Market Making and Market Taking: Deciphering the Coming Wave of M&A (Nasdaq)

Why M&A is Trending Upward in 2024

We are positioned for heightened M&A activity in 2024 after a quieter 2023, with leading analyst firms, including PwC, EY, and Deloitte, all predicting an increase.

Startup valuations, funding trends, and corporate balance sheets are exerting pressure towards M&A. Robust startup valuations in 2021 and 2022 weren’t sustainable, and we saw a correction and return to normal in 2023. At the same time, venture capital funding has been lower due partly to recession fears and lingering inflation, with longer funding cycles and reduced funding rounds.

Add expensive borrowing costs from high interest rates to the equation and it becomes clear that startups find it more challenging to raise money, making M&A deals more appealing. On the buyer side, enterprises feel more optimism thanks to lower startup valuations, substantial revenue numbers, and strong balance sheets.

Other factors at play are industry-specific. In cybersecurity, a heightened regulatory environment is elevating cybersecurity to corporate boardrooms everywhere. AI is fueling product growth, and we continue to see a rise in the incidence and severity of cyber threats. These trends point to the fundamental importance of cybersecurity in the enterprise, making M&A deals in this sector more likely for incumbents or emerging leaders to offer complete solutions. In addition, the threat landscape continues to evolve, and established companies cannot innovate fast enough to address these emerging threats effectively.

The Case for M&A: Scaling Innovation

Enterprises constantly work to refine their offerings, access new markets, and stay relevant. As technologies advance, they face a choice: invest in research and development (build) or acquire an innovative company (buy) to access best-in-class products and technology. If they don’t have the resources or team to innovate, they may pursue M&A to inject new ‘DNA’ and technologies into their business. M&A can also be a path to acquire leading talent or a customer base in existing or new markets

A robust M&A deal can enable significant revenue growth, total addressable market (TAM) expansion, and synergies that cement an enterprise as a market leader. Over the long term, successful deals often drive stock prices up for the acquiring company, reflecting added value for the company, its customers, and its investors.

Acquired companies can also derive significant value from consolidation. They may gain access to new markets and customers, streamlined technology platforms, improved product adoption and liquidity, and established go-to-market partnerships. Startup employees can profit by gaining stock and market-adjusted salaries and taking on more specific roles within the acquiring organization.

A recent example of beneficial M&A is Cisco’s (CSCO) $28 billion acquisition of Splunk. During a recent episode of insider podcast Venture Daily, I spoke about how Splunk’s cybersecurity capabilities will enable Cisco to aggregate data and derive insights across their software solutions with AI and large language models (LLMs). This will advance proactive threat prediction and prevention, improving observability and security posture for their customers and enhancing the company’s value for investors.

M&A Risks and Downsides

Integrating two companies is a critical process that requires careful planning and diligence to derive the perceived benefits. While the upside of successful M&A can be massive for companies, customers, and investors, it can be challenging to execute.

The acquiring company may underfund or support acquired teams, customers and products. This erodes synergies and innovation, pushing founders and talent to leave as critical technologies die out. Incompatible company cultures and norms can fuel volatility and uncertainty simultaneously. These changes fundamentally compromise performance, deteriorate the customer experience, and reduce profits.

Customers acquired from smaller companies can face the most significant downsides from M&A. Startups tend to pay close attention to their customers, offering constant improvements and deep relationships to prove their value. Post-M&A, they may feel the impact of under-supported teams, products, and services first-hand as the startup is absorbed by an enterprise buyer who may be less hands-on or have alternative strategic priorities. Customers accustomed to a high-touch service model may find that the consolidated company no longer meets their needs and decide to replace the solution with similar solutions.

A classic example of failed consolidation is Sprint and Nextel’s $35 billion merger. The deal aimed to scale and cross-sell services across the companies’ distinct customer bases. However, incompatible network technologies, opposing customer service models, and a culture clash led to failure. Sprint experienced a mass departure of talent, lost over 300,000 customers, and recorded a $30 billion loss.

Strong M&A Scales Innovation and Boosts Your Portfolio

At the end of the day, innovation and consolidation never stop. Startups work tirelessly creating, validating, and refining next-generation solutions. Enterprises seek access to startup technologies, talent, and customers through M&A to keep up with the competition, remain relevant, expand their addressable market and maintain their position as industry leaders.

As a venture capitalist and serial entrepreneur who has supported startups for decades, I understand how a hands-on group of investors can accelerate innovation globally. M&A is an opportunity to scale technologies and unlock value for companies, consumers, and investors when deals are carefully structured and executed.

During this wave of consolidation, stakeholders across the business ecosystem–including venture and retail investors–must continue to support innovation by backing emerging startups and promising enterprise M&A deals. We all benefit when new and improved technologies reach broader audiences.

***This article was originally published on Nasdaq.com. You can read it here.***