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In the information technology security sector, consolidation has favored the biggest companies, which can offer a wide range of products to customers around the world. It's a prime reason Securify Inc., a venture capital-backed network security company, agreed in September to be bought for up to $20 million by publicly held Secure Computing Corp. [SCUR] But the deal also speaks volumes about the sentiments of venture capitalists who back small companies in this turbulent economy and how that translates into solid business for a small technology boutique like New York's Updata Advisors Inc., which was hired by Securify to negotiate the transaction. "Securify is a solid company, but the assessment was: Do you stick it out and continue alone for an indefinite period or accept a market offer?" says Don More, the Updata partner who worked on the deal. For the investors, including private equity fund J.P. Morgan Partners LLC, venture firm Benchmark Capital and hedge fund Pequot Capital Management Inc., which backed the Silicon Valley company with a total of $62 million, the deal was hardly a home run. But with the volume of technology deals dropping, it was a rare liquidity event at a time when venture firms and financial sponsors are trying to focus on the trouble spots in their portfolios. "Right now, with a lot of investors in quality companies, it's 'return of capital' as opposed to 'return on capital,' " More says. "A sale can free up time and cycles and focus for other companies in a portfolio that might not be doing well." Indeed, market turmoil can favor a smaller M&A boutique like Updata. The 31-year-old advisory firm, which also has an outpost in Reston, Va., focuses on software and IT services deals and has announced seven transactions since June alone. While financial uncertainty often stifles M&A by wreaking havoc on corporate valuations, it can also create opportunity for advisory shops, whose mandates focus on arranging deals to sell companies. Venture capitalists are in a tough spot right now. Initial public offerings are no longer a route to investment liquidity; a recent poll by law firm DLA Piper US LLP found that most technology executives and VCs don't see the IPO market recovering until well into 2010. Meanwhile, many private investors are cutting back on funding startups to conserve cash. They also are becoming much more active in researching all the options available for their portfolio companies. "I've seen a real uptick in companies--quality companies--whose investors have an increased sense of urgency to determine their exit opportunities," says More, who joined Updata 10 years ago from Merrill Lynch & Co. and was a corporate lawyer with Davis Polk & Wardwell and Shearman & Sterling LLP. Unlike many big investment banks, Updata Advisors has no securitized mortgages or problem loans on its books to worry about. That has let the firm's bankers maintain their focus on dealmaking. Updata has advised on 12 transactions in 2008, the latest being Managed Objects Inc.'s sale for undisclosed terms to data center software vendor Novell Inc. [NOVL] In a year of declining merger activity, Updata is on pace this year to at least match its 15 mandates in 2007. Not that Updata is having an easy time of it. The rough markets and chaos on Wall Street pose serious challenges, says managing partner Ira Cohen, who founded the firm in 1987. "It's a difficult environment to get deals closed--things are taking longer," he says. Unlike full-service firms, boutique investment banks that depend on advisory work lack other kinds of business, potentially making them more vulnerable to the sort of M&A downturn that followed the tech bust in 2000. Perhaps the key issue facing Updata and other small investment banks is how the financial crisis will affect the firm's client mix and average deal size. Does the bankruptcy of Lehman Brothers Holdings Inc., the sale of Bear Stearns Cos. to J.P. Morgan Chase & Co. [JPM] and of Merrill Lynch to Bank of America Corp. [BAC] augur a drought in dealmaking as recession grips the U.S. economy or an opportunity to swim upstream and compete for bigger, more lucrative deals? Updata's biggest transaction came in 2003, when it advised software maker Legato Systems Inc. in its acquisition by storage technology leader EMC Corp. [EMC] for $1.4 billion. Historically, Updata has played in the lower end of the middle market, with 80% of its deals consisting of giving advice to companies seeking a sale, with an average price tag of $100 million. "Jefferies Broadview is who we view as our prime competition, but we see a host of other boutiques as competitors, and sometimes larger firms," Cohen says. It remains unclear, the bankers say, how the shifting landscape on Wall Street will change the competitive environment for Updata. "In one case we replaced a bulge-bracket bank because it wasn't devoting proper attention to its client," More says. "It wasn't explicit that this happened because of current conditions, but I definitely get the sense that there is distraction among midsized and large banks." "I don't know if it's business we would not have been asked to do before, but we're getting asked to pitch for a lot right now," Cohen adds. Updata seeks an edge from the many tech boutiques vying for business by emphasizing its bankers' operational and corporate experience. Earlier this year, for example, it hired the former head of corporate development at Symantec Corp., a major provider of computer security software. Its bankers also are willing to go the distance to earn their fee, says former Securify CEO Buck French, who hired More a year ago to sell his company. It's relatively easy for a banker to advise a firm when there's already a buyer who has expressed interest, French says. What's rarer is the ability to ferret out buyers in a challenging environment. Updata beat out several other advisory firms for Securify's business, he says. "Investors don't want to put money in now--no one is out there buying companies--but 95% of the deals [Updata's More] has done didn't have a buyer at the door," French says. "These guys were about busting their hump to be successful, slogging it out and finding liquidity for shareholders of the company they represent." -- Olaf de Senerpont Domis
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