Enterprise startups have several viable exit strategies: Some will go public, but most successful outcomes will be via acquisition, often by one of the highly acquisitive large competitors like Salesforce, Microsoft, Amazon, Oracle, SAP, Adobe or Cisco.
From rivals to “spin-ins,” Cisco has a particularly rich history of buying its way to global success. It has remained quite active, acquiring more than 30 startups over the last four years for a total of 229 over the life of the company. The most recent was Epsagon earlier this month, with five more in its most recent quarter (Q4 FY2021): Slido, Sedona Systems, Kenna Security, Involvio and Socio. It even announced three of them in the same week.
What’s the secret sauce? How it is going faster than ever? For startups that encounter a company like Cisco, what do you need to know if you have talks that go places with it? We spoke to the company CFO, senior vice president of corporate development, and the general manager and executive vice president of security and collaboration to help us understand how all of the pieces fit together, why they acquire so many companies and what startups can learn from their process.
Cisco, as you would expect, has developed a rigorous methodology over the years to identify startups that could fit its vision. That involves product, of course, but also team and price, all coming together to make a successful deal. From targeting to negotiating to closing to incorporating the company into the corporate fold, a startup can expect a well-tested process.
Even with all this experience, chances are it won’t work perfectly every time. But since Cisco started doing M&A nine years into its history with the purchase of LAN switcher Crescendo Communications in 1993 — leading to its massive switching business today — the approach clearly works well enough that they keep doing it.
It starts with cash
If you want to be an acquisitive company, chances are you have a fair amount of cash on hand. That is certainly the case with Cisco, which currently has more than $24.5 billion in cash and equivalents, albeit down from $46 billion in 2017.
CFO Scott Herren says that the company’s cash position gives it the flexibility to make strategic acquisitions when it sees opportunities.
“We generate free cash flow net of our capex in round numbers in the $14 billion a year range, so it’s a fair amount of free cash flow. The dividend consumes about $6 billion a year,” Herren said. “We do share buybacks to offset our equity grant programs, but that still leaves us with a fair amount of cash that we generate year on year.”
He sees acquisitions as a way to drive top-line company growth while helping to push the company’s overall strategic goals. “As I think about where our acquisition strategy fits into the overall company strategy, it’s really finding the innovation we need and finding the companies that fit nicely and that marry to our strategy,” he said.
“And then let’s talk about the deal … and does it make sense or is there a … seller price point that we can meet and is it clearly something that I think will continue to be a core part of our strategy as a company in terms of finding innovation and driving top-line growth there,” he said.
The company says examples of acquisitions that both drove innovation and top-line growth include Duo Security in 2018, ThousandEyes in 2020 and Acacia Communications this year. Each offers some component that helps drive Cisco’s strategy — security, observability and next-generation internet infrastructure — while contributing to growth. Indeed, one of the big reasons for all these acquisitions could be about maintaining growth.
Playing the match game
Cisco is at its core still a networking equipment company, but it has been looking to expand its markets and diversify outside its core networking roots for years by moving into areas like communications and security. Consider that along the way it has spent billions on companies like WebEx, which it bought in 2007 for $3.2 billion, or AppDynamics, which it bought in 2017 for $3.7 billion just before it was going to IPO. It has also made more modest purchases (by comparison at least), such as MindMeld for $125 million and countless deals that were too small to require them to report the purchase price.
Derek Idemoto, SVP for corporate development and Cisco investments, has been with the company for 100 of those acquisitions and has been involved in helping scout companies of interest. His team begins the process of identifying possible targets and where they fall within a number of categories, such as whether it allows them to enter new markets (as WebEx did), extend their markets (as with Duo Security), or acqui-hire top technical talent and get some cool tech, as they did when they purchased BabbleLabs last year.
It begins by identifying targets; Cisco does that by being intimately involved with a list of up to 1,000 startups that could be a fit for acquisition.
“Derek and his team are actively involved in constantly meeting startups, going to events where they can meet companies that are still early stage but are doing something innovative,” Herren said.
They look at companies that might have a really smart founder or a piece of technology with a clear fit for Cisco. Either way, they want to get to know these companies.
“Derek personally does this; he charges his team with making those contacts and understanding who that next generation of companies is, even if there’s not an obvious fit within our strategy,” Herren added. “And I think that’s one of the reasons we’ve been as successful as we have in finding the right targets and building out the innovation.”
One way that they do that is by making investments in companies that are on their radar, which could give them direct insight into the company and whether they would be a good fit.
“We take a broad approach on the investment side,” Idemoto said. “Everything that we do is strategic. Obviously, Scott and I care deeply about financial returns as well, but I think if you’re doing the right thing strategically and you’re partnered with the right investors, you’re going to do just fine there. We invest a couple of hundred million dollars a year in startups and funds.”
In other cases, it could involve a commercial partnership, again to get a feel of how the company operates. Perhaps that could eventually result in a full-scale acquisition, assuming they match up.
He said a case in point was Duo Security. “We had invested in Duo the year before [we bought it] and had thought about acquisition, but it’s always a timing thing. And so we decided to invest and get strategic with some commercial partnerships, and then a year later, we pulled the trigger on the acquisition, and I think it was a win-win for both sides,” he said.
Bringing them into the fold
The deals then evolve as all deals do: There are internal discussions and negotiations, and lawyers get involved when it’s time to close the deal. But what happens once the paperwork is done and the company is part of Cisco?
Idemoto said that integration is part of the acquisition story, and how that goes depends a lot on the company they are buying and the complexities of the products and services involved.
“[Our approach is that] one size does not fit all, and that really what you need to do on a case-by-case basis is understand exactly where the value is that would be unlocked between the two companies and integrate accordingly,” he said.
That is often left to the product teams, and Jeetu Patel, EVP and GM for the security and collaboration business units at Cisco, said making people feel welcome is part of the process. He believes that the success of any deal is predicated on making people feel comfortable in their new situation.
That’s the people part of the equation, but there is also the product piece. Sometimes the product may become part of another Cisco product family, while sometimes it will maintain its brand identity and continue to be sold as a separate product. It really depends on the company and what the plan is for that particular group.
Patel says that they are “obsessed” with getting the new products integrated as quickly as possible. As an example, when the company bought BabbleLabs last year, it was right around the time Patel was hired by Cisco, and they were still able to incorporate the company’s noise-filtering technology into the Cisco platform in around 30 days. They can’t integrate every acquisition that quickly, but a key part of the process is getting the products and services from the acquired company into the Cisco portfolio as quickly as they can.
While Patel sees the value in filling in the product roadmap with acquisitions to help his group speed things up, he pointed out that his goal is to still have the vast amount of innovation come from his internal team and not via acquisition.
“As we think about our strategy, the most important thing is making sure that the company knows and is continuing to be obsessed about the product and innovating organically; that is the most important thing that we have to do. [We want to make sure that the] majority of the innovation comes from within, not from acquisitions, and that’s pretty important culturally to make sure that that happens,” he said.
However, the company spends a lot of time and money making acquisitions. When you do as many as it has over the years, there are going to be hits and misses, but the company believes that by tying its acquisition strategy to its business strategy, it’s going to succeed a good part of the time while giving startups a partnership option, an investment option and possibly an exit option along the way.
Perform a quality of earnings analysis to make the most of M&A
Comment