“M&A Banking for the Best Deal in the
Current Market”
Including an Overview of the Technology
IPO, Private Equity and M&A markets in
Q1 2001
May 19, 2001
Joe Dews
Jdews@needhamco.com
The M&A Market in Q1 2001
Page 1
What a great time - Q1 2000
Only a year ago…
•
Large companies, with huge market caps and sky high stock
multiples were bidding incredible prices for early stage
companies
•
There was unlimited and practically free cash available in
the public and private equity markets – so what did burn
rates matter?
•
“You snooze, you lose” was the mantra
Page 2
M&A in Q1 2001
Q1 2000
•
M&A came to a virtual halt:
 Buyers don’t know what to pay
 Buyers have seen their own stocks punished
 Buyers are focused on figuring out their own businesses
 Burn rates and earnings dilution are again a focus
•
There will be no buyers for many venture backed
companies without clear business models
Page 3
Where have all the buyers gone?
No. of Deals
500
477
450
373
400
350
284
300
246
250
200
150
103
100
50
0
Q1 00
Q2 00
Q3 00
Q4 00
Q1 01
Source: SDC disclosed value global technology M&A deals over $20MM
Page 4
Where are the big deals?
150
135
125
100
75
63
50
25
14
22
2
0
1997
1998
1999
2000
Q1 2001
Tech M&A over $1 billion in value.
Source: SDC.
Page 5
Acquisition currencies have been damaged
($ in billions)
3/31/00
Market
Cap
3/31/01
Market
Cap
Ariba
43.8
1.6
-96 %
Cisco
523.0
118.3
-77 %
EMC
226.6
85.6
-62 %
Intel
509.3
195.8
-62 %
Lucent
215.3
34.9
-84 %
Oracle
260.9
95.3
-63 %
Sun Microsystems
210.8
55.7
-74 %
84.8
10.2
-88 %
Yahoo
Decline
Page 6
The great buyers have stopped buying in 2001
Number of M&A Deals Completed
M & A Deals
Year 2000
Q1 2001
Cisco
28
0
EMC
3
0
Intel
18
2
Lucent
10
0
Microsoft
11
0
Nortel
9
1
Sun Microsystems
8
2
Page 7
Where we are today?
What was in - 2000
•
•
•
PowerPoint presentations
•
•
•
Investors who “got it”
•
•
•
•
“0 to IPO” in under a year
“Press Release” companies
Multiple of pro-forma forecast 2005
revenues
Public venture capital
Momentum investing: Buy on chart moves
and sell quickly
Promoting the stock the primary focus
‘Twenty-something” fund managers
“Twenty-something” IPO jockeys
What is in - 2001
•
•
•
Real Businesses and Managements
•
•
•
Investors who didn't “get it”
•
•
•
•
Long-term company building
Demonstrated success
Multiple of historical earnings and balance
sheets
Tested companies
Value investing: Buy on fundamental
analysis and hold
Operations the primary focus
Adult supervision
Experienced advisors
Page 8
M&A Banking for the Best Deal in
the Current Market
Page 9
Points of Discussion
(a) Leading firms working with software and Internet companies,
and how to identify and engage a banker,
(b) Typical fee arrangements,
(c) The range of services provided by bankers in the M&A
process,
(d) How valuation is set from the target’s perspective – and how
valuations have changed over the past few months,
(e) Issues in selecting the best acquisition partner,
(f) Assistance, if any, that acquisition bankers might provide
following completion of the deal,
(g) What type of companies Needham is now working with, and
(h) What kind of deals we are turning away.
Page 10
Just in case I run out of time, here are the short answers
I
Leading firms working with software and Internet companies, and how to identify and engage a banker,
In general, more important than the firm is the people you will be working with
II
Typical fee arrangements,
Be aware that in general you will get what you pay for. The fee structure should provide incentive
for the desired outcome
III The range of services provided by bankers in the M&A process
Various, but an overlooked point is that the M&A process is a process, a complex multi-variable
process
IV How valuation is set from the target’s perspective –
No acquirer will pay more than they have to, so it is ALL about leverage.
and how valuations have changed over the past few months,
