Software Acquisition Targets to Buy

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Bernstein Research provided a compelling list of prospects in the software area that could become merger and acquisition targets. The research firm has provided a list of fast growing software stocks over the years that have a high level of buyouts. Analyst Toni Sacconaghi provides an interesting case for why hardware companies might be interested in these software players.

Amazingly Millennial Media is listed as the fast growing stock over the next twelve months (NTM), yet it has one of the lowest valuation multiples. Considering Millennial has previously been covered, the other interesting picks include ClickSoftware Technologies (NASDAQ: CKSW), Qlik Technologies (NASDAQ: QLIK), and Tangoe (NASDAQ: TNGO).

One important piece of information to understand when reviewing lists based on revenue growth is that the report is only as good as the data. In the case of ACI Worldwide listed with 35% NTM growth, the majority of that growth comes from an acquisition. Stripping those numbers out and ACI is only growing around 10% and doesn’t even belong on the list.

See the table provided by Bernstein below:

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Service optimization solutions

ClickSoftware trades at the lowest sales multiple on the list. The company is struggling with the transition to cloud-based software-as-a-service (SaaS) from on-premise offerings. The move impacts short-term revenues, but improves the long-term prospects of the company.

Just this week, the company announced that Q2 2013 revenue of only $24.5 million with a loss causing the stock to collapse $1 from $8.4. Analysts expect revenue to jump over 21% next year as the SaaS revenue picks up the growth rate. If the company gets its revenue groove back on, the stock is extremely attractive with an enterprise value of only $180 million and revenue jumping to $134 million next year.

Business intelligence

Similar to a lot of stocks on the list Qlik Technologies trades near 52-week highs, but unlike those other stocks it only trades at 6 times trailing revenues. The company is a leader in business discovery software and recently hired a new CFO that can be a concern. The new CFO is very experienced with previous positions at Crane Co. and Xerox. While great experience, investors need to question whether a CFO with a history in Fortune 100 companies can handle the unique growth opportunities of a small cap technology firm.

Analysts expect revenue to surge nearly 23% in 2013 followed by another 20% in 2014. Unlike most of the software stocks on the list, the company is solidly profitable though it trades at around 50 times forward estimates. With an enterprise value of only $2.3 billion, Qlik offers a reasonable valuation at only 5 times 2014 revenue.

Enterprise resource management

Tangoe provides an intriguing valuation trading significantly below 52-week highs from back around $22 last summer. The communications lifecycle management software provider reported 31% revenue growth during Q1 2013 and continues to expect strong revenue growth for 2013.

More importantly, the company generated $5.6 million of unlevered free cash flow for the quarter. As with most stocks on the list, it has a cash balance of $43.6 million providing an enterprise value of roughly $500 million. With a revenue run rate exceeding $225 million in 2014, the stock trades at under 2.5 times revenue expectations. At only 17 times forward earnings, the stock trades significantly below the long-term expectations of 25% earnings growth.

Bottom line

While investors can continue gambling with the high priced stocks such as Cornerstone OnDemand, Palo Alto Networks, and Demandware, the best way to play a potential buyout is with stocks that offer good value. Especially ones where a new management team or a larger firm could help kick start growth via customer connections. In this manner, ClickSoftware offers a compelling valuation and turnaround story while both Qlik and Tangoe offer growth opportunities at a reasonable value. Its highly possible that none of these stocks will be bought out, but buying them at attractive valuations will still provide investors with solid returns with the potential for homerun gains if an offer is extended.

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Mark Holder and Stone Fox Capital Advisors, LLC have no positions in any stocks mentioned. The Motley Fool recommends Click Software Technologies and Qlik Technologies. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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