Introduction
Bruce Milne
This is Bruce Milne, and welcome to Corum’s August Tech M&A monthly update. We’ll begin this conference with a special report on a landmark transaction we just completed with a Chinese buyer. And related, we’re going to have a special report on China today, their increasing role in Tech M&A, both as buyers and sellers.
To begin, let me turn things over to Timothy Goddard, conference director.
Timothy Goddard
Thank you, Bruce. We do have a really excellent agenda for you and I’m excited to dive right in. We’re going to start, as Bruce mentioned, with a special report on a deal we just closed. Then we’re going to have a report on Casual Connect; we’re running the finance track down there in San Francisco there right now and we’ll have a report from the floor there. Then our research report, really interesting report, a lot of things going on, in particular we’ll take a look at what’s going on with Google and Alphabet and what that might do with M&A. Then we’ll dive into China, we have some analysis and a report on the M&A situation there as well as public markets and what’s ahead there. Then, a special guest, James Schmalz, the founder of the company Digital Extremes, we’re going to talk about them shortly, and on that note, I’d like to turn things over to Corum VP Jim Perkins, to tell us a little bit about that deal. Jim?
Digital Extremes Report
Jim Perkins
Thanks, Tim.
I'm very pleased to report that Digital Extremes, based in London, ON, Canada has been acquired by two Chinese companies: Leyou Technologies, based in Hong Kong and Perfect World, based in Beijing. Digital Extremes is one of the top game development studios in the world, founded by James Schmalz, they've been in the games business for over 20 years and their current Warframe game is a smash hit worldwide. As for the acquirers, Leyou enters the game business with this acquisition, while Perfect World continues as a leader in online games in China. Corum acted as the exclusive M&A advisor for Digital Extremes. We'll have an interview with James later in the webcast.
Tim?
Timothy Goddard
Thank you, Jim. Great deal and we’re really looking forward to that interview with James.
Casual Connect Report
Now, keeping on the topic of games, Dan Bernstein is in San Francisco right now at Casual Connect and he has a brief report from there. Dan?
Dan Bernstein
Here at Casual Connect San Francisco, executives from the games industry gather to discuss investment and growth opportunities for content companies, middleware providers, and ad networks that service this $100B industry. Corum emceed the funding and M&A track, where the talk was all about the red ocean of mobile and the new opportunities in virtual and augmented reality gaming. The consensus is, if you’re working on VR and AR games, you’re positioning yourself for a significant opportunity and increasing your studio’s enterprise value, as this emerging technology enters the mainstream.
Timothy Goddard
Thank you, Dan. Interesting stuff.
Corum Research Report - On track for a record year
Now, let’s go to our Corum research team for a look at the broader markets with Elon Gasper, VP and director of research and Yasmin Khodamoradi, an analyst. Elon?
Elon Gasper
Thanks, Tim. We begin with the public markets, where indices continued to diverge between tech-heavier ones like the NASDAQ, holding its value, and broader measures such as the Dow, which pulled back with the oil prices decline and stronger dollar, while European markets gained with easing worries about Greece, and China… but, that’s another story, we’ll have more on in a special report on Chinese Tech M&A a few minutes from now. Suffice it to say that all the worry and noise notwithstanding, we’re still on track for a record year in tech M&A with total volume last month soaring to the highest we’ve seen all year, and a 28% gain over last July.
Other Corum Index numbers concurred, with all increased except for a slight drop in the share of startup acquisitions as more mature companies take advantage of these highly favorable conditions to realize value through M&A. Standout gainers also included the cross-border transactions up significantly to almost 40%, the highest in years.
The megadeals included significant transactions in several of our six markets. We’ll cover 3 of those this month, the others next, beginning now with the Vertical Market. Yasmin?
Vertical Software Valuation Metrics
Yasmin Khodamoradi
One cross-border megadeal was the buyout of Germany-based smart metering company Elster Group by Honeywell, adding $5 billion to the vertical market stack. Honeywell claims it will spend $10 billion on further M&A in the next few years.
Another vertical megadeal was Mcgraw Hill’s $2 billion acquisition of SNL Financial for their online financial reference content. And just yesterday, Fidelity National announced its $5 billion purchase of rival Sungard Data Systems.
So even though valuations in the vertical markets were down this month, it certainly didn’t hurt those megadeal values.
Other players in the financial vertical included Cardtronics, the world’s largest ATM owner and operator, which paid $80 million to acquire ATM payment and transaction processor Columbus Data Services. Columbus’ presence in independent retail locations and Cardtronic’s relationships in the larger chain market should be highly complementary.
