Originally published 28 November, 2019 in City A.M.
There has never been an easier time to start a technology company, especially a software company. But as more startups are springing up than ever before, the industry is falling foul of bubbles and fads, and investors are taking riskier bets. As an investor that has seen a lot, I believe these banana skins can be sidestepped, and true value can be found.
The state of play as it stands is this: it is far cheaper to develop software than ever before, due to the rise of cloud-based technology and readily available third party software components. Companies sell what they build on a subscription basis - as SaaS (software-as-a-service) - which itself marks a secular change in the industry. There is now more longevity to each use of software, and a closer relationship with each customer because of that. And there’s a need to take more funding because of the absence of a large upfront license fee.
Enterprise software businesses look different to their predecessors, and the reality is that software is still eating the world. In fact, we have seen only around a third of industries even start to be transformed by SaaS – the workplace (Slack and Zoom), process automation (UIPath) and insurance (Lemonade). But the nature of these businesses encourages heat. The sheer size and scope of the software market today means noise and ferocious competition.
Invariably, then, there are sectors that are now too hot – where more money than is needed is pouring in, and there are too many suppliers relative to the number of customers. It’s top heavy. Something’s got to give.
Cyber-security is at risk. It is a vital sector and growing really well, with new problems to be solved materialising every day. But there are now also a huge number of companies that are not sufficiently differentiated in terms of product or technology.
The same is true of fintech. This is a crucial industry for the UK – arguably, it is several industries – but valuations are being pushed up to dizzying levels, particularly in the consumer-facing part of the market. These are just two sectors in which we believe we are seeing bubbles. Bubbles, of course, invariably burst, which means there will be many losers and a few winners – unfortunate for some investors, but not all, and a necessary function of markets.
What differ from bubbles, however, are fads. A recent example is crypto. Past examples of such fads have included new operating systems, mobile search or dedicated mobile virtual network operators. The difference between a fad and a bubble is that, when approaching the former, people can be completely blind to the associated problems and how insurmountable those really are. With crypto (and I distinguish between crypto and blockchain, which has other promising applications), those problems include speculation, theft and fraud.
Avoiding bubbles or even fads is not going to be the strategy of every investor – they can, by definition, provide upside. But we believe that there are a plethora of worthwhile software companies that are building invaluable (and valuable!) plumbing across a wide range of markets: categories like web infrastructure, go to market applications, developer tools, HR, retail and travel tech.
These are the companies where real value lies: those building the systems that underpin a larger market or opportunity. A company that fits this brief is Ometria, which enables retailers to match shopping experiences to customer needs. Eloomi, is another example, which enables large businesses to deliver tailored learning and performance tools to their teams. Paddle is another, which provides a commerce platform for all SaaS companies. In the same vein, Funnel (full disclosure, Oxx has invested in this company), uses the cloud to aggregate and standardise marketing data for companies.
We often assume that software has already been implemented in places where it makes complete sense for it to be – automating job application processes, improving project management, in online NHS GP portals. But in many places, this simply is not the case yet. Actually, we are only at the start of software’s global meal; there are plenty of corners of the economy waiting to be rebuilt.
Written by Richard Anton, General Partner at Oxx