AutoM&Ation – The Anatomy Of Good M&A Deals

Praveen Bhadada: Hello, and welcome to an exciting episode of the Zinnov podcast – Hyper Intelligent Automation series, the most sought-after destination to listen to the who’s who of the global automation industry. I’m Praveen Bhadada, Managing Partner at Zinnov and I will be your host today. Over the last 18 months, the automation space has been heating up with multiple prominent fundraisers, mergers, and acquisitions which are really dotting the landscape.

In fact, M&A has emerged as a leading avenue for companies to strengthen their capabilities across the Hyper Intelligent Automation spectrum. To discuss the philosophy behind companies taking the M&A route and where the automation space is headed over the next few years, we have with us Chris Huff, Chief Strategy Officer at Kofax. So without further ado, let me welcome Chris to today’s episode.

Hello Chris, and welcome to the show today. Hey Praveen, good to be back with you! Looking forward to the conversation. I think we’ve known each other for over two and a half years now. I have a good handle on your role and your company, but I think it’ll be a great start if you can introduce yourself and Kofax to our listeners today and we’ll go from there.

Chris Huff: Sure thing. I’m Chris Huff, Chief Strategy Officer at Kofax. My responsibilities, it seems as though Praveen, every time we get together they change. So it’s a respectable question to ask me what I’m doing, but right now, I’m responsible for our global strategy, which is just to create value for our customers, employees, and shareholders, while driving internal cross-functional alignment. Meaning, I help us drive the operational efficiencies needed across different functions, so that way we can deliver effectively to the market. Prior to Kofax, I spent about five years leading the Deloitte Public Sector, Cognitive Automation practice. Before that, I was the founder of a B2C company. And then, I also spent 20 years in the US Marine Corps as an officer.

Praveen Bhadada: Awesome! So, let’s get started. It’s great to hear your view. I know Kofax is itself in the journey to transition towards SaaS. What is your view on the SaaS opportunity as a business model and how is it reshaping companies like Kofax? What does it feel like to be a SaaS company of the future?

Chris Huff: Yeah, this is really interesting, especially from a company like Kofax that’s been around since 1985. So we were not born SaaS. Companies that were born in the last 10 years in the software industry, typically are SaaS-oriented companies. They were born SaaS. So all the muscles they’ve developed in their business have been completely oriented on delivering their SaaS software via cloud delivery to their customers.

But what this is requiring, to your point Praveen, is that these legacy-type companies that have been around for some time re-invent themselves, understanding that cloud is the future, SaaS is the future, creating a B2B experience that feels like B2C. It’s sort of just that easy to get started. But that requires an operating model transformation. And so, my view on this is that SaaS is interesting because you can either be born SaaS – which is typically again, companies founded in the last 10 years, but then you have companies, like Kofax that have been around for a while, but we have a proven track record of delivering enterprise-grade scalable software with very large companies.

And so, they want us to evolve, but we now need to deliver our software in this new frictionless manner. And that’s what SaaS really enables and that provides the customer access to the software via a simple URL, instead of buying the software, downloading or implementing the software, and then trying to push it throughout the organization.

I think, what this calls into question then is, are these companies able to make this transition? And I think, that’s where you’re really going to start to separate those enterprise software companies that are going to be part of the future and those that are going to, sort of, degrade over time and probably find themselves on the outside.

And so, SaaS has really forced companies like Kofax to build cloud muscles and DevOps, design a recurring revenue model, where sales reps must sell value and outcome of the software, and not the software product features themselves. And then CFOs need to budget differently. They need to forecast differently. They need to recognize revenue by a whole new set of rules. And this requires a culture reboot. And this is what I find interesting and what I love being a part of at Kofax is this culture reboot.

Praveen Bhadada: I know you started talking about your thesis from an M&A standpoint at Kofax. It’d be great for our audience to get some background of when you started thinking about this and how did you come to this decision on whether to build a SaaS platform or acquire it or, look at build in as a core strategy and look at bolt-ons as an augmented strategy? Give us a bit of a background in terms of where did this thinking start, and how far along are you in that journey?

