How to Get Bought for $1 Billion or More: The Future of SaaS M&A

Please welcome Vili Iltchev, partner at August Capital, to the stage.

All right, thanks for joining us for this session. I think we have an amazing panel today. We're going to talk mostly about M and A, which is how those of you that start companies make money usually. Our panelists today are Mark Teyon. Mark is a partner at Vista Equity, which is the largest, the most active and the most successful private equity firm in the software space. And I don't think I'm exaggerating, we have Emily Choi. Emily Choi is the head of corporate development at LinkedIn and she's been leading the strategy team at LinkedIn and done a lot of interesting things. And Monte Gray is the head of strategy and corporate development at SAP. And SAP has made successfully a transition from the on premise software world to the SaaS world. And I really look forward to hearing the insights about how those two worlds are different. So with that, I figured we'll get started. Maybe Emily, we can start with you. You were pretty active at LinkedIn, but you could always do more and be more active and do more deals. Can you shed some light into what was holding you back as a fast growing company in being more active with acquisitions and being more aggressive? What were the challenges you were facing?

So first of all, I think there may be a misperception in your mind with respect to how active we were. I actually think we were pretty active. We don't disclose everything we do. But I think you're right in terms of the nature of the M and A that we have done has been predominantly more tuck ins, which probably doesn't get as much buzz as large, you know, big name acquisitions. And I think if you just look at the roots of LinkedIn, our roots are a consumer company and we are an R and D led company. And so when you think, and we're also a network and when you think about those attributes, we're data driven. We are a collaborative culture. There's just a lot of things that have to fit together in order for everything to work. It's, there's not this notion of, you know, you can just like plug something in and it's all just going to work on the network. It's actually something where we have to think about how it'll fit into the whole picture. And so that would be the one thing I would say is we're very thoughtful in that regard. And so MA unto itself is always one of those things where the stars have to align. And I think that's probably even more emphasized at a company with our characteristics.

But it's strategic, it fits so well. Why not do it? You know, why is it so hard.

When you actually are on the inside of a company and you're the acquirer and you're talking about this stuff very thoughtfully with people who really care about making sure things go right, it is much easier to recognize and actually it's much more responsible to just recognize when you don't think you're actually going to be able to make something work the way you want it to. And in many cases, especially with SaaS, you're looking at companies that may have not reached a certain trajectory and you're kind of going to say it's OK to hold back, it's okay to watch these companies progress a little bit more and see if they actually take off. Because there's such a plethora of them, it's hard to actually differentiate them until they've actually gotten to some level of scale.

Cool. Monte, what were the most insightful and stark differences in acquiring a traditional on premise application software or infrastructure software company versus a cloud company?

Besides valuation? Besides valuation, I think there's different elements around. There's financial elements just on the metrics and how you view the business which are fundamentally different than on premise. There are technology elements which are fundamentally different. And then sales.

Right.

End of the day, how do you sell to your customer? We're not selling as traditional on prem world into the CIO office. We're actually selling to a line of business, to our end user. So these are all different ways to perceive the business than what SAP, let's say five years ago historically did. On the financial side, you're looking back, it goes back to growth. Is there healthy growth taking place? And there's a different lens you have to apply when you're looking at a SaaS company versus an on premise company. Quality of bookings, new and upsell, you know, churn customer acquisition costs. All the metrics, which everybody's familiar with here, those are things that are unique and they're there for a reason and we spend a lot of time looking at those. And how does that translate into the on prem world? At a macro level, you know, there's margins, it goes back to healthy growth. And what are the margins to support that technology wise? There's some good and some bad, right? I think one of the obvious things is you have more control over your technology stack when you're acquiring a SaaS company. Therefore, in terms of packaging the software apps a little bit less on it. That's on you as the provider. But at the same time, when you look to scale a business, you have to ask yourself different questions. How do I take a business into a different geographic market? How do I take a business to Europe? How do I take it to Asia? You really quickly get into an infrastructure conversation, a data center strategy conversation. And so things are fundamentally different from the thesis of why you would acquire a company than say a traditional on premise company.

Is your experience that acquiring a SaaS company has been more challenging than an on premise company?

