Coralie Bach — November 2024, P.6-9
Focus Investment Banks: Tech, a key driver of the market
Initially reserved for specialized shops, the tech sector has become in recent years one of the major pillars of investment banking activities. Despite a slowdown in transactions, technology companies continue to drive the mergers and acquisitions (M&A) market.
With 189 deals recorded in France by LSEG (ex-Refinitiv) over the first nine months of the year, out of a total of 950 transactions, tech remains the main driver of M&A.
“We expect a pipeline of transactions that is still quite significant in tech because the latter is one of the few sectors in which financial investors focus,” notes Marc Walbaum, M&A manager for France at BNP Paribas CIB.
The movement to digitalize the economy and the development of artificial intelligence encourage investors and manufacturers alike to continue their investments in this sector. However, their research has evolved.
Fintechs and e-commerce companies have thus given way to B-to-B software. “In this market, some buyers prefer vertical solutions, focused on the needs of a specific sector”, testifies Thibaut de Smedt, a partner at Bryan, Garnier & Co., who supported the third LBO of the business software publisher Orisha, valued at €1.8 billion by Francisco Partners and TA Associates.
Vertical markets are certainly smaller, but less competitive than that of generic solution providers who face major American players.
All models, including generalists, can nevertheless be attractive provided they have certain advantages.
“One of the points to be evaluated is the level of complexity in changing the solution for the user company”, explains the investment banker. This aspect is reflected in particular in the customer retention rate. The higher the latter, the better the company will be valued.
Cybersecurity and artificial intelligence at the heart of acquisition strategies
Other areas of expertise in the sights of buyers: cybersecurity and artificial intelligence. For example, the cybersecurity service provider Nomios acquired the British company Dionach last October, forming a total of nearly €500 million in turnover.
“Manufacturers can very well value small companies that provide them with a new technological brick, especially in AI”, notes Clipperton co-founder Stéphane Valorge.
The acquisition by Safran of Preligens, a publisher of an AI solution for defense and aerospace, which occurred this summer, illustrates this enthusiasm. The CAC 40 group valued the start-up at €220m, a figure to be compared with the €35m in turnover targeted for 2024.
“It is a fundamental technology that will impact all value chains”, adds the M&A council.
More selective valuations
However, investors are no longer ready to acquire innovative businesses at any price.
“Previously, manufacturers agreed to buy an unprofitable company if it opened up a new market or customer segment for them. This was the case, for example, with banks that invested in fintechs”, illustrates Virginie Lazès, managing partner and co-head of the tech team at Rothschild & Co.
Today, large groups are primarily looking for growing and profitable companies.
Moreover, the application of the “rule of forty” principle has evolved. According to this rule, the sum of growth and profitability rates must be equal to or greater than 40 for a startup to be considered a promising investment.
“Two or three years ago, a start-up that made 30% losses but 70% growth fell within the investor spectrum,” explains Michael Azencot, partner at Cambon Partners. “Today, investors are looking for a balance between growth and profitability.”
Companies that meet this equation can expect good valuations.
“On average, valuations have fallen but they remain high on very attractive assets”, says Philippe Englebert, manager at Lazard.
All M&A professionals thus highlight a polarization of the market between five-star assets — referring to profitable, growing companies with recurring revenues — and the rest of the companies, for which transactions are more complex.
Prices thus range from single to double between the two categories, with valuations that can range between 20 and 25 times EBITDA for the best SaaS software, compared to 8 to 10 times EBITDA for less attractive assets.
“Valuation averages make little sense because the standard deviations are very significant”, underlines Thibaut de Smedt. “The challenge is to demonstrate that the characteristics of the company are closer to those of the nuggets than to those of the bulk of the market.”
The strengthened role of the investment banker
The mission of investment bankers is once again useful in this context. The good times when there were plenty of offers are over.
Globally, the volume of transactions in technology companies fell by 35% between the first half of 2021 and the first half of 2024, while the decrease was 23% for EMEA, according to the Global M&A Industry Trends 2024 report by PwC.
