Small Cap Tech Buyouts Will Pick Up in 2009

The Dow Jones Wilshire 5,000 dropped from a 2008 high of $17.9 trillion to $10.2 trillion, representing a $7.7 trillion loss of wealth. The entire NASDAQ market capitalization has dropped 46% to $2.7 trillion in 2008 from $5 trillion in 2007. Hundreds of companies have delisted and many more will need to do the same. Financings have dropped significantly in 2008. 70% of the roughly 2,900 NASDAQ companies are trading below $300mm with median market capitalization of $47mm. At least 20% of NASDAQ (500 companies) should not be public and, worse yet, the valuations of those companies are roughly 0.6x LTM revenue, driven as much by the fallout due to redemptions at hedge funds and other small cap investors as by fundamentals.

Valuations are so low that potential sellers are holding on, and performance, among some, is so bad that potential buyers are afraid to make the bet. Nonetheless, NASDAQ tech companies will be feed-stock for strong strategics, both public and private, and PE firms in 2009 and 2010. AGC believes 2009 will represent one of the best buying opportunities in the last 25 years.

The following illustrates the current make up of the NASDAQ Global Markets:

Private Placement Market
While the M&A and IPO markets remain challenging, VC firms are operating under the same long-term philosophy they have adhered to in the past. They are willing to invest for 5 to 10 years and will stick with their promising companies through difficult times. Thus, despite the economic downturn, 2008 VC investing amounted to approximately $30B, a new record. VCs are continuing to find and fund new deals, and the increase in later-stage investments demonstrates that they are moving away from higher risk, early-stage investments until the IPO market opens up or opportunities for M&A present themselves, allowing them to achieve liquidity.

PIPE Market
2008 saw a sharp decline in the traditional private investment in public equity (“PIPE”) market, as small and micro-cap deal activity ground to a halt in 2H08. Public market conditions favored more established and liquid companies, as PIPE investors avoided illiquid and emerging firms. Although the number of transactions declined by 33%, the overall amount of capital invested in PIPEs saw a massive increase of 75%.

Outlook 2009
Although the Dow Jones at 8,000 and the NASDAQ at 1,500 feel cheap, it may continue drop to 6,000 respectively 1,100. Venture investing and private equity will be down in 2009, but not big because most funds are sitting on piles of cash and companies will have nowhere else to go. Hedge funds will continue to feel the wrath of LPs, with increased redemptions curtailing their participation in the M&A, PIPE, and private placement markets. SPACs are dead. IPOs as a source of entrepreneurial motivation are over unless Washington rewrites the rules for emerging growth companies. M&A will be the strongest market for the emerging growth world in 2009.