By John Brennan and Jason Babcoke, Sumeru Equity Partners
In Silicon Valley, nothing is sexier than a hot sector, and one of the hottest is business software. Contrary to headline-stealing, consumer-facing brands, much of the durable performance “heat” is coming from midsized growth companies that are rapidly innovating and disrupting established business processes with newer, better solutions to business challenges.
These companies may be highly horizontal in their application — like the new generation of accounting, finance and human-resource solutions — or deeply vertical and specific in the domains they address. In either case, the smaller competitors are taking mind share and market share from older, slower moving software companies.
Mid-market growth-oriented technology companies are enjoying extraordinary success. In fact, at SEP we believe it’s a Golden Age for the sector — and based on the convergence of five important dynamics, we believe this trend will continue unabated in 2018.
Cloud tech has democratized infrastructure
First, today’s mid-market company enjoys access to core infrastructure platforms that easily outperform the data centers of their older competitors. From availability to scalability, security and cost basis, the rapid adoption of cloud-computing platforms by mid-market companies has not only leveled the playing field, it has tilted it in their favor. Recognizing the opportunity, players like Amazon, Google and Microsoft are supporting these disruptors with truly enterprise-grade infrastructure for rent, with infinite scale and superior security. For the growth company, all this amounts to a dramatic reduction in capital required to access world-class infrastructure. As important, these cloud infrastructure providers now offer the most innovative computing platforms in the world; their users benefit from a stream of new features/functions that the data center of old simply cannot match. So the specialized disruptor can concentrate on application innovation without the distraction or cost of reinventing infrastructure.
The business buyer has taken control
Today’s younger generation of business buyers is bypassing IT and directly sourcing specialized technology solutions. The first to successfully answer was Salesforce — by automating the selling process in the cloud, without IT, and offering a platform tailored specifically to the VP of sales. It spoke her language and focused on her problems. Equally important, as a SaaS platform it avoided the constipating process of IT procurement and enabled faster innovation, with all customers benefiting instantaneously from new releases. Tech-savvy leaders of every operational group from accounting to sales, operations, manufacturing and HR are now seeking software platforms specific to their needs, intuitive, and streamlined; with much lower dependency on IT. They know the best solution is built on a cloud platform; they understand their data is probably safer with the smaller company; they want the accelerated innovation a smaller provider can bring them. Advantage mid-market challenger.
Social disrupts traditional sales and marketing
The world of technology sales and marketing has changed, too. In choosing technology solutions, no resource is more valid and valuable than the recommendation of experienced peers, and today’s social platforms make the process of soliciting this insight easier than ever. Today, customers can easily conduct product research, access unbiased third-party reviews, and even try technology offerings without speaking to a vendor. The net result is highly credible content that speaks louder than sales-and-marketing propaganda. And true content is more likely derived from the truly great products and solutions coming from mid-market innovation-focused growth companies.
The talent wants in…
As participants in numerous mid-market technology innovators, we have also seen a dynamic shift in their ability to attract the world’s best talent. The most gifted executives and technologists want to work for these challenger growth companies. And that’s huge because in the long run success almost always can be reduced to the right people. Great teams simply out-think and out-execute mediocre teams. And they do it on a daily, monthly and quarterly basis. As investors, we know that the cumulative advantage that confers over three to five years becomes insurmountable for the slower moving competitor.
What’s drawing top talent to mid-market growth companies? They’re large enough to be a platform for real market impact, yet small enough to offer leadership a chance to shape a company’s processes and culture in their image. We see talent leaving older, slower moving environs to build the dynamic, fun and friendly mid-market tech company of their aspirations.
You only live once. … Who wants to work at Dunder Mifflin if you have a chance for something better?
Investors Want In, Too
Investors have also recognized the market shift and see opportunities to capture a larger portion of what Gartner estimates is $350 billion of annual enterprise software spend. Some of the most successful IPOs of the past two years were cloud and SaaS specialists like BlackLine (Nasdaq: BL), Talend (Nasdaq: TLND), Coupa (Nasdaq: COUP) and Sendgrid (NYSE: SEND), all of which are leveraging the new age of innovation to disrupt long-standing business processes.
With significant competitive advantages, access to top talent and a track record for fast growth and successful exits, we believe disruptive mid-market software companies will continue to be a target for investment in 2018 and beyond.
John Brennan (left) and Jason Babcoke are managing directors of Sumeru Equity Partners (www.sumeruequity.com), the technology-focused private equity firm based in Foster City, California. Reach them at [email protected], [email protected], or +1 650-479-1080. Photos courtesy of the firm.