Softgate, a consumer retail bill payment solutions developer, was bought by its former partner Tio Networks for $31 million. Softgate’s status as a licensed money transmitter in 46 states and strong presence in the Northeast should provide immediate benefit to Tio Networks and position them as the largest provider of walk-in bill payment services in North America.
We also saw a digital currency flow deal in Latin America as Mexico-based Bitcoin exchange MexBT gained a foothold in Asia by acquiring Singapore-based Bitcoin exchange Coin Republic. The 2-year-old startup allows users to make cross-border remittances using Bitcoins, without having to purchase them first. With this acquisition, they hope to facilitate more financial transactions between Latin America and Asia.
Elsewhere, we saw logistics software specialist Descartes pay $76 million for MK Data, which provides denied party screening for exporters and financial institutions involved in global trade. This acquisition should help Descartes’ customers maintain compliance with regulations and international sanctions.
Moving on to the Healthcare vertical, we saw Blackstone Group's Emdeon pick up Florida-based Altegra Health for $910M, in one of the largest healthtech deals this year. Altegra's risk adjustment tools will be integrated with Emdeon's revenue cycle management and payment products to form a broader service benefits solution.
Pyramid Healthcare Solutions, also in Florida, was picked up by healthcare IT outsourcing company Anthelio for their expertise in revenue cycle management and health information management services.
And just last week, Premier paid $400 million to acquire CEcity which provides performance management and pay-for-value software for over a million healthcare professionals. This should allow Premier to provide turnkey solutions for healthcare providers as the industry shifts toward population health and value-based care.
IBM also made an acquisition last week of medical imaging software vendor Merge Healthcare for $705M at 4x revenue. Data and images from Merge’s platform will be integrated into Watson’s Health Cloud in order to analyze these images against electronic health records, genomic tests and clinical studies.
IT Services Software Valuation Metrics
In IT Services we’ve seen steady growth in multiples to a record high now of nearly 10x EBITDA in the developed markets, with a fourth megadeal of the year as Digital Realty Trust made an almost-2-billion-dollar move picking up Telx Group to increase its colo and interconnection services offerings in major US markets.
Cleveland-based systems integrator MCPC’s Advanced Technology Integration Group was purchased by the UK IT Services firm Logicalis, a division of South Africa’s Datatec, for $42M to expand its reach in the American Midwest, and strengthen the latter’s cloud, healthcare and managed services expertise.
Japanese giant Konica-Minolta grabbed 2 systems integrators—California-based ECM expert Hershey Technologies and Czech ERP specialist Webcom—to reinforce its position in the US and Europe.
In Germany, United Internet’s subsidary 1&1 acquired Polish webhosting company Home.pl for nearly $150M, trying to become the dominant player in Poland and strengthening their position in Europe ahead of a potential IPO.
Internet Software Valuation Metrics
Yasmin Khodamoradi
Internet valuations continue their downturn but are still quite high and the EBITDA ratio is supported by activity in the ecommerce subsector.
One of those E-commerce giants is Tokyo-based Rakuten which kicked off last month with their fifth purchase this year, Voyagin, a Singaporean startup known for its pure C2C tour booking website, and continued with Fits.me, a UK virtual clothes fitting SaaS originally founded in Estonia.
eBay followed up by teaming up with Twice, an owner of a used clothing resale website. This is the first purchase eBay made after Paypal’s recent spinoff and its billion dollar deal with Xoom that we covered last month.
Yahoo returned to the market after 7 months of silence and is reported to have spent over $200M for Polyvore, a social recommendation website. In addition to Yahoo Style and Yahoo Beauty, Polyvore should enhance Yahoo’s capabilities in personalized omnichannel marketing, particularly in mobile.
Elon Gasper
Top acquirer Google bought a company in July too, but that small acquisition was overshadowed as the diversified search giant blew up the tech news this week by restructuring under the new name Alphabet, separating its business units between highly profitable core sites and services, and the more speculative “vision” businesses living off them for now, such as Nest and Fiber, as well as a couple of investment arms and the Google X moonshot incubator.
And while we see this influencing tech M&A for both major groups at Google Alphabet, we predict a difference, after looking back at the 142 companies acquired by Google in the last 5 years. While relatively few of them—just 16%—were associated with the vision side, they accounted for an oversized three-quarters of total money spent. The new structure will naturally lean toward containing and managing those more speculative entities, using M&A to secure their market positions, while the profitable business group gets more authority to use its cash to buy both strategic and accretive businesses.