LOL
V
Issues in selecting the best acquisition partner
Depends on a lot of things – big difference between a cash and a stock deal
VI Assistance, if any, that acquisition bankers might provide following completion of the deal.
If you are counting on someone who gets paid when the deal closes to help you manage the
integration
process, you may want to think some more about that
VII What type of companies Needham is now working with (Broadly speaking)
Representing buyers – Public Companies buying private or public companies that are a strategic fit
and are affordable with their current currency.
Representing sellers – Adequately-funded private or public companies that don’t need to be
sold,
but
for strategic or liquidity reasons want to be sold, and which have strong market position,
technology
and customers
VIII What kind of deals they are turning away.
Fire sales; companies which we think are unlikely to be sold due to high losses or lack of significant
market position, technology and customers; companies where the valuation or our ability to add
value will not support our minimum fee.
Page 11
Who are leading firms working with software and Internet
companies, and how to identify and engage a banker
•
There are many investment banking firms that have both a strong effort in
technology and focused M&A expertise
•
There are a group of firms that have historically had a purely or heavily
technology focus
•
There has been a lot of change in the industry
•
There has been a lot of consolidation
•
Recently, there have been layoffs at most investment banks
•
I think you should look for a firm that has expertise in your industry,
expertise in M&A, with people that you feel good about working with, were
you feel you will be a valued client and get the effort you want and deserve
on your behalf. At the end of the day, as in anything else, you are working
with a group of people.
•
Sources of introductions/information: professional introductions (from your
lawyers, your accountants); personal references (other entrepreneurs);
seminars like this; advertising.
Page 12
Structure of the Investment Banking Industry
Independent National
Emerging Growth Firms
Needham & Company
Thomas Weisel Partners
Wit / Soundview
Emerging Growth Firms Now
Owned by Major Commercial Banks
Fleet / BancBoston / Robertson Stephens
Bank of America Securities / Montgomery
Chase / H&Q / J.P. Morgan / Flemings
Deutsche Bank / BT/ Alex. Brown
SG / Cowen Securities
Royal Bank of Canada / Dain Rauscher / Wessels
Firstar / US Bancorp/ Piper Jaffray
CIBC World Markets/ Oppenheimer
ABN Amro / ING / Barings / Furman Selz
Major Bracket Institutional Firms
Bear Stearns
UBS / Warburg / PaineWebber
Special Bracket Firms
Citigroup / Salomon / Smith Barney / Schroder
CS / First Boston / DLJ
Goldman Sachs
Lehman Brothers
Merrill Lynch
Morgan Stanley / Dean Witter
Regional Firms
A.G. Edwards (St. Louis)
Adams Harkness & Hill (Boston)
First Union (Richmond)
Janney Montgomery Scott (Philadelphia)
McDonald & Company (Cleveland)
Morgan Keegan (Memphis)
Raymond James Financial (St. Petersburg)
Robinson-Humphrey (Atlanta)
Stephens Inc. (Little Rock)
Sutro & Co. (San Francisco)
Tucker Anthony Sutro (Boston)
Wells Fargo/FSVK (San Francisco)
William Blair (Chicago)
Page 13
What are typical fee arrangements
•
Case by case basis
•
Typically a front end or retainer, and back end or success fee
•
Typically related to the size of the deal, as through a success fee based on a
percentage or variable percentage of the transaction value
•
Typically subject to a minimum in the event of a completed transaction
•
Be aware that in general you get what you pay for. The fee structure should be
designed to provide incentive for the desired outcome.
Page 14
The range of services provided by bankers in the M&A process
•
“M&A” can cover a range of advisory services to clients on:
 Mergers