I think in the early years, let's go back to five years ago, it was probably more challenging and that was primarily a reflection of SAP and who we were at that point in time, how we sold product, how we incentivize our sales and taking the acquired product and putting into that model. Technology wise, what is our technology strategy for stand up a data center in Singapore, for example? These are different things that we've matured and we're at the point now where there's no friction on that.

Okay, okay. And Mark, maybe from a private equity perspective, you have become more active in SaaS recently. You took marketo private Marketo was one of the more successful and larger SaaS companies out there. What do you see in SaaS? Has anything changed? Has SaaS matured? What's the SaaS world from your perspective as a private equity buyer?

Yeah, from a maturity standpoint, I think once the people that wear suit and tie show up, it means the market's pretty mature. And so we believe that this market is actually getting to a point where private equity can be successful. I think in the marketo example, we found that the TAM was still growing because it was moving from the SMB market to the enterprise and they had made significant investment in the sales there. And also the customers were being more comfortable using SaaS applications. So for us, that was where we had primarily operated in with our other software companies in the enterprise and we were very comfortable operating there. Cvent was another example of a great SaaS company that we took private and, and these companies are of an appropriate scale for us to make investments.

What levers or opportunities do you see in SaaS to create value? In the traditional on premise world, a lot of the opportunities to make money were cost savings. How is SaaS different and what levels do you think you have as the owner of these companies to generate returns?

Yeah, I think the biggest challenge for us when we do a SaaS acquisition is that we're known for making dramatic operational changes to our companies. And when you're in an on premise environment, the stickiness of those applications allows you to make what could be perceived as disruptive changes and still maintain that revenue stream in a SaaS environment. That just not the case. I mean, the retention rates are just different. You know, applications are more portable and we have been very cognizant of that as we've done it. And it's caused us to reevaluate some of our playbook as we've gone into this marketplace. But the core principles of, you know, certain schools and universities and regions in the country are overvalued in terms of how much we pay for coders. You know, that's one thing. Another thing is that the way we compensate people. All those basic fundamental business practices still manifest themselves in SaaS world and we've been successful doing that at the companies that we've acquired.

Do you envision getting even more active in SaaS?

Yeah, I think the biggest challenge for us from a public company standpoint is we've taken a significant part of the market share out of the market. So now I think you'll see us more active with private SaaS companies.

Yep. And just for context, for those of you that don't know Vista, Vista manages how many billion in assets?

Up to 29 billion.

29 billion in assets. So they have a lot of cash to deploy. Monty, can we talk about size and scale for how you guys think about what is the right potential acquisition to make? SAP has made a lot of larger SaaS acquisitions. So Ariba and SuccessFactors and Concur3/billion dollar each of those acquisitions, was that part of a deliberate strategy to focus on larger acquisitions or it just happened that way? Is there a difference?

Yeah, no, I think that's, that's a great point. So if you go back in terms of some historical context, five years ago, when we were looking to make as a company the transition to the cloud, we really looked to our customers to find out what they were using and who was out there. And there were a handful of really large scale assets if you recall back five years ago, and SuccessFactors was one of them. It was a great anchor for us where our customers were using it. It was side by side. It was very synergistic for what we were doing and that enabled us to really get into, to understand the different aspects of the cloud from a selling perspective, from a back office perspective, how to manage a cloud business. And from there we looked at what are the other ancillary areas? Large horizontal topics. Procurement, SRM procurement for Ariba Travel Concur, what are the really good quality assets out there that are synergistic to SAP? So we were pretty prescriptive about looking at that and thinking here's something that could make sense. And then ultimately we listened to our customers and felt like this is the way they were going going forward. If you look at where we are today, a good part of our organic portfolio is now SaaS. As a result of that we have this combination of acquired properties, as you mentioned, the kind of the brands which we still maintain and then are acquired, different areas, whether it's finance, whether it's in CRM, these are some of the organic aspects that we have that are now SaaS. So looking forward, we look across our entire portfolio, which is quite, quite broad from a SaaS perspective relative five years ago and we're looking to see where some things that could augment this. Now.

