Aug 24, 2020
In this episode, Gina Cocking and Jeff Guylay conclude their
discussion around the due diligence process related to the sale of
a company.
This episode is part of a four-episode series exploring the due
diligence process that began with 003 on the business aspects of
the due diligence process.
EP003: Business aspects of due diligence
EP004: Legal aspects of due diligence
EP005: Accounting aspects of due diligence
EP006: Technology aspects of due diligence
Gina is again joined by our featured guest, Rob Humble, Senior Vice
President of Strategy and Corporate Development at IAS. Rob shares
his insights as a buyer on technology issues that arise in
diligence.
Gina and Jeff’s discussion highlights four key questions related to
the technology aspects of due diligence:
1) who is doing what (who is leading the tech team, who is on
the tech team, and what aspects of technology are outsourced)?
2) Who controls the intellectual property?
3) How much has been spent, and how much needs to be spent over
the next few years?
4) Is the technology scalable for growth?
In this episode, Colonnade Advisors addresses the following
questions as related to the technology aspects of due
diligence:
Are technology aspects of due diligence applicable even if the
company is not a technology company? (1:00)
Gina: “Every company is tech-enabled, so every company is going to
have some element of technology that they utilize every day.
Disclaimer, this is not for technology companies. This episode is
not a deep dive on the due diligence that a buyer or investor would
conduct on a technology-focused company but instead a more general
review of what all companies should think about when they're
preparing to take on capital or sell the company.”
When answering the question about who is doing what, where does a
company start? (2:25)
Gina: “Start with the easiest thing, and that's an org chart. Is
there a chief technology officer who reports to the chief
technology officer? Is there a database administrator? What is
outsourced? Is there even a CTO? Is some of it done by a consulting
firm that comes in weekly, quarterly, just on call? Who is doing
the development, and who has the rights?”
Does a company need proprietary technology to raise capital or
be sold? (3:26)
Jeff: “The in-house versus outsourced piece is particularly
interesting especially for some of the smaller companies we work
with, because a small company obviously may not be able to afford a
CTO. Many of the clients we work with use off-the-shelf technology
platforms, standard email, and other operating systems. The
important issue is scalability.”
What do investors look at during due diligence as related to
technology? (3:00)
Jeff: “They're going to come in and look through the financials and
see where the costs are. They’ll look at the org chart and see
who's doing what with whom.”
What areas of technology are investors assessing during due
diligence? (3:15)
Jeff: “Everything from the reliability of the systems,
cybersecurity, disaster recovery, the policies and procedures in
place, and whether or not you’ve had any data breaches.”
What should a company put together prior to a capital raise or
sale? (4:57)
Gina: “A system diagram. A piece of paper with a bunch of boxes
that show laptops, servers, internet/cloud form, e-commerce
backbone, CRM, and where all the systems are located.”
What else needs to be compiled and documented? (5:47)
Gina: “What licenses do you have? What technology do you own, and
who built it? What is your cybersecurity around all these different
technologies? What are the processes and procedures as documented
in manuals? Another big area when assessing the technology is
disaster recovery. If the electricity were to go out for three
hours and you had to bring everything back up, can you do it?”
Does having proprietary technology make a company more valuable
in a sale? (9:34)
Gina: “One thing that we run into sometimes with companies that
we're working with is they'll say, "I am different from my
competitors because I have a better operating platform. We spent $4
million on it, and it is better than what my competitors are using.
Is my company worth more?" That question always causes me to pause.
It's great to have your own platform; it may make you more
efficient, and we will want to explore and test whether or not it
increases your efficiency as a company. But unless you can actually
take that technology and sell it to other customers, it may not
have intrinsic value unto itself.”
Should I build proprietary technology prior to selling my
company? (10:27)
Jeff: “We encounter the buy versus build discussion all the time.
It is challenging because entrepreneurs may be thinking in terms of
an outlandish multiple. It depends on whether or not that
technology is unique enough, flexible enough, adaptable, and
scalable.”
What are some of the scalability issues around technology in the
sale of a company? (11:45)
Gina: “Buyers will ask: "How much is it going to cost me to keep
this up? When do we have to upgrade? How do we know you're keeping
up with all the regulatory, compliance, latest and greatest in
cybersecurity?” In middle market companies, these questions are
hard to cover with a four-person tech department.”
Does a company need to upgrade systems prior to a sale? (13:23)
Jeff: “We're working with a client right now that has been on an
older loan management platform for 25 years, and as part of the
capital raise we're going to help work with them to upgrade
systems. They're going to jump from one smaller universe loan
management system to a more widely adopted one. The transition from
one system to another is always tricky and expensive and takes
longer than you think. There's business risk of moving from one
platform to another. We've talked about in other podcasts the
importance of hitting your numbers and focusing on your business.
To layer on a systems transition or integration project at the same
time is probably more than you want to bite off.”
How are technology investments accounted for in valuing a
business? (14:45)
Gina: “When looking at the costs of technology, you look at the
past investments and future investments. For past investments,
we’ll look at: Was it properly accounted for? Were technology costs
capitalized where they can be capitalized? Oftentimes we'll find
that these expenses could have been capitalized. We’ll do a
proforma adjustment to the financials to add back those costs.
