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On the sale of MYOB (again)

The private equity deal Archer Capital has just completed – selling MYOB to another private equity firm Bain Capital – is a big deal for the small business economies of Australia and New Zealand, as millions of businesses run on MYOB software.

Many customers and partners have asked us for our take.

It’s a subject we’ve covered before: Changing of the guard.

Late last week it was tipped that Sage in the UK was buying MYOB. That was a surprise to us as Sage appeared to have changed their model from buying the incumbent provider in each market (like Pastel, Peachtree etc). Sage’s problem is that their acquisition model has left them with many country specific code bases. These are a huge problem, because like other big vendors, Sage needs to transition to global SaaS engines to compete with new innovators like Xero.

With MYOB, Sage didn’t get innovation or expertise in global online, so it was a straight, buy the EBIT, financial transaction. But you can understand why it would do it.

According to news reports, Sage put the biggest offer on the table but the reaction to the deal was unfavourable – MYOB would have been 25+% of the Sage value due to recent falls in the Sage share price and the weak pound. As a result the deal would have required lengthy shareholder approval. So Archer Capital took a deal that was 10% less and sold to US based Bain Capital.

Sage shares rose on news they weren’t buying MYOB.

The Archer side of the story paints Archer as the uber private equity firm, creating $700m+ of value by cutting costs and raising prices – all at the expense of customers in the long term.

But it remains a hugely profitable deal for Archer. The acquisitive private equity fund bought MYOB in February 2009 for about $500 million, and then boosted earnings by stripping costs, raising prices and aggressively going after customers.

So why did Bain buy? And how do they grow the value from $1.2B to $2B to earn an acceptable PE rate of return.

We think this is what happened:

  1. The Archer guys are very smart and ruthless about making a return
  2. They correctly picked they could be in and out before the sunset business and decline in accountant-side revenue, was noticeable
  3. They cut costs to the bone, reduced investment and put up fees.  No quality or innovative software shipped during their time
  4. They knew the end customers were loyal to the brand and not sophisticated enough to see the play
  5. The flawed Microsoft Azure sync strategy looks good on paper but they never had to deliver it – great for a sale
  6. They found a further PE firm with lots of money, needing to do a deal but not experienced in the Australasian market, who had been tracking the category
  7. Flick.  $700m profit. Masterful

What upsets us is that Archer made $700+m profit without shipping any innovative software and upsetting customers.

Bain Capital simply got left holding the baby. How can they drive value from 1.2B to 2B?

Well…

  1. Raising fees will be hard as the market is much more competitive and Xero is getting to scale
  2. They will have to take out cost – but from where? Even less R&D (and R&D only counts if you ship something). Maybe sell ISP businesses which compete with their channel?
  3. They could try to build scale – we’d expect them to look at Banklink now
  4. Other markets – they know the USA, and may have forgotten that MYOB pulled out of that market and Intuit is a much more capable competitor with 90+% market share and already has online products

The spurned Sage will probably look at the smaller acquisition of Banklink, which gives them a presence in this part of the world and Banklink is doing some things in the UK so might be a good fit.

Putting it in perspective

Many have commented that Xero is being aggressive about this. These transitions are big opportunities so it’s our job to educate potential customers about what’s going on.

Further, we truly believe that you can make money while being a good business that genuinely makes life better for your customers and partners. Craig Winkler the original founder of MYOB believes that as well which is why we wanted him involved in Xero.

These PE transactions are not about doing the best for the customer, they make a few people rich.

Xero is public company so customers, partners and investors can share success while we improve productivity at a national level. If we weren’t doing the very best for our customers we simply wouldn’t want to be in the business.

 

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26 comments

Kelvin Hartnall
22 August 2011 #

Really interesting, especially when considering the market value of Xero. The sale price was AUD$1,200 million, which is NZ$1,523 million. In comparison, the market value of Xero is $235 million. So MYOB has sold for nearly 6.5 times the current market value of Xero. A number of people have commented to me that the market value of Xero seems steep, but it doesn’t look that way in comparison!

Another positive thing is what this says for the size of the market. This sale implies that there is a consensus view that there is a huge and growing market for small business accounting software. Therefore this sale is good news for Xero: the opportunity for Xero is massive.

Rex
22 August 2011 #

I agree with Kelvin. No matter what product, service or company you support this really shows there is huge potential in servicing SME’s. The fact they had multiple bidders shows that there must be opportunity, organizations don’t spend that sort of money with no vision. I do also support Rod’s view that scale would be the key focus for the new owners. Perhaps Asia?

[...] the sale of Australasian accounting vendor MYOB. At the same time other vendors have taken the opportunity to suggest what they believe is happening – in part relating to the situation in terms of [...]

