Hi guys:
Why do some software companies go out and acquire customers in order to gain their clients, rather than just building their own product with the same function and sell that to those clients they want to win? Even if you sell your products at a discount/cheap price, it's still more economical than paying to acquire a competitor at a very high multiple, no?
Thanks!
Biggest factor is time. If a standard hold period is 3-6 years, hard to justify trying to greenfield a platform or significant investment because you need to not only perfect the software, but demonstrate sales and take among the target customer base
Cross-selling - if there is already a platform software, going out an acquiring incremental features and customers allows a significant cross-selling opportunity at very high margins. Example would be an EHR system that acquires a credentialing application to bolt on. It can now up-sell that to its customers for an additional recurring fee, and potentially gain new customers of the target to sell the entire EHR or certain pieces of it that compliment the credentialing application.
From my understanding, you also have to take into account patents. Acquiring a company typically means you acquire the patents, and therefore the right to use, further develop, and sell the software. I believe you also see patents as the main driver for M&A in drug companies/pharmaceuticals (correct me if I'm wrong).
(1) Building you own product requires significant cash spend. I even put the word "significant" in bold to emphasize that this may be costly even for giants such as SAP as an example. You need to have people with the right skills and if you dont have them - poach them + infrastructure + business processes in place etc. Look at SAP's acquisition of Qualtrics. In fact take a look at how Salesforce disrupted CRM market and how difficult it was for others to respond organically.
Also if you are competing with the new disruptor like Salesforce, who guarantees that you customers will switch to your new products - software development brings risks.
(2) M&A may be less risky - the product is already tested because it has a customer base. On top, this customer base may be open to using your products - i.e. opportunities for cross-sell. Cross-sell gives you incremental EBITDA which may justify the higher price for the target that you may have to pay if someone else is also bidding - that's your revenue synergies right there on top of cost synergies if any.
(3) M&A may give you market share quickly vs. organic expansion which is slower + you take away an option for your new competitors to consolidate. I don't know how much sense it makes to enter new consolidated software market organically unless you are disurpting it somehow.
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