Chris Huff: Yeah, there’s a lot to unpack there. And I love the fact that we’re going there because I think this can be informative and educational for so many people. And I’m still learning as we move through this, but to put a bow on your earlier point Praveen, because I think this is insightful as a lot of valuations now are no longer predicated on profitability, but they’re predicated on forecasted growth, which means the enterprise value now is being determined via a multiple of revenue, as opposed to a multiple of EBITDA (Earnings Before Interest Taxes, Depreciation, Amortization), traditionally viewed as how profitable is your company? Are you seeking profitable growth or is it growth at all costs?

And I think early on, you do have to establish this hypergrowth to be able to get to scale. And when you’re doing that, investments need to be made, but at a certain level, profitability or a clear line of sight to profitability matters. And I think you’re seeing that and some of the reset that you’re seeing in the large software companies, one in our space that went public, maybe six months ago, UiPath, I think their enterprise evaluation is, sort of, being reset now based on understanding the clear line of sight to profitability and that hypergrowth isn’t exactly what’s in the cards for them. And so how do they grow profitably at a very, very respectable clip? But with the enterprise value reset, I think there is some rationalization as we go forward because it’s simply not sustainable in terms of the stretch valuations. But our M&A thesis has really been to create enterprise value at the end of the day. Create enterprise value – because with it the shareholders are happy, and that allows us to invest not only in the business, invest in the customer experience, but also in the employee experience. So at the end of the day, we believe that enterprise value does drive a lot of the other things that need to happen to make a business viable moving forward.

But at the end of the day, the success of an acquisition for us is really determined through the price you pay for the asset and what you can inevitably sell that asset for. Whether it’s a tuck-in that helps with the overall enterprise value or it’s something that you’re looking to acquire, run as a separate business and inevitably sell off obviously at a higher premium. But it’s really that simple.

And as you know, Kofax is privately owned by Thoma Bravo. So, private equity. Thoma Bravo has quite an impressive portfolio of enterprise software companies because that’s all they do. And they have an even more impressive track record of creating enormous value in relatively short periods of time. So they’ve been tremendous to work with, but if you think about the M&A thesis, even prior to Thoma Bravo, which we’ve done several add-on acquisitions in about four years that Tomo Bravo has owned Kofax, but Kofax made a complimentary automation acquisition strategy in adjacent space.

And what that allowed me to do when I joined in 2018 was simply say, why don’t we platform these complementary technologies? Because we were running them as basically independent siloed products in the marketplace. And so, this is what the tech market does over time, anyway right? It converges technologies to lower the total cost of ownership while improving the customer experience.

And so that’s pretty much been our thesis, but I would say when it comes to the valuations of these acquisitions is that most of the acquisitions have been made at 5-7x EBITDA. Again, we look for companies that have scalable potential, that are very complimentary to our install base or allow us to go into new markets, but we do not overpay. I think we’re very disciplined when it comes to what we will pay and the way we value and justify our offering price is through a multiple of EBITDA. And it’s typically in the 5-7x range. So these are companies that obviously are not firing on all cylinders, but if we feed them the Kofax mothership, all of the resources that we have and the intellectual property that we’ve built up over years, then you can easily get to an EBITDA of 12x, which is not overpaying. So you can see the financial arbitrage that can be made through a good financial M&A strategy.

Praveen Bhadada: Absolutely, absolutely. Changing gears here a little bit. You have been very acquisitive, like you said, over the last several years, and specifically, in the last couple of years you’ve made many acquisitions to power your platform. I think it’d be great if we can talk about the entire deal lifecycle from a buyer standpoint, from a Kofax standpoint. Where does it start? How much time does it take from one step to another? How many steps are there in the entire lifecycle? It would be great for our audience to learn from that.

Chris Huff: Yeah, and it is quite the process. And Karl Doyle who is our SVP runs our M&A on a daily basis. He has the radar based on, is it going to be a consolidation play that we’re going after? Is it going to be a technology play or a tuck-in or is it going to be a growth play? So the way he stratifies this is through these three big buckets, it’s almost like you’re doing any alliance-type relationship as a software vendor, where you want to understand the value proposition before you have initial engagement.