These costs will not count against you on your EBITDA, as it was a
one-time charge. Then we'll look at future technology expenses and
we will model that out in our forecasts.”
How is technology when used as shared services between divisions
or subsidiaries accounted for in a transaction? (16:27)
Jeff: “Some of our clients, particularly larger corporate clients,
are operating as divisions or subsidiaries of larger businesses.
They share services with the parent organization. We go through the
financials carefully to make sure that you have the right expenses
associated with the business, you have the right licenses that can
transfer with the business that you're selling, boxing the whole
thing up to make sure that the package is complete.”
Why is scalability a key issue in technology due diligence?
(17:43)
Gina: “When a buyer is evaluating a company, they are looking at
future growth. A big part of that is how scalable is the
technology.”
What is typically more scalable, off-the-shelf technology or
home-grown systems? (18:00)
Gina: “Typically, off the shelf and web-based systems should be
very scalable. You can get to two, 10, 20 times the current size,
and the technology should be able to scale with you. When the
technology is homegrown, there will be a deeper investigation into
how scalable that technology is and what costs are involved with
scaling that technology.”
Why is a technology review important when selling a company?
(19:10)
Jeff: “It all comes back to valuation and the forecast that we
present to the buyers. Even if these aren't technology companies,
they're all tech-enabled, and you don't want them to be tech
disabled. We absolutely have to be able to defend the diligence
that the platforms and systems and policies and procedures we have
in place can support the growth plan.”
Gina invites Rob Humble, Senior Vice President of Strategy and
Corporate Development at IAS, who shares his perspective from the
buy side of a transaction as related to technology due
diligence.
What exactly are you looking for in technology diligence?
(21:45)
Rob: “For us, it's not about whizzbang innovations; it's not about
is it bigger, faster, better. Generally speaking, what we're
looking for is sustainability. Is it secure? Is it written on a
solid code base? Is it written on the right tech stack that we're
going to be able to support long term?”
Featured guest bio and contact information:
Rob Humble
Email: rhumble@iasdirect.com
Rob Humble leads strategy and corporate development for IAS. Before
coming to IAS, Rob held strategy and corporate development
leadership roles with financial services firms NetSpend and
Rent-A-Center. Prior to his time in financial services, Rob held
strategy, finance, and operations roles at Fortune 500 companies
spanning the automotive, defense & aerospace, and chemical
industries.
Rob earned his bachelor's degree in mechanical engineering from
Washington U. in St. Louis, graduating magna cum laude. He also
holds an MBA from Harvard Business School.
Rob lives in Austin, TX with his wife and two young kids. He enjoys
hanging out with his family, distance running, binge-watching the
hottest TV shows, watching Oklahoma Sooners football, and indulging
in random interests including knitting, furniture building, and
home improvement.
About Our Hosts
Gina Cocking
Gina Cocking serves as the Chief Executive Officer of Colonnade
Advisors. She returned to Colonnade as a Managing Director in 2014.
Gina began her career in investment banking at Kidder Peabody, was
an analyst at Madison Dearborn Partners and an associate at J.P.
Morgan & Co. She was a Vice President at Colonnade Advisors from
1999 to 2003. She left Colonnade to gain operating experience as
the Chief Financial Officer of Cobalt Finance, a specialty finance
company. She went on to become the Chief Financial Officer of
Healthcare Laundry Systems, a private-equity backed company for
which she oversaw the successful sale to a strategic acquirer. Gina
served as the Line of Business CFO – Consumer Banking and Lending
at Discover Financial Services. Gina serves on the Board of
Directors of CIB Marine Bancshares, Inc., a bank holding company
based in Waukesha, Wisconsin, that operates banking offices in
Illinois, Indiana, and Wisconsin. Gina received her BA in Economics
and an MBA from the University of Chicago. Additionally, Gina holds
the Series 24, 28, 79 and 99 securities licenses.
About Jeff Guylay
Jeff Guylay is a Managing Director of Colonnade Advisors. Prior to
joining Colonnade in 2000, Jeff was an investment banker at J.P.
Morgan in the firm’s Mergers & Acquisitions and Fixed Income
Capital Markets groups in New York. He also spent several years in
J.P. Morgan’s Chicago office. Jeff has over 20 years of M&A and
investment banking experience and has served as lead execution
partner on over 25 M&A and financing transactions at Colonnade.
Jeff received an MBA from Northwestern University’s Kellogg
Graduate School of Management and a Master of Engineering
Management from the University’s McCormick School of Engineering.
Jeff received a BA from Dartmouth College and a BE from Dartmouth’s
Thayer School of Engineering. Jeff holds the Series 7, 24, 63, and
79 securities licenses. Jeff serves as a director of the non-profit
Nurture, an organization dedicated to enhancing the nutrition and
wellness of children and families.
About the Middle Market Mergers & Acquisitions Podcast
Get the insiders’ take on mergers and acquisitions. M&A
investment bankers Gina Cocking and Jeff Guylay of Colonnade
Advisors discuss the technical aspects of and tactics used in
middle market deals. This podcast offers actionable advice and
strategies for selling your company and is aimed at owners of
middle market companies in the financial services and business
services sectors. Middle market companies are generally valued
between $20 million and $500 million.
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Learn more about Colonnade Advisors: https://coladv.com/
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