In these turbulent times of disruptive technologies and constant change in the software sector, consolidation is king. Large organizations are absorbing smaller companies at an often alarming rate, benefiting from the agility and innovation these younger organizations offer. It is not surprising therefore, that many smaller, independent software vendors regard this situation with trepidation and even alarm, wondering when will be the best time to sell their business – and to whom – Or have they already missed their window of opportunity to sell at highest value?

Investment community:

The investment community is a major influence in the software market. Strongly motivated by financial performance, their investments are largely driven by the ability of companies in their portfolio to dominate certain markets and take an early lead in further technology disruption. An alternative term is “risk capital” but, this is generally only used in startup scenarios. Being acquired by a financial party typically provides good risk mitigation for the buyer. In other words, if there is a giant upside potential according to the seller, then a financial party will make sure that any risk is built into the transaction, with strong leverage in their favor.

From a purely financial perspective, the business rationale for the financial buyer of highly-scalable, mid-sized companies with unique value propositions, is that they will deliver a premium price.  

The Impact on Valuations:

So, how does this affect the decision process of business owners who have built up a company with revenues from $10M to $50 or even $70M. Why this range in revenue? From $100M in revenue upwards, companies have gone through a development cycle which could mean they are already positioned for an IPO if the public markets are good. Below this amount, there is a big risk of becoming a micro-cap which, if growth is insufficient, may lose the attention of analysts within a few years, resulting in a public valuation equal to or just above the cash in the bank. This is a weak position to be in during a sale cycle and a private company therefore, has better chances of achieving a higher valuation.

If the large hardware manufacturers transition to becoming either “e-solutions” companies or decide to concentrate on hardware as their core focus, then the market in the software sector may start to show similar characteristics to the ERP and CRM market. That is to say, it will be a very stable market with a number of Tier1 market leaders, followed by regional or smaller vendors, active in some niches where they excel and dominate but certainly not a market which will produce the high valuations we currently see in the software market.

Implementing the Right Strategy:

With all this said, the most important question for software vendors must be, “What is the best strategy for achieving best ROI on exit?” One of the first lessons to be learned is obviously to have a detailed understanding of the unique value proposition (USP) of your business and how and where this fits into the competitive landscape.

We know from experience that most companies perceive themselves as highly unique and yet, have a very limited knowledge of their competition. We have seen companies spending millions in development on products and/or solutions that other companies have already developed. We have also seen relatively small businesses that have developed truly new and unique solutions that are applicable for new markets outside of their usual customer base. A key question then, comes into play – whether, and when, such a legacy part of their business should be divested? This typically affects a high cash generation type of business, which may be underperforming relative to EBIT margins but which may represent an attractive acquisition opportunity for a buyer or investor.

Overall, we expect that most SME businesses are now nearing a situation where they must decide whether to continue to operate their business as a “cash cow” or to invest heavily in new business models - which may take years to accomplish - and risk missing their current window of opportunity.

Maintaining the status quo in the short term may not make a lot of difference to performance, but once the large players in the sector have secured their position, things may change rather rapidly over the next 2-3 years.  The biggest risk is that any SME software company, who then wishes to sell their business, may end up struggling to find a buyer in this volatile marketplace.  

Understanding the current and future market drivers and dynamics and timing your sale correctly, are all critical factors in a well thought out exit strategy and are essential to achieving a successful result. “Selling soon” therefore, means putting in place the right strategy and acting upon it today.

To take the first step towards your own successful exit, please call us for a free consultation to discuss your situation.