More startups to be bought by private equity

The parties agreed on a deal in a half-hour at an airport bar. Four weeks later, they had reached a sale price of about $3 billion, more than 20 times AuditBoard’s valuation when it last raised its first round of VC funding.

The speed of the deal and the eye-catching multiple show how private equity has been able to gobble up startups more often lately. While many founders still yearn for an IPO, a period of high interest rates is making late-stage startups stay private longer. Meanwhile, antitrust crackdowns, especially in Big Tech, have left some venture-backed companies without another exit route.

The freeze on exit has given some founders pause, said Michael Brown, general partner at Battery Ventures, which backs companies from seed and early stage to growth and buyouts. Battery was also AuditBoard’s largest institutional shareholder.

“They’re moving very quickly. They’re actually paying very good prices for things — as attractive as they are strategic,” Brown said, adding, “and you get immediate liquidity, whereas if you go public, management can’t just sell on day one.”

PitchBook data shows that software buyouts are rebounding, with an estimated 59 deals in the first quarter. That may not sound like much, but it’s significant as a growing share of the overall results, said Derek Hernandez, senior emerging technologies analyst at PitchBook.

Software M&A activity is down about 20% from pre-pandemic levels, according to PitchBook, and software buyouts are headed toward a five-year high.

The software-as-a-service category is particularly ripe for consolidation, said Aaron Fleishman, a software investor at Tola Capital. The software market exploded during the pandemic as people worked from home and businesses spent more on everything cloud-related. But with inflation and interest rates rising, software customers from tech startups to mom-and-pop shops have tightened their budgets.

Fleishman noted that as software spending has fallen significantly, many subscription-based companies with revenues in the $20 million to $50 million range have hit a plateau. Their slowing growth has made it harder for them to attract new venture capitalists. They’re not big enough to go public and are unlikely to be acquired by an incumbent.

“There aren’t many buyers for these assets because at this point it feels like this is the last generation,” Fleishman said.

Their pain point is the return on private capital. Firms like Thoma Bravo and Vista Equity Partners—leading private equity providers in the tech industry—can buy a company, break it up, grow it to several hundred million in annual recurring revenue, and pivot or take it public. Or they can join other firms to create a new software Frankenstein giant.

“We’re going to see a lot of this consolidation over the next year or two,” Fleishman said.

The redeemed one becomes the buyer

In this market, some software companies are looking to sell more to private equity funds. Others are shopping around.

This spring, Metropolis, a startup building a better parking app, followed in the footsteps of private investors and acquired privately held SP+, one of the largest parking networks in North America.

Yoni Rechtman, an investor at Slow Ventures who first backed Metropolis at the seed stage, said the growth buyout helped Metropolis not only expand its market presence but also capture more value. “Owning the assets means owning all the benefits,” Rechtman said.

The deal follows October’s news that Metropolis had raised $1.8 billion in financing led by Eldridge Industries, a provider of equity and debt financing. With the cash, Metropolis is effectively “using its equity to acquire companies, not to acquire customers,” Rechtman said.

But it’s not just startups that are emulating private equity. Sequoia has changed its model to hold public companies longer. General Catalyst has bought a health care system. Andreessen Horowitz plans to invest in the private equity asset class through its family office arm.

These trends suggest that the worlds of private equity and venture capital are colliding in new ways, with startups caught in the middle, weighing the lure of faster liquidity against the traditional dream of going public.

High interest rates and a liquidity crisis are changing the landscape, and private equity investors are seizing the opportunity.