And so that’s what we do with our M&A targets. But what I’ll say is different is at a point where you have an initial conversation and you realize that there’s something to explore here, that’s where you have a conversation about exclusivity. So, can we have a period of exclusivity where it’s just the two of us talking, maybe you’re not out shopping around? And during that period is when we then start to bring in…and obviously you’ve got investment bankers on both sides representing both sides. Then you obviously start to bring in legal, but you also bring in your functional leaders. That’s what we do at Kofax. So, Karl has developed a very regimented approach. Rinse and repeat, where he will bring in the right functional leaders who are global sales leaders to make sure that we understand the go-to-market of this target acquisition, as well as not just the current state, but where we can take it and how we would integrate it effectively into our model. Same thing with marketing, same thing with services, same thing with products. But it’s through this diligence process that we strive to have exclusivity. There is an initial offer that is made that gets the acquisition target to agree to enter into the exclusivity. Now it’s during the exclusivity period where we do our due diligence.

We set up a data room where we ask certain questions and the target provides certain responses into that data room. And we’re able to go in there rummage through it, look for the information that we need in order for the Kofax functional leaders to make informed decisions around what they would do with this new business. And what Karl does is he runs the integration planning, and then post-acquisition we actually run the integration team. But through that due diligence, that’s where there’s a lot of back and forth just to make sure that what’s being represented is what we would be acquiring, because that initial offer was based on a lot of assumptions. So the due diligence allows us to really dig in and understand if the technology is as strong as it’s being represented? So are all of the certifications there have any vulnerability or security issues? Have they been identified and remedied?

So all of that takes place. And then, our CFO obviously is working the financial model to make sure that the annual recurring revenue, the gross revenue retention, any churn tied to that, the net revenue, how were they upselling and cross-selling to drive more consumption over time from their existing install base… Are all of those numbers in line with what’s being represented.

And as you dig into that, as you would imagine, some of the stuff gets portrayed in a way that maybe isn’t exactly accurate or exactly how Kofax as a two times over publicly-traded company and now private, but we have a very compliance-oriented way of approaching this, because we know at the end of the day, you will be valued based on ‘Are the numbers actually painting the most accurate story of your operations?’

So through that due diligence Praveen, there is a final offer that typically is adjusted downward if the initial portrayal of the business was better than it actually was. And I’m not saying that that is misrepresentation at all. What I’m saying is that some of these smaller businesses simply do not have the business acumen of a larger company that’s been in the business longer than they have to be able to accurately portray operations. And so through that due diligence, that’s really uncovered. You come to a final offer price. And that’s what you close the deal on. But I’ve seen this done in 30 days. I’ve seen things absolutely fall apart after six months. But there’s a lot of brokering that takes place during the due diligence. So it’s not a clean set of rules that if you do this, you will definitely get to the finish.

Praveen Bhadada: That’s great. That’s a lot of insight packaged in there. I was listening to one of the interviews by David Rubenstein talking to Jeff Bezos, and Jeff Bezos talked about the fact that when he bought the Washington Post he didn’t conduct any due diligence. He asked for a price, the seller said 250 million. He was Jeff’s friend or something, and then Jeff gave the check. So the reason I’m giving you that background is because Kofax has made acquisitions of companies that are less than 10 million ARR, you’ve also made acquisitions of companies that are several 100 millions of dollars as well in the past. So, have there ever been instances where you didn’t have to go through a rigorous due diligence because it was a smaller asset or it was a very popular asset that you desperately wanted? Or does the playbook look pretty similar irrespective of the size of the assets? Is there any difference at all depending on the size of the asset?

