Pandemic has highlighted the vital role of the tech sector in our economy

The global health crisis dominated the M&A landscape in 2020. Yet, the past 12 months have shown that even in the most challenging trading conditions, there are sectors that can really shine through and still attract significant investment.
Ben Taylor is Head of Technology M&A at KPMG in YorkshireBen Taylor is Head of Technology M&A at KPMG in Yorkshire
Ben Taylor is Head of Technology M&A at KPMG in Yorkshire

Few could dispute that technology businesses have really stood out and have fared better than most, many outperforming the market. Clearly, the pandemic – with all the disruption and uncertainty that it has wrought – has emphasised the value of technology and the integral role that the sector’s products and services now play in our economy.

Some simple analysis of market performance of the FTSE Allshare against the FTSE TechMark 100 shows that technology assets, whilst also impacted by the national lockdown, have recovered significantly faster than their non-tech peers. Trading is now back to pre-Covid levels. By comparison, the FTSE Allshare is still in recovery mode.

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Of course, public companies act as a useful proxy for private company sales. Our research shows that average valuations for tech businesses as a whole are back to pre-Covid levels being north of 12x EBITDA, the highest they have been for some years. For privately-owned premium technology assets and, based on current levels of M&A activity, we predict multiples could tick significantly higher than this, particularly for more software-led propositions which could achieve higher mid-teen double digit multiples.

From our own experience, we completed 10 technology M&A transactions in as many weeks at the end of the year. You only have to track the multiples that these businesses were attracting to gauge the appetite from investors and strategic trade buyers. While there is some competitive tension between equity houses – driving premium pricing, good technology businesses are making two turns more than before the pandemic. Private equity typically seek out business with robust business models, high historic growth rates and entrepreneurial teams, which are all features that are synonymous with premium tech assets.

Furthermore, there are some unifying characteristics to the technology propositions of the businesses commanding the highest cheque size. These five factors will contribute to the highest deal multiples in 2021:

1. Technology needs to be simple, well-designed and well-invested in. During 2020, we saw an increase in deal volume and value for those companies who invested in their customer journey so that it is straightforward and easy to use. Typically, these solutions have a single code base and are built on effective analysis of user experience. Clunky infrastructure is a major ‘turn-off’ for investors. The simpler the better, as these solutions are also often easier and more cost effective to maintain and grow.

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2. Technology is ubiquitous in the economy, but solutions that have ‘stickiness’ are proving to be the most valuable. That means having a technology that customers invest in and that can be thoroughly integrated into their user experience.

3. Solutions that are repeatable, tailorable, and can be successfully scaled have seen the most significant customer growth and revenue increase from up-selling. With the right design and investment, these solutions provide agility and enable companies to quickly meet market demand. An attractive proposition for any investor looking for growth.

4. The foundations of a stable and secure platform remain a key investment theme – whether that means ensuring that patching is up to date, scrutinising where outsourcing is used and monitoring and managing risk to maintain system uptime. More often than not, we’re seeing cloud-native platforms demonstrating the greatest reliability of service and are less exposed to the vulnerabilities of keeping systems on premise.

5. Brand and intellectual property value continues to be a focus for boards and investors as it is one of technology companies’ most valuable assets. That’s why proper investment in securing information assets through the right cyber capabilities and controls is so important.

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But, how can businesses ensure that they can develop these qualities? Quite simply, it is about backing and investing in a quality chief information officer (CIO) or chief technology officer (CTO).

From the transactions we’ve seen in recent months, their longstanding trust in a CIO’s or CTO’s vision has paid off. Typically, that has meant sizeable investment in development programmes to bring through quality, skilled staff to support that figurehead.

The faith in and empowerment of CIO or CTO can lead to better integration of the fundamental technology function within an organisation, but also a clearer understanding for technology professionals of the commercial challenges and opportunities they face, together with a better alignment with the overall corporate strategy. And for those companies that haven’t reached the stage to hire a CTO, there still needs to be a good dialogue between IT and the board to make commercially savvy decisions.

As for the wider M&A sector this year, we expect interest in sales processes to continue – not least as owners consider whether moving before any proposed changes to Capital Gains Tax. However, encouragingly, most are looking to onboard smart capital from investors to expedite growth – stealing a march on competitors as the economy finds a path out of the pandemic and into recovery.

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But, whatever route it takes, the high degree of confidence in the technology sector from investors and trade buyers – including interest from suitors abroad – suggests that the interest in technology will continue. And, as companies look to make their propositions ever more simple, sticky, scalable, stable and secure, the hunger for these assets will make it one of the hottest areas of deal activity and will drive increasingly attractive multiples.

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