The Software Ticket: Invest in Companies Before They Go Private

Finding and investing in the right software companies before they go private might be the next best opportunity in information technology [IT] investing. Private equity investment in software companies used to have a yard sale quality to it. The “acquisitions” of Applix CRM (APLX), the Aspect Software/Concerto/”Melita out of divine” trifecta, AttachmateWRQ, Data Direct (since sold to Progress [PRGS]), Enterasys, Escalate, Gupta, GXS, Infor, Lanier, MicroFocus, Neon (also since sold to Progress), Pilot (since taken public again and recently acquired by SAP [SAP]), Red Prairie (formerly McHugh Software), Seagate (STX), SSA (taken private, taken public, and now private again as part of Infor), and UGS are just some past examples. There is usually some rational about buildups and extractions but most often these were IT suppliers that were losing share and money.

Now, with Kronos (KRON) being the latest example, private equity seems more often a method of getting value out of well-managed but stodgy businesses in mature, commoditized IT markets instead of a bail-out measure. These are the non Web 2.0 companies. SunGard, Sabre, Serena, and Telcordia join Kronos as recent examples that did not appear to be distress sales. Going private seems to kick off an acquisition spree as well (not that Kronos wasn’t already on one). With new deep pockets, Sungard has acquired Aceva, AFS, Carnot, IBS, Kingstar, Maxim, System Access, Signix, and Trax since it went private.

So who might be going private next? I would say some one that meets those three criteria: well managed, conservative culture, commoditized market. Going in the opposite order, I can help you in terms of the markets.

• In applications software, in my opinion, the answer is basically any of the markets where the products support backoffice functions.

o That’s HRMS like Kronos, accounting and finance management like Sungard, and all aspects of inventory/order management that have not already moved online.
o Other application product areas such as analytics, collaboration, consumer, content/document management, customer relationship management [CRM], and industry-specific ERP still have life in them.

• In infrastructure software, there is very little left that is not already commoditized. Whereas applications software markets go online as their growth slows down, infrastructure software markets go open source software [OSS]

o All types of classic middleware (except transaction monitors), tools, operating systems and utilities, and identity management have been commoditized and apparently have gone so far OSS that a good enough deal could not be structured for the Codegear spin out from Borland. (Dealmakers should remember that the opportunity can be structured around the services potential as much as the functionality; that is the OSS story.)
o Data management software (because there’s so much data still to be stored and analyzed), event automation, some new yet undetermined permutation of transaction monitors, IT-center performance and lifecycle management, spatial information management, and the perennial favorite—components—still have potential

As for the second characteristic, conservative management, I have to become more flippant with my second answer. I would nominate any company east of I-5 and any one west of I-5 not already on an acquisition binge.

This lets me whittle the list of companies down by triangulating those that meet the first two criteria against those that are well managed. It’s a short list in my opinion (cutting it by those with more than $100 million in revenue). NCR (NCR) might have looked at private equity as a means of getting value for Teradata but because its market sector, data warehousing, is not commoditized, NCR says it is giving the public markets a shot some time this year.

I might have included Compuware on my list if the Detroit-based company hadn’t seen an interesting opportunity in Covisint to extend that original supply chain exchange to other industries, taking it off the auto manufacturers’ hands in 2004. Near me (and right down the street from Kronos), there’s Progress. And on the left coast, spending its hoard on real estate is BEA (BEAS). Any other nominees?

Disclosure: none