Chris Huff: Yeah, I think the point at which you get really relaxed is the point at which you lose the discipline, and likely the results will end up suffering. This goes for anything, whether it’s making acquisitions, enterprise software, or team sports. A team starts to season really, really strong. They get an ego about it. They become a little relaxed. Maybe they’re not hustling as much and then they get overrun. An underdog comes in and beats them. So we want to prevent that from happening. So we take a very, very disciplined approach and our good partners at Thoma Bravo expect that. They should expect that from savvy management teams. And if you’re not, then are you the person to take the business forward? So I completely appreciate that very large companies, like Amazon with 1.5 trillion US dollar market cap can do things like that, where the acquisition is a rounding error.

But when you’re talking about a 3-5 billion dollar company making a 400 million or even a 40 million dollar acquisition, we apply the same rigor and discipline. Now, if the target is actively pursuing a sell process, it can accelerate the process. And when they do that, what they’ve typically done with their investment bankers is they will commission a third-party independent market study that really does take a look at the market, how they’re servicing the market, and the potential on a go-forward.

If they’re not a publicly-traded company, they do a quality of earnings review. So that way, when they do shop themselves out to say, a Kofax, they bring that to the table, which does minimize the level of due diligence that we need to do take which can speed it up. So I think that’s where things that can happen in 30 days… is where a lot of that due diligence has already been done on the front-end of it, as opposed to somebody just reaching out to us and this happens daily.

At least, we get it at Kofax. We had companies reaching out daily wanting us to take a look at them. And so some are more mature when they reach out to us. Others are just putting out feelers and you can definitely tell that.

Praveen Bhadada: Yeah, so in other words, you’re saying when companies are serious about selling, the more transparent they are, the more open they are, the entire lifecycle can be short-circuited and you can make a go/no-go decision pretty quickly. As you said, many companies are trying to reach out to you and trying to get acquired by Kofax. When you look at all of these companies, what are some of the common mistakes do you think these guys are making which is limiting them from being acquired at a good valuation. In other words, what recommendation would you have for them in terms of enhancing their own value when they are out there in the market selling?

Chris Huff: Yeah, I think, and this is completely understandable, right? Because a lot of these companies are founder-led CEOs, which means that this has been their life’s work and they’re going to err on the side of overvaluing it as opposed to undervaluing it.

And so I think one of the initial mistakes that are made is that they price themselves out of the market. If priced themselves out of an acquisition, being an acquisition target, because their expectations in terms of what they’re going to get are too high. And that does put companies like Kofax, that is a serial acquire, off. It prevents early conversations from taking place that can mature very quickly into a period of exclusivity, where we really take a hard-and-fast look, and who knows what happens. So I would say that’s probably one of the things that I see out there is that, especially the founder-led CEOs overvalue their business.

And if they’re doing that, then I don’t know exactly why they would be looking to sell so early. If they see that potential, then maybe it’s through alliances or partnerships, where they can get the top cover needed from a bigger company as opposed to selling out. And so I think, if you are actively shopping yourself around, you need to be very, very cognizant of valuations and who you’re targeting in those conversations. And if it’s a private equity company that you’re looking to take a look at you, know that they are very disciplined about their approach. If it’s a deep-pocketed VC hypergrowth company, then you can know that they probably value the technology a little bit more as opposed to the financial model that will be built to justify the valuation.

So I think it really depends, but there’s another element to this and there’s always a people element. The people element, which is the management team that does approach us. I think there’s a level of savviness that some bring, and that level can be high or it can be low. And it’s very apparent early on that level of savviness, which means, even if we do get through an acquisition, how do they want to play moving forward? Do they want to be part of the go-forward or do they just want to cash the check? So going into it, I think thinking through that will definitely allow you to fast-track the early conversations and get to a green light or a red light. I think what both sides want to avoid are the yellow lights, which are lingering sort of conversations that really go nowhere.

Praveen Bhadada: Absolutely. And how do companies like those find buyers like you? Obviously, you are a popular company, a lot of people know you, but how do they really access the right people within your organization? At a macro level, what’s your view on the future of M&A in the automation industry? Are we at an inflection point where consolidation is actually inevitable?

