Changing of the guard
Regular readers will know that we’re fascinated with business strategy, especially how technology changes business models. As one of very few early stage SaaS companies that’s public, our numbers are out there for all to see.
Right now there’s an intriguing business scenario playing out in Australasia. The combination of MYOB and BankLink has been the powerhouse of accounting small business software in this part of the world for more than a decade. Now it’s been reported that BOTH are up for sale. This has huge implications for the tens of thousands of small business owners and accountants in this part of the world.
Australian accounting software provider MYOB needs no introduction, but BankLink is not well known outside of the accounting industry. It’s a real New Zealand success story. BankLink provides banking feeds to accountants and business owners that allow accountants to process books on a cash basis, managing hundreds of thousands of bank accounts.
Last week the AFR reported that MYOB had failed in its bid to buy BankLink and that MYOB was looking to be acquired (again) having not found institutional support for a relisting on the ASX.
It’s understood Archer has terminated discussions with BankLink New Zealand about buying the business and folding it in with MYOB, Australia’s biggest accounting software provider.
As the story goes, PwC-advised BankLink, which is a supplier of live bank feeds, was seeking a higher price than the $NZ100 million ($80 million) tabled by Archer.
Now the deal has bitten the dust, it’s believed Archer Capital will start seriously considering strategic options for an exit of MYOB
And Merger Market followed up the story with comments from BankLink founders:
“After 25 years, BankLink’s owners are looking to pass on to another generation outside of the family.”
This morning the AFR reported:
Bain Capital and Kohlberg Kravis Roberts & Co. are among the potential buyers for Australian software maker MYOB, Reuters reported. A sale of the company could fetch around A$1 billion. MYOB is owned by Archer Capital and HarbourVest Partners, private equity investors that picked up the company in 2008 for roughly 450 million Australian dollars.
And then this from Merger Market today:
An Australian accounting software and services company, could be interested in Archer-owned MYOB, depending on price, said Reckon CEO Clive Rabie. After MYOB failed to acquire New Zealand-based accounting services provider BankLink during the week of 1 August 2011, Archer Capital and HarbourVest Partners LLC hired UBS to advise on the sale of MYOB, as reported.
You can deduce from this that thousands of Australasian small business customers are going to be sold to a new business owner. It also potentially marks the end of the old Windows desktop software model in Australasia.
The last generation of small business accounting software – the Windows generation – was won by three companies around the world. Intuit in the USA, Sage in the UK and MYOB in Australia. They cracked the model of retail distribution for installed software. They shared a large chunk of the upfront box price to the retailer and grew their revenue by gaining support contracts for maintenance, and improved their profitability by pushing that support to low cost fulfillment centers.
As public companies they acquired the surrounding companies in their space. Now 15 years on they are an aggregation of quite dated products. Traditionally if a new entrant gained market share or innovated, the incumbents acquired them and everyone was happy – except perhaps the end customers who became accustomed to not having innovation.
When setting up Xero we believed that the internet changes everything for small business accounting, and that a well funded new entrant had a chance of gaining market share by going for a pure online model. It takes a while to build such a big application as accounting and so far our strategy appears to be working.
Public company as a SaaS strategy
As part of our business strategy we decided to skip the venture capital stage and go public early. We did this for several reasons.
- We needed 50 people from day one, therefore we believed we needed at least $15m to fund the business.
- We could possibly have raised that from venture capital in Silicon Valley, but for an early stage company to do that we would have had a valuation not much more than $15m and the business would have been quickly sold so the VCs could make their money.
- We wanted to build a long term business, rather than just build up a technology asset and sell to a larger company. We’d sold businesses before as individuals, so with Xero, our senior team wanted to experience building a true global business of scale.
- We love small business. We feel a responsibility to make business more fun and make small business owners more productive. We get a huge kick hearing how much easier we’ve made the admin chores and that we’re getting normal people excited about technology.
- We also believe that for the SaaS industry, where your customers bet their business on you, being a public company gives a lot more transparency. Private companies are likely to be sold once they show their potential – which we think, makes it hard for end customers to trust that you’ll be around for the long term.