Recapitalization
 Acquisitions

Restructuring
 Divestitures

Share Repurchases
 Fairness Opinions

Strategic Positioning
 Going Private

Takeover Defense
Page 15
Sale Process and Transactional Issues
Financial Positioning
•Press release announcing
transaction
Due Diligence
•Interview key management
•Financial due diligence
including analysis of historical
Negotiations
•Financial advisor or principal
Structuring
•Determine ability to use either
Valuation
cash or stock
•Analyze respective proforma
effects of a stock or cash
acquisition
•Analyze financial statements
•Discuss business history and
prospects with management
•Analyze comparable public companies’
trading multiples
•Analyze comparable transactions
•Value shares offered for
consideration (public co. only)
•Balance sheet
•P&L
•Goodwill
•In-process R&D
Write-offs
•Cash or stock preferable
•Understand potential synergies
•Employee issues such as:
•Acceleration of options
•Backgrounder on the acquisition
•Guidance for analysts’ forecasts
•Prepare and conduct conference
call
•Plan and execute roadshow to sell
the deal, if necessary
and projected financial statements;
interview independent auditors
•Third-party interviews and
reference checks
•Facility visits
•Legal due diligence
•Employment agreements
•Non-compete agreements
•Key issues to be negotiated:
•Condition of closing
•Financing outs
•Reps & warranties
•Break-up fees
•Shopping restrictions
•Topping offers
•Material adverse change
•Shareholders’ vote
required (either company)
Page 16
What is some of the value a banker can provide
•Smooth orchestration of a process, saving time and energy, and increasing the
likelihood of a successful deal
•Convert a serial process to a parallel process, to increase leverage and get a better
price
•Credibility – implicit or explicit “threat of an auction”, to increase leverage and get
a better price
•Ability to outsource the difficult negotiations, preserving the relationship of a CEO
and the Buyer, to increase leverage and get a better price and have a harmonious
relationship after the deal
•Experience and insight
•Relationships and introductions
Page 17
Resources an Investment Bank can Provide
- A highly knowledgeable research analyst can be a resource,
circumstance permitting
- Industry bankers with a strong understanding of the industry
- An M&A team experienced with the M&A process
- Contacts with the “right” individuals at potential acquiring
companies
- Ability to leverage expertise and capabilities of various areas
of the firm, including underwriting, research, mergers &
acquisitions, and potentially private placements and venture
capital, to produce maximum transaction value
Page 18
How valuation is set from the target’s perspective and how
valuations have changed over the past few months
•
Valuation is set by what the buyer believes they need to, and can afford to,
pay to get the deal.
•
Metrics (price/sales, price/earnings, price/book, premium to stock price)
can measure valuation, can guide expectations, can at some level be
constraints, but do not determine valuation.
•
Valuation impacted by alternatives to the seller, such as the availability of,
and cost of, private or public equity capital
•
Valuation impacted by how the acquirer is valued, by the public or private
markets
•
No acquirer will pay more than they believe they have to, so it is ALL
about leverage. Get the leverage on your side
Page 19
Sale Process and Transactional Issues
Multiple Elements Drive Negotiating Leverage
• Competition
• Desire
• Necessity
Negotiating
Leverage
(5 key elements)
• Resources
• Time
Page 20
Sale Process and Transactional Issues
Planning is an Important Component of Successful Negotiations
Collecting
Information
Achieving
Resolution
Assessing
Leverage
Negotiating
Plan
Establishing
Expectations
Determining
Response
Page 21
Issues in selecting the best acquisition partner
•
Think about this before you start the process, because depending on the answer
the process may change
•
Different stake holders may have different objectives and criteria, which needs
to be managed
•
Big difference between a cash deal and a stock deal
Page 22
Sale Process and Transactional Issues
Successful Negotiation Can Usually Result in a
Broad Range of Outcomes
Financial Terms
Valuation
Structure
Liquidity
Buyer’s Minimum Terms
Seller’s Minimum
Terms
Culture
Corporate Strategy
Non - Financial Terms
Page 23
Sale Process and Transactional Issues
Sale Process Continuum
Potential Tradeoffs
One-on-one
negotiation
Full
auction
• Probability of Successful Sale
Low
Medium
High
• Maximization of Sale Proceeds
Low
