COVID-19 propelling dealmaking in ‘recession-proof’ cloud services

• Security and networking likely to top buyers lists 
• Strategics, PE lining up to consolidate cloud marketplace

Portland-based Anitian survived for decades without looking for outside funding. Even after pivoting to be a cloud security provider three years ago, the 25-year-old company only took in a USD 11m Series A in early 2019 as the company watched revenues steadily increase.

But just about a year after its first raise in its history, Anitian is thinking about another raise to scale up as companies increase their desire to move to the cloud during the current COVID-19 crisis.

The pandemic is hastening many companies’ ongoing migration to the cloud as organizations both small and large see their workforce turned into a well-distributed, stay-at-home army.

“This is a massive shift, and people have to understand that,” said Anitian founder and CEO Andrew Plato, who called his business somewhat “recession-proof” from the crisis.

As organizations jump into the virtual world, they will need technology to power virtual conferences and communication, the sharing of work files, and mega data availability, and they will need to make sure it is all running efficiently and securely, said Ben Howe, founder and CEO of technology-focused boutique investment bank AGC Partners.

Leaving on-premise behind

While large on-premise datacenters were once all the rage, COVID-19 is helping to prove how unwieldy they can be. An executive at an encryption and cloud security firm said his company recently signed a large new customer after the customer’s chief information security officer had difficulty chartering a plane last month during the pandemic to perform routine inspections on the company’s 10 datacenters around the world.

“This pandemic is showing just how hard physical operation can be,” the executive said.

Aaron Turner, president of Maryland-based cybersecurity firm HighSide, said one of its customers “just let go 30% of its IT staff, the people that run on-premise legacy workloads. That means the people they are choosing to keep are on the ones that run cloud platforms.”

Even though many enterprises – often those that are highly regulated such as finance and healthcare – will not leave on-premise solutions behind for complete cloud adoption, the last decade has seen more companies move at least a portion of their data to the cloud via Amazon’s [NASDAQ:AMZN] AWS, Alphabet’s [NASDAQ:GOOG] Google Cloud and Microsoft’s [NASDAQ:MSFT] Azure.

That pace has greatly accelerated in the last five years, and the trend likely will not slow with the current crisis, no matter the company size, said Ubaid Dhiyan, vice president at investment bank Union Square Advisors.

Many enterprise applications are being deployed on cloud infrastructure and tend to be in large data centers owned and operated by companies like Equinix [NASDAQ:EQIX] and rented by large companies, Dhiyan said. Smaller companies rent capacity in the networking stack, with companies like Cloudflare [NYSE:NET] helping them with website functionality and security, and connecting them to the cloud’s networking infrastructure and pipes provided by AWS, Azure, Google, Juniper Networks [NYSE:JNPR], Arista Networks [NYSE:ANET] and F5 Networks [NASDAQ:FFIV], he added.

“The pandemic is a black swan event,” said Dhiyan. “There’ll be an acceleration of that trend.”

Security services gaining steam

Security services will arguably be the biggest beneficiaries of this accelerated migration to the cloud, Howe added.

While post-COVID tech transactions are down roughly 90% from last year -- with USD 2bn in deals done in the first 20 days of April compared to USD 22bn the year prior – Howe said his firm closed three deals in the past week, all in security. One company was sold to a German strategic and the others to US-based private equity firms, he said. The deals ranged in valuation from USD 100m to USD 200m and had an average valuation around 5x revenue -- none of the companies were profitable.

Large public companies hovering around the networking and security space – such as Rapid7 [NASDAQ:RPD] – may become targets if their market caps dip below 5x revenue, Howe reasoned. At that point, the even larger players in the space still trading at around 9x revenue – including the Palo Alto Networks [NYSE:PANW] of the world – could be stalking, though deals are not likely to start closing until 3Q20 or beyond, he added.

Howe said he is telling AGC’s buyers and sellers to plan on pricing in early June.

The ability to control access, manage identities, and secure network connectivity and cloud access have also become more valuable during this pandemic.

Identity companies such as Centrify, OneLogin, Ping Identity [NYSE:PING] and ForgeRock could become targets in the new marketplace, said Ted Smith, president at Union Square Advisors.

In the space of Secure Access Service Edge (SASE) – where networking and security is delivered from the cloud to a company’s network edge, avoiding the datacenter which can create bottlenecks – a large company that could become attractive could be Zscaler [NASDAQ:ZS], which will continue to have momentum as more companies move to the cloud, Dhiyan added.

Dealmaking in the SASE niche already has occurred during the pandemic, with Palo Alto Networks acquiring software-defined wide-area network (SD-WAN) developer CloudGenix for USD 420m on 31 March to strengthen its SASE offering.

With the shift to remote workforces, content management has also become critical, which should bode well for players in that space such as Adobe [NASDAQ:ADBE], Medallia [NYSE:MDLA], SiteCore and Acquia, noted Dev Navare, managing director of HR and tech services for KeyBanc Capital Markets.

Privately held mid-market IT services firms such as ProKarma and Wizeline focus on content management and are examples of logical potential targets in the space, Navare said.

Private equity money going to the cloud

There are several PE firms still hungry for a cloud platform, especially around security, said Cristian Anastasiu, managing director of Chapman Associates. Profitable companies with around USD 20m to USD 40m in revenue can expect to still get premium valuations – something in the 10x revenue range -- now that they have proven they are basically crisis-proof. Companies with USD 5m to USD 10m will see lower valuations, he added.

“Though we had three deals under LOI that were put on hold when COVID hit, PE firms continue to call and this past week we got several calls from strategics interested in the cloud and security space,” said Anastasiu.

“Buyers are getting ready,” Anastasiu said. “They want to see what is out there now in anticipation of closing deals as the markets open up.”

by Chris Metinko, Mark Andress and Deborah Balshem