Biggest observations of SaaS M&A

Reflection of 1 year at ScaleView

A month ago, I crossed the one-year mark working at ScaleView. It’s been one of the best professional experiences I’ve had in my short career. I’m excited for what’s next.

I wanted to write a quick reflection. A reflection on the market sounded fun and useful, so that’s what’s included below.

Without further ado (and inspired by a post by Alex Lieberman), here are some observations on lower middle market software M&A in 2024:

General

- Software is in a good place: looking back, 2022 feels like the worst year and we’ve been climbing out ever since.

- Companies with high growth are still getting bought for very high multiples.

- That said, a common reason for companies deciding not to do a deal is that their growth slows down.

- Small scale (<$20 million ARR) software businesses range trade for 3-12x ARR.

- Valuation for SaaS is still influenced by 6-10 key factors (size, growth, profitability, and retention).

- That said, retention (specifically gross dollar retention (GDR)) is the most important valuation driver.

- The most common buyers are private-equity backed strategics.

- Sellers think the most common buyers are very large strategics.

- Size is a very important factor in exit possibilities, but buyers are realizing that businesses previously too small (<$5m ARR) are good investments if they have other redeeming qualities.

Horizontal Software

- Horizontal software deals are categorically harder to complete than vertical software deals, and the multiples are lower (if they are getting done at all).

- Many horizontal platforms (even ones with high growth) lose steam at $5m / $10m / $15m ARR.

- Related: if you are an owner of a horizontal software business with strong growth, you should consider selling earlier than you expect to take advantage of the momentum.

- Horizontal platforms getting growth equity have both scale (above $20m ARR) and high growth (40-100%+).

- Horizontal software M&A consolidation is happening at a slower pace than everyone is predicting.

- Horizontal software M&A generally happens because A) the target has higher retention and/or profitability than the buyer or B) the acquirer wants the target’s customer base. Product/tech acquisitions are less common.

- For apps built on ecosystems (Salesforce, Shopify, ServiceNow, etc.), financial buyers like platform diversification.

- For apps built on ecosystems (Salesforce, Shopify, ServiceNow, etc.), the platform will only consider buying/investing if the target has heavy concentration on their platform.

Vertical Software

- Vertical software businesses trade higher than their horizontal peers, partly because retention is higher, partly because their customers are harder to acquire (related but different concepts).

- There have been several very small (<$5m ARR) vertical SaaS businesses trading for 8-12x ARR; the multiples are driven by high GDR.

- Vertical software businesses that have been around for decades are tempting because of their long-term customer relationships, but always have complications.

- Complications with vertical SaaS could be qualitative issues like on-prem architecture, custom software builds, or an idiosyncratic CEO.

- These complications could also be quantitative things like no upsell motion (GDR ~= NDR), lower retention than you’d think, or not having won a new customer in years.

To buyers:

- “We are a long-term, buy and hold investor” has many players and is very competitive.

- “We are a software-focused PE fund with a long track record of wins” has many players and is very competitive.

- (I’m sure this is the same with investment banks :-) ).

- More funds are adding business development professionals for the first time, and funds with BD professionals are adding more people too.

- There’s been an uptick in the number of cold emails that owners of software businesses receive, especially in the past 6-12 months.

- Differentiation, when it comes to sourcing deals, largely comes from building a proprietary relationship with the seller.

- At each increasing size and quality level, there’s more competition for deals and thus more people reaching out to founders.

- But also at each level, there’s a lot more competition than 3-5 years ago.

- Founders are more likely to take your calls if you come from a referral, know a lot about their industry, or if you get lucky.

- There’s been more small shops (both investment banks and funds) popping up that focus on a specific subsector, perhaps mimicking what has been taking place in the venture capital ecosystem over the past decade.

To sellers:

- If you want to sell your business, your best bet is to run a broad process.

- I have several personal anecdotes from the past 24 months, both of ScaleView clients and stories from the industry, of purchase prices increasing 50-150% from an initial bid to the final bid (after a process).

- You can run an M&A process on your own, but it takes a lot of work. I’m talking my own book here, but investment bankers have jobs for a reason.

- (We’d love to represent you, but honestly hiring one of our competitors will also help a lot!)

- The specific benefit of an M&A process is generating multiple, competing, high-quality bids. If you are in 1:1 negotiations, the buyer has the advantage, and multiple bids is how you get leverage on your side.

- Before starting a process, get a banker to tell you what they think your company is worth. This is talking against my best interest, but getting valuation ranges from a few bankers will give you a sense of what the market sees. Then you can determine A) if you want to do something now and B) who you want to represent you.

- You’re getting a lot of emails in your inbox, but this is only a small fraction of the potential buyer universe.