Medium
High
- required to canvas
prospective purchasers
Low
Medium
High
- from canvas to conclusion
High
Medium
Low
High
Medium
Low
• Time
• Confidentiality
Page 24
Assistance, if any, that acquisition bankers might provide
following completion of the deal
•
If you are counting on someone who gets paid when the deal closes to help
you manage the integration process, you may want to think about that some
more
•
Strategize on positioning
•
A lot of issues that appear after the deal is completed, depend on the due
diligence, negotiation, pricing and structure of the deal, so make sure you get
those right
•
Liquidity
•
Any surprises
•
Integration
•
Long term success
Page 25
What type of companies Needham is now working with
•
Representing buyers – Public Companies buying private or public companies
that are a strategic fit and affordable with their current currency.
•
Representing sellers – Adequately-funded private or public companies that
don’t need to be sold, but for strategic or liquidity reasons want to be sold,
with strong market position, technology and customers
•
Situations where we believe we can add a lot of value
Page 26
What kind of deals we are turning away.
•
Fire sales – don’t wait until the last minute, leave yourself plenty of
runway
•
While deals can happen quickly, a full sale process can take 4 to 6 months
or longer to close, and being almost out of cash does not help your
leverage
•
Companies without significant market position, technology and customers
•
Companies where valuation or our ability to add value will not support our
minimum fee
Page 27
Perspective on the current tech stock
market
Page 28
The current market for tech stocks
Welcome to 2001!
•
The late 1990’s was an aberration in the public markets unlikely
to reoccur in our generation
NASDAQ Composite
Forget this ever happened!
Daily Closing Price
November 5, 1984 - April 24, 2001
5400
4800
4200
3600
3000
2400
1800
1200
600
0
11/5/84
9/3/86
7/1/88
5/1/90
2/27/92
12/27/93
10/25/95
8/22/97
6/22/99
4/19/01
Page 29
Where have all the billions gone?
($ in billions)
Highest
Market Cap
Akamai
$
35.7
Current (5/2)
Market Cap % Change
$
1.0
-97 %
Ariba
42.6
1.6
-96 %
Crossroads
12.2
0.2
-98 %
Inktomi
29.5
0.8
-97 %
Internet Capital Group
56.0
0.6
-99 %
Sycamore
51.9
2.4
-95 %
VA Linux
13.0
0.1
-99 %
Ventro
11.1
0.1
-99 %
Versata
3.8
0.1
-97 %
VerticalNet
13.5
0.2
-99 %
Vignette
23.8
1.5
-94 %
Page 30
Overview of the Equity Market
In the first half of 2000, the flow of cash into stock mutual funds reached
an unprecedented pace. However, turbulence within equity markets
during the second half of 2000, particularly the fourth quarter, has caused
a sharp decline in mutual fund flows.
Net New Cash Flows Into Stock Mutual Funds
January 1997 through March 2001
55.0
50.0
45.0
40.0
35.0
30.0
25.0
20.0
15.0
10.0
5.0
Jan-01
Mar-01
Nov-00
Jul-00
Sep-00
May-00
Jan-00
Mar-00
Sep-99
Nov-99
Jul-99
May-99
Jan-99
Mar-99
Nov-98
Jul-98
Sep-98
May-98
Jan-98
Mar-98
Sep-97
Nov-97
Jul-97
May-97
(10.0)
Jan-97
(5.0)
Mar-97
($ Billions)
•
(15.0)
(20.0)
Page 31
Overview
Overview of
of the
the Equity
Equity Markets
Market
Large decreases in margin debt coincided with broad market selloffs in the late summer/fall of 1998, in April 2000 and in the fall of
2000. Decreases in margin debt were of a higher magnitude in
these periods than positive net cash flows into mutual funds.
Mutual Fund Flows and Net Change in Margin Debt
From January 1997 Through March 2001
Mutual Fund Flows
Change in Margin Debt
100
80
60
40
20
Mar-01
Jan-01
Nov-00
Jul-00
Sep-00
May-00
Jan-00
Mar-00
Sep-99
Nov-99
Jul-99
Mar-99
May-99
Jan-99
Nov-98
Jul-98
Sep-98
May-98
Jan-98
Mar-98
Sep-97
Nov-97
Jul-97
May-97
Jan-97
0
Mar-97
Total of Flows into Mutual Funds and Net
Change in Margin Debt ($ Billions)
•
-20
-40
Page 32
Historical Bear Market Comparison
S&P 500 Bear Market Bottoms
Date
P/E
Bull/Bear Ratio*
12 Mo. Fwd. EPS Growth
06/26/62
13.8x
10/07/66
12.7x
33%
05/26/70
12.4x
34
10/03/74
7.1x
36
03/27/80
6.7x
29
08/12/82
6.8x
43
07/24/84
9.7x
45
10/11/90
13.8x
37
13.6%
12/08/94
16.3x
36
18.6
10/08/98
24.5x
47
15.8
03/23/01
24.2x
63%
7.4%
*Among investment advisors.
Source: MSDW, MSCI, Datastream, Investors Intelligence, IBES
Page 33
Will history repeat itself?
•
•
This crash was the “big one” for tech stocks
•
A frightening thought - The recovery time from the
two prior tech stock crashes was each 8 years
The market crash of 2000 - 2001 makes the earlier post
WW II tech stock crashes looks like mere fender
benders
Page 34
Will history repeat itself?
And, which history?
Boom period
1960’s
 2
decade boom
 Big