Kent accountants
23 August 2011 #

I can see lots more activity taking place in the market. Sage will be upset and realise that they’ve been left standing with regards to user friendly online accountancy software with great support.

Crunch, LiquidAccounts, Kashflow, Freeagent all must offer Sage potential to combat Xero in the UK.

Be interesting to see what they do next…

Tom
23 August 2011 #

Sorry but MYOB and XERO to me are different products. The desktop versions of MYOB are hopeless when it comes to usability. It’s software from the 90s in a cloud computing age. I have looked at MYOBs online offering and found it seriously lacking.

My guess is the majority of businesses use MYOB because their account uses it. It’s almost like bank accounts. People hate it but find it too hard to change.

Melissa
23 August 2011 #

Does anyone know how an Aust SMSF can buy NZX shares re XRO and others?

Rod Drury
23 August 2011 #

That’s a nice question Melissa. Firstly try your local broker. If they can’t do it then there are some contact details on our investor page: http://www.xero.com/about/investors There is an email address there for a NZ Broker who can assist. xero@fnzc.co.nz

Let us know if you get stuck.

We’d be glad to have you on the team

An Archer Investor
23 August 2011 #

There is another take on the Archer/Bain transaction. It’s beyond the inter-firm rivalry that Mr Drury gains much PR for . That is as an asset class Private Equity performs an useful role. It purchases businesses for which no succession exists ,it brings about industry consolidation eg Maui Capital with B J Ball paper interests and successfully the now substantially larger Hirepool.and provides a market for larger Corporates who wish to downsize or exit non strategic assets. It’s an high risk class and PE players need plenty of balls .Archer lost 50% of their investment in Paradise Foods Brisbane when it was sold to Goodman Fielder and Goldman Sachs Hauraki Fund lost 100% of it’s Dominion Constructors investment.From an investors perspective one banks the excellent exit returns from a MYOB as they offset far leaner returns from others in a PE’s portfolio. The question that could be asked is “should there be a Private Equity asset class”?. When one sees the often far better returns been generated by PE operators for the same assets that were in private ownership the answer is yes. Business efficiency…. should it be gained by ruthless management of costs and cash , innovative technology like Mr Drury has developed or scale from industry consolidation is a far better outcome than direction-less businesses with bloated cost and lazy cash. Putting them right is an high risk job and PE operators are not guaranteed a return ie Yellow Pages. They are but one asset class with some investors preferring shares be it NZAX for Xero ,others like me invest in PE whilst some leave their money in the bank as both are risky alternatives ! .

Rod Drury
23 August 2011 #

That’s a great point. Yes you are correct that PE definitely has a role.

I’d argue though that in the case of a business like MYOB, the erosion of goodwill from the lack of investment, reduced costs and raising of fees, while new competitors have had a 4 year run on their own has placed the long term prospects of the business in jeopardy.

But I guess this will take a few years to play out and it will be interesting to look back on and see if the Archer chapter was terminal or not.

You do raise a very valid point though. Thanks

Good article in the ITNews, which does show the points we made being understood and discussed. http://www.itnews.com.au/News/267783,analysis-myob-and-the-modern-web.aspx

An Archer Investor
23 August 2011 #

Appreciate your comments Rod. MYOB’s management have reinvested in “their” business at I believe a 15% equity position . Bain has not disclosed their equity /debt entry position but 15% of whatever the entry equity is 15% of that would be a big number for MYOB’s management team . They best understand the strategies implemented to date and the benefits/risks attached to them . More so than people external to the business.They till Bain’s exit have to deliver on these strategies…. plus more….. to provide the return Bain modelled in their acquisition numbers for their exit expectations. Smart management generally only takes on challenges that doesn’t put personal net worth ( actual or expected ) at stake hence you are right …..these guardians of MYOB will know in a few years whether it was Mission Impossible or that they are canny Management who will relish the inevitable tougher fight for customers hearts ,minds and wallets with firms like yours. Nothing defines one’s mind more on making the right decisions than a truck-full of debt and the knowledge that it’s customers money that pays it off.

Rod Drury
23 August 2011 #

Love it. It’s like gladiators going into battle :)

Lance Wiggs
23 August 2011 #

What is being left unsaid (unless I read to quickly) is that purchasing Xero (either outright or a decent stake) alongside MYOB is also an option for Bain. Without a decent next generation solution that the entire deal smells like Yellow – a bet that a fading industry won’t fade that quickly.
The switching costs from MYOB or Sage to Zero are much lower than the incumbents understand, and the enjoyment of using Xero actually puts smiles on the faces of people doing accounting. MYOB and Sage are up against it, and need to destroy their own businesses to survive.

Lance Wiggs
23 August 2011 #

Archer Investor – Do we know whether MYOB management got financed into that 15% position? if so it’s a call option with no real downside – providing they have isolated their other affairs.

