355 328 150 290 282 259 249 100 50 0 Q1 '07 Q2 '07 Q3 '07 Q4 '07 Q1 '08 Q2 '08 Q3 '08 Q4 '08 Q1 '09 Q2 '09 Q3 '09 Q4 '09 Q1 '10 Q2 '10 Q3 '10 Q4 '10 Q1 '11 Q2 '11 Q3 '11 Q4 '11 3 ENTERPRISE SAAS AND CLOUD: M&A AND VALUATION UPDATE | Q1 2020 THE GREAT RECESSION – PUBLIC SOFTWARE VALUATION IMPACT Public software company valuations declined for four straight quarters losing approximately 35% of their value before rebounding Software companies declined less than the broader market and also rebounded much more rapidly » It took four quarters after bottoming out before the Software Index returned to its pre-recession levels while the broader Dow took sixteen quarters Software company LTM revenue multiples dropped considerably from 3.6x pre-recession to just 2.3x at the low point Revenue multiples nearly recovered to pre-recession in Q1 2010 and were at new highs by the end of 2010 Fed bails out Stock Performance Bear Stearns 140% Lehman Brothers Fed bailouts Dow off more Unemployment 6.0x bankruptcy; accelerate; Selloff than 50% from reaches 10%; GDP Markets plunge continues 2007 peak growth returns 120% 5.0x 100% 4.0x 80% 3.8x 3.6x 3.4x 3.3x 3.4x 3.0x 3.1x 60% 3.0x 3.0x 2.8x 2.8x 2.7x 2.3x 2.3x 2.0x 40% 1.0x 20% 0% 0.0x 12/31/07 3/31/08 6/30/08 9/30/08 12/31/08 3/31/09 6/30/09 9/30/09 12/31/09 3/31/10 6/30/10 9/30/10 12/31/10 Software Index DJIA Software Revenue Multiples 4 ENTERPRISE SAAS AND CLOUD: M&A AND VALUATION UPDATE | Q1 2020 THE COVID-19 RECESSION – SOFTWARE M&A ACTIVITY PREDICTIONS Software deal activity in Q1’20 was not heavily impacted » January and February were strong and unimpacted by COVID-19 » While COVID-19 was impacting public markets in March, the majority of transactions under LOI managed to get closed Deal activity for Q2 will be heavily impacted by COVID-19 » Buyers are impacted by uncertainty of severity of impact, weakened public company valuations, and lack of bank lending for private equity » Concerns about marketing timing and valuation adjustments will lead many sellers to hold off on bringing deals to market Capstone Headwaters expects depressed activity for at least a quarter after economy reopens with deal activity recovering more slowly than public valuations 700 600 500 400 Transactions 657 300 558 545 525 550 550 550 491 500 450 475 200 425 375 300 250 100 225 0 Q1 '19 Q2 '19 Q3 '19 Q4 '19 Q1 '20 Q2 '20 Q3 '20 Q4 '20 Q1 '21 Q2 '21 Q3 '21 Q4 '21 Q1 '22 Q2 '22 Q3 '22 Q4 '22 5 ENTERPRISE SAAS AND CLOUD: M&A AND VALUATION UPDATE | Q1 2020 THE COVID-19 RECESSION – PRIVATE EQUITY BUYER APPETITE WILL FUEL RECOVERY Capstone Headwaters interviewed approximately 40 software-focused private equity firms to determine their investment appetite in the wake of COVID-19 The findings suggest that the vast majority of software-focused PE firms are open for business with the following caveats: » Most PE firms will avoid vertical markets that have the most exposure such as restaurant, retail, travel, etc. » PE firms will also tighten their investment committee approval criteria for new platform investments » We expect many PE firms to pursue minority investments more opportunistically than they had prior to COVID-19 in order to help make up for what is expected to be a slower M&A market Capstone expects that the need for PE firms to put money to work will fuel a recovery in software M&A activity beginning in Q4 and accelerating in 2021 » Despite the fact that most software-focused PE firms have completed their portfolio triage and are “open for business”, we believe it will remain challenging to close deals in Q2 and Q3 until the impact of COVID-19 is more evident and debt markets stabilize Software-Focused Private Equity Responses to COVID-19 Holding Off on New Deals 0 Bargain Hunting 3 Open For Business (Tighter Criteria) 29 Business As Usual 6 0 5 10 15 20 25 30 6 ENTERPRISE SAAS AND CLOUD: M&A AND VALUATION UPDATE | Q1 2020 THE COVID-19 RECESSION – SOFTWARE M&A VALUATION PREDICTIONS Public software company valuations have not adjusted significantly year-to-date » Capstone’s SaaS & Cloud 170 was down a median of 18% in Q1 but has recovered a lot of that ground in Q2 » Software has outperformed the broader market, particularly in the last 60 days Capstone believes there is risk of another significant market correction in Q3 when Q2 earnings reports come in and the true impact of COVID-19 on business performance becomes more evident » If a “double dip” occurs, we expect Software to once again outperform the broader market We expect that public software company multiples will end the year around a 10-15% discount to Q4’19 levels with further recovery during 2021 We believe that private target M&A valuations may be down closer to 15-20% in the near term but will rise to a 10-15% discount to Q4’19 levels as more buyers come back into the market and debt availability returns LTM Enterprise Value / Revenue 8.0x 7.1x 6.9x 6.7x 7.0x 6.5x 6.2x 6.4x 6.1x 6.0x 6.2x 6.0x 5.8x 5.4x 5.5x 5.0x 4.0x 3.0x 2.0x 1.0x 0.0x Q1'19 Q2'19 Q3'19 Q4'19 Q1'20 Q2'20 Q3'20 Q4'20 Q1'21 Q2'21 Q3'21 Q4'21 7 Based on data available as of 3/31/20 KEY TAKEAWAYS M&A ACTIVITY & MULTIPLES PUBLIC COMPANY VALUATION & OPERATING METRICS CAPSTONE HEADWATERS SOFTWARE TEAM ENTERPRISE SAAS AND CLOUD: M&A AND VALUATION UPDATE | Q1 2020 LTM M&A DOLLAR VOLUME LTM M&A dollar