How do you look at a SaaS startup doing 10 to 20 million or even 30, $40 million in ARR? You know, how do you look at that? Is that does it need to be extremely strategic for you guys to act or can you get yourself. I guess I'm trying to figure out is a time going to come where we're going to see SAP do two of those types of deals a month or is there something else that plays into how you think about MA strategy?

So one thing to understand in the SaaS world, and you can do this with the larger assets, is there's a large integration cost, even more than the on premise businesses because we take the onus of integration complexity, we do that versus forcing that onto our customers. And so the more you go down that path which you're describing, the more complex it gets for us. Our customers are starting to demand that integration from us and that becomes a complexity for us. So it's hard to say will we get there. We're trying to be very prescriptive about what we do and from a healthy growth perspective and a 10 to 20 ARR type of thing type of scenario is kind of an interesting one because you have a company that's demonstrated product market fit, they demonstrated some element of execution and growth and the question is, can you scale that up at a healthy clip, kind of de risking the integration part of it. So we prefer things that you'll hear me refer back to that paradigm, but we like to just kind of de risk what we're trying to do from a healthy growth perspective.

Emily, you alluded, I think that there are lots of SaaS companies out there. It's a Crowded market, lots of great SaaS companies out there. Do you think a time will come when SaaS is going to start consolidating and we're going to see more MA activity? Or do you think fragmentation is here to stay and maybe you can elaborate on why you think either way?

Yeah, I think very much like consumer, there's a plethora of SaaS companies because it's just less expensive to develop those companies as opposed to on prem back in the day. And so that means that again it's very hard to differentiate at those very early stage levels who is going to be the winner in those types of markets. And so I think what our experience has been we'll meet with a lot of the relevant early stage companies that are tracking at those single digit or teens ARR. And then the question is, do you try to kind of get them early and look at them as acquirer and just say we can take this, we can plug them into our sales team, we can have something bigger? Or do you wait and see who will actually win that market in some regard? And so I think like in terms of your question, where's the consolidation? I think at the highest levels you're seeing these guys and other large strategics take Those really big SaaS companies off the market. And I think we will see a lot more of that, but there's not as many targets at that part of the market. And then on the smaller side I absolutely see more consolidation. I think there will continue to be tons of fragmentation just because people will continue to develop these apps. But at the same time I think a lot of companies will have a day where they have to figure out what they're going to actually do here because they're just not going to be able to scale beyond a certain place. It's much harder to get from that 10 million ARR to 20 to 50 to 100 than it was to get from 0 to 10. And so the best of those companies, the best of those teams will be picked up and a lot of others will probably just go away.

Yeah, Monty and Mark, I'd love to get your feedback on this one as well because my impression is just observing the market, a lot of the acquisitions over the last 12 months have been on the high end of the market. The larger properties have gotten acquired. We haven't seen much going on in any startup that's making less than say $80 million in AR. We just haven't seen a whole lot of activity. In fact I did some research yesterday and the list is very Thin. Why is that? Why are we not seeing more activity? A lot of the prominent VCs I read an article by Fred Wilson from Union Square are predicting that this year 2017, we're going to start seeing consolidation and activity. Do you anticipate that? What's holding it back?

So to your first question. I think part of it is it's a risky proposition to do a lot of these smaller deals and to the extent there's a quality asset of scale that's demonstrated scale, you de risk your dollars, you're putting to work. So I think that's probably part of the sentiments that's happening there. I don't know. I'd love to get the perspective from Vista, but going forward it's hard to forecast what that's, that's going to look like. I get this question every year. Do you see it increasing or what's going to happen? I think I'll answer it this way. Overall, there's a certain maturation that's taking place in the SaaS world. SaaS is almost ubiquitous with enterprise software today. And so I think when you ask that question around SaaS&M and A, it's almost. Where do you see the enterprise software market taking place? It's still a growth segment. It's not yet at that kind of stagnant segment. Although you and I have discussed this. There's probably some cohorts where that's happening. But by and large this is still a growth cohort that we're talking about here in the enterprise software we see it's still a growth business. So I still think there'll be some healthy M and A going forward.

Yeah, and we just raised a $500 million fund, excuse me, to go after the lower end of the market. And I think we believe that there hasn't been a lot of consolidation there, people focused on the market and that's a huge opportunity for us. So I still not sure why, but we believe it's a huge place for us to play.

