Last week, I briefly speculated on how you value an IT business, skimming across several alternative approaches before focusing on the ‘precedent’ approach in the context of UK construction collaboration software vendor 4Projects‘ MBO. I did suggest being a Software-as-a-Service (SaaS) business might improve its valuation, but I didn’t know by how much. Over the weekend, however, I did a little research into industry ‘rules of thumb’ as they apply to software businesses and to SaaS companies in particular, and I may have seriously under-estimated the valuation of the business.
I have heard various commentators use revenue multiples to gauge the value of a conventional software business, and the figures normally appear to vary somewhere between 1.5x and 4x annual turnover depending on the type of business and its reputation, etc. But different valuation multiples appear to apply to SaaS businesses – as Chris Hoffman of TripleTree says (in Finding a SaaS exit): “Historical valuation metrics for traditional ISVs have changed and don’t apply to SaaS firms“. He continues:
“… SaaS has many inherent business attributes which differ from traditional software. A few of these are:
- Platform extensibility and a more rapid achievement of business goals
- A distribution model that simultaneously serves large and small clients
- A single code base that helps keep costs predictable
- A recurring revenue stream that rationalizes growth
- Profit margin improvement as company scales
“… creating a premium valuation … requires more than financial performance … key qualitative attributes are at play. These metrics can add complexity to a valuation process, but will ultimately drive a multiple on revenue well above those captured by licensed software firms.”
This message is underlined in a TripleTree analysis, Software as a Service Update, which said:
“M&A transactions for Software as a Service businesses are trading at premium valuations. With the enterprise software sector consolidating 1x to 3x revenues, Software as a Service leaders have received premium valuations to their Software counterparts. Of the nearly 50 transactions that have occurred in Software as a Service, TripleTree has tracked valuations in excess (sometimes far in excess) of these figures.”
Of course, the key question is how much bigger is the multiple for SaaS businesses. Last year, Saugatuck Research noted:
“the price/sales valuation of Salesforce.com has averaged 1.5-2.5 times (or greater) that of enterprise software leaders Oracle and SAP for most of 2006. This reflects both Salesforce.com’s strong short- and long-term growth prospects as well as the highly renewable and predictable, cash-flow driven nature of the business.”
This is in line with the view of US merchant bank Mufson Howe Hunter & Co:
“valuations of companies with the Software-as-a-Service model averaged 3.8x EV/Revenues vs. 2.3x EV/Revenues for traditional software companies”
As an indication of how big the multiple could be, earlier this year, Cisco bought SaaS business WebEx at a price equivalent to roughly 7.6 times its revenues. I doubt that 4Projects would command such a premium, but it is highly likely that the valuation attached to 4Projects’ business was substantially more than I originally calculated based on the precedent of the 2003 Business Collaborator acquisition. So I wouldn’t be surprised if the valuation figure was somewhere north of £10m, maybe approaching even twice that figure if the private equity firm looked at something like the WebEx precedent….