An Archer Investor
23 August 2011 #

Hi Lance. I had read a comment of Rod’s that XERO’s shareholders have no wish to sell out and wish to realise the global potential of their IP. I’d be surprised if major shareholders have not been approached and so far rebuffed offers .Generally shareholders in PE vehicles have a mix of equity and shareholder loans. All shareholders have to provide the cash for shares….management included….but the ratio of shareholder loans to equity held is often at a lower or zero % for management vs the PE majority shareholder. Recognises the reality of the stretch for individuals . The majority PE owner wishes for total commitment from management who’s cash input is probably part funded by loans over personal assets . In nice terms called alignment of interests. In reality causes one to shed much else in one;’s life and to dedicate self to growing personal equity realised only at exit.Call options provides an out….. and waters down downside for management if don’t perform . Have not seen them in deals I’ve invested in.Ultimately what’s agreed is the result of the negotiation that frames the shareholders agreement but Management are the unequal partner. They accept that as the upside at exit is generally a once in a lifetime opportunity for an individual. Beats any Superannuation plan !

Ben Kepes
24 August 2011 #

Lance – you’re wrong, I discussed the potential of Bain/MYOB purchasing a cloud vendor to complement the incumbent product base. I don’t think Xero will be the one, mainly becuase;
- current marketcap suggests that the required price would be a little rich compared to other options
- the founders of Xero have stated an intention to keep this thing going to success. I’m not stupid enough to think they (and the shareholders who would have to decide) would flip if a great offer came along, but given the loyalty of more Xero shareholders, and the point in #1 above, I don’t see this happening
- Arguably Saasu/Acclipse is a better fit (previous M&A involvement with MYOB, end-user product Australian based and a package that would likely be far cheaper than Xero

Craig
26 August 2011 #

Ben, I agree. I think Sage had their eyes on a much bigger prize then purely ‘cloud’ accounting solutions when bidding for MYOB. All due respect to SaaS, but as we all know, MYOB brings a lot more to the table than that, and i suppose that’s why it reportedly went for 13 x EBIT. So I’d be surprised if Xero was a target, and given Rod’s comments around selling, it’s hard to imagine Xero selling out any time soon (in the short term anyway). But – I guess given the right $$ – who could say no.

Craig
26 August 2011 #

Lance: Software (like any product) has a lifecycle, and over time will reach maturity, evolve, innovate or die. Xero is innovative and relatively new (Xero MKII). However – it has been around for 5 years. MYOB has been around for a lot longer and has legacy and 1 million + customers to consider. Xero has about 50,000+ – but it’s unclear because of it’s sales channel and ‘actual’ sales as oposed to licenses provided to accountants to on-sell. MYOB like Xero, is evolving and innovating. MYOB’s stable of products are broader and more complex than Xero. Xero has the benefit of developing a SaaS solution from the ground up. Great position to be in. Lots to consider. As I’ve said before on this blog, competition is what the market needs, and Xero is taking it to MYOB more than any other (in the cloud space). Excellent. But think medium to long term and it will get tougher for Xero. One shouldn’t loose sight of the significant investment required by Xero to service the requirements global jurisdictions.

Rod Drury
8 September 2011 #

So as predicted MYOB signals the US market as a target

http://www.crn.com.au/News/271290,myob-heads-offshore.aspx

That makes sense. Issue will be they’ll compete against the IP they sold recently into the US market.

http://www.itwire.com/it-industry-news/development/21967-myob-sells-us-business-leaves-china

So that will be fun to watch.

Rod Drury
14 October 2011 #

MYOB debt about to close.

http://www.businessweek.com/news/2011-10-14/myob-buyout-loan-syndication-said-likely-to-complete-next-week.html

$AU575m at 9+% interest. That’s $50+m a year to find before repayments. (Earnings before the deal were around $100m)

Rod Drury
15 November 2011 #
SimonB
7 December 2011 #

It’s a shame that Xero (and other competitors for that matter) don’t have a directly competing product (with all features) available to take advantage of MYOB’s f-up.

Rod Drury
7 December 2011 #

@Simon – lets us know (in priority order) what we’re missing?

SimonB
7 December 2011 #

Rod,
Admittedly it’s been a few months since I looked at Xero, but the main limitation, from memory, was in the inventory side of things. Has this changed?
Honestly though, Rod, this MYOB launch has been such a stuff up. Your marketing guys should be planning and implementing a massive campaign to promote your product as a an alternative. At the very least, you’ll be publicising the extent of their problems. If there’s one thing MYOB have done well out of this whole thing is that they have kept publicity pretty low. Almost as if they were expecting problems.

Rod Drury
7 December 2011 #

@Simon, good to know. We’ll get there and also a lot of partners working on industry solutions that provide more complex inventory as well. Your thoughts are much appreciated.

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