And what do you look for in Those smaller, say 2010 to 50 million dollar AR businesses?

What are the criteria if we're going to do it as a platform? We hope that it is an actual platform. Okay, sorry to use the term twice, but if we're going to make acquisitions as part of our broader marketo or CBEN strategy, we're going to be looking for features that we can actually sell into our install base. And that's. We've been very successful at Vista over time buying a large install base of customers and buying technologies that we can sell into the install base. And I think a lot on the smaller end of these companies that are 5 to 10 million of ARR, they really look a little bit more like features versus actually platforms that you can leverage.

When you say a platform, I don't mean to geek out, but I think about a company like Infor in the on premise world, which started as a boring ERP company and then it became an amalgamation of 80 or whatever acquisitions that they bolted onto it and made it into a big company. Is that what you mean, is that.

I think of it more as marketo being a big, you know, marketing platform.

A leader in a space that you can. Got it. Got it. Emily, a question for you. How do you think what are the trade offs or the things you value at different stages of a company's progression? So at a very early stage, obviously there's not a whole lot of revenue there. Maybe some IP and later on, maybe there's some customers and later on you obviously start to focus more on the metrics. But can you shed some light into kind of how you think, how you assess a potential acquisition as the company matures?

I think very consistent with LinkedIn's roots, the foundation for everything at any stage for us is going to be about the talent. And the reason for that is that whether it's an early stage company or early stage company, we want to feel as though we're getting a really strong bench of people who are going to contribute a bunch of knowledge and entrepreneurship to the way we're thinking about a space. For example, our four business lines are all run by acquired entrepreneurs, which is testament to that. I think we look at as the stages progress in early days, we're going to focus much more at the startup level on what is the quality of the technology to date, because not necessarily that it's going to be able to be deployed to all of our customers, given the fact that it was built as a startup. But was it built in a way that would be consistent with the way that we would think about the world? Whereas at the other extreme end we're going to be looking at the business fundamentals, we're going to be looking much more at how have they delighted customers and what is it about their actual monetization metrics that's just wowing us beyond belief. So I think it's consistently throughout the whole time you're looking at talent, but I think you care a lot more about the idea that in early stage you're going to want to integrate that company completely, fully into your stack and they're going to have to have consistent design and tech principles. And then at the later stage, it's more about do they have an amazing business that you think feel like can stand on its own in a way, even if you're going to integrate it?

Mark, do you believe that we're going to see private equity play a bigger role here? Obviously you alluded to raising a fund, but do you think. I think what I'm getting here is that LinkedIn is very deliberate as to what they do. They're not going to embark on some consolidation strategy. Monty, you're alluding to the fact that, again, I get the sense you're very deliberate about the deals you do. I don't get the sense that there's a play here where you can roll up a space. But do you think, Mark, there's a role for private equity to be more aggressive and, you know, take a wider swath at acquiring a bunch of these assets?

I think if they can manage the technology risk, you know, that Monty talked about, and managing multiple clouds, the private equity firms have a lot of capital and software has been a successful asset class in the space and everybody is hiring partners to go after software and everybody wants to have some sort of investment in the sector. So I really believe you will see private equity play a much more active role in this sector going forward.

And let's talk about that. I want to explore a little bit about what are the levers that a private equity firm can pull to create that type of value. So SAP has a big salesforce. They can maybe drive some top line revenue. I'm not sure you can take a whole lot of cost out. Even though you own a bunch of technology. You can bring some operational discipline. Are there any other things you can do to create value? And also, can you speak to managing the multiple clouds? You alluded to it. What is the challenge there?

Yeah, so maybe I'll start with just the multiple levers. I think, you know, at Vista, you know, we have a different approach to development and I think, you know, I don't know what it is at SAP or what it is at LinkedIn, but I know at Google you're allowed to spend 50% of your time working on a development project that has no revenue potential and it's just something you're interested in and that's just not how we run our businesses. But quite frankly, we're not hiring kids out of Stanford and MIT to potentially to work at our companies. You know, it's probably somebody from a computer science program that's off the radar of Probably SAP and LinkedIn and some other schools. And so that frees up significant developer time or it frees up significant human resource time to work on other more profitable initiatives. So that's one example. Another example is just on the compensation side we just comp people people differently and focus on really high margin products. I'm managing the multiple clouds. We're still figuring that out. That is something that we're working with Marketo and Cvent on and over time we'll have best practices around that. But that is something that is definitely a lot different. When we bought market share buying on premise companies, it's a new risk.

