What You Need to Know About SaaS Due Diligence
Submitted by Tom Allen of Midaxo, an M&A Leadership Council partner organization
Slack is worth over $5 billion. Shopify, $10 billion. LinkedIn was acquired for $26 billion and Salesforce is nearing $100 billion in market cap.
The shared trait among these tech stars: a SaaS (software as a service) business model. Unlike physical inventory and brick and mortar governed growth, cloud- based software has created a rapid and profitable way for a company to scale.
Investors, in particular, love the benefits of a software-as-a-service. They:
- Create predictable revenues
- Can be used anywhere and are mobile friendly
- Typically have easy integrations with plug-ins or add-ons
- Have low overhead, packaging, or distribution costs
- Limit piracy
- Have flexible and clear licensing models
- Update on a regular basis
- Collect user data and test new features easily
Under the SaaS model, companies and investors can focus energy on improving the product and user experience. When done well, this produces strong, consistent revenue growth while the recurring economics support faster scale and reduced risk.
Delightfully unconstrained, the SaaS model has investors and acquirers placing a premium on such companies. BVP’s Cloud Index, an index of 52 publicly traded cloud companies,has returned nearly 500% since January 2011 – over four times the S&P 500 and Dow Jones. As an example, Cisco’s acquisition of SaaS company AppDynamics was transacted at a dizzying multiple of 17.3x enterprise value/trailing twelve month revenue multiple.
Attractive future revenues, buyout potential and the declining costs to service customers as companies scale heightens M&A competitiveness in the SaaS space. For anyone looking to acquire a SaaS company, the key business drivers must be understood. Understanding these helps de-risk a valuation and allows an acquirer to place the right premium on the right metric to establish an appropriate valuation.