1969
- 1983: small-cap
growth stocks

Mid-1983

8 years: 1969 – 1977
 8
misery
years: 1983 – 1991
 MSFT,
CSCO, SLR go
public at $5.00-$6.00
 The
Mini and the
Micro
1995 - 2000
Time required for the market
to recover
 Economic
iron computers
 1980
1980’s
Bust

Internet

Q2 2000
 Eight-years?

Networking

 Three

Optics
Early 2001: The
maelstrom?
 One
years?
year?
 Over
already?
Page 35
Where is the market for tech stocks going?
Positive factors
•
•
•
Favorable monetary, and fiscal outlook
•
•
Strong world position of the US
•
•
Investors have not given up on equities
Negative factors
•
Housing and automotive market sectors likely
to weaken in 2001
•
PE ratio’s are still not historically low. In
1973-74 stocks sold at less than book value
(albeit, in a different inflation environment)
High levels of consumer debt
Mutual funds have not yet seen significant
outflows.
•
•
•
•
•
•
Technology stocks have been trading at a
slight discount to non-techs
•
Still no “surprise” shock from left field
•
•
Still no “surprise” shock from left field
Continuing rapid obsolescence
Productivity gains continuing based on recent
information technology investments
Interest rates lower than in previous
downturns. Inflation tame
World economy weakening further
No real capitulation yet by investors
Tech stocks not truly cheap yet
The NASDAQ has still doubled over the past
5 years and quadrupled over the last 10 years
Some renewed life in the stock and IPO
markets in Q2
Page 36
The IPO Market in Q1 2001
Page 37
Year to year change in volume of IPOs
1 Q 2001
1Q 2000
Deals
$ Millions
Deals
$ Millions
Change
IPO
20
7,347*
128
22,274
(67)%
ADR IPO
1
1,423
12
12,071
(88)%
Total
21
8,770
140
34,345
(74)%
The number of IPOs in Q1 2001 was 15% of the 2000 level
* Nearly 50% ($3.6 Billion ) of the Q1 2001 IPO dollars were from one transaction, the IPO of Agere
Page 38
The tech IPO market dried up in Q1 2001
Total # of Completed Tech IPO Deals
114
120
102
100
80
70
60
33
40
20
9
0
Q1 00'
Q2 00'
Q3 00'
Q4 00'
Q1 01'
Source: Securities Data Corporation
Page 39
Tech IPO backlog dropped away
250
195
200
134
150
88
100
63
48
50
38
36
10
44
8
0
Q1
Q2
# of IPOs Withdrawn
Q3
Q4
Q1 01
# of Filings
Source: CommScan.
Page 40
If this one didn’t work . . .
Loud Cloud Inc.
Top Underwriters:
Joint Leads:
Morgan Stanley
Goldman Sachs
Excellent Investors:
Benchmark Capital
Capital Research
Integral Capital
Sizzling Story:
Internet Infrastructure
Top customers:
Ford, Nike
“Name” CEO:
Marc Andreessen
Last Round Valuation:
$800 million
Page 41
If this one didn’t work . . .
Filed September 2000
Price Talk:
$1.5 billion at the open
Priced March 8, 2001
Price:
$6.00 per share
$252 million pre-money
Trading March 30, 2001
Price:
$5.50 per share
$218 million pre-money
Page 42
The private equity market
in Q1 2001
Page 43
Impact of the markets on
private equity investments
•
The “Crossover” hedge and mutual fund, foreign and
corporate investors that gave the edge to valuations in 1999
- 2000 are largely on the sidelines
•
Many private equity investors are wondering what exactly
is it that they bought in 1999 and 2000
•
Private equity funds face massive needs to continue to
support existing portfolio companies that were expected by
now to be public or be sold
•
As a consequence, many established funds are focused on
the needs of existing portfolio companies and not on adding
new investments
Page 44
Private equity returns are coming down
•
Expect time to liquidity now of 4 - 5 years
•
Expect dramatically lower returns than over the past
five years
•
Many 1999 and 2000 funds will show negative returns
Page 45
US venture investments
The impact is being felt in funding
25. 0
19.4
18.9
20. 0
16.8
13.7
15. 0
11.7
10. 0
5. 0
0. 0
Q1
Q2
Q3
Q4
2000
Q1
2001*
Dollars invested by quarter (in billions)
* Preliminary Estimate. Source: VentureOne
Page 46
US venture investments
The impact is particularly felt in new financings as
funds focus on existing portfolio companies
700
618
606
600
500
445
386
400
290
300
200
100
0
Q1
Q2
Q3
Q4
2000
Q1
2001*
New first venture rounds by quarter
* Preliminary estimate. Source: VentureOne
Page 47
Valuations are coming down in many sectors
•
New rounds are difficult to raise at last round or, in
many cases, at any valuation
•
Desperate efforts to avoid write-downs on new rounds
(e.g. 3x or more preferences on new rounds, large
warrant packages) serve to reduce the effective
valuation while still keeping the last round nominal
price
•
Pre-money valuations are dropping dramatically when
new investors are needed
Page 48
It is a good time to be a private equity investor
•
It is a much better time to invest in new investments
than for the past three years (if you have any money
and time left after caring for your investments of the
past two years)
Page 49