This is going to be the last question I would love for for all of you to provide some insight. What advice would you give to the CEO founder of a SaaS startup as they think about exiting through MA? It could be specific or generic but what should they be thinking 12 months in advance of a potential transaction? How to prepare to showing the best light to a potential buyer.

So I'll go back to kind of the different stages. So the first one is depending on where you are when you're in acquisition conversation, let's assume you have a viable product. Product market fit is already down there and it becomes an issue of execution. The biggest lens we'll look at a company is around obviously there's all the diligence aspects but scalability. How does this business really scale from a technology perspective, from a geo perspective, from a financial perspective. So what are unit economics and if you have a thesis on that or at least have kind of like fine tuned that a bit, that's what a large acquirer like us is going to go into because our thesis is how do we scale this business, turn this into this feature, this unique business into something much larger. Whether it's taking it to new Geo or just putting into our sales channel and reducing that customer acquisition cost but also taking it up market. So understanding those elements of it and having kind of a firm perspective on it, it's going to break at some point but just kind of having a plan for it would be helpful.

I would say yes. And then for me, I also think a lot of folks should be leveraging their VCs, leveraging their networks to get to know people like us earlier in the process when relevant. And that doesn't mean we can all spend a bunch of time together and you guys are building and we have a lot to look at too. But I think it's More about starting to build that relationship early when it warrants it, so that later it's not just this reactive, execution oriented thing, but it's more that we know how you guys are tracking, we know why you're interesting and why you're relevant and that if that moment comes that we'll have already had that relationship in place.

Can I follow up on this? You he very divergent views on whether startups should be talking to people like you to begin with. What is the program famously says that talking to core dev is a waste of time. What's the right cadence for startups to engage with you and stay in front of you?

So the best ones are whether it's the VC or somebody says, hey, like there's nothing actionable, you should just have this company on your radar, they're in your space, they're doing some really interesting stuff. These are the metrics. Again, super early. But if at some point you want to grab coffee, you should. And the reason that you should talk to Corp dev at some point is because we're the central hub where we can introduce that founder to the relevant folks at our company. If nothing else, they're going to share what they're going through and how they're thinking about the world and then you have another perspective on what you're building and what everybody's seeing in the market. It's good for you to have a pulse on what other similar like minded product or sales leaders are thinking about as you're, as you're building something out. And so it's again, there is an art to it, it's not a science. The cadence shouldn't be every month, it shouldn't be even every quarter. I think it's just more like I really appreciate it when a founder that I like will just shoot me a note and say like, hey, FYI, we should catch up at some point. We've been killing it with like a bunch of new logos. Like you should just know about this because we've pivoted the product a little bit. Just those updates are very valuable, even if it's an email and then we get to know them over time.

Mark?

Yeah. I think, you know, we tell our companies, you know, build a great company, don't build a company that looks great at exit and don't chase trends. So focus on profitable growth, focus on great NPS scores for your customers. Focus on really good defensible technologies. I think a lot of people end up chasing trends and doing unnatural things because they think it's going to result in a better valuation if they magically get public or because some VC that they're talking to might be looking for this certain contract. But it might not necessarily be what's best for the business. So focus on the fundamentals will always result in a better exit long term.

And, Mark, I'm pretty sure that everybody in this room knows how to get in touch with Emily or Monty. How do you reach out to Vista? Who do you talk to? Should you go through a banker? Like, how do we. How do reach?

Yeah, if you're interested. I mean, we have on our website, our email addresses are on there, so you can just send us an email. We have a business development team as well, led by a guy named Lou Marchetti. But you can reach out to me, reach out to Lou, and also talk to bankers as well. We're happy to take a call.

Great. Well, thank you very much for doing this. Really appreciate it. I hope it was informative and insightful. And thank you for joining.