The Current State of Tech M&A in 2024
In recent discussions at tech events over the last two weeks, industry experts – investment bankers, venture capitalists, private equity professionals, lawyers, and startup CEOs – paint a mixed picture of the current and projected technology M&A market.
Here's an overview of the current key trends:
Startup Shakeout & AI destruction: A category of startups which were funded with one or more SAFE notes in 2020-21-22 are failing due to funding shortages and the departure of key personnel, particularly AI software engineers seeking better opportunities. "Fire sales" are occurring now, with the consensus suggesting that the second half of the year may see even more.
Also, established companies in the Silicon Valley are laying-off software engineers in favor of outsourced staffing from India. Many are blaming Elon Musk, a prominent believer in the "AI destruction" concept, for causing job displacement in the tech sector. "Fire sales" with discounted valuations are occurring among companies that are not even close to “Rule of 40” results.
More M&A in ‘24: There's an "uptick" in deal volume and valuations which has started in earnest this year (Goldman and Morgan Stanley data confirm this.) Anecdotally, there's strength in not only the large-cap and public company deal segments but also the middle-market which was pretty much "dead" last year.
These $100-750 million deals are the mainstay of VC and growth equity investments and their IRR.
One reason for this shift is that investors, particularly VCs who traditionally deferred to founders on exit timing, are now urging their companies to hire bankers and go to market. This push is driven by the need to improve their DPI (Distributions to Paid-In Capital) or realization multiples. Good companies with “Rule of 40” financial results) trading at premiums. Buyers are both mid-cap public companies ($10-100 billion in market cap) looking for growth and scaled private companies looking to bulk up for an IPO.
More Scrutinous Due Diligence: Expect a more intensive due diligence process, including detailed financial audits, extensive customer and revenue verification, and evaluation of technical capabilities. For companies incorporating AI, due diligence will focus heavily on AI aspects and data rights. This scrutiny is extending deal timelines. Additionally, acquirers are imposing stricter terms, such as larger escrow pools, to mitigate risks.
Talent Acquisition Focus: The age-old "acquihires" model has re-emerged as a trend along with small-sized traditional acquisitions. Enterprises and tech companies are actively seeking to acquire top talent, particularly engineers with AI expertise, by focusing on hiring the most valuable and knowledgeable employees without buying the entire enterprise.
Shift in Buyer Dynamics: Strategic buyers established in their markets are increasingly utilizing M&A to expand their capabilities.
PE Landscape: Large private equity firms like Blackstone, KKR, Bain Capital and others with substantial war chests, remain active. Last week, Synopsys sold its Software Integrity Group (SIG), including Black Duck Software, to a PE consortium led by Clearlake Capital and Francisco Partners in a $2.1 billion deal. (This may prove to be an exception.)
Conversely, smaller PE firms are less active due to limited fundraising success in recent years.
However, tech-focused PE firms such as Insight, Silver Lake, Vista and others are expected to become more prominent in the second half of 2024.
Regulatory Scrutiny & Delays: Over the past two years, M&A activities have been significantly affected by increased regulatory and antitrust scrutiny, leading to delays and approval risks from agencies such as the U.S. DoJ, FTC, the UK’s CMA, and the EU.
Interest Rate Impact: The Federal Reserve's reluctance to lower interest rates is a key factor behind the more stringent due diligence and focus on shorter-term profitability. Additionally, the overall macroeconomic climate and upcoming presidential election are contributing to buyer caution.
While the current M&A market presents challenges, it also creates opportunities for well-positioned startups. Acquirers are prioritizing companies with sustainable business models and a clear path to profitability within the next 12-18 months. By focusing on building sustainable business models and demonstrating a clear path to profitability, startups can become attractive targets for acquirers seeking top talent and new capabilities. The second half of 2024 may bring a surge in M&A activity, rewarding those who are prepared.