By Canute Haroldson, account manager, Folsom Labs
What role does large capital play in solar software, and at what stage of development does investment make sense? At the 2017 S3 Solar Software Summit, Corey Honeyman of GTM Research sat down with Sheeraz Haji of Zipdragon Ventures, Arvindh Kumar of Thoma Bravo, and Abe Yokell of Congruent Ventures to talk more about investing in solar software companies.
What makes a good investment opportunity for an investor? The starting point is the total addressable market, as that determines what level of capital raise that a company can support.
“You can build a good business with a couple million dollars of invested capital focused on a relatively narrow area, and have a $50-100 million outcome, and everybody’s happy,” said Yokell. “But if you introduce venture dollars to that and you take $10 million down and you have a $50 million outcome, that’s not a total loss, but it’s not an early stage venture profile. You’re shooting for more than 10-times the growth.”
In addition to pure end-market size, investors look at the profitability of a software company’s customers. For Kumar, that means, “we are usually looking at businesses that are at least $50 million in revenue, and we’re looking to put some debt on the business, which means you need predictable cash flows. That requires a stable customer software budget, funded by healthy margins.”
The increasing fragmentation of the solar industry is often seen as a challenge to building a profitable, stable software company. However, that fragmentation can actually create a promising opportunity, since it represents a space that can’t be bullied by outsiders. Haji in particular supported this view.
“In my earlier industry-specific software business, the two investor concerns were always: is the market big enough, or will Salesforce come and crush you,” Haji said. “I would always laugh because they didn’t know how many hours we’d put into solving those problems, where Salesforce didn’t even have the vocabulary for the problem.”
Perhaps the most consistently cited investment criteria across all investors was customer loyalty. Happy customers act as a free sales and marketing team, whereas excessive churn can throttle a company’s growth. In Kumar’s words, the answer to churn is to “make your software so mission-critical and ROI-positive that taking it out will end up costing more money.”
Any investor will also keep an eye on the likely exits for an investment. And while an IPO is always the ultimate exit, the current regulatory environment makes acquisitions more likely.
Kumar points out that large software companies often have very different acquisition tendencies. Oracle looks for products that can plug into its sales infrastructure, and therefore loves to acquire industry-specific “vertical” software vendors. On the other hand, companies like SAP aim to restructure the companies that it purchases, which drives it to favor “horizontal” software companies. Ultimately, though, “the question is always who can pay more and why,” said Kumar.