Chris Huff: I think the automation market is constantly evolving and it’s only accelerating. So you have to have a rolling series of commoditization, consolidation, and convergence perspectives. And so, at what point are you and your acquisition looking at commoditization, consolidation, or convergence of the technologies? I think embedded technologies Praveen, which I know you guys really specialize on, so identifying the over the horizon, but also the embedded technologies could be, so things that maybe are commoditized. I think embedded technology tends to commoditize. And so if you think about Kofax, so many of our competitors use our products because they’ve embedded it in their product because it is a commodity.

Some of our older technologies are embedded in so many of our competitors and some of the more modern competitors that simply didn’t want to develop the technology, so they embedded it. So I think, embedded technologies tend to commoditize, matured technologies tend to consolidate as they fight for the last bits of profitability. One might think around our automation space workflow. So the old BPM that has been revitalized through digital workflows and less back office, can we move work? And then finally, you have adjacent technologies that really converge in order to remain relevant and that’s where you can get the one plus one equals three.

An example that we’re converging right now is a lot of the PDF editor. So we made a $400 million acquisition a couple of years ago, acquired a few assets. One of them being Power PDF, which is the number two in the market to Adobe. But we’re combining that with electronic signature, because now so much of data is being passed through PDFs in this distributed work environment. Now, a lot of this requires a signing ceremony. So somebody to sign, whether it’s a mortgage application, whether it’s the onboarding of an employee and they need to sign. And so we’re actually converging what we call our Sign Doc, which is electronic signature with Power PDF. And so that’s where we get to a one plus one equals three, but that’s where adjacent technologies can converge to create more value, but savvy players in the space do not wed themselves again to the technology.

They mindfully balance a strategy that calls for almost like a protect the base that they’ve already built while also positioning for the future. And I think that’s how one needs to approach the automation space. It’s not just the newer technologies, but also some of the older technologies that are the foundation for these newer technologies to go mainstream?

Praveen Bhadada: Absolutely. I love the framework on commoditization, consolidation, and convergence. There’s a lot of deep insight in terms of how the shape of the industry could evolve around these segments. I know we are on time, but one last question, maybe, on your advice to your fellow Chief Strategy Officers or Chief Commercial Development Officers, Corporate Development Officers who are looking to unfold the M&A playbook. What skillsets do they need to be successful as the industry goes through this wave of commoditization, consolidation, and convergence?

Chris Huff: Yeah. So I love ending on this because I guess to the human element of the business that we do, and I am very thankful and lucky that I’ve had amazing mentors that have taken time out of their very busy schedules and lives to help mentor me along and help me grow. And I continue to grow every day. I take this very seriously in terms of helping others out because I know I get a lot of help and it’s only fair that I pay it forward, and I take a lot of pride in doing that. I would just say, be very mindful of exercising an intentional approach and just like anything else, the more you do it, the easier it becomes and the better you get at it.

So reach out to others in the industry. And I’m certain that they will share the lessons that they’ve learned. So that way they have, again, put in place a more intentional approach and they stay pretty disciplined to it. There are always going to be exceptions, but I think as you develop that intentional approach, you’ll find that it becomes easier and you begin to execute better deals. And at the end of the day, that’s what you want to be known for…somebody that takes a lot of pride in their work and is really good at it. And so taking an intentional approach in just reaching out and leveraging the network can help you get there.

Praveen Bhadada: Awesome. Thank you so much, Chris. As always this was a really delightful conversation with you. It was extremely insightful, very interesting, very enlightening. And I’m sure our audience took away a lot of newer perspectives and thought-processes that can help them set the right tone when it comes to, outlining the M&A strategies, be it from a buyer’s perspective or from a seller’s perspective.

So, I really appreciate you sharing your learnings and insights on this piece, Chris.

Chris Huff: I sincerely appreciate the opportunity to continue working with you, Praveen, and growing together and sharing the knowledge that I have with others.

Praveen Bhadada: Thank you so much. And thanks to everyone for tuning in to this episode of the Zinnov Podcast Hyper Intelligent Automation series, your one-stop shop to learn about the latest in the automation space. We will be back soon with another episode and a new leader. Till then, take care and stay safe. Thank you so much.