Investors, financial as well as strategic, are being more cautious, in fact reducing the number of candidates on each file.
“The processes are longer and can stop at the slightest doubt,” notes Virginie Lazès. “It's not specific to tech, but the effect is accentuated in this area. Now, when a company wants to sell itself, it must find the right advice in a position to seriously prepare the file beforehand and identify all potential buyers.”
The place of the investment banker is thus put back at the center of the process with a necessarily stronger involvement than before.
“Extensive sales processes are no longer appropriate. M&A advice must therefore know how to adapt and go into the details of each situation”, testifies Marc Walbaum. “It is necessary to remain very close to the buyers, to answer as soon as possible the substantive questions they may ask themselves and to put the management teams forward in negotiations so that their decision-making can be made in the best conditions.”
Understanding the specificity of innovative companies
The particularities of innovative companies, especially the youngest among them, add a layer of complexity.
“A lot of sales, and more and more start-up fundraising, are being carried out from manufacturers”, explains Philippe Englebert.
The role of the banker then consists in clearly explaining to the purchaser this model of companies whose capital structures and valuation models are specific.
Indeed, it is impossible for a start-up, which is not yet profitable, to be classically valued by an EBITDA multiple.
“We generally rely either on discounted cash flow, which consists in setting the price according to estimated future cash flows, or on induced valuation, depending on the dilution that the entrepreneur is ready to grant”, continues the investment banker.
“When the sector is not mature, we must go beyond reading the financial situation”, adds Stéphane Valorge. “We must understand the growth potential, because the value of the company exceeds its financial value at the moment.”
It is this need to go beyond the analysis of figures to assess the quality of an innovation that has gradually led M&A professionals to acquire tech specialists.
More and more specialized advice
Boutiques were the first to position themselves, as early as the early 2000s, like Cambon, Clipperton, Bryan, Garnier & Co and even Arma Partners.
Faced with the development of the sector, historical advisers have in turn expressed interest in these transactions, and the majority of investment banks now claim expertise in new technologies.
“All the councils wanted to take this turn because tech is, along with health, one of the key themes of M&A”, notes Michael Azencot.
However, the positions are different. Stores mostly focus on small and mid-cap transactions. French general banks cover a wider spectrum, including small transactions and upper-mid and large cap transactions, while the big American players, such as Goldman Sachs or Morgan Stanley, focus on the top end of the market.
Cambon Partners, the multi-specialist in tech
“We like this clientele of entrepreneurs who correspond to our origins”, says Michael Azencot, partner at Cambon Partners.
The firm, founded in 2005, is focused on fast-growing tech companies, with transactions valued between €50 million and €500 million.
Once trust is established, Cambon generally accompanies managers on all their operations.
The team of 62 employees, including nine partners, works in Paris, San Francisco, Beijing and London with entrepreneurs and investment funds in Paris, San Francisco and London.
Clipperton: an international mid-market specialist
Founded in 2003, Clipperton has positioned itself as a specialist in tech and growth companies.
“These companies are particular objects, with significant financial challenges in relation to their size”, explains Stéphane Valorge.
With around fifty employees spread over several European cities, Clipperton carries out around thirty deals each year, 60% of which are cross-border.
Rothschild & Co, a global and international approach
In 2018, Rothschild & Co structured a division dedicated to tech.
With 75 dedicated professionals in 42 countries, the team works on all types of transactions, from fundraising to IPO, including M&A and financing, for start-ups as well as large groups.
The Paris team has 25 professionals and in particular supported the IPO of Planisware, valued at €1.1 billion, or the sale of Optimum Automotive to Shiftmove.
Conclusion
The tech M&A market is both dynamic and demanding. Tech remains a priority sector for investors, but valuations are now more cautious and selective. The role of investment bankers is central to the success of transactions, with an increased need for sectoral expertise and an ability to understand the specificities of innovative companies.
Coralie Bach
Option Finance, Monthly Issue 9 - November 2024
