David Cummings on Startups

The NetSuite SaaS Valuation Outlier

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David Cummings

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Looking at the last round of Publicly Traded SaaS Company Valuations there’s one outlier that needs more discussion: NetSuite. NetSuite is a strong Software-as-a-Service (SaaS) company with a powerful enterprise resource planning and accounting package along with a host of other tools like CRM. Whereas ExactTarget deserves to be in the 8x revenue club due to growth rate, NetSuite with a market cap of $3.2B (NYSE:N) and a run rate of $280M, is trading at north of 11x revenue, but only has a one-year revenue growth rate of 22% (source: thestreet.com).

A 22% year-over-year growth rate is solid but a 11x revenue multiple seems like a stretch. What gives? After asking around I found a plausible answer:

Oracle has to buy NetSuite at some point to be competitive in the cloud and investors have baked that into the valuation.

Since there’s a suitor with deep pockets in waiting, investors have taken that into account and paid much higher than expected prices, knowing that for Oracle to acquire NetSuite they’ll have to pay a premium on the public valuation, thus there’s still money to be made for investors. The next time an entrepreneur points to the NetSuite valuation as a good example for SaaS multiplies, that outlier needs to be thrown out the window.

What else? What are some other reasons NetSuite is a valuation outlier for SaaS companies?

Comments

2 responses to “The NetSuite SaaS Valuation Outlier”

  1. Erik N. Avatar
    Erik N.

    NetSuite may be an outlier (I prefer statistical anomaly, but that’s too non-Gladwellian in 2012, or 2008 for that matter) for a number of reasons. The most significant of these is that they offer a full suite of software products in the ERP software market. We all know the huge companies that dominate this market with older technology, but will be challenged (should I say disrupted?) by companies such as NetSuite. Other publicly-traded SaaS companies only offer a narrow niche product line. One could even argue that salesforce.com has a narrow product offering. (If you are interested I’ll tell more about my personal dialogue with Marc Benioff in 2009 regarding his plans to offer an ERP suite) The other companies on your list of publicly traded companies are narrow niche offerings as well in markets such as HR and marketing automation. I am not saying those are not good niche markets, in fact they are quite hot right now, but I am saying they are more narrow than the offering of NetSuite.

    The next significant reason is one you have dismissed, growth-rate. NetSuite’s 1-year revenue growth rate is 22%, as you pointed out, but you failed to mention that they have 5-year revenue growth rate of 22% as well. That is quite an accomplishment considering the revenue base from which they are growing and they still have a huge opportunity in the ERP market, which was estimated to be a $45 billion market in 2011.

    Not to be forgotten, NetSuite have a very solid balance sheet and income statement with $0 in long-term debt and very strong gross margin of 90% (TTM).

    Lastly, if NetSuite were to be acquired, the business can be made profitable very quickly since SG&A expenses are the majority of their operating expenses ($152M as-of 12-31-11) and a large acquirer will likely already have a significant sales force and redundancies can be eliminated.

    So the important questions to answer are: How much faster can NetSuite grow in an acquisition scenario with a suitor such as Oracle? How much of the addressable market can NetSuite capture with a sales force such as Oracle? It’s a huge market potential.

    Reply
  2. Chuck Schaeffer Avatar
    Chuck Schaeffer

    It is true that the incestuous relationship among NetSuite and Oracle leads many to speculate an eventual acquisition by Oracle – and that factor is baked into the share price. However, in reality, it wouldn’t take a big premium to acquire NetSuite as primary investor Larry Ellison already owns more than half of the company. Where his shares go so does the company.

    NetSuite has enjoyed a strong first to (cloud ERP) market advantage. But that advantage is eroding as SAP and Oracle get the kinks worked out of their cloud ERP solutions. Further, Microsoft will leap into this market over the next 12 months – and I suspect become the SMB cloud leader within 24 months thereafter.

    Erik N makes some really good comments. NetSuite manages a strong balance sheet and need not worry about profitability at this point, at least while pursuing a relative green field opportunity and securing market share. Further, while there are many costs that could be eliminated with a NetSuite acquisition, the real upside of course is the revenue. NetSuite’s market positioning would grow dramatically under an Oracle banner.

    Reply

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