Google has been the number one acquirer 4 of the last 5 years, and our analysis for even more M&A is supported by this more structured internal environment, targeting particular entities as much as PEs do with bolt-ons. We predict Google—or Alphabet—will end the year at number one again.
And that’s our report. We’ll have more just 4 weeks from today. Back to you, Tim.
Timothy Goddard
Thanks, Elon. Interesting stuff, right from the headlines.
China Special Report
Speaking of the headlines, we’ve heard a lot about China in the headlines recently, so we’ll turn things back over to Bruce, who is going to discuss some of the lessons we’re taking from that. Bruce?
Bruce Milne
With all the volatility in their stock market last month, recent headlines about their currency floating, concerns about their growth, and their increasing role in mergers, we went inside China to talk to our advisory board, Benjamin Xu, Cecilia Yuan, Ping Lou, and Sean Liu.
Let me briefly summarize, as we don’t have a lot of time in today’s report. In terms of last month’s volatility in the stock market, a lot of money was made, a lot was lost, and if you look at it, they’re still way ahead. But we’re reminded by them that there are more individual investors in China than in anywhere else in the world and that, in fact, the Shanghai software market actually outpaced the NYSE. They are here to stay. They are serious investors. They are learning, but they’ll be a big part of the investment community going forward. It’s not 1929.
In terms of their currency, well, they just let it float. And their question is, isn’t that what the West has been asking for? The Yuan is one of the few currencies in the world that hasn’t been floating and in reaction to a slower economy, they let it float, hoping that if it dropped it would increase exports. Of course, some suggest that the Chinese government isn’t really letting it float, they control these things, but nevertheless, it has created some concerns, particularly among currency traders. But it will probably have the impact of helping to increase their growth.
And as to their growth and the concerns there, well, part of it is just the law of large numbers. How long can you have a really major economy, the second-largest in the world, and eventually the largest, continue to grow at its current rate of 10%+? It can’t happen. They’re still one of the fastest growing economies in the world. It has slowed down, they took the measure of letting their currency float. Not a bad move. As to their role going forward, this is where our advisory board is particularly bullish. They believe that Chinese tech companies are among the best in the world, they’re not only buying inside China now, but getting more attention now for making acquisitions outside of China as we heard about earlier today and will hear more about.
China has done a lot of things to help increase communication with the west, a different visa program for example, so we’re going to see more activity, both within China and with them buying Western tech companies for major Chinese tech companies. Let’s hear about those now, and thank you to our advisory board for their wisdom.
Timothy Goddard
Thank you, Bruce. Now let’s go to Yasmin Khodamoradi who has some analysis for us in Chinese M&A trends. Yasmin?
Tech M&A Trends in China
Yasmin Khodamoradi
Thanks. As Bruce mentioned, public markets in China have seen increased volatility, though they are still up year-to-date. The Chinese government has employed a variety of mechanisms to stabilize them, most recently devaluing the Yuan by 2% on Tuesday, which dropped further on Wednesday and again this morning. While this may make things difficult for some industries in China, particularly those dependent on imports, this amount of depreciation shouldn’t affect tech M&A much, if at all. Looking back over the last three years, we have seen, steady growth in the number of tech firms acquired by Chinese companies, with deal values reaching record highs of $25 billion in 2015, which is primarily due to a larger number of high-value deals.
The proportion of Chinese companies acquiring other Chinese companies has increased from 68% in 2012 to 78% today, while the total number of cross border deals has gone up, with Chinese deals in Europe having picked up in pace and proportion, helping drive the number of cross-border deals to their highest point. The number of North American targets acquired by Chinese companies has been growing steadily while targets in other Asian countries have been in flux.
Now, looking at the distribution of deal values, the number of deals surpassing $100M in 2015 just so far has surpassed any other full year and includes no cross-border deals. So it seems Chinese acquirers have been paying a premium for Chinese companies, but that may soon change.
As two of the top tech acquirers in China, Alibaba and Baidu have exclusively made acquisitions within China. They are actively investing abroad, just not taking majority stakes. In fact, only Speedcast stands as the exception to this rule, with all eight of their acquisitions coming from overseas.
This year, they picked up three satellite communications companies in the UK, France and Australia, in the hopes of becoming a top supplier for oil and gas companies seeking connectivity solutions.
In the internet space, China’s largest classifieds site, 58.com, has been making big moves recently, one of which was acquiring Anjuke and creating the largest secondary real estate platform in China. It also acquired a 43% stake in rival classified site ganji.com for $1.5B, valuing the company at $3.6B.
Another big spender this year was Chinese gaming company Ourpalm, which purchased two other gaming companies in China, Beijing Tianma Shikong Network Technology and Blingstorm Entertainment, for a total of almost $800M dollars.