- As an entrepreneur I like that being public allows us to have more chess pieces for strategy. We can also be on the buy side, bringing more smart people into our team such as our recent acquisition of PayCycle.
So it felt right to become a public company. It gives us the resources to do things properly and build a great team. The results are coming through.
The cloud disruption
We’ve also seen a fundamental change in the industry which has been traditionally split in two. Client side accounting and accountant side accounting. The large providers sell products to both sides of the industry. These products have often come from different acquisitions, so are different codebases and file formats. Effectively the vendors have ‘double dipped’ by selling software to a small business to do its books and to the accountant to process the same set of data.
Over the last few years we’ve got the small business and the accountant on a single, shared, version of the data – we call it the Single Ledger. And over the last year we’ve been rolling out accountant side functionality. This is incredibly disruptive to the industry. The roadmap the incumbents are delivering to accountants is expensive early 2000s style client server software, with dedicated servers and support. Cloud software is taking the cost away for the accountants.
At Xero we provide the accountant side software for free – why should the end customer pay twice? This is just a logical benefit of the cloud but a fundamental change to the industry. $10,000, $40,000 or even a $1,000,000 in annual licensing and support is what the accounting firm would expect to pay – this is now free. The Cloud wins.
Impact on incumbents
While we’ve been on our journey, the incumbents have been going down a very different road. As stated above MYOB has been owned by private equity firm Archer Capital for the last two and half years. The private equity business model is to raise the economic value to the asset and sell it quickly. So MYOB acted logically under a PE model and cut costs to the bone, reduced investment and raised prices. The risk of this strategy is alienating customers. If you don’t have competition that strategy may even work, but I don’t think they understood how quickly the SaaS competitors would mature and grab market share.
The incumbents have also taken a compromised technology strategy. With their sunken investments in client side technology they have moved to a synchronization between desktop and online rather than the Single Ledger strategy. This is difficult and expensive to pull off and we believe will accelerate the adoption of pure cloud solutions.
If MYOB is sold to another private equity firm then it’s hard to imagine how it could create further value without a massive technology investment. It will be interesting to see if the new owners go for investment for more of the same grinding of the asset. How will they exit? IPO, split out the assets or will a bigger global player acquire?
Last year BankLink received a grant from the New Zealand Government for NZ$2.1m to do Research and Development. However, BankLink does not appear yet to have responded to the shift to the cloud. Its products, though much loved and familiar to many, are now largely superseded by platforms such as Xero. While BankLink provides a good sunset revenue stream it does not provide technology innovation for an acquirer.
Australian listed company Reckon is in an interesting position as well. They have traditionally had the leading accounts production (accountant side) technology, especially for large companies with their APS acquisition and have been the exclusive distributor for Intuit’s QuickBooks (client side). Intuit has not yet delivered the true online version of QuickBooks for Australia and Reckon doesn’t appear to have secured the rights for it at this stage, even if it does arrive over the next couple of years.
You’d also have to ask why Intuit would need a distributor anyway as online does not require boxes to be moved and in this new competitive market there is unlikely to be the margin to support a distribution tier.
So Reckon has been diversifying and appears to be following the strategy of MYOB in buying stakes in ISPs. The problem with that strategy is that it’s competing with your future online channel and ISPs haven’t yet been able to step up to offering high value services.
If Reckon buys MYOB, it still hasn’t resolved its issue of not having a world class online solution for the Australian market .
This is the most significant vendor flip the small business accounting space has seen in a generation. In Australia and New Zealand hundreds of billions of GDP are managed through these platforms – and now there is uncertainty on who will own those businesses. Two big customer bases are about to be sold out. Who will be the trusted custodian of these transactions?
I’m not sure the investors in the business have seen the impact the cloud is already having on the industry. They are buying sunset businesses that need to spend up big to catch up with technology – and the world is constrained by access to good developers who understand business web applications.
So the guard is most definitely changing. It’ll be very interesting to see what shakes out.
16 October 2012 #