2005: Smiles for Software Startups

This year could be a good one for software startups. M&A activity looks set to continue after a busy 2004, according to the latest research from VentureOne.

The study, which examines U.S. venture-backed companies, tracks funding and merger activity for firms in a number of areas, including the IT, bio-pharmaceutical, and healthcare industries.

VentureOnes survey identified a total of 376 M&A deals among venture-backed firms last year, with an aggregate total paid of $22.64 billion, the highest amount since 2000. In 2003, in comparison, 335 companies were merged or acquired with a total of $12.92 billion paid.

Of 2004's 376 deals, 246 were IT-related, raising a total of $13.97 billion, the largest amount since 2001. Software companies made up the overwhelming majority of these firms, with 134 involved in M&A deals.

Things are also looking up in the IPO arena. In 2004, 67 venture-backed U.S. companies completed IPOs, raising a total of $4.98 billion, the highest since 1998. Although healthcare and consumer-based IPOs still outnumber IT offerings, VentureOne research manager Matt Garlick believes the high-profile Google Inc. IPO signifies a change in the market (see Tracking Google's IT Booty).”To an extent, it brought attention to startup companies being able to access the public markets and do well,” he says. “In the previous three years a lot of institutional investors were reluctant to buy into IT firms after the dotcom bubble burst.”

Overall, though, Garlick believes we are still much more likely to see an IT startup clinch an M&A deal than go public. “It’s more difficult for companies to go public these days because of legislation such as Sarbanes Oxley, plus you need a significant market cap,” he says.

So what kind of software will be favored by acquirers? Security is big news at the moment, especially after the recent mammoth deal between Veritas Software Corp. (Nasdaq: VRTS) and Symantec Corp. (Nasdaq: SYMC). Garlick believes that other IT industry big hitters could follow suit and snap up security firms in 2005 (see Symantec & Veritas: It's a Deal).

”It would make sense that other competitors would try and pull together products that are not their core business,” he says. This could include the likes of EMC Corp. (NYSE: EMC), IBM Corp. (NYSE: IBM), Juniper Networks Inc. (Nasdaq: JNPR), Cisco Systems Inc. (Nasdaq: CSCO), and Computer Associates International Inc. (CA) (NYSE: CA).

Why? Because users are tired of relying on a number of vendors to provide different data center products. “CIOs are really looking to buy a lot of security products from one vendor,” Garlick says.At one point, EMC had even been mentioned as a possible Veritas suitor, although the Hopkinton, Mass.-based firm is now hoping to win customers in the aftermath of the merger (see Veritas's Future Is Scrutinized and Vulnerable Veritas).

Although Garlick did not provide any specific names, he says that firms such as EMC would have little trouble boosting their product portfolios. ”There’s a lot of security startups out there -- there is no shortage of targets.”

— James Rogers, Site Editor, Next-Gen Data Center Forum