Web M&A Update – Webmerger.com – January 25, 2001
Internet consulting companies finished dead last in Yr. 2000′s public market shakeout. Stocks of Internet professional services fell an average 90 percent last year, more than any of the 17 Internet segments tracked by Mercer Management Consulting. Companies ranging from MARCHfirst to Razorfish have laid off hundreds of employees as their heavily-dot-com customer base abruptly shot down spending.
The withering in price of the stock typically used as currency has dampened merger and acquisition activity after a frenzy of activity that included the voracious rollup campaign that formed USWeb/CKS, (since merged with Whitman-Hart to form MARCHfirst) or the seven-company merger that formed Luminant Worldwide. However, insiders predict that activity will pick up this year as public valuations recover and as specialty practices begin to develop in areas such as wireless and interactive marketing.
One thing is certain, valuations have taken a bath.
“Valuations are just absolutely in the crapper,” said Greg Foster, vice president of corporate development at iXL, the large Atlanta-based consulting firm. Foster should know – he’s currently in the throes of selling three non-core iXL units at what he admits are somewhat lower valuations than he expected.
“Last year valuations were grossly inflated,” agreed David Cummings, managing partner at Agile Equity, a Manhattan-based intermediary that has been involved in more than a half-dozen professional services transactions. “Buyers were paying premiums for a body grab-toward the end of last year, you were seeing valuations 30 percent to 75 percent off.”
The change in valuations is exaggerated by the dizzying heights at which they started out. “A year ago you had public companies trading at 15 times revenue and they were doing deals at four to six times revenue,” said Tony Giordano, a vice president in the Internet technology practice at investment bank Daniels & Associates. “Now, they’re trading around one time revenue.”. Giordano, who currently represents an infrastructure integrator that has already bought a half-dozen firms, says he is seeing deals range from .7 times to two times revenues, with most falling in the range of one to one-and-a-half times trailing revenues. Multiples of cash flow is ranging between five and eight times cash flow, Giordano said.
Foster observed that current valuations “are more dictated by pipeline than by past revenue.” The reality is that everybody’s in cash management mode right now and nobody has the luxury of being able to buy employees that have no revenue attached to them when they walk in the door.”
Giordano said the current bias is to attempt to use stock as currency, but well-capitalized companies, many of them privately traded, will put as much as 50 to 60 percent of the deal in cash. In another sign of buyer caution, he’s seeing a number of creative earn-out structures putting as much as 50 to 70 percent of deal value into payoffs with terms as long as two years. In some cases, kicker clauses invoke generous multipliers based on meeting performance goals and equally generous penalties on failure to meet those goals, he said.
While nearly all Internet sectors suffered last year, several forces came together in a sort of marketplace Perfect Storm to propel dot COM consultants to the very bottom of the shakeout heap. At the peak of the dot com buildup, with demand pouring out at them from a fire hose, agencies grew rapidly and wildly, scooping up expensive employees by the armful and, with the arrogance that comes with extreme popularity, paying little regard to customer care and retention. “They were going after the big money and they weren’t getting a good mix of offline and online clients,” Cummings pointed out. “Also, they had a tremendous amount of rigidity in their offerings. They weren’t building ongoing relationships with their clients and they turned a lot of customers off.” When the shakeout came, dot COM clients disappeared like steam from a Madison Avenue manhole. Having little customer diversity and in some cases sporting miserable performance reports cards, they were unable to lure old-economy customers who likely as not opted for more traditional consultancies. – (http://www.webmergers.com)