-Written by Dave Sheen, Principal at Primary Venture Partners. Originally published on Medium.
Verizon made an interesting acquisition in the last couple of weeks, and I don’t mean that struggling internet company with the exclamatory purple logo. Nope, I’m talking about Fleetmatics, a fast-growing truck fleet management SaaS business that Verizon plans to purchase for a reported $2.4 billion. At Primary Venture Partners, this acquisition caught our eye because it represents the tenth acquisition of a public SaaS company in the last few months alone. A trend of this magnitude creates some mixed feelings for the VC and tech community; on the one hand, multibillion-dollar acquisitions represent the dream exits that most investors strive for (hello Jet!). However, at a macro level, it can be little alarming to see the public SaaS universe shrinking.
As investors, we’re incredibly bullish on the opportunity that SaaS companies represent, yet seeing a dwindling ecosystem of successful standalone SaaS companies somehow seems counter to that opportunity. Of concern, also, is that fewer public SaaS companies may lead to a smaller universe of potential acquirers for the next generation of disruptive SaaS startups. In light of these fears, we decided to take a closer look at this recent tear of acquisitions, and shed some light on why we think it remains a positive indicator for the SaaS ecosystem in general.
First off, we wanted to figure out the driving factors for this recent wave of acquisitions. The trend of large, cash-rich corporations snapping up innovative upstarts that threaten their business is nothing new — Jet’s acquisition by Walmart this week is a good example and proves that the trend is certainly not unique to the world of SaaS. But why the recent wave of SaaS acquisitions in particular? A lot of it may be attributed to the abrupt valuation reset of a number of high-flying SaaS companies back in February of this year, which suddenly made them more attractive to potential acquirers. At the same time, the reset was a wake-up call for SaaS companies themselves, who were quickly realizing that being public isn’t always an easy ride. There’s nothing like seeing your market cap drop by 40% overnight to make you take a second look at that acquisition offer.
Although the valuation drop was short-lived, it proved to be an effective catalyst for a widespread SaaS snap-up. Introductions were made, analyses were completed, and a couple months later, this happened:
- Fleetmatics → Verizon, $2.4Bn
Ten acquisitions later, here we are. In normal times, this would be cause for celebration, as we would have had a healthy pipeline of pre-IPO SaaS companies ready to take the plunge, go public, and replace these acquisitions soon after they were completed. However, 2016 has been an unusual year for public tech companies, resulting in a near-nonexistent tech IPO market. That market, in turn, has resulted in a shrinking pool of public SaaS companies that has forced many investors to take a second look at the health of the SaaS market in general.
In dissecting the acquisitions themselves, we see signs that point strongly toward a healthy SaaS market overall, and give us more reason than ever to remain bullish on the enterprise SaaS opportunity. From our vantage in NYC, a hub of enterprise SaaS activity, we see three clear reasons to cheer this new trend:
Private Equity Investors Prove Out the SaaS Model
Three of the recent SaaS deals were completed by private equity investors. In many ways, a SaaS company that has reached profitability represents an ideal target for a PE buyout due to the steady stream of recurring, predictable cash flows that SaaS business models aim to create. PE firms can borrow against these cash flows, providing the leverage to complete a deal at a high valuation.
These acquisitions really prove out the value of a maturing SaaS business to sophisticated investors outside of the VC bubble — investors that prioritize profitability and predictable cash flows over high growth. As the PE community gets more excited about SaaS companies, not only does this validate the long-term value created by SaaS business models, but it could also provide an excellent additional source of liquidity for SaaS founders and early investors.
It’s All About Product-Market Fit
Assessing and understanding product-market fit is a central tenet of our investment process at Primary, even though we are investing at the earliest stages in a SaaS company’s lifecycle. After all, the value potential in a SaaS business lies in finding that product-market fit. Identifying and optimizing an efficient customer acquisition strategy for the business allows you to extract maximum value.
The recent SaaS acquisitions by Oracle, Microsoft and Verizon clearly illustrate this point. What do those corporations have that many SaaS companies don’t? Huge, global enterprise sales teams and a massive existing customer base (plus huge piles of cash, obvs!). Give those sales teams a shiny new product that actually solves a pain point for their customers, and they will sell that product. A lot of it. That’s what makes an emerging SaaS company so valuable to entrenched enterprise tech players: They can scale a SaaS business in a way that is almost impossible for a SaaS company to do alone.
There are additional benefits for the entrenched player, as well: a stream of new products makes for happier customers and (hopefully) reduced churn. SaaS acquisitions also pose less risk to large corporations when faced with the decision of whether to build or to buy: Why spend money building a new product that might not work, when you can buy a product that’s already been proven in the marketplace?
There’s Tech Gold Outside of Silicon Valley
As NYC investors, we’re extremely bullish on the NYC Tech landscape, particularly for enterprise SaaS. And while none of the recent acquisitions are NYC-based, it’s nice to see that the majority of them were founded outside of California, with headquarters located across the US in as varied locations as Virginia, Illinois, Texas, Utah, Massachusetts and Pennsylvania. Starting an enterprise software company no longer requires the deep bench of technical expertise that historically could be found only in Silicon Valley. Rather, the next generation of successful SaaS companies will be built by those with the most comprehensive understanding of product-market fit, and that domain expertise is not limited to California.
At Primary, we think that New York City, with its completely unequalled intersection of industries and verticalized domain expertise, is the best place to be close to customers and establish the often-elusive product-market fit. For NYC, the question is not if, but when we’ll be celebrating a multibillion-dollar SaaS acquisition of our own.
Overall, the forward momentum in the SaaS market bodes extremely well for early-stage SaaS companies. So, rather than lamenting the loss of yet another promising public SaaS company to the jaws of a corporate acquirer, consider this: With every acquisition, SaaS companies make up a larger slice of the product portfolio of these tech titans. And as more and more of their products are sold on a SaaS basis, players like Oracle, SAP and Microsoft will increasingly come to resemble SaaS companies themselves. So the real debate should not be about whether the public SaaS universe is shrinking or how many acquirers will there be for SaaS startups, but rather, what those acquirers look like and whether they, themselves, should be considered fully fledged members of the SaaS universe.