UK tech M&A has faced challenging times in the past 18 months. However, the green shoots of recovery are finally visible. The overall deal value is on the rise, and the number of transactions is widely expected to accelerate through to the year-end and into 2024. This is thanks in part to continuing consolidation in the software industry, considerable dry powder waiting to be deployed, not least among the cash-rich tech giants, a wave of VC-backed businesses expected to launch sales processes and the stabilisation of both inflation and interest rates.
These will be among the key drivers for M&A deals and IPOs over the next 12-18 months, helping drive deal flow in the sector. In addition, we believe that recent times have recalibrated the way that buyers and investors have appraised and will continue to appraise opportunities. There is now a focus on profitability, sustainability and tracking to KPIs, which is a marked difference from pre-2022.
At Solano Partners, we see particular potential and demand for companies specialising in software-as-a-service (SaaS), which benefit from recurring revenue streams and are relatively low risk once a level of momentum is attained.
In the UK, recent research from EY shows that M&A activity remains a strategic priority for CEOs, particularly when it comes to technology innovation. Nearly all (98%) of the UK CEOs surveyed said they expect to actively pursue a strategic transaction in the next 12 months. Of these, 63% are looking to M&A, 59% are looking to divest and 69% are looking to enter strategic alliances or joint ventures.
Dry powder will help drive deals
After a positive year for UK tech M&A in 2021, the market stalled in early 2022, though there have been signs of a rebound since. UK tech M&A deals reached $2 billion in Q2 2023, up 25% from the previous quarter. Although this is still below 2022 for the same period, it is now on a trajectory to end the year on a more positive note.
The prospect of a strong pipeline of deals points to far more robust growth in the coming months, with tech companies very much at the fore. The largest technology M&A transaction in the UK during the first half of 2023 was Edenred’s acquisition of Reward Gateway in May for £1.15 billion. With Microsoft’s purchase of Activision Blizzard now completed, it’s clear there is more to come worldwide.
Globally, firms are sitting on approximately $2 trillion of funds waiting to be deployed – some undoubtedly earmarked for the UK market. As the M&A market picks up, there will be increased interest in acquiring UK assets, particularly those in the life sciences and technology sectors, given the UK’s reputation as a leading destination for tech and a means to gain a foothold into Europe. According to CMS research, two sectors – TMT (37%) and energy (36%) – will see the biggest surge in dealmaking across Europe.
VC-backed businesses to launch sale processes or IPOs
A further likely driver of M&A deal flow in the coming year is the strong likelihood that many VC-backed businesses, including those in the tech sector, will either be sold or put forward for an IPO. The global rebound in IPOs started in the first half of this year. In the UK, however, the sale route is far more likely, with the London Stock Exchange struggling to attract new IPOs, as ARM’s decision to list in New York illustrated.
There are a number of factors behind this overall trend, including the generally more difficult economic and business backdrop. Those factors include the higher cost of debt following the 12 months of interest rate hikes and the greater difficulty of raising follow-on capital. Research from VC Atomico reveals that UK tech companies raised $7.4bn (£5.9bn) during the first half of 2023, a 57% decline, the sharpest investment fall across Europe.
SaaS businesses are a major draw.
A major draw in the M&A arena is software businesses, particularly those with a software-as-a-service (SaaS) model. Factors behind this are long-term contracted revenue, largely as a result of subscription plans, leading to high retention of underlying clients and strong margins.
SaaS businesses also have significant potential for upselling additional plugins and modules, which can be achieved with relatively low development costs.
All-in-all, these factors, coupled with scalability, result in higher multiples than non-software peers. In 2022, global software multiples were marked at an average of 4.0x, compared to non-software’s average of 2.2x, marking a 1.8x differential. It is also worth mentioning that whilst many high-profile, but significantly loss-making SaaS businesses have achieved premium valuations historically, those that can tip their unit economics to achieve break-even or profitability will be a key focus for investors and attract the new high premiums.
Accelerating AI fundraising could spark dealflow
AI in all its forms and machine learning have been at the forefront of fundraising so far this year. According to Crunchbase, companies categorised as AI raised $25 billion in the first half of 2023, representing 18% of global funding. With such cash piles, AI firms are tipped to spark a wave of M&A in the sector.
They are also tipped to help dealmakers to win pitches. Such businesses can speedily evaluate diverse data sets, allowing dealmakers to make informed decisions based on data ranging from financial statements to online sentiments. Business owners have said that GPT-4 supported generated pitch decks are twice as convincing than those made by humans – with decision-makers three times as likely to invest after reading an AI-enabled pitch.
Solano Partners is an independent boutique investment bank that works exclusively with businesses at the forefront of technological innovation. Founded in 2022, Solano’s mission is to partner with leading entrepreneurs who drive transformative change and revolutionise the status quo through innovative software solutions.
Solano partners with entrepreneurs to help navigate pivotal moments in their journeys, creating tailored solutions specific to their needs. They are a team of forward-thinking entrepreneurs, advisors and investors who leverage a wealth of deal experience, industry knowledge, funding relationships and a global network of value-added partners, delivering unparalleled results that launch businesses into the future.