In other gaming news, Tencent acquired a majority stake in France based Miniclip to expand its presence in Europe.
Finally, in February, Didi Dache and Kuaidi Dache, two of China’s leading ride-booking apps, merged to create one of the world’s largest app-based transport services, with an estimated value of $6B. Didi Dache and Kuaidi Dache, which were locked in a price war for the past year, can now claim 90% market share, providing a formidable front to counter Uber’s expansion in China.
So in conclusion, we’re seeing a record number of tech acquisitions by Chinese firms at ever-increasing valuations, though most of the consolidation has been limited to China. Judging by recent economic events, it is unclear whether a flight to safety will spur more cross-border acquisitions, but either way Chinese tech M&A in 2015 has already broken records.
Timothy Goddard
Thanks, Yasmin, interesting stuff.
Special Guest: James Schmalz - Digital Extremes
Now, speaking of those cross-border deals, let’s go now back to Jim Perkins who is with James Schmalz, founder of Digital Extremes, for a look at a fairly important cross-border deal.
Jim Perkins
Hello, everyone, this is Jim Perkins and I’m here with James Schmalz, founder and CEO of Digital Extremes, based in London, Ontario, Canada. Corum was the exclusive M&A advisor for Digital Extremes for this transaction. James, congratulations on the recent acquisition of Digital Extremes by two Chinese companies, Leyou Technologies, based in Hong Kong, and Perfect World, based in Beijing. Maybe you could give us a little bit of background on yourself and Digital Extremes, and what brought you to the position you’re in today, which is a very strong leadership position in the video game market worldwide.
James Schmalz
Sure, thanks, Jim. I started off making games way back even in high school, doing it part time for my own enjoyment, and then in university I decided to put some extra effort into actually completing a full game and that’s when I learned at the time about the shareware model and so I eventually hooked up with Epic Games as my publisher way back in 1992 and the first game I released, just as I was graduating university, was a game called Solar Winds. It did well enough for me to make games full time, which I never expected to do.
It was just myself in the beginning and then gradually I needed some extra help and that snowballed into needing more and more help on future projects, and I established Digital Extremes in 1993 and continued each year to grow as we required more and more people for each project. Then as the industry grew and we wanted to get into console games, the staffing grew with us as well, so it was never my intention to even form a company, but the need for the projects that I wanted to do required that, and then we got into this kind of yearly grind, I would say, of making these work-for-hire games which is very difficult and it’s a very tough model to exist in. So, we took a really big gamble a few years ago and decided to investigate free-to-play games on the PC and what that ultimately turned into was Warframe, which was launched and really surprised us in how well it did for us. We had our whole staff onto Warframe eventually, getting it onto consoles and now we’re just moving it into the Chinese market. It’s been a tremendous success for us, and it’s been a long path of 22 years to get us to that point, but we’re very happy with the success and the independence that it has provided us.
Jim Perkins
That’s an amazing story. We knew each other way back in the shareware days and I think you’ve established with Warframe a clear leadership position, with the game worldwide, not only as a free-to-play game on PC, but also on consoles as well, and now moving into Asia. What are the key differentiators of that game and how you’ve managed the game and supply new content?
James Schmalz
Warframe was somewhat unique in the free-to-play model on the PC. It started off as a client-based free-to-play game, and as we were developing it, we knew nothing about free-to-play. We had a lot of expertise, obviously, in making 3D action games, so we applied that knowledge, learned what we could about free-to-play, and then when we were about halfway or three-quarters done with the original release of Warframe, we showed it around to potential publishers or partners around the world, and the feedback was completely unanimous was that the game was horrible and that it would absolutely fail. And of course we were absolutely devastated to hear that news and mainly we were told that because the game was sci-fi and because it was co-operative, not a competitive game, so everyone told us it would fail.
We were devastated and surprisingly we just stuck to our guns and didn’t take anybody’s advice and just continued on with it. Then it turned out that it was those very things that everybody said would cause us to fail were actually our strongest suit when we launched the game. Because people had tried those kind of games before and they had failed, and I guess perhaps those games just weren’t good enough or weren’t what we were doing. So it was nice that we didn’t and still don’t have much competition. It was those very things that people thought would be difficult for us in the worldwide market with a free-to-play game like that that turned out to be our advantage.
Jim Perkins
No question about it, and you proved the skeptics wrong and continue to do so.
Part of the M&A process, there were many interested parties; what attracted you to Leyou and Perfect World?
James Schmalz
As you know, one of our main requirements is to find a partner that would help grow even further globally. Obviously one of our weak spots is the Asian market. I think we do very well in the North American markets and do fairly well overseas as well, but having a partner that could help us really understand both the Chinese market and the other Asian markets was very critical for us. That was one of the big, important things for us. The other was just to have a partner that would continue to allow us to do things that we wanted to do. Leyou was forthright and honest, the whole process when we negotiated the acquisition, they absolutely stuck to their word and have proved to be a spectacular partner in every way. It was those things that attracted us to Leyou and Perfect World.
Jim Perkins
They definitely showed an incredible amount of integrity and honesty throughout the deal. Were there some tough parts in terms of getting the deal done, in terms of them being in a different time zone, two buyers, government approvals… what’s your take on that?
James Schmalz
Like you said, I think one of the biggest things was that we’re on the other side of the world, so the timing was different. It’s the first time ever I’ve ever gone through a process like that, dealing with the lawyers and just the time it takes. The process of doing a deal like this takes way more time than you would expect and way more working through the lawyers and all the legal documents that go with it, so it was surprising—not surprising, it was expected—but once you go through the process, you find out that it really is quite a bit of work.
Jim Perkins
No question. Any other advice for sellers, especially in the game industry, in terms of preparation and patience, that sort of thing?
James Schmalz
Yeah, someone had previously told me that it takes more work and that it takes longer than you would expect to get a deal done, and that’s the advice I would pass on as well. Expect the process to take time as you work through the lawyers and just be cool with it. There are lots of highs and lows, it’s a process, it does take time, and the more you understand that that’s what it is and it just has to happen, then the less stress you’ll have when you do see it happen.
Jim Perkins
That’s great advice. It sounds like you’re really looking forward to new opportunities with these buyers in the future, especially with your growth into Asia. We were thrilled to be working with you, and it was absolutely a pleasure to work with you and Mike and the team. Good luck to you with that and we’ll continue on in the future.
James Schmalz
Absolutely. And thanks to you, Jim. Going through the process with you, since it was our first time and we had you kind of holding our hands and guiding us, we couldn’t have done it without you, obviously, but you just made it so much easier, through all the difficult stuff, I know that you were smoothing it out for everybody, so thanks to you for everything that you did for us on that.
Jim Perkins
I appreciate that, James. We’ll be seeing you soon.
Timothy Goddard
Thanks to both Jim and James for that.
Q&A
We have a little bit of time left for some Q&A. If you have questions that you’d like to put in, there’s a window to the right of your screen where you can do that.
One question that did come in is for Jim. “We’ve heard a lot about Asian buyers of gaming companies, what is happening in terms of the more traditional Western buyers?” Jim you want to handle that?
Jim Perkins
That’s a good question. What I’ve seen in this transaction and others that are in process is that the Asian buyers are much more aggressive than the Western buyers in North America and Europe. They are keenly interested in taking a look at all opportunities and are very focused and know exactly what they’re looking for and they get very aggressive when there is a bidding process going on for any particular company.
Timothy Goddard
Thanks, Jim.
Elon, what does the market for data analytics companies look like these days?
Elon Gasper
Well, there’s certainly a hot market for them right now, both for business intelligence ones and in terms of ones that are more on the marketing automation side. We’re going to be talking about some acquisitions that have happened in that segment recently when we cover the other three markets in next month’s webinar, so I invite you to tune into that, or if you have a specific question, it is a detailed marketplace and a lot of valuation metrics depend upon the exact situation that your company is in. I invite you to give us a call and we’ll go through particulars of what’s going on and see what kind of guidance we may be able to give you.
Timothy Goddard
Great, thanks. We’ve got time for just one more question and we’ve got a real nice softball here. “How early into your business startup do you begin to prepare a foundation for a high value exit?”
The answer to that is from the very beginning. You should be beginning with the end in mind. That doesn’t mean you are building with the specific plan of who you want to sell to and how you want that to go down, because you never know how that’s going to play out, but from the very beginning you should be building a company that is valuable and be considering the things that make a company valuable to an acquirer. For a lot more detail on that, in addition to continuing to attend our webinars, I invite you to attend one of our live events, Selling Up, Selling Out happens in a lot of different places, but we do them roughly quarterly here in Seattle and this goes into a lot of the sort of things that buyers look for, what they find valuable, and what you should be doing from very early days. In addition, if you visit our website, there’s a lot of information in our archived webcasts that tells you what it means to begin with the end in mind. The short answer to how early is from the very beginning.
That’s all the time we had. If we didn’t get to your question, we’ll follow up with you afterwards. Thank you to our attendees and speakers, and now we’ll go to our close.